**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-Q**

 

**Mark One**

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

** **

**For The Quarterly Period Ended March 31,2008**

** **

**OR**

** **
| **o** | ** ** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934** |
|-------|------------|----------------------------------------------------------------------------------------------------------|

 

**For the Transition Period from             to            **

 

**Commission File Number 000-51260**

 

**INNOVATIVECARD TECHNOLOGIES, INC.**

(Exact name of registrant as specified in itscharter)

 

| **DELAWARE**                                                     | ** ** | **90-0249676**                       |
|------------------------------------------------------------------|------------|--------------------------------------|
| (State or other jurisdiction of  incorporation  or organization) |       | (IRS Employer Identification Number) |
|                                                             |       |                                 |
| **10880 Wilshire Blvd, Suite 950**                          | ** ** | ** **                           |
| **Los Angeles, CA**                                              | ** ** | **90024**                            |
| (Address of principal executive offices)                         |       | (Zip code)                           |

 

**(310) 312-0700**

(Registrant’s telephone number, includingarea code)

 

Indicate by check mark whether the Registrant (1) has filed allreports required to be filed by Section 13 or 15(d) of the SecuritiesExchange Act of 1934 during the preceding 12 months, and (2) has beensubject to such filing requirements for the past 90 days.

 

Yes       x  No  o

 

Indicate by check mark whether the Registrant is a large acceleratedfiler, an accelerated filer, or a non-accelerated filer. (See definition of “acceleratedfiler and large accelerated filer” in Rule 12b-2 of the Exchange Act.)

 

| Large  accelerated filer o                     |   | Accelerated  filer x         |
|------------------------------------------------|--------|-----------------------------------|
|                                           |   |                              |
| Non-accelerated  filer o                       |   | Smaller  reporting company o |
| (Do  not check if a smaller reporting company) |   |                              |

 

Indicate by check mark whether the Registrant is a shell company (asdefined in Rule 12b-2 of the Exchange Act.):

 

Yes  o   No x

 

As of May 7, 2008 28,535,256 shares of the Registrant’s commonstock were outstanding.

 

 

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**INNOVATIVE CARD TECHNOLOGIES, INC.**

 

INDEXTO FORM 10Q

 
| ** **   | ** **                                                                                                                                       | **PAGE** |
|--------------|--------------------------------------------------------------------------------------------------------------------------------------------------|----------|
|         |                                                                                                                                             |     |
| PART I  | FINANCIAL  INFORMATION                                                                                                                           | 3        |
|         |                                                                                                                                             |     |
| Item 1.      | Financial  Statements                                                                                                                            | 3        |
|         |                                                                                                                                             |     |
|         | Condensed Consolidated Balance Sheets at  March 31, 2008 (unaudited) and December 31, 2007                                             | 3        |
|         |                                                                                                                                             |     |
|         | Condensed Consolidated Statements of Operations for  the three months ended March 31, 2008  (unaudited) and March 31, 2007 (unaudited) | 4        |
|         |                                                                                                                                             |     |
|         | Condensed Consolidated Statements of Cash Flows for  the three months ended March 31, 2008  (unaudited) and March 31, 2007 (unaudited) | 5        |
|         |                                                                                                                                             |     |
|         | Notes to  Condensed Consolidated Unaudited Financial Statements                                                                                  | 6        |
|         |                                                                                                                                             |     |
| Item  2.     | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                                                      | 19       |
|         |                                                                                                                                             |     |
| Item 3.      | Controls and  Procedures                                                                                                                         | 23       |
|         |                                                                                                                                             |     |
| PART II | OTHER INFORMATION                                                                                                                                | 24       |
|         |                                                                                                                                             |     |
| Item 1.      | Legal Proceedings                                                                                                                                | 24       |
|         |                                                                                                                                             |     |
| Item  2.     | Unregistered  Sales of Equity Securities and Use of Proceeds                                                                                     | 24       |
|         |                                                                                                                                             |     |
| Item  3.     | Defaults  Upon Senior Securities                                                                                                                 | 24       |
|         |                                                                                                                                             |     |
| Item  4.     | Submission  of Matters to a Vote of Security Holders                                                                                             | 24       |
|         |                                                                                                                                             |     |
| Item 5.      | Other Information                                                                                                                                | 24       |
|         |                                                                                                                                             |     |
| Item 6.      | Exhibits                                                                                                                                         | 24       |
|         |                                                                                                                                             |     |
|         | SIGNATURES                                                                                                                                       |     |

 

2

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**PART I- FINANCIAL INFORMATION**

**ITEM 1. FINANCIAL STATEMENTS**

 

**INNOVATIVE CARD TECHNOLOGIES, INC.**

**CONDENSED CONSOLIDATED BALANCE SHEETS**

 
| ** **                                                                                                                  | ** ** | **March 31,** | ** ** | **December 31,** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------|------------|--------------------|------------|-----------------------|------------|
| ** **                                                                                                                  | ** ** | **2008**           | ** ** | **2007**              | ** ** |
| ** **                                                                                                                  | ** ** | **(unaudited)**    | ** ** | ** **            | ** ** |
| **ASSETS**                                                                                                                  |       |               |       |                  |       |
| CURRENT ASSETS                                                                                                              |       |               |       |                  |       |
| Cash and cash equivalents                                                                                                   |       | $                  | 300,902    |                  | $          | 339,600 |   |
| Accounts receivable                                                                                                         |       | 237,016            |       | 13,077                |       |
| Prepaids and other current assets                                                                                           |       | 53,575             |       | 54,127                |       |
| Deposits on raw materials held for  production                                                                              |       | 575,408            |       | 605,662               |       |
| Raw materials held for production                                                                                           |       | 1,193,501          |       | 1,315,960             |       |
| Work in progress inventory                                                                                                  |       | 1,368,613          |       | 886,259               |       |
| Total current assets                                                                                                        |       | 3,729,015          |       | 3,214,685             |       |
|                                                                                                                        |       |               |       |                  |       |
| Property and equipment, net                                                                                                 |       | 171,109            |       | 193,185               |       |
| Deferred debt issuance cost                                                                                                 |       | 282,258            |       | —                |       |
| Deposits                                                                                                                    |       | 128,366            |       | 177,747               |       |
| Intangible assets, net                                                                                                      |       | 1,918,388          |       | 2,075,953             |       |
| Total assets                                                                                                                |       | $                  | 6,229,136  |                  | $          | 5,661,570 |   |
|                                                                                                                        |       |               |       |                  |       |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                               |       |               |       |                  |       |
| CURRENT LIABILITIES                                                                                                         |       |               |       |                  |       |
| Accounts payable and accrued expenses                                                                                       |       | $                  | 2,041,481  |                  | $          | 3,660,044 |   |
| Accounts payable - related parties                                                                                          |       | 595,365            |       | 657,254               |       |
| Warranty reserve                                                                                                            |       | 41,484             |       | 27,816                |       |
| Deferred revenue                                                                                                            |       | 967,653            |       | 898,585               |       |
| Total current liabilities                                                                                                   |       | 3,645,983          |       | 5,243,699             |       |
|                                                                                                                        |       |               |       |                  |       |
| 8% convertible debenture, net of $2,918,857  discount                                                                       |       | 581,143            |       | —                |       |
| Warrant liability                                                                                                           |       | 1,338,798          |       | —                |       |
| Total liabilities                                                                                                           |       | 5,565,924          |       | 5,243,699             |       |
|                                                                                                                        |       |               |       |                  |       |
| Commitments and contingencies                                                                                               |       |               |       |                  |       |
|                                                                                                                        |       |               |       |                  |       |
| STOCKHOLDERS’ EQUITY                                                                                                   |       |               |       |                  |       |
|                                                                                                                        |       |               |       |                  |       |
| Preferred stock $0.001 par value, 5,000,000  shares authorized, 0 (unaudited) and 0 shares issued and outstanding           |       | —             |       | —                |       |
| Common stock $0.001 par value, 75,000,000  shares authorized, 28,433,116 (unaudited) and 28,433,116 issued and  outstanding |       | 28,433             |       | 28,433                |       |
| Additional paid-in capital                                                                                                  |       | 30,664,403         |       | 28,456,621            |       |
| Accumulated deficit                                                                                                         |       | (30,029,624        | )          | (28,067,183           | )          |
| Total stockholders’ equity                                                                                             |       | 663,212            |       | 417,871               |       |
| Total liabilities and stockholders’ equity                                                                             |       | $                  | 6,229,136  |                  | $          | 5,661,570 |   |

 

Theaccompanying notes are an integral part of these condensed consolidatedfinancial statements.

 

3

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**INNOVATIVE CARD TECHNOLOGIES, INC.**

**CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS**

 
| ** **                                 | ** ** | **Three months**   | ** ** | **Three months**   | ** ** |
|--------------------------------------------|------------|-------------------------|------------|-------------------------|------------|
| ** **                                 | ** ** | **ended**               | ** ** | **ended**               | ** ** |
| ** **                                 | ** ** | **March 31, 2008** | ** ** | **March 31, 2007** | ** ** |
| ** **                                 | ** ** | **(unaudited)**         | ** ** | **(unaudited)**         | ** ** |
|                                       |       |                    |       |                    |       |
| Revenues                                   |       | $                       | 217,216    |                    | $          | 1,420 |   |
| Cost of Goods Sold                         |       | (136,674                | )          | 0                       |       |
| Gross Margin                               |       | 80,542                  |       | 1,420                   |       |
|                                       |       |                    |       |                    |       |
| Operating expenses:                        |       |                    |       |                    |       |
| Administrative                             |       | 1,403,598               |       | 1,531,575               |       |
| Consulting fees                            |       | 120,098                 |       | 115,892                 |       |
| Inventory write-offs                       |       | 59,993                  |       | 0                       |       |
| Professional fees                          |       | 248,031                 |       | 343,023                 |       |
| Research and development                   |       | 179,816                 |       | 296,329                 |       |
| Total operating expenses                   |       | 2,011,536               |       | 2,286,819               |       |
| Loss from operations                       |       | (1,930,994              | )          | (2,285,399              | )          |
|                                       |       |                    |       |                    |       |
| Other income (expense):                    |       |                    |       |                    |       |
| Change in fair value of warrant liability  |       | 125,661                 |       | 0                       |       |
| Interest income                            |       | 9,073                   |       | 79,540                  |       |
| Interest expense                           |       | (165,381                | )          | (148                    | )          |
| Total other income (expense)               |       | (30,647                 | )          | 79,392                  |       |
|                                       |       |                    |       |                    |       |
| Loss before provision for income taxes     |       | (1,961,641              | )          | (2,206,007              | )          |
| Provision for income taxes                 |       | (800                    | )          | (800                    | )          |
| Net loss                                   |       | $                       | (1,962,441 | )                       | $          | (2,206,807 | ) |
|                                       |       |                    |       |                    |       |   |   |
| Basic and diluted loss per share           |       | $                       | (0.07      | )                       | $          | (0.08 | ) |
| Weighted-average common shares outstanding |       | 28,433,116              |       | 28,410,689              |       |

 

The accompanying notes are an integral partof these condensed consolidated financial statements

 

4

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**INNOVATIVE CARD TECHNOLOGIES, INC.**

