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 March 31, 2010





 ̈
            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
            
            80-0133251(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)





408-213-3707


(Registrant’s
telephone number, including area code)





Indicate
by check mark whether the registrant (1) has 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 has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding
12 months (or for such shorter period that the registrant was required to submit
and post such files).  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   ̈    Accelerated
filer    ̈   Non-accelerated
filer   ̈    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      ̈     
No    x





The
number of shares of Common Stock outstanding as of May 12, 2010 was
19,406,270.










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 QUARTER ENDED MARCH 31, 2010




INDEX





PagePART I – FINANCIAL
    INFORMATION
                  4Item
      1
                  Financial
      Statements
                  4Item
      2
                  Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
                  16Item
      4T
                  Controls
      and Procedures
                  22PART II – OTHER INFORMATION
                  23Item
      1
                  Legal
      Proceedings
                  23Item
      1A
                  Risk
      Factors
                  23Item
      2
                  Unregistered
      Sales of Equity Securities and Use of Proceeds
                  23Item
      3
                  Defaults
      Upon Senior Securities
                  23Item
      5
                  Other
      Information
                  23Item
      6
                  Exhibits
                  24Signatures
                  25




- 3
-





PART
I.  FINANCIAL INFORMATION





Item
1 - Financial Statements


DOCUMENT
CAPTURE TECHNOLOGIES, INC.


CONDENSED
CONSOLIDATED BALANCE SHEETS


(in
thousands)





March 31,
                        
                        
                        December 31,2010
                        
                        
                        2009(unaudited)
                        
                        
                        *ASSETSCurrent assets:Cash
      and cash equivalents
                        
                        $
                        165
                        
                        
                        $
                        328Trade
      receivables
                        
                        
                        2,027
                        
                        
                        
                        1,497Inventories,
      net
                        
                        
                        1,530
                        
                        
                        
                        1,674Prepaid
      expenses and other current assets
                        
                        
                        118
                        
                        
                        
                        132Total
      current assets
                        
                        
                        3,840
                        
                        
                        
                        3,631Restricted
      cash
                        
                        
                        5
                        
                        
                        
                        5Fixed
      assets, net
                        
                        
                        159
                        
                        
                        
                        176Total
      assets
                        
                        $
                        4,004
                        
                        
                        $
                        3,812LIABILITIES
      AND STOCKHOLDERS’ EQUITYCurrent
      liabilities:Line
      of credit
                        
                        $
                        236
                        
                        
                        $
                        202Trade
      payables to related parties
                        
                        
                        348
                        
                        
                        
                        341Trade
      payables and other accrued expenses
                        
                        
                        405
                        
                        
                        
                        440Accrued
      compensation and benefits
                        
                        
                        65
                        
                        
                        
                        124Deferred
      revenue and customer deposits
                        
                        
                        90
                        
                        
                        
                        111Total
      current liabilities
                        
                        
                        1,144
                        
                        
                        
                        1,218Commitments
      and contingencies (Note 10)Stockholders’
      equity:Preferred
      stock $.001 par value, 2,000 authorized, 0 issued and Outstanding March
      31, 2010 and December 31, 2009Common
      stock $.001par value, 50,000 authorized, 19,406 shares issued and
      outstanding at March 31, 2010 and December 31, 2009
                        
                        
                        19
                        
                        
                        
                        19Additional
      paid-in capital
                        
                        
                        35,907
                        
                        
                        
                        35,697Accumulated
      deficit
                        
                        
                        (33,066
                        )
                        
                        
                        (33,122
                        )Total
      stockholders’ equity
                        
                        
                        2,860
                        
                        
                        
                        2,594Total
      liabilities and stockholders’ equity
                        
                        $
                        4,004
                        
                        
                        $
                        3,812





*Amounts
derived from the audited financial statements for the year ended December 31,
2009.


- 4
-


DOCUMENT
CAPTURE TECHNOLOGIES, INC.


CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)


(in
thousands, except per share amounts)





Three Months Ended March 31,2010
                  
                  
                  2009Net
      sales
                  
                  $
                  3,428
                  
                  
                  $
                  2,015Cost
      of sales
                  
                  
                  2,103
                  
                  
                  
                  1,237Gross
      profit
                  
                  
                  1,325
                  
                  
                  
                  778Operating
      expenses:Selling,
      general and administrative
                  
                  
                  966
                  
                  
                  
                  1,189Research
      and development
                  
                  
                  265
                  
                  
                  
                  231Total
      operating expenses
                  
                  
                  1,231
                  
                  
                  
                  1,420Operating
      income (loss)
                  
                  
                  94
                  
                  
                  
                  (642
                  )Non-operating
      income (expense)
                  
                  
                  (36
                  )
                  
                  
                  -Net
      income (loss) before income taxes
                  
                  
                  58
                  
                  
                  
                  (642
                  )Provision
      for income taxes
                  
                  
                  2
                  
                  
                  
                  -Net
      income (loss)
                  
                  
                  56
                  
                  
                  
                  (642
                  )Accretion
      of preferred stock redemption value
                  
                  
                  -
                  
                  
                  
                  (12
                  )Net
      income (loss) available to common stockholders
                  
                  $
                  56
                  
                  
                  $
                  (654
                  )Earnings
      per common share – basic and diluted
                  
                  $
                  0.00
                  
                  
                  $
                  (0.04
                  )Weighted
      average common shares outstanding:Basic
                  
                  
                  19,406
                  
                  
                  
                  18,463Diluted
                  
                  
                  21,606
                  
                  
                  
                  18,463




- 5
-


DOCUMENT
CAPTURE TECHNOLOGIES, INC.


CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)


(in
thousands)





Three Months Ended
                  March 31,2010
                
                
                2009Operating
      activities:Net
      income (loss)
                
                $
                56
                
                
                $
                (642
                )Adjustments
      to reconcile net income (loss) to net cash used by operating
      activities:Depreciation
      expense
                
                
                62
                
                
                
                10Stock-based
      compensation cost – options
                
                
                170
                
                
                
                180Fair
      value of common stock and warrants issued for services
      rendered
                
                
                40
                
                
                
                111Interest
      expense attributable to amortization of debt issuance
costs
                
                
                15
                
                
                
                -Other
                
                
                -
                
                
                
                (1
                )Changes
      in operating assets and liabilities:Trade
      receivables
                
                
                (530
                )
                
                
                117Inventories
                
                
                144
                
                
                
                7Prepaid
      expenses and other current assets
                
                
                11
                
                
                
                (38
                )Trade
      payables to related parties
                
                
                7
                
                
                
                (152
                )Trade
      payables and other current liabilities
                
                
                (94
                )
                
                
                (8
                )Income
      taxes payable
                
                
                -
                
                
                
                (75
                )Deferred
      revenue and customer deposits
                
                
                (21
                )
                
                
                (49
                )Cash
      used by operating activities
                
                
                (140
                )
                
                
                (540
                )Investing
      activities:Capital
      expenditures
                
                
                (45
                )
                
                
                (7
                )Cash
      used by investing activities
                
                
                (45
                )
                
                
                (7
                )Financing
      activities:Net
      advances on bank line of credit
                
                
                28
                
                
                
                349Deferred
      financing costs
                
                
                (6
                )
                
                
                -Cash
      provided by financing activities
                
                
                22
                
                
                
                349Net
      decrease in cash and cash equivalents
                
                
                (163
                )
                
                
                (198
                )Cash
      and cash equivalents at beginning of period
                
                
                328
                
                
                
                405Cash
      and cash equivalents at end of period
                
                $
                165
                
                
                $
                207Supplemental
      disclosures of cash flow information:Cash
      paid during the period for:Interest
                
                $
                11
                
                
                $
                4Income
      taxes
                
                $
                2
                
                
                $
                75




- 6
-





DOCUMENT
CAPTURE TECHNOLOGIES, INC.


NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Unaudited)





Note
1 – Background and Basis of Presentation





Organization





Document
Capture Technologies, Inc. ("DCT" or "Company"), a Delaware corporation,
develops, designs and delivers various document capture  technology
solutions to all types and sizes of enterprises including governmental agencies,
large corporations, small corporations, small office-home office (“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. The Company’s
patented and proprietary page-image capture devices facilitate the way
information is stored, shared and managed in 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, the Company achieved many technical milestones and were granted
numerous patents for it’s linear imaging technology. The Company’s patented CIS
and mobile imaging scanner technology provides high quality images at extremely
low power consumption levels, allowing DCT to deliver compact scanners in a form
that is simple to use with a computer and or integrate into new or existing
systems where there is need for a small footprint, lightweight device to scan
documents.





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





·
            Bank
      note and check verification (remote capture deposit or
    “RDC”);


·
            Document
      and information management;


·
            Identification
      card scanners;


·
            Passport
      security scanners;


·
            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 March 31, 2010 are not necessarily indicative of the operating
results that may be expected for the entire year ending December 31, 2010. 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, 2009, filed with the Securities and Exchange Commission (“SEC”) on
March 31, 2010.


- 7
-


DOCUMENT
CAPTURE TECHNOLOGIES, INC.
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Unaudited)
 
 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.
 
 Certain
accounts have been reclassified to conform to the current period
presentation.  Such reclassifications did not affect DCT’s total net
sales, operating loss, net loss available to common stockholders, financial
position or liquidity.
 
 The
Company has evaluated subsequent events up through the date of the filing of
this report with the SEC.
 
 Note
2 – Recent Accounting Pronouncements
 
 In
October 2009, the FASB issued new standards for revenue recognition with
multiple deliverables. These new standards impact the determination of when the
individual deliverables included in a multiple-element arrangement may be
treated as separate units of accounting. Additionally, these new standards
modify the manner in which the transaction consideration is allocated across the
separately identified deliverables by no longer permitting the residual method
of allocating arrangement consideration.  These new standards are effective
for fiscal years beginning on or after June 15, 2010; however, early adoption is
permitted.  DCT does not expect these new standards to significantly impact
its consolidated financial statements.
 
 In
October 2009, the FASB issued new standards for the accounting for certain
revenue arrangements that include software elements. These new standards amend
the scope of pre-existing software revenue guidance by removing from the
guidance non-software components of tangible products and certain software
components of tangible products. These new standards are required to be adopted
in the first quarter of 2011; however, early adoption is permitted. DCT does not
expect these new standards to significantly impact its consolidated financial
statements.
 
 Note
3 – Related-Party Transactions
 
 Related-Party
Purchases
 
 Historically,
the Company has purchased the majority of its finished scanner imaging products
from Shenzhen Syscan Technology (“SST”), a wholly-owned subsidiary of Syscan
Technology Holdings Limited (“STH”).  SST currently holds
approximately 16% of DCT’s outstanding common stock.
 
 Purchases
from SST totaled $1,854,000 and $1,173,000 for the three months ended March 31,
2010 and 2009, 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 $348,000 and $341,000 at March 31, 2010 and December 31, 2009,
respectively.
 
