UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C.  20549




FORM
10-Q




x
            QUARTERLY
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
      OF 1934


For
the Quarterly Period Ended June 30, 2009





 ̈
            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: 000-25839





DOCUMENT
CAPTURE TECHNOLOGIES, INC.




(Exact
name of registrant as specified in its charter)




Delaware
              
              59-3134518(State
      or other jurisdiction of
              
              (I.R.S.Employerincorporation
      or organization)
              
              Identification
      Number)


1798
Technology Drive


Suite
178


San
Jose, California 95110


(Address
of principal executive offices, Zip code)





408-436-9888
ext. 207


(Registrant’s
telephone number, including area code)





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





Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or smaller reporting
company.  See definitions of “large accelerated filer,” “accelerated
filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange
Act.





Large
accelerated filer  o    Accelerated
filer   o   Non-accelerated
filer  o    Smaller
Reporting Company  x





Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act). Yes     o     
No    x





The
number of shares of Common Stock outstanding as of August 12, 2009 was
18,468,770.








SPECIAL
NOTE ON FORWARD LOOKING STATEMENTS





This
Quarterly Report on Form 10-Q, including "Management's Discussion and Analysis
of Financial Condition and Results of Operations" in Item 2 of Part I of this
report include forward-looking statements. These statements involve known and
unknown risks, uncertainties and other factors that may cause our actual
results, levels of activity, performance or achievements to be materially
different from any future results, levels of activity, performance, or
achievements expressed or implied by forward-looking statements.





In some
cases, you can identify forward-looking statements by terminology such as "may,"
"should," "expects," "plans," "anticipates," "believes," "estimates,"
"predicts," "potential," "proposed," "intended," or "continue" or the negative
of these terms or other comparable terminology. You should read statements that
contain these words carefully, because they discuss our expectations about our
future operating results or our future financial condition or state other
"forward-looking" information. There may be events in the future that we are not
able to accurately predict or control. Before you invest in our securities, you
should be aware that the occurrence of any of the events described in this
Quarterly Report could substantially harm our business, results of operations
and financial condition, and that upon the occurrence of any of these events,
the trading price of our securities could decline and you could lose all or part
of your investment. Although we believe that the expectations reflected in the
forward-looking statements are reasonable, we cannot guarantee future results,
growth rates, levels of activity, performance or achievements. We are under no
duty to update any of the forward-looking statements after the date of this
Quarterly Report to conform these statements to actual results.


- 2
-


DOCUMENT
CAPTURE TECHNOLOGIES, INC




FORM 10-Q




FOR
THE QUARTERLY PERIOD ENDED JUNE 30, 2009




INDEX





PART I – FINANCIAL
    INFORMATION
                      PageItem
      1
                      Financial
      Statements
                      4Item
      2
                      Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
                      17Item
      4
                      Controls
      and Procedures
                      23PART II – OTHER INFORMATIONItem
      1
                      Legal
      Proceedings
                      24Item
      1A
                      Risk
      Factors
                      24Item
      2
                      Unregistered
      Sales of Equity Securities and Use of Proceeds
                      24Item
      3
                      Defaults
      Upon Senior Securities
                      24Item
      4
                      Submission
      of Matters to a Vote of Security Holders
                      24Item
      5
                      Other
      Information
                      24Item
      6
                      Exhibits
                      24Signatures
                      25


- 3
-


PART
I.  FINANCIAL INFORMATION





Item
1 - Financial Statements


DOCUMENT
CAPTURE TECHNOLOGIES, INC.


CONDENSED
CONSOLIDATED BALANCE SHEETS


(in
thousands)





June 30,
                    
                    
                    December 31,2009
                    
                    
                    2008(unaudited)
                    
                    
                    
                    *ASSETSCurrent
      assets:Cash
      and cash equivalents
                    
                    $
                    1,462
                    
                    
                    $
                    405Trade
      receivables
                    
                    
                    1,383
                    
                    
                    
                    1,366Inventories,
      net
                    
                    
                    993
                    
                    
                    
                    1,353Prepaid
      expenses and other current assets
                    
                    
                    130
                    
                    
                    
                    99Total
      current assets
                    
                    
                    3,968
                    
                    
                    
                    3,223Fixed
      assets, net
                    
                    
                    126
                    
                    
                    
                    98Total
      assets
                    
                    $
                    4,094
                    
                    
                    $
                    3,321LIABILITIES
      AND STOCKHOLDERS’ EQUITYCurrent
      liabilities:Line
      of credit
                    
                    $
                    1,216
                    
                    
                    $
                    -Trade
      payables to related parties
                    
                    
                    116
                    
                    
                    
                    393Trade
      payables and other accrued expenses
                    
                    
                    532
                    
                    
                    
                    398Income
      taxes payable
                    
                    
                    -
                    
                    
                    
                    75Deferred
      revenue and customer deposits
                    
                    
                    138
                    
                    
                    
                    187Fair
      value of warrant liability
                    
                    
                    350
                    
                    
                    
                    350Total
      current liabilities
                    
                    
                    2,352
                    
                    
                    
                    1,403Liability
      under derivative contracts
                    
                    
                    -
                    
                    
                    
                    9Total
      liabilities
                    
                    
                    2,352
                    
                    
                    
                    1,412Commitments
      and contingencies (Note 11)Convertible
      preferred stock:Series
      B convertible preferred stock, $.001 par value, 2,000 authorized, 1.5shares
      issued and outstanding at June 30, 2009 and December 31, 2008;liquidation
      value of $150 at June 30, 2009 and December 31, 2008
                    
                    
                    145
                    
                    
                    
                    120Stockholders’
      equity:Common
      stock $.001par value, 50,000 authorized, 18,469 and 18,444 sharesissued
      and outstanding at June 30, 2009 and December 31, 2008,respectively
                    
                    
                    18
                    
                    
                    
                    18Additional
      paid-in capital
                    
                    
                    35,011
                    
                    
                    
                    34,602Accumulated
      deficit
                    
                    
                    (33,432
                    )
                    
                    
                    (32,831
                    )Total
      stockholders’ equity
                    
                    
                    1,597
                    
                    
                    
                    1,789Total
      liabilities and stockholders’ equity
                    
                    $
                    4,094
                    
                    
                    $
                    3,321





*Amounts
derived from the audited financial statements for the year ended December 31,
2008.


- 4
-


DOCUMENT
CAPTURE TECHNOLOGIES, INC.


CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)


(in
thousands, except per share amounts)





Three Months Ended June 30,
                    
                    
                    Six Months Ended June 30,2009
                    
                    
                    2008
                    
                    
                    2009
                    
                    
                    2008Net
      sales
                    
                    $
                    3,002
                    
                    
                    $
                    3,003
                    
                    
                    $
                    5,017
                    
                    
                    $
                    5,541Cost
      of sales
                    
                    
                    1,824
                    
                    
                    
                    2,020
                    
                    
                    
                    3,061
                    
                    
                    
                    3,825Gross
      profit
                    
                    
                    1,178
                    
                    
                    
                    983
                    
                    
                    
                    1,956
                    
                    
                    
                    1,716Operating
      expenses:Selling,
      general and administrative
                    
                    
                    911
                    
                    
                    
                    511
                    
                    
                    
                    2,100
                    
                    
                    
                    1,472Research
      and development
                    
                    
                    202
                    
                    
                    
                    170
                    
                    
                    
                    433
                    
                    
                    
                    373Total
      operating expenses
                    
                    
                    1,113
                    
                    
                    
                    681
                    
                    
                    
                    2,533
                    
                    
                    
                    1,845Operating
      income (loss)
                    
                    
                    65
                    
                    
                    
                    302
                    
                    
                    
                    (577
                    )
                    
                    
                    (129
                    )Total
      other income (expense)
                    
                    
                    1
                    
                    
                    
                    456
                    
                    
                    
                    1
                    
                    
                    
                    409Net
      income (loss) before income taxes
                    
                    
                    66
                    
                    
                    
                    758
                    
                    
                    
                    (576
                    )
                    
                    
                    280Provision
      for income taxes
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    2Net
      income (loss)
                    
                    
                    66
                    
                    
                    
                    758
                    
                    
                    
                    (576
                    )
                    
                    
                    278Dividend
      on Series A and accretion of Series A and Series B preferred stock
      redemption value
                    
                    
                    (13
                    )
                    
                    
                    (12
                    )
                    
                    
                    (25
                    )
                    
                    
                    (114
                    )Deemed
      dividend on Series A preferred stock maturity and
    Conversion
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    (231
                    )Net
      income (loss) available to common stockholders
                    
                    $
                    53
                    
                    
                    $
                    746
                    
                    
                    $
                    (601
                    )
                    
                    $
                    (67
                    )Basic
      income (loss) per common share
                    
                    $
                    0.00
                    
                    
                    $
                    0.04
                    
                    
                    $
                    (0.03
                    )
                    
                    $
                    0.00Diluted
      income (loss) per common share
                    
                    $
                    0.00
                    
                    
                    $
                    0.04
                    
                    
                    $
                    (0.03
                    )
                    
                    $
                    0.00Weighted
      average common shares outstanding
                    
                    
                    18,469
                    
                    
                    
                    18,444
                    
                    
                    
                    18,466
                    
                    
                    
                    17,488Weighted
      average common shares outstanding,assuming
      dilution
                    
                    
                    22,354
                    
                    
                    
                    21,035
                    
                    
                    
                    18,466
                    
                    
                    
                    17,488




- 5
-


DOCUMENT
CAPTURE TECHNOLOGIES, INC.


CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)


(in
thousands)





Six Months Ended
                  June 30,2009
                
                
                2008Operating
      activities:Net
      (loss) income
                
                $
                (576
                )
                
                $
                278Adjustments
      to reconcile net loss to net cash provided (used) by operatingactivities:Depreciation
      expense
                
                
                27
                
                
                
                26Stock-based
      compensation cost – options
                
                
                298
                
                
                
                214Fair
      value of common stock and warrants issued for services
      rendered
                
                
                111
                
                
                
                51Other
      non-cash non-operating income/expenses, net
                
                
                (9
                )
                
                
                (494
                )Changes
      in operating assets and liabilities:Trade
      receivables
                
                
                (17
                )
                
                
                626Inventories
                
                
                360
                
                
                
                411Prepaid
      expenses and other current assets
                
                
                (31
                )
                
                
                (24
                )Trade
      payables to related parties
                
                
                (277
                )
                
                
                90Trade
      payables and other current liabilities
                
                
                134
                
                
                
                (382
                )Income
      taxes payable
                
                
                (75
                )
                
                
                -Deferred
      revenue and customer deposits
                
                
                (49
                )
                
                
                213Cash
      (used) provided by operating activities
                
                
                (104
                )
                
                
                1,009Investing
      activities:Cash
      proceeds from sale of assets
                
                
                -
                
                
                
                550Capital
      expenditures
                
                
                (55
                )
                
                
                -Cash
      (used) provided by investing activities
                
                
                (55
                )
                
                
                550Financing
      activities:Net
      advances(payments) on bank line of credit
                
                
                1,216
                
                
                
                (1,487
                )Payments
      on notes payable
                
                
                -
                
                
                
                (700
                )Proceeds
      from exercise of employee stock options
                
                
                -
                
                
                
                8Cash
      provided (used) by financing activities
                
                
                1,216
                
                
                
                (2,179
                )Net
      increase (decrease) in cash and cash equivalents
                
                
                1,057
                
                
                
                (620
                )Cash
      and cash equivalents at beginning of period
                
                
                405
                
                
                
                1,770Cash
      and cash equivalents at end of period
                
                $
                1,462
                
                
                $
                1,150Supplemental
      disclosures of cash flow information:Non-cash
      investing and financing activities:Conversion
      of convertible preferred stock to common stock
                
                $
                -
                
                
                $
                1,341




- 6
-


Note
1 – Background and Basis of Presentation





Organization





Document
Capture Technologies, Inc. ("DCT" or "Company") develops, designs and delivers
various imaging technology solutions to all types and sizes of enterprises
including governmental agencies, large corporations, small corporations, small
office-home offices (“SOHO”), professional practices as well as consumers
(referred to herein collectively as “Enterprises”). DCT is a market-leader in
providing USB-powered scanning solutions to a wide variety of industries and
market applications. DCT’s patented and proprietary page-imaging devices
facilitate the way information is stored, shared and managed for both business
and personal use.





Syscan,
Inc., DCT’s wholly-owned subsidiary, was incorporated in California in 1995 to
develop and manufacture a new generation of contact image sensors (“CIS”) that
are complementary metal-oxide-silicon (“CMOS”) imaging sensor devices. During
the late 1990s, DCT established many technical milestones and was granted
numerous patents for its linear imaging technology. DCT’s patented CIS and
mobile imaging scanner technology provides high quality images at extremely low
power consumption levels allowing delivery of compact scanners in a form ideally
suited for laptop or desktop computer users who need a small, lightweight device
to scan or fax documents.





DCT’s
business model was developed around intellectual property (“IP”) driven products
sold primarily to original equipment manufacturers (“OEM”), private label brands
and value added resellers (“VAR”) and can be found in a variety of applications
including, but not limited to, the following:





·
            Document
      and information management;


·
            Identification
      card scanners;


·
            Passport
      security scanners;


·
            Bank
      note and check verification;


·
            Business
      card readers;


·
            Barcode
      scanning; and


·
            Optical
      mark readers used in lottery
terminals.





Basis
of Presentation





The
accompanying unaudited condensed consolidated financial statements of DCT have
been prepared in accordance with accounting principles generally accepted in the
United States for interim financial information and the instructions to Form
10-Q and Article 8-03 of Regulation S-X. Accordingly, they do not include
all information and disclosures necessary for a presentation of the Company’s
financial position, results of operations, and cash flows in conformity with
accounting principles generally accepted in the United States
(“GAAP”).





In the
opinion of management, all adjustments (which include only normal recurring
adjustments) necessary to present fairly the financial position, results of
operations and cash flows for all periods presented have been made. Preparing
financial statements requires management to make estimates and assumptions that
affect the reported amounts of assets, liabilities, revenue and expenses. Actual
results may differ from these estimates. The results of operations for the
period ended June 30, 2009 are not necessarily indicative of the operating
results that may be expected for the entire year ending December 31, 2009. The
interim financial statements should be read in conjunction with the financial
statements in the Company’s Annual Report on Form 10-K for the year ended
December 31, 2008, filed with the Securities and Exchange Commission (“SEC”) on
April 15, 2009.





The
consolidated financial statements include the accounts of DCT and its one
subsidiary Syscan.  All significant intercompany transactions and
balances have been eliminated.  DCT’s functional currency is the
United States (U.S.) dollar.  As such, DCT does not have any
translation adjustments.  Monetary accounts denominated in non-U.S.
currencies, such as cash or payables to vendors, have been re-measured to the
U.S. dollar.  Gains and losses resulting from foreign currency
transactions are included in the results of operations.  To date, DCT
has not entered into hedging activities to offset the impact of foreign currency
fluctuations.


- 7
-





Certain
accounts have been reclassified to conform to the current period
presentation.  Such reclassifications did not affect DCT’s total net
sales, operating income (loss), net income (loss) available to common
stockholders, financial position or liquidity.





Note
2 – Recent Accounting Pronouncements




On June
29, 2009, the Financial Accounting Standards Board (“FASB”) issued Statement of
Financial Accounting Standards (“SFAS”) No. 168, The FASB Accounting Standards
Codification and the Hierarchy of Generally Accepted Accounting Principles, a
replacement of FASB Statement No. 162(“SFAS 168”). SFAS 168 establishes the
FASB Accounting Standards Codification (“Codification” or “ASC”) as the complete
source of authoritative U.S. Generally Accepted Accounting Principles (“GAAP”).
Rules and interpretive releases of the Securities and Exchange Commission
(“SEC”) under authority of federal securities laws are also sources of
authoritative GAAP for SEC registrants. SFAS 168 is effective for financial
statements issued for interim and annual periods ending after September 15,
2009. On its effective date, the Codification will supercede all then-existing
non-SEC accounting and reporting standards. The adoption of SFAS 168 will change
the way the Company references current GAAP from referring to a particular
Statement (i.e. SOP 90-7) to the related section of the Codification (i.e. ASC
852-10-45-1). As a result, the adoption of SFAS 168 will not have a material
impact on the Company’s financial condition or results of
operations.




On May
28, 2009, the FASB issued SFAS No. 165, Subsequent Events (“SFAS
165”), which provides guidance on management’s assessment of subsequent events.
Historically, management had relied on U.S. auditing literature for guidance on
assessing and disclosing subsequent events. SFAS 165 represents the inclusion of
guidance on subsequent events in the accounting literature and is directed
specifically to management, since management is responsible for preparing an
entity’s financial statements. SFAS 165 clarifies that management must evaluate,
as of each reporting period, events or transactions that occur after the balance
sheet date through the date that the financial statements are issued. SFAS 165
is effective prospectively for interim and annual financial periods ending after
June 15, 2009. The Company adopted the provisions of SFAS 165 for its reporting
period ending June 30, 2009. The adoption of SFAS 165 did not have a material
impact on the Company’s financial condition or results of operations. The
Company has evaluated subsequent events up through the date of the filing of
this report with the SEC.





