U.S.
SECURITIES AND EXCHANGE COMMISSION


Washington,
D.C. 20549





FORM
10-Q




(Mark
one)




x
            Quarterly
      Report Under Section 13 or 15(d) of the Securities Exchange Act of
      1934




For
the Quarterly Period Ended March 31, 2009


Or




 ̈
            Transition
      Report Under Section 13 or 15(d) of the Securities Exchange Act of
      1934




Commission
File Number 001-33353




INNOVATIVE CARD
TECHNOLOGIES, INC.


(Exact
name of registrant as specified in its charter)


Delaware
              
              90-0249676State
      or other jurisdiction of
                incorporation
      or organization
              
              (I.R.S.
      Employer
                Identification
      No.)633
      West Fifth Street, Suite 2600
                Los
      Angeles, CA
              
              90071(Address
      of principal executive offices)
              
              (Zip
      Code)




Registrant’s
telephone number, including area code(310) 312-0700





Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90
days.              
xYes   ̈    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 (§232.405 of this
chapter) during the preceding
12 months (or for such shorter period that the registrant was required to submit
and post such files).





 ̈Yes   ̈    No





Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the 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   ̈  (Do
      not check if a small reporting company)
              Smaller
      reporting company  x




Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act)


 ̈Yes  x    No





As of
June 12, 2009 there were 28,495,256 shares of common stock, $.0001 par value,
issued and outstanding.





Innovative
Card Technologies, Inc.




Table of
Contents


PagePART
      I -
                    
                    FINANCIAL
      INFORMATION
                    3Item
      1.
                    
                    Financial
      Statements
                    3Condensed
      Consolidated Balance Sheets as of March 31, 2009 (Unaudited) and December
      31, 2008
                    3Condensed
      Consolidated Statements of Operations (Unaudited)Three
      months ended March 31, 2009 and 2008
                    4Condensed
      Consolidated Statements of Cash Flows (Unaudited)Three
      months ended March 31, 2009 and 2008
                    5Notes
      to Condensed Consolidated Financial Statements (Unaudited)
                    6Item
      2.
                    
                    Management's
      Discussion and Analysis of Financial Condition and Results
      of Operations
                    14Item
      3.
                    
                    Quantitative
      and Qualitative Disclosures about Market Risk
                    22Item
      4.
                    
                    Controls
      and Procedures
                    22PART
      II -
                    
                    OTHER
      INFORMATION
                    24Item
      1.
                    
                    Legal
      Proceedings
                    24Item
      1A.
                    
                    Risk
      Factors
                    24Item
      2.
                    
                    Unregistered
      Sales of Equity Securities and Use of Proceeds
                    30Item
      3.
                    
                    Defaults
      Upon Senior Securities
                    30Item
      4.
                    
                    Submission
      of Matters to a Vote of Security Holders.
                    30Item
      5.
                    
                    Other
      Information
                    30Item
      6.
                    
                    Exhibits




2


PART
I


FINANCIAL
INFORMATION





ITEM
1.                FINANCIAL
STATEMENTS





INNOVATIVE
CARD TECHNOLOGIES, INC.


CONDENSED
CONSOLIDATED BALANCE SHEETS





March
      31,
                      
                      
                      December
      31,2009
                      
                      
                      2008(Unaudited)AssetsCurrent
      assets:Cash
      and cash equivalents
                      
                      $
                      266,498
                      
                      
                      $
                      76,645Accounts
      receivable, net of allowance for doubtful accounts of
    $60,000
                      
                      
                      202,130
                      
                      
                      
                      190,767Prepaids
      and other current assets
                      
                      
                      130,299
                      
                      
                      
                      174,178Deposits
      on raw materials held for production
                      
                      
                      272,069
                      
                      
                      
                      268,318Raw
      materials held for production
                      
                      
                      460,587
                      
                      
                      
                      347,529Work
      in progress inventory, net
                      
                      
                      1,193,489
                      
                      
                      
                      1,454,940Total
      current assets
                      
                      
                      2,525,072
                      
                      
                      
                      2,512,377Property
      and equipment
                      
                      
                      154,646
                      
                      
                      
                      171,722Deferred
      debt issuance cost
                      
                      
                      -
                      
                      
                      
                      449,052Deposits
                      
                      
                      57,919
                      
                      
                      
                      62,971Total
      assets
                      
                      $
                      2,737,637
                      
                      
                      $
                      3,196,122Liabilities
      and stockholders' deficitCurrent
      liabilities:Accounts
      payable and accrued expenses
                      
                      $
                      1,200,146
                      
                      
                      $
                      1,281,602Accounts
      payable - related parties
                      
                      
                      600,010
                      
                      
                      
                      600,010Accrued
      interest
                      
                      
                      333,823
                      
                      
                      
                      31,689Warranty
      reserve
                      
                      
                      239,641
                      
                      
                      
                      198,854Deferred
      rent
                      
                      
                      39,713
                      
                      
                      
                      56,929Deferred
      revenue
                      
                      
                      1,811,558
                      
                      
                      
                      1,169,9578%
      convertible debentures
                      
                      
                      11,451,914
                      
                      
                      
                      -Total
      current liabilities
                      
                      
                      15,676,805
                      
                      
                      
                      3,339,0418%
      convertible debentures, net of discount of $5,384,054
                      
                      
                      -
                      
                      
                      
                      3,425,111Warrant
      liability
                      
                      
                      76,275
                      
                      
                      
                      19,055Conversion
      liability
                      
                      
                      52,108
                      
                      
                      
                      -Total
      liabilities
                      
                      
                      15,805,188
                      
                      
                      
                      6,783,207Stockholders'
      deficitPreferred
      stock, $0.001 par value, 5,000,000 shares authorized, no shares issued and
      outstanding
                      
                      
                      -
                      
                      
                      
                      -Common
      stock, $0.001 par value, 75,000,000 shares authorized, 28,495,256 and
      28,495,256 shares issued and outstanding, respectively
                      
                      
                      28,495
                      
                      
                      
                      28,495Additional
      paid-in capital
                      
                      
                      30,287,269
                      
                      
                      
                      33,381,140Accumulated
      deficit
                      
                      
                      (43,383,315
                      )
                      
                      
                      (36,996,720
                      )Total
      stockholders' deficit
                      
                      
                      (13,067,551
                      )
                      
                      
                      (3,587,085
                      )Total
      liabilities and stockholders' deficit
                      
                      $
                      2,737,637
                      
                      
                      $
                      3,196,122





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


3


INNOVATIVE
CARD TECHNOLOGIES, INC.


CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS


FOR THE
THREE MONTHS ENDED MARCH 31, 2009 AND 2008


(Unaudited)





2009
                
                
                2008Revenues
                
                $
                534,223
                
                
                $
                217,216Cost
      of goods sold
                
                
                586,960
                
                
                
                196,667Gross
      margin
                
                
                (52,737
                )
                
                
                20,549Operating
      expensesAdministrative
                
                
                548,074
                
                
                
                1,403,598Consulting
      fees
                
                
                17,433
                
                
                
                120,098Professional
      fees
                
                
                72,199
                
                
                
                248,031Research
      and development
                
                
                43,209
                
                
                
                179,816Total
      operating expense
                
                
                680,915
                
                
                
                1,951,543Loss
      from operations
                
                
                (733,652
                )
                
                
                (1,930,994
                )Other
      income (expense)Change
      in fair value of warrant and conversion liability
                
                
                (103,267
                )
                
                
                125,661Interest
      income
                
                
                29
                
                
                
                9,073Interest
      expense
                
                
                (10,069,379
                )
                
                
                (165,381
                )Total
      other expense
                
                
                (10,172,617
                )
                
                
                (30,647
                )Loss
      before provision for income taxes
                
                
                (10,906,269
                )
                
                
                (1,961,641
                )Provision
      for income taxes
                
                
                -
                
                
                
                (800
                )Net
      loss
                
                
                (10,906,269
                )
                
                
                (1,962,441
                )Basic
      and diluted loss per share
                
                $
                (0.38
                )
                
                $
                (0.07
                )Weighted
      average shares outstanding, basic and diluted
                
                
                28,495,256
                
                
                
                28,433,116





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


4





INNOVATIVE
CARD TECHNOLOGIES, INC.


CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS


FOR THE
THREE MONTHS ENDED MARCH 31, 2009 AND 2008


(Unaudited)





2009
                    
                    
                    2008Cash
      flows from operating activities:Net
      loss
                    
                    $
                    (10,906,269
                    )
                    
                    $
                    (1,962,441
                    )Adjustments
      to reconcile net loss to net cash provided by (used in) operating
      activities:Depreciation
      and amortization
                    
                    
                    17,076
                    
                    
                    
                    179,642Change
      in fair value of warrant liability
                    
                    
                    57,220
                    
                    
                    
                    (125,661
                    )Change
      in fair value of conversion liability
                    
                    
                    46,047
                    
                    
                    
                    -Amortization
      of debt discount
                    
                    
                    6,671,835
                    
                    
                    
                    80,062Amortization
      of deferred debt issuance costs
                    
                    
                    449,052
                    
                    
                    
                    7,742Debt
      default penalty
                    
                    
                    2,642,749
                    
                    
                    
                    -Share
      based compensation expense
                    
                    
                    144,083
                    
                    
                    
                    673,321Change
      in provision for obsolete inventory
                    
                    
                    106,585
                    
                    
                    
                    -(Increase)
      decrease in accounts receivable
                    
                    
                    (11,363
                    )
                    
                    
                    (223,938
                    )(Increase)
      decrease in prepaids and other current assets
                    
                    
                    43,879
                    
                    
                    
                    552(Increase)
      decrease in deposits on raw materials held for production
                    
                    
                    (3,751
                    )
                    
                    
                    30,254(Increase)
      decrease in raw materials held for production
                    
                    
                    (213,604
                    )
                    
                    
                    122,459(Increase)
      decrease in work in progress inventory
                    
                    
                    255,412
                    
                    
                    
                    (482,354
                    )(Increase)
      decrease in deposits
                    
                    
                    5,052
                    
                    
                    
                    49,381Increase
      (decrease) in accounts payable and accrued expenses
                    
                    
                    (81,456
                    )
                    
                    
                    (1,618,563
                    )Increase
      (decrease) in accounts payable - related parties
                    
                    
                    -
                    
                    
                    
                    (61,889
                    )Increase
      (decrease) in accrued interest
                    
                    
                    302,134
                    
                    
                    
                    -Increase
      (decrease) in warranty reserve
                    
                    
                    40,787
                    
                    
                    
                    13,667Increase
      (decrease) in deferred rent
                    
                    
                    (17,216
                    )
                    
                    
                    -Increase
      (decrease) in deferred revenue
                    
                    
                    641,601
                    
                    
                    
                    69,068Net
      cash provided by (used in) operating activities
                    
                    
                    189,853
                    
                    
                    
                    (3,248,698
                    )Cash
      flows from financing activities:Proceeds
      from issuance of 8% convertible debentures
                    
                    
                    -
                    
                    
                    
                    3,500,000Payments
      on debt issuance cost
                    
                    
                    -
                    
                    
                    
                    (290,000
                    )Net
      cash provided by financing activities
                    
                    
                    -
                    
                    
                    
                    3,210,000Net
      increase (decrease) in cash and cash equivalents
                    
                    
                    189,853
                    
                    
                    
                    (38,698
                    )Cash
      and cash equivalents, beginning of period
                    
                    
                    76,645
                    
                    
                    
                    339,600Cash
      and cash equivalents, end of period
                    
                    $
                    266,498
                    
                    
                    $
                    300,902Supplemental
      Schedule of Cash Flow Information:Cash
      paid for interest
                    
                    $
                    1,885
                    
                    
                    $
                    -Cash
      paid for income tax
                    
                    $
                    -
                    
                    
                    $
                    800Supplemental
      disclosure of non-cash financing activities:Debt
      discount attributable to beneficial conversion feature
                    
                    $
                    -
                    
                    
                    $
                    1,534,460Debt
      discount attributable to warrant liability
                    
                    $
                    -
                    
                    
                    $
                    1,464,454





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


5


INNOVATIVE
CARD TECHNOLOGIES, INC.
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
31, 2009
 (Unaudited)
 
 NOTE
1 - ORGANIZATION AND LINE OF BUSINESS
 
 COMPANY
OVERVIEW
 
 The
Company develops and markets secure powered cards for payment, identification,
physical and logical access applications. Our main product, the ICT DisplayCard,
integrates the security of a one-time password token directly into a card the
size of a standard credit or debit card. A token is a portable physical device,
typically in a key-fob form factor, that generates the one-time password (also
referred to as a one-time passcode). At the push of a button on the back of the
ICT DisplayCard, a one-time passcode (OTP) is shown on the card’s integrated
display. During a transaction, this number is entered into a user interface with
other information (such as the user’s static PIN and login name). This
information is relayed to a backend system for multi-factor authentication.
InCard does not provide the backend authentication server, but rather will
integrate the ICT DisplayCard into authentication systems provided by other
companies including distributors and other resellers of the ICT DisplayCard. The
ICT DisplayCard’s OTP authentication works like tokens issued by VASCO, RSA, and
ActivIdentity, but in a more convenient, wallet-sized card form
factor.
 
 BASIS
OF PRESENTATION AND GOING CONCERN
 
 The
accompanying condensed consolidated financial statements of Innovative Card
Technologies, Inc. (“ICTI”) include the amounts of its wholly-owned
subsidiary, PSA Co. (“PSAC”) which was incorporated in the State of Delaware on
August 27, 2003.
  The
Company has a history of recurring losses from operations and has an accumulated
deficit of $43,383,315 as of March 31, 2009. We
incurred net losses of $8,929,537 for the twelve months ending December 31,
2008. During the three months ending March 31, 2009, we incurred additional net
losses of $10,906,269.Sales of the InCard DisplayCard, the
Company’s main product, are not expected to generate positive cash flow until
the fourth quarter of 2009. As a result, there is substantial doubt about the
Company’s ability to continue as a going concern at March 31, 2009 and December
31, 2008.
 
