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U.S. SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549


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FORM 10-K


(Mark One)

|    |  |                                                                               
|--- |  | ------------------------------------------------------------------------------
|[X] |  | ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934

For the fiscal year ended December 31, 2001.

|      |  |                                                                                   
|----- |  | ----------------------------------------------------------------------------------
|[   ] |  | TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the transition period from ____________ to ____________.

Commission File Number 000-26227

SSP SOLUTIONS, INC.

(Exact name of registrant as specified in its charter)


|                                                                        |  |                                                
|----------------------------------------------------------------------- |  | -----------------------------------------------
|Delaware
(State or other jurisdiction of
incorporation or organization) |  | 33-0757190
(I.R.S. Employer Identification No.)

|                                                                                   |  |                 
|---------------------------------------------------------------------------------- |  | ----------------
|17861 Cartwright Road, Irvine, California
(Address of principal executive offices) |  | 92614
(Zip code)

(Registrants telephone number, including area code): (949) 851-1085

Securities Registered Pursuant To Section 12(b) of The Act: None

Securities Registered Pursuant To Section 12(g) of The Act:

Common Stock
(Title of class)

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

Yes [X] No [   ]


Indicate by check mark if disclosure of delinquent filers in response to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrants knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [   ]

The aggregate market value of the registrants voting stock held by
nonaffiliates was approximately $10,863,647 on April 15, 2002, based upon the
closing sale price of such stock on April 15, 2002.

Number of shares outstanding of each of the registrants classes of common
stock, as of the latest practicable date:

As of
April 15, 2002: Common Stock:
20,664,832 Shares

DOCUMENTS INCORPORATED BY REFERENCE.

List hereunder the following documents if incorporated by reference, and
the part of the Form 10-K (e.g., Part I, Part II, etc.) into which the document
is incorporated: (1) any annual report to security holders; (2) any proxy or
information statement; and (3) any prospectus filed pursuant to Rule 424(b) or
(c) of the Securities Act of 1933: Portions of the registrants proxy statement
related to the 2002 Annual Meeting of stockholders is incorporated by reference
into Part III of this Form 10-K.



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TABLE OF CONTENTS



|              |                                                                                               |  |  |  |  |  |  | 
|------------- | --------------------------------------------------------------------------------------------- |  |  |  |  |  |  | 
|PART I       
|              | Item 1. Business                                                                             
|              | Item 2. Properties                                                                           
|              | Item 3. Legal Proceedings                                                                    
|              | Item 4. Submission of Matters to a Vote of Security Holders                                  
|PART II      
|              | Item 5. Market for Registrants Common Equity and Related Shareholder Matters                
|              | Item 6. Selected Financial Data                                                              
|              | Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations
|              | Item 7a. Quantitative and Qualitative Disclosures about Market Risk                          
|              | Item 8. Financial Statements and Supplementary Data                                          
|              | Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 
|PART III     
|              | Item 10. Directors and Executive Officers of the Registrant                                  
|              | Item 11. Executive Compensation                                                              
|              | Item 12. Security Ownership of Certain Beneficial Owners and Management                      
|              | Item 13. Certain Relationships and Related Transactions                                      
|PART IV      
|              | Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K                    
|SIGNATURES   
|EXHIBIT 4.1  
|EXHIBIT 4.4  
|EXHIBIT 4.5  
|EXHIBIT 4.6  
|EXHIBIT 4.7  
|EXHIBIT 4.8  
|EXHIBIT 10.16
|EXHIBIT 10.17
|EXHIBIT 10.19
|EXHIBIT 10.20
|EXHIBIT 10.27
|EXHIBIT 10.28
|EXHIBIT 10.29
|EXHIBIT 10.30
|EXHIBIT 10.31
|EXHIBIT-21   



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TABLE OF CONTENTS



|              |                                                                                               |  |  |  |  |  |  | 
|------------- | --------------------------------------------------------------------------------------------- |  |  |  |  |  |  | 
|PART I       
|              | Item 1. Business                                                                             
|              | Item 2. Properties                                                                           
|              | Item 3. Legal Proceedings                                                                    
|              | Item 4. Submission of Matters to a Vote of Security Holders                                  
|PART II      
|              | Item 5. Market for Registrants Common Equity and Related Stockholder Matters                
|              | Item 6. Selected Financial Data                                                              
|              | Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations
|              | Item 7a. Quantitative and Qualitative Disclosures about Market Risk                          
|              | Item 8. Financial Statements and Supplementary Data                                          
|              | Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 
|PART III     
|              | Item 10. Directors and Executive Officers of the Registrant                                  
|              | Item 11. Executive Compensation                                                              
|              | Item 12. Security Ownership of Certain Beneficial Owners and Management                      
|              | Item 13. Certain Relationships and Related Transactions                                      
|PART IV      
|              | Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K                    
|SIGNATURES   
|EXHIBIT 4.4  
|EXHIBIT 4.5  
|EXHIBIT 4.6  
|EXHIBIT 4.7  
|EXHIBIT 4.8  
|EXHIBIT 10.16
|EXHIBIT 10.17
|EXHIBIT 10.19
|EXHIBIT 10.20
|EXHIBIT 10.27
|EXHIBIT 10.28
|EXHIBIT-21   




PART I




Item 1.Business

Introduction

For purposes of this Annual Report on Form 10-K, references to we, us,
our, SSP and the Company shall mean or refer to SSP Solutions, Inc. In
addition, unless the text indicates otherwise, the term SSP refers to SSP
Solutions, Inc. and its subsidiaries.

This Annual Report on Form 10-K contains certain statements which are not
historical in nature, and are intended to be, and are hereby identified as,
forward-looking statements for purposes of the safe harbor provided by
Section 21E of the Securities Exchange Act of 1934, as amended. Such
forward-looking statements are principally contained in the sections entitled
Business and Managements Discussion and Analysis of Financial Condition and
Results of Operations and include, without limitation, statements relating to
(i) anticipated trends in our financial condition and results of operations
(including expected changes in our gross margin and general, administrative and
selling expenses); (ii) our ability to finance our working capital
requirements; (iii) our business strategy for expanding our presence in the
Internet data security market; and (iv) our ability to distinguish ourselves
from our current and future competitors. These forward-looking statements are
based largely on our current expectations and are subject to a number of risks
and uncertainties. Actual results could differ materially from these
forward-looking statements. Important factors to consider in evaluating such
forward-looking statements include (i) the shortage of reliable market data
regarding the Internet data security market; (ii) changes in external
competitive market factors or in our internal budgeting process which might
impact trends in our results of operations; (iii) unanticipated working capital
or other cash requirements; (iv) changes in our business strategy or an
inability to execute our strategy due to unanticipated changes in the proposed
management and contract support services markets; and (v) various other factors
that may prevent us from competing successfully in the marketplace. In light of
these risks and uncertainties, many of which are described elsewhere in this
document, there can be no assurance that the actual results will not differ
materially from such forward-looking statements contained herein.

When used in this report, the words anticipate, believe, intends,
estimate, plan and expect and similar expressions as they relate to us or our
management are intended to identify such forward-looking statements. We caution
readers that forward-looking statements, including without limitation, those
relating to our future business prospects, revenues, working capital, liquidity
and income, are subject to certain risks and uncertainties that could cause
actual results to differ materially from those indicated in the forward-looking
statements, due to several important facts herein identified, among others, and
other risks and factors identified from time to time in our reports with the
Securities and Exchange Commission.

Overview

We develop and distribute electronic security solutions and services
for accessing, protecting and distributing digital content via the Internet and
Internet protocol or IP-based networks. We have a 30-year
history of leading-edge technology and data security solutions for government
communications. SSP, which stands for Secure Service Provider, also provides
real-time solutions for electronic commerce and communications. SSP products
embed security and trust throughout the transaction chain, protecting
electronic communications and financial transactions as well as physical and
electronic access. By combining our own technology with a range of partners
technologies and intellectual properties, our products represent an embedded security architecture simultaneously supporting public key
infrastructure (PKI) and other enterprise security
solutions. Our products and
services address the data security issues faced by government, financial
services, and entertainment customers.

We have developed and distribute SSP software, hardware, and embedded
security products. These stand-alone security products include: Internet
application software, cryptographic library software, certificate issuance and
lifecycle management software, PC and smart card readers, and the family of SSP
Universal Secure Access (USA) Smart Cards. In combination with a unique card
reader that includes biometric capability the USA Smart Card can offer
three-factor authentication. A three factor authentication consists
of verifying: (i) Who you are (a biometric, such as a
thumbprint); (ii) Something you have (the Smart Card);
(iii) Something you know (a pin number). An
authentication occurs when all
three items are present simultaneously.

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We
are developing the SSP Solution Suite, which provides security
from the Core to the Edge of the Internet, across any digital platform. By
offering the SSP Solution Suite with additional stand-alone products and
services, we will provide what we believe to be the highest level of security
products and services commercially available. We have licensed the rights to
use a broad array of technology components and have combined these technology
components with our own proprietary security products. We are uniquely
positioned to deliver a complete range of highly customizable data security
solutions across a broad range of industries and agencies. Our business model
anticipates revenue from product sales, software integration, third party
integration consulting services and recurring revenue streams based upon
transaction fees or participations. Recurring revenue is also anticipated from
strategic alliances with third party integration consulting services for the
delivery and joint marketing of the SSP Solution Suite to end users in the data
security market.

We
have partnered with Electronic Data Systems, (EDS), to provide our
security products and services to secure electronic commerce and communications
over the Internet and other IP based communications networks. EDS is a leading
global services company serving more than 9,000 accounts in 55 countries. After
testing, we understand that EDS has committed resources
and capital to promote our SSP Solution Suite to new and existing customers
requiring upgraded information security for internet-based transactions and
information distribution in the financial, healthcare, education, and
entertainment industries as well as governmental agencies.

EDS has installed the SSP Solution Suite into its testing/interoperability
laboratory and has successfully tested the SSP Core Technologies components.
We plan to pursue additional strategic alliances with other systems integrators
for the delivery and joint marketing of the SSP Solution Suite to end users in
the data security market.

The Acquisition

On August 24, 2001, pursuant to an Agreement and Plan of Reorganization
dated July 3, 2001 with BIZ Interactive Zone, Inc.,
(BIZ), we
completed an acquisition whereby BIZ
became our wholly-owned subsidiary (the Acquisition). BIZ was a development stage enterprise
devoting substantially all of its efforts to develop and design security
solutions for the financial, government, healthcare, education, and
entertainment industries. Simultaneously with the Acquisition, we changed our name
from Litronic Inc. to SSP Solutions, Inc. We have combined the businesses of
Litronic and BIZ into a single operating unit under the new name. The combined
company continues to focus on a complete range of security solutions for
government and commercial customers.

Our
wholly-owned subsidiary, Pulsar Data Systems, Inc., (Pulsar), operates independently as a network
solutions company specializing in solutions requiring the deployment of
large-scale networks and secure PCs. Given increased public awareness and the
increasing demand for security in the government sector, Pulsar can deliver
commodity type products coupled with security solutions to meet the
requirements of its government customers.

Industry Background

Consumers, businesses and government agencies are increasingly relying on
the Internet and IP-based networks to conduct electronic commerce and
communications. The increasing proliferation of, and reliance on, shared
electronic data has caused data security to become a paramount concern of
businesses, government agencies, financial and educational institutions,
healthcare providers and consumers. Continued expansion of electronic commerce
and communication will require the implementation of improved security measures
that will irrefutably verify the identity of a party over the communication
channel and ensure that the confidentiality of the information being
transmitted is maintained. The SSP Solution Suite provides a comprehensive
solution for entities and consumers seeking to provide protection for their
transactions and proprietary data.

Todays client operating systems and IP-based networks often lack
fundamental, yet critical, security features such as data privacy and
integrity, identification, authentication, non-repudiation and auditing.

End-to-end data security concerns can be addressed by a variety of means.
Traditionally, enterprises relied heavily on passwords to restrict access to
proprietary information and materials. However, because of the risk of loss or
theft, more advanced protective measures have been developed to include
combinations of passwords and tokens

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with message encryption and biometric devices. Regardless of the form of
the data security device, the level of security provided is evaluated based on
a set of fundamental principles, which include the following:



| |  |  | Identification and Authentication.Verifies the
identity of the authorized users to prevent unauthorized
access to proprietary information and resources.                                                                        
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Confidentiality.Involves the encryption of data
transmissions so only the intended recipient can access the
information to ensure privacy.                                                                                      
|
| |  |  | Data Integrity. Ensures that data is not
compromised or manipulated.                                                                                                                                                            
|
| |  |  | Non-repudiation. Prevents the sender of data
transmissions from disclaiming or repudiating authorship so
that the sender cannot deny the occurrence of the transaction.                                                         
|
| |  |  | Audit Control. Retraces information access and
facilities use over a particular time period at a system
administration level so an enterprise can monitor and record
authorized and unauthorized user activity.                 
|
| |  |  | Secured System Administration. Maintains and
controls corporate intranets centrally through file
encryption, password maintenance, audit control, certificate
and cryptographic key management and device accessibility
control.

The process of implementing Internet and IP-based network solutions
requires specialized skills lacking in most corporate information technology
departments. We provide the technology, products and services necessary for
most companies to implement or manage their data security infrastructure. We
believe that our products offer the highest level of commercially available
security for e-mail, file transport, file protection, remote access,
authentication and authorization in an open multi-platform standards-based
framework. The open architecture of our products makes them compatible with
virtually all commonly used network hardware and enables them to operate
independently of algorithms, platforms, applications and tokens. We believe
that, as the use of the Internet and Internet-based networks continues to grow,
there will be a significant increase in the demand for the data security
products that we offer.

Our Solution

SSP products and solutions are positioned to address the full range of
data security problems. The open architecture and platform independence of our
designs allow our products to operate with virtually any operating system regardless of the
choice of hardware, token (smart cards, PKI cards, PCMCIA cards) or algorithm.
In addition to providing a complete range of hardware and software products for
enterprise-wide data security, we also provide the software that enables the
enterprise to organize and manage its data security system, from initialization
to secure archive and recovery. We continuously identify technologies that will
enhance and improve our products. We expect to add these technologies to the
SSP product range and the SSP Solution Suite periodically through internal
development and licenses with third parties.

A key issue for companies opening their networks to partners, suppliers
and customers is the exposure and vulnerability to numerous security risks
including attacks from hackers and unauthorized access to trade secrets,
corporate confidential information and customer confidential information. As
more businesses, government agencies and financial institutions enable their
operations with Internet access, the need for end-to-end security solutions
becomes necessary. Both companies and customers must be confident and certain
that their online transactions are secure. We believe this need will fuel the
demand for our products and services to provide security for the distribution
of digital content, communications, and the protection of individual users
privacy.

Our data security offerings are illustrated by the following examples:

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Case 1: PKI Products



| |  |  | Key Management Infrastructure or
(KMI), is the U.S.
Department of Defenses (DoD) comprehensive communications program,
designed to provide a secure infrastructure for both physical and
virtual environments. KMI is designed to be deployed across a broad
range of applications, including financial transactions, e-commerce,
healthcare, personnel records, tactical operations, and command and
control functions. The DoD needs to secure its own internal electronic communications
activities, as well as across federal agencies,
allies and coalition forces, military and civilian personnel, and
business partners in the U.S. and abroad.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |   |  | KMI elements include system hardware and software architecture,
cryptographic tokens and cards, and the management elements of
policies and procedures for issuing and managing the cryptographic
keys and cards. PKI is a major constituent
of the program.                                                                                                                                                                                                                                                                                                                                                                                                

Case 2: Integration Consultants



| |  |  | For a business supplier selling inventory to a customer, EDS
will be able to provide the supplier with the capability of
verifying the identity of the customer, authorizing the customer to
place the order, and (if applicable, according to the terms of the
customers account), receiving payment for goods shipped. The
transaction will take place through the Trust Assurance Network, or
TAN, operated by EDS as the neutral party for registration of
EMBASSY (EMBedded Application Security System) devices. Registration
of EMBASSY devices with the TAN will establish the identities of the
parties, verify ability to pay prior to shipment, and process
payments according to the instruction of the supplier upon product
delivery. SSP and EDS will both earn commissions from the
transaction processing and will have the potential to earn revenue
from applet development and content preparation work.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Case 3: Financial Services



| |  |  | Currently, on-line banking and trading is limited to simple
consumer activity. Large institutions rely on closed, legacy-based
systems due to the lack of security and user authentication. This
security is vital for conducting large real-time financial
transactions. SSP has partnered with ePayLatina, developers of the
enhanced transactional secure software (ETSS) software, to deploy
smart cards and smart card readers throughout the Dominican Republic
and parts of Latin America. The Company anticipates that this bundled package will allow
consumers to conduct ATM and debit transactions, as well as
traditional credit card transactions, over the Internet. The initial
deployment agreement by ePayLatina involves La Nacional de Envios,
the leading public payment system in the Dominican Republic,
purchasing 1,500 secure card readers. SSP will receive revenue from
the product sale, as well as a transactional revenue fee from each
transaction that takes place. Our solution will enable open platform
recurring revenue streams and seamless integration with both
businesses and consumers. SSP smart card readers can be used to
facilitate all types of secure transactions, including direct
movement of funds (true electronic funds transfer), for shopping,
on-line payments, on-line trading, mortgage banking and insurance.
SSP will participate in the revenue sharing model and receives a
percentage of each transaction. Similar programs will be in development
for North America and Europe.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Our data security products are designed with an open architecture making
them compatible with virtually all commonly used network hardware and enabling
them to operate independently of algorithms, platforms, applications, or
tokens. Due to our open architecture design, users will be able to either purchase a
complete data security solution or integrate specific components with their
existing security systems and implement additional components as their needs
evolve. Our SSP Solution Suite will offer the highest level of commercially
available data security, a complete, end-to-end range of data security products
with what we believe is the highest level of commercially available data
security.

Business Strategy

Our objective is to become the leading provider of data security solutions
for the digital economy. Key elements of our strategy include:

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| |  |  | Expand Our Targeted Customer Base.SSP has
experienced a significant level of governmental sales and has
achieved technological credibility. We intend to develop a
strong sales and marketing force initially targeting government
requirements, enterprise secure access, on-line gaming applications
and financial institutions. We intend to build a strong customer
base for the SSP Solution Suite and our stand-alone components in
both the commercial and government sales markets.                                                                                                                                                                                                    
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Strengthen Strategic Relationship with EDS and Develop
Relationships with Other Systems Integrators.Systems integrators
design, compile, install, and manage electronic communication and
electronic commerce systems, using their own components and those of
third parties. Our products will enable systems integrators to create
value added solutions for their customers. We believe that strategic
relationships with large systems integrators represent our greatest
opportunity to penetrate the data security market and provide the
security components for large installations. We intend to
aggressively pursue and develop similar relationships with other
systems integrators.
|
| |  |  | Promote Sales of Stand-Alone Components.SSPs open standards
will enable the various SSP products to be sold as components. For
example, by connecting a smart card reader through a USB port, a PC
user can incorporate a secure device for accessing records, paying
for products, or securing the transmission of information. We intend
to leverage our installed base of customers through EDS and other
systems integrators and our brand name recognition to expand the
distribution of components through value added resellers and
hardware device manufacturers.                                                                                                                     
|
| |  |  | Establish a Brand Name. Establishing a strong brand name is
essential to attracting and expanding a broad and diverse customer
base in both the commercial and government markets. We intend to
build our brand by leveraging our relationships with well-known
systems integrators such as EDS and through joint marketing efforts
with such strategic partners. We will participate in major industry
trade shows, and advertising in both value-added reseller, or VAR,
channel-related trade periodicals and end-user focused commercial
periodicals. It is our goal to establish a brand name that is
equated with an assurance of security.                                              
|
| |  |  | Continue to Enhance the SSP Solution Suite.The SSP Solution
Suite will provide end-users with a comprehensive solution for their
data security needs. We continuously seek to identify new components
or technologies to add to the SSP Solution Suite, including, for
example, biometric identification technologies. As we identify
appropriate technologies, we will add new products to the SSP
Solution Suite. These additions will be made either through internal
development or through third party licenses.                                                                                                                                                                          

Sales and Marketing

SSP markets, sells and distributes both products and services via the
Internet, our direct sales force and indirect sales channels. Our channels
include systems integrators, VARs, original equipment manufacturers, strategic
alliances and international distributors. We intend to devote significant
resources to marketing efforts and business
development activities designed to build our brand name and expand our business
distribution channels.

Direct Marketing

As of April 5, 2002, we employed a direct sales, business development and
marketing force of 12 full-time individuals to market our data security
products and services. Our target audiences include: financial, healthcare,
education and entertainment industries and federal, state, local, and foreign
government agencies. Our sales force is responsible for soliciting prospective
customers and providing technical advice and support with respect to our
products and services. Additionally, we use telemarketing efforts to target
commercial accounts and federal government agencies. It is our intention to
achieve greater penetration into markets by using direct sales
personnel

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with significant market expertise. We will also be employing consultants
with established relationships in the commercial marketplace.

Indirect Marketing

An important component of our sales strategy is the development of
indirect sales channels. These channels include systems integrators,
value-added network service providers, and original equipment manufacturers. We
believe that in addition to the efforts of our direct sales force, a
significant portion of the marketing and distribution of our products will be
attributable to our strategic relationships with third parties and their
established distribution channels. These third parties may provide us with
contacts to prospective customers to which we would not otherwise have access.
As part of our expansion strategy, we will seek to develop relationships with
additional third-party sales channels. We intend to capitalize on and
strengthen our existing relationship with EDS and to pursue additional
strategic alliances with other systems integrators in order to promote our
products and establish a strong brand name.

Advertising

Our advertising efforts include a website, print advertising, public
relations, events, sales tools, telemarketing and corporate marketing
materials. Our website describes our business, products, and services.

Our public relations efforts are designed to target the appropriate press
coverage and consist of press kits, targeted media lists and press releases.
These efforts are designed to complement our sales and marketing efforts.

Trade Shows and Presentations

We attend and exhibit our products and services at selected trade shows
in the U.S. and around the world. We intend to continue attending selected
trade shows and to join with strategic partners in presenting our products and
services to prospective customers.

Distribution

To reach our potential customer base, we are pursuing several distribution
channels, including a direct sales force and strategic relationships with
systems integrators, VARs and other third parties.

Commercial Sales

We plan to distribute our products to the commercial market through our
direct sales force, through joint distribution arrangements with third parties,
such as EDS and other systems integrators, and through VARs.

Initially, we plan to focus on the distribution of our individual data
security components. By initiating sales relationships with the individual
components of the SSP Solutions Suite, we will be able to expand our sales
distribution to include the complete suite. We do not anticipate sales of our
SSP Solution Suite being delivered until 2003. The target markets for
distribution of our SSP Solution Suite products include the following:



| |  |  | financial services and banking                       
| | - |  | -----------------------------------------------------
|
| |  |  | government                                           
|
| |  |  | entertainment hospitality programs and on-line gaming

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Government Sales

We distribute our data security products to the government through our
direct sales force and also through third party private contractors such as General Dynamics.

The government information technology market is highly structured with
strict procurement rules and procedures. Government projects have large
contracts, a relatively long sales cycle, significant barriers to entry, and
low collection risks. SSP is currently on most government bid lists relevant to
our product offerings. Our products have received the highest level of
government certification. As a result, we have created a highly respected and
positive relationship with many government agencies.

The
General Services Administration, (GSA), the central procurement agency for the U.S. government,
negotiates schedule contracts. Government agencies and other authorized
purchasers, although not required to do so, may purchase goods and professional
services under GSA schedule contracts using predetermined price ceilings,
terms, and conditions. GSA schedule contracts are awarded on the basis of a
number of factors, the most important of which are compliance with applicable
government regulations and the prices of the products to be sold. A blanket
purchase agreement, or BPA, is a simplified, but non-mandatory, fixed-price,
indefinite delivery-indefinite quantity, contract for the government to
purchase products, at pre-negotiated terms and conditions. Purchases made under
BPAs are often paid using a government-issued credit card. Federal government
agencies are authorized to enter into BPAs with GSA schedule holders. The
GSA-authorized BPAs incorporate many terms and conditions of GSA schedule
contracts, often at lower prices than available on the GSA schedules.

A significant amount of computer products and services purchased by the
federal government are made under contracts or purchase orders awarded through
formal competitive bids and negotiated procurements. Most bids are awarded
based on a number of factors that determine the best value to the government.
These factors are generally a combination of price, technical expertise, and
past performance on other government contracts. Major procurements can exceed
millions of dollars in total revenue for a reseller, span many years, and
provide a purchasing vehicle for many agencies. In addition, the federal
government purchases networking products through open-market procurements.
These procurements, separate and apart from GSA schedules, include simplified
acquisition procedures, requests for quotes, invitations for bids, and requests
for proposals. Most purchases in the state and local government market are made
through individual competitive procurements. State and local procurements
typically require formal responses and the posting of bid bonds or performance
bonds to ensure complete and proper service by a prospective bidder. Each state
maintains a separate code of procurement regulations. Entities selling products
to the state must understand and comply with these regulations.

Customers

Our customers represent a wide range of commercial enterprises, including
financial, telecommunications, healthcare and information service companies, as
well as federal, state, local and foreign government agencies.

Our customer base includes:

| |  |                                         
| |  | ----------------------------------------
| |  | Bank of America, N.A.                   
| |  | Booz Allen & Hamilton Inc.              
| |  | Department of Budget and Fiscal Planning
| |  | Defense Finance and Accounting Service  
| |  | EDS                                     
| |  | EEOC Financial Management Division      
| |  | Federal Bureau of Investigation         
| |  | General Services Administration         

8



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| |  |                                       
| |  | --------------------------------------
| |  | Immigration and Naturalization Service
| |  | Leads                                 
| |  | Lockheed Martin Corporation           
| |  | National Institute of Health          
| |  | National Security Agency              
| |  | U.S. Army Corps of Engineers          
| |  | U.S. Border Patrol                    
| |  | U.S. Department of Justice            
| |  | U.S. Patent and Trademark Office      
| |  | U.S. Department of State              
| |  | U.S. Probation Office                 
| |  | VeriSign                              

Customer Service and Support

As of April 5, 2002, our customer service and support staff consists of 71
persons, including 58 engineers and technical support personnel, and works
closely with customers and prospective customers to provide comprehensive
service and support for our products and systems.

Products and Services

Internet Data Security Products

Our Internet data security products provide what we believe is the highest
level of commercially available security for secure email, secure file
transport, file protection, remote access, authentication and authorization in
an open multi-platform standards-based framework. Our data security products
are designed with an open architecture so they can operate independently of
algorithms, platforms, applications and tokens.

Software



| |  |  | NetSign® CAC (Common Access Card).NetSign® CAC is a complete
smart card client package that provides network security and desktop
protection for users of the GSA Common Access Card (CAC). With a
NetSign® CAC-enabled system, users can be assured of strong
authentication, confidentiality and non-repudiation at speeds of up
to three times faster than competitors products. NetSign® CAC is a
complete smart card client package that provides network security
and desktop protection for users of the GSA CAC. With a NetSign®
CAC-enabled system, users can be assured of strong authentication,
confidentiality and non-repudiation at speeds substantially faster
than competitors products. NetSign® CAC allows users to digitally
sign and encrypt e-mail and access secure Web sites using via
Microsoft and Netscape e-mail and browser packages. Supported by
Windows NT smart card logon, Windows 2000 certificate-based logon
and workstation locking using CAC smart cards issued by the DoD, NetSign® CAC offers a high level of desktop
security. We have collaborated with prime contractors to provide
bids on these programs.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |   | 
| | - | 
| |  | 

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| |  |  | Profile Manager and Profile Manager GT.Profile Manager is a
complete PKI lifecycle management solution. Profile Manager provides
token-based security systems management from initialization to
secure archive and recovery. For the recovery of token-based
information, Profile Manager provides an optional integration with a
secured database of private keys and other user identification
information, and the use of third-party certificate authorities.
Profile Manager integrates with NetSign, NetSign GT, and other
token-enabled products to provide a complete solution for a
companys security requirements. Profile Manager includes secure
Internet access, digitally signed and encrypted e-mail, desktop file
encryption and secure remote network access. Profile Manager GT
supports the Identrus bank security model and NetSign GT.                                         
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Maestro Cryptographic Library.Maestro is a multi-protocol
cryptographic library that enables software developers to
incorporate secure token-based, symmetric-key and asymmetric-key
cryptography into their application software. Maestro is a
multi/concurrent access, cross-platform system that supports
multiple types of tokens such as smart cards, PCMCIA cards and
cryptographic algorithms. Coupled with token reader/writers, Maestro
supports devices over commonly used interfaces, including keyboard,
serial, small computer system interface, or SCSI, parallel port and
universal serial bus. Maestro currently supports two commonly used
cryptographic interface protocols. We are developing additional
protocol adapters to expand the functionality of Maestro. Maestro is
compatible with Windows 95, 98, 2000 and NT operating systems as
well as all popular UNIX platforms.
|
| |  |  | EMBASSY Applet Development Kit.The EMBASSY Applet
Development Kit, or ADK, will enable a user to develop applications to
use the resources of the EMBASSY system. A content provider will use
the ADK to write an interface between the application and the
EMBASSY device to enable execution in a secure environment.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|
| |  |  | Authentication Applet.The authentication applet will contain
instructions for access control, group membership and community
support. The applet will register the users EMBASSY device within the
trust assurance network, which is the neutral third party facilitator for secure
transactions and value exchanges.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               

Tokens and Token Readers



| |  |  | SSP USA Smart Card Family.SSP has completed the development of
next generation PKI cards in cooperation with Atmel and the National
Security Agency. Forté, the newest member of the USA family, is a
high-speed 32-bit SOC (System On a Chip) microprocessor that is
designed with a high-speed USB interface in addition to the
International Standards Organization ("ISO"), interface. The USA
smart cards will have a larger storage capacity and faster
processing speed than existing smart cards. Forté offers PCMCIA
level performance at a price competitive with PKI smart cards. We
anticipate commercial shipments of the Forté smart card to begin in 2002.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Other Security Tokens.In addition to the USA family of smart
cards, we offer off-the-shelf ISO standard smart cards ranging from
storage-only cards to cards containing cryptographic capabilities.
Because our products are open-architecture, open-platform and
open-token, as well as algorithm and application program interface
(API) independent, they work with
third-party tokens, such as PCMCIA cards, smart cards, rings,
proximity cards and plastic keys and other commercially available
tokens for use with our reader/writers and application software.                                                                                                
|
| |  |  | SSP 210 Smart Card Reader.The SSP NetSignia 210 Smart Card
Reader is an ISO 7816 compliant device featuring direct
communication between the host computer and the smart card.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|
| |  |  | SSP 250 Biometric Smart Card Reader.The SSP 250 Biometric
Smart Card Reader integrates fingerprint biometrics to secure data
transmissions, protect communications and transaction, and proof of
identity in networked and physical environments. With its embedded
fingerprint verification system, the SSP 250 represents a
significant advance in digital security, bringing the same level of
protection, authentication and non-repudiation to virtual
transactions. The SSP 250 also enables strong levels of                                                                                                                                                      

10



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| |   |  | physical access and verification of identity  promising powerful
security for employee verification, funds transfer, encrypted
communications and granting of physical and electronic access to
personal records, documents or transactions.                                                                                                                                                                                                                                                                                                                                                                                            
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | ARGUS 300.The ARGUS 300 consists of a tamper-resistant ISA
or PCI board and external reader/writer and is connected to the
keyboard. The ARGUS 300 incorporates DES (Data Encryption Standard)
encryption technologies and offers additional security features such
as boot protection, electronic commerce security and protected PIN
path directly through the board rather than through an external
device that might be tampered with by an unauthorized user. The
ARGUS 300 is validated for electronic signature by the National
Institute of Standards and Technology, the U.S. Treasury Department
and General Accounting Office.
|
| |  |  | PCMCIA Client Reader/Writer.We offer a series of single and
dual-socket PCMCIA card reader/writers for both internal and
external application, that interface via various ports such as SCSI,
ISA bus, PCI bus, universal serial bus and parallel port. These
reader/writers incorporate our proprietary device drivers, which
provide the interface between the reader/writer and its application
software such as Maestro and third-party application software.                                                                                                                                                                        
|
| |  |  | Argus 2108.We offer a reader/writer that contains sockets
for up to eight PCMCIA cards, is used on the enterprises server
side and incorporates the device drivers and other technologies of
our other PCMCIA readers. The Argus 2108 interfaces with the host
server to enable the host server to provide rapid/simultaneous
processing of cryptographic functions received from numerous
clients.                                                                                                                                                                                                                                     

Hardware



| |  |  | G-Server.The G-Server is a transparent, dedicated server
that continuously monitors and verifies web content as it leaves a
web server. Content being sent out of a protected web server is
compared to the digital signatures of the content. When the
signature is validated, the content is sent on with a 2ms delay. If
the signature does not match, a cached copy of the content is sent
to ensure that the user receives only the intended content. The
device also alerts administrators if an intrusion is in process. We
are a re-seller of this product.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | EMBASSY Chip and Hardware Development Kit.EMBASSY is the
basis of a trusted client architecture. The EMBASSY chip provides
the secure execution environment from within which applets are
executed. The chips will be embedded into manufactured edge devices
and attached to legacy systems.                                                                                                                                                                                                                                                                      
|
| |  |  | SSP XBoard.SSP has
developed a server accelerator, formerly called the Cipherserver, designed
to maximize the performance of secure web servers by eliminating the
processor bottlenecks incurred by SSL. The XBoard off-loads the
public key functions to on-board processors, frees up CPU resources,
and provides almost instant responses to the customer.                                                                                                                                                                                                     

Services



| |  |  | Trust Assurance Network.The Trust Assurance Network (TAN) is a
secure hardened network of servers, application developers, and
certifying agents that authorize, validate, and authenticate EMBASSY
devices, applications and each other. Features include: EMBASSY
device registration and synchronization, applet publishing,
certification, installation, revocation, upgrades, inventory and
personalization. The TAN serves as the neutral third party for
transactions between providers and users.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|

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|
|
|

Suppliers

Some of the components incorporated into our Internet data security
products are produced by third party vendors. We also integrate third-party
products and components into the networks we design and develop for our
customers. To maintain quality control and enhance working relationships, we
generally rely on multiple vendors for these products. However, in
some cases, products or services are procured from single sources.