**CONSOLIDATED STATEMENTS OF CASH FLOWS**

 
| ** **                                                                   | ** ** | **For the Three Months Ended  March 31,** | ** ** |
|------------------------------------------------------------------------------|------------|--------------------------------------------------------------------|------------|
| ** **                                                                   | ** ** | **2008**                                                           | ** ** | **2007** | ** ** |
| ** **                                                                   | ** ** | **(unaudited)**                                                    | ** ** | **(unaudited)** | ** ** |
| Cash flows from operating activities:                                        |       |                                                               |       |   |   |
|                                                                         |       |                                                               |       |   |   |
| Net loss                                                                     |       | $                                                                  | (1,962,441 | ) | $ | (2,206,807 | ) |
| Adjustments to reconcile net loss to net  cash used in operating activities: |       |                                                               |       |   |   |
| Depreciation and amortization                                                |       | 179,642                                                            |       | 220,643 |   |
| Change in fair value of warrant liability                                    |       | (125,661                                                           | )          | — |   |
| Amortization of debt discount                                                |       | 80,062                                                             |       | — |   |
| Amortization of deferred debt issuance cost                                  |       | 7,742                                                              |       | — |   |
| Share-based compensation expense                                             |       | 673,321                                                            |       | 289,755 |   |
| (Increase) decrease in Accounts receivable                                   |       | (223,939                                                           | )          | (9,545 | ) |
| (Increase) decrease in Prepaid expenses and  other current assets            |       | 552                                                                |       | (4,999 | ) |
| (Increase) decrease in Deposits on raw  materials held for production        |       | 30,254                                                             |       | 48,241 |   |
| (Increase) decrease in Raw materials held  for production                    |       | 122,459                                                            |       | (194,225 | ) |
| (Increase) decrease in Work in progress  inventory                           |       | (482,354                                                           | )          | — |   |
| (Increase) decrease in Deposits                                              |       | 49,381                                                             |       | (102,881 | ) |
| Increase (decrease) in Accounts payable and  accrued expenses                |       | (1,618,563                                                         | )          | 360,872 |   |
| Increase (decrease) in Accounts payable -  related parties                   |       | (61,889                                                            | )          | (138,047 | ) |
| Increase (decrease) in Warranty reserve                                      |       | 13,667                                                             |       | — |   |
| Increase (decrease) in Deferred revenue                                      |       | 69,068                                                             |       | 352,825 |   |
| Net cash used in operating activities                                        |       | (3,248,698                                                         | )          | (1,384,168 | ) |
|                                                                         |       |                                                               |       |   |   |
| Cash flows from investing activities:                                        |       | —                                                             |       |   |   |
|                                                                         |       |                                                               |       |   |   |
| Purchase of Property and Equipment                                           |       | —                                                             |       | (19,979 | ) |
| Net cash used in investing activities                                        |       | —                                                             |       | (19,979 | ) |
|                                                                         |       |                                                               |       |   |   |
| Cash flows from financing activities:                                        |       |                                                               |       |   |   |
|                                                                         |       |                                                               |       |   |   |
| Gross proceeds from issuance of 8%  convertible debenture                    |       | 3,500,000                                                          |       | — |   |
| Payments on debt issuance cost                                               |       | (290,000                                                           | )          | — |   |
| Proceeds from exercise of warrants                                           |       | —                                                             |       | 24,375 |   |
| Payments on capital lease                                                    |       | —                                                             |       | (2,449 | ) |
| Net cash provided by financing activities                                    |       | 3,210,000                                                          |       | 21,926 |   |
|                                                                         |       |                                                               |       |   |   |
| Net decrease in cash and cash equivalents                                    |       | (38,698                                                            | )          | (1,382,221 | ) |
| Cash and cash equivalents, beginning of  year                                |       | 339,600                                                            |       | 8,270,096 |   |
| Cash and cash equivalents, end of period                                     |       | $                                                                  | 300,902    |   | $ | 6,887,875 |   |
|                                                                         |       |                                                               |       |   |   |
| Supplemental disclosures of cash flow information:                           |       |                                                               |       |   |   |
| Interest paid                                                                |       | $                                                                  | —     |   | $ | 148 |   |
| Income tax paid                                                              |       | $                                                                  | 800        |   | $ | 800 |   |
|                                                                         |       |                                                               |       |   |   |
| Supplemental disclosure of non-cash  financing activities:                   |       |                                                               |       |   |   |
| Debt discount attributable to beneficial  conversion feature                 |       | $                                                                  | 1,534,460  |   | $ | — |   |
| Debt discount attributable to warrants                                       |       | $                                                                  | 1,464,459  |   | $ | — |   |

 

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

 

5

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**INNOVATIVE CARD TECHNOLOGIES, INC.**

 

**NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIALSTATEMENTS**

**MARCH 31, 2008**

 

**NOTE 1 -ORGANIZATION AND LINE OF BUSINESS**

 

**BASIS OFPRESENTATION**

 

The accompanying condensed consolidatedfinancial statements of Innovative Card Technologies, Inc. (“ICT”) includethe amounts of its wholly-owned subsidiary, PSA Co. (“PSAC”) which wasincorporated in the State of Delaware on August 27, 2003.

 

The Company has a history ofrecurring losses from operations and has an accumulated deficit of $30,029,624as of March 31, 2008.  Sales of theICT DisplayCard, the Company’s main product, are not expected to generateadequate revenue until the second half of 2008. As a result, there is substantial doubt about the Company’s ability tocontinue as a going concern. The accompanying condensed consolidated unaudited financialstatements have been prepared assuming that the Company will continue as agoing concern. This basis of accounting contemplates the recovery of theCompany’s assets and the satisfaction of liabilities in the normal course ofbusiness and does not include any adjustments to reflect the possible futureeffects on the recoverability and classification of assets or the amounts andclassification of liabilities that might be necessary should the Company beunable to continue as a going concern.  There can be no assurances that funds will be available to the Companywhen needed or, if available, that such funds would be available under favorableterms.  In the event that the Company isunable to generate adequate revenues to cover expenses and cannot obtainadditional funds in the near future, the Company may seek protection underbankruptcy laws.

 

**COMPANYOVERVIEW**

 

The Company develops andmarkets secure powered cards for payment, identification, physical and logicalaccess applications. Our main product, the ICT DisplayCard, integrates thesecurity of a one-time password token directly into a card the size of astandard credit or debit card. A token is a portable physical device, typicallyin a key-fob form factor, that generates the one-time password (also referredto as a one-time passcode). At the push of a button on the back of the ICTDisplayCard, a one-time passcode (OTP) is shown on the card’s integrateddisplay. During a transaction, this number is entered into a user interfacewith other information (such as the user’s static PIN and login name). Thisinformation is relayed to a backend system for multi-factor authentication.InCard does not provide the backend authentication server, but rather willintegrate the ICT DisplayCard into authentication systems provided by othercompanies 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 formfactor.

 

**NOTE 2 -SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**

 

**BASIS OF PRESENTATION**

 

Thepreparation of financial statements in conformity with accounting principlesgenerally accepted in the United States of America requires management to makeestimates and assumptions that affect the reported amounts of assets andliabilities, the disclosure of contingent assets and liabilities at the date ofthe financial statements and the reported amounts of revenue and expensesduring the reporting period. Actual results could differ from those estimates.

 

Theaccompanying condensed consolidated unaudited financial statements ofInnovative Technologies, Inc. have been prepared pursuant to the rules andregulations of the Securities and Exchange Commission (“SEC”) regarding interimfinancial reporting. Accordingly, they do not include all of the informationand footnotes required by generally accepted accounting principles for annualfinancial statements and should be read in conjunction with the consolidatedfinancial statements for the year ended December 31, 2007, and notesthereto included in the Company’s Annual Report on Form 10-KSB, filed withthe SEC on April 1, 2008. In the opinion of management, the accompanyingcondensed consolidated financial statements contain all adjustments, consistingonly of adjustments of a normal recurring nature, necessary for a fairpresentation of the Company’s financial position as of March 31, 2008, andits results of operations for the periods presented. These condensedconsolidated unaudited financial statements are not necessarily indicative ofthe results to be expected for the entire year.

 

**PRINCIPLES OF CONSOLIDATION**

 

The condensed consolidatedunaudited financial statements include the accounts of Innovative CardTechnologies and  its wholly ownedsubsidiary, PSA Co.  All significantinter-company accounts and transactions are eliminated in consolidation.

 

6

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**REVENUE RECOGNITION**

 

The Company recognizesrevenue in accordance with SEC Staff Accounting Bulletin No. 104, or SAB104. Revenue is recognized when persuasive evidence of an arrangement exists,delivery has occurred or services have been rendered, the price is fixed anddeterminable and collectibility is reasonably assured.   Revenue is not recognized on product salestransacted on a test or pilot basis.  TheCompany recognizes certain long-term contracts using the completed-contractmethod in accordance to SOP 81-1, “Accounting for Performance ofConstruction-Type and Certain Production-Type of Contracts.”

 

**COMPREHENSIVE INCOME**

 

The Company utilizesStatement of Financial Accounting Standards (“SFAS”) No. 130, “ReportingComprehensive Income.” This statement establishes standards for reportingcomprehensive income and its components in a financial statement. Comprehensiveincome as defined includes all changes in equity (net assets) during a periodfrom non-owner sources. Examples of items to be included in comprehensiveincome, which are excluded from net income, include foreign currencytranslation adjustments, minimum pension liability adjustments, and unrealizedgains and losses on available-for-sale securities. Comprehensive income is notpresented in the Company’s financial statements since the Company did not haveany changes in equity from non-owner sources.

 

**INVENTORY**

 

The Company values itsinventory at the lower of cost (first-in, first-out) or market. The Companyuses estimates and judgments regarding the valuation of inventory to properlyvalue inventory. Inventory adjustments are made for the difference between thecost of the inventory and the estimated market value and charged to operationin the period in which the facts that give rise to the adjustments becomeknown.

 

**INTANGIBLE ASSETS AND LONG-LIVED ASSETS**

 

The cost incurred to acquireintangible assets, which are active and relate to products with a definitivelife cycle, are amortized over the estimated useful life of three to five years.The Company assesses the carrying value of long-lived assets in accordance withSFAS No. 144, “Accounting for the Impairment or Disposal of Long-LivedAssets.” The Company assesses the impairment of identifiable intangibles andlong-lived assets whenever events or changes in circumstances indicate that thecarrying value may not be recoverable. Factors considered important that couldtrigger an impairment review include, but are not limited to, the following: asignificant underperformance to expected historical or projected futureoperating results, a significant change in the manner of the use of theacquired asset or the strategy for the overall business, or a significantnegative industry or economic trend. Based on anticipated future income and cashflows and other factors relevant in the opinion of the Company’s management,the buzzer patent was completely impaired during the year ended December 31,2007.  No impairment was recognizedduring the three months ended March 31, 2008.

 

**CASH AND CASH EQUIVALENTS**

 

For the purpose of thestatements of cash flows, the Company considers all highly liquid investmentspurchased with original maturities of three months or less to be cashequivalents.

 

**MAJOR SUPPLIERS**

 

The Company obtains thebattery, a key component for the Company’s power inlay technology, from asingle source, Solicore, Inc., on a purchase order basis. The Companybelieves that alternative sources for this component in the event of adisruption or discontinuation in supply would not be available on a timelybasis, which could disrupt Company operations, delay production for up to oneyear and impair the Company’s ability to manufacture and sell products.

 

The Company obtains thedisplay, a key component for the Company’s ICT DisplayCard, from a singlesource, SmartDisplayer, pursuant to the Company’s agreement withSmartDisplayer. The Company believes that alternative sources for thiscomponent in the event of a disruption or discontinuation in supply would notbe available on a timely basis, which could disrupt Company operations relatingto the ICT DisplayCard, delay production of the ICT DisplayCard for up to oneyear and impair the Company’s ability to manufacture and sell the ICTDisplayCard.

 

The Company assembles itsICT DisplayCard using a single source, NagraID, pursuant to a writtenagreement. The Company believes that alternative sources for this component inthe event of a disruption or discontinuation in supply would not be availableon a timely basis, which could disrupt Company operations relating to the ICTDisplayCard, delay production of the ICT DisplayCard for up to one year andimpair the Company’s ability to manufacture and sell the ICT DisplayCard.

 

**PROPERTY AND EQUIPMENT**

 

Property and equipment arestated at cost. The Company provides for depreciation and amortization usingthe double-declining method over estimated useful lives of five to seven years.Expenditures for maintenance and repairs are charged to operations as incurredwhile renewals and betterments are capitalized. Gains or losses on the sale ofproperty and equipment are reflected in the statements of operations.

 

7

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**FAIR VALUE OF FINANCIAL INSTRUMENTS**

 

The Company’s financialinstruments include cash and cash equivalents, prepaid expenses and othercurrent assets, accounts payable and accrued expenses including accountspayable to related parties, advances payable, and deferred revenue. The bookvalue of all financial instruments are representative of their fair values.

 

**RESEARCH AND DEVELOPMENT**

 

Research and developmentcosts are charged to operations as incurred.