 Management’s
plan regarding these matters is to increase sales, resulting in reduced losses
and raise additional debt and/or equity financing to cover operating costs as
well as its obligations as they become due.
 
 There can
be no assurances that funds will be available to the Company when needed or, if
available, that such funds would be available under favorable terms. In the
event that the Company is unable to generate adequate revenues to cover expenses
and cannot obtain additional funds in the near future, the Company may seek
protection under bankruptcy laws.
 
 The
accompanying condensed consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. This basis of
accounting contemplates the recovery of the Company’s assets and the
satisfaction of liabilities in the normal course of business and does not
include any adjustments to reflect the possible future effects on the
recoverability and classification of assets or the amounts and classification of
liabilities that might be necessary should the Company be unable to continue as
a going concern.
  As of
June 12, 2009 the Company has approximately $28,000 in cash. Combined with
anticipated revenue collections and planned expense reductions, the Company
believes this amount will last through the third quarter of
2009.
  6
  The
accompanying unaudited condensed consolidated financial statements as of March
31, 2009 and for the three months ended March 31, 2009 and 2008 have been
prepared by the Company pursuant to the rules and regulations of the Securities
and Exchange Commission, including Form 10-Q and Regulation S-X. The information
furnished herein reflects all adjustments (consisting of normal recurring
accruals and adjustments) which are, in the opinion of management, necessary to
fairly present the operating results for the respective periods. Certain
information and footnote disclosures normally present in annual financial
statements prepared in accordance with accounting principles generally accepted
in the United States of America have been omitted pursuant to such rules and
regulations. The Company believes that the disclosures provided are adequate to
make the information presented not misleading. These financial statements should
be read in conjunction with the audited financial statements and explanatory
notes for the year ended December 31, 2008 as disclosed in the company's 10-K
for that year as filed with the SEC, as it may be amended.
  The
results for the three months ended March 31, 2009 are not necessarily indicative
of the results to be expected for the pending full year ending December 31,
2009.
 
 NOTE
2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
 PRINCIPLES
OF CONSOLIDATION
 
 The
condensed consolidated financial statements include the accounts of Innovative
Card Technologies and its wholly owned subsidiary, PSA Co. All significant
inter-company accounts and transactions are eliminated in
consolidation.
 
 REVENUE
RECOGNITION
 
 The
Company recognizes revenue in accordance with SEC Staff Accounting Bulletin
No. 104, or SAB 104. Revenue is recognized when persuasive evidence of an
arrangement exists, delivery has occurred or services have been rendered, the
price is fixed and determinable and collectibility is reasonably assured.
Revenue is not recognized on product sales transacted on a test or pilot basis.
Instead, receipts from these types of transactions offset marketing expenses.
Revenue from royalties is recognized with the passage of time in accordance with
the underlying agreement.
 
 MAJOR
SUPPLIERS
 
 The
Company obtains the battery, a key component for the Company’s power inlay
technology, from a single source, Solicore, Inc., on a purchase order
basis. The Company believes that alternative sources for this component in the
event of a disruption or discontinuation in supply would not be available on a
timely basis, which could disrupt Company operations, delay production for up to
twelve months and impair the Company’s ability to manufacture and sell
products.
 
 The
Company obtains the display, a key component for the Company’s ICT DisplayCard,
from a single source, SmartDisplayer, pursuant to the Company’s agreement with
SmartDisplayer. On November 10, 2007, the Company was required to make a deposit
on a purchase order to maintain its exclusivity. The Company was unable to make
the deposit and therefore does not have exclusivity with SmartDisplayer. The
Company believes that alternative sources for this component in the event of a
disruption or discontinuation in supply would not be available on a timely
basis, which could disrupt Company operations relating to the ICT DisplayCard,
delay production of the ICT DisplayCard for up to twelve months and impair the
Company’s ability to manufacture and sell the ICT DisplayCard.
 
 The
Company assembles its ICT DisplayCard using a single source, NagraID, pursuant
to a written agreement. The Company believes that alternative sources for this
component in the event of a disruption or discontinuation in supply would not be
available on a timely basis, which could disrupt Company operations relating to
the ICT DisplayCard, delay production of the ICT DisplayCard for up to twelve
months and impair the Company’s ability to manufacture and sell the ICT
DisplayCard.
  7
  MAJOR
CUSTOMERS
 
 Three
customers accounted for 99% of the Company’s revenues for the three months ended
March 31, 2009 and three customer accounted for all
of the Company’s revenue for the three months ended March 31, 2008.
  FAIR
VALUE OF FINANCIAL INSTRUMENTS
 
 In
September 2006, the FASB issued SFAS No. 157, Fair Value Measurements ,
which defines fair value, establishes a framework for consistently measuring
fair value under generally accepted accounting principles, and expands
disclosures about fair value measurements. SFAS 157 does not require any new
fair value measurements, but provides guidance on how to measure fair value by
providing a fair value hierarchy used to classify the source of the
information.  In February 2008, the FASB deferred the effective date
of SFAS 157 by one year for certain nonfinancial assets and liabilities, except
those that are recognized or disclosed at fair value in the financial statements
on a recurring basis (at least annually).  On November 1, 2008, the
Company adopted the provisions of SFAS 157, except as it applies to those
nonfinancial assets and liabilities for which the effective date has been
delayed by one year.
  The fair
value hierarchy described by the standard is based on three levels of inputs, of
which the first two are considered observable and the last unobservable, that
may be used to measure fair value and include the following:
  Level 1 –
Quoted prices in active markets for identical assets or
liabilities.
  Level 2 –
Inputs other than Level 1 that are observable, either directly or indirectly,
such as quoted prices for similar assets or liabilities; quoted prices in
markets that are not active; or other inputs that are observable or can be
corroborated by observable market data for substantially the full term of the
assets or liabilities.
  Level 3 –
Unobservable inputs that are supported by little or no market activity and that
are significant to the fair value of the assets or liabilities.
  In
accordance with SFAS 157, the following table represents the Company’s fair
value hierarchy for its financial assets (cash equivalents and investments)
measured at fair value on a recurring basis as of March 31,
2009:
  Level
      1
                            
                            Level
      2
                            
                            Level
      3
                            
                            TotalCash
      and cash equivalents
                            
                            
                            266,498
                            
                            
                            
                            
                            
                            
                            266,498Accounts
      receivable
                            
                            
                            202,130
                            
                            
                            
                            
                            
                            
                            202,130Accounts
      payable and accrued expenses
                            
                            
                            1,200,146
                            
                            
                            
                            
                            
                            
                            1,200,146Accounts
      payable - related parties
                            
                            
                            600,010
                            
                            
                            
                            
                            
                            
                            600,010Accrued
      interest
                            
                            
                            
                            
                            333,823
                            
                            
                            
                            
                            333,8238%
      convertible debentures
                            
                            
                            
                            
                            11,451,914
                            
                            
                            
                            
                            11,451,914
  8
  LOSS
PER SHARE
 
 The
Company utilizes SFAS No. 128, “Earnings per Share.” Basic loss per share
is computed by dividing loss available to common shareholders by the
weighted-average number of common shares outstanding. Diluted loss per share is
computed similar to basic loss per share except that the denominator is
increased to include the number of additional common shares that would have been
outstanding if the potential common shares had been issued and if the additional
common shares were dilutive. Common equivalent shares are excluded from the
computation if their effect is anti-dilutive.
  Common
equivalent shares are excluded from the computation of diluted loss per share
since their effect would have been anti-dilutive. There were 15,097,653 common
share equivalents at March 31, 2009 and 10,264,273 at March 31, 2008 that were
excluded from the calculation of diluted loss per share as their inclusion would
reduce diluted loss per share for the three months ended March 31, 2009 and
2008..
 
 USE
OF ESTIMATES
 
 The
preparation of financial statements requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expenses during the reporting
period. Actual results could differ from those estimates.
  CHANGE
IN ACCOUNTING PRINCIPLE
 
 In June
2008, the FASB issued Emerging Issues Task Force No. 07-5 (EITF 07-5),
Determining Whether an
Instrument (or Embedded Feature) is Indexed to an Entity’s Own Stock.
EITF 07-5 requires entities to evaluate whether an equity-linked financial
instrument (or embedded feature) is indexed to its own stock by assessing the
instrument’s contingent exercise provisions and settlement provisions.
Instruments not indexed to their own stock fail to meet the scope exception of
Statement of Financial Accounting Standards No. 133, Accounting for Derivative
Instruments and Hedging Activities, paragraph 11(a), and should be
classified as a liability and marked-to-market. The statement is effective for
fiscal years beginning after December 15, 2008 and is to be applied to
outstanding instruments upon adoption with the cumulative effect of the change
in accounting principle recognized as an adjustment to the opening balance of
retained earnings. The Company has assessed its outstanding equity-linked
financial instruments and has concluded that, effective January 1, 2009,
the conversion feature of our convertible debentures will need to be recorded as
a derivative liability due to the fact that the conversion price is subject to
adjustment based on subsequent sales of securities. The cumulative effect of the
change in accounting principle on January 1, 2009 is an increase in our
derivative liability related to the fair value of the conversion feature of
$6,061, an increase in the unamortized discount related to our convertible
debentures of $1,287,781, a decrease in additional paid-in capital of $3,237,954
related to the decrease in beneficial conversion feature attributable to the
debentures, and a $4,519,674 net decrease in accumulated deficit, comprised of a
credit to reflect the change in fair value of the derivative liability from date
of issue to January 1, 2009 of $5,235,242 partially offset by a charge of
$715,568 for additional expense for amortization of debt discount.
 
 RECENTLY
ISSUED ACCOUNTING PRONOUNCEMENTS
 
 In
September 2006, the FASB issued SFAS No. 157, Fair Value Measurements.
SFAS No. 157 clarifies the principle that fair value should be based on the
assumptions market participants would use when pricing an asset or liability and
establishes a fair value hierarchy that prioritizes the information used to
develop those assumptions. Under the standard, fair value measurements would be
separately disclosed by level within the fair value hierarchy. SFAS No. 157
is effective for financial statements issued for fiscal years beginning after
November 15, 2007, and interim periods within those fiscal years, with
early adoption permitted. In February 2008, FASB Staff Position (FSP)
FAS 157-2, “Effective Date of FASB Statement No. 157”, which delays
the effective date of SFAS 157 to fiscal years and interim periods within
those fiscal years beginning after November 15, 2008 for non-financial
assets and non-financial liabilities, except for items that are recognized or
disclosed at fair value in the financial statements on a recurring basis (at
least annually). We elected to defer the adoption of the Standard for these
non-financial assets and liabilities, and are currently evaluating the impact,
if any, that the deferred provisions of the Standard will have on our
consolidated financial statements. The adoption of SFAS 157 for our financial
assets and liabilities did not have an impact on our financial position or
operating results.
  9
  In
December 2007 the FASB issued SFAS 160 “Non-controlling Interests in
Consolidated Financial Statements—an amendment of ARB No. 51”. This Statement
amends ARB 51 to establish accounting and reporting standards for the
non-controlling interest in a subsidiary and for the deconsolidation of a
subsidiary. It clarifies that a non-controlling interest in a subsidiary is an
ownership interest in the consolidated entity that should be reported as equity
in the consolidated financial statements. This Statement changes the way the
consolidated income statement is presented. It requires consolidated net income
to be reported at amounts that include the amounts attributable to both the
parent and the non-controlling interest. It also requires disclosure, on the
face of the consolidated statement of income, of the amounts of consolidated net
income attributable to the parent and to the non-controlling interest. This
Statement establishes disclosure requirements in the consolidated financial
statements, which will enable users to clearly distinguish between the interests
of the parent’s owners and the interests of the non-controlling owners of a
subsidiary. SFAS 160 is effective for fiscal years, and interim periods within
those fiscal years, beginning on or after December 15, 2008; earlier adoption is
prohibited. The adoption of this standard had no impact to the Company’s
financial position, results of operations, or cash flows.
 
 In
December 2007, the FASB issued No. 141 (revised 2007), “Business Combinations”,
which replaces SFAS No. 141. SFAS 141R establishes principles and requirements
for how an acquirer recognizes and measures in its financial statements the
identifiable assets acquired and the liabilities assumed, any non-controlling
interest in the acquiree and the goodwill acquired. This Statement also
establishes disclosure requirements which will enable users to evaluate the
nature and financial effects of the business combination. This Statement is
effective for business combinations for which the acquisition date is on or
after the beginning of the first annual reporting period beginning on or after
December 15, 2008. The adoption of this standard had no impact to the Company’s
financial position, results of operations, or cash flows.
  In March
2008 the FASB issued SFAS 161 “Disclosures about Derivative Instruments and
Hedging Activities—an amendment of FASB Statement No. 133”. This Statement
changes the disclosure requirements for derivative instruments and hedging
activities. Entities are required to provide enhanced disclosures about (a) how
and why an entity uses derivative instruments, (b) how derivative instruments
and related hedged items are accounted for under Statement 133 and its related
interpretations, and (c) how derivative instruments and related hedged items
affect an entity’s financial position, financial performance, and cash flows.
This Statement is effective for financial statements issued for fiscal years and
interim periods beginning after November 15, 2008; earlier adoption is
encouraged. The adoption of this standard had no impact to the Company’s
financial position, results of operations, or cash flows.
 