Strategic Alliances

We plan to increase our vertical market penetration and enhance our
product line by continuing to develop strategic alliances with other companies
in the data security and network integration industries. We have developed
strategic alliances with companies in an effort to:



| |  |  | Incorporate SSP products into third party products;                     
| | - |  | ------------------------------------------------------------------------
|
| |  |  | Develop additional products and services;                               
|
| |  |  | Increase research and development efforts;                              
|
| |  |  | Generate more proposals and presentations for products and services; and
|
| |  |  | License technology.                                                     

We intend to pursue and develop strategic alliances with systems
integrators for the marketing, sale, and distribution of our products in the
data security market. We currently have a strategic relationship with EDS, one
of the leading systems integrators, to provide us with an installed base of
customers for our products.

Strategic alliances assist in expanding our marketing and technical
capabilities. They are intended to increase the distribution and market
acceptance of our data security products and the SSP Solution Suite.

Strategic alliances are expected to allow us to integrate third-party
products into our product offerings in a cost effective manner and provide our
clients with customized information technology solutions. Strategic alliances
also allow us to incorporate our products into third parties products and
accelerating the adoption of our products into the market. This enhances and
helps to establish the SSP brand name. Our strategic alliances currently
include the following:



| |  |  | EDS  We have a strategic alliance agreement with EDS to
market and sell the SSP Solution Suite                                                                                                                                                              
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Netscape and Microsoft  We provide enhanced e-mail
security features to Netscape and Microsoft browser programs through
integration of our NetSign product lines                                                                                            
|
| |  |  | VeriSign  We have a marketing agreement with VeriSign and
act as VeriSigns recommended PKI card partner                                                                                                                                                    
|
| |  |  | Atmel and the National Security
Agency  We have an alliance
with Atmel Corporation and the National Security Agency. Through
this alliance, we jointly developed Forté, an advanced
32-bit SOC microprocessor, which will be embedded in our next generation

12



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| |   |  | PKI
cards. We signed a teaming agreement with Atmel
Corporation to further exploit the technologies incorporated in the
Forté product.        
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | RSA Data Security  We have a distribution license agreement
with RSA that allows us to incorporate RSA technology into our
products.         
|
| |  |  | Broadcom  We have licensed master reference designs of
certain Broadcom security chips for inclusion in our products.                        
|
| |  |  | FingerPrint Cards AB  We have a memorandum of understanding
to jointly develop products to combine fingerprint biometrics and
PKI technology.

Research and Development

We conduct extensive research and development efforts focusing on the
development of cryptographic PKI software and hardware products. These products
can be readily integrated and adapted to meet the expanding requirements of the
Internet, intranets and extranets. We expect to devote substantial research
and development resources to enhance our data security product line.

Our current research and development efforts include:



| |  |  | Enhancing the capabilities of Profile Manager to provide
certificate exchange capabilities with additional third-party
certificate authorities and increased capability for the PKI
enterprise manager;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Profile Manager and KMI development  As a core technology
provider under the contract awarded to General Dynamics C4
Systems KMI Team for the DoD, We will provide
smart card and digital certificate management software and
engineering services to implement the secure KMI, a significant element of the DoD long-term
roadmap for an in-depth information assurance strategy. We have a
long history of developing PKI
technology and open, interoperable security products for the
government sector. This contract, known as KMI CI-1, encompasses the
first capability increment of the DoD KMI, and includes the
development and fielding of a system for providing high-assurance
digital certificates to DoD and other government agency users for
critical online identification and authentication in electronic
commerce and data exchange. SSP Profile Manager, a comprehensive
smart card and digital certificate issuance and lifecycle management
application, will be used to satisfy certificate and token
management requirements, as the DoD high-grade digital certificates
have strict criteria for the distribution and use of certificates,
protection and recovery of keys, and stringent auditing
requirements.
|
| |  |  | Continuing development of Forté. With Forté being an advanced
security chip that will provide advanced security features, we
expect to be able to embed it in a variety of devices, including PC
mother boards;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|
| |  |  | Developing a series of USB interface reader/writers, some of
which include fingerprint biometric capability;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|
| |  |  | Developing technologies to incorporate a number of biometric
technologies (fingerprint, iris scan, voice recognition, handwriting
recognition) into our PKI products to provide further advanced
identification and authentication protection;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|
| |  |  | Expanding the security features of applications programs such
as NetSign, NetSign® CAC and NetSign GT; and                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  

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| |  |  | Expanding Maestro to offer additional application program
interfaces, including an interface to the GSA CAC protocol, porting of Maestro to a number of Unix operating system
platforms, and adding to the suite of tokens supported by Maestro.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|

During
the years ended December 31, 1999, 2000 and 2001, research and
development expenses were $3.9 million, $5.8 million and
$7.9
million, respectively.

Intellectual Property

We depend substantially on the proprietary information and technologies
that make our products unique. We rely on a combination of trademark, patent,
copyright and trade secret laws, employee and third-party non-disclosure
agreements, technical measures, and other methods to protect our software
products, proprietary technologies, and intellectual property. We also rely on
standardized license agreements. Since these license agreements are not signed
by the end user, they may not always be enforceable.

We currently have three patents issued by the U.S. Patent and Trademark
Office, one allowed patent application, and five patent applications pending
with the U.S. Patent and Trademark Office. All cover aspects of data security
technology. In addition, we have one foreign pending patent application.
Prosecution of these patent applications and any other patent applications that
we may subsequently determine to file may require the expenditure of
substantial resources. The issuance of a patent from the filing of a patent
application is a lengthy process.

Due to the rapid pace of technological innovation for network security
products, our ability to establish and maintain a position of technological
leadership is dependent more upon the skills of our development personnel than
upon the legal protections afforded our existing and future technology.

Because our products are designed with an open architecture and are
algorithm-independent, they can be utilized with a variety of encryption
algorithms. Some algorithms are in the public domain and can be incorporated
into our products at no charge. To the extent that a customer desires to
incorporate a proprietary algorithm into a security solution, the customer or
SSP must obtain a license (flat fee, per unit royalty, or combination of these)
from the algorithm owner.

We developed Forté under a task order issued under a contract with the
National Security Agency (NSA). The contract incorporates the standard licenses for
technical data and computer software from the DoD, commonly known as the data
rights clauses. Data rights clauses are only applicable to data or software
actually delivered to the federal government under a contract. If the data
rights clauses, specifically the government purpose rights license, is
applicable to our agreement with the NSA to develop Forté,
it would permit the federal government to create second sources of supply
without paying SSP any royalty. The government purpose license clause would not
authorize the federal government to create competitors in the commercial
market. We do not believe the data rights clauses generally, or the government
purpose license specifically, apply to Forté because our contract with the
NSA does not provide for the delivery of Forté to the
federal government. The task order does provide that the NSA will obtain detailed design information about Forté.

Competition

We compete in numerous markets, including:



| |  |  | Internet and intranet electronic security; 
| | - |  | -------------------------------------------
|
| |  |  | Access control and token authentication;   
|
| |  |  | Smart card-based security applications; and

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| |  |  | Electronic commerce applications.
| | - |  | ---------------------------------

The markets for our products and services are intensely competitive and
are characterized by rapidly changing technology and industry standards,
evolving user needs, and the frequent introduction of new products. We believe
that the principal factors affecting competition in our markets include:



| |  |  | Product functionality;           
| | - |  | ---------------------------------
|
| |  |  | Performance;                     
|
| |  |  | Flexibility and features;        
|
| |  |  | Use of open standards technology;
|
| |  |  | Quality of service and support;  
|
| |  |  | Reputation; and                  
|
| |  |  | Price.                           

We face significant competition from a number of different sources. Many
of our competitors are more established, benefit from greater name recognition,
and have substantially greater financial, technical, and marketing resources
than we have. Some of our significant data security competitors include IBM,
Motorola, Gem Plus, Network Associates, Secure Computing, RSA Data Security,
Activcard, Rainbow Technologies, nCipher, Sonic Wall, Check Point Software,
Andes Networks, Intel and Entrust.

In addition, there are several smaller and start-up companies with which
we compete from time to time. We also expect competition to increase because of
consolidation in the information security technology.

We believe that no one in the data security industry currently offers a
complete end-to-end solution. Others may begin offering a complete solution
similar to the SSP Solution Suite. We believe, however, that our existing
relationships and the relationships we intend to pursue with systems
integrators provide us with an important competitive advantage in the data
security industry.

Government Regulation

Because
we sell our products internationally as well as domestically, we
must comply with federal laws regulating the export and applicable foreign
government laws regulating the import of our products. The U.S. government has
recently relaxed the export restrictions for our NetSign and Profile Manager
products. However, the federal government may rescind these approvals at any
time. Under current regulations these products can be exported without a
license to most countries for use by banks, healthcare and insurance
organizations, and overseas subsidiaries of U.S. companies.

Additionally, we may apply for export approval, on a specific criteria
basis, for future products. Government export regulation for security products
is less stringent for products designed for banking and finance, e-commerce,
health, insurance, and for use by overseas subsidiaries of U.S. companies. It
is possible that we will not receive approval to export future products on a
timely basis, on the basis we request, or at all. As a result of government
regulation of our products, we may be at a disadvantage when competing for
international sales with foreign companies not subject to these restrictions.

15



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##### Table of Contents



Pulsar Product Reselling

Pulsar focuses primarily on the reseller market for the government
information technology segment, specializing in sales of computer and network
products with customized configurations. Examples of these computer and network
products include:



| |  |  | Network Hardware Components  Servers, routers, hubs, and
switches configured to the customers networking requirements.
| | - |  | ------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Client PC Systems  Desktop PC systems configured to
customers specific requirements.                                  

Pulsar offers components manufactured by leading vendors including:
Hewlett-Packard Company, International Business Machines Corp.,
Lucent Technologies, Inc., Dell Computers, Micron, Toshiba and Sun
MicroSystems, Inc. Pulsar competes primarily on the basis of price and quality
of service. Some of Pulsars competitors include: BTG Inc., InaCom
Corporation and Government Technology Services, Inc. Pulsar
employs 6 sales people who operate out of our Maryland office.

Employees

As of April 5, 2002, we employed 107 people, of which 104 were full-time
and 3 were part-time employees, including 58 in research, development and
support, 18 in field operations including sales, MIS and customer management,
and 23 in finance, human resources, business development, legal and
administration. In addition, we employed 8 people for our Pulsar operations.
Our employees are not represented by labor unions. We are currently
contemplating a reduction in force of approximately 20% in an effort to match the appropriate level of personnel resources with the demands
and level of business activity. However, we continuously evaluate our
staff and business requirements, and the precise amount of a
reduction in force, if any, is dependent on a number of factors,
including the level of financing we are able to obtain.

16



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Item 2.Properties

We are headquartered in Irvine, California where we currently lease
approximately 20,702 square feet of office space for our executive offices with
a lease expiring in February 2007. This facility has an annual rent
of $429,000
and a lease term of seven years. The facility is leased from KRDS, a related
party.
 We arranged for the
lease of two buildings approximating 63,000
square feet that were under construction. Our co-Chairman Mr. Shah, has a 25% ownership interest in the entity that owns
the two buildings. The leases have an aggregate monthly rental totaling
approximately $115,000, plus common area costs for seven years. On one building
totaling approximately 23,000 square feet, we sublet one half of the building on terms and
conditions matching the underlying lease. The sub-lease is with a related party
company owned by our Co-Chairman, Mr. Winkler. While that
company made a lease deposit, it has not made the
monthly rent payment and accordingly is currently delinquent on its rent
payments to us. We are in negotiations with the landlord
regarding being released from obligations under the lease for the second
building totaling 40,000 square feet. We intend to release the
sub-tenant and occupy the 23,000 square foot building based upon having raised
$5.0 million. In April 2002, we and KRDS entered into an agreement whereby upon
60 days notice, we or the landlord may cancel the remaining
term of the lease of the corporate headquarters with no liability to
us. We have not exercised the exit clause but anticipate moving into
one of the buildings in July 2002 and release our sub-tenant from the
rental commitment at that time. The net
results will be an increase in cost of approximately $7,000 per month. In
addition, Pulsars offices are located in a 12,700 square foot Lanham, Maryland
facility, which we use as office space for our executive offices and as
warehouse space, under a lease that expires in August 2003 with an annual rent
of $146,000.

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Item 3.Legal Proceedings

We are involved from time to time in routine litigation that arises in the
ordinary course of business. We are not currently involved in any litigation
that we believe will have a material impact on our results of operations,
financial condition or liquidity, including the following:

On January 16, 1998, G2 Resources Inc. (G2) filed a complaint against
Pulsar in the Circuit Court, Fifteenth Judicial Circuit, Palm Beach County,
Florida. G2 claims that Pulsar breached a contract under which G2 agreed to
provide services related to the monitoring of government contracts available
for bid and the preparation and submission of bids on behalf of Pulsar. The
contract provides that Pulsar pay G2 $500,000 in 30 monthly installments of
$16,666 and an additional fee of 2% of the gross dollar amount generated by
awards. In its complaint, G2 alleged that Pulsar failed to make payments under
the contract and claimed damages in excess of $525,000 plus interest, costs and
attorneys fees. In the course of discovery G2 asserted that its losses/costs
arising out of its claim amounted to approximately $10.3 million. Pulsar has
asserted that G2 failed to perform the services required under the contract and
Pulsar filed a claim for compensatory damages, interest and attorneys fees
against G2. Classical Financial Services, LLC intervened in the case. Classical
claims that G2 assigned its accounts receivable to Classical under a financing
program and that Pulsar breached its obligations to Classical by failing to
make payments under the contract with G2. Pulsar has asserted defenses to
Classicals claim. On
April 20, 2001, a court hearing was held and G2s complaint against Pulsar was
dismissed without prejudice on the basis of no prosecution activity for more
than 12 months. On May 22, 2001, G2 filed a new complaint against Pulsar. The
Company believes that the claims made by G2 and Classical against Pulsar are without merit
and intends to vigorously defend against these claims. If G2 or Classical were to prevail in this lawsuit, our
business and financial condition could be adversely affected.

During the second
quarter of 2001 Microsoft notified us regarding
the alleged sales
of unlicensed copies of Microsoft Office. The software in question was
purchased from a major computer hardware manufacturer and was resold to one of
our customers in a package that included both hardware and software. We are
currently investigating the matter, and do not anticipate that the outcome will
have a material impact on our results of operations, financial condition or
liquidity.

We were recently
served with a lawsuit filed by Dell Marketing, LLC pertaining to
overdue amounts owed for computer products purchased for re-sale
through Pulsar. The suit asserts claim for
payment of approximately $322,000, which we anticipate paying. We are in
negotiations with various vendors regarding term-out of our
obligations, but we cannot guarantee success of these negotiations. As
part of that process, vendors may take legal action to enforce their
claims.

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

No matters were
submitted to stockholders during the fourth quarter
of 2001.

We are preparing to
hold our 2002 annual meeting of stockholders at 10:00 a.m. on
June 27,
2002 at the Marriott Hotel,
located at
8000 Von Karman,
Irvine, California 92612. All holders of record of our
outstanding common stock as of May 8, 2002 will be entitled to vote at the annual meeting.

Our proxy statement
circulated to stockholders in connection with our 2001 annual meeting
provided that proposals by stockholders that are intended for
inclusion in the proxy statement and proxy to be presented at our
next annual meeting of stockholders must have been received by us by
March 27,
2002 in order to be considered for inclusion in our proxy materials.

As a result of the
earlier date established by our board of directors for our 2002
annual meeting, we hereby notify our stockholders that proposals by
stockholders that are intended for inclusion in its proxy statement
and proxy to be presented at the 2002 annual meeting should have been
received by us by March 27, 2002, as indicated in the proxy
statement circulated in connection with our 2001 annual meeting, in
order to have been considered for inclusion in our proxy materials.
No proposals received after that date will be included in the proxy
materials for our 2002 annual meeting. Additionally, for all other
proposals to be timely, a stockholders notice must be delivered
to, or mailed and received at, our principal executive offices no
later than May 1, 2002. If a stockholder fails to so notify us
of any such proposal prior to that date, our management will be
allowed to use their discretionary voting authority with respect to
proxies held by management when the proposal is raised at the annual
meeting (without any discussion of the matter in its proxy statement).

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PART II




Item 5.Market for
Registrants Common Equity and Related Shareholder Matters

Our common stock is listed on The Nasdaq National Market under the symbol
SSPX. The following table sets forth, for the quarters indicated, the high
and low closing sale prices per share of the common stock as reported on The
Nasdaq National Market. The prices shown represent quotations by dealers,
without retail markup, markdown or commissions and may not reflect actual
transactions.

On April 15, 2002, the last reported sale price for our common stock on
The Nasdaq National Market was
$2.1625. As of April 15, 2002, the approximate
number of holders of record of the common stock was 86. The Company has not
paid dividends and does not anticipate declaring dividends on its common stock
in the foreseeable future.

High and low prices for the last eight fiscal quarters are as follows:

|                                        |  |      |       |     |  |   |      | 
|--------------------------------------- |  | ---- | ----- | --- |  | - | ---- | 
|                                        |  | High |       | Low
|                                        |  |      |       |    
|Fiscal quarter ended June 30, 2000      |  | $    | 17.38 |     |  | $ | 6.69 | 
|Fiscal quarter ended September 30, 2000 |  | $    | 9.50  |     |  | $ | 2.94 | 
|Fiscal quarter ended December 31, 2000  |  | $    | 7.81  |     |  | $ | 2.34 | 
|Fiscal quarter ended March 31, 2001     |  | $    | 6.59  |     |  | $ | 2.50 | 
|Fiscal quarter ended June 30, 2001      |  | $    | 4.60  |     |  | $ | 2.46 | 
|Fiscal quarter ended September 30, 2001 |  | $    | 3.99  |     |  | $ | 2.01 | 
|Fiscal quarter ended December 31, 2001  |  | $    | 6.60  |     |  | $ | 3.44 | 
|Fiscal quarter ended March 31, 2002     |  | $    | 4.40  |     |  | $ | 2.31 | 

Sales of Registered Securities and Use of Proceeds. On June 9, 1999, our
Registration Statement on Form S-1 (333-72151), pertaining to our initial public
offering of 3,700,000 shares of our common stock, was declared effective by the
Securities and Exchange Commission. The lead underwriters in the offering were
Bluestone Capital Partners, L.P. and Pacific Crest Securities, Inc. The
offering commenced on June 9, 1999 and closed and terminated on June 12, 1999.

A total of 3,700,000
shares of common stock were sold by us under
the Registration Statement for an aggregate amount of $40.7 million (based upon
the offering price of $11.00 per share), before deduction of underwriting
discounts, commissions and other expenses.

On August 24,
2001, we completed the Aquisition in which
Litronic Merger Corp., a Delaware corporation and one of our wholly-owned
subsidiaries, which was merged with and into BIZ. BIZ survived the
Aquisition as our wholly-owned
subsidiary of our company. Upon consummation of the Aquisition, the
outstanding shares of BIZ common stock were automatically converted into an
aggregate of 10,875,128 shares of our common stock.

On December 18,
2001, we issued and sold to four individuals including our co-chairmen
and co-chief executive officer, subordinated convertible
promissory notes ("Notes") in the aggregate principal amount of $2.5
million. These notes
are convertible at the election of the holder, at any time, into the number of
shares of our common stock determined by dividing the outstanding
principal amount of the Notes being converted by the conversion price in effect
at that time. The initial conversion price provided for in the Notes is $3.60
per share and is subject to adjustment as provided for in the Notes.

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In addition, upon the closing of a qualified financing as defined in the
Notes, the then outstanding principal and any accrued and unpaid interest on
the Notes will automatically convert into such number of shares of the type
of equity securities sold in that qualified financing as is determined by
dividing the amount of principal and interest remaining on the Notes being
converted by the lesser of (a) the price at which the equity securities are
being sold in the qualified financing or (b) the conversion price provided in
the Notes being converted in effect at the time.

In issuing the securities described in the paragraphs above, we relied on
the exemption from registration under the Securities Act of 1933, as amended,
found under Rule 506 of Regulation D promulgated under the Act. The BIZ
stockholders who received shares of our common stock upon consummation of the
Aquisition and the purchasers of the Notes were all accredited investors as
defined in Rule 501(a) of Regulation D of the Act. There was no general
solicitation of general advertising by us or by any agent acting on our behalf,
in connection with either the offer or sale of the shares of our common stock
in the Aquisition or the Notes. In addition, in connection with the issuance
of the common stock in connection with the Aquisition and the Notes, we filed
with the Securities and Exchange Commission notices on Form D.

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Item 6.Selected Financial Data

The selected data presented below under the captions Selected Statements
of Operations Data and Selected Balance Sheet Data for, and as of the end
of each of the years in the five-year period ended December 31, 2001, are
derived from the consolidated financial statements of SSP Solutions, Inc. and
subsidiaries, which consolidated financial statements have been audited by KPMG
LLP, independent certified public accountants. The consolidated financial
statements as of December 31, 2001, and 2000, and for each of the years in the
three-year period ended December 31, 2001, and the report thereon, are included
elsewhere in this Annual Report on Form 10K.

Selected Statements of Operations Data:

|                                                                        |  |                                                |                |   |                                                 |        |           |   |         |       |           |   |         |        |           |   |        |        |            |   |        |        | 
|----------------------------------------------------------------------- |  | ---------------------------------------------- | -------------- | - | ----------------------------------------------- | ------ | --------- | - | ------- | ----- | --------- | - | ------- | ------ | --------- | - | ------ | ------ | ---------- | - | ------ | ------ | 
|                                                                        |  |                                                |                |   | Years Ended December 31,                       
|                                                                        |  |                                                |                |   |                                                
|                                                                        |  |                                                |                |   | 1997                                            |        | 1998      |   | 1999(1) |       | 2000      |   | 2001(2)
|                                                                        |  |                                                |                |   |                                                 |        |           |   |         |       |           |   |        
|                                                                        |  |                                                |                |   | (In
thousands, except share and per share data)
|Revenues:                                                               |  |                                                |                |   |                                                 |        |           |   |         |       |           |   |         |        |           |   |        |        |            |  
|                                                                        |  | Product                                        |                | $ | 8,627                                           |        |           | $ | 5,214   |       |           | $ | 29,587  |        |           | $ | 37,421 |        |            | $ | 21,145 |       
|                                                                        |  | License and service                            |                |   | 1,539                                           |        |           |   | 1,041   |       |           |   | 1,270   |        |           |   | 1,935  |        |            |   | 1,575  |       
|                                                                        |  | Research and development                       |                |   |                                                |        |           |   | 398     |       |           |   | 798     |        |           |   |       |        |            |   |       |       
|                                                                        |  |                                                |                |   |                                                 |        |           |   |         |       |           |   |         |        |           |   |        |        |            |  
|                                                                        |  |                                                | Total revenues |   |                                                 | 10,166 |           |   |         | 6,653 |           |   |         | 31,655 |           |   |        | 39,356 |            |   |        | 22,720 | 
|                                                                        |  |                                                |                |   |                                                 |        |           |   |         |       |           |   |         |        |           |   |        |        |            |  
|Costs and expenses:                                                     |  |                                                |                |   |                                                 |        |           |   |         |       |           |   |         |        |           |   |        |        |            |  
|                                                                        |  | Cost of sales product                         |                |   | 3,211                                           |        |           |   | 2,821   |       |           |   | 25,478  |        |           |   | 30,481 |        |            |   | 17,457 |       
|                                                                        |  | Cost of sales license and
service             |                |   | 643                                             |        |           |   | 950     |       |           |   | 590     |        |           |   | 679    |        |            |   | 537    |       
|                                                                        |  | Selling, general, and
administrative           |                |   | 3,487                                           |        |           |   | 2,631   |       |           |   | 7,194   |        |           |   | 9,559  |        |            |   | 10,645 |       
|                                                                        |  | Research and development                       |                |   | 1,172                                           |        |           |   | 1,334   |       |           |   | 3,906   |        |           |   | 5,800  |        |            |   | 7,850  |       
|                                                                        |  | Impairment of goodwill and
other intangibles   |                |   |                                                |        |           |   |        |       |           |   |        |        |           |   | 31,415 |        |            |   | 36,299 |       
|                                                                        |  | Amortization of goodwill
and other intangibles |                |   |                                                |        |           |   |        |       |           |   | 1,448   |        |           |   | 2,828  |        |            |   | 746    |       
|                                                                        |  | In-process research and
development            |                |   |                                                |        |           |   |        |       |           |   |        |        |           |   |       |        |            |   | 1,600  |       
|                                                                        |  |                                                |                |   |                                                 |        |           |   |         |       |           |   |         |        |           |   |        |        |            |  
|Operating income (loss)                                                 |  |                                                | 1,653          |   |                                                 |        | (1,083    | ) |         |       | (6,961    | ) |         |        | (41,406   | ) |        |        | (52,414    | )
|Other (income) expense, net                                             |  |                                                | 42             |   |                                                 |        | 418       |   |         |       | 168       |   |         |        | (7        | ) |        |        | 693        |  
|                                                                        |  |                                                |                |   |                                                 |        |           |   |         |       |           |   |         |        |           |   |        |        |            |  
|Earnings (loss) from continuing
operations before income taxes          |  |                                                | 1,611          |   |                                                 |        | (1,501    | ) |         |       | (7,129    | ) |         |        | (41,399   | ) |        |        | (53,107    | )
|Provision for (benefit from)
income taxes                               |  |                                                | 22             |   |                                                 |        | (95       | ) |         |       | (43       | ) |         |        | 6         |   |        |        | 53         |  
|                                                                        |  |                                                |                |   |                                                 |        |           |   |         |       |           |   |         |        |           |   |        |        |            |  
|Earning (loss) from continuing
operations                               |  | $                                              | 1,589          |   |                                                 | $      | (1,406    | ) |         | $     | (7,086    | ) |         | $      | (41,405   | ) |        | $      | (53,160    | )
|                                                                        |  |                                                |                |   |                                                 |        |           |   |         |       |           |   |         |        |           |   |        |        |            |  
|Net earnings (loss)                                                     |  | $                                              | 15,334         |   |                                                 | $      | (1,406    | ) |         | $     | (7,086    | ) |         | $      | (41,405   | ) |        | $      | (53,160    | )
|                                                                        |  |                                                |                |   |                                                 |        |           |   |         |       |           |   |         |        |           |   |        |        |            |  
|Earnings (loss) from continuing
Operations per share: basic
and diluted |  | $                                              | .41            |   |                                                 | $      | (.36      | ) |         | $     | (1.00     | ) |         | $      | (4.20     | ) |        | $      | (3.91      | )
|                                                                        |  |                                                |                |   |                                                 |        |           |   |         |       |           |   |         |        |           |   |        |        |            |  
|Net earnings (loss) per share: basic and diluted                        |  | $                                              | 3.96           |   |                                                 | $      | (.36      | ) |         | $     | (1.00     | ) |         | $      | (4.20     | ) |        | $      | (3.91      | )
|                                                                        |  |                                                |                |   |                                                 |        |           |   |         |       |           |   |         |        |           |   |        |        |            |  
|Shares used in per share
computations: basic and diluted                |  |                                                | 3,870,693      |   |                                                 |        | 3,870,693 |   |         |       | 7,055,882 |   |         |        | 9,862,472 |   |        |        | 13,585,202 |  
|                                                                        |  |                                                |                |   |                                                 |        |           |   |         |       |           |   |         |        |           |   |        |        |            |  



---

|(1) |  | On June 14, 1999, we completed the acquisition of Pulsar. All outstanding shares of Pulsar were exchanged for
2,169,938 shares of our common stock. The acquisition was accounted
for using the purchase method of accounting, and accordingly, the results
of operations of Pulsar have been included in our consolidated financial
statements from June 14, 1999. We have determined that the
integration of Pulsar will not be completed as planned. Based on the
results of an independent valuation, we recorded an impairment charge
of $31.4 million related to unamortized intangible assets
acquired in connection with our acquisition of Pulsar.
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(2) |  | On August 24, 2001, we
completed the acquisition of BIZ. All outstanding
shares of BIZ were exchange for 10,875,128 shares of our common
stock. The acquisition was accounted for using the purchase method of
accounting, and accordingly, the results of operations of BIZ have
been included in our consolidated financial statements from
August 24, 2001. We have determined that the other intangible assets
and a portion of the goodwill related to the acquisition of BIZ would
not be realized. As a result, we analyzed the recoverablility of the
other intangibles and goodwill relating to the acquisition of BIZ.
Based on the results of our analysis, we recorded an impairment
charge of $27.8 million.
|--- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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Selected Balance Sheet Data:

|                                          |                |              |        |      |  |      |        |      |  |      |        |  |  |   |        |  |  |   |        |  
|----------------------------------------- | -------------- | ------------ | ------ | ---- |  | ---- | ------ | ---- |  | ---- | ------ |  |  | - | ------ |  |  | - | ------ | -
|                                          |                | December 31,
|                                          |                |             
|                                          |                | 1997         |        | 1998 |  | 1999 |        | 2000 |  | 2001
|                                          |                |              |        |      |  |      |        |      |  |     
|                                          | (In Thousands)
|Cash and cash equivalents                 |                | $            | 490    |      |  | $    | 898    |      |  | $    | 6,441  |  |  | $ | 4,120  |  |  | $ | 3,257  |  
|Working
capital (deficit)                 |                |              | 385    |      |  |      | 758    |      |  |      | 12,592 |  |  |   | 4,858  |  |  |   | (5,779 | )
|Total assets                              |                |              | 2,347  |      |  |      | 2,791  |      |  |      | 51,104 |  |  |   | 11,768 |  |  |   | 37,423 |  
|Current installments of long-term debt    |                |              |       |      |  |      | 580    |      |  |      | 481    |  |  |   | 1,986  |  |  |   | 1,695  |  
|Long-term debt, less current installments |                |              | 3,506  |      |  |      | 5,200  |      |  |      |       |  |  |   | 19     |  |  |   | 2,500  |  
|Total liabilities                         |                |              | 5,148  |      |  |      | 6,998  |      |  |      | 3,171  |  |  |   | 5,220  |  |  |   | 19,845 |  
|Total
shareholders equity (deficit)      |                |              | (2,801 | )    |  |      | (4,207 | )    |  |      | 47,933 |  |  |   | 6,548  |  |  |   | 17,578 |  

During the year ended December 31, 1997, Litronic paid a cash dividend of
$9.5 million to its stockholders. No other dividends have been paid during the
periods presented. Our loan agreements restrict our ability to pay cash
dividends.

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Item 7.Managements Discussion and Analysis of Financial Condition and
Results of Operations

General

We provide professional Internet data security services and develop and
market software and microprocessor-based products needed to secure electronic
commerce and communications over the Internet and other communications networks
based on Internet protocols. Our primary technology offerings use PKI, which is
the standard technology for securing Internet-based commerce and
communications. In addition, Pulsar, a wholly owned subsidiary, is an
established computer and networking product reseller that focuses on resales to
government agencies, large corporate accounts and state and local governments.
We acquired Pulsar in June 1999 in exchange for 2,169,938 shares of our common
stock.

Before 1990, we were solely a provider of electronic interconnect products
to government and commercial entities. In 1990, we formed our data security
division, which is the basis of our operations today. The data security
division was engaged primarily in research and development until 1993 when it
began to generate meaningful revenue. In September 1997, we sold our Intercon
division, which consisted of the assets relating to our interconnect
operations, for cash to Allied Signal Inc., an unrelated, publicly traded
company.