 Related-Party
Net Sales
 
 During
the three months ended March 31, 2010, DCT recorded net sales and cost of sales
totaling $46,000 and $39,000, respectively, for finished scanners sold to
SST.  DCT had no sales or cost of sales to SST during the three months
ended March 31, 2009.  All sales to SST contained similar terms and
conditions as for other transactions of this nature entered into by
DCT.
 
 Legal
Services Agreement
 
 On
September 15, 2009, DCT entered into a legal services agreement (“Agreement”)
with Jody R. Samuels, a director of the Company.  Pursuant to the
Agreement, Mr. Samuels will provide certain legal services to us which will
consist of assisting the Company in (i) the preparation of its periodic and
other filings with the Securities and Exchange Commission (“SEC”), including
proxy statements, special and annual meetings of shareholders, (ii) the
negotiation of financing and corporate development transactions, (iii)
preparation and review of documentation related to financing arrangements and
corporate development transactions, (iv) preparing registration statements, and
responding to any SEC inquiries/comment letters, (v) documenting corporate
governance policies and procedures, and (vi) any other legal matters reasonably
within the legal expertise of Mr. Samuels.
  - 8
-
  DOCUMENT
CAPTURE TECHNOLOGIES, INC.
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Unaudited)
 
 Pursuant
to the Agreement, Mr. Samuels is paid $4,000 per month for a total of $12,000
for the three months ended March 31, 2010.  The Agreement may be cancelled
by either party with 30 days prior written notice.
  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. Accounts at each institution are
insured by the Federal Deposit Insurance Corporation ("FDIC") up to $250,000. As
of March 31, 2010, DCT had consolidated balances of approximately $62,000, 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
                      March 31,2010
                    
                    
                    2009Customer
      A
                    
                    
                    26
                    %
                    
                    
                    *
                    %Customer
      B
                    
                    
                    20
                    
                    
                    
                    33Customer
      C
                    
                    
                    16
                    
                    
                    
                    21Customer
      D
                    
                    
                    *
                    
                    
                    
                    10Customer
      E
                    
                    
                    *
                    
                    
                    
                    10
 
 *
Customer accounted for less than 10% for the period indicated.
 
 Trade
receivables from these customers totaled $1,059,000 at March 31,
2010.  As of March 31, 2010, all the Company's trade receivables were
unsecured.
 
 Note
5 – Concentration of Supplier Risk
 
 Manufacturing.  Historically,
DCT has purchased substantially all its finished scanner imaging products from
one vendor that is also a wholly-owned subsidiary of the parent company of DCT’s
former majority stockholder.  See Note 3.  If this vendor
became unable 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.
 
 Components.  DCT
purchases some controller chips that are sole-sourced, as they are specialized
devices.  To date, DCT has been able to obtain adequate component
supplies from existing sources.  If in the future DCT became unable to
obtain sufficient quantities of required materials, components or subassemblies,
or if such items do not meet quality standards, delays or reductions in product
shipments could occur, which could harm DCT’s business, operating results and
financial condition.  Management is currently investigating ways to
mitigate this existing risk.
  - 9
-
  DOCUMENT
CAPTURE TECHNOLOGIES, INC.
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Unaudited)
 
 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 three different stock option plans (all 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).  Options generally vest over three years from the date of
grant and expire seven years from the date of grant
 
 The
following table sets forth, by the respective option plan, certain aspects of
DCT’s stock options as of March 31, 2010:
 
 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 Restated Stock Option Plan
                    
                    
                    -
                    
                    
                    
                    3,200,000
                    
                    
                    
                    3,200,000
                    
                    
                    
                    3,200,000
                    
                    
                    
                    -
                    
                    
                    
                    3,200,0002006
      Stock Option Plan
                    
                    
                    -
                    
                    
                    
                    2,500,000
                    
                    
                    
                    2,500,000
                    
                    
                    
                    2,500,000
                    
                    
                    
                    -
                    
                    
                    
                    2,500,0002009
      Stock Option Plan
                    
                    
                    -
                    
                    
                    
                    1,500,000
                    
                    
                    
                    1,500,000
                    
                    
                    
                    1,039,333
                    
                    
                    
                    460,667
                    
                    
                    
                    1,500,000Key
      Personnel Option Grants
                    
                    
                    6,375,000
                    
                    
                    
                    -
                    
                    
                    
                    6,375,000
                    
                    
                    
                    4,616,165
                    
                    
                    
                    -
                    
                    
                    
                    4,616,1656,375,000
                    
                    
                    
                    7,200,000
                    
                    
                    
                    13,575,000
                    
                    
                    
                    11,355,498
                    
                    
                    
                    460,667
                    
                    
                    
                    11,816,165
 
 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 March 31,2010
                    
                    
                    2009Selling,
      general and administrative
                    
                    $
                    138
                    
                    
                    $
                    147Research
      and development
                    
                    
                    32
                    
                    
                    
                    33$
                    170
                    
                    
                    $
                    180
 
 At March
31, 2010, DCT had approximately $1,436,000 of total unrecognized compensation
cost related to unvested stock options. This cost is expected to be recognized
over a weighted-average period of approximately 2.8 years.
 