 In April
2008, the FASB issued FSP FAS 142-3,  “Determination of the
Useful Life of Intangible Assets”.  FSP 142-3 amends the factors that
should be considered in developing renewal or extension assumptions used to
determine the useful life of a recognized intangible asset under SFAS No. 142,
Goodwill and Other Intangible
Assets . This change is intended to improve the consistency between the
useful life of a recognized intangible asset under SFAS No. 142 and the period
of expected cash flows used to measure the fair value of the asset under SFAS
No. 141R and other GAAP. FSP 142-3 is effective for financial statements issued
for fiscal years beginning after December 15, 2008, and interim periods within
those fiscal years. The requirement for determining useful lives must be applied
prospectively to intangible assets acquired after the effective date and the
disclosure requirements must be applied prospectively to all intangible assets
recognized as of, and subsequent to, the effective date. The adoption of this
standard had no impact to the Company’s financial position, results of
operations, or cash flows.
  10
  In June
2008, the FASB issued FSP EITF 03-6-1, “Determining Whether Instruments Granted
in Share-Based Payment Transactions are Participating
Securities.”  FSP EITF 03-6-1 is effective for financial statements
issued for fiscal years beginning after December 15, 2008. The FSP requires that
all unvested share-based payment awards that contain nonforfeitable rights to
dividends should be included in the basic Earnings Per Share (EPS)
calculation.  The adoption of this standard had no impact on the
Company’s consolidated financial position or results of operations.
  In April
2009, the FASB issued FSP FAS No. 115-2 and FAS No. 124-2, “Recognition and
Presentation of Other-Than-Temporary Impairments” (“FSP FAS No. 115-2”). FSP FAS
No. 115-2 provides guidance in determining whether impairments in debt
securities are other than temporary, and modifies the presentation and
disclosures surrounding such instruments. This FSP is effective for interim
periods ending after June 15, 2009, but early adoption is permitted for interim
periods ending after March 15, 2009. The Company plans to adopt the provisions
of this Staff Position during the second quarter of 2009, but does not believe
this guidance will have a significant impact on its consolidated financial
statements.
  In April
2009, the FASB issued FSP FAS No. 157-4, “Determining Fair Value When the Volume
and Level of Activity for the Asset or Liability Have Significantly Decreased
and Identifying Transactions That Are Not Orderly” (“FSP FAS No. 157-4”). FSP
FAS No. 157-4 provides additional guidance in determining whether the market for
a financial asset is not active and a transaction is not distressed for fair
value measurement purposes as defined in SFAS No. 157, “Fair Value
Measurements.” FSP FAS No. 157-4 is effective for interim periods ending after
June 15, 2009, but early adoption is permitted for interim periods ending after
March 15, 2009. The Company will apply the provisions of this statement
prospectively beginning with the second quarter 2009, and does not expect its
adoption to have a material effect on its consolidated financial
statements.
  In April
2009, the FASB issued FSP FAS No. 107-1 and APB 28-1, “Interim Disclosures about
Fair Value of Financial Instruments” (“FSP FAS No. 107-1 and APB 28-1”). This
FSP amends FASB Statement No. 107, “Disclosures about Fair Values of Financial
Instruments,” to require disclosures about fair value of financial instruments
in interim financial statements as well as in annual financial statements. APB
28-1 also amends APB Opinion No. 28, “Interim Financial Reporting,” to require
those disclosures in all interim financial statements. This standard is
effective for interim periods ending after June 15, 2009, but early adoption is
permitted for interim periods ending after March 15, 2009. The Company plans to
adopt FSP FAS No. 107-1 and APB 28-1 and provide the additional disclosure
requirements beginning in second quarter 2009.
 
 Other
recent accounting pronouncements issued by the FASB (including its Emerging
Issues Task Force), the AICPA, and the SEC did not, or are not believed by
management to, have a material impact on the Company's present or future
consolidated financial statements.
 
 NOTE
3 - INCOME TAXES
 
 Our
effective tax rate was estimated at 0% for the three months ended March 31,
2009 and 2008.
 
 NOTE
4 - STOCKHOLDER’S EQUITY
 
 PREFERRED
STOCK
 
 The
Company has 5,000,000 authorized shares of $0.001 par value preferred stock. The
preferred stock may be issued in series, from time to time, with such
designations, rights, preferences, and limitations as the Board of Directors may
determine by resolution.
 
 COMMON
STOCK
 
 The
Company has 75,000,000 authorized shares of $0.001 par value common
stock.
  11
  The
Company recorded $144,083
and $673,321 of compensation expense for employee and consultant stock options
during the three months ending March 31, 2009 and 2008, respectively, which is
included in the administrative expense category.
 
 NOTE
5 - 8% SENIOR SECURED CONVERTIBLE DEBENTURES
 
 On
February 20, 2009, the Company’s stock was delisted from the NASDAQ National
Market System due to a failure to maintain adequate share pricing. As a result,
the Company defaulted on its 8% Senior Secured Convertible
Debentures.  Such default results in acceleration of the debentures, a
thirty percent (30%) increase in the principal amount of the debentures, and an
increase in the interest rate on the debentures from eight percent (8%) to
eighteen percent (18%). As of the date of this filing, we are negotiating a
waiver of this default. Since we have not received any waiver we have accounted
for the default in the financial statements.
 
 In June
2008, the FASB issued Emerging Issues Task Force No. 07-5 (EITF 07-5),
Determining Whether an
Instrument (or Embedded Feature) is Indexed to an Entity’s Own Stock.
EITF 07-5 requires entities to evaluate whether an equity-linked financial
instrument (or embedded feature) is indexed to its own stock by assessing the
instrument’s contingent exercise provisions and settlement provisions.
Instruments not indexed to their own stock fail to meet the scope exception of
Statement of Financial Accounting Standards No. 133, Accounting for Derivative
Instruments and Hedging Activities, paragraph 11(a), and should be
classified as a liability and marked-to-market. The statement is effective for
fiscal years beginning after December 15, 2008 and is to be applied to
outstanding instruments upon adoption with the cumulative effect of the change
in accounting principle recognized as an adjustment to the opening balance of
retained earnings. The Company has assessed its outstanding equity-linked
financial instruments and has concluded that, effective January 1, 2009,
the conversion feature of our convertible debentures will need to be recorded as
a derivative liability due to the fact that the conversion price is subject to
adjustment based on subsequent sales of securities. The cumulative effect of the
change in accounting principle on January 1, 2009 includes an increase in
our derivative liability related to the fair value of the conversion feature of
$6,061. Fair value at January 1, 2009 was determined using the Black-Scholes
method based on the following assumptions:  (1) risk free
interest rate of 0.875%; (2) dividend yield of 0%; (3) volatility
factor of the expected market price of our common stock of 101%; and
(4) an expected life of the conversion feature of 2 years. At January
1, 2009 the Company has also recorded an additional discount related to the
debentures of $1,287,781 as a result of the implementation of EITF
07-05.
 
 As a
result of the default described above, the principal amount of the debentures
was increased by 30%, or $2,642,750. We have recorded a charge to interest
expense related to this increase.
 
 Also as a
result of the default, the maturity date of the debentures has been accelerated.
The Company has classified the carrying value of the debentures as a current
liability in the financial statements. The Company has fully amortized the
remaining discount and deferred debt issue costs during the period ended March
31, 2009. The charge to interest expense for the amortization of discount is
$6,671,835 and for amortization of debt issue costs is $449,052.
 
 At March
31, 2009 we recalculated the fair value of the conversion feature subject to
derivative accounting and have determined that the fair value at March 31, 2009
is $52,108. The fair value of the conversion feature was determined using the
Black-Scholes method based on the following
assumptions:  (1) risk free interest rate of 0.875%;
(2) dividend yield of 0%; (3) volatility factor of the expected market
price of our common stock of 113%; and (4) an expected life of the
conversion feature of 2 years.
 
 We
recorded a charge of $46,047 during the three months ended March 31, 2009
related to the change in fair value of the conversion feature during that
period.
  12
  The
Company is accounting for the warrants, issued in connection with the debentures
as derivative liabilities in accordance with SFAS 133, “Accounting for
Derivative Instruments and Hedging Activities” and EITF 00-19. At March 31,
2009, the warrant liability was valued at $76,275. The Company recorded a charge
of $57,220 during the three months ended March 31, 2009 related to the change in
fair value of the warrant liability during that period. The fair value of the
warrant liability was determined using the Black-Scholes method based on the
following assumptions:  (1) risk free interest rate of 1.75%;
(2) dividend yield of 0%; (3) volatility factor of the expected market
price of our common stock of 113%; and (4) an expected life of the
warrants of 4 years.
 
 NOTE
6 - COMMITMENTS AND CONTINGENCIES
 
 LITIGATION
 
 To date,
the Company has never been a party to and has never been involved with any
litigation. However, in the future, the Company, like any other business or
individual, may become subject to litigation some of which the Company can
control and other litigation that the Company cannot control. If the Company
were to become involved in any litigation, management would have to assess
whether or not such litigation would likely have a material adverse effect on
the Company’s consolidated financial condition or results of
operations.
 
 EMPLOYMENT
AGREEMENT
 
 On
February 20, 2009, we entered in into a written employment agreement with
Richard Nathan.  The agreement provides for a bonus equal to: (i) 3%
of increase in market capitalization occurring during first year of employment;
and (ii) 2% of increase in market capitalization year after year for all periods
thereafter.  Mr. Nathan’s employment under the agreement is
“At-Will.”
 
 NOTE
7 - SUBSEQUENT EVENTS
 
 In April
2009 the Company’s board of directors approved stock option awards to two
employees aggregating 150,000 shares of common stock, 100,000 options with an
exercise price of $0.072 per share and vest over one year and 50,000 options
with an exercise price of $0.062 per share and vest over three years. Both
options expire after five years.
  13




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





ADVISEMENT





We
urge you to read this entire Quarterly Report on Form 10-Q, including the” Risk
Factors” section, the financial statements, and related notes included
herein.  As used in this Quarterly Report, unless the context
otherwise requires, the words “we,” “us,”“our,” “the Company,” “InCard”
“Innovative Card” and “Registrant” refer to Innovative Card Technologies, Inc.
and our subsidiaries.  Also, any reference to “common shares,” “Common
Stock,” “common stock” or “Common Shares” refers to our $.0001 par value common
stock.   The information contained herein is current as of the
date of this Quarterly Report (March 31, 2009), unless another date is
specified.





We
prepare our interim financial statements in accordance with United States
generally accepted accounting principles (“GAAP”). Our financials and results of
operation for the three month period ended March 31, 2009 are not necessarily
indicative of our prospective financial condition and results of operations for
the pending full fiscal year ending December 31, 2009. The interim financial
statements presented in this Quarterly Report as well as other information
relating to our company contained in this Quarterly Report should be read in
conjunction and together with the reports, statements and information filed by
us with the United States Securities and Exchange Commission
(“SEC”).





FORWARD
LOOKING STATEMENTS





Certain
statements contained in this Quarterly Report on Form 10-Q constitute
“forward-looking statements” within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of
1934. All statements included in this Quarterly Report, including those related
to our cash, liquidity, resources and our anticipated cash expenditures, as well
as any statements other than statements of historical fact, regarding our
strategy, future operations, financial position, projected costs, prospects,
plans and objectives are forward-looking statements.  These
forward-looking statements are derived, in part, from various assumptions and
analyses we have made in the context of our current business plan and
information currently available to us and in light of our experience and
perceptions of historical trends, current conditions and expected future
developments and other factors we believe are appropriate in the circumstances.
You can generally identify forward looking statements through words and phrases
such as“believe”, “expect”,
“seek”, “estimate”, “anticipate”, “intend”, “plan”, “budget”, “project”, “may
likely result”, “may be”, “may continue”  and other similar
expressions, although not all forward-looking statements contain these
identifying words. We cannot guarantee future results, levels of activity,
performance or achievements, and you should not place undue reliance on our
forward-looking statements.





Our
actual results could differ materially from those anticipated in these
forward-looking statements as a result of various factors, including the risks
described in Part II, Item 1A, “Risk Factors” and elsewhere
in this Report. Our forward-looking statements do not reflect the potential
impact of any future acquisitions, mergers, dispositions, joint ventures, new
products or strategic investments. In addition, any forward-looking statement
represents our expectation only as of the day this Report was first filed with
the Securities and Exchange Commission (“SEC”) and should not be relied on as
representing our expectations as of any subsequent date. While we may elect to
update forward-looking statements at some point in the future, we specifically
disclaim any obligation to do so, even if our expectations change.





When
reading any forward-looking statement, you should remain mindful that actual
results or developments may vary substantially from those expressed in or
implied by such statement for a number of reasons or factors.  Each
forward-looking statement should be read in context with and in understanding of
the various other disclosures concerning our company and our business made
elsewhere in this Quarterly Report as well as our public filings with the SEC.
You should not place undue reliance on any forward-looking statement. We are not
obligated to update or revise any forward-looking statements contained in this
Quarterly Report or any other filing to reflect new events or circumstances
unless and to the extent required by applicable law.


14


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





Our
Management’s Discussion and Analysis of Financial Condition and Results of
Operations (MD&A) is provided in addition to the accompanying consolidated
financial statements and notes to assist readers in understanding our results of
operations, financial condition, and cash flows. Our MD&A is organized as
follows:





·
            Overview
      — Discussion of our business and overall analysis of financial
      and other highlights affecting the company in order to provide context for
      the remainder of MD&A.·
            Critical Accounting Policies
      — Accounting policies that we believe are important to
      understanding the assumptions and judgments incorporated in our reported
      financial results and forecasts.·
            Results of Operations
      — Analysis of our financial results comparing the 3 months
      ended March 31, 2009 to 2008.·
            Liquidity and Capital
      Resources — An analysis of changes in our balance sheets and
      cash flows, and discussion of our financial condition including recent
      developments and potential sources of
liquidity.