Results of Operations  Comparison of Years Ended December 31, 1999, 2000 and
2001

We acquired Pulsar in June 1999, and our results of operations for the
fiscal year ended December 31, 1999, include the results of Pulsars operations
since June 14, 1999. In August 2001, we acquired BIZ and our results of
operations for the fiscal year ended December 31, 2001, include the results of
BIZs operations since August 25, 2001. Therefore, revenue and expenses are
not comparable from period to period.

Total Revenue. Total revenue increased 24% from $31.7 million during the
year ended December 31, 1999 to $39.4 million during the year ended December
31, 2000 and decreased 42% from $39.4 million during 2000 to $22.7 million
during the year ended December 31, 2001. The increase from 1999 to 2000
consisted of a $5.5 million increase in network solutions market revenue
primarily attributable to a full year of sales in 2000 as compared to a partial
year in 1999, a $3.0 million increase in data security products and
services revenue primarily attributable to an increase in sales
of existing
data security products and services, and a $798,000 decrease in research
and development revenue attributable to the completion in 1999 of the contract
that was responsible for generating research and development revenue. The
decrease from 2000 to 2001 consisted of an $822,000 increase in data
security products and services revenue primarily attributable to an increase in
sales volume of existing data security products and services, and a $17.5 million
decrease in network solutions market revenue primarily attributable to our
inability to accept and fulfill a large number of customer orders due
to reduced accounts receivable financing availability and as our
primary vendors being unwilling to sell additional product to us on open account
because of significant past due amounts for goods we had previously purchased
from them.

During 1999, 31% and 12% of revenue was generated from sales to the United
States Immigration and Naturalization Service and the United States Department
of State, respectively. During 2000, 42% of revenue was generated from sales to
the United States Immigration and Naturalization Service. During 2001, 20% of
revenue was generated from sales to the United States Immigration and
Naturalization Service. Sales to federal government agencies accounted for
approximately 78%, 79% and 67% of sales during 1999, 2000 and 2001,
respectively.

Product
Revenue. Product revenue increased 26% from $29.6 million during
1999 to $37.4 million during 2000 and decreased 43% from 2000 to $21.1 million
during 2001. The increase from 1999 to 2000 consisted of a $5.6 million
increase in network deployment products revenue and a $2.2 million increase in
data security products revenue. The decrease from 2000 to 2001 consisted of a
$17.2 million decrease in network deployment products revenue and a $918,000
increase in data security products revenue.

License and Service Revenue. License and service revenue increased 52%
from $1.3 million during 1999 to $1.9 million during 2000 and decreased 19%
from $1.9 million during 2000 to $1.6 million during 2001. The increase from
1999 to 2000 was primarily attributable to an increase of $444,000 related to
an ongoing government support contract that began in August 1999 and to the
recognition of $137,000 of revenue, out of a total of $550,000

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contract, which requires us to provide customer support for three years.
The balance of this $550,000 contract has been recorded as deferred revenue and
will be recognized over the remainder of the support period. The decrease from
2000 to 2001 was primarily attributable to a $264,000 decrease in electric
security systems revenues. The electric security systems product line was
discontinued in July 2000, and no revenues were recognized in 2001.

Research and Development Revenue. Research and development revenue
represents amounts earned under a contract with the NSA for the design of a microprocessor meeting minimum specifications
established by the NSA. We have contracted with others to perform aspects of
the project. All related project costs were expensed as research and
development was incurred. Regardless of the results of the development efforts,
the amounts received from the NSA are nonrefundable. The related research and
development costs were not separately identifiable. Therefore, the
corresponding costs of the entire development effort were included in research
and development expenses. Research and development revenue was $798,000 during
1999. The contract that resulted in research and development revenue was
completed in 1999 and no further research and development revenue is
anticipated under this contract.

Product Gross Margin. Product gross margin increased as a percentage of
net product revenue from 14% during 1999 to 19% during 2000 and decreased to
17% during 2001. The increase from 1999 to 2000 was primarily attributable to
the proportionately higher increase in revenue related to data security
products as compared to network deployment products. The decrease from 2000 to
2001 was primarily attributable to a reduction in margins related to network
deployment products that resulted from having to pay higher prices for product
from secondary suppliers because our primary vendors were unwilling to sell to
us on open account. In addition, data security products margins also decreased
mainly due to significant reduction in the average selling price of
one of our key products. During 2000 network deployment products represented 85% of
product revenue as compared to data security products that represented 15% of
product revenue. During 2001 network deployment products represented 68% of
product revenue as compared to data security products that represented 32% of
product revenue. Margins from the sale of data security products are
significantly greater than the margins from the sale of network deployment
products. In addition, data security products margins also decreased
mainly due to significant reduction in the average selling price of
one of our key products.

License and Service Gross Margin. License and service gross margin
increased as a percentage of license and service revenue from 54% during 1999
to 65% during 2000 and increased to 66% during 2001. The increase from 1999 to
2000 was primarily attributable to discontinuing the ESS product line. Gross
margins associated with the ESS product line were significantly less than the
gross margins associated with data security services. The ESS product line was
discontinued in July 2000.

Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased 33% from $7.2 million during 1999 to $9.6
million during 2000 and increased 11% from 2000 to $10.6 million during 2001.
The increase from 1999 to 2000 was primarily attributable to twelve months of
Pulsar related selling, general and administrative expenses in 2000 as compared
to approximately six months in 1999. The increase from 2000 to 2001 was
primarily attributable to the addition of personnel expenses
associated with the BIZ Acquisition of approximately
$1.2 million, a net loss on a lease for new operating facilities of
approximately $2.2 million, partially offset by a reduction in compensation expense of
approximately $900,000 and other net reductions totaling
approximately $1.3 million. The net loss on a lease was the result of a lease entered into in
October 2001 for new operating facilities. After entering into the
lease we determined that we would not need all of the space contracted for
and therefore we recorded a loss on the lease net of estimated sublease income.
Compensation expense reductions included $807,000 related to Pulsar
were primarily for reductions in
salary and commission expenses due to decreased revenues and the need
to adjust cost structures accordingly. Reductions not related to Pulsar were
primarily attributable to reductions in salary, travel, professional fees,
printing and office expenses. Expense reductions not related to Pulsar were
done in an effort to reduce current cash expenditures. As a percentage of
revenue, selling, general and administrative expenses increased from 23% during 1999 to 24% during 2000 and
increased to 47% during 2001. The percentage increase from 1999 to 2000 was
primarily attributable to the revenues generated by Pulsar during 1999 and the
percentage increase from 2000 to 2001 was partially the result of the overall
increase in expenses but was primarily attributable to the significant decrease
in revenues.

Research and
Development Expenses. Research and Development Expenses increased 48% from $3.9
million during 1999 to $5.8 million during 2000 and increased 35% from 2000 to
$7.9 million during 2001. The increase from 1999 to 2000 was primarily
attributable to significant increased staffing related to product development,
including development efforts

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related to the Forte microprocessor, Maestro, Profile Manager, NetSign and
token reader/writers. The increase from 2000 to 2001 was primarily attributable
to continued development related to those same projects that were
responsible for the staffing increases in 2000 and the addition of
personnel expense from the BIZ Acquisition. As a percentage of revenue,
expenses increased from 12% during 1999 to 15% during 2000 and increased to 35%
during 2001. The percentage increase from 1999 to 2000 was primarily
attributable to increased staffing. The percentage increase from 2000 to 2001
was primarily attributable to the continued expansion of our research and
development efforts combined with the significant decrease in revenues.

Impairment of Goodwill and Other Intangibles. In June 1999, we acquired
Pulsar. All of the outstanding shares of Pulsar were exchanged for 2,169,938
shares of our common stock. The acquisition was accounted for using the
purchase method of accounting. In the fourth quarter of 2000 we determined the
integration of Pulsar would not be completed as planned and the anticipated
operating synergies would not be realized. As a result, in accordance with
Statement of Financial Accounting Standards No. (SFAS) 121, Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be
Disposed Of, we analyzed the recoverability of the goodwill and other
intangibles relating to the acquisition of Pulsar. In order to evaluate the
recoverability of the remaining goodwill and other intangible assets, we
engaged the services of an independent valuation firm to perform a valuation.
In the fourth quarter of 2000, based on the results of the independent
valuation, we recorded an impairment charge of $31.4 million related to
unamortized intangible assets acquired in the purchase of Pulsar. Based on the
independent valuation, we believed that after the impairment charge of $31.4
million, no further impairment existed at December 31, 2000. As
of December 31, 2001, the remaining
unamortized intangible assets of $691,000 acquired in the purchase of Pulsar
will be amortized over the remainder of their 10-year life.

In August 2001, we
acquired BIZ ("Acquisition"). All of the outstanding shares of BIZ were
exchanged for 10,875,128 shares of our common stock. The acquisition was
accounted for using the purchase method of accounting. As part of the
acquisition we Acquired $9.0 million of identifiable intangible assets. In the
fourth quarter of 2001 we determined that the other intangible assets
and a portion of goodwill related to the acquisition of BIZ would not be realized. As a
result, we analyzed the recoverability of the intangible assets
relating to the acquisition of BIZ. Based on the
results of our analysis, we recorded an impairment charge of $36.2 million
related to unamortized identifiable intangible assets and goodwill acquired in the
acquisition of BIZ. Based on our analysis, we believe that after the impairment
charge of $36.2 million, no further impairment existed at December 31, 2001. The
remaining identifiable intangible asset acquired in the
acquisition of BIZ is goodwill which will no longer be amortized in
accordance with SFAS 142.

Acquired In-Process Research and
Development

During the year ended December 31, 2001, we
recorded an in-process research and
development (IPR&D) charges of $1.6 million related to the
Acquisition. The portion of the purchase price allocated to IPR&D
for the Acquisition was approximately 2.5% of the total purchase price of
$64.7 million. An independent third party investment banking firm, was retained to estimate the
fair value of purchased IPR&D. At the Acquisition date, BIZ was in the process
of developing technology that would deliver security features to customers, and
develop a new platform for delivering its product. The IPR&D had not yet
reached technological feasibility, had no alternative uses, and may not have
achieved commercial viability. At the valuation date, the new technology had
not reached a completed prototype stage, although some beta testing on portions
of the technology had begun. At the valuation date, the IPR&D
was ranged between 6% and 17% complete, based on costs incurred on the IPR&D through the acquisition date
versus the total costs estimated to complete the project. The IPR&D project was
valued using the Income Forecast Method. This method took into consideration
earnings remaining after deducting from cash flows related to the in-process
technology, the market rates of return on contributory assets, including
assembled workforce, merchant agreements working capital and fixed assets. The
cash flows were then discounted to present value at an appropriate rate. The
discount rate was determined by an analysis of the risks associated with each
of the identified intangible assets. The resulting net cash flows to
which discount rates of 45% to 50% were applied were based on managements estimates of
revenues, operating expenses and income taxes from such acquired in-process
technology.

Amortization of Goodwill and Other Intangibles. Amortization expense
increased 95% from $1.4 million during 1999 to $2.8 million during 2000 and
decreased 74% from 2000 to $746,000 during 2001. The increase from 1999 to 2000
was primarily attributable to a full year of amortization expense related to
unamortized intangible assets in 2000 compared to six months during 1999 when
we acquired Pulsar. The decrease from 2000 to 2001 was primarily
attributable to the reduction of goodwill and other intangibles that resulted
from the $31.4 million impairment charge recorded in the fourth quarter of
2000. Amortization expense in 2001 was comprised of $23,000 related to Pulsar
intangibles and $495,000 related to BIZ identifiable intangible
assets.

Other (Income) Expense, Net. Other (income) expense, net, decreased 104%
from $168,000 during 1999 to ($7,000) during 2000 and increased 2429% from
2000 to $693,000 during 2001. The decrease from 1999 to 2000 was primarily
attributable to an increase in interest income of $75,000, a reduction in
interest expense of $27,000 and a one time non-operating credit of $72,000.
The increase from 2000 to 2001 was primarily attributable to a decrease in
interest income of $188,000, a decrease in interest expense of $90,000 and a
realized loss on trading securities of $530,000.

Income Taxes.For 1999 the income tax benefit of $43,000 was primarily
attributable to prior year tax refunds received that exceeded amounts recorded
as receivable in prior years. For 2000 the income tax expense of $6,000 was
primarily attributable to minimum California franchise taxes. For 2001 the
income tax expense was attributable to the reversal of previously recognized
tax credits because it was determined that they would not be realized.

Backlog. At December 31, 1999, 2000 and 2001 total backlog was $366,000,
$1.3 million and $1.1 million respectively. Orders are subject to cancellation
in certain circumstances, and backlog may therefore not be indicative

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of future operating results. The increase in the backlog at December 31,
2000, was attributable to an increase of $409,000 related to data security
products and $525,000 related to network deployment products. The backlog of
data security products at December 31, 2000, consisted primarily of unfilled
orders for the Argus 300. Materials required to assemble the Argus 300 were not
received until January 2001. Once the necessary materials were received, the
Argus 300 readers were assembled and shipped during the first quarter of 2001.
The backlog of network deployment products at December 31, 2000, was the result
of orders that were received too close to the end of the year to be shipped
before the end of the year. The backlog at December 31, 2001, was made up of
$218,000 related to data security products and $910,000 related to network
deployment products. The $910,000 related to network deployment products was
caused by our inability to obtain product from our vendors to fulfill customer
orders. If we are not able to obtain the product necessary to fulfill these
orders they will have to be cancelled.

Critical Accounting Policies

Management's
Discussion and Analysis of Financial Condition and Results of
Operations discusses our consolidated financial statements,
which have been prepared in accordance with accounting principles
generally accepted in the United States. The preparation
of these financial statements requires us to make estimates
and assumptions that affect the reported amounts of assets and
liabilities, revenues and expenses, and related disclosure of
contingent assets and liabilities at the date of our financial
statements.

We based our
estimates and judgments on historical experience and on various other
factors that we believe to be reasonable under the circumstances,
the results of which form the basis for making judgments about the
carrying values of assets and liabilities that are not readily
apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions.

Critical accounting
policies are defined as those that are reflective of significant
judgments and uncertainties, and potentially result in materially
different results under different assumptions and conditions.
We believe the following critical accounting policies, among
others, affect significant judgments and estimates used in the
preparation of our consolidated financial statements. For a detailed
discussion of the application of these and other accounting policies,
see notes to the consolidated financial statements.



| |  |  | Revenue
Recognition  We recognize revenue from product sales,
including hardware (with embedded software) and software, upon
shipment unless contract terms call for a later date. Revenue from
network deployment products is recognized upon transfer of title,
generally upon delivery. We record an allowance to cover
estimated warranty costs in cost of sales. Customers do not have the
right of return except for product defects, and product sales are
not contingent upon customer testing, approval and/or acceptance. The
costs of providing post contract customer support are not
significant. Revenue under service and development contracts is
recorded as services are rendered. Revenue from time and
material, network deployment service contracts is recognized on the
basis of man-hours incurred plus other reimbursable contract costs
incurred during the period.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
|
|
|
| |  |  | Allowance for Doubtful
Accounts  We maintain an allowance for doubtful accounts
for estimated losses resulting from the inability of our customers to
make payments for services. We analyze accounts receivable, customer
credit-worthiness, current economic trends and changes in our
customer payment terms when evaluating the adequacy of the allowance
for doubtful accounts. If the financial condition of our customers
deteriorates, resulting in an impairment of their ability to make
payments, additional allowances may be required.                                                                                                                                                                                                                                                                                                                                          
|
|
|
|
| |  |  | Valuation of Goodwill and Other Intangible
Assets  We assess the impairment of goodwill and
other intangible assets whenever events or changes in circumstances
indicate that the carrying value may not be recoverable. Factors we
consider important which could trigger an impairment review include
significant underperformance relative to expected historical or
projected future operating results, significant changes in the manner
of our use of the acquired assets or the strategy for our overall
business, and significant negative industry or economic trends. The net carrying value of goodwill and other
intangible assets not recoverable is reduced to fair
value.                                                                                                                                                                                                     
|
|
|
|
|
| |   |  | During the
fourth quarter of 2001, we
determined that certain identifiable technology and developed
technology acquired in connection with the BIZ acquisition were no
longer going to be pursued. Additionally, we anticipate a
delay or indefinite reduction in projected revenues from the
acquisition. Accordingly, we performed an impairment analysis.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|
|
|
|
|
|
|
|
|
| |   |  | As the result
of that analysis, we recorded an impairment
charge of $36.2 million in the fourth quarter of 2001 related to
$2.6 million in
identifiable technology, $5.8 million in developed technology
and $27.8 million
in goodwill acquired in connection with the acquisition of BIZ. After
this impairment charge, goodwill is the only remaining intangible
asset.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|
|
|
|
|
|
|
|
|
| |   |  | Changes in assumptions and estimates included
within the analysis could result in significantly different results
than those identified above and those recorded in the consolidated financial
statements.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|
|
|
|

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##### Table of Contents



Liquidity and Capital Resources

At December 31, 2001, we had deficit working
capital of $5.8 million and we incurred a loss from operations
of $52.4 million and used cash in operating activities of
$2.5 million for the year then ended. We expect to
continue to incur substantial additional losses in the current year.
Given our December 31, 2001 cash balance of $3.3 million and our projected operating cash
requirements, we anticipate that our existing capital resources will
not be
adequate to satisfy our cash flow requirements through the
December 31, 2002. We will require additional funding. Our cash flow estimates are based upon achieving certain levels of sales,
reductions in operating expenses and liquidity available under the
accounts receivable line. Should sales be less than forecast,
expenses be higher than forecast or the liquidity not be available
under our
accounts receivable line or through additional financings of debt
and/or equity, we will not have adequate resources to fund
its operations. During the past year, we have incurred defaults under
both our line of credit secured by accounts receivable and the long-term
convertible notes.
We secured waivers for our accounts receivable line through
March 31, 2002 and for the long-term convertible notes through
December 31, 2002. However, there is no
guarantee the lenders will continue to waive defaults in the future, should
they occur, and the lenders may declare amounts owed by us due and
payable. Subsequent to March 31, 2002, we remained in default under
the line of credit. We do not expect future fixed obligations through
December 31, 2002 to
be paid by cash generated from operating activities. We intend to satisfy fixed obligations from,
but not limited to the following: (i) additional financings; (ii) use of our accounts
receivable line; (iii) extending vendor payments; and (iv) issuing stock as payment on obligations.

During the twelve
months ended December 31, 2001, cash used in operations was
$2.5 million primarily attributable to a net loss of
$53.2 million, which included an impairment charge of
$36.2 million related to unamortized goodwill and other
intangibles assets. The net loss was primarily offset by the
$36.2 million noncash impairment charge of goodwill and other
intangibles, $1.5 million of noncash depreciation and
amortization, $1.6 million increase of In process research and
development, a $6.3 million increase in accounts payable,
$2.4 million increase in accrued liabilities, and a
$2.2 million increase in accrued rent.

During the twelve
months ended December 31, 2000, cash used in operations was
$3.6 million primarily attributable to a net loss of
$41.4 million, which included an impairment charge of
$31.4 million related to unamortized goodwill and other
intangible assets. The net loss was primarily offset by the
$31.4 million noncash impairment charge of goodwill and other
intangibles, $3.5 million of noncash depreciation and
amortization and a reduction in accounts receivable of
$2.7 million.

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##### Table of Contents



During the twelve months
ended December 31, 2001, cash provided by investing activities
was $140,000 versus $251,000 cash used in 2000. The increase was
attributable to the net cash paid for the BIZ Acquisition of $675,000
offset by a decrease of $118,000 related to the purchase of property
and equipment during the year ended December 31, 2001. However,
during the year ended December 31, 2000, the decrease of
$863,000 related to property and equipment purchased was partially
offset by $612,000 of previously restricted cash related to our
revolving credit line that was reclassified as unrestricted cash.
Finally, during the year ended December 31, 2001, we received
proceeds of $933,000 from the sale of trading securities versus $0 in
2000.

During the twelve months
ended December 31, 2001, cash provided by financing activities
was $1.5 million, the same as 2000. The cash provided by financing
activities in 2001 was primarily the result of borrowings of $14.2
million under bank agreements. These borrowings were offset by
repayments of $14.1 million under these bank agreements. Furthermore,
$2.5 million was provided by the issuance of long-term convertible
debt. The cash provided by financing activities in 2000 was primarily
the result of borrowings of $23.7 million under bank and other
borrowing agreements. These borrowings were offset by repayments of
$22.4 million under bank and other borrowing agreements.

We have experienced
net losses and negative cash flows for the last several years, and as of December 31, 2001, had a deficit accumulated
deficit of $99.5 million. We have financed our operations principally
through the issuance of Common Stock total proceeds net of issuance
costs from our public
offering of approximately $35.3 million.

In June 1999, we entered into a three-year lending agreement with Guaranty
Business Credit Corporation (GBCC) permitting borrowings under a $20.0
million secured revolving line of credit facility that commenced on June 14,
1999. The agreement provided for an annual interest rate of prime plus .625%;
and a pledge of substantially all of our personal and real property as
collateral. Although the credit facility was for borrowings up to $20.0
million, under the terms of the agreement the amount of borrowing available to
us was subject to a maximum borrowing limitation based on eligible collateral.

On April 18, 2001, the terms of our revolving line of credit were amended.
Under the terms of the amended agreement the maximum borrowings were $5.0
million, eligible collateral excluded inventory and the advance rate was 35%.
In addition, certain of the financial covenants and requirements were adjusted.
The amended $5.0 million revolving credit facility also contained various
covenants and restrictions. Under the terms of the amended agreement, we were
required to obtain the lenders consent for any merger, acquisition or
consolidation. The lender was not willing to give its consent to our
Acquisition
of BIZ and discontinued making advances under the terms of the amended
agreement effective with the Acquisition. The lender applied all collections
subsequent to the Acquisition to outstanding borrowings until such borrowings
and related interest charges were paid in full. All amounts due to the lender
were paid in full on October 2, 2001. Once all amounts were paid in full the
lender released its security interest in our assets.

On July 31,
2001, Chase Manhattan Bank
(Chase) advanced to our co-chairman, Mr. Winkler,
$1.0 million which Mr. Winkler advanced to BIZ for the re-purchase of preferred stock held by
an investor in BIZ. Mr. Winkler executed a $1.0 million demand note with Chase
and BIZ executed a $1.0 million demand note due September 15, 2001 with J.A.W.
Financial, L.P. (JAW), an entity controlled by Mr. Winkler. The demand note
contained an interest charge of prime plus 1% through the maturity date and
prime plus 3% after the maturity date. On October 11, 2001, we made a principal
payment of $30,000, paid accrued interest, and executed a new promissory note
to JAW for $970,000. The terms of the promissory note call for interest of
prime plus 3% payable monthly, together with five monthly payments of principal
in the amount of $160,000 and one final payment on April 15, 2002 in the amount
of $170,000. The promissory note provides Chase a security interest in the
shares in Wave Systems Corp. owned by us, and subject to Chases loan security
guidelines, including the rights to proceeds from any sales of those shares. The loan was
paid in full on March 8, 2002.

During October and
November 2001 we and our wholly owned subsidiary, Pulsar, entered
into financing agreements with Wells Fargo Business Credit, Inc. (WFBC), which
provides for the factoring of accounts receivable. The
agreements contain no limit on the dollar volume of receivable financing, but
does provide for WFBCs approval of credit limits for non-government customers.
The discount rate charged is 1.25% of the gross receivable, which may be
increased by .0625% per day for accounts that do not pay within
30 days of
the receivable purchase. At the time of purchase, terms call for WFBC to
advance 85% of the gross receivable, with the balance remitted after collection
of the invoice less the discount and any other charges. We were in
violation of the covenant to pay debts and obligations as they
come due and delays in misdirected payments. We requested a
waiver of these defaults and
received a waiver through March 31, 2002 and January 31,
2002, respectively. We are in default and anticipate being in
default of this provision in the future unless we raise sufficient
working capital. The balances due WFBC are guaranteed by
Mr. Shah and Mr. Winkler, our Co-Chairmen and Co-chief executive
officers.

In December 2001, our Co-Chairmen, each purchased a three year
$375,000 subordinated convertible 8% note, in a total private
placement of $2.5 million
of such notes. These notes were intended to convert into a subsequent
financing, which is described below. In connection with the issuance of the subordinated convertible
notes we incurred approximately $25,000 of issuance costs, which
primarily consisted of legal and other professional fees, and which are to be paid
upon completion of the subsequent financing described below. All subordinated convertible notes mature December 17, 2004;
bear interest at a rate of 8% per annum, which will be paid quarterly
in cash or rolled into the subsequent financing described below;
upon a financing of $5.0 million or more in equity or convertible securities in a
private placement to institutional investors, the subordinated convertible
notes are convertible into such financing on the same terms and
conditions; at the election of the holders, subordinated convertible notes are
convertible into common stock at a conversion price of $3.60 per share, subject
to adjustment under certain conditions. In April 2002, the subordinated
convertible notes of our Co-Chairmen were amended to provide that their notes can only be
converted upon a financing of $5.0 million or more in equity or convertible securities in
a private placement to institutional investors at a conversion price that
represents a 25% or less discount to the trading price of the
Companys stock and extended their term to December 31, 2005.
After December 11, 2003, we may call for mandatory conversion of the
subordinated convertible notes prior to maturity if the Companys common shares
trade at or above an average price of 300% of the conversion price for twenty
(20) consecutive trading days and average volume of 200,000 shares per day for
twenty (20) consecutive trading days. As of
December 31, 2001, we were in violation of certain provisions of the
subordinated convertible notes pertaining to: (i) payment of
debts and obligations as they come due; (ii) violation of provisions within the WFBC
agreements; and (iii) payment of interest on these notes due March 31,
2002. We requested and received a waiver for these violations
through January 1, 2003, see
notes to consolidated financial statements.
On April 16, 2002, simultaneous with the filing of our Form 10-K
we closed a financing
whereby, with the exception of Mr. Winkler and Mr. Shah, the
noteholders converted their subordinated convertible notes into 10% secured
convertible promissory notes convertible at $1.00 per share, with
detachable warrants.

Over the past three years, we have spent substantial sums on research and
development (R&D) activities. During that time period, we incurred
substantial losses from continuing operations. As a result of these
and other changes, we currently have a
deficit in working capital and an accumulated deficit. While we believe the R&D expenditures created
significant future revenue producing opportunities, some of the related
products are just entering production. We are currently involved in sales
pursuits relative to these products that, if successful, will generate
significant revenues. However, unless we receive orders for these new products
and receive significant financing, we can no longer support the current level
of research and development activity. While we have reduced our
staffing levels, if sales fail to materialize, we will need to further reduce
expenses through additional reductions in staff.

Reduced accounts receivable financing availability caused us to
re-evaluate the operations of our networking business and our primary
vendors being unwilling to sell additional product to us on open
account because of significant past due amounts for goods we had
previously purchased from them. This caused a
substantial reduction in the sales and related cost of sales during the
year, which in turn reduced cashflow. The reduced cashflow impaired our
ability to meet vendor commitments as they became due.

In October 2000, we signed a development agreement with Wave Systems Corp.
(Wave) for the integration of EMBASSY based systems with set-top box master
reference designs of Broadcom Corporation. The development agreement
was amended in May 2001. Under this amended agreement, we are
required to pay Wave $278,000 per month beginning June 1, 2001 through December 1,
2002 for work to be performed, for a total of $5 million. Should
we not make the required monthly payments, Wave may request
payment in the form of common stock. As of December 31, 2001, we owed
$1.4 million to Wave for which they have tendered monthly
notices of default. Under the terms of the agreement, if the default
notices are not cured within thirty (30) days of written notice, the unpaid
installment converts the obligation for delinquent installments from
a cash obligation into a stock acquisition right (SAR). An
SAR gives Wave the right to acquire a number of fully paid,
nonassessable shares of our common stock determined by dividing the fair market value (the average closing price of
our common stock for the ten (10) trading-day period prior to the date of exercise)
of a share of our common stock on the date of exercise of the SAR
into the aggregate portion of the installment payments declared to be
in default and such default was not cured. To date, Wave has made no
request for issuance of stock. The $1.4 million obligation is
carried in Accrued Liabilities of December 31, 2001. Further, to
conserve cash we do not intend to pay in cash the monthly billings
due under the amended agreement. In February 2002, based upon a
verbal agreement the work under the contract was suspended along with
the related billings. The suspension does not decrease the obligation
to purchase development services in the future. We have reserved
1,150,000 shares of common stock for issuance under the amended
agreement. Separately, should we not purchase $5.0 million of
goods or services from Wave by June 30, 2003, our exclusivity
related to certain customers will, at Waves option, become non-exclusive.

In November 2000, we executed an Alliance Agreement
with Electronic Data Systems Corporation (EDS) for the
marketing of our products to EDS customers (Alliance).
The Alliance calls for a joint working relationship between the two
companies, is non-exclusive and has a term of ten (10) years. In
February 2001, we and EDS executed an engagement letter for EDS to
provide certain information technology and consulting services for
both our organizational structure and for a specific customer
project. Under these engagements, EDS billed $1,150, of which $458
remained unpaid as of December 31, 2001. On August 27,
2001, EDS and we executed a letter of intent and temporary working
agreement whereby EDS supplied software and hardware for re-sale to
Pulsar customers (Pulsar Agreement). Under the Pulsar
Agreement, as of December 31, 2001, $1,488 remained outstanding
and unpaid to EDS for purchases of hardware and software. We and EDS
executed a Master Services Agreement dated as of November 14,
2001 (MSA) whereby beginning December 1, 2001 and
ending December 31, 2006, we and EDS established a strategic
teaming relationship to implement, sell and deliver a set of secure
transaction processing offerings based upon a Trust Assurance Network
(TAN). The MSA task order 001 (Task Order)
requires that we pay a monthly fee of $44 for account, test and lab
management services beginning January 1, 2002. The obligations for
these services can be terminated beginning January 1, 2003 by
giving ninety (90) days prior written notice and payment of $400, or
beginning January 1, 2004 by giving ninety (90)
days prior written notice and payment of $200. Further, the Task
Order provides for EDS to provide TAN hosting and implementation in
exchange for an implementation fee of $45 payable October 1,
2002. Once installation of the production environment TAN is
complete, EDS agrees to host the TAN in exchange for a monthly
service fee of $59 for thirty-six (36) months and $60 per month for
the remaining months of the MSA. We may delay implementation of the
TAN by paying a fee of $200 prior to January 31, 2003. We may
terminate the Task Order without cause by paying $400 after January 1, 2004 and
providing ninety (90) days prior written notice. In the event we
are unable to obtain intellectual property rights or licensing
consents that may be required, if any, prior to January 1, 2003,
and the parties determine there are no software alternatives, then
after giving ninety (90) days prior written notice we may
terminate the Task Order by paying $450.

We arranged for the
lease of two buildings approximating 63,000
square feet that were under construction. Our Co-chairman Mr. Shah, has a 25% ownership interest in the entity that owns
the two buildings. The leases have an aggregate monthly rental totaling
approximately $115,000, plus common area costs for seven years. On one building
totaling approximately 23,000 square feet, we sublet one half of the building on terms and
conditions matching the underlying lease. The sublease is with a related party
company owned by our co-chairman, Mr. Winkler. While that
company made a lease deposit, it has not made the
monthly rent payment and accordingly is currently delinquent on its rent
payments to us. We are in negotiations with the landlord
regarding being released from obligations under the lease for the second
building totaling 40,000 square feet. We intend to release the
sub-tenant and occupy the 23,000 square foot building based upon having raised
$5.0 million of Convertible Notes (See Below). We have accrued $2.2 million as an estimate for anticipated costs
relative to the disposition of the 40,000 square foot building net of anticipated
offsetting sublease income, which may be partially recovered
depending on future events that cannot be estimated.

Our significant fixed
commitments with respect to leases and inventory purchases as of
April 15, 2002 are as
follows:

|                                   |  |                                          |            |      |  |             |           |             |  |              |           |  |  |   |            |  |  |   |           | 
|---------------------------------- |  | ---------------------------------------- | ---------- | ---- |  | ----------- | --------- | ----------- |  | ------------ | --------- |  |  | - | ---------- |  |  | - | --------- | 
|                                   |  | Payments
for the Year Ended December 31,
|Contractual Obligations            |  | TOTAL                                    |            | 2002 |  | 2003 & 2004 |           | 2005 & 2006 |  | 2007 & after
|                                   |  |                                          |            |      |  |             |           |             |  |             
|Convertible Notes                  |  | $                                        | 7,152,800  |      |  | $           | 0         |             |  | $            | 1,750,000 |  |  | $ | 5,402,800  |  |  | $ | 0         | 
|Operating Leases                   |  |                                          | 12,324,969 |      |  |             | 2,036,613 |             |  |              | 3,786,373 |  |  |   | 3,696,409  |  |  |   | 2,805,574 | 
|Unconditional Purchase Obligations |  |                                          | 8,873,338  |      |  |             | 4,510,498 |             |  |              | 2,303,160 |  |  |   | 2,059,680  |  |  |   | 0         | 
|                                   |  |                                          |            |      |  |             |           |             |  |             
|Total Contractual Cash Obligations |  | $                                        | 28,351,107 |      |  | $           | 6,547,111 |             |  | $            | 7,839,533 |  |  | $ | 11,158,889 |  |  | $ | 2,805,574 | 
|                                   |  |                                          |            |      |  |             |           |             |  |             

With our deficit
working capital position, we will not be able to meet
existing obligations as they become due. We will use receivables and
investments to generate liquidity and are in negotiations with vendors for extended terms on current obligations. To remedy the working
capital deficiency, we are in discussions with financing sources and
simultaneous to the filing of this form 10-K, raised $5.0 million
of convertible notes.