In March
2008, the FASB issued SFAS”) No. 161, Disclosures about Derivative Instruments
and Hedging Activities-an amendment of FASB Statement No. 133 (“SFAS
161”).  SFAS 161 requires enhanced disclosure related to derivatives
and hedging activities and thereby seeks to improve the transparency of
financial reporting. Under SFAS 161, entities are required to provide enhanced
disclosures relating to: (a) how and why an entity uses derivative instruments;
(b) how derivative instruments and related hedge items are accounted for under
SFAS 133 and related interpretations; and (c) how derivative instruments and
related hedged items affect an entity’s financial position, financial
performance, and cash flows.





SFAS 161
must be applied prospectively to all derivative instruments and non-derivative
instruments that are designated and qualify as hedging instruments and related
hedged items accounted for under SFAS 133 for all financial statements issued
for fiscal years and interim periods beginning after November 15, 2008, and, as
such, SFAS 161 was adopted by DCT on January 1, 2009 and had no impact on the
consolidated financial position, cash flows and results of operations as of or
for the reporting period ending June 30, 2009.





In May
2008, the FASB issued a FASB Staff Position (“FSP”) APB 14-1 Accounting for Convertible Debt
Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash
Settlement) ("FSP APB 14-1"). FSP APB 14-1 requires the issuer of certain
convertible debt instruments that may be settled in cash (or other assets) on
conversion to separately account for the liability (debt) and equity (conversion
option) components of the instrument in a manner that reflects the issuer's
non-convertible debt borrowing rate. FSP APB 14-1 was adopted by DCT on January
1, 2009 and had no impact on the consolidated financial position, cash flows and
results of operations as of or for the reporting period ending June 30,
2009.




In June
2008, the FASB ratified the Emerging Issues Task Force (“EITF”) Issue 07-5,
Determining Whether an
Instrument (or Embedded Feature) is Indexed to an Entity’s Own Stock(“EITF-07-5”). EITF 07-5 mandates a two-step process for evaluating
whether an equity-linked financial instrument or embedded feature is indexed to
the entity’s own stock. EITF 07-5 was adopted by DCT on January 1, 2009 and had
no impact on the consolidated financial position, cash flows and results of
operations as of or for the reporting period ending June 30,
2009.


- 8
-




Other
recent accounting pronouncements issued by the FASB (including its EITF), the
American Institute of Certified Public Accountants (“AICPA”), and the SEC did
not or are not believed by management to have a material impact on the Company's
present or future financial statements.





Note
3 – Related-Party Transactions





Related-Party
Purchases





The
Company purchases the majority of its finished scanner imaging products from
Shenzhen Syscan Technology (“SST”), a wholly-owned subsidiary of Syscan
Technology Holdings Limited ("STH"), the parent company of DCT’s former majority
stockholder.





Purchases
from SST totaled $1,270,000 and $2,443,000 for the three and six months ended
June 30, 2009, respectively, and $1,829,000 and $3,209,000 for the three and six
months ended June 30, 2008, respectively.  All purchases from SST were
carried out in the normal course of business.  As a result of these
purchases, DCT was liable to SST for $116,000 and $393,000 at June 30, 2009 and
December 31, 2008, respectively.





Note
4 – Concentration of Credit Risk and Major Customers





Financial
instruments that subject DCT to credit risk are cash balances maintained in
excess of federal depository insurance limits and trade
receivables.





Cash
and Cash Equivalents





DCT
maintains cash balances at several banks. Cash accounts maintained in the United
States are insured by the Federal Deposit Insurance Corporation ("FDIC") up to
$250,000.  DCT invests its excess cash balances in an overnight
investment account, which is not FDIC insured.  As of June 30, 2009,
DCT had consolidated balances of approximately $1,384,000, which were not
guaranteed by the FDIC. DCT has not experienced any losses in such accounts and
believes the exposure is minimal.





Major
Customers and Trade Receivables





A
relatively small number of customers account for a significant percentage of
DCT’s sales.  Customers that exceeded 10% of total revenues and
accounts receivable were as follows:





Three Months Ended
                    June 30,
                  
                  
                  Six Months Ended
                    June 30,2009
                  
                  
                  2008
                  
                  
                  2009
                  
                  
                  2008Customer
      A
                  
                  
                  16
                  %
                  
                  
                  35
                  %
                  
                  
                  10
                  %
                  
                  
                  32
                  %Customer
      B
                  
                  
                  19
                  
                  
                  
                  13
                  
                  
                  
                  20
                  
                  
                  
                  *Customer
      C
                  
                  
                  17
                  
                  
                  
                  12
                  
                  
                  
                  23
                  
                  
                  
                  18Customer
      D
                  
                  
                  *
                  
                  
                  
                  11
                  
                  
                  
                  10
                  
                  
                  
                  *Customer
      E
                  
                  
                  12
                  
                  
                  
                  *
                  
                  
                  
                  11
                  
                  
                  
                  11Customer
      F
                  
                  
                  13
                  
                  
                  
                  *
                  
                  
                  
                  11
                  
                  
                  
                  *





*
Customer accounted for less than 10% for the period indicated.





Trade
receivables from all significant customers at June 30, 2009 totaled
$1,248,000.  As of June 30, 2009, all the Company's trade receivables
were unsecured.





Note
5 – Concentration of Supplier Risk





DCT
purchases substantially all finished scanner imaging products from one vendor
that is also a wholly-owned subsidiary of the parent company of its former
majority stockholder. See Note 3.  If this vendor became unable or
unwilling to provide materials in a timely manner and DCT was unable to find
alternative vendors, DCT's business, operating results and financial condition
would be materially adversely affected.


- 9
-





Note
6 – Employee Equity Incentive Plans





General





DCT’s
share-based awards are long-term retention plans that are intended to attract,
retain and provide incentives for talented employees.  DCT believes
its share-based awards are critical to its operation and productivity. The
employee share-based award plans allow DCT to grant, on a discretionary basis,
incentive stock options and non-qualified stock options.





Stock
Options





DCT
issues options under two different stock option plans (both approved by
shareholders) as well as through employment agreements with key employees,
executives and consultants (approved by the board of directors on a case-by-case
basis).  The following table sets forth, by the respective option
plan, certain aspects of DCT’s stock options as of June 30, 2009:





Option Approval Method
                
                
                Options Outstanding and Options AvailableDescription
                
                Board of
                  Directors
                
                
                Board of
                  Directors
                  and
                  Shareholders
                
                
                Total
                
                
                Outstanding
                
                
                Available
                  For
                  Future
                  Grant
                
                
                Total2002
      Amended and RestatedStock
      Option Plan
                
                
                -
                
                
                
                3,200,000
                
                
                
                3,200,000
                
                
                
                3,200,000
                
                
                
                -
                
                
                
                3,200,000Key
      Personnel Option Grants
                
                
                6,650,000
                
                
                
                -
                
                
                
                6,650,000
                
                
                
                4,891,165
                
                
                
                -
                
                
                
                4,891,1652006
      Stock Option Plan
                
                
                
                
                
                
                2,500,000
                
                
                
                2,500,000
                
                
                
                1,371,000
                
                
                
                1,129,000
                
                
                
                2,500,000Total
                
                
                6,650,000
                
                
                
                5,700,000
                
                
                
                12,350,000
                
                
                
                9,462,165
                
                
                
                1,129,000
                
                
                
                10,591,165





Stock-Based
Compensation





The
following table sets forth the total stock-based compensation expense included
in DCT’s Statements of Operations (in thousands):





Three Months Ended
                      June 30,
                    
                    
                    Six Months Ended
                      June 30,2009
                    
                    
                    2008
                    
                    
                    2009
                    
                    
                    2008Selling,
      general and administrative
                    
                    $
                    105
                    
                    
                    $
                    79
                    
                    
                    $
                    252
                    
                    
                    $
                    165Research
      and development
                    
                    
                    13
                    
                    
                    
                    25
                    
                    
                    
                    46
                    
                    
                    
                    49Total
                    
                    $
                    118
                    
                    
                    $
                    104
                    
                    
                    $
                    298
                    
                    
                    $
                    214





At June
30, 2009, DCT had approximately $1,171,000 of total unrecognized compensation
cost related to unvested stock options. This cost is expected to be recognized
over a weighted-average period of approximately 2.6 years.