The
various sections of this MD&A contain a number of forward-looking
statements. Words such as “expects,” “goals,” “plans,” “believes,” “continues,”
“may,” and variations of such words and similar expressions are intended to
identify such forward-looking statements. In addition, any statements that refer
to projections of our future financial performance, our anticipated growth and
trends in our businesses, and other characterizations of future events or
circumstances are forward-looking statements. Such statements are based on our
current expectations and could be affected by the uncertainties and risk factors
described throughout this filing and particularly in the “Overview” section (see
also “Risk Factors” in Part II, Item 1A of this Report). Our actual results may
differ materially.




Overview





Since
2002, we have continued to develop our power inlay technology that is designed
to bring power-based applications to the enterprise market and on-line banking
market. Our present focus is the InCard DisplayCard power inlay technology which
consists of a battery, circuit, and switch that can power applications on credit
card sized cards and other similar information-bearing deivices. We have devoted
a majority of our efforts to completing the development of our power inlay
technology, initiating marketing and raising the financing required to fund our
business. We have generated limited revenues. Prior to the fourth quarter of
2007 these revenues were derived primarily from licensing of our LensCard
product, most of which have terminated. At this time, we have no plans to renew
the LensCard licensing agreements or to further market or sell the LensCard,
unless requested by a customer.




On
February 20, 2009, as a result of our common shares being delisted from the
NASDAQ Capital Market, we defaulted on our 8% Senior Secured Debentures issued
in January and April of 2008.  As a result, investors can
call the debentures and demand immediate repayment.  Our inability to
repay the outstanding balance may result in the debenture holders exercising
their remedies and foreclosing on substantially all of our assets.  In
such instance, we could be forced to seek bankruptcy protection or the debenture
holders could take our assets as satisfaction of their
indebtedness.  In either instance, this will result in a total loss of
our common shareholders’ investment.  At present, we are attempting to
modify the terms of the debentures and cure such default.  There can
be no assurance that we will be able to modify the terms of the debentures, or
that if we do, that such modification will allow us to continue
operating.





Since
inception, we have been unprofitable. We incurred net losses of $8,929,537 and
$14,333,622 for the twelve months ending December 31, 2008 and 2007,
respectively. During the three months ending March 31, 2009, we incurred
additional net losses of $10,906,269. As of March 31, 2009, we had an
accumulated deficit of $43,383,315. Sales of the InCard DisplayCard, the
Company’s main product, are not expected to generate positive cash flow until
the fourth quarter of 2009. As a result, there is substantial doubt about the
Company’s ability to continue as a going concern at March 31, 2009 and December
31, 2008.





Our
continued existence is dependent upon our ability to generate sales of the
InCard DisplayCard or, if we are unable to do so in sufficient quantity to cover
our expenses, to obtain additional financing. In 2008, we made our first
significant sale of InCard DisplayCards; however we anticipate that we will
continue to incur net losses due to our costs exceeding our
revenues.  Management cannot yet predict when we will achieve an
operating profit or net income.  Our capital requirements for the next
12 months consist of the acquisition of inventory, retention and hiring of key
personnel, implementation of a sales force for our products, and further
research and development relating to the production of our power inlay
technology.  These expenditures are anticipated to be
significant.   In addition, our gross margin is greatly impacted
by production volume. At low levels of production, our gross margin is in the
single digits and may be negative. At the higher volume levels our gross margin
rises. To date, our operations have been funded primarily through equity and
debt financings.





We
believe that our current cash, combined with anticipated revenue collections,
will be adequate to fund our operations through the third quarter of 2009. If we
are unable to raise additional financing by that date, we may be forced to
curtail our operations or seek bankruptcy protection. We anticipate that we will
not be able to generate sales of the InCard DisplayCard in quantities that will
sustain a positive cash flow until the fourth quarter of 2009.


15


Our
backlog, which consists of orders received but not yet shipped, totaled $4.4
million at March 31, 2009, most of which we expect to deliver in
2009.





On
January 13, 2009 we disclosed that we received a purchase order (“PO”) in the
amount of $3,737,988. We have recently been informed that the purchaser
intends to delay the delivery of approximately 60% of the PO.





We raised
$3,500,000 of operating capital in January 2008 and $5,000,000 in
April 2008 (see Equity and Debt Financings and Accounts Payable in this
Item 2) but may be unable to raise additional operating capital on terms
satisfactory to us, if at all. There can be no assurances that we will be able
to raise operating capital on satisfactory terms, or that sufficient revenues
will be generated from the sales of our product in order to sustain our
operations. Should our cash and liquidity position become severe, we would need
to limit our operations which would harm the value of your investment in the
Company.





Critical
Accounting Policies





Our
MD&A is based on our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the U.S.
The preparation of these financial statements requires us to make estimates and
judgments that affect the reported amounts of assets, liabilities, revenues and
expenses for each period. The following represents a summary of our critical
accounting policies, defined as those policies that we believe are the most
important to the portrayal of our financial condition and results of operations
and that require management’s most difficult, subjective or complex judgments,
often as a result of the need to make estimates about the effects of matters
that are inherently uncertain.





Revenue
recognition.





We
recognize revenues in accordance with SEC Staff Accounting Bulletin No. 104
(“SAB 104”). Revenues are recognized when persuasive evidence of an arrangement
exists, delivery has occurred or services have been rendered, the price is fixed
and determinable and collectability is reasonably assured. Revenue is not
recognized on product sales transacted on a test or pilot basis. Instead,
receipts from these types of transactions offset marketing expenses. Revenue
from royalties is recognized with the passage of time in accordance with the
underlying agreement. We recognize certain long-term contracts using the
completed-contract method in accordance with SOP 81-1, “Accounting for
Performance of Construction-Type and Certain Production-Type of
Contracts.”





We have
generated revenue from three sources: sale of the InCard DisplayCard, licensing
of the LensCard to various credit card issuers and selling the LightCard to a
credit card issuer. The LensCard is composed of a credit card with a small
magnifying lens embedded into the card. The LightCard is composed of a credit
card that when a button is pressed a small LED light is activated. We sell
time-based licenses to various credit card issuers for the LensCard. We
recognize royalties attributable to these time-based licenses as they are sold
to the credit card issuers’ customers. Royalty revenue is recognized when each
LensCard is sold by an issuer in accordance with SAB 104.




We
anticipate that the majority of our revenues in the coming year will come from
the InCard DisplayCard. We intend to sell these cards through resellers. We do
not recognize revenue when we sell the InCard DisplayCard in small quantities
under a test or pilot program. Cash receipts from these transactions are used to
offset marketing expenses.





The
revenue generated from the LensCard and LightCard is negligible, and we expect
that the sales of these products will have no impact on our results of
operations.





Deferred
revenue is recorded when the payments from a reseller are received by us prior
to the sale of an InCard DisplayCard to the resellers’ customer.





Accounts
receivable allowances.





Our sales
to date have been to large credit card issuers and we have been successful in
collecting for products and services. We perform a regular review of our
customer activity and associated credit risks and do not require collateral from
our customers. At March 31, 2009, based on our review of customer activity, we
recorded an allowance for doubtful accounts of $60,000.





Warranty
expense.





We
estimate the cost associated with meeting our warranty obligations for the sale
of our products. The initial estimate and changes to the estimate are charged to
cost of goods sold at the time of sale of the product.


16


Inventory.





Our
inventories are valued at the lower of cost or market. We use estimates and
judgments regarding the valuation of inventory to properly value inventory.
Inventory adjustments are made for the difference between the cost of the
inventory and the estimated market value and charged to cost of goods sold in
the period in which the facts that give rise to the adjustments become
known.





Research
and Development.





Costs of
research and development, principally the design and development of hardware and
software prior to the determination of technological feasibility, are expensed
as incurred.





Valuation
of Intangible Assets and Long-Lived Assets.





We assess
the impairment of identifiable intangibles and long-lived assets whenever events
or changes in circumstances indicate that the carrying value may not be
recoverable. Factors considered important that could trigger an impairment
review include, but are not limited to, the following: a significant
underperformance to expected historical or projected future operating results, a
significant change in the manner of the use of the acquired asset or the
strategy for the overall business, or a significant negative industry or
economic trend. We assess the carrying value of long-lived assets in accordance
with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived
Assets.”





Stock
Based Compensation.





On
January 1, 2006, we adopted SFAS No. 123 (R), “Share Based
Payment,” which establishes standards for the accounting of transactions in
which an entity exchanges its equity instruments for goods or services,
primarily focusing on accounting for transactions where an entity obtains
employee services in share-based payment transactions. SFAS
No.123(R) requires a public entity to measure the cost of employee services
received in exchange for an award of equity instruments, including stock
options, based on the grant-date fair value of the award and to recognize it as
compensation expense over the period the employee is required to provide service
in exchange for the award, usually the vesting period.





Change
in Accounting Principle





In June
2008, the FASB issued Emerging Issues Task Force No. 07-5 (EITF 07-5),
Determining Whether an
Instrument (or Embedded Feature) is Indexed to an Entity’s Own Stock.
EITF 07-5 requires entities to evaluate whether an equity-linked financial
instrument (or embedded feature) is indexed to its own stock by assessing the
instrument’s contingent exercise provisions and settlement provisions.
Instruments not indexed to their own stock fail to meet the scope exception of
Statement of Financial Accounting Standards No. 133, Accounting for Derivative
Instruments and Hedging Activities, paragraph 11(a), and should be
classified as a liability and marked-to-market. The statement is effective for
fiscal years beginning after December 15, 2008 and is to be applied to
outstanding instruments upon adoption with the cumulative effect of the change
in accounting principle recognized as an adjustment to the opening balance of
retained earnings. The Company has assessed its outstanding equity-linked
financial instruments and has concluded that, effective January 1, 2009,
the conversion feature of our convertible debentures will need to be recorded as
a derivative liability due to the fact that the conversion price is subject to
adjustment based on subsequent sales of securities. The cumulative effect of the
change in accounting principle on January 1, 2009 is an increase in our
derivative liability related to the fair value of the conversion feature of
$6,061, an increase in the unamortized discount related to our convertible
debentures of $1,287,781, a decrease in additional paid-in capital of $3,237,954
related to the decrease in beneficial conversion feature attributable to the
debentures, and a $4,519,674 net decrease in accumulated deficit, comprised of a
credit to reflect the change in fair value of the derivative liability from date
of issue to January 1, 2009 of $5,235,242 partially offset by a charge of
$715,568 for additional expense for amortization of debt discount.





Recently
Issued Accounting Pronouncements





In
September 2006, the FASB issued SFAS No. 157, Fair Value Measurements.
SFAS No. 157 clarifies the principle that fair value should be based on the
assumptions market participants would use when pricing an asset or liability and
establishes a fair value hierarchy that prioritizes the information used to
develop those assumptions. Under the standard, fair value measurements would be
separately disclosed by level within the fair value hierarchy. SFAS No. 157
is effective for financial statements issued for fiscal years beginning after
November 15, 2007, and interim periods within those fiscal years, with
early adoption permitted. In February 2008, FASB Staff Position (FSP)
FAS 157-2, “Effective Date of FASB Statement No. 157”, which delays
the effective date of SFAS 157 to fiscal years and interim periods within
those fiscal years beginning after November 15, 2008 for non-financial
assets and non-financial liabilities, except for items that are recognized or
disclosed at fair value in the financial statements on a recurring basis (at
least annually). We elected to defer the adoption of the Standard for these
non-financial assets and liabilities, and are currently evaluating the impact,
if any, that the deferred provisions of the Standard will have on our
consolidated financial statements. The adoption of SFAS 157 for our financial
assets and liabilities did not have an impact on our financial position or
operating results.


17


In
December 2007 the FASB issued SFAS 160 “Non-controlling Interests in
Consolidated Financial Statements—an amendment of ARB No. 51”. This Statement
amends ARB 51 to establish accounting and reporting standards for the
non-controlling interest in a subsidiary and for the deconsolidation of a
subsidiary. It clarifies that a non-controlling interest in a subsidiary is an
ownership interest in the consolidated entity that should be reported as equity
in the consolidated financial statements. This Statement changes the way the
consolidated income statement is presented. It requires consolidated net income
to be reported at amounts that include the amounts attributable to both the
parent and the non-controlling interest. It also requires disclosure, on the
face of the consolidated statement of income, of the amounts of consolidated net
income attributable to the parent and to the non-controlling interest. This
Statement establishes disclosure requirements in the consolidated financial
statements, which will enable users to clearly distinguish between the interests
of the parent’s owners and the interests of the non-controlling owners of a
subsidiary. SFAS 160 is effective for fiscal years, and interim periods within
those fiscal years, beginning on or after December 15, 2008; earlier adoption is
prohibited. The adoption of this standard had no impact to the Company’s
financial position, results of operations, or cash flows.





In
December 2007, the FASB issued No. 141 (revised 2007), “Business Combinations”,
which replaces SFAS No. 141. SFAS 141R establishes principles and requirements
for how an acquirer recognizes and measures in its financial statements the
identifiable assets acquired and the liabilities assumed, any non-controlling
interest in the acquiree and the goodwill acquired. This Statement also
establishes disclosure requirements which will enable users to evaluate the
nature and financial effects of the business combination. This Statement is
effective for business combinations for which the acquisition date is on or
after the beginning of the first annual reporting period beginning on or after
December 15, 2008. The adoption of this standard had no impact to the Company’s
financial position, results of operations, or cash flows.