We currently
have a need for a substantial amount of capital to meet our
liquidity requirements. The amount of capital that we will need in the future
will depend on many factors including, but not limited, to:



| |  |  | the ability to extend terms of
payment to vendors                                                                                                      
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | the market acceptance of products and services                                                                                                         
|
| |  |  | the levels of promotion and advertising that will be required to
launch new products and services and attain a competitive position in
the market place
|
| |  |  | research and development plans                                                                                                                         
|
| |  |  | levels of inventory and accounts receivable                                                                                                            



| |  |  | technological advances                                               
| | - |  | ---------------------------------------------------------------------
|
| |  |  | competitors responses to our products and services                  
|
| |  |  | relationships with partners, suppliers and customers                 
|
| |  |  | projected capital expenditures                                       
|
| |  |  | downturn in economy                                                  
|
| |  |  | defaults on financing that will
impact the availability of borrowings
|
| |  |  | reductions in the valuation of
investment                            

|
|

3



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##### Table of Contents



As of December 31, 2001, we had available net operating loss carryforwards for
Federal income tax purposes of approximately $25.0 million. Because of the change
in ownership provisions of the Tax Reform Act of 1986, our net operating loss
carryforwards may be subject to an annual limitation on the utilization of
these carryforwards against taxable income in future periods if a cumulative
change in ownership of more than 50% of the Company occurs within any
three-year period. We have made no determination concerning whether there has
been such a cumulative change in ownership. However, we believe that it is
likely that such a change in ownership occurred prior to or following the
completion of our Acquisition of BIZ in August 2001.

Our current financial condition is the result of
several factors including the following:



| |  |  | Our operating results were below
expectations.                                                                                                                                                                                                                      
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Sales of products through channels acquired in the
Acquisition are taking longer than originally anticipated to
develop.                                                                                                                                            
|
| |  |  | Market demand for our Xboard product (formerly
known as CipherServer Product line) did not materialize as
anticipated and therefore our sales were below forecast.                                                                                                  
|
| |  |  | Reduced credit line availability affected the
sales volume of our Pulsar subsidiary.                                                                                                                                                                                
|
| |  |  | Research and development expenses from the BIZ acquisition
increased our costs.                                                                                                                                                                                     
|
| |  |  | The events of September 11, 2001 affected the
operations and delayed the decisions of the U.S. government.
This caused sales we had anticipated to be substantially
delayed. The events may also affect potential investors and related
terms of investment capital.

In addition to our current deficit
working capital situation, current operating plans show a shortfall
of cash during 2002. We intend to mitigate our position
through one or more of the following:

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| |  |  | Additional equity capital  We will seek additional equity
capital, if available. Equity capital will most likely be issued at
a discount to market, and require the issuance of warrants causing a
dilution to current shareholders. In addition, providers of new
equity capital may require additional concessions in order for them
to provide needed capital to us.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Additional convertible debt  Depending upon the market conditions, we may
issue an additional debt instrument. The types of instruments available in
the                                                                                                                                                                                                               

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| |   |  | market would likely contain a provision for the issuance of warrants
and may also be convertible into equity. On April 16, 2002,
simultaneous with the filing this Annual Report on Form 10-K, we completed a private placement of
$5.0 million in the form of $4.0 million in 10% secured convertible
promissory notes, $652,776 in secured non-convertible promissory
notes ($152,776 held by Co-Chairman Mr. Shah and $500,000 held by
Co-Chairman Mr. Winkler) and the pre-payment of a $500,000 note due from Kris Shah,
less a discount of $152,776. The discount was based upon a present
value using an annual rate of 20% for early payment and will be charged
against earnings during the second quarter of 2002. In connection with the issuance of the
secured convertible promissory notes we incurred
approximately $386,000 of issuance costs, which primarily consisted of
investment banker fees, legal and other professional fees. These promissory notes mature December 31, 2005; bear interest at a rate of
10% per annum, which will be paid quarterly in cash or, at the
Companys discretion should we need to conserve cash, in common shares based upon the trailing thirty
30 day average prior to the interest due date; and the
$4.0 million of
convertible promissory notes, in whole or in part, are convertible at
the option of the holder into an aggregate of approximately 4,000,000
shares of the Companys common stock at any time prior to maturity, at
a conversion price of $1.00 per share, subject to adjustment under
certain conditions; and the convertible promissory notes have
detachable warrants exercisable for three (3) years to purchase an
additional 2,400,000 shares at the price of $1.30 per share. We may
call for mandatory conversion of the convertible notes prior
to maturity if common shares trade at or above an
average price of $3.00 per share for twenty (20) consecutive trading
days with average volume of 100,000 shares per day for 20
consecutive trading days. We are not subject to restrictive covenants related to the secured convertible or
non-convertible promissory notes, other than not being allowed to
pledge intellectual property as collateral.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Off balance sheet financing  our operations are not relatively
capital intensive. However, should we need to add equipment or decide
to expand our facilities, we may use an operating lease transaction to
acquire the use of capital assets. An operating lease would not appear
on our balance sheet and would be charged as an expense as payments
accrue.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|
| |  |  | We will finance receivables in conjunction with the WFBC
agreement to generate cash. In the past we incurred defaults under
the WFBC line for late payments to vendors, for which we received
waivers through range from January 31, 2002 through
March 31, 2002. We are in default and anticipate defaults in the
future, and we may not receive the required waivers and may not have
funds available under the line.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|
| |  |  | We will sell investments to generate cash. The market value of
trading securities was approximately $1.4 million at December 31,
2001. Since that date, we have generated over $100,000 through the
sales of securities.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|
| |  |  | We are negotiating with vendors
regarding payment of existing
accounts payable over extended terms of 48 months with
no interest. We have reached a verbal agreement with one large vendor and
are working with remaining vendors. We previously executed term out agreements with a number of
vendors that must now be further extended.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        



| |  |  | Deferral of cash payments through
suspension of development projects.                                                                                                                                    
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Issuance of stock as payment for existing
and future obligations. We anticipate paying the Wave accrued liabilities of $1.4 million as of
December 31, 2001 from future issuance of common
stock to Wave.
|
| |  |  | Issuance of stock to pay interest on long
term debt.                                                                                                                                                     
|
| |  |  | Reductions in work force.                                                                                                                                                                                

Should we not receive
adequate financing, we could be forced to merge with another company
or cease operations.

While we have a history of selling products in the government markets,
new products just entering production after years of development have no sales
history. Additionally, we are entering commercial markets with our
products and are still developing acceptance of its offerings. Considerable
uncertainty currently exists with respect to the adequacy of current funds to
support our activities beyond December 31, 2002. This uncertainty will continue
until a positive cash flow from operations is achieved. Additionally,
we are uncertain as to the availability of financing from other sources to
fund any cash deficiencies.

In order to reduce this uncertainty, the Company continues to evaluate
additional financing options and may therefore elect to raise capital, from
time to time, through equity or debt financings in order to capitalize on
business opportunities and market conditions and to insure the continued
marketing of current product offerings together with development of new
technology, products and services. There can be no assurance that we can raise
additional financing in the future.

Based upon forecast sales and expense levels, we currently anticipate that
existing cash, cash equivalents, investments, term out arrangements
with vendors, the proceeds of a
$5.0 million financing on April 16, 2002 described below and the current availability under
our WFBC factoring agreements will be sufficient to satisfy our contemplated
cash requirements for the next twelve months. However, our forecast is based
upon certain assumptions, which may differ than actual future
outcomes. We have incurred defaults under its financing agreements in
the past. If we incur a default in the future under our accounts receivable line of
credit or other financing instruments, we may not be able to draw funds thereby
affecting our ability to fund operations. At this time we are
currently in default and anticipate that we will continue to be in
default unless we are able to raise sufficient capital to pay debts
and obligations as they become due. Additionally, without a substantial
increase in sales or a reduction in expenses, we will continue to incur
operating losses. Simultaneous with the filing of this Annual Report on Form 10-K, we closed the round of
convertible debt financing described above to
provide $5.0 million in additional working capital and are in discussions with
several sources of regarding up to an additional $5.0 million on the same terms
and conditions.

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RECENT ACCOUNTING PRONOUNCEMENTS

On July 20, 2001, FASB issued Statements No. 141, Business Combinations (SFAS
141) and No. 142 Goodwill and Other Intangible Assets (SFAS 142). SFAS 141
requires all business combinations initiated after June 30, 2001 to be
accounted for using the purchase method. Poolings initiated prior to June 30,
2001 are grandfathered. SFAS 142 replaces the requirement to amortize
intangible assets with indefinite lives and goodwill with a requirement for an
impairment test. SFAS 142 also requires an evaluation of intangible assets and
their useful lives and a transitional impairment test for goodwill and certain
intangible assets. After the transition, the impairment tests must be performed
annually. A company must adopt SFAS 142 at the beginning of the fiscal year.
Thus, as a calendar year-end company, we must adopt SFAS. 142 no later than
January 1, 2002. we are currently examining the impact of this pronouncement on
its results of operations and financial position. While we believe
there will be a material impact, the amount has not yet been determined.

FASB recently issued SFAS 143, Accounting for Asset Retirement Obligations
(SFAS 143) which addresses financial accounting and reporting for obligations
associated with the retirement of tangible long-lived assets and the associated
asset retirement costs. SFAS 143 requires an enterprise to record the fair
value of an asset retirement obligation as a liability in the period in which
it incurs a legal obligation associated with the retirement of a tangible
long-lived asset. SFAS 143 also requires the enterprise to record the contra to
the initial obligation as an increase to the carrying amount of the related
long-lived asset and to depreciate that cost over the remaining useful life of
the asset. The liability is changed at the end of each period to reflect the
passage of time and changes in the estimated future cash flows underlying the
initial fair value measurement. SFAS 143 is effective for fiscal years
beginning after June 15, 2002. We are currently examining the impact of this
pronouncement on the results of its operations and financial position, but
currently believe the impact will not be material.

On October 3, 2001, FASB issued SFAS 144, Accounting for the Impairment or
Disposal of Long-Lived Assets (SFAS 144), which addresses financial
accounting and reporting for the impairment or disposal of long-lived assets
and supersedes SFAS 121. SFAS 144, retains many of the fundamental provisions
of SFAS 121. SFAS 144 also supersedes the accounting and reporting provisions
of Accounting Principle Board Opinion 30, Reporting the Results of
Operations Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions (APB
30), for the disposal of a segment of a business. However, it retains the
requirement in APB 30 to report separately discontinued operations and extends
that reporting to a component of an entity that either has been disposed of (by
sale, abandonment, or in a distribution to owners) or is classified as held for
sale. SFAS 144 is effective for fiscal years beginning after December 15, 2001
and interim periods within those fiscal years. We are currently examining the
impact of this pronouncement on its results of operations and financial
position, but currently believe the impact will not be material.

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RISK FACTORS

RISKS RELATED TO OUR BUSINESS

WE HAVE A HISTORY OF LOSSES AND MAY INCUR FUTURE LOSSES

We may not become profitable or significantly increase our revenue. We
incurred net loss of
$41.4 million
for the twelve month period ended December 31, 2000 and net
operating losses of
$43.9 million and net loss of $53.2 million for the
twelve month period ended
December 31, 2001. To achieve profitability, we will need to generate and
sustain sufficient revenues while maintaining reasonable cost and expense
levels. We expect to continue to incur significant operating expenses primarily
to support research and development and expansion of our sales and marketing
efforts. These expenditures may not result in increased revenues or customer
growth. We do not know when or if we will become profitable. We may not be able
to sustain or increase profitability on a quarterly or annual basis.

OUR STOCK PRICE IS EXTREMELY VOLATILE

The trading price of our common stock is highly volatile as a result of
factors specific to us or applicable to our market and industry in general.
These factors, include:



| |  |  | variations in our annual or quarterly financial results or those of our competitors;                                                                                                 
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | company issued earnings announcements that vary from consensus analyst estimates;                                                                                                    
|
| |  |  | changes by financial research analysts in their recommendations or estimates of our earnings;                                                                                        
|
| |  |  | conditions in the economy in general or in the information technology service sector in particular;                                                                                  
|
| |  |  | announcements of technological innovations or new products or services by us or our competitors; and                                                                                 
|
| |  |  | unfavorable publicity or changes in applicable laws and regulations,
or their judicial or administrative interpretations, affecting us or the
information technology service sectors.

In addition, the stock market has recently been subject to extreme price
and volume fluctuations. This volatility has significantly affected the market
prices of securities issued by many companies for reasons unrelated to the
operating performance of these companies. In the past, following periods of
volatility in the market price of a companys securities, some companies have
been sued by their stockholders. If we were sued, it could result in
substantial costs and a diversion of managements attention and resources,
which could adversely affect our business.

WE HAVE NOT GENERATED ANY SALES TO DATE OF OUR SSP SOLUTION SUITE, WHICH MAKES
IT DIFFICULT TO EVALUATE OUR CURRENT BUSINESS PERFORMANCE AND FUTURE PROSPECTS

To date, we have not had any sales of our SSP Solution Suite and have not
established a sales and marketing force to promote this product. We may be
unable to establish sales and marketing operations to levels necessary for us
to grow this portion of our business, especially if we are unsuccessful at
selling this product into vertical markets. We may not be able to support the
promotional programs required by selling simultaneously into several markets.
If we are unable to develop an efficient sales system, our operating results
will suffer.

LATE PAYMENTS MAY HAVE DAMAGED RELATIONSHIPS WITH OUR VENDORS.

Slow and delinquent payments may cause vendors not
to sell products to us, or only with advance payment. Should this
occur, we will not have components and services available for our
products.

THE AVERAGE SELLING PRICE OF OUR PRODUCTS MAY DECREASE, WHICH MAY REDUCE GROSS
MARGINS

The average selling prices for our products may decline as a result of
competitive pricing pressures, promotional programs and customers who negotiate
price reductions in exchange for longer term purchase commitments. The pricing
of products depends on the specific features and functions of the products,
purchase volumes and the level of sales and service support required. We expect
competition to increase in the future. As we experience pricing pressure, we
anticipate that the average selling prices and gross margins for our products
will decrease over product life cycles. These same competitive pressures may
require us to write down the carrying value of inventory on hand, if any.

WE DERIVE A SUBSTANTIAL PORTION OF OUR REVENUE FROM A SMALL NUMBER OF CUSTOMERS
AND, THEREFORE, THE LOSS OF EVEN ONE OF THESE CUSTOMERS COULD SIGNIFICANTLY AND
NEGATIVELY IMPACT OUR OPERATING RESULTS

We depend on a limited number of customers for a substantial portion of
our revenue and many of our contracts with our significant customers are
short-term contracts. The non-renewal of any significant contract upon
expiration, or a substantial reduction in sales to any of our significant
customers, would adversely affect our business unless we were able to replace
the revenue we received from these customers. During the twelve month period
ended December 31, 2000, we derived 42% of our consolidated revenue from one
customer and during the twelve month period ended December 31, 2001, we derived
20% of our consolidated net revenue from one customer.

IF THE SSP SOLUTION SUITE IS NOT COMMERCIALLY SUCCESSFUL, OUR OPERATING
RESULTS WILL SUFFER

Although we have had some success selling our security solutions to
government agencies, we are just beginning to enter the complex and competitive
commercial market for digital commerce and communication security solutions. We
believe that many potential customers in our target markets are not fully aware
of the need for security products and services in the digital economy.
Historically, only enterprises having substantial resources developed or
purchased security solutions for Internet or other means of delivering digital
content. Also, there is a perception that security in delivering digital
content is costly and difficult to implement. Therefore, we will not succeed
unless we can educate our target markets about the need for security in
delivering digital content and convince potential customers of our ability to
provide this security in a cost-effective and easy-to-use manner.

Even if we convince our target markets about the importance of and need
for such security, we do not know if this will result in the sale of our
products. To date, we have not entered into any commitments or contractual
agreements for the delivery of the SSP Solution Suite products or components.
Commercial customers may not select our products over those of our competitors.
If our SSP Solution Suite products or components do not achieve wide market
acceptance and/or if our pricing system is not competitive, our ability to earn
revenues will be negatively impacted and our operating results will suffer.

OUR PULSAR BUSINESS
IS HIGHLY DEPENDENT ON THE AVAILABILITY OF FINANCIAL RESOURCES.

Should we not be able to utilize our accounts receivable financing
line,
we will not have adequate cash available to pay vendors. We
have incurred defaults on our line in the past, are currently in
default and anticipate we will
continue to be in default on the line unless we are able to raise sufficient
capital to pay debts and obligations as they become due. Should our financial source not waive the defaults, the
financial source may not advance additional funds.

OUR AUDITOR'S OPINION COULD ADVERSELY AFFECT OUR STOCK PRICE.

KPMG's audit report
is a going concern opinion due to our need to
obtain financing to satisfy forecasted cash requirements and the
uncertainty over our ability to continue as a going concern. This may affect our
stock price and prevent us from obtaining funding.

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OUR RELIANCE ON THIRD PARTY TECHNOLOGIES FOR THE DEVELOPMENT OF THE SSP
SOLUTION SUITE PRODUCTS AND OUR RELIANCE ON THIRD PARTIES FOR MANUFACTURING MAY
DELAY PRODUCT LAUNCH, IMPAIR OUR ABILITY TO DEVELOP AND DELIVER PRODUCTS OR
HURT OUR ABILITY TO COMPETE IN THE MARKET

We have licensed the rights to use a broad array of technology components
from third parties to develop the SSP Solution Suite and we face many risks
associated with our reliance on third parties as follows:



| |  |  | a third party may develop or enable others to develop a similar
solution to digital communication security issues as the SSP Solution
Suite thereby eroding our market share;                                                                                                         
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | dependence on the patent protection of third parties may not
afford us any control over the protection of the technologies we rely
on, and, thus, if the patent protection of any of these third parties
were compromised, our ability to compete in the market would also be
impaired.

OUR INABILITY TO MAINTAIN AND DEVELOP NEW RELATIONSHIPS WITH PARTNERS AND
SUPPLIERS COULD IMPACT OUR ABILITY TO OBTAIN OR SELL OUR PRODUCTS INCLUDING THE
SSP SOLUTION SUITE AND RESULT IN A FAILURE TO GENERATE REVENUES

We plan to obtain certain of our products, have products built to
specifications and sell products through alliance and supplier agreements.
While we will have direct sales channels, we currently anticipate that many of
our products will be sold through alliance and supplier partners. If alliance or supplier agreements are cancelled,
modified or delayed, if alliance or supplier partners decide not to purchase
our products or purchase only limited quantities of our products, or if we are
unable to enter into additional alliance or supplier agreements, our ability to
produce and sell our products and, therefore, our ability to generate revenues,
could be adversely affected.

FAILURE TO LICENSE NEW TECHNOLOGIES COULD IMPAIR OUR NEW PRODUCT DEVELOPMENT

Our SSP Solution Suite is a collection of technologies, some of which are
licensed from our alliance and supplier partners. As a result, our ability to
license new technologies from third parties is and will continue to be critical
to our ability to offer a complete suite of products that meets customer needs
and technological requirements. Some of our licenses do not run for the length
of the patent for the technology. We may not be able to renew our existing
licenses on favorable terms, or at all. If we lose the rights to a patented
technology, we may need to stop selling certain of our products or redesign our
products or lose a competitive advantage. Potential competitors could license
technologies that we fail to license and potentially erode our market share for
certain products.

IF PKI TECHNOLOGY IS COMPROMISED, OUR BUSINESS
WOULD BE ADVERSELY AFFECTED

Many of our products are based on PKI technology. The security afforded by
this technology depends on the integrity of a users private key, which depends
in part, on the application of algorithms, or advanced mathematical factoring
equations. The occurrence of any of the following could result in a decline in
demand for our data security products:



| |  |  | Any significant advance in techniques for attacking PKI systems,
including the development of an easy factoring method or faster, more
powerful computers;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | publicity of the successful decoding of cryptographic messages or the
misappropriation of private keys; and                                               
|
| |  |  | government regulation limiting the use, scope or strength of PKI.                                                                                         

THE COMPANY MAY NOT
HAVE ACCESS TO ADDITIONAL FINANCING.

The financing markets available to the
Company are limited due to a history of poor operating results.
Should financing be available, the funds are expected to be at a
high cost.

SHOULD OUR STATED SHAREHOLDERS' EQUITY FALL BELOW
$10 MILLION AND OUR STOCK PRICE TRADE BELOW $1.00 WE MAY BE DE-LISTED
BY NASDAQ.

The listing
requirement of Nasdaq requires a company to maintain a minimum net
stockholders equity and a minimum trading price. At
December 31, 2001 our shareholders equity was
$17.6 million should our shareholders equity be decreased
by further losses and should our stock price fall below $1.00 Nasdaq
may take step to de-list our stock.

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IF USE OF THE INTERNET AND OTHER COMMUNICATION NETWORKS BASED ON INTERNET
PROTOCOLS DOES NOT CONTINUE TO GROW, DEMAND FOR OUR PRODUCTS MAY NOT INCREASE

Increased demand for our products depends in large part on the continued
growth of the Internet and Internet protocol-based networks and the widespread
acceptance and use of these mediums for electronic commerce and communications.
Because electronic commerce and communications over these networks are
evolving, we cannot predict the size of the market and its sustainable growth
rate. A number of factors may affect market size and growth rate, including:



| |  |  | the use of electronic commerce and communications may not increase,
or may increase more slowly than we expect;                                                                                                                         
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | the Internet infrastructure and communications services to support
electronic commerce may not be able to continue to support the demands
placed on it by continued growth; and                                                         
|
| |  |  | the growth and reliability of electronic commerce and communications
could be harmed by delays in development or adoption of new standards
and protocols to handle increased levels of activity or by increased
governmental regulation.

WE FACE INTENSE COMPETITION FROM A NUMBER OF SOURCES

The markets for our products and services are intensely competitive and,
as a result, we face significant competition from a number of different
sources. We may be unable to compete successfully as many of our competitors
are more established, benefit from greater name recognition and have
substantially greater financial, technical and marketing resources than we
have. In addition, there are several smaller and start-up companies with which
we compete from time to time. We also expect competition to increase as
a result of consolidation in the information security technology and product
reseller industries.

THIRD PARTIES COULD OBTAIN ACCESS TO OUR PROPRIETARY INFORMATION OR
INDEPENDENTLY DEVELOP SIMILAR TECHNOLOGIES BECAUSE OF THE LIMITED PROTECTION
FOR OUR INTELLECTUAL PROPERTY

Our business, financial condition and operating results could be adversely
affected if we are unable to protect our intellectual property rights.
Notwithstanding the precautions we take, third parties may copy or obtain and
use our proprietary technologies, ideas, know-how and other proprietary
information without authorization or independently develop technologies similar
or superior to our technologies. In addition, the confidentiality and
non-competition agreements between us and our employees, distributors and
clients may not provide meaningful protection of our proprietary technologies
or other intellectual property in the event of unauthorized use or disclosure.
Policing unauthorized use of our technologies and other intellectual property
is difficult, particularly because the global nature of the Internet makes it
difficult to control the ultimate destination or security of software or other
data transmitted. Furthermore, the laws of other jurisdictions may afford
little or no effective protection of our intellectual property rights.

IF WE ARE UNABLE TO RAISE ADDITIONAL CAPITAL TO FUND OUR FUTURE OPERATIONS, OUR
BUSINESS WILL BE HARMED

If we are unable to obtain additional capital to fund operations when
needed, our product development efforts would be adversely affected, causing
our business, operating results, financial condition and prospects to be materially harmed. If we undertake or accelerate significant research and
development projects for new products, we may require additional outside
financing. We expect that, to meet our long-term needs, we will need to raise
substantial additional funds through the sale of equity securities or the
incurrence of additional debt or through collaborative arrangements. Any
additional equity financing may be dilutive to stockholders, and debt
financing, if available, may involve restrictive covenants. Collaborative
arrangements, if necessary to raise additional funds, may require us to
relinquish rights to certain technologies, products or marketing territories.
Our failure to raise capital when needed could have a significant negative
effect on our business, operating results, financial condition and prospects.

WE MAY NOT HAVE
ENOUGH CASH AVAILABLE TO CONDUCT OPERATIONS

We have forecast
operations for the year 2002 and project a need for cash in excess
of $10.0 million. While the Company closed a financing of
$5.0 million simultaneously to the filing this Form 10-K, this will not be adequate if
we cannot access our accounts receivable credit line, receive
extended terms from vendors, or raise additional capital. Additionally, if
our sales are less than forecast or expenses higher than forecast, our
cash needs may be higher than our current forecast.

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IF WE DO NOT RESPOND TO RAPID TECHNOLOGICAL CHANGES, OUR PRODUCTS AND SERVICE
OFFERINGS COULD BECOME OBSOLETE

If we are unable to modify existing products and develop new products that
are responsive to changing technology and standards and meet customer needs in
a timely and cost effective manner, our business could be adversely affected.
The markets we serve are characterized by rapidly changing technology, emerging
industry standards and frequent introduction of new products. The introduction
of products embodying new technologies and the emergence of new industry
standards may render our products obsolete or less marketable. The process of
developing our products and services is extremely complex and requires
significant continuing development efforts.

IF WE FAIL TO ESTABLISH AND MAINTAIN STRATEGIC RELATIONSHIPS, OUR ABILITY TO
DEVELOP AND MARKET OUR PRODUCTS WOULD BE ADVERSELY AFFECTED

The loss of any of our existing strategic relationships, or the inability
to create new strategic relationships in the future, could adversely affect our
ability to develop and market our products. We depend upon our partners to
develop and market products and to fund and perform their obligations as
contemplated by our agreements with them. We do not control the time and
resources devoted by our partners to these activities. These relationships may
not continue or may require us to spend significant financial, personnel and
administrative resources from time to time. We may not have the resources
available to satisfy our commitments, which may adversely affect our strategic
relationships. Further, our products and services may compete with the products
and services of our strategic partners. This competition may adversely affect
our relationships with our strategic partners, which could adversely affect our
business.

WE MAY FACE CLAIMS OF INFRINGEMENT OF PROPRIETARY RIGHTS

There is a risk that our products infringe the proprietary rights of third
parties. In addition, whether or not our products infringe on proprietary
rights of third parties, infringement or invalidity claims may be asserted or
prosecuted against us and we could incur significant expense in defending them.
If any claims or actions are asserted against us, we may be required to modify
our products or seek licenses for these intellectual property rights. We may
not be able to modify our products or obtain licenses on commercially
reasonable terms, in a timely manner or at all. Our failure to do so could
adversely affect our business.

A SECURITY BREACH OF OUR INTERNAL SYSTEMS OR THOSE OF OUR CUSTOMERS COULD HARM
OUR BUSINESS

Since we will provide security for Internet and other digital
communication networks, we may become a greater target for attacks by computer
hackers. We will not succeed unless the marketplace is confident that we
provide effective security protection for Internet and other digital
communication networks. Networks protected by our products may be vulnerable to
electronic break-ins. Because the techniques used by computer hackers to access
or sabotage networks change frequently and generally are not recognized until
launched against a target, we may be unable to anticipate these techniques.
Although we have not experienced any act of sabotage or unauthorized access by
a third party of our internal network to date, if an actual or perceived breach
of security for Internet and other digital communication networks occurs in our
internal systems or those of our end-user customers, regardless of whether we
caused the breach, it could adversely affect the market perception of our
products and services. This could cause us to lose customers, resellers,
alliance partners or other business partners.

OUR BUSINESS MAY BE THE TARGET OF CYBER TERRORIST ACTIVITIES, OR OUR REVENUES MAY BE
AFFECTED BY THE AFFECT OF CYBER TERRORIST ACTIVITIES ON OUR CUSTOMERS AND/OR
EMPLOYEES

The full effects of the events on September 11, 2001 have not been
determined. The ripple effects throughout the economy may have an affect on our
potential commercial customers, or their ability to purchase our products and
services. Additionally, because we provide security products to the
United States government, we may be targeted
by cyber terrorist groups for the follow-up activities threatened against the United
States based targets.

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DOING BUSINESS WITH THE U.S. GOVERNMENT ENTAILS MANY RISKS, WHICH COULD
ADVERSELY AFFECT US

Sales to U.S. government agencies accounted for 72% of our consolidated
revenue for the twelve month period ended December 31, 2001. Our sales to these
agencies are subject to risks, including:



| |  |  | early termination of our contracts;                                                                                                                  
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | disallowance of costs upon audit; and                                                                                                                
|
| |  |  | the necessity to participate in competitive bidding and proposal
processes, which is costly, time consuming and may result in
unprofitable contracts.

In addition, the government may be in a position to obtain greater rights
with respect to our intellectual property than we would grant to other
entities. Government agencies also have the power, based on financial
difficulties or investigations of its contractors, to deem contractors
unsuitable for new contract awards. Because we engage in the government
contracting business, we have been and will be subject to audits and may be
subject to investigation by governmental entities. Failure to comply with the
terms of any of our governmental contracts could result in substantial civil
and criminal fines and penalties, as well as our suspension from future
government contracts for a significant period of time, any of which could
adversely affect our business.

OUR QUARTERLY OPERATING RESULTS MAY FLUCTUATE SIGNIFICANTLY

Our quarterly operating results may fluctuate significantly as a result of
a variety of factors, many of which are outside our control. These factors
include:



| |  |  | the length of our customer commitments;                                                                         
| | - |  | ----------------------------------------------------------------------------------------------------------------
|
| |  |  | patterns of information technology spending by customers;                                                       
|
| |  |  | the timing, size, mix and customer acceptance of our product and
service offerings and those of our competitors;
|
| |  |  | the timing and magnitude of required capital expenditures; and                                                  
|
| |  |  | the need to use outside contractors to complete some assignments.                                               

DELAYS IN DELIVERIES FROM OUR SUPPLIERS OR DEFECTS IN GOODS OR COMPONENTS
SUPPLIED BY OUR VENDORS COULD CAUSE REVENUES TO DECLINE AND ADVERSELY AFFECT
OUR OPERATING RESULTS

We rely on a limited number of vendors for certain components for the
products we are developing that will comprise the SSP Solution Suite. If we
are unable to purchase these components, this may delay or prevent product
shipments and result in a loss of sales. In addition, if any components have
undetected flaws, this could lead to unanticipated costs to repair or replace
these parts. This could cause a loss of revenue, which would adversely affect
our results of operations. We may not be able to replace any of our supply
sources on economically

38



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advantageous terms. Further, if we experience price increases for the
components for our products, we will experience declines in our gross margins.

A DEFAULT UNDER OUR SECURED CREDIT ARRANGEMENTS COULD RESULT IN A FORECLOSURE
OF OUR ASSETS BY OUR CREDITORS

All of our assets are pledged as collateral to secure portions of
our debt. This means that if we default on our secured debt obligations, our
indebtedness could become immediately due and payable and the lenders could
foreclose on our assets.

OUR INABILITY TO FIND ALTERNATIVE SUPPLIERS OF COMPONENTS MAY ADVERSELY AFFECT
OUR BUSINESS

Some of the components incorporated into our products are produced by
other vendors. We currently purchase some of these components from a single
supplier, thus presenting a risk that they may not be available on commercially
reasonable terms in the future or at all. Our inability to develop alternative
sources, if necessary, may require us to re-design certain products, which
could result in delays or reductions in product shipments that could adversely
affect our business.

WE DEPEND ON KEY MANAGEMENT PERSONNEL

Our success will depend largely on the continuing efforts of our executive
officers and senior management. Our business may be adversely affected if the
services of any of our key personnel become unavailable to us. There is a risk
that these individuals will not continue to serve for any particular period of
time. While we have obtained a key person life insurance policy on the life of
Kris Shah, our Co-Chairman and Co-Chief Executive officer in the
amount of $3.0 million, this amount may not be sufficient to offset the loss of
his service. We have not yet obtained any such policies on the lives of our
other key executives.

THERE IS SIGNIFICANT COMPETITION IN OUR INDUSTRY FOR HIGHLY SKILLED EMPLOYEES
AND OUR FAILURE TO ATTRACT AND RETAIN TECHNICAL PERSONNEL WOULD ADVERSELY
AFFECT OUR BUSINESS

We may not be able to attract or retain highly skilled employees. Our
inability to hire or retain highly qualified individuals may impede our ability
to develop, install, implement and service our software and hardware systems,
customers and potential customers or efficiently conduct our operations, all of
which may adversely affect our business. The data security and networking
solution industries are characterized by a high level of employee mobility, and
the market for highly qualified individuals in the computer-related fields is
intense. This competition means there are fewer highly qualified employees
available to hire and the costs of hiring and retaining these individuals are
high. Even if we are able to hire these individuals, we may be unable to retain
them. Furthermore, there is increasing pressure to provide technical employees
with stock options and other equity interests, which may dilute earnings per
share.