 

**LOSS PER SHARE**

 

The Company utilizes SFAS No. 128,“Earnings per Share.” Basic loss per share is computed by dividing lossavailable to common shareholders by the weighted-average number of commonshares outstanding. Diluted loss per share is computed similar to basic lossper share except that the denominator is increased to include the number ofadditional common shares that would have been outstanding if the potentialcommon shares had been issued and if the additional common shares weredilutive. Common equivalent shares are excluded from the computation if theireffect is anti-dilutive.

 

Since their effect wouldhave been anti-dilutive, common stock equivalents of 5,314,598 warrants and3,549,675 stock options were excluded from the calculation of diluted loss pershare for the three months ended March 31, 2008. Since their effect wouldhave been anti-dilutive, common stock equivalents of 4,627,098 warrants and2,315,998 stock options were excluded from the calculation of diluted loss pershare for the three months ended March 31, 2007.

 

**INCOME TAXES**

 

The Company utilizes SFAS No. 109,“Accounting for Income Taxes,” which requires the recognition of deferred taxassets and liabilities for the expected future tax consequences of events thathave been included in the financial statements or tax returns. Under thismethod, deferred income taxes are recognized for the tax consequences in futureyears of differences between the tax bases of assets and liabilities and theirfinancial reporting amounts at each year-end based on enacted tax laws andstatutory tax rates applicable to the periods in which the differences areexpected to affect taxable income. Also, the Company adopted the provisions ofthe Financial Accounting Standards Board (“FASB”) Interpretation No.48, “Accountingfor Uncertainty in Income Taxes-an Interpretation of FASB Statement No. 109”(“FIN 48”), effective January 1, 2007. As a result of the implementationof FIN 48, the Company made a comprehensive review of its portfolio ofuncertain tax positions in accordance with recognition standards established byFIN 48. As a result of this review, the Company concluded that at this timethere are no uncertain tax positions other than an uncertain tax positionrelating to the limitations imposed on tax loss carryforwards by InternalRevenue Code Section 382. As a result of applying the provisions of FIN48, there was no cumulative effect on retained earnings.

 

In 2007, the Company adoptedSFAS No. 48, “Accounting for Uncertainty in Income Taxes” and identifiedan uncertain tax position relating to the limitation imposed on tax losscarryforwards by Internal Revenue Code 382.

 

8

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**STOCK INCENTIVE PLAN**

 

The Company accounts for itsstock incentive plan under SFAS No. 123R, “Share-Based Payments”, which itadopted in 2006, using the fair value based method. Under this method,compensation cost is measured at the grant date based on the value of the awardand is recognized over the service period, which is usually the vesting period.

 

In December 2004, theFinancial Accounting Standards Board (“FASB”) issued a revision to FASBStatement No. 123, “Share-Based Payment,” “SFAS No. 123(R)”. ThisStatement supersedes APB Opinion No. 25, Accounting for Stock Issued toEmployees. This Statement establishes standards for the accounting fortransactions in which an entity exchanges it equity instructions for goods orservices. It also addresses transactions in which an entity incurs liabilitiesin exchange for goods or services. It also addresses transactions in which anentity incurs liabilities in exchange for goods or services that are based onthe fair value of entity’s equity instruments or that may be settled by theissuance of those equity instruments. This Statement is effective for publicentities that file as small business issuers as of the beginning of the firstinterim or annual reporting period that begins after December 15, 2005.The Company has adopted this statement for the year ended December 31,2006.

 

**ESTIMATES**

 

The preparation of financialstatements requires management to make estimates and assumptions that affectthe reported amounts of assets and liabilities and disclosure of contingentassets and liabilities at the date of the financial statements and the reportedamounts of revenue and expenses during the reporting period. Actual resultscould differ from those estimates.

 

The Company reversed anestimate made at December 31, 2007 for an anticipated stock award to aconsultant.  The award will not bemade.  The reversal reduced accountspayable and administrative expenses.

 

**CONCENTRATIONS OF CREDIT RISK**

 

Financial instruments whichpotentially subject the Company to concentrations of credit risk consist ofcash and cash equivalents. The Company places its cash and cash equivalentswith high credit, quality financial institutions. At times, such cash and cashequivalents may be in excess of the Federal Deposit Insurance Corporationinsurance limit of $100,000.  At times,cash balances are in excess of the insured limit.

 

**WARRANTS AND BENEFICIAL CONVERSION**

**FEATURE ON 8% CONVERTIBLE DEBENTURE**

 

The Company accounts forwarrants as liability instruments in accordance with paragraph 8 of EITF 00-19,Accounting for Derivative Financial Instruments Indexed to, and PotentiallySettled in, a Company’s Own Stock.  Thebeneficial conversion feature associated with the senior secured convertibledebenture is measured at its intrinsic value after allocation between thewarrant and the debenture and before transaction costs in accordance with EITF00-27, Application of Issue 98-5 to Certain Convertible Instruments.  Debt proceeds are first allocated to thewarrant (as it is a mark-to-market, fair-value liability instrument) and theremaining proceeds are allocated to the debt. The debenture will be accreted to liquidation value over the debenture’sterm of three years, using the effective interest rate method.

 

**RECLASSIFICATION**

 

Certain amounts included inthe prior year financial statements have been reclassified to conform with thecurrent year presentation. Such reclassification did not have any effect on thereported net loss.

 

**RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS**

 

In March 2008 the FASBissued SFAS 161 “Disclosures about Derivative Instruments and HedgingActivities—an amendment of FASB Statement No. 133”.  This Statement changes the disclosurerequirements for derivative instruments and hedging activities. Entities arerequired to provide enhanced disclosures about (a) how and why an entityuses derivative instruments, (b) how derivative instruments and relatedhedged items are accounted for under Statement 133 and its relatedinterpretations, and (c) how derivative instruments and related hedgeditems affect an entity’s financial position, financial performance, and cashflows. This Statement is effective for financial statements issued for fiscalyears and interim periods beginning after November 15, 2008; earlieradoption is encouraged.  Management hasnot yet determined what impact the adoption of this statement will have on theCompany’s financial position, results of operations, or cash flows.

 

9

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**NOTE 3 -DEPOSITS FOR RAW MATERIALS HELD FOR PRODUCTION**

 
| ** **                                                                           | ** ** | **March 31,  2008** | ** ** | **December 31,  2007** | ** ** |
|--------------------------------------------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                                                                           | ** ** | **(unaudited)**          | ** ** | ** **                  | ** ** |
|                                                                                 |       |                     |       |                        |       |
| Deposits on raw materials held for  production (display and manufacturing component) |       | $                        | 575,408    |                        | $          | 605,662 |   |
| TOTAL                                                                                |       | $                        | 575,408    |                        | $          | 605,662 |   |

 

These deposits for rawmaterials are held by two vendors, are not refundable and are made pursuant toagreements as discussed in Note 2 under Major Suppliers.

 

**NOTE 4 -RAW MATERIALS AND WORK IN PROGRESS INVENTORY HELD FOR PRODUCTION**

 

Raw materials and work in progressinventory held for production at March 31, 2008 and December 31, 2007consisted of the following and are stated at the lower cost or market, net ofinventory reserves of $99,335 and $99,335, respectively:

 
| ** **                        | ** ** | **March 31,  2008** | ** ** | **December 31,  2007** | ** ** |
|-----------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                        | ** ** | **(unaudited)**          | ** ** | ** **                  | ** ** |
| Raw materials held for production |       | $                        | 1,193,501  |                        | $          | 1,315,960 |   |
| Work in progress inventory        |       | $                        | 1,368,613  |                        | $          | 886,259 |   |
| TOTAL                             |       | $                        | 2,562,114  |                        | $          | 2,202,219 |   |

 

**NOTE 5 -PROPERTY AND EQUIPMENT**

 

Property and equipment at March 31,2008 and December 31, 2007 consisted of the following:

 
| ** **                                      | ** ** | **March 31,  2008** | ** ** | **December 31,  2007** | ** ** |
|-------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                                      | ** ** | **(unaudited)**          | ** ** | ** **                  | ** ** |
| Computer equipment                              |       | $                        | 96,451     |                        | $          | 96,451 |   |
| Office equipment                                |       | 8,168                    |       | 8,168                       |       |
| Furniture and fixtures                          |       | 24,386                   |       | 24,386                      |       |
| Leasehold improvements                          |       | 5,608                    |       | 5,608                       |       |
| Production equipment                            |       | 277,474                  |       | 277,474                     |       |
|                                            |       | 412,087                  |       | 412,087                     |       |
| Less accumulated depreciation and  amortization |       | (240,978                 | )          | (218,902                    | )          |
|                                            |       |                     |       |                        |       |
| TOTAL                                           |       | $                        | 171,109    |                        | $          | 193,185 |   |

 

Depreciation andamortization expense was $22,076 (unaudited) and $44,675 (unaudited), for thethree months ended March 31, 2008 and 2007, respectively.

 

10

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**NOTE 6 -PROVISION FOR INCOME TAXES**

 

Income taxes are accountedfor using an asset and liability approach that requires the recognition ofdeferred tax assets and liabilities for the expected future tax consequences oftemporary differences between the financial statement and the tax bases ofassets and liabilities at the applicable tax rates. A valuation allowance isprovided when it is more likely than not that some portion or all of thedeferred tax assets will not be realized.

 

The provision for incometaxes consisted of the following:

 
| ** **                       | ** ** | **Three Months**     | ** ** | **Three Months**     | ** ** |
|----------------------------------|------------|---------------------------|------------|---------------------------|------------|
| ** **                       | ** ** | **Ended  March 31,** | ** ** | **Ended  March 31,** | ** ** |
| ** **                       | ** ** | **2008**                  | ** ** | **2007**                  | ** ** |
| ** **                       | ** ** | **(unaudited)**           | ** ** | **(unaudited)**           | ** ** |
| Current Provision:               |       |                      |       |                      |       |
| Federal                          |       | —                    |       | —                    |       |
| State                            |       | $                         | 800        |                      | $          | 800 |   |
| Total Current Provision          |       | $                         | 800        |                      | $          | 800 |   |
| Deferred provision (benefit)     |       |                      |       |                      |       |
| Federal                          |       |                      |       | —                    |       |
| State                            |       |                      |       | —                    |       |
| Total deferred portion (benefit) |       |                      |       | —                    |       |
| Total provision for income taxes |       | $                         | 800        |                      | $          | 800 |   |

 

Reconciliations between thestatutory federal income tax rate and the Company’s effective income tax ratewere as follows:

 
| ** **                                 | ** ** | **Three Months  Ended  March 31,** | ** ** | **Three Months  Ended  March 31,** | ** ** |
|--------------------------------------------|------------|----------------------------------------------|------------|----------------------------------------------|------------|
| ** **                                 | ** ** | **2008**                                     | ** ** | **2007**                                     | ** ** |
| ** **                                 | ** ** | **(unaudited)**                              | ** ** | **(unaudited)**                              | ** ** |
| Federal income tax at statutory rates      |       | 34                                           | %          | 34                                           | %          |
| State income taxes, net of federal benefit |       | 6                                            | %          | 6                                            | %          |
| Change in valuation allowance              |       | (40                                          | )%         | (41                                          | )%         |
| Tax credits                                |       | 0                                            | %          | 0                                            | %          |
| Other                                      |       | 0                                            | %          | 1                                            | %          |
| Effective income tax rate                  |       | 0                                            | %          | 0                                            | %          |

 

11

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Utilization of the NOLs arelimited by the provisions of the Internal Revenue Code Section 382.  NOLs earned prior to an “ownership change”,as defined by Section 382, are subject to limitation.  As a result of this limitation, the Companyreduced its deferred tax assets by $952,937 for the three months ended March 31,2008.  No such adjustment was recorded inthe three months ended March 31, 2007.

 

The Company adopted theprovisions of the Financial Accounting Standards Board (“FASB”) Interpretation No. 48,“Accounting for Uncertainty in Income Taxes-an Interpretation of FASB StatementNo. 109” (“FIN 48”), effective January 1, 2007. As a result of theimplementation of FIN 48, the Company made a comprehensive review of its portfolioof uncertain tax positions in accordance with recognition standards establishedby FIN 48.  As a result of applying theprovisions of FIN 48, there was no cumulative effect on retained earnings.