In March
2008 the FASB issued SFAS 161 “Disclosures about Derivative Instruments and
Hedging Activities—an amendment of FASB Statement No. 133”. This Statement
changes the disclosure requirements for derivative instruments and hedging
activities. Entities are required to provide enhanced disclosures about (a) how
and why an entity uses derivative instruments, (b) how derivative instruments
and related hedged items are accounted for under Statement 133 and its related
interpretations, and (c) how derivative instruments and related hedged items
affect an entity’s financial position, financial performance, and cash flows.
This Statement is effective for financial statements issued for fiscal years and
interim periods beginning after November 15, 2008; earlier adoption is
encouraged. The adoption of this standard had no impact to the Company’s
financial position, results of operations, or cash flows.





In April
2008, the FASB issued FSP FAS 142-3,  “Determination of the
Useful Life of Intangible Assets”.  FSP 142-3 amends the factors that
should be considered in developing renewal or extension assumptions used to
determine the useful life of a recognized intangible asset under SFAS No. 142,
Goodwill and Other Intangible
Assets . This change is intended to improve the consistency between the
useful life of a recognized intangible asset under SFAS No. 142 and the period
of expected cash flows used to measure the fair value of the asset under SFAS
No. 141R and other GAAP. FSP 142-3 is effective for financial statements issued
for fiscal years beginning after December 15, 2008, and interim periods within
those fiscal years. The requirement for determining useful lives must be applied
prospectively to intangible assets acquired after the effective date and the
disclosure requirements must be applied prospectively to all intangible assets
recognized as of, and subsequent to, the effective date. The adoption of this
standard had no impact to the Company’s financial position, results of
operations, or cash flows.





In June
2008, the FASB issued FSP EITF 03-6-1, “Determining Whether Instruments Granted
in Share-Based Payment Transactions are Participating
Securities.”  FSP EITF 03-6-1 is effective for financial statements
issued for fiscal years beginning after December 15, 2008. The FSP requirs that
all unvested share-based payment awards that contain nonforfeitable rights to
dividends should be included in the basic Earnings Per Share (EPS)
calculation.  The adoption of this standard had no impact on the
Company’s consolidated financial position or results of operations.




In April
2009, the FASB issued FSP FAS No. 115-2 and FAS No. 124-2, “Recognition and
Presentation of Other-Than-Temporary Impairments” (“FSP FAS No. 115-2”). FSP FAS
No. 115-2 provides guidance in determining whether impairments in debt
securities are other than temporary, and modifies the presentation and
disclosures surrounding such instruments. This FSP is effective for interim
periods ending after June 15, 2009, but early adoption is permitted for interim
periods ending after March 15, 2009. The Company plans to adopt the provisions
of this Staff Position during the second quarter of 2009, but does not believe
this guidance will have a significant impact on its consolidated financial
statements.




In April
2009, the FASB issued FSP FAS No. 157-4, “Determining Fair Value When the Volume
and Level of Activity for the Asset or Liability Have Significantly Decreased
and Identifying Transactions That Are Not Orderly” (“FSP FAS No. 157-4”). FSP
FAS No. 157-4 provides additional guidance in determining whether the market for
a financial asset is not active and a transaction is not distressed for fair
value measurement purposes as defined in SFAS No. 157, “Fair Value
Measurements.” FSP FAS No. 157-4 is effective for interim periods ending after
June 15, 2009, but early adoption is permitted for interim periods ending after
March 15, 2009. The Company will apply the provisions of this statement
prospectively beginning with the second quarter 2009, and does not expect its
adoption to have a material effect on its consolidated financial
statements.




In April
2009, the FASB issued FSP FAS No. 107-1 and APB 28-1, “Interim Disclosures about
Fair Value of Financial Instruments” (“FSP FAS No. 107-1 and APB 28-1”). This
FSP amends FASB Statement No. 107, “Disclosures about Fair Values of Financial
Instruments,” to require disclosures about fair value of financial instruments
in interim financial statements as well as in annual financial statements. APB
28-1 also amends APB Opinion No. 28, “Interim Financial Reporting,” to require
those disclosures in all interim financial statements. This standard is
effective for interim periods ending after June 15, 2009, but early adoption is
permitted for interim periods ending after March 15, 2009. The Company plans to
adopt FSP FAS No. 107-1 and APB 28-1 and provide the additional disclosure
requirements beginning in second quarter 2009.


18


Other
recent accounting pronouncements issued by the FASB (including its Emerging
Issues Task Force), the AICPA, and the SEC did not, or are not believed by
management to, have a material impact on the Company's present or future
consolidated financial statements.





Results
of Operations – First Quarter
of 2009 Compared to First Quarter of 2008





Our
results of operations have varied significantly from year to year and quarter to
quarter and may vary significantly in the future due to the occurrence of
material recurring and nonrecurring events..





Revenue




Revenue
for the three months ended March 31, 2009 and 2008 was $534,223 and $217,216
respectively.




Three
      Months Ended March 31,2009
                      
                      
                      2008Revenue
                      
                      $
                      534,223
                      
                      
                      $
                      217,216





The
increase of $317,007, or 146%, for the three months ended March 31, 2009 as
compared to the same period of 2008 was attributed to increased sales of the
InCard DisplayCard.





Cost
of Goods Sold





Cost of
goods sold for the three months ended March 31, 2009 and 2008, was $586,960 and
$196,667 respectively.





Three Months Ended March
      31,2009
                    
                    
                    2008Cost
      of Goods Sold
                    
                    $
                    586,960
                    
                    
                    $
                    196,667





Cost of
goods sold consists of costs to manufacture, inventory write-offs and reserve
adjustments and warranty expense. The increase of $390,293, or 198%, for the
three months ended March 31, 2009 as compared to the same period of 2008 was
attributed to increases of $314,706 for costs to manufacture, $46,592 for
inventory write-offs and reserve adjustments and $28,995 for warranty expense.
The increases result primarily from the increase in revenue during the 2009
period.





Operating
Expenses




Operating
expenses for the three months ended March 31, 2009 and 2008, consist of the
following:




Three
      Months Ended March 31,2009
                          
                          
                          2008Operating
      expensesAdministrative
                          
                          $
                          548,074
                          
                          
                          $
                          1,403,598Consulting
      Fees
                          
                          
                          17,433
                          
                          
                          
                          120,098Professional
      Fees
                          
                          
                          72,199
                          
                          
                          
                          248,031Research
      and Development
                          
                          
                          43,209
                          
                          
                          
                          179,816Total
      expense
                          
                          $
                          680,915
                          
                          
                          $
                          1,951,543




Administrative
Expenses





Administrative
expenses totaled $548,074 for the three months ended March 31, 2009 compared to
$1,403,598 for the same period of 2008.  The decrease of $855,524 or
61% for the three months ended March 31, 2009 compared to the comparable period
in 2008 was primarily attributable to a decrease in share based compensation of
$529,238 and reduction in salaries and other expenses. Administrative expenses
consist of travel, marketing, compensation, administrative fees, and
depreciation and amortization expense.


19


Consulting
Fees





Consulting
fees totaled $17,433 for the three months ended March 31, 2009 compared to
$120,098 for the same period of 2008.  The decrease of $102,665 or 85%
for the three months ended March 31, 2009 compared to the comparable period in
2008 was primarily attributable to the use of fewer consultants in the current
period. Consulting fee expense consists of payments made to independent
contractors that provided services to us.





Professional
Fees




Professional
Fees totaled $72,199 for the three months ended March 31, 2009 compared to
$248,031 for the same period of 2008.  The decrease of $175,832 or 71%
for the three months ended March 31, 2009 compared to the comparable period in
2008 was primarily attributable to decreased activity and lower cost of
professional fees. Professional fees expense primarily consists of amounts
related to services provided by our outside counsel, auditors and other similar
providers.





Research  and
Development





Research
and development expenses totaled $43,209 for the three months ended March 31,
2009 compared to $179,816 for the same period of 2008.  The decrease
of $136,607 or 76% for the three months ended March 31, 2009 compared to the
comparable period in 2008 was primarily attributable to reduced consulting
costs. Research and development expense consists of costs relating to further
development of the InCard DisplayCard.





Other
Income (Expense)




Other
expense totaled $10,172,617 and $30,647 for the three months ended March 31,
2009 and 2008, respectively.





Three
      Months Ended March 31,2009
                  
                  
                  2008Other
      income (expense):Change
      in fair value of warrant and conversion liability
                  
                  $
                  (103,267)
                  
                  
                  $
                  125,661Interest
      income
                  
                  
                  29
                  
                  
                  
                  9,073Interest
      expense
                  
                  
                  (10,069,379)
                  
                  
                  
                  (165,381)Total
      Nonoperating income
                  
                  $
                  (10,172,617)
                  
                  
                  $
                  (30,647)





Change
in fair value of warrants and conversion liability





The
change in the fair value of our warrant and conversion liabilities resulted
primarily from the changes in our stock price and the volatility of our common
stock during the reported periods. We had no warrant liability at January 1,
2008  Refer to Note 5 to the financial statements for further
discussion on our warrant liability  and the related 8% senior secured
convertible debentures.





The
securities were not issued with the intent of effectively hedging any future
cash flow, fair value of any asset, liability or any net investment in a foreign
operation. The securities do not qualify for hedge accounting, and as such, all
future changes in the fair value of these securities will be recognized
currently in earnings until such time as the securities are exercised or
expire.





Interest
Income





The
decrease in interest income is primarily attributable to a decrease in balances
in interest bearing accounts.





Interest
expense





Interest
expense for 2009 consists of interest accrued on our convertible debentures
of $302,134, other interest paid of $1,885, amortization of debt discount of
$6,671,835, amortization of debt issue costs of $449,052 and a charge of
$2,642,750 for the 30% increase in the principal amount of our convertible
debentures as a result of the default described in Note 5 to
the financial statements.





Interest
expense for 2008 consists of interest accrued on our convertible debentures
of $77,577, amortization of debt discount of $80,062 and amortization of debt
issue costs of $7,742.





As a
result of the default on our debentures, the maturity date of the debentures has
been accelerated. The Company has classified the carrying value of the
debentures as a current liability in the financial statements. The Company has
fully amortized the remaining discount and deferred debt issue costs during the
period ended March 31, 2009.


20


Liquidity
and Capital Resources




Our
principal sources of operating capital since our inception through
March 31, 2009 have been equity and debt financings totaling $30,303,691,
and to a lesser degree our revenues.  Since our inception, we have
incurred significant losses, and as of March 31, 2009 we had an accumulated
deficit of $43,383,315. Our cash and cash equivalents balance at March 31, 2009
was $266,498, compared to $300,902 for the same period of 2008.





Sales of
the InCard DisplayCard, the Company’s main product, are not expected to generate
positive cash flow until the fourth quarter of 2009. As a result, there is
substantial doubt about the Company’s ability to continue as a going concern at
March 31, 2009.




At
December 31, 2008, there is also substantial doubt about the Company's ability
to continue as a going concern.




As of
June 12, 2009 the Company has approximately $28,000 in cash. Combined with
anticipated revenue collections and planned expense reductions, the Company
believes this amount will last through the third quarter of 2009.




Three
      Months Ended March 31,2009
                      
                      
                      2008Cash
      & Cash Equivalents
                      
                      $
                      266,498
                      
                      
                      $
                      300,902Net
      cash provided by (used in) operating activities
                      
                      $
                      189,853
                      
                      
                      $
                      (3,248,698
                      )Net
      cash provided by financing activities
                      
                      
                      
                      -
                      
                      
                      3,210,000





Net
Cash Provided by (Used in) Operating Activities




For the
three months ended March 31, 2009 we generated $189,853 in cash from our
operating activities as compared to cash used of $3,248,698 for the same period
of 2008. The decrease in cash used of $3,438,551 was primarily attributable to a
decrease of payment for accounts payable and accrued expenses of $1,598,996, a
decrease in cash applied to inventory of $401,703, an increase in deferred
revenue of $572,533 and collections on accounts receivable of
$212,575.





Net
Cash Provided by Financing Activities





There was
no net cash provided by financing activities for the three months ended March
31, 2009.  During the three months ended March 31, 2008 we raised net
cash of $3,210,000 through the sale of convertible debentures.





Listed
below are key financing transactions entered into by us in the last three
years:





·
            On
      May 30, 2006, we issued 3,785,500 shares of common stock at a price
      of $3.00 per share to accredited investors pursuant to a private placement
      for total gross proceeds of $11,356,500. In connection with the
      transaction, T.R. Winston & Company served as placement agent for
      the securities sold and received a net commission of 5% of the total gross
      proceeds and a warrant to purchase 113,565 shares of our common stock at
      an exercise price of $3.30 per share that expire on May 30, 2011. The
      warrant issued to T.R. Winston & Company has full ratchet
      anti-dilution protection, for so long as it is outstanding, in the event
      we issue common shares or common share equivalents for a price less than
      $3.00 per share. No adjustment is required in the event of certain exempt
      issuances as more fully contained in the warrant. The warrant exercise
      price was reset following the April 15, 2008 financing described
      below.




·
            On
      January 8, 2008, we entered into a securities purchase agreement with
      13 institutional and accredited investors. Pursuant to the terms of the
      agreement, we sold $3.5 million of our 8% Senior Secured Convertible
      Debenture. The debentures: (i) bear interest at 8% per year, paid
      quarterly in cash or registered common stock, at our discretion;
      (ii) have a maturity of January 8, 2011, (iii) are
      convertible at the holder’s option into shares of our common stock at
      $2.50 per share, (iv) are secured by all of our and our subsidiary’s
      assets including inventory, receivables, unencumbered equipment and
      intellectual property, and (v) have a forced conversion feature which
      allows us to force the conversion of the debentures if our common stock
      trades above $5.00 for 20 consecutive trading days and certain other
      conditions are met. In connection with the sale of the debentures, we also
      issued the purchasers five-year common stock purchase warrants to purchase
      an aggregate of 700,000 shares of our common stock at an exercise price of
      $2.75 per share. We used the net proceeds of the financing for our working
      capital requirements and to pay down certain obligations. Both the
      conversion price of the debentures and the warrants’ exercise price were
      reset following the April 15, 2008 financing discussed
      below.