Stock
Option Activity and Outstanding





DCT had
the following stock option activity during the six months ended June 30,
2009:





Options
                
                
                Weighted-
                  Average
                  Exercise
                  PriceOutstanding
      at December 31, 2008
                
                
                9,295,498
                
                
                $
                0.32Granted
                
                
                250,000
                
                
                
                0.49Exercised
                
                
                -
                
                
                
                -Cancelled
                
                
                (83,333
                )
                
                
                (0.70
                )Outstanding
      at June 30, 2009
                
                
                9,462,165
                
                
                $
                0.32




- 10
-





The
following table summarizes all options outstanding and exercisable by price
range as of June 30, 2009:





Options Outstanding
                            
                            
                            Options ExercisableRange of
                              Exercise Prices
                            
                            Number
                              Outstanding
                            
                            
                            Weighted-
                              Average
                              Remaining
                              Contractual
                              Life (Years)
                            
                            
                            Weighted-
                              Average
                              Exercise
                              Price
                            
                            
                            Number
                              Exercisable
                            
                            
                            Weighted-
                              Average
                              Exercise
                              Price$0.01
                            
                            
                            2,241,165
                            
                            
                            
                            2.82
                            
                            
                            $
                            0.01
                            
                            
                            
                            2,241,165
                            
                            
                            $
                            0.01$0.30
                            
                            
                            5,035,000
                            
                            
                            
                            9.29
                            
                            
                            $
                            0.30
                            
                            
                            
                            -
                            
                            
                            
                            -$0.45
      - $0.51
                            
                            
                            250,000
                            
                            
                            
                            6.81
                            
                            
                            $
                            0.49
                            
                            
                            
                            -
                            
                            
                            
                            -$0.60
      - $0.70
                            
                            
                            1,936,000
                            
                            
                            
                            9.81
                            
                            
                            $
                            0.69
                            
                            
                            
                            1,936,000
                            
                            
                            $
                            0.699,462,165
                            
                            
                            
                            
                            
                            
                            
                            
                            
                            
                            
                            4,177,165





The
“intrinsic value” of options is the excess of the value of DCT stock and the
exercise price of such options.  The total intrinsic value of options
outstanding was approximately $1,378,000 and $4,369,000 at June 30, 2009 and
December 31, 2008, respectively. The total intrinsic value for exercisable
options was $874,000 and $1,723,000 at June 30, 2009 and December 31, 2008,
respectively.





Note
7 – Basic and Diluted Net Loss Per Common Share





Basic net
income (loss) per share is computed by dividing net income (loss) by the
weighted average number of shares of common stock outstanding during the
period.  Diluted net income (loss) per share is computed by dividing
net income (loss) by the weighted average number of shares of common stock and
common stock equivalents outstanding during the period.





Common
stock equivalents were not considered in calculating diluted net loss per common
share for the six months ended June 30, 2009 and 2008 as their effect would be
anti-dilutive.  Common stock equivalents were taken into consideration
in calculating diluted net income per common share for the three months ended
June 30, 2009 and 2008, but the impact did not change net income per
share.  As a result, for all periods presented, DCT’s basic and
diluted net income (loss) per share is the same.





The
computation of DCT’s basic and diluted earnings per share for the three months
ended June 30, 2009 and 2008 is as follows (in thousands, except per share
amounts):





Three Months Ended
                  June 30,2009
                
                
                2008Net
      income available to common shareholders (A)
                
                $
                53
                
                
                $
                746Impact
      of convertible preferred stock
                
                
                13
                
                
                
                12Net
      income available to common shareholders used in diluted share calculation
      (B)
                
                $
                66
                
                
                $
                758Weighted
      average common shares outstanding (C)
                
                
                18,469
                
                
                
                18,444Dilutive
      effect of convertible preferred stock
                
                
                441
                
                
                
                401Dilutive
      effect of employee equity incentive plans
                
                
                3,444
                
                
                
                2,190Weighted
      average common shares outstanding, assuming dilution (D)
                
                
                22,354
                
                
                
                21,035Basic
      earnings per common share (A)/(C)
                
                $
                0.00
                
                
                $
                0.04Diluted
      earnings per common share (B)/(D)
                
                $
                0.00
                
                
                $
                0.04





Potentially
dilutive common shares consist primarily of (1) employee stock options where the
exercise price is less than the market price, and (2) 150,000 shares (or
$150,000) of DCT’s convertible preferred Series B stock (“Series B Stock”),
which is convertible at any time by the security holder at the market price of
the common stock on the conversion date.


- 11
-





Note
8 – Equity





Common
Stock





DCT’s
Board of Directors approved the issuance of 25,000 restricted common shares to a
consultant for investor relations services rendered during the six months ended
June 30, 2009.  The common shares have piggyback registration rights
to the next registration statement filed by DCT.  DCT amortized the
estimated fair value of the common shares ratably over the service
period.  Accordingly, $11,000 was charged to selling, general and
administrative expense and credited to additional paid-in capital during the six
months ended June 30, 2009.





Preferred
Stock





Preferred
Stock Accounting Treatment





Preferred Stock
Classification.  Pursuant to EITF 00-19, Accounting for Derivative Financial
Instruments (“EITF 00-19”), and EITF Topic D-98, Classification and Measurement of
Redeemable Securities (“Topic D-98”), DCT’s series A 5% cumulative
convertible redeemable preferred stock (“Series A Stock”) and series B
convertible redeemable preferred stock (“Series B Stock”) was reported as
temporary equity.





The
difference between the initial recorded value of the Series A Stock and Series B
Stock and the minimum redemption value is accreted, on a straight-line basis,
from the respective issuance date through the maturity date with the offset
booked to DCT’s accumulated deficit.  The accretion of DCT’s Series A
Stock and Series B Stock redemption value is disclosed as a reconciling item and
adjusts DCT’s reported net income (loss), together with the Series A Stock
dividends and deemed dividends, to net income (loss) available to common
stockholders.





Likely Embedded
Derivative.  Under the provisions of SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities (“SFAS 133”) and EITF 00-19, the
conversion feature of DCT’s Series A Stock (until the March 15, 2008 maturity
date) and Series B Stock are derivative instruments (referred to collectively as
“Derivative Instruments”) that require bifurcation from the host
contract.  Accordingly, the fair value of DCT’s outstanding Derivative
Instruments has been recorded in DCT’s Balance Sheet as a
liability.  The fair value of the Derivative Instruments is adjusted
at each reporting date.  Increases in the estimated fair value of
DCT’s Derivative Instruments are recorded as non-operating expense on DCT’s
Statements of Operations.  Decreases in the estimated fair value of
DCT’s Derivative Instruments are recorded as non-operating income on DCT’s
Statements of Operations.





DCT
estimates the fair value of these derivatives using the Black-Scholes valuation
model. The Black-Scholes valuation model was developed for use in estimating the
fair value of traded options that have no vesting restrictions and are fully
transferable. The Black-Scholes valuation model requires the input of highly
subjective assumptions, including the expected stock price volatility. DCT's
Derivative Instruments have characteristics significantly different from traded
options, and the input assumptions used in the model can materially affect the
fair value estimate.





The fair
values of DCT’s Derivative Instruments were determined under the following
assumptions:





June 30,
                    2009
                  
                  
                  December 31,
                    2008Series B Stock remaining contractual term (years)
                  
                  
                  0.1
                  
                  
                  
                  0.6Expected
      volatility
                  
                  
                  81
                  %
                  
                  
                  111
                  %Expected
      dividend yield
                  
                  
                  -
                  
                  
                  
                  -Risk
      free interest rate
                  
                  
                  0.17
                  %
                  
                  
                  0.3
                  %





See
further discussion and disclosure of fair value at Note 9.





Preferred
Stock Activity





DCT had
no preferred stock activity during the six months ended June 30,
2009.


- 12
-





Series
A Stock Dividends





Through
the maturity date of March 15, 2008, DCT’s Series A Stock called for cumulative
dividends at a rate of five percent per annum, payable semiannually on July 1
and January 1.  Dividends were payable in cash, by accretion of the
stated value or in shares of common stock. Subject to certain terms and
conditions, the decision whether to accrete dividends to the stated value of the
Series A Stock or to pay for dividends in cash or in shares of common stock, was
at DCT’s discretion.  DCT did not pay any cash dividends on its Series
A Stock.  During the six months ended June 30, 2008, Series A Stock
dividends were approximately $13,000, and were recorded as a reconciling item
adjusting reported net loss to net loss available to common
stockholders.





Series
A Stock Maturity





On March
15, 2008 (the "Series A Stock Redemption Date"), all of DCT’s outstanding Series
A Stock was redeemed for a per share redemption price equal to the stated value
on the Series A Stock Redemption Date (the "Series A Stock Redemption
Price").  The Series A Stock Redemption Price included principal and
accrued dividends.  The Series A Stock Redemption Price was payable
either in cash or in shares of common stock at DCT’s sole
discretion.  DCT elected to pay all of the Series A Stock Redemption
Price in shares of common stock.  According to the terms of the Series
A Stock agreement, the shares of common stock that were delivered to holders of
the Series A Stock were valued at 85% of the fifteen-day volume weighted average
price of the common stock on the Series A Redemption Date.





Series
A Stock Deemed Dividends





In
accordance with EITF Issue No. 98-5, Accounting for Convertible
Securities with Beneficial Conversion Features or Contingently Adjustable
Conversion Ratios(“EITF 98-5”), and EITF Issue No. 00-27, Application of Issue 98-5 to Certain
Convertible Instruments(“EITF 00-27”), DCT’s Series A Stock had an
embedded contingent beneficial conversion feature because the conversion price
was less than the fair value of DCT’s common stock on the maturity and
conversion of the Series A Stock into common stock.  The embedded
beneficial conversion feature was considered contingent because it was based on
how much of the Series A Stock Redemption Price was paid in DCT’s common stock
versus cash.