 

For the three months endedMarch 31, 2008, the cumulative unrecognized tax benefit was $79,352, which was nettedagainst deferred tax assets with a full valuation allowance, and if recognizedthere will be no effect on the Company’s effective tax rate.

 

12

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**NOTE 7 -COMMITMENTS AND CONTINGENCIES**

 

**EMPLOYMENT AGREEMENT**

 

In March 2008, theCompany entered into an employment agreement with Steven Delcarson, its ChiefExecutive Officer.  The initial term isfor one year and is renewable.

 

In March 2008, theCompany entered into an employment agreement with Charles Caporale, its ChiefFinancial Officer.  The initial term isfor one year and is renewable.

 

**LITIGATION**

 

To date, the Company hasnever 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 becomesubject to litigation, some of which the Company can control and otherlitigation that the Company cannot control. If the Company were to becomeinvolved in any litigation, management would have to assess whether or not suchlitigation would likely have a material adverse effect on the Company’sconsolidated financial condition or results of operations.

 

13

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**NOTE 8- STOCKHOLDERS’ EQUITY**

 

**PREFERREDSTOCK**

 

The Company has 5,000,000 authorized shares of $0.001par value preferred stock. The preferred stock may be issued in series, fromtime to time, with such designations, rights, preferences, and limitations asthe Board of Directors may determine by resolution.

 

**COMMONSTOCK**

 

The Company has 75,000,000 authorized shares of $0.001par value common stock.  During the threemonths ended March 31, 2008, the Company entered into a SecuritiesPurchase Agreement (the “Purchase Agreement”) with 13 institutional andaccredited investors (the “Purchasers”). Pursuant to the terms of the PurchaseAgreement, the Purchasers purchased $3.5 million of the Company’s 8. SeniorSecured Convertible Debenture (“Debenture”). The Debenture is convertible atthe holder’s option into shares of common stock at $2.50 per share.  The Purchase Agreement has a forcedconversion feature which allows the Company to force the conversion of theDebenture if the Company’s common stock trades above $5.00 for 20 consecutivetrading days and certain other conditions are met. The Company also issued tothe Purchasers five-year common stock purchase warrants to purchase 700,000shares of common stock at an exercise price of $2.75 per share (the “Warrants”).

 

**WARRANTS**

 

The following summarizes the warrant transactions:

 
| ** **                                         | ** ** | **Warrants  Outstanding** | ** ** | **Weighted-Average  Exercise Price** | ** ** |
|----------------------------------------------------|------------|---------------------------|------------|-------------------------------------------|------------|
|                                               |       |                      |       |                                      |       |
| December 31, 2007                             |       | 4,614,598                 |       | $                                         | 1.43       |   |
| Issued during 2008  (unaudited)               |       | 700,000                   |       | $                                         | 2.75       |   |
| Exercised during 2008  (unaudited)            |       | —                    |       | —                                    |       |
| Outstanding, March 31, 2008  (unaudited) |       | 5,314,598                 |       | $                                         | 1.60       |   |

 

**2004STOCK INCENTIVE PLAN**

 

The Company’s Board of Directors and stockholdersapproved the 2004 Stock Incentive Plan in August 2004. The 2004 StockIncentive Plan provides for the grant of incentive stock options to the Company’semployees, and for the grant of non-statutory stock options, restricted stock,stock appreciation rights and performance shares to the Company’s employees,directors and consultants.

 

The Company reserved a total of 2,351,000 shares ofits common stock for issuance pursuant to the 2004 Stock Incentive Plan. Theboard of directors, or a committee of the board, administers the 2004 StockIncentive Plan. Stock options are generally granted with terms of up to tenyears and vest over a period of five years under the 2004 Stock Incentive Plan.The administrator determines the exercise price of options granted under the2004 Stock Incentive Plan, but the exercise price must not be less than 85% ofthe fair market value of the Company’s common stock on the date of grant. Inthe event the participant owns 10% or more of the voting power of all classesof the Company’s stock, the exercise price must not be less than 110% of thefair market value per share of the Company’s common stock on the date of grant.With respect to all incentive stock options, the exercise price must at leastbe equal to the fair market value of the Company’s common stock on the date ofgrant. The term of an incentive stock option may not exceed 10 years, exceptthat with respect to any participant who owns 10% of the voting power of allclasses of the Company’s outstanding stock or the outstanding stock of anyparent or subsidiary of the Company, the term must not exceed five years andthe exercise price must equal at least 110% of the fair market value on thegrant date. The administrator determines the term of all other options;however, no option will have a term in excess of 10 years from the date ofgrant.

 

The 2004 Stock Incentive Plan was terminatedconcurrent with the approval of the 2007 Equity Incentive Plan in December 2007.  No further grants will be made from the 2004Stock Incentive Plan.  The terminationdoes not affect the rights of holders of options previously granted and outstandingunder the 2004 Stock Incentive Plan.

 

14

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The following summarizes stock option transactions forthe period shown:

 
| ** **                         | ** ** | **Three Months Ended  March 31, 2008** | ** ** |
|------------------------------------|------------|------------------------------------------------------------|------------|
| ** **                         | ** ** | **(unaudited)**                                            | ** ** |
| **ALL  OPTIONS**                   | ** ** | ** **                                                 | ** ** | **WEIGHTED  AVERAGE  EXERCISE  PRICE** | ** ** |
| ** **                         |       |                                                       |       |   |   |
| Outstanding at beginning of period |       | 2,184,498                                                  |       | $ | 1.97 |   |
| Options granted                    |       | —                                                     |       | $ | — |   |
| Options forfeited                  |       | (90,000                                                    | )          | $ | 2.73 |   |
| Options expired                    |       | —                                                     |       | $ | — |   |
| Options exercised                  |       |                                                       |       | $ | — |   |
|                               |       |                                                       |       |   |   |
| Outstanding at end of period       |       | 2,094,498                                                  |       | $ | 1.94 |   |
|                               |       |                                                       |       |   |   |
| Exercisable at end of period       |       | 1,609,498                                                  |       | $ | 1.40 |   |

 
| ** **                         | ** ** | **Three Months Ended  March 31, 2008** | ** ** |
|------------------------------------|------------|------------------------------------------------------------|------------|
| ** **                         | ** ** | **(unaudited)**                                            | ** ** |
| **NON VESTED OPTIONS**   | ** ** | ** **                                                 | ** ** | **WEIGHTED  AVERAGE  EXERCISE  PRICE** | ** ** |
| Non- vested at beginning of period |       | 585,000                                                    |       | $ | 3.72 |   |
| Options granted                    |       |                                                       |       | $ |   |
| Options forfeited                  |       | (40,000                                                    | )          | $ | 3.93 |   |
| Options expired                    |       | —                                                     |       | $ | — |   |
| Options vested                     |       | (60,000                                                    | )          | $ | 3.60 |   |
|                               |       |                                                       |       |   |   |
| Non- vested at end of period       |       | 485,000                                                    |       | $ | 3.72 |   |

 

The weighted average grant-date fair value of optionsgranted during the three month periods ended March 31, 2008 and 2007 was$0 (unaudited) and $0 respectively, as no options were granted.

 

The weighted average remaining contractual lives ofthe options outstanding and options exercisable at March 31, 2008, were asfollows:

 
| ** **                      | ** ** | **Options  outstanding** | ** ** | **Options  exercisable** | ** ** |
|---------------------------------|------------|--------------------------|------------|--------------------------|------------|
|                            |       |                     |       |                     |       |
| March 31, 2008 (unaudited) |       | 6.59 years               |       | 6.41 years               |       |

 

15

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**2007EQUITY INCENTIVE PLAN**

 

The Company’s Board of Directors approved the 2007Equity Incentive Plan in September 2007 and stockholders approved the 2007Equity Incentive Plan in December 2007. The 2007 Equity Incentive Planprovides for the grant of incentive stock options to the Company’s employees,and for the grant of non-statutory stock options, restricted stock, stockappreciation rights, performance units and performance shares to the Company’semployees, directors and consultants.

 

The Company reserved a total of 4,000,000 shares ofits common stock for issuance pursuant to the 2007 Equity Incentive Plan. Acommittee of the board of directors administers the 2007 Equity Incentive Plan.Stock options are generally granted with terms of up to ten years and vest overa period of five years under the 2007 Equity Incentive Plan. The administratordetermines the exercise price of options granted under the 2007 EquityIncentive Plan, but the exercise price must not be less than 85% of the fairmarket value of the Company’s common stock on the date of grant. In the eventthe participant owns 10% or more of the voting power of all classes of theCompany’s stock, the exercise price must not be less than 110% of the fairmarket value per share of the Company’s common stock on the date of grant. Withrespect to all incentive stock options, the exercise price must at least beequal to the fair market value of the Company’s common stock on the date ofgrant. The term of an incentive stock option may not exceed 10 years, exceptthat with respect to any participant who owns 10% of the voting power of allclasses of the Company’s outstanding stock or the outstanding stock of anyparent or subsidiary of the Company, the term must not exceed five years andthe exercise price must equal at least 110% of the fair market value on thegrant date. The administrator determines the term of all other options;however, no option will have a term in excess of 10 years from the date ofgrant.

 

Without further stockholder approval, the 2007 EquityIncentive Plan may not issue incentive stock options after September 2017.  A summary of stock option activity andweighted average exercise prices for the three months ended March 31, 2008is as follows:

 
| ** **                         | ** ** | **2008**   | ** ** |
|------------------------------------|------------|------------|------------|
| **ALL OPTIONS**               | ** ** | ** ** | ** ** | **WEIGHTED  AVERAGE  EXERCISE  PRICE** | ** ** |
| Outstanding at beginning of period |       | 68,511     |       | $ | 2.76 |   |
| Options granted                    |       | 1,386,666  |       | $ | 2.23 |   |
| Options forfeited                  |       | —     |       | — |   |
| Options expired                    |       | —     |       | — |   |
| Options exercised                  |       | —     |       | — |   |
|                               |       |       |       |   |   |
| Outstanding at end of period       |       | 1,455,177  |       | $ | 2.26 |   |
|                               |       |       |       |   |   |
| Exercisable at end of period       |       | —     |       | — |   |

 
| ** **                         | ** ** | **2008**   | ** ** |
|------------------------------------|------------|------------|------------|
| **NON VESTED OPTIONS**   | ** ** | ** ** | ** ** | **WEIGHTED  AVERAGE  EXERCISE  PRICE** | ** ** |
| Non- vested at beginning of period |       | 68,511     |       | $ | 2.76 |   |
| Options granted                    |       | 1,386,666  |       | $ | 2.23 |   |
| Options forfeited                  |       | —     |       | — |   |
| Options expired                    |       | —     |       | — |   |
| Options vested                     |       | —     |       | — |   |
|                               |       |       |       |   |   |
| Non- vested at end of period       |       | 1,455,177  |       | $ | 2.26 |   |

 

16

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The weighted average remaining contractual lives ofthe options outstanding at March 31, 2008 was 9.96 years.

 

The Company recorded $673,321 (unaudited) and $289,755(unaudited) of compensation expense for employee stock options during the threemonth periods ending March 31, 2008 and March 31, 2007, respectivelywhich is included in the administrative expense category. At March 31,2008, there was a total of $4,154,538 of unrecognized compensation costs relatedto the non-vested share-based compensation arrangements under the 2004 and 2007Plans. The cost is expected to be recognized over a weighted average period of1.55 years. The total fair value of shares vested during the three month periodended March 31, 2008 was approximately $216,000 (unaudited). The aggregateintrinsic value of total outstanding options and total exercisable options was$2,294,830 (unaudited) and $1,952,947(unaudited), respectively as of March 31,2008.

 

Since January 1, 2006, the Company is recognizingthe cost of all employee stock options on a straight-line attribution basisover their respective vesting periods, net of estimated forfeitures. TheCompany has selected the modified prospective method of transition;accordingly, prior periods have not been restated. Prior to the adoptions ofSFAS No. 123(R), the Company applied APB Opinion No. 25 and relatedInterpretations in accounting for its stock-based compensation plans. Allemployee stock options were granted at or above the grant date market price,and accordingly, no compensation cost was recognized for fixed stock optiongrants in prior periods.