·
            On
      April 15, 2008, sold an additional $5 million of our 8% Senior
      Secured Convertible Debenture to EMC Corporation.   As a
      result of market conditions, the conversion price of the debenture is
      $2.48 per share.  This resulted in a re-pricing of our January
      8, 2008 debentures.   In connection with the sale of the
      additional debentures, we issued EMC a five-year common stock purchase
      warrant to purchase 1,008,064 shares of our common stock at an exercise
      price of $2.728 per share. Similar to the conversion of the debentures,
      this resulted in a re-pricing of the January 8, 2008 warrant exercise
      price to $2.728 per share.  We used the net proceeds of the
      financing for our working capital requirements and to pay down certain
      obligations.




21


Default
of 8% Senior Secured Debentures





In
September 2008, we agreed with certain Debenture holders to defer a portion of
the interest payments due October 1, 2008 and January 1, 2009. Such deferral
resulted in those payments, plus a ten percent (10%) deferral charge being added
to the principal balance of those debentures.    On February 20,
2009, as a result of our common shares being delisted from the NASDAQ Capital
Market, we defaulted on our 8% Senior Secured Debentures issued in
January and April of 2008.  As a result, investors can call
the debentures and demand immediate repayment.  Our inability to repay
the outstanding balance may result in the debenture holders exercising their
remedies and foreclosing on substantially all of our assets.  In such
instance, we could be forced to seek bankruptcy protection or the debenture
holders could take our assets as satisfaction of their
indebtedness.  In either instance, this will result in a total loss of
our common shareholders’ investment.  At present, we are attempting to
modify the terms of the debentures and cure such default.  There can
be no assurance that we will be able to modify the terms of the debentures, or
that if we do, that such modification will allow us to continue
operating.





Future
Needs





Through
the date of this report, our operations have been funded primarily through
equity and debt financings totaling $30,303,691 since inception.





We
believe that our current cash of $28,000 as of June 12, 2009, combined with
anticipated revenue collections, will provide us with sufficient resources to
fund our operations through the third quarter of 2009, provided holders of our
8% Senior Secured Debenture do not exercise their respective rights and require
the repayment of the outstanding debenture balances.





If we are
able to successfully sell the InCard DisplayCard in substantial quantities
during the second and third quarters of 2009 we may be able to continue
operations through the third quarter of 2009.  If we need additional
capital, we do not have any binding commitments for, or readily available
sources of, additional financing. Additional financing, whether through public
or private equity or debt financing, arrangements with stockholders or other
sources, may not be available, or if available, may be on terms unacceptable to
us. If we issue additional equity securities to raise funds, the ownership
percentage of our existing stockholders would be reduced. New investors may
demand rights, preferences or privileges senior to those of existing holders of
our common stock. Debt incurred by us would be senior to equity in the ability
of debt holders to make claims on our assets. The terms of any debt issued could
impose restrictions on our operations. If adequate funds are not available to
satisfy our capital requirements, our operations and liquidity could be
materially adversely affected.





Going
Concern





Our
independent registered public accountants have included a going concern
explanatory paragraph in their unqualified opinion of our 2008 financial
statements.





ITEM
3.                QUANTITATIVE
AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.





We are
not required to provide the information required by this items as we are
considered a smaller reporting company, as defined by Rule
229.10(f)(1).





ITEM
4.                CONTROLS
AND PROCEDURES.





Evaluation
of Disclosure Controls and Procedures




Our
management, with the participation of our Chief Executive Officer (“CEO”), has
evaluated the effectiveness of the Company’s disclosure controls and procedures
(as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities
Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the
period covered by this report (March 31, 2009). Based on such evaluation which
disclosed numerous material weaknesses as noted below, our CEO has concluded
that, as of the end of such period, the Company’s disclosure controls and
procedures were not effective in recording, processing, summarizing and
reporting, on a timely basis, information required to be disclosed by the
Company in the reports that it files or submits under the Exchange Act and are
not effective in ensuring that information required to be disclosed by the
Company in the reports that it files or submits under the Exchange Act is
accumulated and communicated to the Company’s management, including the
Company’s CEO, as appropriate to allow timely decisions regarding required
disclosure.




Management
Report on Internal Control Over Financial Reporting




Management
of Innovative Card Technologies, Inc. is responsible for establishing and
maintaining adequate internal control over financial reporting, as defined in
Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934.
Internal control over financial reporting is a process designed by, or under the
supervision of, the Company’s principal executive and principal financial
officers to provide reasonable assurance to the Company’s management and board
of directors regarding the reliability of financial reporting and the
preparation of financial statements for external purposes in accordance with
generally accepted accounting principles. Internal control over financial
reporting includes those policies and procedures that:


22





·
            pertain
      to the maintenance of records that in reasonable detail accurately and
      fairly reflect the transactions and dispositions of the assets of the
      Company;




·
            provide
      reasonable assurance that transactions are recorded as necessary to permit
      preparation of financial statements in accordance with generally accepted
      accounting principles, and that receipts and expenditures of the Company
      are being made only in accordance with authorizations of management and
      directors of the Company; and




·
            provide
      reasonable assurance regarding prevention or timely detection of
      unauthorized acquisition, use or disposition of the Company’s assets that
      could have a material effect on the financial
  statements.




Because
of inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Projections of any evaluation of effectiveness
to future periods are subject to the risks that controls may become inadequate
because of changes in conditions, or that the degree of compliance with the
policies or procedures may deteriorate. A control system, no matter how well
designed and operated, can provide only reasonable, but 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.




Management
assessed the effectiveness of the Company’s internal control over financial
reporting as of March 31, 2009. In making this assessment, management used the
criteria set forth inInternal
Control-Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (“COSO”)  Based on our
assessment at March 31, 2009, management believes that our internal control over
financial reporting was not effective based on criteria set forth by the COSO.
The following material weaknesses were identified in our internal control over
financial reporting at March 31, 2009:




·
            We
      performed a financial close on a quarterly basis through March 2008
      (effective April 2008 we began a monthly close process). The analysis of
      actual to budgeted results was either done marginally or not at all and
      there was no mechanism in place to evaluate variances, investigate unusual
      activity or communicate findings to senior management or the board of
      directors.




·
            During
      the quarterly financial close we did not utilize a financial closing
      checklist or prepare other documentation to ensure that all items had been
      considered for inclusion in this
report




·
            We
      are unable to maintain the proper segregation of various accounting and
      finance duties because of our small size and limited resources. At risk
      areas include cash receipts and payments, processing of journal entries
      and account reconciliations.




·
            Much
      of the financial closing process is done off-line on electronic
      spreadsheets that are maintained on individual computers, unable to be
      shared by accounting personnel and not backed
  up.




·
            We
      have not performed a physical inventory of fixed assets. As a result, we
      failed to identify idle fixed assets that were not in our possession until
      late in the closing process necessitating an adjustment to our
      results.




·
            Through
      April 2008, we did not consistently utilize purchase orders when
      purchasing inventory, which could lead to uncertainty regarding our
      quarter end commitments. Effective May 2008 we began this
      process.




·
            Formal
      job descriptions do not exist and annual reviews are not
      performed.




·
            During
      the fourth quarter of 2008 our CEO and CFO resigned. This caused us to
      have limited oversight of operations and less review of
      activity.




·
            Due
      to the deficiencies discussed above, we were not able to complete our
      December 31, 2008 annual close in a timely manner which lead to filing our
      Form 10-K late.




We intend
to remediate these material weaknesses during 2009. As concerns the material
weakness relating to segregation of duties, we are re-examining our procedures
to include compensating controls and minimize the risk associated with having
limited resources in the accounting department.





Notwithstanding
these material weaknesses, we believe that our financial condition, results of
operations and cash flows presented in this report of Form 10-Q are fairly
presented in all material respects. We base our conclusion on our ability to
substantiate, with a high degree of confidence, the small number of significant
general ledger accounts that comprise our financial statements.


23


Changes
in Internal Control Over Financial Reporting





There
were no changes to our internal control over financial reporting (as defined in
Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during
the period covered by this report that have materially affected, or are
reasonably likely to materially affect, our internal control over financial
reporting.





PART
II


OTHER
INFORMATION





ITEM
1.                LEGAL
PROCEEDINGS





As of the
date of this Quarterly Report, there are no material pending legal or
governmental proceedings relating to our company or properties to which we are a
party, and to our knowledge there are no material proceedings to which any of
our directors, executive officers or affiliates are a party adverse to us or
which have a material interest adverse to us.





ITEM
1A.             RISK
FACTORS





Investing
in our common stock involves a high degree of risk. We have described below a
number of uncertainties and risks which, in addition to uncertainties and risks
presented elsewhere in this Quarterly Report, may adversely affect our business,
operating results and financial condition.  The uncertainties and risks
enumerated below as well as those presented elsewhere in this Quarterly Report
should be considered carefully in evaluating our company and our business and
the value of our securities.





We
are in default of our 8% Senior Secured Debentures.





We are in
default of our debt agreements entered into in January 2008 and
April 2008 in connection with the sale of our 8% Senior Secured
Debentures.  In September 2008, we agreed to defer a portion of the
interest payments due October 1, 2008 and January 1, 2009. Such deferral
resulted in those payments, plus a ten percent (10%) deferral charge being added
to the principal balance of those debentures.    On February 20,
2009, as a result of our common shares being delisted from the NASDAQ Capital
Market, we defaulted on our 8% Senior Secured Debentures issued in
January and April of 2008.  As a result, investors can call
the debentures and demand immediate repayment.  Our inability to repay
the outstanding balance may result in the debenture holders exercising their
remedies and foreclosing on substantially all of our assets.  In such
instance, we could be forced to seek bankruptcy protection or the debenture
holders could take our assets as satisfaction of their
indebtedness.  In either instance, this will result in a total loss of
our common shareholders’ investment.





Our
independent registered public accounting firm has raised concerns about our
ability to continue as a going concern.





Our
auditors have added an explanatory paragraph to their opinion on our financial
statements for the year ended December 31, 2008 because of concerns about
our ability to continue as a going concern. These concerns arise from the fact
that we have not yet established an ongoing source of revenues sufficient to
cover our operating costs.  As a result, we must raise additional
capital in order to continue to operate our business. If we fail to generate
positive cash flows or obtain additional financing when required, we will have
to modify, delay or abandon some or all of our business and expansion
plans.




The
Company has a history of recurring losses from operations and has an accumulated
deficit of $43,383,315 as of March 31, 2009. Sales of the InCard
DisplayCard, the Company’s main product, are not expected to generate positive
cash flow until the fourth quarter of 2009. As a result, there is substantial
doubt about the Company’s ability to continue as a going concern.





Our plan
regarding these matters is to raise additional debt and/or equity financing to
allow us the ability to cover our current cash flow requirements and meet our
obligations as they become due.





There can
be no assurances that financing will be available or if available, that such
financing will be available under favorable terms. In the event that we are
unable to generate adequate revenues to cover expenses and cannot obtain
additional financing in the near future, we may seek protection under bankruptcy
laws.





Our
common shares were delisted from the NASDAQ Capital Market.





On
February 20, 2009, our common shares were delisted from the NASDAQ Capital
Market.  As a result of the delisting, our shares now trade on the
Over-the-Counter Bulletin Board and on the Pinksheets.  Historically,
the volume and liquidity of these markets has been significantly less than on
the NASDAQ Capital Market.  Addition, shares listed on these markets
are unlikely to be followed by market analysts and there may be few market
makers for our common stock. Either of these factors could adversely affect the
liquidity and trading price of our common stock and could result in large
fluctuations in market price.


24


Our
common stock is subject to the penny stock regulations and
restrictions.




The
trading of our securities, if any, will be in the OTCBB as maintained by FINRA.
As a result, an investor may find it difficult to dispose of, or to obtain
accurate quotations as to the price of our common stock.




Rule
3a51-1 of the Securities Exchange Act of 1934 establishes the definition of a
"penny stock," for purposes relevant to us, as any equity security that has a
minimum bid price of less than $5.00 per share or with an exercise price of less
than $5.00 per share, subject to a limited number of exceptions which are
not available to us. It is likely that our shares will be considered to be penny
stocks for the immediately foreseeable future. This classification severely and
adversely affects any market liquidity for our common stock.




For any
transaction involving a penny stock, unless exempt, the penny stock rules
require that a broker or dealer approve a person's account for transactions in
penny stocks and the broker or dealer receive from the investor a written
agreement to the transaction setting forth the identity and quantity of the
penny stock to be purchased.  In order to approve a person's account for
transactions in penny stocks, the broker or dealer must obtain financial
information and investment experience and objectives of the person and make a
reasonable determination that the transactions in penny stocks are suitable for
that person and that that person has sufficient knowledge and experience in
financial matters to be capable of evaluating the risks of transactions in penny
stocks.




The
broker or dealer must also deliver, prior to any transaction in a penny stock, a
disclosure schedule prepared by the SEC relating to the penny stock market,
which, in highlight form, sets forth:




·
            the
      basis on which the broker or dealer made the suitability determination,
      and





·
            that
      the broker or dealer received a signed, written agreement from the
      investor prior to the transaction.