Under
EITF 98-5, a contingent beneficial conversion feature should be recognized in
earnings when all contingencies are resolved.  DCT recorded a deemed
dividend on its Series A Stock during the six months ended June 30, 2008
totaling $231,000.  This non-cash dividend was recorded to reflect the
implied economic value to the preferred stockholder of converting Series A
shares into common stock at a 15% discount of the common stock price at the time
of conversion.  The fair value was calculated using the difference
between the agreed-upon conversion price of the Series A Preferred Stock into
shares of common stock and the fair market value of DCT's common stock on the
conversion date. This amount was charged to accumulated deficit with the
offsetting credit to additional paid-in-capital.





DCT
treated the deemed dividend on Series A Stock as a reconciling item to adjust
its reported net loss, and together with Series A Stock dividends recorded
during the applicable period, to adjust the net loss available to common
stockholders line item on the Statements of Operations.





Common
Stock Warrants





DCT had
the following common stock warrant activity during the six months ended June 30,
2009:





WarrantsOutstanding
      at December 31, 2008
                  
                  
                  3,284,000Cancelled
                  
                  
                  (25,000
                  )Outstanding
      at June 30, 2009
                  
                  
                  3,259,000





The
following table summarizes certain aspects of DCT’s outstanding warrants as of
June 30, 2009:


- 13
-





Warrants Issued in Connection
                          with:
                        
                        Number of
                          Shares
                        
                        
                        Number of
                          Shares Vested
                        
                        
                        Exercise
                          Price
                        
                        Issuance
                          Date
                        
                        Expiration
                          DateSeries
      A Stock
                        
                        
                        186,500
                        
                        
                        
                        186,500
                        
                        
                        $
                        1.00
                        
                        3/15/05
                        
                        3/15/10Series
      A Stock
                        
                        
                        932,500
                        
                        
                        
                        932,500
                        
                        
                        
                        2.00
                        
                        3/15/05
                        
                        3/15/10Series
      B Stock
                        
                        
                        675,000
                        
                        
                        
                        675,000
                        
                        
                        
                        1.50
                        
                        8/7/06
                        
                        8/7/09Consulting
      agreement
                        
                        
                        90,000
                        
                        
                        
                        90,000
                        
                        
                        
                        0.65
                        
                        1/1/07
                        
                        1/1/10Notes
      payable financing
                        
                        
                        650,000
                        
                        
                        
                        650,000
                        
                        
                        
                        0.60
                        
                        9/26/07
                        
                        9/26/12Consulting
      agreement
                        
                        
                        110,000
                        
                        
                        
                        110,000
                        
                        
                        
                        0.65
                        
                        1/1/08
                        
                        1/1/11Consulting
      agreement
                        
                        
                        615,000
                        
                        
                        
                        615,000
                        
                        
                        
                        0.60
                        
                        11/6/08
                        
                        11/6/113,259,000
                        
                        
                        
                        3,259,000





In
certain instances, DCT issues warrants for investor relations
services.  DCT amortizes the fair value of such warrants over the
service period.  In connection with such common stock warrants issued
and outstanding, DCT charged selling, general and administrative expense with
the offset credit to additional paid in capital for $100,000 the six months
ended June 30, 2009, and $17,000 and $51,000 during the three and six months
ended June 30, 2008, respectively. DCT estimated the fair value of the warrants
issued under the Black-Scholes valuation model using the following weighted
average assumptions: contractual term of three years, 1.8% risk-free interest
rate, expected volatility of 266% and expected dividend yield of
0%.





Note
9 – Fair Value





SFAS 157,
Fair Value Measurements
(“SFAS 157”) defines fair value as the exchange price that would be received for
an asset or paid to transfer a liability in the principal or most advantageous
market in an orderly transaction between market participants at the measurement
date.





SFAS 157
establishes three levels of inputs that may be used to measure fair
value:




Level 1. Quoted
prices in active markets for identical assets or liabilities.  DCT had
no Level 1 assets or liabilities at June 30, 2009.





Level 2. Observable
inputs other than Level 1 prices, such as quoted prices for similar assets
or liabilities, quoted prices in markets with insufficient volume or infrequent
transactions (less active markets), or model-derived valuations in which all
significant inputs are observable or can be derived principally from or
corroborated with observable market data for substantially the full term of the
assets or liabilities.  DCT had no Level 2 assets or liabilities at
June 30, 2009.





Level 3.  Unobservable
inputs to the valuation methodology that are significant to the measurement of
the fair value of assets or liabilities.  DCT had no Level 3
assets.  Level 3 liabilities include (i) warrant and (ii) derivative
contracts liabilities.  DCT estimates the fair value of Level 3
liabilities using the Black-Scholes valuation model.




The
carrying value of cash and cash equivalents, trade receivables and payables,
prepaid expenses and other current assets, amounts due to related parties, and
other payables and liabilities approximates fair value due to the short period
of time to maturity.





Level 3
liabilities were presented on DCT’s Balance Sheet as of June 30, 2009 as follows
(in
thousands):





Description
                      
                      Balance Sheet Presentation
                      
                      Fair Value(1)Warrant
      liability for puttable warrants
                      
                      Fair
      value of warrant liability
                      
                      $
                      350Derivative
      liabilities
                      
                      Liability
      under derivative contracts
                      
                      
                      -$
                      350





(1) Fair
value measurement at reporting date using significant unobservable inputs (Level
3).





The
following table summarizes the changes in Level 3 liabilities measured at fair
value on a recurring basis for the six months ended June 30, 2009 (in
thousands):


- 14
-





Fair Value of
                    Warrant
                    Liability
                  
                  
                  Liability
                    under
                    Derivative
                    Contracts
                  
                  
                  TotalBalance
      at December 31, 2008
                  
                  $
                  350
                  
                  
                  $
                  9
                  
                  
                  $
                  359Unrealized
      gain included in net income (loss)
                  
                  
                  -
                  
                  
                  
                  (9
                  )
                  
                  
                  (9
                  )Balance
      at June 30, 2009
                  
                  $
                  350
                  
                  
                  $
                  -
                  
                  
                  $
                  350





(1)
Included as a component of other income (expense).





Note
10 – Bank Line of Credit





As of
June 30, 2009, DCT had a $3,000,000 line of credit (“LOC”) at a commercial
bank.  Borrowings under the LOC are limited to 80% of eligible accounts
receivable and 40% of eligible inventory, as defined in the LOC agreement. 
The LOC bears an annual interest rate of prime (3.25% at June 30, 2009) plus
1.25% for advances drawn against accounts receivables, with a minimum interest
rate of 9%, and prime plus 2.25% for advances drawn against inventory, with a
minimum interest rate of 10%.  Interest payments are due monthly and all
unpaid interest and principal is due in full on September 13, 2009.  DCT is
currently in the process of renegotiating its line of credit and has already
received an extension term sheet from its current lender.





Upon
certain events of default, the default variable interest rate increases to prime
plus 5%.  As of June 30, 2009, DCT did not have any borrowing capacity
on its LOC.




As of
June 30, 2009, DCT was in compliance with all LOC debt covenants.




Note
11 – Commitments and Contingencies




Operating
Leases




The
Company is committed under various non-cancelable operating leases which extend
through February 2011. Future minimum rental commitments as of June 30, 2009 are
as follows (in
thousands):




Year Ending
                          June 30,
                        
                        Future
                          Minimum
                          Lease
                          Payments2009
                        
                        $
                        2132010
                        
                        
                        2Total
                        
                        $
                        215




Employment
Agreements




DCT
maintains employment agreements with its executive officers which extend through
2010. The agreements provide for a base salary and annual bonus to be determined
by the Board of Directors.  The agreements also provide for
termination payments, stock options, non-competition provisions, and other terms
and conditions of employment. In addition, DCT maintains employment agreements
with other key employees with similar terms and conditions.  As of
June 30, 2009 termination payments totaling $1,028,000 remain in
effect.




Litigation,
Claims and Assessments




The
Company experiences routine litigation in the normal course of its business and
does not believe that any pending litigation will have a material adverse effect
on DCT’s financial condition, results of operations or cash flows.