 

The Black Scholes assumptions used are listed below:

 
| ** **              | ** ** | **2008**       | ** ** | **2007** | ** ** |
|-------------------------|------------|----------------|------------|----------|------------|
|                    |       |           |       |     |       |
| Risk free interest rate |       | 3.45% to 3.91% |       | 4.97%    |       |
| Dividends               |       | —         |       | —   |       |
| Volatility factor       |       | 128% to 132%   |       | 200%     |       |
| Expected life           |       | 10 years       |       | 10 years |       |
| Annual forfeiture rate  |       | 0%             |       | 0%       |       |

 

**NOTE 9 - RELATED PARTY TRANSACTIONS**

**ACCOUNTSPAYABLE - RELATED PARTIES**

 

Accounts payable – related parties at March 31,2008 is comprised of $595,365 due to nCryptone, SA and payable in January 2009.Accounts payable - related parties at December 31, 2007 is comprised of $642,733due to nCryptone, SA, $600,000 of which is due in January 2009 and $14,521due to Blakely, Sokoloff, Taylor & Zafman, LLP (BSTZ), a law firm inwhich former director George Hoover is a partner, for legal services related toour intellectual property.   BSTZ is nota related party at March 31, 2008.

 

**CONSULTINGAGREEMENTS**

 

In connection with his resignation as Chief FinancialOfficer in October 2007, Bennet Tchaikovsky and the Company entered intothree separate agreements: an Indemnification Agreement, a ConsultingAgreement, and a Separation Agreement. Beginning October 29, 2007 andending on June 29, 2008, Mr. Tchaikovsky will be paid $12,270 permonth plus certain other reimbursements for assisting us with transitioning ournew Chief Financial Officer. However, if Mr. Tchaikovsky obtains full-timeemployment during the term of the Consulting Agreement, the ConsultingAgreement will automatically terminate and no further payments will be due fromthe Company to Mr. Tchaikovsky.  TheCompany entered into a Separation Agreement with Mr. Tchaikovsky whereby Mr. Tchaikovskyfully released the Company in consideration for Mr. Tchaikovsky becomingvested in his remaining 60,000 unvested options and extending the terminationperiod for all of his options.

 

The Company was a party to a Consulting Agreement withForest Finkelstein, the son of Alan Finklestein during the years ended December 31,2007, 2006 and 2005.  The agreement wascancelled in December 2007.  TheCompany paid Mr. Finklestein $0 and $21,250, respectively, during thethree months ended March 31, 2008 and 2007. Forest Finkelstein is not arelated party at March 31, 2008.

 

17

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**LEGALSERVICES**

 

The Company receives legal services from Blakely,Sokoloff, Taylor and Zafman, LLP, a law firm that George Hoover, a formerdirector of the Company, is a partner in. During the three months ended March 31,2007, the Company paid $62,074 (unaudited), respectively, to this entity forlegal services rendered.  Blakely,Sokoloff, Taylor & Zaffman is not a related party at March 31,2008.

 

**NOTE 10 - CONVERTIBLE DEBENTURE**

 

On January 8, 2008, the Company entered into aSecurities Purchase Agreement (the “Purchase Agreement”) with 13 institutionaland accredited investors (the “Purchasers”). Pursuant to the terms of thePurchase Agreement, the Purchasers purchased $3.5 million of the Company’s 8%Senior Secured Convertible Debenture (“Debenture”). The Debenture: (i) bearsinterest at 8% per year, paid quarterly in cash or registered common stock, atthe Company’s discretion; (ii) has a maturity of January 8, 2011, (iii) isconvertible at the holder’s option into shares of common stock at $2.50 pershare, (iv) is secured by all of the Company’s and its subsidiary’s assetsincluding inventory, receivables, unencumbered equipment and intellectualproperty under the terms of a Security Agreement, and (v) has a forcedconversion feature which allows the Company to force the conversion of theDebenture if the Company’s common stock trades above $5.00 for 20 consecutivetrading days and certain other conditions are met. The Company also issued tothe Purchasers five-year common stock purchase warrants to purchase 700,000shares of common stock at an exercise price of $2.75 per share (the “Warrants”).The Company expects to use the net proceeds of the financing for workingcapital requirements and to pay down certain obligations. The Debenture alsocontains customary events of default provisions. As part of the transaction,the Company agreed to: (i) cut its monthly burn rate to $600,000 (ii) becompliant with NASDAQ listing requirements; and (iii) obtain shareholderapproval prior to effectuating a reverse stock split.

 

Both the conversion price under the Debenture and theexercise price under the Warrants are subject to “full-ratchet” priceprotection in the event of stock issuances below their respective conversion orexercise prices, except for specified exempted issuances including grants ofstock options and stock issuances to officers, directors, employees andconsultants.

 

Upon review of EITF00-19, “Accounting for Derivative Financial Instruments Indexed to, and PotentiallySettled in, a Company’s Own Stock”, paragraphs 12-32, the Company concludedthat all applicable requirements for equity treatment on the beneficialconversion feature were met. The intrinsic value of the beneficial conversionfeature amounting to $1,534,460 was calculated in accordance with EITF 00-27and recorded as additional paid-in capital and a corresponding reduction of thecarrying value of the Debenture,.

 

The Company is accountingfor the Warrants, issued in connection with the Debenture, as derivativeliabilities in accordance with SFAS 133, “Accounting for Derivative Instrumentsand Hedging Activities” and EITF 00-19. The warrant liability was valued at$1,464,459 at warrant issuance date. In accordance with EITF 00-19, the valueof Warrants has been recorded as liability subject to marked-to-marketrevaluation at each period end. At March 31, 2008, the warrant liabilitywas valued at $1,338,798. The Company recorded a gain on the change in fairvalue of warrant liability of $125,661. The Company uses the Black Scholesmodel to value the liability. The assumptions used at January 8, 2008 and March 31,2008 included expected volatility of 118% and 118% and a risk free interestrate of 3.16% and 2.46%, respectively.

 

The discount attributableto the issuance date intrinsic value of the beneficial conversion feature andfair value of Warrants totaling $2,998,919 is being amortized using theeffective interest method over the term of the Debenture. During the threemonths ended March 31, 2008, $80,062 of this discount was amortized toexpense.

 

In connection with thisDebenture, the Company incurred financing cost of $290,000. This financing costwas capitalized and amortized over the life of the Debenture using theeffective interest method. During the three months ended March 31, 2008,$7,742 of the capitalized financing cost was amortized to expense.

 

The Company agreed to grant registration rights to theinvestors, by filing a registration statement covering the shares of commonstock issuable upon the conversion of the Debenture, exercise of the Warrants,and issuable as interest payments, within 30 days of the closing, and obtainingeffectiveness of the registration statement within 90 days after the closing. Anamendment to the registration rights agreement gives the Company until June 7,2008 to file the initial registration statement.

 

**NOTE 11 – SUBSEQUENT EVENT**

 

On April 15, 2008, the Company entered into aSecurities Purchase Agreement with EMC Corporation (“EMC”). Pursuant to theterms of the agreement, EMC purchased $5 million of the Company’s 8% SeniorSecured Convertible Debenture (“Debenture”). The Debenture: (i) bearsinterest at 8% per year, paid quarterly in cash or, subject to certainconditions, registered shares of the Company’s common stock; (ii) has amaturity of April 15, 2011, (iii) is convertible at EMC’s option intoshares of the Company’s common stock at $2.48 per share, (iv) is securedby all of the Company’s assets, including inventory, receivables, unencumberedequipment and intellectual property, and (v) has a forced conversionfeature which allows the Company to force the conversion of the Debenture if theCompany’s common stock trades above $5.00 for 20 consecutive trading days. Sucha forced conversion may be limited by contractual restrictions on the amount ofthe Company’s common stock which EMC may own and certain other conditions. TheCompany also agreed to issue EMC five-year Common Stock Purchase Warrants topurchase 1,008,064 shares of the Company’s common stock at an exercise price of$2.728 per share. The Company expects to use the net proceeds of the financingfor working capital requirements and to pay down certain obligations. TheDebenture also contains customary events of default provisions. As part of thetransaction, the Company agreed to: (i) maintain monthly burn rate at$600,000 or below, (ii) be compliant with NASDAQ listing requirements; and(iii) obtain shareholder approval prior to effectuating a reverse stocksplit and for the issuance of additional shares of the Company’s common stock.Both the conversion price of the Debenture and the exercise price of theWarrants are subject to “full-ratchet” price protection in the event of stockissuances below their respective conversion or exercise prices, except forspecified exempted issuances including grants of stock options and stockissuances to officers, directors, employees and consultants.  The Company agreed to grant registrationrights to EMC, by filing a registration statement covering the shares of commonstock issuable upon the conversion of the Senior Secured Convertible Debenture,exercise of the Common Stock Purchase Warrant, and issuable by the Company asinterest payments by June 7, 2008, and to obtain effectiveness of thatregistration statement by August 7, 2008. The Company’s officers,directors, and 10% shareholders also executed agreements prohibiting the salesof the Company’s common stock by them until October 31, 2008. Inconnection with the transaction, the Company also secured voting agreementsfrom its officers, directors and 10% shareholders approving the transaction inthe event that the Company are required to seek such approval pursuant to the rules ofthe NASDAQ.

 

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** **

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

 

The following Management’s Discussion and Analysis ofour Financial Condition and Results of Operations should be read in conjunctionwith the consolidated financial statements and notes thereto included as partof this Quarterly Report. This report contains forward-looking statements thatare based upon current expectations. We sometimes identify forward-lookingstatements with such words as “may”, “will”, “expect”, “anticipate”, “estimate”,“seek”, “intend”, “believe” or similar words concerning future events. Theforward-looking statements contained herein, include, without limitation,statements concerning future revenue sources and concentration, gross profitmargins, selling and marketing expenses, research and development expenses,general and administrative expenses, capital resources, additional financingsor borrowings and additional losses and are subject to risks and uncertaintiesthat could cause actual results to differ materially from the resultscontemplated by these forward-looking statements. We also urge you to carefullyreview the risk factors set forth in other documents we file from time to timewith the Securities and Exchange Commission, particularly our Form 10-KSB forthe year ended December 31, 2007.

 

**OVERVIEW**

 

Since 2002, we have continued to develop our powerinlay technology that is designed to bring power-based applications to theenterprise market and on-line banking market. Our present focus is the ICTDisplayCard power inlay technology which consists of a battery, circuit, andswitch that can power applications on credit card sized cards and otherinformation-bearing plastic cards. We have devoted a majority of our efforts tocompleting the development of our power inlay technology, initiating marketingand raising the financing required to do so and fund our expenses. We havegenerated limited revenues. Prior to the fourth quarter of 2007 these revenuesderived primarily from licensing agreements of our LensCard product, most ofwhich have terminated. At this time, we have no plans to renew the LensCardlicensing agreements or to further market or sell the LensCard, unlessrequested by a customer.

 

Since inception, we have been unprofitable. Weincurred net losses of $1,962,441 and $2,206,807 for the three months ending March 31,2008 and 2007, respectively. As of March 31, 2008, we had an accumulateddeficit of $30,029,624. Our continued existence is dependent upon our abilityto generate sales of the ICT DisplayCard or, if we are unable to do so insufficient quantity to cover our expenses, to obtain additional financing. Wefurther anticipate that after such introduction of the ICT DisplayCard in 2008,we will continue to incur net losses due to our costs exceeding our revenuesfor an indefinite period of time. Our capital requirements for the next 12months for retention and hiring of key personnel, implementation of a salesforce for our products, and further research and development relating to theproduction of our power inlay technology will continue to be significant. Todate, our operations have been funded primarily through equity and debtfinancings totaling $30,303,691.

 

We believe that our current cash, combined withanticipated revenue collections, will be sufficient to fund our operations forthe next 12 months.    We anticipate thatwe will not be able to generate sales of the ICT DisplayCard in substantialquantities until the second half of 2008 to support our cash needs since thesales cycle for that product is longer than originally anticipated.

 

We are providing informationabout our backlog for the first time as part of our discussion and analysis offinancial condition and results of operations. Our backlog, which consists oforders received but not yet shopped, totals $1.2 million at March 31, 2008.