Disclosure
also has to be made about the risks of investing in penny stocks in both public
offerings and in secondary trading and commissions’ payable to both the
broker-dealer and the registered representative, current quotations for the
securities and the rights and remedies available to an investor in cases
of fraud in penny stock transactions. Finally, monthly statements have to
be sent disclosing recent price information for the penny stock held in the
account and information on the limited market in penny stocks.




Because
of these regulations, broker-dealers may not wish to engage in the
above-referenced necessary paperwork and disclosures and may encounter
difficulties in their attempt to sell shares of our common
stock.  These additional sales practice and disclosure requirements
could impede the sale of our common stock. In addition, the liquidity for our
common stock may decrease, with a corresponding decrease in the price of our
common stock. Our shares, in all probability, will be subject to such penny
stock rules for the foreseeable future and our shareholders will, in all
likelihood, find it difficult to sell their common stock.




The
market for penny stocks has experienced numerous frauds and abuses.




We
believe that the market for penny stocks has suffered from patterns of fraud and
abuse. Such patterns include:




·
            Control
      of the market for the security by one or a few broker-dealers that are
      often related to the promoter or
issuer;





·
            Manipulation
      of prices through prearranged matching of purchases and sales and false
      and misleading press releases;




·
            “Boiler
      room" practices involving high pressure sales tactics and unrealistic
      price projections by inexperienced sales
  persons;





·
            Excessive
      and undisclosed bid-ask differentials and markups by selling
      broker-dealers; and




·
            Wholesale
      dumping of the same securities by promoters and broker-dealers after
      prices have been manipulated to a desired level, along with the inevitable
      collapse of those prices with consequent investor
  losses.




As a
result, investors may have the perception that penny stocks are too risky or
involve a high degree of fraud.  As a result, these factors will make
the development of an active market for our common shares more
difficult.





We
are an early stage company with an unproven business strategy.





Our
business prospects are difficult to predict because of our limited operating
history, early stage of development and unproven business strategy. Since our
incorporation, we have primarily been and continue to be involved in development
of products using our power inlay technology and marketing these products to
industry partners. In 1998, our founder commenced commercialization of our first
product, the LensCard, and entered into license agreements with banks and credit
card issuers, most of which have terminated. After discovering the possibility
of placing power into an International Organization of Standards (ISO) compliant
card, we began to focus our efforts on the development of our power inlay
technology and not on the marketing of the LensCard. For these reasons, we
expect that future orders for the LensCard will be insignificant. We closed our
first commercial sale of our InCard DisplayCard, which uses our power inlay
technology, in the fourth quarter of 2007. Although we believe that our power
inlay technology and products under development have significant profit
potential, we may not attain profitable operations and may not succeed in
realizing our business objectives.


25


We
may currently be operating in the “zone of insolvency.”





Generally,
a corporation’s directors owe a fiduciary duty to the corporation’s shareholders
and not to its creditors. The duties of the directors to creditors do not expand
beyond the relevant contractual terms. However, when a corporation is operating
in the “zone of insolvency,” the fiduciary duties of directors is both to the
shareholders and creditors.


To
be successful we will require additional capital, which we may be unable to
obtain.





We
believe that our current cash, combined with anticipated revenue collections,
will be enough to fund our operations through the end of this year.  We
currently do not have any binding commitments for, or readily available sources
of additional financing, and we cannot assure you that such funding will be
available at all or available on terms acceptable to us. If we are unable to
raise additional capital we may be forced to file for bankruptcy.





We depend on a
limited number of suppliers.





We obtain
the battery, a key component for our power inlay technology, from a single
source on a purchase order basis from Solicore, Inc. In the event of a
disruption or discontinuation in supply, we may not be able to  obtain
replacement batteries on a timely basis, which would disrupt our operations,
delay production  and impair our ability to manufacture and sell our
products.





We obtain
the display, a key component for the InCard DisplayCard, from a single source,
SmartDisplayer, under a written agreement. In the event of a disruption or
discontinuation in supply, we  may not be able to obtain replacement
displays on a timely basis, which would disrupt our operations, delay
production  and impair our ability to manufacture and sell our InCard
DisplayCard.




Our
dependence upon outside suppliers exposes us to risks, including:




·
            the
      possibility that our suppliers will experience major disruptions in
      production, which is exacerbated by the fact that we are a major customer
      of our suppliers;





·
            the
      solvency of our suppliers and the potential that our suppliers will be
      solely dependent upon us;




·
            the
      potential inability of our suppliers to obtain required components or
      products;





·
            reduced
      control over pricing, quality and timely delivery, due to the difficulties
      in switching to alternative
suppliers;





·
            the
      potential delays and expense of seeking alternative sources of suppliers;
      and





·
            increases
      in prices of key components.




We
may not be able to develop our products due to inadequate
resources.





Our
business strategy is to develop and market new products using our power inlay
technology that can enhance payment and other information-bearing plastic cards.
We believe that our revenue growth and profitability, if any, will substantially
depend upon our ability to:




·
            mass
      produce the InCard DisplayCard at significantly lower
  cost;





·
            continue
      to fund research and development
endeavors;




·
            complete
      development of new products; and





·
            successfully
      introduce and commercialize new
products.




If we do
not devote adequate resources to our product development efforts, we may be
unable to develop our products, which would adversely affect our revenue growth
and profitability.


26


Our
inability to protect our intellectual property could reduce our ability to
compete in the market.





Establishment
of patents and other proprietary rights by us and our suppliers is important to
our success and our competitive position. Performance in the payment card
industry can depend, among other factors, on patent protection. Our policy is to
identify patentable inventions we developed and to seek to acquire patent rights
for such inventions. We mainly develop and patent technology in the fields of
card enhancements and methods of card manufacturing. We seek to obtain a
reasonably broad territorial protection for our patented technologies. We
usually file initial patent applications in the United States, and subsequently
file corresponding applications in   foreign countries depending on the
relevant circumstances. We may elect to forego patent protection for some of our
proprietary technologies   and treat such technologies as trade secrets.
Despite our efforts to establish and protect our patents, trade secrets or other
proprietary rights, unauthorized parties may attempt to copy aspects of our
technology or to obtain and use information that we regard as proprietary. In
addition, the laws of some foreign countries do not protect our proprietary
rights as much as the laws of the United States protect them. Our means of
establishing and protecting our proprietary rights may not be adequate, and our
competitors may independently develop similar technology, duplicate our products
or design around our patents or our other proprietary rights. 
We  have limited patent protection for our InCard
DisplayCard.





Due to
the importance of proprietary technology in the payment card industry, our
business involves a risk of overlap with third party patents and subsequent
litigation with competitors or patent-holders. Any claims, with or without
merit, could be time-consuming, result in costly litigation, or cause us to
enter into licensing agreements




We
depend on key personnel.





We rely
to a substantial extent on the management, marketing and product development
skills of our key employees and consultants, particularly Richard Nathan, our
President and Chief Executive Officer, Craig Nelson, who supervises the
manufacturing and testing of the InCard DisplayCard, and Mark Poidomani, our
chief technology officer, to formulate and implement our business plan. Our
success depends to a significant extent upon our ability to retain and attract
key personnel. Competition for employees can be intense in the payment card
industry, and the process of locating key personnel with the right combination
of skills is often lengthy. The loss of any key personnel may significantly
delay or prevent the achievement of product development and could have a
material adverse effect on us.




Our
products might not achieve market acceptance.





The
commercial success of our future products will depend upon the adoption of our
power inlay technology as a preferred method of applying card enhancements to
payment cards. In order to be successful, our future products must meet the
technical and cost requirements for card enhancements within the payment card
industry. Market acceptance will depend on many factors, including:




·
            our
      ability to convince prospective strategic partners and customers to adopt
      our products;





·
            the
      willingness and ability of prospective strategic partners and customers to
      adopt our products; and




·
            our
      ability to sell and service sufficient quantities of our
      products.




Because
of these and other factors, our products may not achieve market acceptance. If
our products do not achieve market acceptance, demand for our products will not
develop as expected and it is highly unlikely that we will become
profitable.





We
have granted third parties substantial marketing rights to certain of our
products and products under development.





Some of
our agreements with our corporate marketing partners contain no minimum purchase
requirements in order for them to maintain their exclusive marketing rights. In
the future, third-party marketing assistance may not be available on reasonable
terms, if at all. If marketing partners do not order adequate quantities of our
products or if we are unable to procure third-party marketing assistance on
reasonable terms, we may not be able to commercialize our products, which could
negatively impact our results of operations or substantially limit our ability
to execute our business strategy.





Failure to
manufacture in mass production may have a material negative effect on our
business strategy and operations.





Our power
inlay technology has only been produced in limited production quantities. We are
applying our own resources and working in cooperation with other companies that
have specialized technical expertise related to the power inlay technology for
thin, flexible non-payment cards. Failure to secure or maintain these
relationships or failure to successfully transition to full scale production may
have a material negative effect on our business.


27


We
rely substantially on third-party manufacturers.





To be
successful, we must manufacture, or contract for the manufacture of, our future
products in compliance with industry standards and on a timely basis. As
discussed in the risk factor above, we are working in cooperation with other
companies that have specialized technical expertise related to the manufacturing
process of our power inlay technology for the InCard DisplayCard. We also
currently use a limited number of sources for most of the supplies and services
that we use in the manufacturing of our power inlay technology and prototypes.
Our manufacturing strategy presents the following risks:





·
            delays
      in the quantities needed for product development could delay
      commercialization of our products in
  development;





·
            if
      we need to change to other commercial manufacturers, any new manufacturer
      would have to be educated in, or develop substantially equivalent
      processes necessary for, the production of our
  products;




·
            if
      market demand for our products increases suddenly, our current
      manufacturers might not be able to fulfill our commercial needs, which
      would require us to seek new manufacturing arrangements and may result in
      substantial delays in meeting market demand;
and





·
            we
      may not have intellectual property rights, or may have to share
      intellectual property rights, to any improvements in the manufacturing
      processes or new manufacturing processes for our
  products.





Any of
these factors could delay commercialization of our products under development,
entail higher costs and result in our being unable to effectively manufacture
our products.





Some
of our competitors have significantly greater resources than we.





We
believe that the principal competitive factors that affect the market for tokens
include convenience, price, quality/reliability, ease of use, and distribution
cost. We cannot assure you that we will be able to maintain our competitive
position against current and potential competitors, especially those with
significant marketing, service, support, technical and other competitive
resources.





Our
competitors have significantly greater financial, technical, marketing,
purchasing and other resources than we do, and as a result, may be able to
respond more quickly to new or emerging technologies and changes in customer
requirements, or to devote greater resources to the development, promotion and
sale of products, or to deliver competitive products at a lower end-user price.
Our inability to successfully compete will materially and adversely affect our
business.





Risks
Related to our Securities





We
do not anticipate paying any cash dividends.





We plan
to use all of our earnings, to the extent we have earnings, to fund our
operations. We do not plan to pay any cash dividends in the foreseeable
future.  Therefore, any return on your investment would be derive from
an increase in the price of our stock, which may or may not occur.





Sales
of our common stock in the public market may depress our stock
price.





As of
March 31, 2009, we had 28,495,256 shares of common stock outstanding. All of
these shares can be traded pursuant to a prospectus or via a transaction
pursuant to Rule 144 under the Securities Act of 1933. On a fully diluted
basis, including shares issuable upon exercise of warrants and stock options and
convertible debentures, we have 43,592,909 shares outstanding.





If our
stockholders sell substantial amounts of common stock in the public market, or
the market perceives that such sales may occur, the market price of our common
stock could fall, which could result in a significant loss on any investment you
make in our common stock. The sale of a large number of shares could impair our
ability to raise needed capital by depressing the price at which we could sell
our common stock.





We
may be subject to securities litigation as the price of our common stock has
drastically decreased over the past nine months.





During
the past nine months, the price of our common stock has decreased from $1.27 on
June 30, 2008 to $0.15 as of March 31, 2009.  Although management
feels that at all times it has acted in the best interest of the company’s
shareholders, such declines in stock price have historically increased the
probability of becoming the subject of a securities class action law
suit.  If we were to become the target of such litigation, we will
have to spend considerable time and resources in defending such
litigation.  This would result in management diverting its focus from
the development and sale of our products.  Additionally, such
litigation is extremely costly and will deplete our assets.


28


We
may raise additional capital through a securities offering that could dilute
your ownership interest and voting rights.





Our
certificate of incorporation currently authorizes our board of directors to
issue up to 75,000,000 shares of common stock and 5,000,000 shares of preferred
stock. As of March 31, 2009, after taking into consideration our outstanding
common and preferred shares and our contingently issuable shares, our board of
directors will be entitled to issue up to 31,407,091 additional common shares
and 5,000,000 preferred shares. The power of the board of directors to issue
these shares of common stock, preferred stock or warrants or options to purchase
shares of our stock is generally not subject to stockholder
approval.




We will
require additional working capital to fund our business. If we raise additional
funds through the issuance of equity, equity-related or convertible debt
securities, these securities may have rights, preferences or privileges senior
to those of the holders of our common stock. The issuance of additional common
stock or securities convertible into common stock will also have the effect of
diluting the proportionate equity interest and voting power of holders of our
common stock.





Our
incorporation documents and Delaware law may inhibit a takeover that
stockholders consider favorable and could also limit the market price of your
stock, which may inhibit an attempt by our stockholders to change our direction
or management.