 Stock
Option Activity and Outstanding
 
 DCT had
the following stock option activity during the three months ended March 31,
2010:
  - 10
-
  DOCUMENT
CAPTURE TECHNOLOGIES, INC.
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Unaudited)
 
 Options
                      
                      
                      Weighted-
                        Average
                        Exercise
                        PriceOutstanding
      at December 31, 2009
                      
                      
                      11,355,498
                      
                      
                      $
                      0.32Granted
                      
                      
                      -
                      
                      
                      
                      -Cancelled
                      
                      
                      -
                      
                      
                      
                      -Exercised
                      
                      
                      -
                      
                      
                      
                      -Outstanding
      at March 31, 2010
                      
                      
                      11,355,498
                      
                      
                      $
                      0.32Vested
      or expected to vest at March 31, 2010
                      
                      
                      11,355,498
                      
                      
                      $
                      0.32
  The
following table summarizes all options outstanding and exercisable by price
range as of March 31, 2010:
 
 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
                    
                    
                    
                    2.1
                    
                    
                    $
                    0.01
                    
                    
                    
                    2,241,165
                    
                    
                    $
                    0.01$0.30-$0.35
                    
                    
                    7,028,333
                    
                    
                    
                    8.8
                    
                    
                    $
                    0.31
                    
                    
                    
                    1,384,583
                    
                    
                    $
                    0.30$0.51
                    
                    
                    150,000
                    
                    
                    
                    8.8
                    
                    
                    $
                    0.51
                    
                    
                    
                    50,000
                    
                    
                    $
                    0.51$0.60
      - $0.70
                    
                    
                    1,936,000
                    
                    
                    
                    6.8
                    
                    
                    $
                    0.69
                    
                    
                    
                    1,936,000
                    
                    
                    $
                    0.6911,355,498
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    5,611,748
 
 The
“intrinsic value” of options is the excess of the value of DCT stock over the
exercise price of such options.  The total intrinsic value of options
outstanding (of which all are expected to vest) was approximately $650,000 and
$788,000 at March 31, 2010 and December 31, 2009, respectively. The total
intrinsic value for exercisable options was $650,000 and $722,000 at March 31,
2010 and December 31, 2009, respectively. No options were exercised during the
three months ended March 31, 2010.
 
 Note
7 – Earnings per Common Share - Basic and Diluted
 
 Basic
earnings per common share is computed by dividing net income (loss) by the
weighted average number of shares of common stock outstanding during the
period.  Diluted earnings per common 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 of 2,200,000 were taken into consideration in calculating
diluted earnings per common share for the three months ended March 31, 2010, but
the impact did not change earnings per common share.  Common stock
equivalents of 3,885,000 were not considered in calculating DCT’s diluted
earnings per common share for the three months ended March 31, 2009 as their
effect would be anti-dilutive.  As a result, for all periods
presented, DCT’s basic and diluted earnings per share are the same.
 
 Note
8 – Equity
 
 Common
Stock
 
 DCT had
no common stock activity during the three months ended March 31,
2010.
  - 11
-
  DOCUMENT
CAPTURE TECHNOLOGIES, INC.
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Unaudited)
 
 DCT’s
Board of Directors approved the issuance of 25,000 restricted common shares to a
consultant for investor relations services rendered during the three months
ended March 31, 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,
which was completed prior to March 31, 2009. Accordingly, $11,000 was charged to
selling, general and administrative expense and credited to additional paid-in
capital during the three months ended March 31, 2009.
 
 Preferred
Stock
 
 During
the three months ended March 31, 2009, DCT reported $12,000 of accretion of
preferred stock redemption value associated with its series B convertible
redeemable preferred stock (“Series B Stock”), which matured August 7,
2009.  DCT had no other preferred stock activity during any period
presented.
 
 Common
Stock Warrants
 
 DCT had
the following common stock warrant activity during the three months ended March
31, 2010:
 
 WarrantsOutstanding
      at December 31, 2009
                      
                      
                      2,002,027Expired
                      
                      
                      (1,209,000
                      )Issued
                      
                      
                      167,000Outstanding
      at March 31, 2010
                      
                      
                      960,027
 
 In
certain instances, DCT issues warrants for consulting 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 $40,000 and $100,000 during the three months ended March 31,
2010 and 2009, respectively. DCT estimated the fair value of the warrants issued
under the Black-Scholes valuation model using the following
assumptions:
 
 Three Months Ended March 31,2010
                    
                    
                    2009Weighted
      average expected life in years
                    
                    
                    3.0
                    
                    
                    
                    3.0Weighted
      average expected volatility
                    
                    
                    297
                    %
                    
                    
                    266
                    %Expected
      dividend yield
                    
                    
                    0
                    %
                    
                    
                    0
                    %Weighted
      average risk free interest rate
                    
                    
                    1.6
                    %
                    
                    
                    1.8
                    %
 
 Note
9 – Bank Line of Credit
 
 As of
March 31, 2010, DCT had a $2,000,000 line of credit (“LOC”) at a commercial
bank.  Borrowings under the LOC are limited to (i) 80% of eligible
accounts receivable less the aggregate face amount of all outstanding letters of
credit, cash management services, and foreign exchange contracts, and (ii) 40%
of eligible inventory (all as defined in the LOC agreement).  The
interest rate is prime (3.25% at March 31, 2010) plus 2.75% for advances drawn
against receivables, with a minimum interest rate of 6%; and prime plus 3.75%
for advances drawn against inventory, with a minimum interest rate of
7%.  Interest payments are due monthly and all unpaid interest and
principal is due in full on September 2, 2010.
 
 Upon
certain events of default (as defined in the LOC agreement), the default
variable interest rate increases five percentage points above the interest rate
applicable immediately prior to the default.  Additionally, the lender
has the right to declare all of the amounts due under the LOC immediately due
and payable upon an event of default.
 