 

We raised $3,500,000 of operating capital in January 2008(see Equity and Debt Financings and Accounts Payable in this Item 2) and$5,000,000 in April 2008 (see Note 11 Subsequent Event) but may be unableto 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 onsatisfactory terms, or that sufficient revenues will be generated from thesales of our product in order to sustain our operations. Should our cash andliquidity position become severe, we would need to limit our operations whichwould harm the value of your investment in the Company.

 

**CRITICAL ACCOUNTING POLICIES AND ESTIMATES**

 

Our discussion and analysis of our financial conditionand results of operations are based on our consolidated financial statements,which have been prepared in accordance with accounting principles generallyaccepted in the U.S. The preparation of these financial statements requires usto make estimates and judgments that affect the reported amounts of assets,liabilities, revenues and expenses for each period. The following represents asummary of our critical accounting policies, defined as those policies that webelieve are the most important to the portrayal of our financial condition andresults of operations and that require management’s most difficult, subjectiveor complex judgments, often as a result of the need to make estimates about theeffects of matters that are inherently uncertain.

 

Revenue recognition. We recognize revenues inaccordance 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 anddeterminable and collectability is reasonably assured. We recognize certainlong-term contracts using the completed-contract method in accordance with SOP81-1, “Accounting for Performance of Construction-Type and CertainProduction-Type of Contracts.”

 

We have generated revenue from three sources: sale ofthe ICT DisplayCard, licensing of the LensCard to various credit card issuersand selling the Light Card to a credit card issuer. The LensCard is composed ofa credit card with a small magnifying lens embedded into the card. TheLightCard is composed of a credit card that when a button is pressed a smallLED light is activated. We sell time-based licenses to various credit cardissuers for the LensCard. We recognize royalties attributable to thesetime-based licenses as they are sold to the credit card issuers’ customers.Royalty revenue is recognized when each LensCard is sold by an issuer inaccordance with SAB 104.

 

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We anticipate that the majority of our revenues in thecoming year will come from the ICT DisplayCard. We intend to sell these cardsthrough resellers.  We do not recognizerevenue when we sell the ICT DisplayCard in small quantities under a test orpilot program.  Cash receipts from thesetransactions are used to offset research and development expenses.

 

The revenue generated from the LensCard and LightCardis negligible, and we expect that the sales of these products will have noimpact on our results of operations.

 

Deferred revenue is recorded when the payments from areseller are received by us prior to the sale of a ICT DisplayCard to theresellers’ customer.

 

Accounts receivable allowances. Our sales to date havebeen to large credit card issuers and we have been successful in collecting forproducts and services. Consequently, we have no allowances for doubtfulaccounts. We perform a regular review of our customer activity and associatedcredit risks and do not require collateral from our customers.

 

Inventory. Our inventories are valued at the lower ofcost or market. We use estimates and judgments regarding the valuation ofinventory to properly value inventory. Inventory adjustments are made for thedifference between the cost of the inventory and the estimated market value andcharged to operations in the period in which the facts that give rise to theadjustments become known.

 

Research and Development. Costs of research anddevelopment, principally the design and development of hardware and softwareprior to the determination of technological feasibility, are expensed asincurred.

 

Valuation of Intangible Assets and Long-Lived Assets.We assess the impairment of identifiable intangibles and long-lived assetswhenever events or changes in circumstances indicate that the carrying valuemay not be recoverable. Factors considered important that could trigger animpairment review include, but are not limited to, the following: a significantunderperformance to expected historical or projected future operating results,a significant change in the manner of the use of the acquired asset or thestrategy for the overall business, or a significant negative industry oreconomic trend.  We assess the carryingvalue of long-lived assets in accordance with SFAS No. 144, “Accountingfor the Impairment or Disposal of Long-Lived Assets.”

 

Stock Based Compensation. On January 1, 2006, weadopted SFAS No. 123 (R), “Share Based Payment,” which establishesstandards for the accounting of transactions in which an entity exchanges itsequity instruments for goods or services, primarily focusing on accounting fortransactions where an entity obtains employee services in share-based paymenttransactions. SFAS No.123(R) requires a public entity to measure the costof 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 torecognize it as compensation expense over the period the employee is required toprovide service in exchange for the award, usually the vesting period. SFASNo.123(R) supersedes the Company’s previous accounting under AccountingPrinciples Board (APB) Opinion No. 25, Accounting for Stock Issued toEmployees for periods beginning in fiscal year 2006. In March 2005, theSEC issued Staff Accounting Bulletin (“SAB”) No. 107 relating to SFAS No. 123(R).We have applied the provisions of SAB No.107 in our adoption of SFAS No. 123(R).

 

**RESULTS OF OPERATIONS**

 

**COMPARISON OF THE THREE MONTH PERIODSENDED MARCH 31, 2008 AND MARCH 31, 2007**

 

**OVERVIEW**

 

Our financial results for the three months ended March 31,2008 reflect a net loss of $1,962,441, or $0.07 per share (basic and diluted),compared to a net loss of $2,206,807, or $0.08 per share (basic and diluted),for the three months ended March 31, 2007.

 

The major factors contributing to our decreased netloss of $1,962,441 during the first quarter of 2008 were a reduction inoperating expenses combined with an increased margin from the sale of the ICTDisplayCard.

 

Revenue.  In the2008 period, revenue is from the sale of the ICT DisplayCard.  In the 2007 period, revenue consists ofroyalties from the LensCard.   We believethat future revenue will be primarily from the sales of the ICT DisplayCard;revenue from LensCard royalties is expected to be negligible.

 

20

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Total revenue increased from $1,420 for the threemonths ended March 31, 2007 to $217,216 for the three months ended March 31,2008.  The increase is attributable tosales of the ICT DisplayCard in the current period.  For the three months ended March 31,2007, revenue was from LensCard royalties.

 

Cost of goods sold - Cost ofgoods sold increased to $136,674 for the three months ended March 31, 2008 from$0 for the same period in the prior year. No cost of goods sold is associatedwith LensCard royalties.

 

Administrative. Administrative expense consists oftravel and marketing expenses, compensation expense, administrative fees anddepreciation and amortization expense.

 

Administrative expense decreased to $1,403,598 for thethree months ended March 31, 2008 from $1,531,575 for the three monthsended March 31,  2007.Administrative expense decreased as a result of the reversal of an accrual establishedat December 31, 2007 for an anticipated stock award offset by an increasein share-based compensation expense and salary expense.   We anticipate that administrative expenseswill increase in 2008 as we incur increased costs associated with establishingour operations.

 

Consulting expense. Consulting expense consists ofpayments made to independent contractors that provided services to us.

 

Consulting expense increased to $120,098 for the threemonths ended March 31, 2008 from $115,892 in the 2007 period.  We anticipate that our consulting expensewill likely continue to increase slightly as we utilize consultants insituations where the workload doesn’t support a full time hire.

 

Professional fees expense. Professional fees consistof amounts paid to our outside counsel, auditors and other outside servicesrendered to us.

 

Professional fees expense decreased to $248,031 forthe three months ended March 31, 2008 from $343,023 for the three monthsended March 31, 2007.  The decreaseis primarily attributable to a reduction in audit and audit related charges anda reduction in legal fees associated with a proposed acquisition of one of ourmajor suppliers in 2007.    We anticipatethat professional fees may increase as a result of needing to assess ourinternal controls relating to Sarbanes-Oxley in 2008 and the related legalcosts associated with being a public company.

 

Research and Development. Research and developmentexpense consists primarily of costs relating to further development of the ICTDisplayCard.

 

Research and development costs decreased to $179,816for the three months ended March 31, 2008 from $296,329 for the threemonths ended March 31, 2007 primarily due to a one-time charge in the 2007period for relocation expenses for nCryptone consultants.   We expect our research and developmentexpenses to increase as we continue to invest in quality control measuresdesigned to improve our ability to deliver defect-free products.

 

Interest income. Interest income decreased to $9,073for the three months ended March 31, 2008 from $79,540 for the threemonths ended March 31, 2007 due to the reduced cash on hand in the firstquarter of 2008.

 

Interest expense. Interest expense increased to$165,381 for the three months ended March 31, 2008 from $148 for the threemonths ended March 31, 2007.  The2008 period interest relates to our $3.5 million 8% senior secured convertibledebenture issued in January 2008. We had no debt during the 2007 period.

 

**LIQUIDITY AND CAPITAL RESOURCES**

 

Our principal sources of liquidity have been cash andcash equivalent balances, which were $300,902 at March 31, 2007 and$6,887,875 as of March 31, 2007. Since our inception, we have incurredsignificant losses, and as of March 31, 2008 and 2007 we had anaccumulated deficit of $30,029,624 and $15,940,368, respectively.

 

Net cash used in operating activities was $3,248,698for the three months ended March 31, 2008 as compared with $1,384,168 forthe three months ended March 31, 2007. This increase in cash used wasprimarily due to a significant pay down of accounts payable in the 2008 periodcombined with increased levels of inventory.

 

Net cash used in investing activities was $0 for thethree months ended March 31, 2008 as compared with $19,979 for the threemonths ended March 31, 2007.  Noproduction equipment was purchased in the 2008 period.

 

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Net cash provided by financing activities was$3,210,000 for the three months ended March 31, 2008 as compared to$21,926 for the three months ended March 31, 2007. The increase is theresult of our issuance of $3.5 million of 8% senior secured convertibledebentures in January 2008.

 

**EQUITY AND DEBT FINANCINGS ANDACCOUNTS PAYABLE**

 

To date, our operations have been funded primarily throughequity and debt financings totaling $30,303,691. We believe that we have enoughfunding to meet our cash needs and continue our operations for the next 12 monthsif we are able to successfully sell the ICT DisplayCard in substantialquantities.   Our significant equity anddebt financings from January 1, 2006 through May 6, 2008 aredescribed below.

 

On May 30, 2006, we issued 3,785,500 shares ofcommon stock at a price of $3.00 per share to accredited investors pursuant toa private placement for total gross proceeds of $11,356,500. T.R. Winston &Company served as placement agent for the securities sold in this transactionand received a net commission of 5% of the total gross proceeds and a warrantto purchase 113,565 shares of our common stock at an exercise price of $3.30per share that expire on May 30, 2011. The shares of common stock weissued and the shares of common stock underlying warrants issued on May 30,2006 have full ratchet anti-dilution protection for 12 months if we issuesecurities for a price less than $3.00 per share. If during 12 months followingMay 30, 2006, we obtain additional capital through the issuance of equitysecurities, other than the issuance of shares of common stock or securitiesconvertible into or exchangeable for common stock of InCard in connection with (i) anymergers or acquisitions of securities, business, property or other assets (ii) jointventures or other strategic corporate transactions, (iii) any othertransaction, the primary purpose of which is not to raise capital for thecompany, (iv) the exercise of an option or warrant or the conversion of asecurity outstanding as of May 30, 2006, or (v) any employee benefitplan that has been adopted by our board and our shareholders, the holders ofthese then-existing shares will receive full ratchet anti-dilution protection.

 

On June 28, 2006, we purchased rights relating tothe ICT DisplayCard from nCryptone for 4,500,000 shares of our common stock andacquired a license to use a patent for $1,000,010 that was due by June 27,2007. We have paid $400,000 towards the cost of the patent through March 31,2008. The remainder is due in January 2009.

 

On January 8, 2008, we entered into a SecuritiesPurchase Agreement (the “Purchase Agreement”) with 13 institutional andaccredited investors (the “Purchasers”). Pursuant to the terms of the PurchaseAgreement, the Purchasers purchased $3.5 million of our 8% Senior SecuredConvertible Debenture (“Debenture”). The Debenture: (i) bears interest at8% per year, paid quarterly in cash or registered common stock, at ourdiscretion; (ii) has a maturity of January 8, 2011, (iii) isconvertible at the holder’s option into shares of our common stock at $2.50 pershare, (iv) is secured by all of our and our subsidiary’s assets includinginventory, receivables, unencumbered equipment and intellectual property underthe terms of a Security Agreement, and (v) has a forced conversion featurewhich allows us to force the conversion of the Debenture if our common stocktrades above $5.00 for 20 consecutive trading days and certain other conditionsare met. We also issued to the Purchasers five-year common stock purchasewarrants to purchase 700,000 shares of our common stock at an exercise price of$2.75 per share (the “Warrants”). We used the net proceeds of the financing forour working capital requirements and to pay down certain obligations.