Our
amended and restated certificate of incorporation and bylaws contain provisions
that could delay or prevent a change in control of our company. Some of these
provisions:





·
            authorize
      our board of directors to determine the rights, preferences, privileges
      and restrictions granted to, or imposed upon, the preferred stock and
      to fix the number of shares constituting any series and the designation of
      such series without further action by our stockholders;·
            prohibit
      stockholders from calling special
meetings;




·
            prohibit
      cumulative voting in the election of directors, which would otherwise
      allow less than a majority of stockholders to elect director
      candidates;





·
            establish
      advance notice requirements for submitting nominations for election to the
      board of directors and for proposing matters that can be acted upon by
      stockholders at a meeting; and





·
            prohibit
      stockholder action by written consent, requiring all stockholder actions
      to be taken at a meeting of our
stockholders.




In
addition, we are governed by the provisions of Section 203 of the Delaware
General Corporate Law. These provisions may prohibit large stockholders, in
particular those owning 15% or more of our outstanding voting stock, from
merging or combining with us, which may prevent or frustrate any attempt by our
stockholders to change our management or the direction in which we are heading.
These and other provisions in our amended and restated certificate of
incorporation and bylaws and under Delaware law could reduce the price that
investors might be willing to pay for shares of our common stock in the future
and result in the market price being lower than it would be without these
provisions.





New
rules, including those contained in and issued under the Sarbanes-Oxley Act of
2002, may make it difficult for us to retain or attract qualified officers and
directors.





We may be
unable to attract and retain qualified officers, directors and members of board
committees required to provide for our effective management as a result of the
recent and currently proposed changes in the rules and regulations that
govern publicly held companies, including, but not limited to, certifications
from executive officers and requirements for financial experts on the board of
directors. The perceived increased personal risk associated with these recent
changes may deter qualified individuals from accepting these roles. The
enactment of the Sarbanes-Oxley Act of 2002 has resulted in the issuance of a
series of new rules and regulations and the strengthening of existing
rules and regulations by the Securities and Exchange Commission (the
“SEC”). Further, certain of these recent and proposed changes heighten the
requirements for board or committee membership, particularly with respect to an
individual’s independence from the corporation and level of experience in
finance and accounting matters. We may have difficulty attracting and retaining
directors with the requisite qualifications. If we are unable to attract and
retain qualified officers and directors, the management of our business could be
adversely affected.





Our
management has concluded that, as of March 31, 2009, our disclosure controls and
procedures were not effective.





Our
management, with the participation of our Chief Executive Officer (“CEO”) and
Chief Financial Officer (“CFO”), has evaluated the effectiveness of the
Company’s disclosure controls and procedures (as such term is defined in
Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of
1934, as amended (the “Exchange Act”)) as of March 31, 2009. Based on such
evaluation which disclosed numerous material weaknesses, our CEO and CFO have
concluded that, as of March 31, 2009, the Company’s disclosure controls and
procedures were not effective in recording, processing, summarizing and
reporting, on a timely basis, information required to be disclosed by the
Company in the reports that it files or submits under the Exchange Act and were
not effective in ensuring that information required to be disclosed by the
Company in the reports that it files or submits under the Exchange Act is
accumulated and communicated to the Company’s management, including the
Company’s CEO and CFO, as appropriate to allow timely decisions regarding
required disclosure. If we fail to implement new or improved disclosure
controls, investors could lose confidence in the reliability of our financial
statements, which could result in a decrease in the value of our common
stock.


29


We
have identified numerous material weaknesses in our internal control over
financial reporting.





As
directed by Section 404 of the Sarbanes-Oxley Act of 2002, the SEC adopted
rules requiring public companies to include a report of management on
internal control over financial reporting in their Annual Reports on
Form 10-K. This report is required to contain an assessment by management
of the effectiveness of a company’s internal control over financial reporting.
Our non-affiliated market capitalization qualified us as a “Smaller Reporting
Company” effective in 2009. As a result, we are required to include our
management’s report on internal control over financial reporting in this Annual
Report but are not required to include our auditors’ attestation report on our
internal control over financial reporting.   As discussed in our
December 31, 2008 Annual Report, we have concluded that, as of December 31,
2008, our internal control over financial reporting were not effective and
identified a number of material weaknesses in our internal control over
financial reporting. While we intend to remedy these weaknesses during the
current fiscal year, we may be unable to do so. If we fail to implement required
new or improved controls there may be an adverse reaction in the financial
markets due to a loss of confidence in the reliability of our financial
statements, which could cause the market price of our common stock to
decline.





ITEM
2.                UNREGISTERED
SALES OF EQUITY SECURITIES AND USE OF PROCEEDS





We
incorporate by reference the information pertaining to unregistered sales of
equity securities as disclosed in our annual report file on Form 10-K for the
period ended December 31, 2008.  The following information is given with
regard to unregistered securities sold during the period covered by this report
that were not registered under the Securities Act and were not previously
included in a Current Report on Form 8-K.





None





ITEM
3.                DEFAULT
UPON SENIOR SECURITIES





In
September 2008, we agreed with certain Debenture holders to defer a portion of
the interest payments due October 1, 2008 and January 1, 2009. Such deferral
resulted in those payments, plus a ten percent (10%) deferral charge being added
to the principal balance of those debentures.   On February 20,
2009, as a result of our common shares being delisted from the NASDAQ Capital
Market, we defaulted on our 8% Senior Secured Debentures issued in
January and April of 2008.  As a result, investors can call
the debentures and demand immediate repayment.  Our inability to repay
the outstanding balance may result in the debenture holders exercising their
remedies and foreclosing on substantially all of our assets.  In such
instance, we could be forced to seek bankruptcy protection or the debenture
holders could take our assets as satisfaction of their
indebtedness.  In either instance, this will result in a total loss of
our common shareholders’ investment.  At present, we are attempting to
modify the terms of the debentures and cure such default.  There can
be no assurance that we will be able to modify the terms of the debentures, or
that if we do, that such modification will allow us to continue
operating.





ITEM
4.                SUBMISSION
OF MATTERS TO A VOTE OF SECURITY HOLDERS





None





ITEM
5.                OTHER
INFORMATION





None





ITEM
5.                OTHER
INFORMATION





The
exhibits listed in the accompanying index to exhibits are filed or incorporated
by reference as part of this Form 10-Q.





SIGNATURES





In
accordance with the requirements of the Securities Exchange Act of 1934, the
Registrant has caused this report to be signed by the undersigned hereunto duly
authorized.




INNOVATIVE
      CARD TECHNOLOGIES, INCDated:
      June 15, 2009
                    
                    By:
                    /S/
      Richard NathanRichard
      Nathan
                      Chief
      Executive Officer and Chief Financial
                      Officer


30


INDEX
TO EXHIBITS




Incorporated by
ReferenceExhibit
                                                  No.
                                                
                                                Description
                                                
                                                Filed
                                                  Herewith
                                                
                                                Form
                                                
                                                Exhibit
                                                  No.
                                                
                                                File No.
                                                
                                                Filing Date3.01(i)
                                                
                                                Amended
      and Restated Certificate of Incorporation of Innovative Card Technologies,
      Inc. filed on 5/11/05
                                                
                                                
                                                
                                                10-K
                                                
                                                3.01(i)
                                                
                                                001-33353
                                                
                                                5/15/093.02(i)
                                                
                                                Certificate
      of Amendment to Certificate of Incorporation of Innovative Card
      Technologies, Inc. filed on 12/21/07
                                                
                                                
                                                
                                                8-K
                                                
                                                3.1
                                                
                                                001-33353
                                                
                                                1/2/083.03(ii)
                                                
                                                Amended
      and Restated Bylaws of Innovative Card Technologies, Inc. adopted on May
      5, 2005
                                                
                                                
                                                
                                                10-K
                                                
                                                3.03(ii)
                                                
                                                001-33353
                                                
                                                5/15/0910.01**
                                                
                                                2004
      Stock Incentive Plan as amended
                                                
                                                
                                                
                                                S-8
                                                
                                                10.1
                                                
                                                333-137033
                                                
                                                3/25/0810.02
                                                
                                                Form
      of Warrant pursuant to private placement dated October 19,
      2005
                                                
                                                
                                                
                                                8-K
                                                
                                                4.1
                                                
                                                000-51260
                                                
                                                10/25/0510.03
                                                
                                                Form
      of Warrant issued to TR Winston & Company, LLC dated May 30,
      2006
                                                
                                                
                                                
                                                8-K
                                                
                                                4.1
                                                
                                                000-51260
                                                
                                                5/31/0610.04
                                                
                                                Form
      of Securities Purchase Agreement dated May 30, 2006
                                                
                                                
                                                
                                                8-K
                                                
                                                10.1
                                                
                                                000-51260
                                                
                                                5/31/0610.05
                                                
                                                Form
      of Registration Rights Agreement dated May 30, 2006
                                                
                                                
                                                
                                                8-K
                                                
                                                10.2
                                                
                                                000-51260
                                                
                                                5/31/0610.06
                                                
                                                Licensing
      Agreement dated September 26, 2006 by and between Innovative Card
      Technologies, Inc. and NCryptone, SA as license
                                                
                                                
                                                
                                                SB-2
                                                
                                                10.35
                                                
                                                333-135715
                                                
                                                7/12/0610.07
                                                
                                                Licensing
      Agreement dated September 26, 2006 by and betweenNCryptone, SA as licensor
      and  Innovative Card as license
                                                
                                                
                                                
                                                SB-2
                                                
                                                10.36
                                                
                                                333-135715
                                                
                                                7/12/0610.08
                                                
                                                Form
      of Indemnification Agreement for Executive Officers and Directors of
      Innovative Card Technologies, Inc.
                                                
                                                
                                                
                                                8-K
                                                
                                                10.1
                                                
                                                001-33353
                                                
                                                3/23/0710.09**
                                                
                                                2007
      Equity Incentive Plan
                                                
                                                
                                                
                                                10-QSB
                                                
                                                10.44
                                                
                                                001-33353
                                                
                                                11/19/0710.10
                                                
                                                Form
      of Indemnification Agreement entered into between the Company and Messrs.
      Delcarson and Caporale
                                                
                                                
                                                
                                                8-K
                                                
                                                10.1
                                                
                                                001-33353
                                                
                                                11/29/0710.11
                                                
                                                Form
      of Securities Purchase Agreement Dated January 8, 2008
                                                
                                                
                                                
                                                8-K
                                                
                                                10.1
                                                
                                                001-33353
                                                
                                                1/9/07


31





10.12
              
              Form
      of 8% Senior Secured Convertible Debenture issued January 8,
      2008
              
              
              
              8-K
              
              10.2
              
              001-33353
              
              1/9/0710.13
              
              Form
      of Common Stock Purchase Warranted issued January 8, 2008
              
              
              
              8-K
              
              10.3
              
              001-33353
              
              1/9/0710.14
              
              Form
      of Registration Rights Agreement dated January 8, 2008
              
              
              
              8-K
              
              10.4
              
              001-33353
              
              1/9/0710.15
              
              Form
      of Security Agreement dated January 8, 2008
              
              
              
              8-K
              
              10.5
              
              001-33353
              
              1/9/0710.16
              
              Form
      of Subsidiary Guarantee dated January 8, 2008
              
              
              
              8-K
              
              10.6
              
              001-33353
              
              1/9/0710.17**
              
              Form
      of Lock-Up Agreement dated January 8, 2008
              
              
              
              8-K
              
              10.7
              
              001-33353
              
              1/9/0710.18**
              
              Executive
      Employment Agreement of Steven Delcarson
              
              
              
              8-K
              
              10.1
              
              001-33353
              
              4/2/0810.19**
              
              Executive
      Employment Agreement of Charles Caporale
              
              
              
              8-K
              
              10.2
              
              001-33353
              
              4/2/0810.20
              
              Form
      of Securities Purchase Agreement Dated April 15, 2008
              
              
              
              8-K
              
              10.1
              
              001-33353
              
              4/16/0810.21
              
              Form
      of 8% Senior Secured Convertible Debenture issued April 15,
      2008
              
              
              
              8-K
              
              10.2
              
              001-33353
              
              4/16/0810.22
              
              Form
      of Common Stock Purchase Warranted issued April 15, 2008
              
              
              
              8-K
              
              10.3
              
              001-33353
              
              4/16/0810.23
              
              Form
      of Registration Rights Agreement dated April 15, 2008
              
              
              
              8-K
              
              10.4
              
              001-33353
              
              4/16/0810.24
              
              Form
      of Security Agreement dated April 15, 2008
              
              
              
              8-K
              
              10.5
              
              001-33353
              
              4/16/0810.25
              
              Form
      of Subsidiary Guarantee dated April 15, 2008
              
              
              
              8-K
              
              10.6
              
              001-33353
              
              4/16/08




32





10.26
                
                Form
      of Lock-Up Agreement dated April 15, 2008
                
                
                
                8-K
                
                10.7
                
                001-33353
                
                4/16/0810.27**
                
                Form
      of Executive Employment Agreement of Vincent M. Schiavo, dated as of May
      22, 2008
                
                
                
                8-K
                
                10.1
                
                001-33353
                
                5/27/0810.28**
                
                Employment
      Agreement of Mr. Richard Nathan dated February 20, 2009
                
                
                
                8-K
                
                10.01
                
                001-33353
                
                2/24/0914.01
                
                Code
      of Ethics
                
                
                
                10-KSB
                
                14.0
                
                000-51260
                
                3/20/0621.1
                
                List
      of Subsidiaries
                
                
                
                SB-2
                
                21.1
                
                333-119814
                
                10/19/0431.1
                
                Certification
      of the Principal Executive Officer Pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002
                
                *31.2
                
                Certification
      of the Principal Financial Officer Pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002
                
                *32.1
                
                Certification
      of Principal Executive Officer Pursuant to 18 U.S.C. §
1350
                
                *32.2
                
                Certification
      of Principal Financial Officer Pursuant to 18 U.S.C. §
1350
                
                *




**Management
contracts or compensation plans or arrangements in which directors or executive
officers are eligible to participate.


33