 As of
March 31, 2010, DCT was in compliance with all LOC debt covenants and had unused
borrowing capacity of $1,575,000.
  - 12
-
  DOCUMENT
CAPTURE TECHNOLOGIES, INC.
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Unaudited)
 
 During
September 2009, in connection with the LOC origination, DCT paid the lender a
loan origination fee and legal fees which totaled approximately $20,000, and
issued a warrant to purchase 68,027 shares of the Company’s Common Stock at
$0.588 per share.   During March 2010, in connection with
increasing the LOC borrowing base, DCT paid the lender a loan modification fee
of $6,000.   The loan origination, modification, and legal fees
are recorded as deferred financing costs included in other current assets and
are being amortized over the life of the loan to interest
expense.  The $35,000 fair value of the warrants was determined using
the Black-Scholes valuation model with the following assumptions: remaining
contractual term of 7 years, 2.9% risk-free interest rate, expected volatility
of 406% and expected dividend yield of 0%.  The fair value of the
warrants was initially recorded as debt discount, with an offset to additional
paid in capital, and is being amortized over the life of the loan to interest
expense.
 
 DCT’s LOC
balance at March 31, 2010 was comprised of the following (in thousands):
  Total
      principal due
                        
                        $
                        250Less
      unamortized debt discount
                        
                        
                        (14
                        )$
                        236
 
 Interest
Expense Related to Amortization of Warrant Fair Values and Loan Origination
Fee
 
 The
Company recorded non-cash interest expense of $15,000 during the three months
ended March 31, 2010 in connection with the LOC warrants and amortization of the
LOC origination, modification and legal fees.
  Note
10 – Commitments and Contingencies
  Operating
Leases
  The
Company is committed under various non-cancelable operating leases which extend
through June 2011. Future minimum rental commitments as of March 31, 2010 are as
follows (in
thousands):
  Year Ending
                        March 31,
                      
                      Future
                        Minimum
                        Lease
                        Payments2011
                      
                      $
                      552012
                      
                      
                      1$
                      56
  The above
table reflects the current leases for DCT’s corporate headquarters and its
inventory management and distribution, which both expire June 30,
2010.  DCT expects to enter into new leases effective July 1, 2010
with similar terms, conditions and costs as existing leases.
  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
March 31, 2010 termination payments totaling $1,055,000 remain in
effect.
  - 13
-
  DOCUMENT
CAPTURE TECHNOLOGIES, INC.
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Unaudited)
 
 Research
and Development Agreement
  During
the second quarter of 2009, the Company entered into an agreement (“Development
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 owned 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).  During the
first 12 months following the initial product shipment, the customer is
committed to buying a certain minimum number of scanners developed under this
agreement.
 
 At March,
31, 2010, DCT had $36,000 of deferred revenue associated with the Development
Agreement, which will be recognized upon shipment of the developed
product.
  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.
  Note
11 – Segment and Geographic Information
 
 Segment
Information
 
 DCT
operates in one segment: the design, development and delivery of various imaging
technology solutions, most notably scanners.
 
 Geographic
Information
 
 During
the three months ended March 31, 2010 and 2009, DCT recorded net sales
throughout the U.S., Asia and Europe as determined by the final destination of
the product.  The following table summarizes total net sales
attributable to significant countries (in thousands):
 
 ThreeMonthsEnded
                          March31,2010
                        
                        
                        2009U.S.
                        
                        $
                        3,105
                        
                        
                        $
                        1,711Europe
                        
                        
                        277
                        
                        
                        
                        304Asia
                        
                        
                        46
                        
                        
                        
                        -$
                        3,428
                        
                        
                        $
                        2,015
 
 Presented
below is information regarding identifiable assets, classified by operations
located in the U.S., Europe and Asia (in thousands):
 March31,
                          2010
                        
                        
                        December31,
                          2009U.S.
                        
                        $
                        3,795
                        
                        
                        $
                        3,574Asia
                        
                        
                        85
                        
                        
                        
                        110Europe
                        
                        
                        124
                        
                        
                        
                        128$
                        4,004
                        
                        
                        $
                        3,812
  Assets
located in Asia relate to tooling equipment required to manufacture DCT’s
product.  Assets located in Europe relate to DCT’s field service,
sales, distribution and inventory management in the
Netherlands.
  - 14
-
  DOCUMENT
CAPTURE TECHNOLOGIES, INC.
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (Unaudited)
 
 Note
12 – Subsequent Events
 
 Stock
Option Grants to Officers and Directors
 
 On April
29, 2010 the Company’s board of directors granted an aggregate of 1,000,000
options to certain officers and directors of the company pursuant to the 2010
Stock Option Plan.  The options are exercisable for a period of ten
years from the date of grant at an exercise price of $0.29 per share and vest as
follows: one-third on April 29, 2011, one-third on April 29, 2012 and one-third
on April 29, 2013.
 
 Related
Party Transactions
 
 Stock Option Grants and
Amended Consulting Agreement. On April 29, 2010, the
Company’s board of directors approved an amendment to the business advisory and
consulting agreement between the Company and each of Richard “Bo” Dietl and
Daniel DelGiorno (the “Consultants”) dated July 28, 2008, whereby in addition to
the services already being provided pursuant to the agreement, the Consultants
will provide investor relations services in exchange for options to purchase up
to 1,500,000 shares of the Company’s common stock at a price of $0.30 per
share.  The options vest over a two year period with 50% of such
options vesting at the end of the first and second years of the agreement;
however, in the event of a change of control in the Company’s securities or
assets pursuant to introductions specifically made by Consultants to the
Company, all of the options shall immediately vest 100% in conjunction with such
event.  A change of control shall be defined as a change of ownership
of 50% or more of the Company’s securities, or voting control thereof, or a
transfer of more than 50% of the Company’s tangible and/or intangible
assets.
 