 

On April 15, 2008, we entered into a SecuritiesPurchase Agreement with EMC Corporation (“EMC”). Pursuant to the terms of theagreement, EMC purchased $5 million of our 8% Senior Secured ConvertibleDebenture (“Debenture”). The Debenture: (i) bears interest at 8% per year, paidquarterly in cash or, subject to certain conditions, registered shares of ourcommon stock; (ii) has a maturity of April 15, 2011, (iii) isconvertible at EMC’s option into shares of our common stock at $2.48 per share,(iv) is secured by all of our and our subsidiary’s assets, includinginventory, receivables, unencumbered equipment and intellectual property, and (v)has a forced conversion feature which allows us to force the conversion of theDebenture if our common stock trades above $5.00 for 20 consecutive tradingdays. Such a forced conversion may be limited by contractual restrictions onthe amount of our common stock which EMC may own and certain other conditions.We also agreed to issue EMC five-year Common Stock Purchase Warrants topurchase 1,008,064 shares of our common stock at an exercise price of $2.728per share. We expect to use the net proceeds of the financing for our workingcapital requirements and to pay down certain obligations.

 

**FUTURE NEEDS**

 

We believe that our current cash of $3,538,941 as of May 5,2008, combined with anticipated revenue collections, will provide us withsufficient resources for the next twelve months if we are able to successfullysell the ICT DisplayCard in substantial quantities. This capital would not besufficient to finance any additional activity. If we need additional capital, we do not have any binding commitmentsfor, or readily available sources of, additional financing. Additionalfinancing, whether through public or private equity or debt financing,arrangements with stockholders or other sources to fund operations, may not beavailable, or if available, may be on terms unacceptable to us. If we issueadditional equity securities to raise funds, the ownership percentage of ourexisting 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 tomake claims on our assets. The terms of any debt issued could imposerestrictions on our operations. If adequate funds are not available to satisfyour capital requirements, our operations and liquidity could be materiallyadversely affected.

 

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**ITEM 3. CONTROLS AND PROCEDURES**

 

(a) Evaluation of disclosure controls andprocedures. As of the end of the period covered by this report, we carried outan evaluation, under the supervision and with the participation of ourmanagement, including our Chief Executive Officer and Chief Financial Officer,of the effectiveness of the design and operation of our disclosure controls andprocedures, as defined in Rules 13a-15(e) and 15d-15(e) underthe Securities Exchange Act of 1934, as amended. Based upon that evaluation,our Chief Executive Officer and Chief Financial Officer concluded that ourdisclosure controls and procedures were effective as of the end of theapplicable period to ensure that information required to be disclosed by us inreports that we file or submit under the Exchange Act (i) is recorded,processed, summarized and reported within the time periods specified inSecurities and Exchange Commission rules and forms and (ii) isaccumulated and communicated to our management, including our Chief ExecutiveOfficer and Chief Financial Officer, as appropriate to allow timely decisionsregarding required disclosures.

 

Based on our assessment atDecember 31, 2007, management believes that our internal control over financialreporting was not effective based on criteria set forth by the Committee of SponsoringOrganizations of the Treadway Commission in *Internal Control-IntegratedFramework*. The following material weaknesses were identified in ourinternal control over financial reporting at December 31, 2007:

 

·      We performed a financial close on a quarterly basisonly.  The analysis of actual to budgetedresults was either done marginally or not at all and there was no mechanism inplace to evaluate variances, investigate unusual activity or communicatefindings to senior management or the board of directors. The financial closeprocess is not formally documented.

 

·      During the quarterly financial close we did notutilize a financial closing checklist to ensure that all items had beenconsidered for inclusion in the three quarterly filings of Form 10-QSB.

 

·      We are unable to maintain the proper segregation ofvarious accounting and finance duties because of our small size and limitedresources.   At risk areas include cashreceipts and payments, processing of journal entries and accountreconciliations.

 

·      We do not maintain a standard listing of recurringjournal entries.  We rely on the previousquarter’s journal entries during the closing process and may overlookadjustments that need to be made to ensure our financial statements arepresented fairly.

 

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

 

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

 

·      We do not consistently utilize purchase orders whenpurchasing inventory, which may lead to uncertainty regarding our quarter endcommitments.

 

·      Board and management turnover during 2007 resulted inan uneven “tone at the top”.  The currentCEO and CFO were hired in September 2007 and October 2007 respectively.  Of the five board members at December 31,2007 only two were on the board at the beginning of 2007. Formal jobdescriptions do not exist, annual reviews are not performed and an organizationchart was not developed until January 2008.

 

·      We were unable to complete our analysis of the Section 382limitation on loss carryforwards in a timely manner because of poorrecordkeeping.

 

·      We did not properly account for modifications made tostock option grants in accordance with SFAS 123(R) resulting in a latejournal entry being made to prevent the financial statements from beingmisleading.

 

We intend to remediatethese material weaknesses during 2008. As concerns the material weakness relating to segregation of duties, weare re-examining our procedures to include compensating controls and minimizethe risk associated with having limited resources in the accounting department.

 

Notwithstanding thesematerial weaknesses, we believe that our financial condition, results ofoperations and cash flows presented in this report of Form 10-Q are fairlypresented in all material respects.

 

(b) Changes in internal controls over financialreporting. There was no change in our internal control over financial reportingduring our most recent fiscal quarter that has materially affected, or isreasonably likely to materially affect, our internal control over financialreporting.

 

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**PART II- OTHER INFORMATION**

 

**ITEM 1. LEGAL PROCEEDINGS**

 

Not Applicable

 

**ITEM 2. UNREGISTERED SALES OFSECURITIES AND USE OF PROCEEDS**

 

·      On January 4, 2008, pursuant to our 2007 Equity Incentive Plan,we issued an option to purchase 60,000 common shares at $2.49 per share to oneof our consultants. The option has a vesting period of three years (vesting 1/3per year) and a duration of 10 years.

 

·      On January 8, 2008,we sold $3.5 million of our 8% Senior SecuredConvertible Debentures.  As part of thetransaction, we issued the purchasers common stock purchase warrants topurchase 700,000 of our common shares. For a more detailed description of the transaction, refer to Note 10 ofour financials contained in this report.  We incorporate by reference the disclosure of the transaction andaccompanying documents as contained in our Current Report on Form 8-Kfiled with the SEC on January 9, 2008.

 

·      OnFebruary 25, 2008, pursuant to our 2007 Equity Incentive Plan, we issuedone of our directors an option to purchase 63,333 common shares at $1.95 pershare as compensation for serving on the board and any relevant committeesthereof.  The option has a vesting periodof three years (vesting 1/3 per year), and a duration of 10 years.   In the event the director resigns or isremoved, the holder has 90 days to exercise of the option.

 

·      OnFebruary 25, 2008, pursuant to our 2007 Equity Incentive Plan, we issuedone of our directors an option to purchase 63,333 common shares at $1.95 pershare as compensation for serving on the board and any relevant committeesthereof.  The option has a vesting periodof three years (vesting 1/3 per year), and a duration of 10 years.   In the event the director resigns or isremoved, the holder has 90 days to exercise of the option.

 

·      OnMarch 27, 2008, pursuant to our 2007 Equity Incentive Plan, we issued toour CEO an option to purchase 1,000,000 common shares at $2.25 per share.  The option vests over a period of twelvemonths upon the occurrence of certain milestones and has duration of 10 years.   For a more detailed description of theoption and the vesting conditions, please refer to our Current Report filedwith the SEC on Form 8-K on April 2, 2008.

 

·      OnMarch 27, 2008, pursuant to our 2007 Equity Incentive Plan, we issued toour CFO an option to purchase 200,000 common shares at $2.25 per share.  The option vests over a period of twelvemonths upon the occurrence of certain milestones and has duration of 10years.  For a more detailed descriptionof the option and the vesting conditions, please refer to our Current Reportfiled with the SEC on Form 8-K on April 2, 2008.

 

·      On April 15, 2008, we sold $5 million of our 8%Senior Secured Convertible Debentures. As part of the transaction, we issued the purchaser common stockpurchase warrant to purchase 1,008,064 of our common shares.  For a more detailed description of the transaction,refer to Note 11 of our financials contained in this report.   We incorporate by reference the disclosureof the transaction and accompanying documents as contained in our CurrentReport on Form 8-K filed with the SEC on April 16, 2008.

 

**ITEM 3. DEFAULTS UPON SENIORSECURITIES**

 

Not Applicable

 

**ITEM 4. SUBMISSION OF MATTERS TO AVOTE OF SECURITY HOLDERS**

 

Not Applicable

 

**ITEM 5. OTHER INFORMATION**

 

Not Applicable

 

**ITEM 6. EXHIBITS**

 

(a) Exhibits

 

The exhibits listed in the Exhibit Index arefiled as a part of this report.

 

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**SIGNATURES**

 

In accordance with the requirements of the ExchangeAct, the Registrant caused this report to be signed on its behalf by theundersigned, thereunto duly authorized.

 
|                    |                                   |                         |
|-------------------------|----------------------------------------|------------------------------|
| ** **              | **INNOVATIVE CARD TECHNOLOGIES, INC.** |
|                    |                                   |                         |
|                    |                                   |                         |
| Date: May 12, 2008 |                                   | /s/ Steven R. Delcarson |
|                    |                                   | Steven R. Delcarson          |
|                    |                                   | Chief Executive Officer      |
|                    |                                   |                         |
|                    |                                   |                         |
| Date: May 12, 2008 |                                   | /s/ Charles M. Caporale |
|                    |                                   | Charles M. Caporale          |
|                    |                                   | Chief Financial Officer      |

 

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**EXHIBITINDEX**

 
| 2.1(2)           |   | Exchange agreement by and among the registrant,  LensCard US, LLC, Alan Finkelstein, Forest Finkelstein, Bradley Ross and Luc  Berthoud, dated April 1, 2004       |
|------------------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|             |   |                                                                                                                                                                    |
| 2.2(2)           |   | Exchange agreement by and among the registrant, Alan  Finkelstein,  Bradley Ross and Michael Paradise, dated April 1,  2004                                   |
|             |   |                                                                                                                                                                    |
| 2.3(2)           |   | Exchange agreement between the registrant and its  wholly-owned subsidiary, PSACo, Inc., dated April 1, 2004                                                  |
|             |   |                                                                                                                                                                    |
| 2.4(2)           |   | Merger agreement between the registrant and LensCard  International Limited, a British Virgin Islands International Business  Company, dated April 6, 2004         |
|             |   |                                                                                                                                                                    |
| 3.1(2)           |   | Amended and Restated Certificate of incorporation of  the registrant, as currently in effect                                                                            |
|             |   |                                                                                                                                                                    |
| 3.2(2)           |   | Amended and Restated Bylaws of the registrant, as  currently in effect                                                                                                  |
|             |   |                                                                                                                                                                    |
| 3.3(12)          |   | Certificate of Amendment of Amended and Restated  Certificate of Incorporation.                                                                                         |
|             |   |                                                                                                                                                                    |
| 10.1(2)          |   | 2004 Stock Incentive Plan                                                                                                                                               |
|             |   |                                                                                                                                                                    |
| 10.2(2)          |   | Sublease agreement between registrant and  Bemel & Ross for premises at 11601 Wilshire Blvd.,#2160, Los  Angeles, California 90025, dated January 5, 2003 |
|             |   |                                                                                                                                                                    |
| 10.3(2)          |   | Guaranty of lease between Alan Finkelstein and  Bemel & Ross, dated January 5, 2003                                                                       |
|             |   |                                                                                                                                                                    |
| 10.4(3)          |   | Form of common stock warrant, as amended on  September 7, 2005.                                                                                               |
|             |   |                                                                                                                                                                    |
| 10.5(2)          |   | Securities purchase agreement between registrant and  Bristol Capital, LLC dated December 23, 2003                                                                 |
|             |   |                                                                                                                                                                    |
| 10.5(a) (2) |   | Waiver of section 2.3 of the securities purchase  agreement between registrant and Bristol Capital, LLC                                                                 |
|             |   |                                                                                                                                                                    |
| 10.6(2)          |   | Shares for debt agreement between registrant and  Alan Finkelstein, dated June 22, 2004                                                                            |
|             |   |                                                                                                                                                                    |
| 10.7(2)          |   | Shares for debt agreement between registrant and  Bradley Ross, dated June 22, 2004                                                                                |
|             |   |                                                                                                                                                                    |
| 10.8(2)          |   | Shares for debt agreement between registrant and Luc  Berthoud, dated June 22, 2004                                                                                |
|             |   |                                                                                                                                                                    |
| 10.9(2)          |   | Promissory note (loan no. 00003) between registrant  and City National Bank, dated May 24, 2004                                                                    |
|             |   |                                                                                                                                                                    |
| 10.10(2)         |   | Promissory note (loan no. 00005) between registrant  and City National Bank, dated May 24, 2004                                                                    |
|             |   |                                                                                                                                                                    |
| 10.11(2)         |   | Promissory note (1oan no. 00004) between registrant  and City National Bank, dated May 24, 2004                                                                    |
|             |   |                                                                                                                                                                    |
| 10.12(2)         |   | Promissory note (loan no. 00006) between registrant  and City National Bank, dated May 24 ,2004                                                                    |
|             |   |                                                                                                                                                                    |
| 10.13(2)         |   | Commercial guaranty between Alan Finkelstein and  City National Bank dated May 24, 2004                                                                            |
|             |   |                                                                                                                                                                    |
| 10.14(2)         |   | Commercial guaranty between Bradley Ross and City  National Bank dated May 24, 2004                                                                                |