POTENTIAL PRODUCT DEFECTS COULD SUBJECT US TO CLAIMS FROM CUSTOMERS

Products as complex as those we offer may contain undetected errors or
result in failures when first introduced or when new versions are released.
Despite our product testing efforts and testing by current and potential
customers, it is possible that errors will be found in new products or
enhancements after commencement of commercial shipments. The occurrence of
product defects or errors could result in adverse publicity, delay in product
introduction, diversion of resources to remedy defects, loss of or a delay in
market acceptance, claims by customers against us, or could cause us to incur
additional costs, any of which could adversely affect our business.

WE MAY BE EXPOSED TO POTENTIAL LIABILITY FOR ACTUAL OR PERCEIVED FAILURE TO
PROVIDE REQUIRED PRODUCTS OR SERVICES

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Because our customers rely on our products for critical security
applications, we may be exposed to potential liability claims for damage caused
to an enterprise as a result of an actual or perceived failure of our products.
An actual or perceived breach of enterprise network or data security systems of
one of our customers, regardless of whether the breach is attributable to our
products or solutions, could adversely affect our business reputation.

Furthermore, our failure or inability to meet a customers expectations in
the performance of our services, or to do so in the time frame required by the
customer, regardless of our responsibility for the failure, could:



| |  |  | result in a claim for substantial damages against us by the customer;
| | - |  | ---------------------------------------------------------------------
|
| |  |  | discourage customers from engaging us for these services; and        
|
| |  |  | damage our business reputation.                                      

In addition, as a professional services provider, a portion of our
business involves employing people and placing them in the workplace of other
businesses. Therefore, we are also exposed to liability for actions taken by
our employees while on assignment.

OUR EFFORTS TO EXPAND INTERNATIONAL OPERATIONS ARE SUBJECT TO A NUMBER OF RISKS

We are currently seeking to increase our international sales. Our
inability to maintain or to obtain federal or foreign regulatory approvals
relating to the import or export of our products on a timely basis could
adversely affect our ability to expand our international business.
Additionally, our international operations could be subject to a number of
risks, any of which could adversely affect our future international sales,
including:



| |  |  | increased collection risks;                                   
| | - |  | --------------------------------------------------------------
|
| |  |  | trade restrictions;                                           
|
| |  |  | export duties and tariffs;                                    
|
| |  |  | uncertain political, regulatory and economic developments; and
|
| |  |  | inability to protect our intellectual property rights.        

OUR ABILITY TO PRODUCE THE FORTÉ PKI CARD ON A TIMELY AND COST-EFFECTIVE BASIS
DEPENDS ON THE AVAILABILITY OF A COMPUTER CHIP FROM A THIRD-PARTY SUPPLIER,
WITH WHOM WE DO NOT EXPECT TO MAINTAIN A SUPPLY AGREEMENT

Any inability to receive adequate supplies of Atmel Corporations
specially designed Forté microprocessor would adversely affect our ability to
sell the Forté PKI card. We do not anticipate maintaining a supply
agreement with Atmel Corporation for the Forté microprocessor. If Atmel were
unable to deliver the Forté microprocessor for a lengthy period of time or
terminated its relationship with us, we would be unable to produce
the Forté
PKI card until we could design a replacement computer chip for the
Forté
microprocessor. We anticipate this would take substantial time and resources to
complete.

THERE ARE LAWSUITS PENDING AGAINST US AND OUR WHOLLY-OWNED SUBSIDIARY, PULSAR,
WHICH, IF RESOLVED AGAINST EITHER US OR PULSAR, COULD ADVERSELY AFFECT OUR
BUSINESS

During the second
quarter of 2001 Microsoft notified the Company regarding
the alleged sales
of unlicensed copies of Microsoft Office. The software in question was
purchased from a major computer hardware manufacturer and was resold to one of
our customers in a package that included both hardware and software. We are
currently investigating the matter, and do not anticipate that the outcome will
have a material impact on our results of operations, financial condition or
liquidity.

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In addition, there is a lawsuit pending against Pulsar which, if resolved
against Pulsar, could materially and adversely affect our financial condition.
This suit was brought by G2 Resources, Inc. alleging breach of contract by
Pulsar. This suit was dismissed but G2 Resources has refiled the
suit. Dell Marketing LLC has filed suit to collect approximately $322,000 owed for
equipment purchased for re-sale through Pulsar.

WE HAVE ANTI-TAKEOVER DEFENSES THAT COULD DELAY OR PREVENT AN ACQUISITION AND
COULD ADVERSELY AFFECT THE PRICE OF OUR COMMON STOCK

Our certificate of incorporation and bylaws contain provisions that may
deter a takeover or a change in control or prevent an acquisition not approved
by our board of directors, or that may adversely affect the price of our common
stock.

GOVERNMENTAL REGULATIONS AFFECTING SECURITY OF INTERNET AND OTHER DIGITAL
COMMUNICATION NETWORKS COULD LIMIT THE MARKET FOR OUR PRODUCTS AND SERVICES

The United States and other foreign governments have imposed controls,
export license requirements and restrictions on the import or export of some
technologies, including encryption technology. Any additional governmental
regulation of imports or exports or failure to obtain required export approval
of our encryption technologies could delay or prevent the acceptance and use of
encryption products and public networks for secure communications and could
limit the market for our products and services. In addition, some foreign
competitors are subject to less rigorous controls on exporting their encryption
technologies and, as a result, they may be able to compete more effectively
than us in the United States and in international security markets for Internet
and other digital communication networks. In addition, certain governmental
agencies, such as the Federal Communications Commission, periodically issue
regulations governing the conduct of business in telecommunications markets
that may negatively affect the telecommunications industry and us.

A SMALL NUMBER OF STOCKHOLDERS, WHO INCLUDE CERTAIN OF OUR OFFICERS AND
DIRECTORS, HAVE THE ABILITY TO CONTROL STOCKHOLDER VOTES

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Kris Shah, Marvin Winkler, their affiliates and certain family members
own, in the aggregate, approximately 60.0% of our outstanding common stock.
These stockholders, if acting together, have the ability to elect our directors
and to determine the outcome of corporate actions requiring stockholder
approval, irrespective of how our other stockholders may vote. This
concentration of ownership may also have the effect of delaying or preventing a
change in control of our company.

RISKS RELATED TO THE AQUISITION

THE ANTICIPATED BENEFITS OF THE AQUISITION MAY NOT BE REALIZED

The anticipated benefits of the Aquisition may not be realized due to a
number of factors. For example:



| |  |  | The anticipated management synergies and operational efficiencies of
the Aquisition may not be realized.                     
| | - |  | -----------------------------------------------------------------------------------------------------------------------------
|
| |  |  | The anticipated increase in sales resulting from the combined efforts
and combined distribution channels may not be realized.

WE MAY NOT SUCCESSFULLY INTEGRATE OUR BUSINESS WITH BIZ, WHICH COULD HARM
FUTURE EARNINGS

As a result of the Aquisition, we face challenges in integrating our
products and services with those of BIZ and this may continue for some time.
The integration might not be smooth or successful. The integration of certain
operations requires the dedication of management resources, which may
temporarily distract managements attention from the day-to-day business of the
combined company. The business of the combined company may also be disrupted by
employee uncertainty and lack of focus during the integration. If this occurs,
the anticipated advantages from the Aquisition could be undermined and our
business, financial condition and results of operations could be adversely
impacted.

OUR INABILITY TO INTEGRATE OUR MANAGEMENT TEAM WITH BIZS MANAGEMENT TEAM MAY
ADVERSELY AFFECT OUR ABILITY TO REALIZE THE EXPECTED BENEFITS OF THE
AQUISITION

The success of the recent Aquisition depends, in part, on our ability to
unite the members of our respective management teams. Combining management from
BIZ and our company has resulted in changes that affect all employees and
operations. Differences in corporate cultures, strategies and management
philosophies may strain employee relations. Additionally, if we encounter
difficulties in integrating our management teams, our ability to realize the
expected benefits from the Aquisition, including management synergies,
operational efficiencies and increased sales, could be adversely affected.

UNANTICIPATED COSTS RELATING TO THE RECENT AQUISITION COULD REDUCE
OUR FUTURE EARNINGS

We believe that we reasonably estimated the likely costs of integrating
our operations with the operations of BIZ and the incremental costs of
operating as a combined company. It is possible, however, that unexpected
transaction costs, such as taxes, fees or professional expenses, or unexpected
future operating expenses, such as increased personnel costs, as well as other
types of unanticipated developments, could adversely impact our business and
profitability.

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AQUISITION-RELATED ACCOUNTING CHARGES MAY DELAY OR REDUCE OUR PROFITABILITY

We have accounted for the acquisition of BIZ as a purchase. Under the
purchase method of accounting, the purchase price of BIZ is allocated to the
fair value of the identifiable tangible and intangible assets and liabilities
that we acquired from BIZ. The excess of the purchase price over BIZs tangible
net assets results in intangible assets for us that will have to be amortized
over their useful lives with the exception of goodwill based on the adoption of
SFAS 142 in the first quarter of 2002. In addition, we incurred an in-process research and development
charge of $1.6 million in connection with our recent acquisition of BIZ. As a
result, we will incur accounting charges from the Aquisition that may delay and
reduce our profitability. We also incurred charges of
$36.3 million to record the impairment in value of assets acquired.

RECENTLY ISSUED FASB STATEMENTS REQUIRE US TO EVALUATE THE FAIR VALUES OF
INTANGIBLE ASSETS AND GOODWILL THAT WE ACQUIRED IN THE AQUISITION THAT COULD
RESULT IN SIGNIFICANT CHARGES TO OUR EARNINGS AND MAY ADVERSELY AFFECT THE
MARKET PRICE OF OUR COMMON STOCK

In July 2001, the Financial Accounting Standards Board (FASB) issued
Statement 141, Business Combinations, and Statement 142, Goodwill and Other
Intangible Assets. The changes included in these statements require companies
to perform impairment tests on goodwill and certain intangibles using a fair
value approach rather than allowing companies to amortize goodwill and certain
intangibles over their estimated useful lives. We are now required to evaluate
periodically whether intangible assets and goodwill that we acquired in the
Aquisition have fair values that meet or exceed the amounts recorded on our
balance sheet. We cannot predict whether or when there will be an impairment
charge, or the amount of such charge, if any. However, if the charge is
significant, it could cause the market price of our common stock to decline. In
addition, adoption of the SFAS 142 will eliminate recurring amortization
charges that would remove certain intangible assets and goodwill from our
balance sheet, and such amounts will remain permanently on our balance sheet
unless future evaluations require us to record impairment charges.

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Item 7a.Quantitative and Qualitative Disclosures about Market Risk

We own Class A common stock of Wave Systems Corp., which is classified as
trading securities. The stock is listed on the Nasdaq National Market. The
increase or decrease in value of the stock is included in our statement of
operations together with the gain or loss on sales of the stock.




Item 8.Financial Statements and Supplementary Data

Reference is made to the financial statements included in this Report at
pages F-1 through F-30.




Item 9.Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure

Not Applicable.

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PART III




Item 10.Directors and Executive Officers of the Registrant

The information required by this item is incorporated by reference to the
section entitled Directors and Executive Officers in our Proxy Statement for
our 2002 Annual Meeting of Stockholders.




Item 11.Executive Compensation

The information required by this item is incorporated by reference to the
section entitled Executive Compensation in our Proxy Statement for our 2002
Annual Meeting of Stockholders.




Item 12.Security Ownership of Certain Beneficial Owners and Management

The information required by this item is incorporated by reference to the
section entitled Security Ownership of Certain Beneficial Owners and
Management in our Proxy Statement for our 2002 Annual Meeting of Stockholders.




Item 13.Certain Relationships and Related Transactions

The information required by this item is incorporated by reference to the
section entitled Certain Relationships and Related Transactions in our Proxy
Statement for our 2002 Annual Meeting of Stockholders.




PART IV




Item 14.Exhibits, Financial Statement Schedules, and Reports on Form 8-K



|(a)(1) |  | Financial statements The financial statements listed in the accompanying
index to consolidated financial statements and financial statement
schedules are filed or incorporated by reference as part of this annual
report.                               
|------ |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|      
|(2)    |  | Financial statement schedules The financial statement schedule listed
in the accompanying index to consolidated financial statements and
financial statement schedules, is filed as part of this annual report.                                           
|      
|(3)    |  | Exhibits                                                                                                                                                                                                                                                  
|      
|       |  | The exhibits listed in the accompanying index to exhibits are filed or
incorporated by reference as part of this annual report.                                                                                                                           
|      
|(b)    |  | Reports on Form 8-K                                                                                                                                                                                                                                       
|      
|       |  | On November 6, 2001 we filed an amendment on Form 8-K/A to our current
report on Form 8-K that was previously filed on September 7, 2001. The
purpose of this amendment was to file the pro forma financial information
required by Item 7(b) of Form 8-K.

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.

|                      |                     | 
|--------------------- | ------------------- | 
|Dated: April 16, 2002 | SSP Solutions, Inc.



| |  |     |  |                                                                   
| |  | --- |  | ------------------------------------------------------------------
| |  | By: |  | /s/ MARVIN J.
WINKLER
Marvin J. Winkler
Co-Chief Executive Officer



| |  |     |  |                                                   
| |  | --- |  | --------------------------------------------------
| |  | By: |  | /s/ KRIS
SHAH
Kris Shah
Co-Chief Executive Officer

Pursuant to the requirements of the Securities Act of 1934, this report is
made by the following persons on behalf of the Registrant and in the capacities
indicted.

|                                        |  |                                                                                                                     |  |               
|--------------------------------------- |  | ------------------------------------------------------------------------------------------------------------------- |  | --------------
|Name                                    |  | Title                                                                                                               |  | Date          
|                                        |  |                                                                                                                     |  |               
|                                       
|/s/ MARVIN J. WINKLER
Marvin J. Winkler |  | Co-Chairman of the Board and Co-Chief
Executive Officer (Principal Executive
Officer)                               |  | April 16, 2002
|                                       
|/s/ KRIS SHAH
Kris Shah                 |  | Co-Chairman of the Board and Co-Chief
Executive Officer (Principal Executive
Officer)                               |  | April 16, 2002
|                                       
|/s/ THOMAS E. SCHIFF
Thomas E. Schiff   |  | Executive Vice President and Chief Financial
Officer (Principal Financial Officer and
Principal Accounting Officer) |  | April 16, 2002
|                                       
|/s/ GREGG AMBER
Gregg Amber             |  | Director                                                                                                            |  | April 16, 2002
|                                       
|/s/ MATTHEW MEDEIROS
Matthew Medeiros   |  | Director                                                                                                            |  | April 16, 2002
|                                       

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SSP SOLUTIONS, INC. AND SUBSIDIARIES

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULE

|                                                                                                     |  |      |     | 
|---------------------------------------------------------------------------------------------------- |  | ---- | --- | 
|                                                                                                     |  | Page
|                                                                                                     |  |     
|Independent Auditors Report                                                                         |  |      | F-2 | 
|Consolidated Balance Sheets as of December 31, 2000 and 2001                                         |  |      | F-3 | 
|Consolidated Statements of Operations for the years ended December 31, 1999, 2000 and 2001           |  |      | F-4 | 
|Consolidated Statements of Shareholders Equity for the years ended December 31, 1999, 2000 and 2001 |  |      | F-5 | 
|Consolidated Statements of Cash Flows for the years ended December 31, 1999, 2000 and 2001           |  |      | F-6 | 
|Notes to Consolidated Financial Statements                                                           |  |      | F-7 | 
|Schedule II  Valuation and qualifying accounts                                                      |  |      | S-1 | 

F-1



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INDEPENDENT AUDITORS REPORT

The Board of Directors
SSP Solutions, Inc.:

We have audited the accompanying consolidated financial statements of SSP
Solutions, Inc. and subsidiaries (formerly Litronic Inc.) as of December 31, 2000 and 2001 and for each
of the years in the three-year period ended December 31, 2001 as listed in the
accompanying index. In connection with our audit of the financial statements,
we also have audited the financial statement schedule as listed in the
accompanying index. These consolidated financial statements and financial
statement schedule are the responsibility of the Companys management. Our
responsibility is to express an opinion on these consolidated financial
statements and financial statement schedule based on our audits.

We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above,
present fairly, in all material respects, the financial position of SSP
Solutions, Inc. and subsidiaries as of December 31, 2000 and 2001 and the
results of its operations and its cash flows for each of the years in the
three-year period ended December 31, 2001, in conformity with accounting
principles generally accepted in the United States of America. Also
in our opinion, the related financial statement schedule, when
considered in relation to the basic consolidated financial statements
taken as a whole, presents fairly, in all material respects, the
information set forth therein.

The accompanying consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. As discussed in
Note 3 to the consolidated financial statements, the Company has incurred significant operating losses, has used cash in operating
activities, has an accumulated deficit and deficit working capital. These
matters raise substantial doubt about its ability to continue as a going
concern. Managements plans in regard to these matters are also described in
Note 3. The consolidated financial statements do not
include any adjustments that might result from the outcome of this uncertainty.

| |  |     |  |         
| |  | --- |  | --------
| |  | /s/ |  | KPMG LLP

Costa Mesa, California
April 16, 2002

F-2



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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)

|                                                                                                                                                                 |                           |                            |                   |                      |       |              |         |        |        |        |        | 
|---------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------- | -------------------------- | ----------------- | -------------------- | ----- | ------------ | ------- | ------ | ------ | ------ | ------ | 
|                                                                                                                                                                 |                           |                            |                   |                      |       | December 31,
|                                                                                                                                                                 |                           |                            |                   |                      |       |             
|                                                                                                                                                                 |                           |                            |                   |                      |       | 2000         |         | 2001  
|                                                                                                                                                                 |                           |                            |                   |                      |       |              |         |       
|ASSETS                                                                                                                                                           |                           |                            |                   |                      |       |              |         |       
|Current assets:                                                                                                                                                  |                           |                            |                   |                      |       |              |         |       
|Cash and cash equivalents                                                                                                                                        |                           | $                          | 4,120             |                      |       | $            | 3,257   |       
|Investment in trading securities                                                                                                                                 |                           |                            |                  |                      |       |              | 1,360   |       
|Accounts receivable (net of allowance for doubtful accounts of
$268 and $254 as of December 31, 2000 and 2001, respectively)                                     |                           |                            | 4,137             |                      |       |              | 4,358   |       
|Inventories                                                                                                                                                      |                           |                            | 695               |                      |       |              | 436     |       
|Prepaid expenses                                                                                                                                                 |                           |                            | 542               |                      |       |              | 601     |       
|Other current assets                                                                                                                                             |                           |                            | 325               |                      |       |              | 401     |       
|                                                                                                                                                                 |                           |                            |                   |                      |       |              |         |       
|                                                                                                                                                                 |                           |                            |                   | Total current assets |       |              | 9,819   |        |        |        | 10,413 | 
|Property and equipment, net                                                                                                                                      |                           |                            | 823               |                      |       |              | 361     |       
|Other assets                                                                                                                                                     |                           |                            | 343               |                      |       |              | 28      |       
|Goodwill and other intangibles, net                                                                                                                              |                           |                            | 783               |                      |       |              | 26,621  |       
|                                                                                                                                                                 |                           |                            |                   |                      |       |              |         |       
|                                                                                                                                                                 |                           | $                          | 11,768            |                      |       | $            | 37,423  |       
|                                                                                                                                                                 |                           |                            |                   |                      |       |              |         |       
|LIABILITIES AND SHAREHOLDERS EQUITY                                                                                                                             |                           |                            |                   |                      |       |              |         |       
|Current liabilities:                                                                                                                                             |                           |                            |                   |                      |       |              |         |       
|Current installments of long-term debt                                                                                                                           |                           | $                          | 1,986             |                      |       | $            | 1,695   |       
|Accounts payable                                                                                                                                                 |                           |                            | 1,337             |                      |       |              | 9,495   |       
|Accrued liabilities                                                                                                                                              |                           |                            | 1,366             |                      |       |              | 3,343   |       
|Notes payable to related party                                                                                                                                   |                           |                            |                  |                      |       |              | 392     |       
|Deferred revenue                                                                                                                                                 |                           |                            | 217               |                      |       |              | 203     |       
|Accrued rent                                                                                                                                                     |                           |                            | 55                |                      |       |              | 1,064   |       
|                                                                                                                                                                 |                           |                            |                   |                      |       |              |         |       
|                                                                                                                                                                 | Total current liabilities |                            |                   | 4,961                |       |              |         | 16,192 |       
|Long-term debt, less current installments                                                                                                                        |                           |                            | 19                |                      |       |              | 2,500   |       
|Deferred revenue                                                                                                                                                 |                           |                            | 240               |                      |       |              | 46      |       
|Accrued rent, less current                                                                                                                                       |                           |                            |                  |                      |       |              | 1,107   |       
|                                                                                                                                                                 |                           |                            |                   |                      |       |              |         |       
|                                                                                                                                                                 |                           |                            | Total liabilities |                      |       | 5,220        |         |        |        | 19,845 |       
|Shareholders equity:                                                                                                                                            |                           |                            |                   |                      |       |              |         |       
|Preferred stock, $0.01 par value; Authorized 5,000,000 shares;
no shares issued or outstanding                                                                   |                           |                            |                  |                      |       |              |        |       
|Common stock, $0.01 par value; Authorized 100,000,000 shares; issued and outstanding 9,743,573
and 20,630,754 shares at December 31, 2000 and 2001, respectively |                           |                            | 97                |                      |       |              | 206     |       
|Additional paid-in capital                                                                                                                                       |                           |                            | 52,834            |                      |       |              | 118,608 |       
|Note
receivable from shareholder                                                                                                                                 |                           |                            |                  |                      |       |              | (500    | )     
|Deferred compensation                                                                                                                                            |                           |                            |                  |                      |       |              | (1,193  | )     
|Accumulated deficit                                                                                                                                              |                           |                            | (46,383           | )                    |       |              | (99,543 | )     
|                                                                                                                                                                 |                           |                            |                   |                      |       |              |         |       
|                                                                                                                                                                 |                           | Total shareholders equity |                   |                      | 6,548 |              |         |        | 17,578 |       
|                                                                                                                                                                 |                           |                            |                   |                      |       |              |         |       
|Commitments and contingencies (notes 13 and 18)                                                                                                                  |                           |                            |                   |                      |       |              |         |       
|Subsequent
events ( note 19 )                                                                                                                                    |                           | $                          | 11,768            |                      |       | $            | 37,423  |       
|                                                                                                                                                                 |                           |                            |                   |                      |       |              |         |       

See accompanying notes to consolidated financial statements

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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except share and per share data)

|                                                        |                                                |                |           |                          |        |      |           |        |        |   |            |        |        | 
|------------------------------------------------------- | ---------------------------------------------- | -------------- | --------- | ------------------------ | ------ | ---- | --------- | ------ | ------ | - | ---------- | ------ | ------ | 
|                                                        |                                                |                |           | Years Ended December 31,
|                                                        |                                                |                |           |                         
|                                                        |                                                |                |           | 1999                     |        | 2000 |           | 2001  
|                                                        |                                                |                |           |                          |        |      |           |       
|Revenues:                                               |                                                |                |           |                          |        |      |           |        |        |   |            |       
|                                                        | Product                                        |                | $         | 29,587                   |        |      | $         | 37,421 |        |   | $          | 21,145 |       
|                                                        | License and service                            |                |           | 1,270                    |        |      |           | 1,935  |        |   |            | 1,575  |       
|                                                        | Research and development                       |                |           | 798                      |        |      |           |       |        |   |            |       |       
|                                                        |                                                |                |           |                          |        |      |           |        |        |   |            |       
|                                                        |                                                | Total revenues |           |                          | 31,655 |      |           |        | 39,356 |   |            |        | 22,720 | 
|                                                        |                                                |                |           |                          |        |      |           |        |        |   |            |       
|Costs and expenses:                                     |                                                |                |           |                          |        |      |           |        |        |   |            |       
|                                                        | Cost of sales  product                        |                |           | 25,478                   |        |      |           | 30,481 |        |   |            | 17,457 |       
|                                                        | Cost of sales  license and service            |                |           | 590                      |        |      |           | 679    |        |   |            | 537    |       
|                                                        | Selling, general and administrative            |                |           | 7,194                    |        |      |           | 9,559  |        |   |            | 10,645 |       
|                                                        | Research and development                       |                |           | 3,906                    |        |      |           | 5,800  |        |   |            | 7,850  |       
|                                                        | Impairment of goodwill and other intangibles   |                |           |                         |        |      |           | 31,415 |        |   |            | 36,299 |       
|                                                        | Amortization of goodwill and other intangibles |                |           | 1,448                    |        |      |           | 2,828  |        |   |            | 746    |       
|                                                        | In-process research and development            |                |           |                         |        |      |           |       |        |   |            | 1,600  |       
|                                                        |                                                |                |           |                          |        |      |           |        |        |   |            |       
|Operating loss                                          |                                                |                | (6,961    | )                        |        |      | (41,406   | )      |        |   | (52,414    | )     
|Other (income) expense, net                             |                                                |                | 168       |                          |        |      | (7        | )      |        |   | 693        |       
|                                                        |                                                |                |           |                          |        |      |           |        |        |   |            |       
|Loss before income taxes                                |                                                |                | (7,129    | )                        |        |      | (41,399   | )      |        |   | (53,107    | )     
|Provision for (benefit from) income taxes               |                                                |                | (43       | )                        |        |      | 6         |        |        |   | 53         |       
|                                                        |                                                |                |           |                          |        |      |           |        |        |   |            |       
|Net loss                                                |                                                | $              | (7,086    | )                        |        | $    | (41,405   | )      |        | $ | (53,160    | )     
|                                                        |                                                |                |           |                          |        |      |           |        |        |   |            |       
|Net loss per sharebasic and diluted                    |                                                | $              | (1.00     | )                        |        | $    | (4.20     | )      |        | $ | (3.91      | )     
|                                                        |                                                |                |           |                          |        |      |           |        |        |   |            |       
|Shares used in per share computationsbasic and diluted |                                                |                | 7,055,882 |                          |        |      | 9,862,472 |        |        |   | 13,585,202 |       
|                                                        |                                                |                |           |                          |        |      |           |        |        |   |            |       

See accompanying notes to consolidated financial statements

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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY
(In thousands)

|                                                                                                                                                                            |  |              |        |            |  |            |     |             |  |              |         |         |  |           |      |               |  |   |        |   |  |   |         |       |  |   |         |  
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------ | ------ | ---------- |  | ---------- | --- | ----------- |  | ------------ | ------- | ------- |  | --------- | ---- | ------------- |  | - | ------ | - |  | - | ------- | ----- |  | - | ------- | -
|                                                                                                                                                                            |  |              |        |            |  |            |     |             |  |              |         |         |  | Note      |      |               |  |   |        |   |  |   |         | Total
|                                                                                                                                                                            |  | Common Stock |        | Additional |  | Receivable |     |             |  |              |         |         |  |           |      | Shareholders'
|                                                                                                                                                                            |  |              |        | Paid in    |  | from       |     | Deferred    |  | Accumulated  |         | Equity 
|                                                                                                                                                                            |  | Shares       |        | Amount     |  | Capital    |     | Shareholder |  | Compensation |         | Deficit |  | (Deficit)
|                                                                                                                                                                            |  |              |        |            |  |            |     |             |  |              |         |         |  |          
|Balance, December 31, 1998                                                                                                                                                  |  |              | 3,871  |            |  | $          | 39  |             |  | $            |        |         |  | $         |     |               |  | $ |       |   |  | $ | (4,246  | )     |  | $ | (4,207  | )
|Proceeds from sale of common stock,
net of issuance costs of $5,426                                                                                                         |  |              | 3,700  |            |  |            | 37  |             |  |              | 35,237  |         |  |           |     |               |  |   |       |   |  |   |        |       |  |   | 35,274  |  
|Common stock issued in connection
with the acquisition of Pulsar                                                                                                            |  |              | 2,170  |            |  |            | 22  |             |  |              | 23,848  |         |  |           |     |               |  |   |       |   |  |   |        |       |  |   | 23,870  |  
|Change from Subchapter S
Corporation
to C Corporation                                                                                                                       |  |              |       |            |  |            |    |             |  |              | (6,354  | )       |  |           |     |               |  |   |       |   |  |   | 6,354   |       |  |   |        |  
|Stock options exercised                                                                                                                                                     |  |              | 116    |            |  |            | 1   |             |  |              | 81      |         |  |           |     |               |  |   |       |   |  |   |        |       |  |   | 82      |  
|Net loss                                                                                                                                                                    |  |              |       |            |  |            |    |             |  |              |        |         |  |           |     |               |  |   |       |   |  |   | (7,086  | )     |  |   | (7,086  | )
|                                                                                                                                                                            |  |              |        |            |  |            |     |             |  |              |         |         |  |           |      |               |  |   |        |   |  |   |         |       |  |   |         |  
|Balance, December 31, 1999                                                                                                                                                  |  |              | 9,857  |            |  |            | 99  |             |  |              | 52,812  |         |  |           |     |               |  |   |       |   |  |   | (4,978  | )     |  |   | 47,933  |  
|Stock options exercised                                                                                                                                                     |  |              | 28     |            |  |            |    |             |  |              | 20      |         |  |           |     |               |  |   |       |   |  |   |        |       |  |   | 20      |  
|Treasury stock retired                                                                                                                                                      |  |              | (141   | )          |  |            | (2  | )           |  |              | 2       |         |  |           |     |               |  |   |       |   |  |   |        |       |  |   |        |  
|Net loss                                                                                                                                                                    |  |              |       |            |  |            |    |             |  |              |        |         |  |           |     |               |  |   |       |   |  |   | (41,405 | )     |  |   | (41,405 | )
|                                                                                                                                                                            |  |              |        |            |  |            |     |             |  |              |         |         |  |           |      |               |  |   |        |   |  |   |         |       |  |   |         |  
|Balance, December 31, 2000                                                                                                                                                  |  |              | 9,744  |            |  |            | 97  |             |  |              | 52,834  |         |  |           |     |               |  |   |       |   |  |   | (46,383 | )     |  |   | 6,548   |  
|Common
shares issued, warrants, and options assumed deferred stock
compensation, and note receivable from shareholder
for acquisition of
Biz Interactive Zone, Inc. (BIZ) |  |              | 10,875 |            |  |            | 109 |             |  |              | 65,807  |         |  |           | (500 | )             |  |   | (1,471 | ) |  |   |        |       |  |   | 63,945  |  
|Deferred
compensation related to issuance of stock options                                                                                                                  |  |              |       |            |  |            |    |             |  |              | 122     |         |  |           |     |               |  |   | (122   | ) |  |   |        |       |  |   |        |  
|Reversal of deferred compensation
related to terminated employees                                                                                                           |  |              |       |            |  |            |    |             |  |              | (201    | )       |  |           |     |               |  |   | 201    |   |  |   |        |       |  |   |        |  
|Amortization of deferred stock
compensation                                                                                                                                 |  |              |       |            |  |            |    |             |  |              |        |         |  |           |     |               |  |   | 199    |   |  |   |        |       |  |   | 199     |  
|Common stock issued for services                                                                                                                                            |  |              | 8      |            |  |            |    |             |  |              | 36      |         |  |           |     |               |  |   |       |   |  |   |        |       |  |   | 36      |  
|Stock options exercised                                                                                                                                                     |  |              | 4      |            |  |            |    |             |  |              | 3       |         |  |           |     |               |  |   |       |   |  |   |        |       |  |   | 3       |  
|Stock options issued for services                                                                                                                                           |  |              |       |            |  |            |    |             |  |              | 7       |         |  |           |     |               |  |   |       |   |  |   |        |       |  |   | 7       |  
|Net loss                                                                                                                                                                    |  |              |       |            |  |            |    |             |  |              |        |         |  |           |     |               |  |   |       |   |  |   | (53,160 | )     |  |   | (53,160 | )
|                                                                                                                                                                            |  |              |        |            |  |            |     |             |  |              |         |         |  |           |      |               |  |   |        |   |  |   |         |       |  |   |         |  
|Balance, December 31, 2001                                                                                                                                                  |  |              | 20,631 |            |  |            | 206 |             |  |              | 118,608 |         |  |           | (500 | )             |  |   | (1,193 | ) |  |   | (99,543 | )     |  |   | 17,578  |  
|                                                                                                                                                                            |  |              |        |            |  |            |     |             |  |              |         |         |  |           |      |               |  |   |        |   |  |   |         |       |  |   |         |  

See accompanying notes to
consolidated financial statements.