 Agreement to License Office
Space.On April 26,
2010, DCT entered into a two-year license agreement (“License”) with Richard
“Bo” Dietl and Associates (“BDA”) to license office space from BDA in New York
City.  The purpose of the License is for DCT to have a physical
presence in New York City.  In connection with the License, the
Company paid BDA an upfront license fee of $50,000 as payment in
full.  The License can be cancelled by either party with 90 days
written notice.
 
 Agreement  for
Finder’s Fee.  On April 30, 2010, DCT entered into a
non-exclusive six-month agreement with BDA, whereby BDA will provide
introductions to third parties who might be interested in investing or otherwise
providing sources of financing to DCT.  If DCT actually closes on any
financing as a result of introductions by BDA, BDA will receive 10% of the
proceeds.
  - 15
-
 
 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,
2009 as filed with the Securities and Exchange Commission on March 31,
2010.  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 to anticipate 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 months ended March 31, 2010 compared to the three
      months ended March 31, 2009.  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 three months ended
      March 31, 2010 as compared to the three months ended March 31,
      2009.
  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 related to document digitization and utilization. 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 five 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.
  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.
  - 16
-
  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, 2009 have not materially changed since that
report was filed.
  - 17
-
  Results
of Operations
 
 The
following table summarizes certain aspects of our results of operations for the
three months ended March 31, 2010 compared to the three months ended March 31,
2009 (in
thousands):
 
 Three Months
                          Ended March 31,2010
                        
                        
                        2009
                        
                        
                        $ Change
                        
                        
                        % ChangeNet
      sales
                        
                        $
                        3,428
                        
                        
                        $
                        2,015
                        
                        
                        $
                        1,413
                        
                        
                        
                        70
                        %Cost
      of sales
                        
                        
                        2,103
                        
                        
                        
                        1,237
                        
                        
                        
                        866
                        
                        
                        
                        70As
      a percentage of sales
                        
                        
                        61
                        %
                        
                        
                        61
                        %Selling,
      general and administrative expense
                        
                        
                        966
                        
                        
                        
                        1,189
                        
                        
                        
                        (223
                        )
                        
                        
                        (19
                        )Research
      and development expense
                        
                        
                        265
                        
                        
                        
                        231
                        
                        
                        
                        34
                        
                        
                        
                        15Non-operating
      income (expense)
                        
                        
                        (36
                        )
                        
                        
                        -
                        
                        
                        NM
                        
                        
                        NMNM
      = Not Meaningful
 
 Net
Sales
 
 The
increase in net sales during the three months ended March 31, 2010 as compared
to the three months ended March 31, 2009 is primarily attributable to the
gradual strengthening of the general economic and market conditions in the U.S.
economy and the information technology (“IT”) capital spending.  Sales
during the three months ended March 31, 2009 were atypical as a result of such
slowdown.
 
 Our net
sales were also positively impacted during the three months ended March 31, 2010
by our increased sales efforts and market recognition of our newer and more
feature-rich products, and our ability to capitalize on several market
opportunities.
 
 International
sales are strategically important to the growth of our business and represented
9% and 15% of our total sales during the three months ended March 31, 2010 and
2009, respectively.  We continue to focus on expansion internationally
and are working toward broadening our product support and fulfillment
capabilities in Europe, Middle East, Africa and Western Asia.
 
 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 62% and 74% during the three
months ended March 31, 2010 and 2009, respectively.   See
Note 4 included in Part I, “Item 1- Financial Statements.”  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.
 
 From time
to time, our key customers place large orders causing our quarterly sales to
fluctuate significantly.   Additionally, the timing of when we
receive product to sell has a significant impact to our sales.  We
expect both of these trends and resulting fluctuations to continue.
 
 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, software royalties, and
depreciation of tooling equipment. Cost of sales as a percentage of sales during
the three months ended March 31, 2010 as compared to the three months ended
March 31, 2009 was positively impacted by our continued efforts toward the
reduction of the cost of our products and value added third party software
bundles. Cost of sales as a percentage of sales during the three months ended
March 31, 2010 as compared to the three months ended March 31, 2009 was
negatively impacted by a higher proportion of overall net sales generated from
our less feature-rich products, which typically bear lower gross margins than
our scanners with more product features.
  - 18
-
  We expect
our cost of sales as a percentage of net sales to fluctuate somewhat during the
remainder of 2010 as we experience changes in our product mix and as 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 and logistics
are also included.
  The
decrease in selling and marketing expense during the three months ended March
31, 2010 as compared to the three months ended March 31, 2009 was primarily
attributable to the following:
  ·
              Decreased
      investor relations efforts associated with DCT’s initiatives toward
      further reducing operating
expenses;
  ·
              Decreased
      accounting fees associated with retaining the same independent accounting
      firm from year to year;
  ·
              Decreased
      legal fees; and
  ·
              Decreased
      amortization of the fair value (a non-cash charge) of equity instruments
      issued for consulting services to $40,000 during the three months ended
      March 31, 2010 from $111,000 during the three months ended March 31,
      2009.  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
fluctuate as our business continues to grow and the costs associated with being
a public company continue to increase.  We continue to work to offset
these expenses by reducing overhead expenses and streamlining
operations
 
 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 increased research and development expense was
primarily attributable to increased personnel expenses, as our headcount during
the three months ended March 31, 2010 was double the headcount during the three
months ended March 31, 2009.
 