Research
and Development Agreement


During
the second quarter of 2009, the Company entered into an agreement with a
customer to develop a scanner to meet the customer’s specific product
requirements. The customer has the right to terminate the contract at any time
without cause upon giving DCT two weeks’ notice. If terminated, the customer
shall pay DCT for all work-in-progress or work completed up to the date of
termination. Each party shall retain its rights in any intellectual property
rights owned or licensed to it prior to commencement of development. All
intellectual property developed by DCT will be owed exclusively by the customer
and DCT will not distribute the developed product to any other customer (unless
DCT receives prior written approval from the customer). The customer is
committed to buying a certain minimum number of scanners, developed under this
agreement, during the first 12 months following the initial product
shipment.
  In
connection with the agreement, the Company deferred $36,000 of revenue, which
will be recognized upon shipment of the developed product.
  - 15
-





Note
12 – Segment and Geographic Information




Segment
Information





DCT
currently operates in one segment: the design, development and delivery of
various imaging technology solutions, most notably scanners, as defined by SFAS
131, Disclosures about
Segments of an Enterprise and Related Information(“SFAS
131”).





Geographic
Information





During
the three and six months ended June 30, 2009 and 2008, DCT recorded net sales
throughout the U.S., Europe and Asia as determined by the final destination of
the product.  The following table summarizes total net sales
attributable to significant countries (in thousands):





ThreeMonthsEnded
                          June30,
                        
                        
                        SixMonthsEnded
                          June30,2009
                        
                        
                        2008
                        
                        
                        2009
                        
                        
                        2008U.S.
                        
                        $
                        2,836
                        
                        
                        $
                        2,724
                        
                        
                        $
                        4,547
                        
                        
                        $
                        5,076Europe
                        
                        
                        156
                        
                        
                        
                        257
                        
                        
                        
                        460
                        
                        
                        
                        443Asia
                        
                        
                        10
                        
                        
                        
                        22
                        
                        
                        
                        10
                        
                        
                        
                        22$
                        3,002
                        
                        
                        $
                        3,003
                        
                        
                        $
                        5,017
                        
                        
                        $
                        5,541





Presented
below is information regarding identifiable assets, classified by operations
located in the U.S., Europe and Asia(in
thousands):


June30,
                      2009
                    
                    
                    December31,
                      2008U.S.
                    
                    $
                    3,928
                    
                    
                    $
                    3,093Europe
                    
                    
                    124
                    
                    
                    
                    169Asia
                    
                    
                    42
                    
                    
                    
                    59$
                    4,094
                    
                    
                    $
                    3,321





Assets
located in Europe relate to DCT’s field service, sales, distribution and
inventory management in the Netherlands.  Assets located in Asia
relate to tooling equipment required to manufacture DCT’s product.





Note
13 – Subsequent Events





SeriesB
Maturity


On August
7, 2009 (the "Series B Stock Redemption Date"), all of DCT’s outstanding Series
B Stock was redeemed for (i) $75,000 cash, and (ii) 187,500 shares of common
stock.
  Revised
Consulting Agreement with a Related Party Shareholder
  In August
2009, DCT amended an existing consulting contract, originally entered in July
2008, with one of its shareholders who owns more than 5% of DCT’s outstanding
stock. The amendment called for DCT to make a one-time cash payment of $30,000,
and for the consultant to return to DCT 275,000 of non-qualified stock options,
at an exercise price of $0.30 per share, to purchase shares of DCT common stock.
Stock options were originally granted to the shareholder in July 2008. All other
terms of the original contract remain in effect.
 - 16
-


Item
2 - Management’s Discussion and Analysis of Financial Condition and Results of
Operations




The
following discussion should be read in conjunction with Document Capture
Technologies, Inc.’s (“DCT” or “Company”) unaudited condensed consolidated
financial statements and notes included herein.  The results described
below are not necessarily indicative of the results to be expected in any future
period.  Certain statements in this discussion and analysis, including
statements regarding our strategy, financial performance and revenue sources,
are forward-looking statements based on current expectations and entail various
risks and uncertainties that could cause actual results to differ materially
from those expressed in the forward-looking statements.  Readers are
referred to DCT’s Annual Report on Form 10-K for the year ended December 31,
2008 as filed with the Securities and Exchange Commission on April 15,
2009.  We undertake no duty to update any forward-looking statement to
conform the statement to actual results or changes in our
expectations.




Management's
discussion and analysis of financial condition and results of operations
("MD&A") is provided as a supplement to the accompanying unaudited condensed
consolidated financial statements and notes to help provide an understanding of
our financial condition, changes in financial condition and results of
operations. The MD&A section is organized as follows:




·
            Overview.
      This section provides a general description of the Company's business, as
      well as recent developments that we believe are important in understanding
      the results of operations and anticipating future trends in those
      operations.




·
            Critical
      accounting policies. This section provides an analysis of the
      significant estimates and judgments that affect the reported amounts of
      assets, liabilities, revenues and expenses, and related disclosure of
      contingent assets and liabilities.




·
            Results of
      operations. This section provides an analysis of our results of
      operations for the three and six months ended June 30, 2009 compared to
      the three and six months ended June 30, 2008.  A brief
      description of certain aspects, transactions and events is provided,
      including related-party transactions that impact the comparability of the
      results being analyzed.




·
            Liquidity
      and capital resources. This section provides an analysis of our
      financial condition and cash flows as of and for the six months ended June
      30, 2009 as compared to the six months ended June 30,
  2008.




Overview




We are in
the business of designing, developing and delivering imaging technology
solutions. Our technology is protected under multiple patents.  We
focus our research and development toward new deliverable and marketable
technologies. We sell our products to customers throughout the world, including
the United States, Canada, Europe, South America, Australia and
Asia.




Our
strategy includes a plan to expand our document/image-capture product line and
technology while leveraging our assets in other areas of the imaging industry.
We are actively shipping six groups of image-capture products.  We
have expanded our document/image-capture product offerings, and will continue to
expand our product offerings in the future in response to the increased market
demand for faster, easier-to-use products and increased security to meet the
growing need for information protection, including identity and financial
transaction protection.




During
2008 DCT focused on re-aligning its operations toward its core
revenue-generating competencies in an effort to cut costs and maximize profits.
Looking to the future, DCT has identified several significant market
opportunities available to the Company in 2009 and beyond and we believe that
with the corporate initiatives taken during 2008, we are well positioned to
capitalize on such opportunities.




Looking
forward to the future, we plan to introduce three new products by the end of
2009.  Our new products will include new technology for added
functionality as well as improved existing
functionality.  Additionally, our new products already have an
existing market, and we have already received pre-orders for all three new
products.


- 17
-




Critical
Accounting Policies




Our
MD&A is based upon our condensed consolidated financial statements, which
have been prepared in accordance with accounting principles generally accepted
in the United States. The preparation of these financial statements requires us
to make estimates and judgments that affect the reported amounts of assets,
liabilities, revenues and expenses, and related disclosure of contingent assets
and liabilities. On an on-going basis, we evaluate our estimates, including
those related to revenue recognition, trade receivables and allowance for
doubtful accounts, inventories, and income taxes. We base our estimates on
historical experience and on various other assumptions that we believe are
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. Actual results may differ from these
estimates under different assumptions or conditions.




An
accounting policy is deemed to be critical if it requires an accounting estimate
to be made based on assumptions about matters that are highly uncertain at the
time the estimate is made, and if different estimates that reasonably could have
been used or changes in the accounting estimate that are reasonably likely to
occur could materially change the financial statements.




Our
disclosures of critical accounting policies in our Annual Report on Form 10-K
for the year ended December 31, 2008 have not materially changed since that
report was filed.


- 18
-


Results
of Operations





The
following table summarizes certain aspects of our results of operations for the
three and six months ended June 30, 2009 compared to the three and six months
ended June 30, 2008 (in
thousands):





ThreeMonthsEndedJune30,
                          
                          
                          SixMonthsEndedJune30,2009
                          
                          
                          2008
                          
                          
                          $.
                          
                          
                          %
                          
                          
                          2009
                          
                          
                          2008
                          
                          
                          $.
                          