 

26

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| 10.15(2)  |   | Commercial guaranty between Luc Berthoud and City  National Bank dated May 24, 2004                                                                         |
|-----------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|      |   |                                                                                                                                                             |
| 10.16(2)  |   | Offer letter between registrant and Murdoch Henretty  dated July 28, 2004                                                                                   |
|      |   |                                                                                                                                                             |
| 10.17(2)  |   | Employment agreement between registrant and Alan  Finkelstein dated January 1998                                                                            |
|      |   |                                                                                                                                                             |
| 10.18(2)  |   | Strategic Alliance Agreement between registrant and  Visa International Service Association dated May 26, 2004                                              |
|      |   |                                                                                                                                                             |
| 10.19(2)  |   | Secured Demand Promissory Note between registrant  and Union Finance International Corp. dated March 31, 2005                                               |
|      |   |                                                                                                                                                             |
| 10.20(2)  |   | Secured Demand Promissory Note between registrant  and Bristol Investment Fund, Ltd. dated March 30, 2005                                                   |
|      |   |                                                                                                                                                             |
| 10.21(2)  |   | Capital Lease Agreement between registrant and CNC  Associates, Inc. dated November 30, 2004                                                           |
|      |   |                                                                                                                                                             |
| 10.22(2)  |   | Guaranty between Alan Finkelstein and CNC  Associates, Inc. dated November 30, 2004                                                                    |
|      |   |                                                                                                                                                             |
| 10.23(2)  |   | Security Agreement between registrant and Union  Finance International Corp. dated March 31, 2005 (See  Exhibit 10.19)                                 |
|      |   |                                                                                                                                                             |
| 10.24(2)  |   | Security Agreement between registrant and Bristol  Investment Fund, Ltd. dated March 30, 2005 (See Exhibit 10.20)                                      |
|      |   |                                                                                                                                                             |
| 10.25(2)  |   | Secured Demand Promissory Note between registrant  and Bradley Ross dated August 31, 2005                                                                   |
|      |   |                                                                                                                                                             |
| 10.26(2)  |   | Secured Demand Promissory Note between registrant  and Rodger Bemel dated August 31, 2005                                                                   |
|      |   |                                                                                                                                                             |
| 10.27(2)  |   | Joint Development Agreement between registrant and  nCryptone dated July 25, 2005                                                                           |
|      |   |                                                                                                                                                             |
| 10.28(2)  |   | Agreement between registrant and SmartDisplayer  Technology, Inc. dated July 25, 2005                                                                  |
|      |   |                                                                                                                                                             |
| 10.29(5)  |   | Form of Lock-Up agreement by and between  registrant’s directors and executive officers pursuant to the private  placement dated October 19, 2005 |
|      |   |                                                                                                                                                             |
| 10.30(4)  |   | Form of Warrant pursuant to private placement  dated October 19, 2005                                                                                  |
|      |   |                                                                                                                                                             |
| 10.31(4)  |   | Registration Rights Agreement by and between the  registrant and each investor pursuant to the private placement dated  October 19, 2005                    |
|      |   |                                                                                                                                                             |
| 10.32(4)  |   | Side Letter Agreement between the registrant, T.R.  Winston & Company and investors pursuant to the private placement  dated October 19, 2005      |
|      |   |                                                                                                                                                             |
| 10.33(6)  |   | Letter of Intent by and between VASCO Data Security,  nCryptone and Registrant, dated October 28, 2005.                                                     |
|      |   |                                                                                                                                                             |
| 10.34(9)  |   | Form of Warrant to TR Winston dated as of  May 30, 2006.                                                                                               |
|      |   |                                                                                                                                                             |
| 10.35(9)  |   | Form of Securities Purchase Agreement dated  May 30, 2006.                                                                                             |
|      |   |                                                                                                                                                             |
| 10.36(9)  |   | Form of Registration Rights Agreement dated  May 30, 2006.                                                                                             |
|      |   |                                                                                                                                                             |
| 10.37(10) |   | Asset Agreement dated June 28, 2006 by and  between Registrant NCryptone, SA and its shareholders.                                                          |
|      |   |                                                                                                                                                             |
| 10.38(10) |   | Registration Rights Agreement dated June 28,  2006 by and between Registrant and NCrytone, SA                                                               |
|      |   |                                                                                                                                                             |
| 10.39(10) |   | License Agreement dated June 28, 2006 by and  between Registrant as licensor and NCryptone, SA as licensee                                                  |
|      |   |                                                                                                                                                             |
| 10.40(10) |   | License Agreement dated June 28, 2006 by and  between NCryptone, SA as licensor and Registrant as licensee.                                                 |
|      |   |                                                                                                                                                             |
| 10.41(11) |   | Sublease between Registrant as sublessee and Bergman  and Dacey, Inc. as sublessor.                                                                         |
|      |   |                                                                                                                                                             |
| 10.42(8)  |   | Indemnification Agreement                                                                                                                                        |
|      |   |                                                                                                                                                             |
| 10.43(7)  |   | Code of Ethics                                                                                                                                                   |
|      |   |                                                                                                                                                             |
| 10.44(13) |   | Separation and Release  Agreement dated October 29, 2007 between Bennet P. Tchaikovsky and  Registrant                                                      |
|      |   |                                                                                                                                                             |
| 10.45(13) |   | Consulting Services  Agreement dated October 29, 2007 between Registrant and Bennet P.  Tchaikovsky                                                         |
|      |   |                                                                                                                                                             |
| 10.46(13) |   | Indemnity Agreement  dated October 29, 2007 between Registrant and Bennet P. Tchaikovsky                                                                    |
|      |   |                                                                                                                                                             |
| 10.47(14) |   | 2007 Equity Incentive  Plan                                                                                                                                      |
|      |   |                                                                                                                                                             |
| 10.48(15) |   | Form of Indemnity  Agreement                                                                                                                                |
|      |   |                                                                                                                                                             |
| 10.49(16) |   | Alan Finkelstein  Severance and Resignation Letter                                                                                                               |
|      |   |                                                                                                                                                             |
| 10.50(17) |   | Form of Securities  Purchase Agreement, dated as of January 8, 2008                                                                                    |
|      |   |                                                                                                                                                             |
| 10.51(17) |   | Form of 8% Senior  Secured Convertible Debenture issued January 8, 2008                                                                                |
|      |   |                                                                                                                                                             |
| 10.52(17) |   | Form of Common  Stock Purchase Warrant issued January 8, 2008                                                                                          |
|      |   |                                                                                                                                                             |
| 10.53(17) |   | Form of  Registration Rights Agreement, dated as of January 8, 2008                                                                                    |
|      |   |                                                                                                                                                             |
| 10.54(17) |   | Form of Security  Agreement, dated as of January 8, 2008                                                                                               |
|      |   |                                                                                                                                                             |
| 10.55(17) |   | Form of Subsidiary  Guarantee, dated as of January 8, 2008                                                                                             |
|      |   |                                                                                                                                                             |
| 10.56(17) |   | Form of Voting  Agreement, dated as of January 8, 2008                                                                                                 |
|      |   |                                                                                                                                                             |
| 10.57(17) |   | Form of Lock-Up  Agreement, dated as of January 8, 2008                                                                                                |
|      |   |                                                                                                                                                             |
| 10.58(18) |   | Employment Agreement  dated March 27, 2008 between Registrant and Steven R. Delcarson                                                                       |
|      |   |                                                                                                                                                             |
| 10.59(18) |   | Employment Agreement  dated March 27, 2008 between Registrant and Charles M. Caporale                                                                       |
|      |   |                                                                                                                                                             |
| 21.1(2)   |   | List of subsidiaries                                                                                                                                             |

 

27

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| 31.1(1) |   | Certification of Chief Executive Officer, as  required by Rule 13a-14(a) or Rule 15d-14(a) of the  Securities Exchange Act of 1934                        |
|---------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|    |   |                                                                                                                                                                          |
| 31.2(1) |   | Certification of Chief Financial Officer, as  required by Rule 13a-14(a) or Rule 15d-14(a) of the  Securities Exchange Act of 1934                        |
|    |   |                                                                                                                                                                          |
| 32(1)   |   | Certification of Chief Executive Officer and Chief  Financial Officer, as required by Section 1350 of Chapter 63 of Title 18  of the United States Code (18 U.S.C. 1350) |

 

----

| (1)  |   | Filed herewith.                                                                                                                                         |
|------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------|
| (2)  |   | Previously filed by the registrant on Form SB-2  (File No. 333-119814), as amended, with the Securities and Exchange  Commission.             |
| (3)  |   | Previously filed by the registrant on Form 8-K  with the Securities and Exchange Commission on September 7, 2005.                             |
| (4)  |   | Previously filed by the registrant on Form 8-K,  as amended, with the Securities and Exchange Commission on October 25,  2005.                |
| (5)  |   | Previously filed by the registrant on Form SB-2  (File No. 333-129564) with the Securities and Exchange Commission on  November 8, 2005. |
| (6)  |   | Previously filed by the registrant on Form 8-K  with the Securities and Exchange Commission on November 18, 2005.                             |
| (7)  |   | Previously filed by the registrant on  Form 10-KSB with the Securities and Exchange Commission on  March 20, 2006.                            |
| (8)  |   | Previously filed by the registrant on Form 8-K  with the Securities and Exchange Commission on March 23, 2007.                                |
| (9)  |   | Previously filed by the registrant on Form 8-K  filed with the Securities and Exchange Commission on May 31, 2006.                            |
| (10) |   | Previously filed by the registrant on Form SB-2  (File No. 333-135715) with the SEC on July 12, 2006.                                    |
| (11) |   | Previously filed by the registrant on  Form 10QSB with the SEC on November 13, 2006.                                                          |
| (12) |   | Previously filed by the  registrant on Form 8-K with the SEC on January 2, 2008                                                               |
| (13) |   | Previously filed by the  registrant on Form 8-K with the SEC on November 1, 2007                                                              |
| (14) |   | Previously filed by the  registrant on Form 10-QSB with the SEC on November 19, 2007                                                          |
| (15) |   | Previously filed by the  registrant on Form 8-K with the SEC on November 29, 2007                                                             |
| (16) |   | Previously filed by the  registrant on Form 8-K with the SEC on December 20, 2007                                                             |
| (17) |   | Previously filed by the  registrant on Form 8-K with the SEC on January 9, 2008                                                               |
| (18) |   | Previously filed by the  registrant on Form 8-K with the SEC on April 2, 2008                                                                 |

 

28

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