 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 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.
  Non-Operating
Income (Expense)
 
 The most
significant components of our non-operating income (expense) during the three
months ended March 31, 2010 were (i) interest expense
totaling  $25,000, of which $15,000 was non-cash and attributable to
amortization of debt issuance costs, and (ii) realized loss on foreign currency
resulting from the devaluation of the Euro against the US dollar.
  - 19
-
  Other
income (expense) during the three months ended March 31, 2009 was immaterial to
our results of operations.
 
 Liquidity
and Capital Resources
 
 At March
31, 2010, principal sources of liquidity included cash and cash equivalents of
$165,000 and an available borrowing capacity of $1,575,000 on our bank line of
credit.  During March 2010, we negotiated an increase to our existing
line of credit borrowing, which gave us approximately $500,000 additional
borrowing capacity.  We had no significant cash outlays, except as
part of our normal operations, during the three months ended March 31, 2010 or
March 31, 2010.
 
 The
following table summarizes certain aspects of DCT’s liquidity (in thousands):
 
 As of or for the Three
                      Months Ended March 31,2010
                    
                    
                    2009Cash
      and cash equivalents
                    
                    $
                    165
                    
                    
                    $
                    207Working
      capital
                    
                    
                    2,696
                    
                    
                    
                    1,471Cash
      used by operating activities
                    
                    
                    (140
                    )
                    
                    
                    (540
                    )Cash
      used by investing activities
                    
                    
                    (45
                    )
                    
                    
                    (7
                    )Cash
      provided by financing activities
                    
                    
                    22
                    
                    
                    
                    349
 
 Operating
activities:
 
 Cash used
by operations during the three months ended March 31, 2010 was primarily a
result of our $56,000 net income, $287,000 of net non-cash expenses and $483,000
net cash used by changes in operating assets and liabilities.  Cash
used by operations during the three months ended March 31, 2009 was primarily a
result of our $642,000 net loss, $300,000 of net non-cash expenses, and $198,000
net cash provided by changes in operating assets and liabilities.
 
 Non-cash
items included in net loss are depreciation expense, stock-based compensation
cost of options, fair value of warrants issued for services rendered, and
amortization of debt discount.  The most significant change in
operating assets and liabilities during the three months ended March 31, 2010
was attributable to the increased accounts receivable as a results of increased
revenues during the period.  The remaining changes in operating assets
and liabilities during both the three months ended March 31, 2010 and 2009 were
indicative of the normal operational fluctuations related to the timing of
product shipments, trade receivable collections, inventory management, and
timing of vendor payments.
 
 We expect
future cash provided (used) by operating activities to fluctuate, primarily as a
result of fluctuations in operating results, timing of product shipments, trade
receivables collections, inventory management and timing of vendor
payments.
 
 Investing
activities:  Investing activities for both the three months
ended March 31, 2010 and 2009 included capital purchases to support normal
business operations.
  Financing
activities:  During the three months ended March 31, 2010,
financing activities consisted of (i) negotiating an increase to our existing
line of credit borrowing base, and (ii) $28,000 line of credit draw to meet
short-term obligations incurred during the normal course of
business.  During the three months ended March 31, 2009, financing
activities consisted of a $349,000 draw against our bank line of credit to meet
short-term obligations incurred during the normal course of
business.
  - 20
-
  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.
 
 DCT’s
current line of credit matures on September 2, 2010.  Our current
lender has already communicated the desire to extend DCT’s current credit
facility through September 2011.  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 March 31, 2010, 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
                    
                    
                    YearsLine
      of credit (1)
                    
                    $
                    250
                    
                    
                    $
                    250
                    
                    
                    $
                    -
                    
                    
                    $
                    -Operating
      lease obligations
                    
                    
                    56
                    
                    
                    
                    55
                    
                    
                    
                    1
                    
                    
                    
                    -Total
      contractual cash obligations
                    
                    $
                    306
                    
                    
                    $
                    305
                    
                    
                    $
                    1
                    
                    
                    $
                    -
 
 (1)
As of March 31, 2010, DCT had a $2,000,000 line of credit (“LOC”) at a
commercial bank.  Borrowings under the LOC are limited to (i) 80% of
eligible accounts receivable less the aggregate face amount of all outstanding
letters of credit, cash management services, and foreign exchange contracts, and
(ii) 40% of eligible inventory (all as defined in the LOC
agreement).  The interest rate is prime (3.25% at March 31, 2010) plus
2.75% for advances drawn against receivables, with a minimum interest rate of
6%; and prime plus 3.75% for advances drawn against inventory, with a minimum
interest rate of 7%.  Interest payments are due monthly and all unpaid
interest and principal is due in full on September 2, 2010.
 
 Upon
certain events of default (as defined in the LOC agreement), the default
variable interest rate increases five percentage points above the interest rate
applicable immediately prior to the default.  Additionally, the lender
has the right to declare all of the amounts due under the LOC immediately due
and payable upon an event of default.
 
 As of
March 31, 2010, DCT was in compliance with all LOC debt covenants.
 
 Off-Balance
Sheet Arrangements
 
 At March
31, 2010, 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 10 -
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 March
31, 2010, which are likely to have a material effect on our future
liquidity.
  - 21
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  Item
4T – Controls and Procedures
 
 Evaluation
of Disclosure Controls and Procedures
 
 We
conducted an evaluation under the supervision and with the participation of our
management, including our Chief Executive Officer (Principal Executive Officer)
and Chief Financial Officer (Principal Financial Officer), of the effectiveness
of the design and operation of our disclosure controls and procedures. The term
“disclosure controls and procedures,” as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange
Act”), means controls and other procedures of a company that are designed to
ensure that information required to be disclosed by the company in the reports
it files or submits under the Exchange Act is recorded, processed, summarized
and reported within the time periods specified in the Securities and Exchange
Commission's rules and forms. Disclosure controls and procedures also include,
without limitation, controls and procedures designed to ensure that information
required to be disclosed by a company in the reports that it files or submits
under the Exchange Act is accumulated and communicated to the company's
management, including its principal executive and principal financial officers,
or persons performing similar functions, as appropriate, to allow timely
decisions regarding required disclosure. Based on this evaluation, our Chief
Executive Officer and Chief Financial Officer have concluded that our disclosure
controls and procedures were not effective as of March 31, 2010 for the reasons
discussed below related to material weaknesses in our internal control over
financial reporting.
 