                          
                          %
                          .Net
      sales
                          
                          $
                          3,002
                          
                          
                          $
                          3,003
                          
                          
                          $
                          (1
                          )
                          
                          
                          -
                          %
                          
                          $
                          5,017
                          
                          
                          $
                          5,541
                          
                          
                          $
                          (524
                          )
                          
                          
                          (9
                          )%Cost
      of sales
                          
                          
                          1,824
                          
                          
                          
                          2,020
                          
                          
                          
                          (196
                          )
                          
                          
                          (10
                          )
                          
                          
                          3,061
                          
                          
                          
                          3,825
                          
                          
                          
                          (764
                          )
                          
                          
                          (20
                          )As a
      percentage of sales
                          
                          
                          61
                          %
                          
                          
                          67
                          %
                          
                          
                          
                          
                          
                          
                          
                          
                          
                          
                          61
                          %
                          
                          
                          69
                          %Selling,
      general and administrative expense
                          
                          
                          911
                          
                          
                          
                          511
                          
                          
                          
                          400
                          
                          
                          
                          78
                          
                          
                          
                          2,100
                          
                          
                          
                          1,472
                          
                          
                          
                          628
                          
                          
                          
                          43Research
      and development expense
                          
                          
                          202
                          
                          
                          
                          170
                          
                          
                          
                          32
                          
                          
                          
                          19
                          
                          
                          
                          433
                          
                          
                          
                          373
                          
                          
                          
                          60
                          
                          
                          
                          16Total
      other income (expense)
                          
                          
                          1
                          
                          
                          
                          456
                          
                          
                          NM
                          
                          
                          NM
                          
                          
                          
                          1
                          
                          
                          
                          409
                          
                          
                          NM
                          
                          
                          NMDividend
      and deemed dividend on 5% convertible preferred stock and accretion of
      preferred stock redemption value
                          
                          
                          (13
                          )
                          
                          
                          (12
                          )
                          
                          NM
                          
                          
                          NM
                          
                          
                          
                          (25
                          )
                          
                          
                          (345
                          )
                          
                          NM
                          
                          
                          NM





NM = Not
Meaningful





Net
Sales





The
decrease in net sales during the six months ended June 30, 2009 as compared to
the six months ended June 30, 2008 is attributable to the overall slowdown of
the general economic and market conditions in the U.S. economy and the related
slowdown of information technology (“IT”) capital spending.  The U.S.
economic downturn had more of an impact on our net sales during the first
quarter of 2009.  During the three months ended June 30, 2009 we were
able to capitalize on some specific market opportunities, which offset the
economic downturn and resulted in net sales being comparable to the three months
ended June 30, 2008.





Although
our international sales have grown significantly in both absolute dollars and as
a percentage of our net sales over the past several quarters, during the second
quarter of 2009 our European market began to experienced the same general
economic downturn as our U.S. markets experienced in the first quarter of
2009.  As a result, our European sales were relatively flat for the
six months ended June 30, 2009 as compared to the same period in 2008 but
decreased $101,000, or 40% during the three months ended June 30, 2009 as
compared to the same period in 2008.





From time
to time, our key customers place large orders causing our quarterly net revenue
to fluctuate significantly. We expect this trend and resulting fluctuations to
continue.  Although the number of scanners shipped during any quarter
has fluctuated significantly, generally our selling prices have remained fairly
stable and we expect this stability to continue for the foreseeable
future.





Although
we continually concentrate on expanding our significant customer base, our
revenue remains dependent on a small number of significant
customers.  Total sales to significant customers (customers who
represent more than 10% of our net sales) were 77% and 71% during the three
months ended June 30, 2009 and 2008, respectively, and 85% and 61% during the
six months ended June 30, 2009 and 2008, respectively.  See “Note 4:  Concentration of
Credit Risk and Major Customers” in Part I, Item 1 of this Form
10-Q.The identities of our largest customers and their
respective contributions to our net sales have varied in the past and will
likely continue to vary from period to period.


- 19
-





Cost
of Sales, Including Gross Profit




Cost of
sales includes all direct costs related to the purchase of scanners, imaging
modules and services related to the delivery of those items manufactured in
China, and to a lesser extent engineering services and software
royalties.  Cost of sales as a percentage of sales decreased during
both the three and six months ended June 30, 2009 compared to the same periods
in 2008 and was due to the following:




·
            A
      higher proportion of overall net sales were generated from our more
      feature-rich products, which typically bear higher gross margins than our
      scanners with fewer product
features;




·
            The
      negotiated price reduction of some of our finished
  product;




·
            The
      price reduction of certain third-party software as we move toward less
      costly value-add software; and




·
            Our
      continued efforts toward reducing the cost of our
  products.




The above
noted factors were somewhat offset by the fluctuation of the U.S. dollar against
the Chinese Yuan.





We expect
our cost of sales as a percentage of net sales to fluctuate somewhat during the
remainder of 2009 as we introduce new products, experience changes in our
existing product mix, the value of the U.S. dollar remains volatile and we work
toward implementing further product cost reduction strategies.





Selling,
General and Administrative Expense




Selling,
general and administrative expenses consist primarily of personnel-related
expenses, including stock-based
compensation costs, facilities-related expenses and outside professional
services such as legal and accounting.  To a lesser extent,
market development and promotional funds for our retail distribution channels,
tradeshows, website support, warehousing, logistics and certain sales
representative fees are also included.




The
increase in selling and marketing expense during both the three and six months
ended June 30, 2009 as compared to the three and six months ended June 30, 2008
was primarily attributable to the following:




·
            Increased
      investor relations efforts associated with DCT’s initiatives toward
      increasing DCT’s awareness in the investment
  community.




·
            Increased legal fees associated
      with enforcing DCT’s
patents.




·
            Increased
      stock-based compensation costs (a non-cash charge).  Stock-based compensation cost was
      $105,000 and $251,000 for the three and six months ended June 30, 2009,
      respectively.  Stock-based compensation cost was $79,000 and
      $165,000 for the three and six months ended June 30, 2008,
      respectively.  See “Note 6:  Employee Equity Incentive
      Plans” in Part I, Item 1 of this Form
  10-Q.




·
            Increased
      amortization of the fair value (a non-cash charge) of equity instruments
      issued for investor relations consulting services.  Such
      amortization totaled $0 and $111,000 for the three and the six months
      ended June 30, 2009, respectively, as compared to $17,000 and $51,000
      during the three and six months ended June 30, 2008,
      respectively.   See “Note 8:  Equity” in
      Part I, Item 1 of this Form
10-Q.




We anticipate that selling, general and
administrative expenses will continue to increase as our business continues to
grow and the costs associated with being a public company continue to increase
as a result of our reporting requirements including, but not limited to,
expenses incurred to comply with the Sarbanes-Oxley Act of
2002.





Research
and Development Expense





Research and development expense
consists primarily of salaries and related costs, including stock-based
compensation costs of employees engaged in product research, design and
development activities, compliance testing, documentation, prototypes and
expenses associated with transitioning the product to
production.The increase during both the three and six months
ended June 30, 2009 as compared to the three and six months ended June 30, 2008
was attributable to utilizing outside, specialized engineering contractors to
enhance our product development efforts.


- 20
-





We anticipate that research and
development expense will continue to increase over the long term as a result of
the growth of our existing products, new product opportunities and any expansion
into new markets and technologies. We remain committed to significant research
and development efforts to extend our technology leadership in the imaging
technology markets.





Total
Other Income (Expense)





Our total other income (expense) during
both the three and six months ended June 30, 2009 was immaterial to our results
of operations.





During the three and six months ended
June 30, 2008, the most
significant component of our other income (expense)was the non-recurring gain on sale of
assets of $150,000 and $550,000, respectively.Other income
(expense) was also impacted by our increased debt, which resulted in interest
expense of $121,000 and $268,000 during the three and six months ended June 30,
2008, respectively.  Of the interest expense recorded during the three
and six months ended June 30, 2008, $83,000 and $167,000, respectively, was
non-cash interest expense attributable to amortization of debt issuance
costs.





Dividend
and Deemed Dividend on Series A Stock and Accretion of Preferred Stock
Redemption Value





During
the three and six months ended June 30, 2009 and 2008, the total accretion on
our preferred stock was $13,000 and $25,000, respectively and $12,000 and
$100,000, respectively.  The decrease during both the three and the
six month periods was attributable to the maturity of our Series A Stock on
March 15, 2008.





We
accrued dividends on our Series A Stock through the March 15, 2008 maturity
date, which totaled $13,000 for the six months ended June 30,
2008.  We do not pay
dividends on our Series B Stock.





DCT
recorded a deemed dividend on its Series A Stock during the first quarter of
2008 totaling $231,000.  This non-cash dividend is to reflect the
implied economic value to the preferred stockholder of converting Series A
shares into common stock at a 15% discount of the common stock price at the time
of conversion.  The fair value was calculated using the difference
between the agreed-upon conversion price of the Series A Preferred Stock into
shares of common stock and the fair market value of DCT's common stock on the
conversion date. See “Note
8:  Equity” in Part I, Item 1 of this Form 10-Q.





Liquidity
and Capital Resources





At June
30, 2009, our principal sources of liquidity included cash and cash equivalents
of $1,462,000.  We had no significant cash outlays, except as part of
our normal operations, during the six months ended June 30, 2009 or
2008.  Our sales
generally have followed a seasonal trend.  Historically, our sales
have been higher in the second half of the year than in the first half of the
year.  This seasonal trend has occurred during the past several years
as well as during the six months ended June 30, 2009.  This historical
trend has typically constrained our working capital during the first part of the
year.  And although we expect the historical trend of higher sales in
the second half of the year as compared to the first half of the year, there can
be no assurance that it will continue in 2009, especially in light of the
current economic downturn in the US economy.