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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)

|                                                                            |                                              |  |   |        |                          |  |      |         |      |  |   |         |   |  | 
|--------------------------------------------------------------------------- | -------------------------------------------- |  | - | ------ | ------------------------ |  | ---- | ------- | ---- |  | - | ------- | - |  | 
|                                                                            |                                              |  |   |        | Years Ended December 31,
|                                                                            |                                              |  |   |        |                         
|                                                                            |                                              |  |   |        | 1999                     |  | 2000 |         | 2001
|                                                                            |                                              |  |   |        |                          |  |      |         |     
|Cash flows from operating activities:                                       |                                              |  |   |        |                          |  |      |         |      |  |   |        
|                                                                            | Net loss                                     |  | $ | (7,086 | )                        |  | $    | (41,405 | )    |  | $ | (53,160 | )
|Adjustments to reconcile net loss to net cash used in operating activities: |                                              |  |   |        |                          |  |      |         |      |  |   |        
|                                                                            | Provision for losses on receivables          |  |   | 327    |                          |  |      | 286     |      |  |   | 401     |  
|                                                                            | Impairment of goodwill and other intangibles |  |   |       |                          |  |      | 31,415  |      |  |   | 36,299  |  
|                                                                            | Depreciation and amortization                |  |   | 1,803  |                          |  |      | 3,514   |      |  |   | 1,450   |  
|                                                                            | In process research and development          |  |   |       |                          |  |      |        |      |  |   | 1,600   |  
|                                                                            | Deferred compensation                        |  |   |       |                          |  |      |        |      |  |   | 199     |  
|                                                                            | Realized loss on trading securities          |  |   |       |                          |  |      |        |      |  |   | 530     |  
|                                                                            | Stock
and options issued for services        |  |   |       |                          |  |      |        |      |  |   | 43      |  
|Changes in assets and liabilities net of effects of the acquisition:        |                                              |  |   |        |                          |  |      |         |      |  |   |        
|                                                                            | Accounts receivable                          |  |   | (1,823 | )                        |  |      | 2,718   |      |  |   | (622    | )
|                                                                            | Inventories                                  |  |   | (64    | )                        |  |      | 101     |      |  |   | 259     |  
|                                                                            | Prepaid expenses                             |  |   | (303   | )                        |  |      | (182    | )    |  |   | (59     | )
|                                                                            | Other current assets                         |  |   | (8     | )                        |  |      | 18      |      |  |   | (536    | )
|                                                                            | Notes receivable  related party             |  |   | (70    | )                        |  |      | 70      |      |  |   |        |  
|                                                                            | Other assets                                 |  |   | 332    |                          |  |      | (343    | )    |  |   | 410     |  
|                                                                            | Accounts payable                             |  |   | (3,964 | )                        |  |      | 142     |      |  |   | 6,275   |  
|                                                                            | Accrued liabilities                          |  |   | (556   | )                        |  |      | (376    | )    |  |   | 2,448   |  

F-6



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##### Table of Contents



|                                                                                                                                                                                                                     |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |         |        |     | 
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ---------------------------------------------------------------------------------- | ---------------------------------------------------------- | ------------ | ------- | ------- | --- | ------ | ------- | ---- | -- | ------ | ------- | ------ | --- | 
|                                                                                                                                                                                                                     | Accrued rent                                                                       |                                                            |              |        |         |     |        |        |      |    |        | 2,171   |       
|                                                                                                                                                                                                                     | Deferred revenue                                                                   |                                                            |              | (77     | )       |     |        | 428     |      |    |        | (208    | )     
|                                                                                                                                                                                                                     |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |        
|Net
cash used in operating activities                                                                                                                                                                                |                                                                                    |                                                            | (11,489      | )       |         |     | (3,614 | )       |      |    | (2,500 | )      
|                                                                                                                                                                                                                     |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |        
|Cash flows from investing activities:                                                                                                                                                                                |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |        
|                                                                                                                                                                                                                     | Purchases of property and equipment                                                |                                                            |              | (282    | )       |     |        | (863    | )    |    |        | (118    | )     
|                                                                                                                                                                                                                     | Restricted cash relating to line of credit                                         |                                                            |              | (612    | )       |     |        | 612     |      |    |        |        |       
|                                                                                                                                                                                                                     | Proceeds from the sale of trading securities                                       |                                                            |              |        |         |     |        |        |      |    |        | 933     |       
|                                                                                                                                                                                                                     | Net cash paid for acquisition of BIZ                                               |                                                            |              |        |         |     |        |        |      |    |        | (675    | )     
|                                                                                                                                                                                                                     |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |        
|Net
cash provided by (used in) investing activities                                                                                                                                                                  |                                                                                    |                                                            | (894         | )       |         |     | (251   | )       |      |    | 140    |        
|                                                                                                                                                                                                                     |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |        
|Cash flows from financing activities:                                                                                                                                                                                |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |        
|                                                                                                                                                                                                                     | Stock options exercised                                                            |                                                            |              | 82      |         |     |        | 20      |      |    |        | 3       |       
|                                                                                                                                                                                                                     | Borrowings on revolving note payable to bank                                       |                                                            |              |        |         |     |        | 23,666  |      |    |        | 14,155  |       
|                                                                                                                                                                                                                     | Proceeds from insurance financing                                                  |                                                            |              | 497     |         |     |        | 748     |      |    |        | 205     |       
|                                                                                                                                                                                                                     | Proceeds from sale of common stock, net of issuance costs of $5,426                |                                                            |              | 35,274  |         |     |        |        |      |    |        |        |       
|                                                                                                                                                                                                                     | Proceeds from revolving note payable to bank                                       |                                                            |              | 23,837  |         |     |        |        |      |    |        |        |       
|                                                                                                                                                                                                                     | Proceeds from line of credit                                                       |                                                            |              | 1,129   |         |     |        |        |      |    |        |        |       
|                                                                                                                                                                                                                     | Proceeds
from convertible debt                                                     |                                                            |              |        |         |     |        |        |      |    |        | 2,500   |       
|                                                                                                                                                                                                                     | Proceeds from long-term debt                                                       |                                                            |              | 1,500   |         |     |        |        |      |    |        |        |       
|                                                                                                                                                                                                                     | Principal payments on revolving line of credit and
long-term notes payable to bank |                                                            |              | (44,064 | )       |     |        | (22,469 | )    |    |        | (14,142 | )     
|                                                                                                                                                                                                                     | Proceeds from note payable to related party                                        |                                                            |              |        |         |     |        |        |      |    |        | (696    | )     
|                                                                                                                                                                                                                     | Repayment on insurance financing                                                   |                                                            |              | (329    | )       |     |        | (421    | )    |    |        | (528    | )     
|                                                                                                                                                                                                                     |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |         |       
|                                                                                                                                                                                                                     | Net cash provided by financing activities                                          |                                                            |              | 17,926  |         |     |        | 1,544   |      |    |        | 1,497   |       
|                                                                                                                                                                                                                     |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |        
|                                                                                                                                                                                                                     | Net increase (decrease) in cash                                                    |                                                            |              | 5,543   |         |     |        | (2,321  | )    |    |        | (863    | )     
|Cash and cash equivalents at beginning of year                                                                                                                                                                       |                                                                                    |                                                            | 898          |         |         |     | 6,441  |         |      |    | 4,120  |        
|                                                                                                                                                                                                                     |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |        
|Cash and cash equivalents at end of year                                                                                                                                                                             |                                                                                    | $                                                          | 6,441        |         |         | $   | 4,120  |         |      | $  | 3,257  |        
|                                                                                                                                                                                                                     |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |        
|Supplemental disclosures of cash flow information:                                                                                                                                                                   |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |        
|                                                                                                                                                                                                                     | Cash paid during the year for:                                                     |                                                            |              |         |         |     |        |         |      |    |        |         |       
|                                                                                                                                                                                                                     |                                                                                    |                                                            | Interest     |         |         | 162 |        |         |      | 63 |        |         |        | 197 | 
|                                                                                                                                                                                                                     |                                                                                    |                                                            | Income taxes |         |         | 3   |        |         |      | 6  |        |         |        | 2   | 
|                                                                                                                                                                                                                     |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |         |       
|Supplemental disclosure of non-cash investing and financing activities:                                                                                                                                              |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |        
|The
Company issued 2,169,938 and 10,875,128 shares of common in connection with
the acquisitions of Pulsar and BIZ, respectively. In connection with the
acquisitions, net assets purchased were as follows (note 4) |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |        
|                                                                                                                                                                                                                     |                                                                                    | Acquisition costs                                          |              | $       | (122    | )   |        |         |     |    |        |         | (750   | )  
|                                                                                                                                                                                                                     |                                                                                    | Fair value of net assets acquired less liabilities assumed |              |         | (12,151 | )   |        |         | (331 | )  |        |         | 184    |    
|                                                                                                                                                                                                                     |                                                                                    | Goodwill and other intangible assets                       |              |         | 36,143  |     |        |         |     |    |        |         | 62,882 |    
|                                                                                                                                                                                                                     |                                                                                    | In-process research and development                        |              |         |        |     |        |         |     |    |        |         | 1,600  |    
|                                                                                                                                                                                                                     |                                                                                    | Deferred compensation                                      |              |         |        |     |        |         |     |    |        |         | 29     |    
|                                                                                                                                                                                                                     |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |        
|Market value of common stock issued                                                                                                                                                                                  |                                                                                    |                                                            | $23,870      |         |         |     | (331   | )       |      |    | 63,945 |        
|                                                                                                                                                                                                                     |                                                                                    |                                                            |              |         |         |     |        |         |      |    |        |        

See accompanying notes to consolidated financial statements

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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except share and per share data)

(1) General Information

General

SSP Solutions, Inc.
(formally Litronic, Inc.) (SSP or the Company)
designs and produces high-grade information security solutions. In addition,
the Company also provides engineering and other services to various government
agencies on a time and material basis.

Through its
wholly-owned subsidiary Pulsar Data Systems, Inc. (Pulsar),
the Company engages in the sale of computer hardware, software, peripheral
equipment, and support services to governmental agencies and commercial
enterprises throughout the United States.

Biz Interactive Zone, Inc. (BIZ), a wholly-owned subsidiary of the
Company, was a development stage enterprise when the Company acquired it in
August 2001. BIZ had been devoting substantially all of its efforts to develop,
design, and market security solutions for the financial, government,
healthcare, education, and entertainment industries (note 4). The combined
Company will continue to focus on a complete range of solutions for
physical access, electronic commerce, and communications, from the
core to the edge.

Public Offering and Reorganization

In June 1999, SSP completed an initial public offering of common stock of
SSP Solutions, Inc., a newly formed corporation with no operations (the
Offering). The Company offered 3,700,000 shares of common stock at a purchase
price of $11 per share, resulting in gross proceeds of $40,700. These proceeds
were offset by issuance costs of $5,426, resulting in net proceeds of $35,274.
Litronic Industries, Inc. also initiated certain events (the Reorganization)
in connection with the Offering that resulted in it becoming a wholly owned
subsidiary of SSP Solutions, Inc. on June 8, 1999. The Reorganization was
accomplished through a stock-for-stock exchange between SSP Solutions, Inc. and
Litronic Industries, Inc. and was accounted for as an as if pooling of
interests for entities under common control. Concurrent with the
Reorganization, Litronic Industries, Inc. terminated its Subchapter S status
and is subject to federal and state income taxes. Pursuant to the change from a
Subchapter S to a C corporation, the cumulative loss from inception to June 9,
1999, as a Subchapter S corporation of $6,354 was transferred from accumulated
deficit to additional paid in capital.

All of the outstanding shares of Litronic Industries, Inc. were exchanged
for 3,870,693 shares of the Companys common stock. Consequently, as of June 8,
1999, the consolidated group included the operations of SSP and its wholly
owned subsidiary, Litronic Industries, Inc. The prior period financial
statements have been restated to reflect the exchange of these shares.

Pulsar Acquisition

The Company also entered into a stock acquisition agreement with Pulsar,
which was effected simultaneously with the Offering. All of the outstanding
shares of Pulsar were exchanged for 2,169,938 shares of the Companys common
stock. The acquisition was accounted for using the purchase method of
accounting, and accordingly, the results of operations of Pulsar have been
included in the Companys consolidated financial statements from June 14, 1999.

BIZ Acquisition

On August 24, 2001, pursuant to an Agreement and Plan of Reorganization
dated July 3, 2001 with BIZ Interactive Zone, Inc., a Delaware Corporation, the
Company completed an acquisition transaction (the
Acquisition) whereby BIZ became a wholly-owned
subsidiary of the Company. BIZ is a development stage enterprise devoting
substantially all of its efforts to develop, design, and market security
solutions for the financial, government, healthcare, education, and
entertainment industries. Concurrent with the acquisition, the Company changed
its name from Litronic Inc., to SSP Solutions, Inc. The Company
combined the business of SSP and BIZ into a single operating unit
under the

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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

name SSP Solutions, Inc.

In connection with the Acquisition, the Company issued an aggregate of
10,875,128 shares of SSP common stock in exchange for all of the outstanding
shares of BIZ common stock and preferred stock. In addition, the Company
reserved for issuance an aggregate of approximately 860,000 shares of its
common stock for issuance upon exercise of BIZ options and warrants assumed by
the Company (note 4).

(2) Summary of Significant Accounting Policies

Basis of Financial Statement Presentation and Principles of Consolidation

The consolidated financial statements and related notes presented herein
have been retroactively adjusted to reflect the Reorganization. The capital
structure presented in these consolidated financial statements is that of SSP.
The consolidated financial statements include the accounts of SSP and its wholly owned subsidiaries. All significant intercompany balances
and transactions have been eliminated in consolidation.

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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

Loss Per Share

Basic earnings
(loss) per share includes no dilution and is computed by dividing earnings
(loss) available to common shareholders by the weighted average number of
common shares outstanding for the period. Diluted earnings per share reflects
the potential dilution of securities that could share in the earnings of an
entity. Such shares are not included when there is a loss as the effect would
be anti-dilutive.

Revenue Recognition

Revenue from product sales, including hardware (with embedded software)
and software, is recognized upon shipment unless contract terms call for a
later date. The Company records an allowance to cover estimated warranty costs
in cost of sales. Customers do not have the right of return except for product
defects, and product sales are not contingent upon customer testing, approval
or acceptance. The costs of providing post contract customer support are
not significant. Revenue under service and development contracts is recorded as
services are rendered. The Companys revenue recognition policies for software
are in compliance with the American Institute of Certified Public Accountants
(AICPA) Statements of Position (SOP) 97-2, Software Revenue Recognition and
SOP 98-9, Modification of SOP 97-2, Software Revenue Recognition, with Respect
to Certain Transactions. Revenues under research arrangements with government
agencies are recorded as services are rendered or products are shipped.

Included in research and development revenue for the year ended December
31, 1999 is $798 related to a contract with the National Security Agency
(NSA). There was no revenue related to research and development for the years
ended December 31, 2000 and 2001. The Company led a joint effort with
Atmel Corporation (Atmel) and NSA to develop Forté, a 32-bit
cryptographic System On Chip (SOC) meeting certain minimum NSA specifications.
The Company contracts with others to perform certain aspects of the project.
All related project costs are expensed as research and development as incurred.
The amounts received from the NSA are not refundable regardless of the results
of the development efforts. No other amounts were recorded as research and
development revenue during any of the periods presented. The related research
and development costs are not separately identifiable; therefore the
corresponding costs of the entire development effort are included in research
and development expenses. Although no additional amounts related to the
development of Forte are being received from NSA, the joint effort with Atmel
and the NSA to develop Forté has continued.

Revenue from time and material, network deployment service contracts is
recognized on the basis of man-hours incurred plus other reimbursable contract
costs incurred during the period.

Revenue from network deployment products is recognized upon transfer of
title, generally upon delivery. Product and service revenues from the Companys
electric security systems contracts were recognized in accordance with SOP
81-1, Accounting for Performance of Construction-Type and Certain
Production-Type Contracts. The Company recognized this revenue on a percentage
of completion basis, based on estimated labor dollars incurred.

The Companys revenue recognition policies are in accordance with the
Securities and Exchange Commissions Staff Accounting Bulletin No. 101.

Cash and Cash Equivalents

The Company considers all highly liquid investments with maturities of
three months or less at the date of purchase to be cash equivalents.

Investments

The Companys investments are classified as trading securities. The
securities are comprised of Class A common stock of Wave Systems Corp. received
in the Acquisition.

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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)
(In thousands, except share and per share data)

Securities are carried at fair value with the unrealized gains and losses,
net of applicable taxes, reported in the statement of operations. The cost of
securities sold is based upon the specific identification method.

Inventories

Inventories are
stated at the lower of first-in, first-out cost or market using net realizable value.

Property and Equipment

Property and equipment are stated at cost. Furniture and equipment are
depreciated by the straight-line method over the useful lives of the assets,
generally 2-3 years. Leasehold improvements are amortized by straight-line
method over the term of the related lease or the estimated useful lives of the
assets, whichever is shorter. Property and equipment sold or retired is
eliminated from the accounts in the year of disposition and the resulting gain
or loss is reflected in the consolidated statement of operations.

Goodwill and Other Intangibles Assets

The Company amortizes intangible assets relating to businesses acquired
and costs in excess of the fair value of net assets of businesses acquired
using the straight-line method over
the estimated useful lives of the intangible assets.

The Company applies
Statement of Financial Accounting Standards No. 121 (Statement 121), Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of. Statement 121
requires that long-lived assets and certain identifiable intangibles be
reviewed for impairment whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be recoverable. Under the
provisions of Statement 121, if the sum of the expected future cash flows
(undiscounted and without interest charges) is less than the carrying value of
the asset, an impairment loss is recognized. The amount of impairment, if any,
is measured as the amount by which the carrying amount of the asset exceeds the
fair value of the asset. The estimate of fair value considers prices for
similar assets and the results of valuation techniques to the extent available
in the circumstances.

During 2000, the Company engaged the services of an
independent valuation firm to do a valuation of Pulsar. This valuation was
undertaken because the Company determined the integration of Pulsar would not
be completed as planned, and the anticipated operating synergies would not be
realized. Based on the results of the independent valuation, the Company
recorded an impairment charge of $31,400 in the fourth quarter of 2000, related
to unamortized goodwill and other intangible assets acquired in the purchase of
Pulsar. The remaining unamortized intangible assets of $783 as of
the date of impairment, acquired in the
purchase of Pulsar are being amortized over the remainder of the original 10 year
useful life.

The Company has
adopted Statements 141 and 142, Business Combinations and
Goodwill and Other Intangible Assets for the Acquisition that was
completed on August 24, 2001. In accordance with Statement 142 goodwill is not
amortized for business acquisitions that were completed after June 30, 2001 but
rather will be evaluated at least annually for impairment. Other identifiable
intangible assets acquired from business acquisitions that were completed after
June 30, 2001, are amortized on a straight-line basis over their estimated
useful lives of between one and three years. Accordingly, the Company has not
recorded amortization of goodwill related to the Acquisition.

During the fourth quarter of 2001, the Company determined that certain
identifiable technology and developed technology acquired in connection with the
Acquisition were no longer going to be pursued. Additionally, the
Company delayed or indefinitely reduced the projected revenues from the
Acquisition. Accordingly, the Company performed a Statement 121
analysis for identifiable intangible assets and Accounting Principle
Board Opinion No. 17 for goodwill.

In evaluating
identifiable intangibles assets, the Company utilized a discount
cash flow and, due to the uncertainties surrounding the companys ability to fund its operations concluded all identified intangibles
assets associated with the acquisition should be written-off. In evaluating the
goodwill associated with the Acquisition,
the Company utilized a fair value approach. The fair value was measured
utilizing the most recent indicator of fair value, which was the secured convertible
promissory notes (note 19). Consequently, the Company recorded an
impairment charge of $36,299 in the
fourth quarter of 2001 related to all identifiable intangible assets and
developed technology, as well as a portion of the goodwill acquired in connection with the acquisition of
BIZ. After this impairment charge, goodwill is the only remaining intangible
asset.

Amortization of goodwill and other intangibles was $1,448, $2,828 and
$746, respectively, for the years ended December 31, 1999, 2000 and 2001.

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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

Segment Reporting

The Company applies Statement 131, Disclosures about Segments of an
Enterprise and Related Information, which requires entities to report
financial and descriptive information about its reportable operating segments.
The Company had historically operated in two business segments, information
security solutions and electronic interconnect products. On June 14, 1999, with
the acquisition of Pulsar, the Company expanded into the network solution
business segment (see note 10). The Company combined the businesses of SSP and
BIZ into a single reportable operating segment.

Stock-Based Compensation for Employees and Non-Employees

The Company accounts
for its employee stock option plans using the intrinsic value method.
When stock options are granted to
employees with exercise prices less than the fair value of the
underlying common stock at the date of grant, the
difference is recognized as deferred compensation expense, which is amortized
over the vesting period of the options.

The Company accounts
for stock options issued to non-employees using the fair value
method. The associated cost is recorded in the same manner as if cash
were paid.

Fair Value of Financial Instruments

As of December 31, 2000 and 2001, management believes
the fair value of all financial instruments approximated carrying value, due to
their short-term nature.

Income Taxes

Prior to June 8, 1999, the Company had elected to be taxed as an S
corporation under the provisions of Section 1362 of the Internal Revenue Code
and used the accrual basis of reporting for income tax purposes. Accordingly,
the Company had not provided for Federal income taxes since the liability was
that of the shareholders. The Company was subject to state income taxes on
earnings before taxes.

On June 8, 1999,
the Company reorganized from an S Corporation to C
Corporation. The Company now provides for federal income taxes
recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The
effect on deferred tax assets and liabilities of a change in tax rates is
recognized in income in the period that includes the enactment date.
A valuation allowance will be provided where it is more likely than
not that the deferred tax assets will not be realized.

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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

Comprehensive Income

The Company has no transactions, other than net
loss, that would be considered other comprehensive income.

Accounts Receivable Financing

The Company adopted Statement 140, Accounting for Transfers and Servicing
of Financial Assets and Extinguishments of Liabilities. Statement 140 is
effective for transfers and servicing of financial assets and extinguishments
of liabilities occurring after March 31, 2001, and it is effective for
recognition and reclassification of collateral and for disclosures relating to
securitization transactions and collateral. Statement 140 outlines the standards
for accounting for securitizations and other transfers of financial assets and
collateral and requires certain disclosures (see note 8).

Use of Estimates

The consolidated financial statements have been prepared in conformity
with accounting principles generally accepted in the United States of America.
In preparing the consolidated financial statements, management is required to
make estimates and assumptions that affect the reported amounts of assets and
liabilities as of the dates of the balance sheets and revenues and expenses for
the periods. Actual results could differ from those estimates.

New Accounting Standards

In July 2001, the
FASB issued Statement 141, Business Combinations, and
Statement 142, Goodwill and Other Intangible Assets. Statement 141 requires
that all business combinations be accounted for under a single method  the
purchase method. Use of the pooling-of-interests method is no longer permitted.
Statement 141 requires that the purchase method be used for business
combinations initiated after June 30, 2001. Statement 142 requires that
goodwill no longer be amortized to earnings, but instead be reviewed for
impairment. Under Statement 142, the amortization of goodwill ceases upon
adoption of the Statement, which is effective for fiscal years beginning after
December 15, 2001, which for calendar year-end companies, will be January 1,
2002. In all cases, the provisions of Statement 142 shall be initially applied
at the beginning of a fiscal year. Goodwill and intangible assets acquired
after June 30, 2001, but prior to full adoption of Statement 142, are to be
amortized, or not, in accordance with Statement 142 (see note 4).

In June 2001, the FASB issued Statement 143, Accounting for Asset
Retirement Obligations, which addresses financial accounting and reporting for
obligations associated with the retirement of tangible long-lived assets and
the associated asset retirement costs. The standard applies to legal
obligations associated with the retirement of long-lived assets that result
from the acquisition, construction, development and (or) normal use of the
asset. Statement 143 requires that the fair value of a liability for an asset
retirement obligation be recognized in the period in which it is incurred if a
reasonable estimate of fair value can be made. The fair value of the liability
is added to the carrying value of the associated asset and this additional
carrying amount is depreciated over the life of the asset. The liability is
accreted at the end of each period through charges to operating expense. If the
obligation is settled for other than the carrying amount of the liability, the
Company will recognize a gain or loss on settlement. The Company is required
and plans to adopt the provisions of Statement 143 for the quarter ending March
31, 2003. Management does not believe adoption of this standard will have a
material adverse effect on the Companys consolidated financial position,
results of operations or liquidity.

On October 3,
2001, the FASB issued Statement 144, Accounting for the
Impairment or Disposal of Long-Lived Assets, which addresses financial
accounting and reporting for the impairment or disposal of long-lived assets
and supersedes Statement 121. Statement 144 retains many of the fundamental
provisions of Statement 121. Statement 144 also supersedes the accounting and
reporting provisions of APB 30, Reporting the Results of Operations Reporting
the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual
and Infrequently Occurring Events and Transactions, for the disposal of a
segment of a business. However, it retains the requirement in APB 30 to report
separately discontinued operations and extends that reporting to a component of
an entity that either has been disposed of (by sale, abandonment, or in a
distribution to owners) or is classified as held for sale.

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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

Statement 144 is effective for fiscal years beginning after December 15,
2001 and interim periods within those fiscal years. The Company is
currently examining the impact of this pronouncement on its results
of operations and financial position, but believes the
impact will not be material.

Reclassifications

Certain reclassifications were made to the 1999 and 2000 consolidated
financial statements to conform to the 2001 presentation.

(3) Liquidity

These condensed consolidated financial statements have been prepared
assuming that the Company will continue as a going concern, which contemplates
the realization of assets and satisfaction of liabilities in the normal course
of business. The Company has incurred significant operating losses, has used
cash in operating activities, has an accumulated deficit, and deficit working
capital. The Company currently anticipates that existing resources will not be
sufficient to satisfy contemplated working capital requirements for the next
twelve months.

The Company had
previously indicated its plan to begin shipping its XBOARD (formerly
known as the CipherServers) in mid-2001. The operating forecast assumed the CipherServer
product launch would go as planned and that anticipated sales of the
CipherServers would be realized. The Company has not realized the sales
previously anticipated. Furthermore, the Companys market research has
indicated that recent technology advancements within the chip market have
rendered the technology in the CipherServers obsolete. Accordingly, the Company
does not plan to continue developing enhancements for nor re-launching the
CipherServer family of products as previously indicated. The Company has
written off all inventory related to CipherServer products.

Liquidity and Capital Resources

At December 31, 2001, the Company had deficit working
capital of $5,779 and the Company incurred a loss from operations
for the year then ended. The Company expects to
continue to incur substantial additional losses in 2002.
Given the December 31, 2001 cash balance and the projected operating cash
requirements, the Company anticipates that existing capital resources will
not be
adequate to satisfy cash flow requirements through December 31, 2002. The Company will require additional funding. The
Companys cash flow estimates are based upon achieving certain levels of sales,
reductions in operating expenses and liquidity available under the
accounts receivable financing. Should sales be less than forecast,
expenses be higher than forecast or the liquidity not be available
under the
accounts receivable financing or through additional financings of debt
and/or equity, the Company will not have adequate resources to fund
its operations. During the past year, the Company has incurred defaults under
both the Companys accounts receivable financing and the long-term
convertible notes.
The Company obtained waivers for its accounts receivable financing
through
March 31, 2002 and for the long-term convertible notes through
January 1, 2003. However, there is no
guarantee the lenders will continue to waive defaults in the future, should
they occur, and the lenders may declare amounts owed by the Company due and
payable. Subsequent to March 31, 2002, the Company remained in default under
the accounts receivable financing. The Company does not expect future fixed obligations to
be paid from operations and the Company intends to satisfy fixed obligations from
additional financings, use of the accounts
receivable financing, extending vendor payments and issuing stock as payment on obligations.

The Companys current financial condition is the result of
several factors including the following:



| |  |  | Operating results were below
expectations.                                                                                                                                                                                                                     
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | The events of September 11, 2001 affected the
operations and delayed the decisions of the U.S. government.
This caused sales the Company had anticipated to be delayed. The events may also affect potential investors and related
terms of investment capital.
|
| |  |  | Sales of products through channels acquired in the
BIZ acquisition are taking longer than originally anticipated to
develop.                                                                                                                                   
|
| |  |  | Market demand for our Xboard product (formerly
known as CipherServer Product line) did not materialize as
anticipated and therefore our sales were below forecast.                                                                                             
|
| |  |  | Reduced credit line availability affected the
sales volume of our Pulsar subsidiary.                                                                                                                                                                           
|
| |  |  | Research and development expenses from the BIZ acquisition
increased costs.                                                                                                                                                                                    

The Company currently
has a need for a substantial amount of capital to meet its
liquidity requirements. The amount of capital that the Company will need in the future
will depend on many factors including, but not limited, to:



| |  |  | the ability to extend terms received from vendors                                                                                                      
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | the market acceptance of products and services                                                                                                         
|
| |  |  | the levels of promotion and advertising that will be required to
launch new products and services and attain a competitive position in
the market place
|
| |  |  | research and development plans                                                                                                                         
|
| |  |  | levels of inventory and accounts receivable                                                                                                            



| |  |  | technological advances                                                
| | - |  | ----------------------------------------------------------------------
|
| |  |  | competitors responses to our products and services                   
|
| |  |  | relationships with partners, suppliers and customers                  
|
| |  |  | projected capital expenditures                                        
|
| |  |  | reduction in the valuation of
marketable investment securities        
|
| |  |  | downturn in economy                                                   
|
| |  |  | defaults on
financing which will impact the availability of borrowings

In addition to the
Companys current deficit working capital situation, current
operating plans show a shortfall of cash during 2002. The Company
intends to mitigate its position through one or more of the
following:



| |  |  | Additional equity capital 
The Company will seek additional equity
capital, if available. Equity capital will most likely be issued at
a discount to market, and require the issuance of warrants causing a
dilution to current shareholders. In addition, providers of new
equity capital may require additional concessions in order for them
to provide needed capital to the Company.                                                                                                                                                                                                                                                                                                                
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Additional convertible debt 
Depending upon the market conditions, the Company may
issue an additional debt instrument. The types of instruments available in
the market would likely contain a provision for the issuance of warrants
and may also be convertible into equity. On April 16, 2002,
simultaneous with the filing of Form 10-K for 2001, the
Company completed a private placement of
$5,000 in the form of $4,000 in 10% secured convertible
promissory notes, $653 in secured non-convertible promissory
notes ($153 held by Co-Chairman Kris Shah and $500 held by Co-Chairman Marvin
Winkler) and the pre-payment of a $500 note due from Kris Shah,
less a discount of $153 (note 19).
|
| |  |  | Off balance sheet financing 
The Companys operations are not relatively
capital intensive. However, should the Company need to add equipment or decide
to expand the facilities, the Company may use an operating lease transaction to
acquire the use of capital assets. An operating lease would not appear
on our balance sheet and would be charged as an expense as payments
accrue.                                                                                                                                                                                                                                                                                                               
|
| |  |  | The Company will finance receivables in conjunction with the WFBC
agreement to generate cash. In the past the Company incurred defaults under
the WFBC line for late payments to vendors, for which the Company received
waivers from January 31, 2002 through March 31, 2002. Should defaults occur in the
future, the Company may not receive the required waivers and may not have
funds available under the line.                                                                                                                                                                                                                                                                                     
|
| |  |  | The Company will sell investments to generate cash. The market value of
trading securities was approximately $1.4 million at December 31,
2001. Since that date, the Company has generated over $100 through the
sales of securities.                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|
| |  |  | The Company is negotiating with vendors
regarding payment of existing
accounts payable over extended terms of forty eight (48) months with
no interest. The Company has reached a verbal agreement with one large vendor and
is working with remaining vendors. The Company previously executed term out agreements with a number of
vendors that must now be further extended.                                                                                                                                                                                                                                                                                                                           



| |  |  | Deferral of cash payments through
suspension of development projects.                                                                                                                     
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Issuance of stock as payment for existing
and future obligations. $1,389 of accrued liabilities as of
December 31, 2001 are anticipated to be paid by the future issuance of common
stock.
|
| |  |  | Issuance of stock to pay interest on long
term debt.                                                                                                                                      
|
| |  |  | Reductions in work force.                                                                                                                                                                 

Should the Company not receive
adequate financing, it could be forced to merge with another company
or cease operations.

Ultimately, the Companys ability to continue as a going concern is
dependent upon its ability to successfully launch its new products, grow
revenue, attain operating efficiencies, sustain a profitable level of
operations and attract new sources of capital.