 Discussion
and Management’s Remediation Initiatives
 
 At March
31, 2010, we did not have an independent financial expert on our Board of
Directors, which resulted in ineffective comprehensive entity-level internal
controls specific to the structure of our Board of Directors.  We are
currently in the process of interviewing candidates that meet the definition of
independent and financial expert and can fill the vacant position on our Board
of Directors.
 
 Conclusion
 
 To
mitigate the above identified material weakness, DCT’s executive management, two
of whom are also members of DCT’s Board of Directors, performed detailed
analyses.  These included, but were not limited to, a detailed balance
sheet and statement of operations analytical review that compared changes from
the prior period’s financial statements and analyzed all significant
differences. Additionally, DCT’s executive management compared the actual
results of operations to its internal budgeted forecast and investigated any
items where the actual results differed from expectations.  In
addition to executive management’s detailed analyses, DCT’s independent board
members performed extensive analysis of our financial performance.
 
 Such
detailed analyses were completed so management and our board of directors could
gain assurance that the financial statements and schedules included in this
Quarterly Report on Form 10-Q present fairly, in all material respects,
DCT’s financial position, results of operations and cash flows for all periods
presented.
 
 Evaluation
of Changes in Internal Control over Financial Reporting
  Under the
supervision and with the participation of our management, including our
Principal Executive Officer and Principal Financial Officer, we have determined
that, during the three months ended March 31, 2010, there were no changes in our
internal control over financial reporting that have materially affected, or are
reasonably likely to materially affect, our internal control over financial
reporting.
  - 22
-
  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 is 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, 2009 as filed with the Securities and
Exchange Commission on March 31, 2010.
 
 Item
2 - Unregistered Sales of Equity Securities and Use of Proceeds
 
 On April
29, 2010 the Company’s board of directors granted an aggregate of 1,000,000
options to certain officers and directors of the company pursuant to the 2010
Stock Option Plan.  The options are exercisable for a period of ten
years from the date of grant at an exercise price of $0.29 per share and vest as
follows: one-third on April 29, 2011, one-third on April 29, 2012 and one-third
on April 29, 2013.
 
 On April
29, 2010, the Company’s board of directors approved an amendment to the business
advisory and consulting agreement between the Company and each of Richard “Bo”
Dietl and Daniel DelGiorno (the “Consultants”) dated July 28, 2008, whereby in
addition to the services already being provided pursuant to the agreement, the
Consultants will provide investor relations services in exchange for options to
purchase up to 1,500,000 shares of the Company’s common stock at a price of
$0.30 per share.  The options vest over a two year period with 50% of
such options vesting at the end of the first and second years of the agreement;
however, in the event of a change of control in the Company’s securities or
assets pursuant to introductions specifically made by Consultants to the
Company, all of the options shall immediately vest 100% in conjunction with such
event.  A change of control shall be defined as a change of ownership
of 50% or more of the Company’s securities, or voting control thereof, or a
transfer of more than 50% of the Company’s tangible and/or intangible
assets.
 
 Item
3 - Defaults Upon Senior Securities
 
 None.
 
 Item
5 - Other Information
 
 On April
29, 2010, the Company’s board of directors adopted the Company’s 2010 Stock
Option Plan pursuant to which it authorized the issuance of up to 2,000,000
options pursuant to the plan.  A copy of the 2010 Stock Option Plan is
attached hereto as Exhibit 10.1.
  - 23
-
  Item
6 - Exhibits
 
 Exhibit
                      Number
                    
                    DescriptionofExhibit
                    
                    MethodofFiling10.1
                    
                    2010
      Stock Option Plan
                    
                    Filed
      herewith10.2
                    
                    Business
      Advisory and Consulting Agreement between the Company, Richard “Bo” Dietl
      and Daniel DelGiorno dated July 28, 2008
                    
                    Filed
      herewith10.3
                    
                    Amendment
      #1 to the  Business Advisory and Consulting Agreement between
      the Company, Richard “Bo” Dietl and Daniel DelGiorno dated August 3,
      2009
                    
                    Filed
      herewith10.4
                    
                    Amendment
      #2 to the  Business Advisory and Consulting Agreement between
      the Company, Richard “Bo” Dietl and Daniel DelGiorno dated April 29,
      2010
                    
                    Filed
      herewith10.5
                    
                    License
      agreement between the Company and  Richard “Bo” Dietl and
      Associates dated April 26, 2010
                    
                    Filed
      herewith31.1
                    
                    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
                    
                    Certifications
      Pursuant to Section 906 of the Sarbanes-Oxley Act – David P.
      Clark
                    
                    Filed
      herewith32.2
                    
                    Certifications
      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: May
      24, 2010/s/
      David P. ClarkDavid
      P. Clark, Chief Executive OfficerDate:
      May 24, 2010/s/
      M. Carolyn EllisM.
      Carolyn EllisChief
      Financial Officer
  - 25
-