Operating
activities:  During the six months ended June 30, 2009, our
operating activities used $104,000 of cash.  This was primarily a
result of our $576,000 net loss, $427,000 of net non-cash expenses, and $45,000
net cash provided by changes in operating assets and
liabilities.  During the six months ended June 30, 2008, our operating
activities provided $1,009,000 of cash.  This was primarily a result
of our $278,000 net income, $203,000 of net non-cash gain and $934,000 net cash
provided by changes in operating assets and liabilities.  Non-cash
items included in net loss for the six months ended June 30, 2009 were
depreciation expense, stock-based compensation cost of options, fair value of
equity instruments (including restricted common stock and warrants) issued for
services rendered, and the change in fair value of our derivative
instruments.  Non-cash items included in net loss for the six months
ended June 30, 2008 were our one-time gain of $550,000 for the sale of assets
related to terminated research and development activities, depreciation expense,
stock-based compensation cost of options, fair value of equity instruments
(including restricted common stock and warrants) issued for services rendered,
and the change in fair value of our derivative instruments.  Changes
in our operating assets and liabilities for both the six months ended June 30,
2009 and 2008 are indicative of the normal operational fluctuations related to
the timing of product shipments, trade receivables collections, inventory
management and timing of vendor payments.


- 21
-





Investing
activities:  Our investing activities for the six months ended
June 30, 2009 consisted of capital purchases to support normal business
operations.  During the six months ended June 30, 2008, cash provided
by investing activities included $550,000 in cash proceeds from the sale of
assets related to terminated research and development activities.




Financing
activities:  During the six months ended June 30, 2009, our
financing activities consisted of net advances of $1,216,000 drawn against our
bank line of credit in order to fully utilize our available line of
credit.  During the six months ended June 30, 2008, our financing
activities consisted of paying down our bank line of credit and our notes
payable according to the terms of the agreement.





Cash
and Working Capital Requirements





DCT
actively controls operating expenses to align with current and projected net
sales.  If we continue to successfully manage our projected net sales
and control our operating expenses, of which there can be no assurance,
management believes that current cash and other sources of liquidity are
sufficient to fund normal operations through the next 12 months.





Our
current line of credit matures on September 13, 2009.  DCT is
currently in the process of renegotiating its line of credit and has already
received an extension term sheet from its current lender.  Although
management believes DCT will be able to obtain an additional line of credit upon
maturity of the existing line of credit, there is no guarantee that DCT will be
able to secure a line of credit on terms that are acceptable to
DCT.





Contractual
Obligations





The
following table summarizes our contractual obligations at June 30, 2009, and the
effect such obligations are expected to have on our liquidity and cash flows in
future periods (in
thousands):


Less Than
                  
                  
                  One – Three
                  
                  
                  Three – FiveTotal
                  
                  
                  One Year
                  
                  
                  Years
                  
                  
                  YearsBank
      line of credit (1)
                  
                  $
                  1,216
                  
                  
                  $
                  1,216
                  
                  
                  $
                  -
                  
                  
                  $
                  -Series
      B Stock principal(2)
                  
                  
                  75
                  
                  
                  
                  75
                  
                  
                  
                  -
                  
                  
                  
                  -Operating
      lease obligations
                  
                  
                  215
                  
                  
                  
                  213
                  
                  
                  
                  2
                  
                  
                  
                  -Total
      contractual cash obligations
                  
                  $
                  1,506
                  
                  
                  $
                  1,504
                  
                  
                  $
                  2
                  
                  
                  $
                  -





(1)
As of June 30, 2009, DCT had a $3,000,000 line of credit (“LOC”) at a commercial
bank.  Borrowings under the LOC are limited to 80% of eligible accounts
receivable and 40% of eligible inventory, as defined in the LOC agreement. 
The LOC bears an annual interest rate of prime (3.25% at June 30, 2009) plus
1.25% for advances drawn against accounts receivables, with a minimum interest
rate of 9%, and prime plus 2.25% for advances drawn against inventory, with a
minimum interest rate of 10%.  Interest payments are due monthly and all
unpaid interest and principal is due in full on September 13, 2009.  Upon
certain events of default, the default variable interest rate increases to prime
plus 5%.  As of June 30, 2009, DCT did not have any borrowing capacity
on its LOC.




As of
June 30, 2009, DCT was in compliance with all LOC debt covenants.




(2)On
August 7, 2009 (the "Series B Stock Redemption Date"), all of DCT’s outstanding
Series B Stock was redeemed for (i) $75,000 cash, and (ii) 187,500 shares of
common stock.


- 22
-





Off-Balance
Sheet Arrangements





At June
30, 2009, we did not have any relationship with unconsolidated entities or
financial partnerships, which other companies have established for the purpose
of facilitating off-balance sheet arrangements or other contractually narrow or
limited purposes. Therefore, we are not materially exposed to any financing,
liquidity, market or credit risk that could arise if we had engaged in such
relationships.





Trends





To the
best of our knowledge, except for the commitments described in “Note 11:
Commitments and Contingencies” in Part I, Item 1 of this Form 10-Q, there are no
other known trends or demands, commitments, events or uncertaintiesthat existed at June 30,
2009, which are likely to have a material effect on our future
liquidity.





Item
4 – Controls and Procedures





Evaluation
of Disclosure Controls and Procedures




Based on management’s evaluation (with
the participation of our Chief Executive Officer (CEO) and Chief Financial
Officer (CFO)), as of the end of the period covered by this report, our CEO and
CFO have concluded that our disclosure controls and procedures (as defined in
Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as
amended, (the Exchange Act)) are effective to provide reasonable assurance that
information required to be disclosed by us in reports that we file or submit
under the Exchange Act is recorded, processed, summarized and reported within
the time periods specified in Securities and Exchange Commission rules and forms
and is accumulated and communicated to management, including our principal
executive officer and principal financial officer, as appropriate to allow
timely decisions regarding required disclosure.





Changes
in Internal Controls over Financial Reporting





There were no changes in our internal
controls over financial reporting that occurred during the quarterly period
covered by this report that have materially affected, or are reasonably likely
to materially affect, our internal control over financial
reporting.





Inherent
Limitations on Effectiveness of Controls





Our management, including the CEO and
CFO, does not expect that our Disclosure Controls or our internal control over
financial reporting will prevent or detect all error and all fraud. A control
system, no matter how well designed and operated, can provide only reasonable,
not absolute, assurance that the control system’s objectives will be met. The
design of a control system must reflect the fact that there are resource
constraints, and the benefits of controls must be considered relative to their
costs. Further, because of the inherent limitations in all control systems, no
evaluation of controls can provide absolute assurance that misstatements due to
error or fraud will not occur or that all control issues and instances of fraud,
if any, have been detected. These inherent limitations include the realities
that judgments in decision-making can be faulty and that breakdowns can occur
because of simple error or mistake. Controls can also be circumvented by the
individual acts of some persons, by collusion of two or more people, or by
management override of the controls. The design of any system of controls is
based in part on 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. Projections of any evaluation of
controls effectiveness to future periods are subject to risks. Over time,
controls may become inadequate because of changes in conditions or deterioration
in the degree of compliance with policies or procedures.


- 23
-


PART
II.  OTHER INFORMATION





Item
1 - Legal Proceedings





We are
subject to various legal proceedings from time to time in the ordinary course of
business, none of which are required to be disclosed under this Item
1.





Item
1A – Risk Factors





There
have been no changes to the risk factors included in our Annual Report on Form
10-K for the year ended December 31, 2008 as filed with the Securities and
Exchange Commission on April 15, 2009.





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





On May
22, 2009, we issued an aggregate of 25,000 shares of common stock in connection
with investor relation services rendered to the Company.  We did not
receive any proceeds.  The securities were issued pursuant to Section
4(2) of the Securities Act of 1933, as amended.





Item
3 - Defaults Upon Senior Securities





None.





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





None.





Item
5 - Other Information





None.





Item
6 - Exhibits





Exhibit
                Number
              
              Description of
      Exhibit
              
              Method of
      Filing31.1
              
              Certification
      Pursuant to Section 302 of the Sarbanes-Oxley Act – David P.
      Clark
              
              Filed
    herewith31.2
              
              Certification
      Pursuant to Section 302 of the Sarbanes-Oxley Act – M. Carolyn
      Ellis
              
              Filed
    herewith32.1
              
              Certification
      Pursuant to Section 906 of the Sarbanes-Oxley Act – David P.
      Clark
              
              Filed
    herewith32.2
              
              Certification
      Pursuant to Section 906 of the Sarbanes-Oxley Act – M. Carolyn
      Ellis
              
              Filed
    herewith


- 24
-


SIGNATURES





Pursuant
to the requirements of the Securities Exchange Act of 1934, Document Capture
Technologies, Inc. has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.





Document
      Capture Technologies, Inc.Date:August14,2009/s/David P.
      ClarkDavid P. Clark,Chief Executive
      OfficerDate:August 14, 2009/s/M. Carolyn
      EllisM. Carolyn
      EllisChief Financial
      Officer


- 25
-