(4) Business Combinations

Pulsar Acquisition

The Company entered into a stock acquisition agreement with Pulsar that
was affected simultaneously with the Offering. This acquisition was completed
on June 14, 1999. Litronic acquired all of the outstanding shares of Pulsar in
exchange for 2,169,938 shares of the Companys common stock. The acquisition
was accounted for using the purchase method and, accordingly, the results of
operations of Pulsar have been included in the Companys consolidated financial
statements from June 14, 1999. The excess of the purchase price over the fair
value of the net assets acquired less the liabilities assumed, resulted in a
total of $36,143 recorded as goodwill and other intangible assets, to be
amortized on a straight-line basis (see note 1).

The purchase price of the Pulsar acquisition of $23,870 or $11 per share
was based on the fair market value of the common stock issued on June 14, 1999
and was allocated as follows:

|                                             |                                                   |   |         |        | 
|-------------------------------------------- | ------------------------------------------------- | - | ------- | ------ | 
|Acquisition costs                            |                                                   | $ | (122    | )     
|Tangible assets                              |                                                   |   | 6,255   |       
|Liabilities and debt assumed                 |                                                   |   | (18,406 | )     
|Identifiable intangible assets and goodwill: |                                                   |   |         |       
|                                             | Distribution channel                              |   |         | 12,048 | 
|                                             | Customer base                                     |   |         | 12,047 | 
|                                             | Goodwill                                          |   |         | 12,048 | 
|                                             |                                                   |   |         |       
|                                             | Total identifiable intangible assets and goodwill |   |         | 36,143 | 
|                                             |                                                   |   |         |       
|Market value of common stock issued          |                                                   | $ | 23,870  |       
|                                             |                                                   |   |         |       

The Company allocated the purchase price to tangible assets, liabilities,
identifiable intangible assets and goodwill based on managements estimates of
the fair value.

During the fourth quarter of 1999, the Company recorded approximately $300
of adjustments to increase goodwill related to the acquisition of Pulsar. The
adjustments were primarily attributable to a reduction in the fair value of
certain assets as compared to the amount originally estimated and the
settlement of a pre-existing lawsuit for $140, net of a reimbursement from the
former majority shareholder of Pulsar and were partially offset by reductions
in certain accounts payable and accrued liabilities not determined necessary
after further investigation. During the second quarter of 2000, the Company
recorded approximately $331 of adjustments to increase goodwill related to the
acquisition of Pulsar. The adjustments were primarily attributable to additions
in certain accounts payable and accrued liabilities and the settlement of a
pre-existing lawsuit.

The following unaudited pro forma financial information presents the
combined results of operations of SSP and Pulsar for 1999 as if the acquisition
had occurred as of the beginning of 1999, after giving effect to certain
adjustments including amortization of goodwill and other intangibles, increased
interest expense on debt assumed and related income tax effects. The pro forma
financial information does not necessarily reflect the results of operations
that would have occurred had SSP and Pulsar constituted a single entity during
such periods.

|                                      |  |              |         |  
|------------------------------------- |  | ------------ | ------- | -
|                                      |  | Year Ended  
|                                      |  | December 31,
|                                      |  | 1999        
|                                      |  |             
|Total revenue                         |  | $            | 49,230  |  
|                                      |  |              |         |  
|Net loss                              |  | $            | (11,713 | )
|                                      |  |              |         |  
|Net loss per share, basic and diluted |  | $            | (1.19   | )
|                                      |  |              |         |  

F-13



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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

As part of the Pulsar acquisition the Company assumed $12,422 in debt. The
majority of the debt was paid on June 14, 1999. The remaining outstanding debt
was paid in July 1999.

See discussion on
impairment of goodwill and other intangibles at Note 2.

BIZ Acquisition

On August 24, 2001, pursuant to an Agreement and Plan of Reorganization
dated July 3, 2001 with BIZ, the Company completed the Acquisition,
whereby BIZ became a wholly-owned subsidiary of the Company.
In connection with the Acquisition, the Company issued an aggregate of
10,875,128 shares of SSP common stock in exchange for all of the outstanding
shares of BIZ common stock and preferred stock. In addition, the Company
reserved for issuance an aggregate of approximately 860,000 shares of its
common stock for issuance upon exercise of BIZ options and warrants assumed by
the Company.

The Acquisition has been accounted for under the purchase method of
accounting in accordance with generally accepted accounting principles. The
Company recorded a one-time charge for purchased in-process research and
development (IPR&D) expenses of $1,600.

The Company utilized an independent third-party appraiser to assess and
allocate values to the IPR&D. The values assigned to these projects were
determined by identifying projects that have economic value but that had not
yet reached technological feasibility and that have no alternative future use.
These products have not been released to the market as of the date of the
Acquisition, but the features and functionality of the products had been
defined.

The values of these projects were determined using the Income Forecast
Method. In applying the Income Forecast Method, the value of the acquired
technologies was estimated by discounting to present value, the free cash flows
generated by the products with which the technologies are associated.
Adjustments were made to provide for a fair return to fixed assets, working
capital, and other assets that contribute to value. The estimates were based on
the following assumptions:



| |  |  | The estimated revenues assume average compound annual revenue growth
rates of 44% to 197% during fiscal years 2002 through 2007, depending on
the product line. These projections are based on managements estimates
over the expected remaining economic lives of the technologies. The
IPR&D value is comprised of three on-going projects. The estimated cost
of revenues as a percentage of revenues is expected to be approximately
55%. The estimated cost to complete the two on-going projects is
expected to be
$4,025.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | The discount rates used in the valuation reflect the relative risk
of the product lines. For IPR&D projects, the discount rates ranged from
45% to 50%, which was based on the amount and risk of effort remaining
to complete the respective development projects.                                                                                                                                                                                                                                                              

The Company believes that the foregoing assumptions used in determining
the income forecast associated with the IPR&D products are reasonable. No
assurance can be given, however, that the underlying assumptions used to
estimate the income forecast, the ultimate revenues and costs on such projects,
or the events associated with such projects, will transpire as estimated.
During the fourth quarter of 2001, the Company terminated its development on
one of the technologies classified as IPR&D. To date, the Company has spent
approximately $1,112 on those projects.

The total purchase price and allocation among the fair value of tangible
and intangible assets and liabilities (including purchased in-process research
and development) are summarized as follows:

|                                |  |   |       |  | 
|------------------------------- |  | - | ----- |  | 
|Tangible assets                 |  | $ | 3,231 | 
|Liabilities                     |  |   | 3,047 | 
|                                |  |   |       | 
|Net tangible assets             |  |   | 184   | 
|Identifiable intangible assets: |  |   |       | 

F-14



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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

|                      |                                     |   |        |       | 
|--------------------- | ----------------------------------- | - | ------ | ----- | 
|                      | In-process research and development |   |        | 1,600 | 
|                      | Completed technology                |   |        | 6,200 | 
|                      | Strategic relationships             |   |        | 2,800 | 
|Goodwill              |                                     |   | 53,882 |      
|Deferred compensation |                                     |   | 29     |      
|                      |                                     |   |        |      
|                      |                                     | $ | 64,695 |      
|                      |                                     |   |        |      

A preliminary purchase price allocation was performed and the resulting amounts
were included in the Companys September 30, 2001 Form 10-Q. The preliminary
purchase price allocation differed from the final purchase price allocation as
follows: the in-process research and development was valued at $3,300 and the
completed technology was valued at $5,900. The total purchase price did not
change, and the difference was an increase in goodwill.

The other intangible assets will be amortized on a straight-line basis
over the following estimated useful lives, in years:

|                        |  |  |        | 
|----------------------- |  |  | ------ | 
|Completed technology    |  |  | 5      | 
|Strategic relationships |  |  | 1 to 5 | 

The operating results of BIZ have been included in the consolidated
statements of operations since the acquisition date, August 24, 2001.

Following are the summarized unaudited pro forma combined results of
operations for the twelve months ended December 31, 2000 and December 31, 2001,
assuming the acquisition had taken place at the beginning of each of those
fiscal years. The unaudited pro forma combined statement of operations for the
twelve months ended December 31, 2000 was prepared based on the statement of
operations of SSP for the twelve months ended December 31, 2000 and the
statement of operations for BIZ from April 30, 2000 (inception) to December 31,
2000. Accordingly, eight months of amortization of the intangibles
was included. The unaudited pro forma combined statement of operations for the twelve
months ended December 31, 2001 was prepared based upon the statement of
operations of SSP for the twelve months ended December 31, 2001 and BIZ for the
period from January 1, 2001 through August 24, 2001. The unaudited pro forma
results exclude the effects of the IPR&D charge but include the amortization of
other intangibles and deferred compensation. The unaudited pro forma results
are not necessarily indicative of the future operations or operations that
would have been reported had the Acquisition been completed when assumed.

See discussion on
impairment of goodwill and other intangibles at Note 2.

|                   |  |                     |         |              |  |   |         |  
|------------------ |  | ------------------- | ------- | ------------ |  | - | ------- | -
|                   |  | Twelve Months Ended
|                   |  |                    
|                   |  | December 31,        |         | December 31,
|                   |  | 2000                |         | 2001        
|                   |  |                     |         |             
|Net revenues       |  | $                   | 39,356  |              |  | $ | 22,720  |  
|                   |  |                     |         |              |  |   |         |  
|Net loss           |  | $                   | (46,106 | )            |  | $ | (68,661 | )
|                   |  |                     |         |              |  |   |         |  
|Net loss per share |  | $                   | (2.22   | )            |  | $ | (3.33   | )
|                   |  |                     |         |              |  |   |         |  

As the markets for
the Companys products are characterized by rapidly changing
technology, evolving industry standards, and the frequent
introduction of new products and enhancements, it is reasonably
possible that the estimates of the anticipated future gross revenues,
the remaining estimated economic life, or both will be reduced within
the next year. Reasonably possible is defined as more than remote but
less than likely. As a result, the remaining goodwill of $26,621 related to the
Acquisition at
December 31, 2001, may be reduced within the next year.

(5) Investments

The Company has an investment that is classified as trading securities.
The securities are comprised of Class A common stock of Wave Systems Corp., par value $0.01
received in the Acquisition. As of December 31, 2001, the Company had
607,000 shares with an aggregate value of $1,360. For the period
ending December 31, 2000 and 2001 the Company recorded realized
loss on trading securities of $0 and $530, respectively.

F-15



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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

(6) Inventories

A summary of inventories follows:

|                |  |              |     |      |  |   |     | 
|--------------- |  | ------------ | --- | ---- |  | - | --- | 
|                |  | December 31,
|                |  |             
|                |  | 2000         |     | 2001
|                |  |              |     |     
|Raw materials   |  | $            | 258 |      |  | $ | 112 | 
|Work-in-process |  |              | 86  |      |  |   | 8   | 
|Finished goods  |  |              | 351 |      |  |   | 316 | 
|                |  |              |     |      |  |   |     | 
|                |  | $            | 695 |      |  | $ | 436 | 
|                |  |              |     |      |  |   |     | 

(7) Property and Equipment

A summary of property and equipment follows:

|                                               |  |              |       |      |  |   |       | 
|---------------------------------------------- |  | ------------ | ----- | ---- |  | - | ----- | 
|                                               |  | December 31,
|                                               |  |             
|                                               |  | 2000         |       | 2001
|                                               |  |              |       |     
|Leasehold improvements                         |  | $            | 65    |      |  | $ | 65    | 
|Machinery and equipment                        |  |              | 68    |      |  |   | 68    | 
|Furniture and fixtures                         |  |              | 2,140 |      |  |   | 2,383 | 
|                                               |  |              |       |      |  |   |       | 
|                                               |  |              | 2,273 |      |  |   | 2,516 | 
|Less accumulated depreciation and amortization |  |              | 1,450 |      |  |   | 2,155 | 
|                                               |  |              |       |      |  |   |       | 
|                                               |  | $            | 823   |      |  | $ | 361   | 
|                                               |  |              |       |      |  |   |       | 

(8) Long-Term Debt

A summary of long-term debt follows:

|                                                                                                                                                                                                                             |  |              |       |      |  |  |       | 
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------ | ----- | ---- |  |  | ----- | 
|                                                                                                                                                                                                                             |  | December 31,
|                                                                                                                                                                                                                             |  |             
|                                                                                                                                                                                                                             |  | 2000         |       | 2001
|                                                                                                                                                                                                                             |  |              |       |     
|Revolving note payable to bank with maximum availability of $5,000,
bearing interest at prime plus .625% (10.125% at
December 31, 2000) through maturity on May 10, 2002; secured by substantially all assets
of the Company |  |              | 1,509 |      |  |  |      | 
|Note payable for insurance financing due in nine monthly payments
beginning July 9, 2000 at an annual percentage rate of 7.15%                                                                                               |  |              | 12    |      |  |  |      | 
|Note payable for insurance financing due in eighteen monthly payments
beginning July 9, 2000 at an annual percentage rate of 8.18%                                                                                           |  |              | 484   |      |  |  | 173   | 
|Well
Fargo Business Credit accounts receivable financing, discount rate of 1.25% of the receivables factored, interest payable upon payment of receivable                                                                    |  |              |      |      |  |  | 1,522 | 

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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

|                                                                                                                                         |  |              |       |      |  |   |       | 
|---------------------------------------------------------------------------------------------------------------------------------------- |  | ------------ | ----- | ---- |  | - | ----- | 
|                                                                                                                                         |  | December 31,
|                                                                                                                                         |  |             
|                                                                                                                                         |  | 2000         |       | 2001
|                                                                                                                                         |  |              |       |     
|Subordinated
convertible note due December 17, 2004 with interest
rate at 8.0% per annum compounded annually, interest payable
quarterly |  |              |      |      |  |   | 2,500 | 
|                                                                                                                                         |  |              |       |      |  |   |       | 
|                                                                                                                                         |  |              | 2,005 |      |  |   | 4,195 | 
|Less current installments                                                                                                                |  |              | 1,986 |      |  |   | 1,695 | 
|                                                                                                                                         |  |              |       |      |  |   |       | 
|                                                                                                                                         |  | $            | 19    |      |  | $ | 2,500 | 
|                                                                                                                                         |  |              |       |      |  |   |       | 

GBCC Financing

In June 1999, the Company entered into a three-year lending agreement with
Guaranty Business Credit Corporation (GBCC) permitting borrowings under a
$20,000 secured revolving line of credit facility that commenced on June 14,
1999. The agreement provided for an annual interest rate of prime plus .625%;
and a pledge of substantially all of the Companys personal and real property
as collateral. Although the credit facility was for borrowings up to $20,000,
under the terms of the agreement the amount of borrowing available to the
Company was subject to a maximum borrowing limitation based on eligible
collateral.

On April 18, 2001, the terms of the Companys revolving line of credit
were amended. Under the terms of the amended agreement the maximum borrowings
were $5,000, eligible collateral excluded inventory, and the advance rate was
35%. In addition, certain of the financial covenants and requirements were
adjusted. The amended $5,000 revolving credit facility contained various
covenants and restrictions. Under the terms of the amended agreement, the
Company was required to obtain the lenders consent for any merger, acquisition
or consolidation. The lender was not willing to give its consent to the
Acquisition and discontinued making advances under the terms of the
amended agreement effective with the Acquisition. The lender applied all
collections subsequent to the Acquisition to outstanding borrowings until such
borrowings and related interest charges were paid in full. All amounts due to
the lender were paid in full on October 2, 2001. Once all amounts were paid in
full the lender released its security interest in the Companys assets.

Accounting Receivable Financing

On November 2, 2001, the Companys wholly owned subsidiary, Pulsar, entered
into a financing agreement with Wells Fargo Business Credit, Inc. (WFBC),
which provides for the factoring of accounts receivable. On November 2, 2001,
the Company also entered into a financing agreement for SSP. The term
of the agreement shall continue until the earlier of twelve (12)
months from the date of this agreement or upon sixty (60) days
written notice by one of the parties. The agreement shall continue
for subsequent twelve (12) month periods unless sixty (60) days prior
to termination date, the Company notifies WFBC. This financing
agreement permits the Company to sell, with recourse, certain
eligible trade receivables. The agreement
contains no limit on the dollar volume of receivable financing, but provides for
WFBCs approval of credit limits for non-government customers.
As receivables transferred to the financial institution are
collected, the Company may transfer additional receivables. The discount
rate charged is 1.25% of the gross receivable factored, which may be increased
by .0625% per day for accounts that do not pay within thirty days of the
receivable purchase. At the time of purchase, terms call for WFBC to advance
85% of the gross receivable, with the balance remitted after collection of the
invoice less the discount and any other charges. The agreement requires minimum quarterly fees and discounts
totaling $63. The balances due WFBC are guaranteed by the Companys
Co-Chairmen and Co-Chief Executive Officers, (see note 11).

Gross receivables transferred to WFBC amounted to
$0 and $2,105 in 2000 and 2001, respectively. The Company is obligated to repurchase
certain accounts receivable under the program and, therefore, the transaction
does not qualify as a sale under the terms of Statement 140.

Factored receivables included in the accounts receivable balance as of
December 31, 2000 and 2001 were $0 and $1,790, respectively.

|                                      |  |              |       |      |  |   |       |  
|------------------------------------- |  | ------------ | ----- | ---- |  | - | ----- | -
|                                      |  | December 31,
|                                      |  |             
|                                      |  | 2000         |       | 2001
|                                      |  |              |       |     
|Advances from factor                  |  |              |       |      |  |   | 1,790 |  
|Amounts due from factor               |  |              |      |      |  |   | 315   |  
|                                      |  |              |       |      |  |   |       |  
|Receivables assigned to factor        |  |              |      |      |  | $ | 2,105 |  
|Unfactored accounts receivable        |  |              | 4,405 |      |  |   | 2,507 |  
|Allowances for returns and allowances |  |              | (268  | )    |  |   | (254  | )
|                                      |  |              |       |      |  |   |       |  
|                                      |  | $            | 4,137 |      |  | $ | 4,358 |  
|                                      |  |              |       |      |  |   |       |  

As of December 31,
2001, the Company was in violation of certain provisions of the financing
agreement. These violations are related to the Companys failure to pay debts
and obligations as they become due (primarily trade payables) and
delays in misdirected payments. During the first
quarter of 2002, the Company requested and received a waiver for the
aforementioned violations for past events of default through
March 31, 2002 and January 31, 2002, respectively. As the
waiver expired on March 31, 2002, the Company is in default for
failure to pay debts and obligations as they become due. The Company
anticipates that it will continue to
be in violation of this agreement unless it is able to raise
sufficient capital to pay debts and obligations as they become due.

Insurance Financing

The Company maintains insurance premium financing agreements with
Cananwill, Inc. for the payment of certain insurance premiums. The premiums
being financed cover policy periods from twelve to twenty four months. The
Acquisition caused the amendment of some of the policies carried by the Company. As a
result, the premium financing agreements were amended to provide for five
monthly installments covering policy periods ending June 30, 2002, which
extended the existing policy for the remaining three months. These insurance
premium financing agreements are secured by the proceeds of the policies being
financed.

Subordinated Notes

During December 2001, the Company issued four separate Subordinated Convertible
Notes (the Notes) totaling $2,500 with similar terms and conditions. The
Notes are due on December 17, 2004 and bear 8% interest per annum

F-17



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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

payable quarterly. In connection with the issuance
of the subordinated convertible notes the Company incurred
approximately $28 of issuance costs, which primarily consisted of
legal and other professional fees, which are to be paid at a later
date. All subordinated convertible notes mature December 17,
2004; bear interest at a rate of 8% per annum, which will be paid
quarterly in cash; These notes are convertible at the election of the
holders, at any time no such number of shares of our common stock as
is determined by dividing the outstanding principal amount of the
role being converted by the conversion price in effect at that time.
The initial conversion price provided for in the in the notes is $3.60
per share and is subject to adjustment under certain conditions. In
addition, upon the closing of a qualified financing as
defined in the notes, the then outstanding principal and any accrued
and unpaid interest on these notes will automatically convert into
such number of shares of the type of equity securities sold in that
qualified financing as is determined by dividing the amount of
principal and interest remaining on the note being converted by the
lesser of (a) the price at which the equity securities are being sold
in the qualified financing or (b) the conversion price provided in
the note being converted in effect at the time. After
December 17, 2003, the Company may call for mandatory conversion
of the subordinated convertible notes prior to maturity if the
Companys common shares trade at or above an average price of
300% of the conversion price for twenty (20) consecutive trading days
and average volume of 200,000 share per day for twenty (20)
consecutive trading days. Two of the Notes totaling $750 were
issued to the Companys Co-Chairmen and Co-Chief Executive Officers of the
Company.

As of December 31, 2001, the Company was in violation of certain provisions of
the Notes. These violations are related to the Companys failure to pay debts
and obligations as they become due and the cross default as a result of the
default under the Companys agreement with WFBC. During the first quarter of
2002, the Company requested and received a waiver for each of the
aforementioned violations for past and for anticipated future events of default
through January 1, 2003. Furthermore, during the second quarter of 2002, the
Company requested and received a waiver for the potential non-payment of
interest on the Notes through January 1, 2003.

On April 16, 2002, with the exception of
Mr. Winkler and Mr. Shah, the noteholders converted their
subordinated convertible notes into 10% secured convertible
promissory notes (see note 19).

(9) Accrued Liabilities

A summary of accrued liabilities follows:

|                                     |  |              |       |      |  |   |       | 
|------------------------------------ |  | ------------ | ----- | ---- |  | - | ----- | 
|                                     |  | December 31,
|                                     |  |             
|                                     |  | 2000         |       | 2001
|                                     |  |              |       |     
|Professional fees                    |  | $            | 334   |      |  | $ | 161   | 
|Accrued vacation                     |  |              | 365   |      |  |   | 457   | 
|Accrued compensation                 |  |              | 426   |      |  |   | 384   | 
|Wave Development Agreement (note 13) |  |              |      |      |  |   | 1,389 | 
|Other                                |  |              | 241   |      |  |   | 952   | 
|                                     |  |              |       |      |  |   |       | 
|                                     |  | $            | 1,366 |      |  | $ | 3,343 | 
|                                     |  |              |       |      |  |   |       | 

In October 2000, BIZ
signed a development agreement with Wave Systems Corp.
(Wave) for the integration of EMBASSY based systems with
set-top box master reference designs of Broadcom Corporation. The
development agreement was amended in May 2001. Under this amended
agreement, the Company is required to pay Wave $278,000 per month beginning
June 1, 2001 through December 1, 2002 for work to be
performed, or a total of $5,000. Should the Company not make the
required monthly payments, Wave may request payment in the form of
common stock. As of December 31, 2001, the Company owed $1,389
to Wave for which they have tendered monthly notices of default. The
default notices convert the obligation for payment for the delinquent
installments from a cash obligation into a stock acquisition right.
To date, Wave has made no request for issuance of stock. The $1,389
obligation is carried in Accrued Liabilities of December 31,
2001 (see note 13).

(10) Business Segments and Product Lines

The Company operates in two industry segments, the information security
segment and the network solutions segment. Following are the revenues, cost of
sales and identifiable assets of these segments as of and for the years ended
December 31, 2000 and 2001.

|                    |                                            |                                            |   |                                  |        |      |   |        |        | 
|------------------- | ------------------------------------------ | ------------------------------------------ | - | -------------------------------- | ------ | ---- | - | ------ | ------ | 
|                    |                                            |                                            |   | Twelve Months Ended December 31,
|                    |                                            |                                            |   |                                 
|                    |                                            |                                            |   | 2000                             |        | 2001
|                    |                                            |                                            |   |                                  |        |     
|Revenue             |                                            |                                            |   |                                  |        |      |   |       
|                    | Information Security Products and Services |                                            | $ | 7,424                            |        |      | $ | 8,246  |       
|                    | Network Solutions Market                   |                                            |   | 31,932                           |        |      |   | 14,474 |       
|                    |                                            |                                            |   |                                  |        |      |   |       
|Cost of sales       |                                            |                                            |   |                                  |        |      |   |       
|                    |                                            | Information Security Products and Services |   | $                                | 2,681  |      |   | $      | 4,497  | 
|                    |                                            | Network Solutions Market                   |   |                                  | 28,479 |      |   |        | 13,497 | 
|                    |                                            |                                            |   |                                  |        |      |   |       
|Identifiable assets |                                            |                                            |   |                                  |        |      |   |       
|                    |                                            | Information Security Products and Services |   | $                                | 1,373  |      |   | $      | 27,553 | 
|                    |                                            | Network Solutions Market                   |   |                                  | 4,370  |      |   |        | 3,862  | 
|                    |                                            |                                            |   |                                  |        |      |   |       

As the Chief Operating Decision Maker does not review operating expenses
by segment beyond cost of sales or assets, except as identified, additional
segment information is not available.

During the years ended December 31, 1999, 2000 and 2001 the Company had
four distinct product lines: network deployment products, data security
products, license and service, and electric security systems. In 2000, the
Company discontinued the electric security systems product line. Therefore,
there is no activity related to the electric security product line in 2001.
Following is a summary of total revenues by product line.

|                            |                                                 |   |                                  |        |      |   |        |        |  |   |        |        | 
|--------------------------- | ----------------------------------------------- | - | -------------------------------- | ------ | ---- | - | ------ | ------ |  | - | ------ | ------ | 
|                            |                                                 |   | Twelve Months Ended December 31,
|                            |                                                 |   |                                 
|                            |                                                 |   | 1999                             |        | 2000 |   | 2001  
|                            |                                                 |   |                                  |        |      |   |       
|Network deployment products |                                                 | $ | 26,022                           |        |      | $ | 31,668 |        |  | $ | 14,474 |       
|Data security products      |                                                 |   | 3,565                            |        |      |   | 5,753  |        |  |   | 6,671  |       
|License and service         |                                                 |   | 834                              |        |      |   | 1,671  |        |  |   | 1,575  |       
|Electric security systems   |                                                 |   | 436                              |        |      |   | 264    |        |  |   | 0      |       
|                            |                                                 |   |                                  |        |      |   |        |        |  |   |        |       
|                            | Total net product, license and service revenues |   | $                                | 30,857 |      |   | $      | 39,356 |  |   | $      | 22,720 | 
|                            |                                                 |   |                                  |        |      |   |        |        |  |   |        |       

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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)
(In thousands, except share and per share data)

(11) Related Party Transactions

KRDS Real Property Lease

The primary shareholders of Litronic, Inc. formed KRDS, Inc., (KRDS) for
the sole purpose of purchasing real estate property. KRDSs
operations primarily
consisted of a mortgage obligation, interest, depreciation and rental income
from the Company related to the real estate property.

In February 2000, KRDS leased a building to the Company for its corporate
headquarters. The lease expires in February 2007 (see note 13). The facility has
an annual rent of approximately $429.
In April 2002, the Company and KRDS
entered into an agreement whereby upon sixty (60) days notice, the Company
may cancel the remaining balance of the facility lease with no future
liability. The company has not exercised the exit clause, but anticipates doing
so in connection with the lease of a new facility (see below and note 13).

Note Receivable From Shareholder

The note receivable from shareholder consists of a note acquired as part
of the Acquisition. The $500 note was received by BIZ from our
co-chairman, Kris Shah, in conjunction with the issuance of BIZ common shares
prior to the Acquisition, and therefore will be shown as a reduction of
shareholders equity until paid. The note has a stated interest rate of 5% per
annum and is due on July 24, 2005. On April 12, 2002, in a transaction
approved the Companys board of directors, Mr. Shah prepaid the note by paying
to the Company $347 and the Company recording a discount of $153 which was
charged against income in the second quarter of 2002. The discount was computed based upon a
present value calculation using a discount rate of 20%.

Notes Receivable  Related
Party

On December 31, 1999, the Company had a note receivable from William
Davis, the former majority shareholder of Pulsar and the Companys former
president, for $70. This note receivable was paid in full in the fourth quarter
of 2000.

The notes receivable primarily consists of two promissory notes that were
acquired as part of the Acquisition of BIZ. As part of a hiring package, an
employee received a $10 advance and executed a demand promissory note that
included interest at 6%. Subsequently, as part of a loan agreement, the same
employee executed a separate promissory note for $37 including interest at 8%
due May 3, 2002. The balance of the related party notes includes accrued
interest. These balances are included in other current assets in the
consolidated financial statements.

Notes Payable To Related Party

On July 31,
2001, Chase Manhattan Bank (Chase) advanced $1,000 to the
Companys Co-Chairman,
Mr. Winkler, who then advanced that amount to BIZ for the re-purchase of preferred stock held by an
investor in BIZ. Mr. Winkler executed a $1,000 demand note with Chase and BIZ
executed a $1,000 demand note due September 15, 2001 with J.A.W. Financial,
L.P. (JAW), an entity controlled by Mr. Winkler. The demand note contained an
interest charge of prime plus 1% through the maturity date and prime plus 3%
after the maturity date. On October 11, 2001, the Company made a principal
payment of $30, paid accrued interest, and executed a new promissory note to
JAW for $970. The terms of the promissory note call for interest of prime plus
3% payable monthly, together with five monthly payments of principal in the
amount of $160 and one final payment on April 15, 2002 in the amount of $170.
The promissory note provides Chase a security interest in the shares in Wave
Systems Corp. owned by the Company, and subject to Chases loan security
guidelines the rights to proceeds from any sales of those shares. At December
31, 2001, the note payable to related party was $304. On March 8, 2002, the
promissory note was paid in full ahead of scheduled maturity.

During 2001, a related party periodically advanced
amounts required for the operations of BIZ, which was acquired in the
Acquisition. As of December 31, 2001, the Company owed the related
party a balance of $88 for such advances. No interest has been
paid, accrued or due on such advances.

The combined total
payable to the related party at December 31, 2001 totaled $392.

Subordinated Convertible 8% Notes

F-19



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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

In December 2001, the Companys Co-Chairmen each purchased a three year
$375, 8% subordinated convertible note, in a total private placement of $2,500
of such notes. In April 2002, the subordinated
convertible notes of the Co-Chairmen were amended to provide that their notes can only be
converted upon a financing of $5,000 or more in equity or convertible securities in
a private placement to institutional investors at a conversion price that
represents a 25% or less discount to trading price of the Companys stock.
As of
December 31, 2002, the Company was in violation of certain provisions of the
Notes. The Company requested and received a waiver for these violations, see note 8.
On April 16, 2002, simultaneously with the filing on Form 10-K
for 2001 the Company intends to close a financing
whereby with the exception of Co-Chairmen, the
noteholders convert their subordinated convertible notes into 10% secured
convertible promissory notes (see note 19).

New Facilities Related
Party Leasing

The Company arranged for the lease of two buildings approximating 63
square feet that were under construction and are now complete. The
Companys Co-Chairman, Mr. Shah, has a 25% ownership interest in the entity that owns
the two buildings. The leases have an aggregate monthly rental totaling
approximately $115, plus common area costs for seven years. On one building
totaling 23 square feet, we sublet one half of the building on terms and
conditions matching the underlying lease. The sublease is with a related party
company owned by our co-chairman, Marvin Winkler. The sub-lessee is currently delinquent on its rent
payments to the Company. The Company is in negotiations with the landlord
regarding being released from obligations under the lease for the second
building totaling 40 square feet. The Company intends to release the
sub-tenant and occupy the 23 square foot building based upon having raised
$5,000 through secured convertible promissory notes (see note 19). The Company has accrued $2,171 as an estimate for anticipated costs
relative to the disposition of the 40 square foot building net of anticipated
offsetting sublease income.

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##### Table of Contents



SSP SOLUTIONS, INC. AND
SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 (Continued)
(In thousands, except share and per share data)

(12) Concentration of Credit Risk and Significant Customers

Financial instruments that potentially subject the Company to
concentration of credit risk are trade receivables. Credit risk on trade
receivables is limited as a result of the Companys customer base and their
dispersion across different industries and geographic regions. As of December
31, 2000 and 2001, accounts receivable included $3,732 and $3,498,
respectively, due from the U.S. Government and related agencies. Sales to the
U.S. Government and related agencies accounted for 91%, 81% and 72% of total
revenues for the years ended December 31, 1999, 2000 and 2001, respectively.

The Company had sales to two customers that represented 31% and 12% of
1999 total revenue, respectively. The Company had sales to one customer that
represented 42% of 2000 total revenue. The Company had sales to one customer
that represented 20% of 2001 total revenue. No other customers accounted for
more than 10% of total revenue in 1999, 2000 or 2001. Trade accounts receivable
aggregated $1,191 and $1,577 from the aforementioned major customers as of
December 31, 2000 and 2001, respectively.

Some key components used in the manufacture
of the Company's products can only be obtained from single sources.

(13) Commitments and Contractual Obligations

The Company leases office space under noncancelable operating leases. The
terms of the leases range up to seven years. The following summarizes the
future minimum lease payments under all noncancelable operating lease
obligations:

|                         |                     |   |       |       | 
|------------------------ | ------------------- | - | ----- | ----- | 
|Year
ending December 31,
|                         | 2002                |   | $     | 1,707 | 
|                         | 2003                |   |       | 769   | 
|                         | 2004                |   |       | 672   | 
|                         | 2005                |   |       | 672   | 
|                         | 2006 and thereafter |   |       | 2,075 | 
|                         |                     |   |       |      
|                         |                     | $ | 5,895 |      
|                         |                     |   |       |      

Rental expense under noncancelable operating leases was $434, $668, and
$679 for the years ended December 1999, 2000 and 2001, respectively. Rental
expense and future minimum lease payments for the years 1999, 2000 and 2001
include offsetting income from subleases in the amounts of $126 and
$45,
respectively.

The commitment schedule above is net of the
following sublease income:

| |                     |  |   |       | 
| | ------------------- |  | - | ----- | 
| | 2002                |  | $ | 45    | 
| | 2003                |  |   | 722   | 
| | 2004                |  |   | 722   | 
| | 2005                |  |   | 722   | 
| | 2006
and thereafter |  |   | 2,165 | 
| |                     |  |   |      
| |                     |  | $ | 4,376 | 
| |                     |  |   |      

The corporate
headquarters are leased from a related party (see note 11). The remaining term on the
previously existing lease extended until September 2001. In 1999, the Company
recognized a net loss on the previous lease of $129; this loss includes offsetting
sublease income.

In April 2002, the
Company and KRDS entered into an agreement whereby upon sixty (60)
days notice, the Company or KRDS may cancel the remaining term of the
corporate headquarters lease with no future liability. The exit clause is available provided that all amounts due under
the lease are paid current through the date of termination. The Company has not
executed the exit clause but anticipates doing so in the connection
with the lease of the new facility.

The Company entered into two lease agreements in
October 2001 with a related party (note 11) to move its corporate headquarters to a larger facility.
The new facility consists of two buildings with an aggregate of
approximately 63 square feet, located in the Irvine Spectrum in
Irvine, California. The leases for the Spectrum facilities expire in
2009 and have an annual rent of $1,394.

The Company is
currently occupying its facility leased from KRDS, a related party,
and is subletting one-half of one of the Spectrum facilities, consisting of
approximately 23 square feet, to a related party. The subtenant is
currently delinquent on its rental payments to the Company. To date,
the Company has not received any rental income from its subtenant.

The Company is
currently negotiating with the landlord of the new facilities
regarding being released from obligations for one of the facilities consisting
of approximately 40 square feet. The Company anticipates moving into
the 20 square foot building in July 2002 and releasing its subtenant from
its rental commitments. In 2001, the Company recognized a
net loss on the Spectrum leases of $2,171 which is net of anticipated
future sublease income.

As of December 31, 2001, the Company had
unconditional purchase obligations of $8,873 for purchases through
2006.

F-21



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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

EDS

In November 2000, the
Company executed an Alliance Agreement with Electronic Data Systems
Corporation (EDS) for the marketing of Company
products to EDS customers (Alliance). The Alliance calls
for a joint working relationship between the two companies, which is
non-exclusive and has a term of ten (10) years. In February 2001, the
Company and EDS executed an engagement letter for EDS to provide
certain information technology and consulting services for both the
Companys organizational structure and for a specific customer
project. Under these engagements, EDS billed $1,150, of which $458
remained unpaid as of December 31, 2001.

On August 27,
2001, EDS and the Company executed a letter of intent and temporary
working agreement whereby EDS supplied software and hardware for
re-sale to Pulsar customers (Pulsar Agreement). Under the
Pulsar Agreement, as of December 31, 2001, $1,488 remained
outstanding and unpaid to EDS for purchases of hardware and
software.

The Company and EDS
executed a Master Services Agreement (MSA) dated as of
November 14, 2001, whereby beginning December 1, 2001 and
ending December 31, 2006, the Company and EDS established a
strategic teaming relationship to implement, sell and deliver a set
of secure transaction processing offerings based upon a Trust
Assurance Network (TAN). The MSA task order (Task Order) requires that the Company to pay a monthly
fee of $44 for account, test and lab management services beginning
January 1, 2002. The obligations for these services can be
terminated beginning January 1, 2003 by giving ninety (90) days
prior written notice and payment of $400, or beginning
January 1, 2004 by giving ninety (90) days prior written notice
and payment of $200. Further, the Task Order
provides for EDS to provide TAN hosting and implementation in
exchange for an implementation fee of $45 payable October 1,
2002. Once installation of the production environment TAN is
complete, EDS agrees to host the TAN in exchange for a monthly
service fee of $59 for thirty-six (36) months and $60 per month for
the remaining months of the MSA. The Company may delay implementation
of the TAN by paying a fee of $200 prior to January 31, 2003.
The Company may terminate the Task Order without cause by paying $400
after January 1, 2004 and providing ninety (90) days prior
written notice. In the event the Company is unable to obtain
intellectual property rights or licensing consents that may be
required, if any, prior to January 1, 2003, and the parties
determine there are no software alternatives, then after giving
ninety (90) days prior written notice the Company may terminate the
Task Order by paying $450.

WAVE SYSTEMS CORP.

In October 2000, BIZ
signed a development agreement with Wave Systems Corp.
(Wave) for the integration of EMBASSY based systems with
set-top box master reference designs of Broadcom Corporation. The
development agreement was amended in May 2001. Under this agreement, BIZ is
required to pay Wave $278 per month beginning June 1, 2001 through December 1,
2002. Should the Company not make the required payments, Wave may request
payment in the form of common stock. As of December 31, 2001, the Company owed
$1,389 to Wave, but no requests for stock payments have been
made. The Company has included this amount in the accrued liabilities balance
at December 31, 2001. These shares are not included in
shareholders equity as the agreement does not include a limit on the
number of shares which could potentially be issued upon the exercise
of the stock right by Wave. Additionally, no shares related to this
obligation have been included in the earnings per share calculation
for the year ended December 31, 2001. Under the terms of the agreement, if SSP fails to pay
any installment in full, when payable and if the default is not cured within 30
days after written notice, the unpaid portion of the installment shall
automatically convert into stock acquisition rights exercisable by Wave
to acquire a number of fully paid, nonassessable shares of common
stock of SSP determined by dividing the fair market value, the average of closing price of
SSP common stock for the 10 trading-day period prior to the date of
exercise,
of a share of SSP common stock on the date of exercise of the stock acquisition
right into the aggregate of the portion of the installment payment that is not
paid on the due date of the installment payment related to the defaults.
Separately, should the Company or not purchase $5,000 of goods or
services from Wave by June 30, 2003, the Companys exclusivity relative to
certain customers will, at Waves option, become non-exclusive.

Waves stock acquisition right may be exercised at any time within 10 years of
the date of default. SSP may elect, at any time the stock acquisition rights
are outstanding and not exercised, to redeem any of the stock acquisition
rights and convert the aggregate credit amount into SSP common stock.
To date, Wave has made no request for issuance of stock.

The Company has been
in default of the agreement since August 2001. Wave has issued
monthly notices of default through January 2002.
Accordingly, at December 31, 2001, $1,389 was converted into
stock appreciation rights. It is managements intent to make all
future payments under the terms of this agreement in stock.

SSP has reserved 1,150,000 shares of its authorized but unissued common stock
for issuance to Wave.

EPAY LATINA

Under a joint marketing alliance agreement executed in August 2001 and
will continue for a period of 20 years with ePayLatina (ePay), the Company
agreed to create the applet to allow ePays enhanced security transaction
software to communicate with the Companys card readers. As part of the
agreement ePay agreed to purchase and use the Companys card readers (or
other products with similar functionality sold by the Company), and granted the
Company a world wide, royalty free exclusive license to use their software. The
Company and ePay both agreed to bear their own costs. The Company estimates the
cost to complete the applet to be $150. The Company and ePay both agreed to
share net revenues from the sales of bundled products on a 50/50 basis.

F-22



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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)
(In thousands, except share and per share data)

(14) Loss Per Share

The calculation of diluted net loss per share under Statement 128 excludes
potential common shares if the effect is antidilutive. Potential common shares
are composed of incremental shares of common stock issuable upon the exercise
of stock options and warrants. The following table sets forth potential common
shares that were excluded from the diluted net loss per share calculation for
the years ended December 31, 1999, 2000 and 2001 because they are antidilutive
for the periods indicated:

|              |  |      |     |      |  |      |     |  |  |  |       | 
|------------- |  | ---- | --- | ---- |  | ---- | --- |  |  |  | ----- | 
|              |  | 1999 |     | 2000 |  | 2001
|              |  |      |     |      |  |     
|Warrants      |  |      | 370 |      |  |      | 370 |  |  |  | 394   | 
|Stock options |  |      | 236 |      |  |      | 490 |  |  |  | 1,543 | 
|              |  |      |     |      |  |      |     |  |  |  |       | 
|              |  |      | 606 |      |  |      | 860 |  |  |  | 1,937 | 
|              |  |      |     |      |  |      |     |  |  |  |       | 

(15) Shareholders Equity

1998 and 1999 Employee Stock Option
Plans

Under the Companys 1998 and 1999 Employee Stock Option Plans (the
Plans) which were established in April 1998 and April 1999, respectively, the
exercise price of options granted will not be less than the fair market value
of the related common stock at the date of grant. The total number of shares of
common stock available for grant under the Plans is 1,500,000 shares. All
stock options granted under the Plans have 10-year terms. Unless otherwise provided by the
Board of Directors or a committee of the Board administering the Plans, each
option granted under the 1998 Plan vested on December 31, 1998 as to 10-15%,
plus an additional 2.5% for each year of service with the Company, and 20% each
December 31 thereafter until fully vested. Unless otherwise provided by the
Board of Directors, or a committee of the Board administering the
Plans, each
option granted under the 1999 Plan vests 20% on each one year anniversary from
the date of grant.

During the quarter ended September 30, 2001, the Company increased the
authorized number of common shares from 25,000,000 to 100,000,000 which was
approved by shareholders on August 23, 2001. In conjunction with the
Acquisition, the Company issued approximately 10,875,128 common shares.

BIZ Interactive Zone, Inc. 2000 Stock Option Plan

The BIZ Plan was
assumed as part of the Acquisition. The BIZ Plan is closed and no additional
options can be granted. As of December 31, 2001, there were
options outstanding to purchase approximately 814,000 shares.

F-23



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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

2001 Employee
Stock Purchase Plan (ESPP)

During the quarter ended
September 30, 2001, the Company established the ESPP, which was approved by
shareholders on August 23, 2001. A total of 1,000,000 shares of common stock is
currently authorized for issuance under the ESPP. If a right expires or becomes
unexercisable without having been exercised in full, the shares of common stock
that were subject to that right will again become available for grant under the
ESPP. The number of shares issuable under the ESPP, and the purchase price per
share, is subject to proportional adjustments to reflect stock splits, stock
dividends, mergers, consolidations and similar events. To date, no shares have
been issued under the ESPP.

Deferred Compensation

The deferred compensation consists of amounts
related to stock options and warrants assumed as part of the
Acquisition, as well as non-employee stock option grants and issuance of
stock.

Equity instruments issued to nonemployees are measured using the fair
value of the equity instrument using the stock price and other measurement
assumptions as of the earlier of the date at which a performance commitment to
earn the equity instruments is reached or the date at which the performance is
complete.

During 2001, the
Company granted 25,211 stock options to non-employees. The vesting
terms of the options ranged from immediate to one year from the date
of grant. In connection with the granting of these options the
Company recorded deferred compensation of $54 and recognized
compensation expense of $67 related to these options as of and for
the year ended December 31, 2001. The terms of these
options range from two to four years.

Additionally, in
conjunction with the Acquisition, the Company assumed 694,863
options under the BIZ stock option plan. Selected employee stock
options were granted to employees with exercise prices less than fair
value of the underlying common stock at the date of grant.
Accordingly, compensation expense will
be recognized and recorded over the vesting period. The options
generally vest 25% upon the completion of one year of service and the
remaining 75% in equal monthly installments over the next three years
from the date of grant. As the Company granted the options to
employees at below fair market value the Company recorded deferred
compensation and compensation expense as of and for the year ended
December 31, 2001. The term of the options is ten years.

In addition, BIZ
granted 118,779 stock options to non-employees in exchange for
services prior to the Acquisition. The stock options generally vest over
one year and the term of these options is one year.

The Company recorded
deferred compensation related to the BIZ options of $1,139 at December 31, 2001,
compensation expense of $227 and reversal of deferred compensation
related to terminated employees of $79 for the year ended
December 31, 2001.

Warrants

Warrants to purchase 370,000 shares of common stock at $18.15 per share
were issued to the underwriters as part of the Companys initial public
offering. The warrants are exercisable at any time, in whole or in part, during
the four-year period commencing on June 9, 2000.

Under the
Acquisition, the Company assumed a warrant for approximately 24,000 shares of common stock at a price per share of $2.11. The
warrants vested immediately upon grant and have an exercise period of
five years. The warrants were issued above fair market value and
accordingly no compensation expense was recorded at the date of grant
for these warrants.

Options

Following is a
summary of stock option transactions (shares in thousands):

|                                         |           |  |        |       |                |   |          |      | 
|---------------------------------------- | --------- |  | ------ | ----- | -------------- | - | -------- | ---- | 
|                                         |           |  |        |       |                |   | Weighted
|                                         |           |  | Number |       | Average       
|                                         |           |  | of     |       | Exercise Price
|                                         |           |  | Shares |       | Per Share     
|                                         |           |  |        |       |               
|Options outstanding at December 31, 1998 |           |  | 281    |       |                | $ | 0.70     |     
|                                         | Granted   |  |        | 124   |                |   |          | 8.64 | 
|                                         | Cancelled |  |        | (53   | )              |   |          | 3.66 | 
|                                         | Exercised |  |        | (116  | )              |   |          | 0.70 | 
|                                         |           |  |        |       |                |   |          |     
|Options outstanding at December 31, 1999 |           |  | 236    |       |                |   | 4.17     |     
|                                         | Granted   |  |        | 347   |                |   |          | 5.43 | 
|                                         | Cancelled |  |        | (65   | )              |   |          | 5.73 | 
|                                         | Exercised |  |        | (28   | )              |   |          | 0.70 | 
|                                         |           |  |        |       |                |   |          |     
|Options outstanding at December 31, 2000 |           |  | 490    |       |                |   | 5.05     |     
|                                         | Granted   |  |        | 1,239 |                |   |          | 2.60 | 
|                                         | Cancelled |  |        | (111  | )              |   |          | 4.25 | 
|                                         | Exercised |  |        | (4    | )              |   |          | .70  | 
|                                         |           |  |        |       |                |   |          |     
|Options outstanding at December 31, 2001 |           |  | 1,614  |       |                |   | 3.26     |     
|                                         |           |  |        |       |                |   |          |     

The options granted
of 1,239 shares in fiscal 2001 include 837 options
assumed by the Company in the Acquisition. As of December 31,
2001, there were 342 shares available for grant.

As of December 31, 2000 and 2001, the number of options exercisable was 57
at a weighted average exercise price of $0.70 and remaining contract life of
8.3 years and 456 at a weighted average exercise price of $2.88 and remaining
contract life of 8.9 years, respectively. The Company had
1,614 options outstanding at December 31, 2001, with a
range of exercise prices from $0.70 per share to $9.75 per share.

F-24



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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)
(In thousands, except share and per share data)

The Company applies APB Opinion No. 25 and related interpretations in
accounting for its stock option plans. Accordingly, no compensation cost has
been recognized for its stock options in the consolidated financial statements.
Had the Company determined compensation cost based on the fair value at the
grant date for its stock options under Statement 123, the Companys net loss
would have been increased to the pro forma amount indicated below.

|                                               |  |              |        |      |  |   |        | 
|---------------------------------------------- |  | ------------ | ------ | ---- |  | - | ------ | 
|                                               |  | Year Ended  
|                                               |  | December 31,
|                                               |  |             
|                                               |  | 2000         |        | 2001
|                                               |  |              |        |     
|Net loss as reported                           |  | $            | 41,405 |      |  | $ | 53,160 | 
|Assumed stock compensation cost                |  |              | 259    |      |  |   | 779    | 
|                                               |  |              |        |      |  |   |        | 
|Pro forma net loss                             |  | $            | 41,664 |      |  | $ | 53,939 | 
|                                               |  |              |        |      |  |   |        | 
|Pro forma net loss per share-basic and diluted |  | $            | 4.22   |      |  | $ | 3.97   | 
|                                               |  |              |        |      |  |   |        | 

The weighted-average fair value per option granted in 2000 and 2001 was
$4.85 and $3.33, respectively. The fair value of each option grant was estimated
on the date of grant using the Black-Scholes option-pricing model with the
following assumptions in 2000 and 2001: risk-free interest rate of 6.08% and of
5.41%, respectively; dividend yield of 0.00%; and
volatility of 1.38% and 1.03%, respectively. The Black-Scholes model, as well
as other currently accepted option valuation models, was developed to estimate
the fair value of freely-tradable, fully-transferable options without vesting
restrictions, which significantly differ from the Companys stock option plans.
These models also require highly subjective assumptions, including future stock
price volatility and expected time until exercise, which greatly affect the
calculated fair value on the grant date.

Reserved Shares

In connection with
the Wave agreement SSP reserved 1,150,000 shares of its authorized
but unissued common stock for issuance to Wave, see
note 13. As a requirement for the secured
convertible promissory note the Company has been requested to
reserve 1,150 shares
for its authorized but unissued common stock, see note 19.

Retired Shares

As part of the Stock Acquisition Agreement dated February 9, 1999, whereby
Litronic acquired all of the outstanding stock of Pulsar, Lillian Davis, as a
selling shareholder of Pulsar, agreed to indemnify the Company for certain
damages if incurred by the Company as specified in the Stock Acquisition
Agreement. In November 2000, the Company entered into an agreement with Ms.
Davis, a shareholder of the Company, whereby she would, in consideration for a
release from specific potential indemnity obligations, transfer 141,573 shares
of the Companys common stock to the Company for cancellation. The release was
for specific potential indemnity obligations and Ms. Davis was not released
from any potential indemnity obligations outlined in the Stock Acquisition
Agreement that were not specified in the release. The 141,573 shares of stock
subject to the agreement were transferred to the Company in December 2000 and
retired.

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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

(16) Employee Retirement Savings Plan

Effective January 1, 1998, the Company established a retirement plan,
which is intended to qualify under Section 401(k) of the Internal Revenue Code.
Under the plan, eligible employees are able to contribute up to 20% of their
compensation not to exceed the maximum IRS deferral amount. The Company may
also match employee contributions at its discretion. During 1999, 2000 and
2001, the Company made contributions of $86, $142 and $143 to this plan,
respectively.

(17) Income Taxes

Effective June 9, 1999, the Company became a C corporation as a result of
the Companys initial public offering. Prior to June 9, 1999, the Company had
elected to be taxed as an S corporation under the provision of Section 1362 of
the Internal Revenue Code. Accordingly, prior to June 9, 1999, the Company had
not recorded a provision for Federal income taxes since the liability was that
of the shareholders and the S corporation was subject to a 1.5% California tax
rate on earning before income taxes.

The provision (benefit) for income taxes from continuing operations is
comprised of the following for the year ended
:

|         |         |       |   |              |     |      |   |      |   |  |   |    |    | 
|-------- | ------- | ----- | - | ------------ | --- | ---- | - | ---- | - |  | - | -- | -- | 
|         |         |       |   | December 31,
|         |         |       |   |             
|         |         |       |   | 1999         |     | 2000 |   | 2001
|         |         |       |   |              |     |      |   |     
|Current: |         |       |   |              |     |      |   |      |   |  |   |   
|         | Federal |       | $ |             |     |      | $ |     |   |  | $ |   |   
|         | State   |       |   | (43          | )   |      |   | 6    |   |  |   | 53 |   
|         | Foreign |       |   |             |     |      |   |     |   |  |   |   |   
|         |         |       |   |              |     |      |   |      |   |  |   |   
|         |         | Total |   | $            | (43 | )    |   | $    | 6 |  |   | $  | 53 | 
|         |         |       |   |              |     |      |   |      |   |  |   |   

Deferred tax assets and liabilities result from differences between the
financial statement carrying amounts and the tax basis of existing assets and
liabilities. The significant components of deferred income taxes are as
follows:

|                          |                                 |  |              |        |      |  |       |        |   |  |        |         |  
|------------------------- | ------------------------------- |  | ------------ | ------ | ---- |  | ----- | ------ | - |  | ------ | ------- | -
|                          |                                 |  | December 31,
|                          |                                 |  |             
|                          |                                 |  | 1999         |        | 2000 |  | 2001 
|                          |                                 |  |              |        |      |  |      
|Deferred tax assets:      |                                 |  |              |        |      |  |       |        |   |  |        |        
|                          | Net operating loss carryforward |  | $            | 1,165  |      |  | $     | 3,686  |   |  | $      | 9,086   |  
|                          | Credit carryforward             |  |              | 97     |      |  |       | 314    |   |  |        | 237     |  
|                          | Accrued expenses                |  |              | 236    |      |  |       | 433    |   |  |        |        |  
|                          | Start-up
cost                   |  |              |       |      |  |       |       |   |  |        | 6,444   |  
|                          |                                 |  |              |        |      |  |       |        |   |  |        |        
|Total deferred tax assets |                                 |  | 1,498        |        |      |  | 4,433 |        |   |  | 15,767 |        
|                          | Less valuation allowance        |  |              | (1,498 | )    |  |       | (4,433 | ) |  |        | (15,767 | )
|                          |                                 |  |              |        |      |  |       |        |   |  |        |        
|                          | Net deferred tax assets         |  | $            |       |      |  | $     |       |   |  | $      |        |  
|                          |                                 |  |              |        |      |  |       |        |   |  |        |        

The Company has recorded a valuation allowance in the amount set forth
above for certain deductible temporary differences, net operating loss
carryforwards and credit carryforwards where it is more likely than not that
the Company will not receive future tax benefits. The net change in the
valuation allowance for the year ended December 31, 2000 and 2001 was $2,935
and $11,334, respectively. The year 1999 was the first year that the Company
recorded deferred tax assets, as the Company was previously an S corporation
and thus no deferred tax assets had been recorded prior to June 9, 1999.

Subsequently
recognized tax benefits relating to the valuation allowance for
deferred tax assets as of December 31, 2001 will be allocated as
follows:

| |                                                                                        |       |   |       |        |  |  |  |  |  |  |  |  | 
| | -------------------------------------------------------------------------------------- | ----- | - | ----- | ------ |  |  |  |  |  |  |  |  | 
| | Income
tax benefit that would be reported in the consolidated statements of
operations |       | $ | 9,163
| | Goodwill                                                                               |       |   | 6,604
| |                                                                                        |       |   |       |       
| |                                                                                        | Total |   | $     | 15,767
| |                                                                                        |       |   |       |       

As of December 31, 2001, the Company has Federal and state net operating
losses (NOL) carryforwards of approximately $25,000 and $9,900, respectively.
These NOL carryforwards will expire through year 2021 for the Federal NOL and
2006 for the state NOL. Additionally, the Company has Federal and state
research and experimentation (R&E) credit carryforwards of
approximately $108
and $129, respectively. These R&E Credit carryforwards expire through 2021 for
the Federal R&E Credit and indefinitely for the state R&E Credit.

F-26



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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 (Continued)
(In thousands, except share and per share data)

Income tax expense differs from the amount computed by applying the
Federal corporate income tax rate of 34% to income (loss) before income taxes
as follows:

|                                                                       |                    |  |                         |    |      |  |      |    |   |       |    |   |  
|---------------------------------------------------------------------- | ------------------ |  | ----------------------- | -- | ---- |  | ---- | -- | - | ----- | -- | - | -
|                                                                       |                    |  | Year
Ended December 31,
|                                                                       |                    |  |                        
|                                                                       |                    |  | 1999                    |    | 2000 |  | 2000
|                                                                       |                    |  |                         |    |      |  |     
|Statutory tax rate                                                     |                    |  | (34                     | )% |      |  | (34  | )% |   | (34)%
|Goodwill amortization and impairment of goodwill and other
Intangibles |                    |  | 10                      | %  |      |  | 32   | %  |   | 27%  
|In-process
research and development                                    |                    |  |                        |    |      |  |     |    |   |       | 1% |  
|Change in valuation allowance                                          |                    |  | 30                      | %  |      |  | 7    | %  |   | 9%   
|State income taxes, net                                                |                    |  | (6                      | )% |      |  | (5   | )% |   | (4)% 
|Research and experimentation credit                                    |                    |  |                        |    |      |  |     |    |   |       |   |  
|Other                                                                  |                    |  | 1                       | %  |      |  |     |    |   |       | 1  | %
|                                                                       |                    |  |                         |    |      |  |      |    |   |       |    |  
|                                                                       | Effective tax rate |  |                         | 1  | %    |  |      |   | % |       |    |  | %
|                                                                       |                    |  |                         |    |      |  |      |    |   |       |    |  

Subsequent to the initial public offering, the Company had recognized a
tax benefit of $285 in the second quarter ended June 30, 1999. During the
fourth quarter of 1999, the Company determined it was more likely than not that
the Company would not realize the benefit of the net deferred tax asset, and
accordingly, recorded a tax-expense to eliminate the benefit and related
deferred tax asset from the consolidated financial statements in the fourth
quarter of 1999.

(18) Contingent Liabilities

As the Company provides engineering and other services to various
government agencies, it is subject to retrospective audits, which may result in
adjustments to amounts recognized as revenues, and the Company may be subject
to investigation by governmental entities. Failure to comply with the terms of
any governmental contracts could result in civil and criminal fines and
penalties, as well as suspension from future government contracts. The Company
is not aware of any adjustments, fines or penalties, which could have a
material adverse effect on its financial position or results of operations.

The Company had cost reimbursable type contracts with the Federal
Government. Consequently, the Company is reimbursed based upon the direct
expenses attributable to the contract, plus a percentage based upon overhead,
material handling, and general administrative expenses. The overhead, material
handling, and general administrative rates are estimates. Accordingly, if the
actual rates as determined by the Defense Contract Audit Agency are below the
Companys estimates, a refund for the difference would be due to the Federal
Government. It is managements opinion that no material liability will result
from any contract audits.

We are involved from time to time in various litigations that arise in the
ordinary course of business. We are not currently involved in any litigation
that we believe will have a material impact on our results of operations,
financial condition or liquidity.

On January 16, 1998, G2 Resources Inc. (G2) filed a complaint against
Pulsar in the Circuit Court, Fifteenth Judicial Circuit, Palm Beach County,
Florida. G2 claimed that Pulsar breached a contract under which G2 agreed to
provide services related to the monitoring of government contracts available
for bid and the preparation and submission of bids on behalf of Pulsar. The
contract provided that Pulsar pay G2 $500 in 30 monthly installments of $16 and
an additional fee of 2% of the gross dollar amount generated by awards. In its
complaint, G2 alleged that Pulsar failed to make payments under the contract
and claimed damages in excess of $525 plus interest, costs and attorneys fees.
In the course of discovery G2 asserted that its losses/costs arising out of its
claim amounted to approximately $10,300. Pulsar asserted that G2 failed to
perform the services required under the contract and Pulsar filed a claim for
compensatory damages, interest and attorneys fees against G2. Classical
Financial Services, LLC intervened in the case. Classical claimed that G2
assigned its accounts receivable to Classical under a financing program and
that Pulsar breached its obligations to Classical by failing to make payments
under the contract with G2. Pulsar asserted defenses to Classicals claim. On
April 20, 2001, a court hearing was held and G2s complaint against Pulsar was
dismissed without prejudice on the basis of no prosecution activity for more
than 12 months. On May 22, 2001, G2 filed a new complaint against Pulsar. The
Company believes that the claims made by G2 and Classical against Pulsar are without merit
and intends to vigorously defend against these claims.

During the second
quarter of 2001 Microsoft notified the Company regarding the alleged sales of unlicensed copies of Microsoft Office. The software in
question was purchased from a major computer hardware manufacturer and was
resold to one of the Companys customers in a package that included both
hardware and software. The Company is currently investigating the matter, and does not anticipate that the
outcome will have a material impact on its results of operations, financial
condition or liquidity.

We were recently
served with a lawsuit filed by Dell Marketing, LLC pertaining to
overdue amounts for computer products purchased for resell through Pulsar. The suit asserts claim for
payment of $322, which the Company anticipates it will
pay.

F-27



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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS    (Continued)
(In thousands, except share and per share data)

The Company currently holds multiple contracts with the Federal
government. In particular, three of these contracts permit the Company to
provide goods and services to various Federal government agencies. Although
these contracts are currently up for renewal, it is possible they may not be
renewed or may be cancelled by the Federal government due to the Companys
inability to perform as required under the contracts.

The Company is currently in negotiations with the various government agencies
it contracts with to initiate and implement the corrective measures necessary
to insure the uninterrupted continuity of the contracts. Although there is no
assurance that the contracts will be renewed or that they will not be
cancelled, the Company has reason to believe they will be renewed. However, if the contracts are not renewed or if they are cancelled, then a
significant portion of the Companys revenues will be lost which
would have a
significant impact on the Company's financial condition, results of
operations and liquidity.

As of December 31, 2001, accounts payable
totaled $9,495. Of that amount, $4,629
are aged at least 90 days. As indicated elsewhere in this
footnote, one of
the Company's vendors have already commenced legal actions to collect payables of
$322,
while others have threatened collection action. Unless payment is made or
satisfactory payment plans agreed to, it is likely that the remainder of the
vendors will eventually initiate legal actions to collect the amounts owed to
them. Currently, the Company has the intent to satisfy its vendor
obligations through a combination of payment negotiations,
which include extending the terms over time, partial payments of the
obligations due as payment in full and converting obligations to long
term notes payable.

F-28



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##### Table of Contents



SSP SOLUTIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)
(In thousands, except share and per share data)

(19) Subsequent Events

GET/SSP LLC

GET/SSP, LLC, a Nevada limited liability company, (GET/SSP) was
formed in January 2002 as a wholly-owned subsidiary of the Company. The
entity was formed with the intention of having it conduct all business and any
required financing activities on behalf of the Company. Also, in
January 2002, GET/SSP and the Venetian Hotel based in Las
Vegas, Nevada, (Venetian) executed an agreement regarding the formation of a
joint venture for the development and conduct of on-line gaming portal(s)
(Joint Venture) in venues where such activity complies with all regulatory
requirements.

While GET/SSP and the Venetian made initial estimates of development costs,
operating costs and timing, the agreement provides for the parties to work
together to refine and finalize the initial estimates. The agreement
states a required commitment for the development and start-up costs
of up to $15,000. Based upon the joint work since signing the original
agreement, management believes that these costs will not exceed
$3,000. Timing for implementation was deferred for several months, and the
Venetian has expressed the desire to market the on-line gaming venture through
a separate hospitality program. As currently contemplated, the hospitality
program is to be developed under separate contract by the Company to build upon
current Venetian processes and customer interfaces. The deployed hospitality
program will then be used as a platform to launch into on-line gaming
capabilities in order to help absorb device costs and lower customer
acquisition costs.

GET/SSP and the Venetian have agreed to waive defaults existing under the
original Joint Venture and continue the process of business development. The
Joint Venture creates no legal liability for the Company to provide financing or
working capital. The Company intends to offer outside investors a financing
instrument that will reduce the Companys ownership to less than 100%, provide
the investor a priority return plus the return of invested capital and a
continuing ownership interest in GET/SSP. The amount of the financing is
not currently known, but the Company intends that GET/SSP will be a
self-financing entity, and that financial obligations will not extend to the
Company.

Secured Convertible Promissory Notes

On April 15, 2002, the Company completed a
private financing of $5,000 in the
form of $4,000 in 10% secured convertible promissory notes, $653 in
secured non-convertible promissory notes ($153 held by Co-Chairman Kris Shah and
$500 held by co-Chairman Marvin Winkler) and the pre-payment of a $500
note due from Kris Shah, less a discount of $153. The discount was based
upon a present value using the rate of 20% for early payment and will be
charged against earnings in the second quarter of 2002. In connection with the issuance of the
secured convertible promissory notes the Company incurred approximately
$285 of issuance costs, which primarily consisted of investment banker
fees, legal and other professional fees. All promissory notes mature
December 31, 2005; bear interest at a rate of 10% per annum, which will be paid
quarterly in cash, or at the Companys discretion, in common shares based upon
the trailing thirty (30) day average prior to the interest due date; and the
$4,000 of convertible promissory notes, in whole or in part, are
convertible at the option of the holder into an aggregate of approximately
4,000,000 shares of the Companys common stock at any time prior to maturity,
at a conversion price of $1.00 per share, subject to adjustment under certain
conditions; and the convertible promissory notes have detachable warrants
exercisable for three (3) years to purchase an additional 2,400,000 shares at
$1.30

F-29



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##### Table of Contents



SSP SOLUTIONS, INC. AND
SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)
(In thousands, except share and per share data)

per share. The convertible notes
are automatically converted prior to maturity if the Companys common shares trade at or above an average
price of $3.00 per share for twenty (20) consecutive trading days and average
volume of 100,000 shares per day for twenty (20) consecutive trading days. The
Company is subject to restrictive covenants related to the secured
convertible and non-convertible promissory notes that prevents the
Company from pledging intellectual property as collateral.

(20) Quarterly Financial Data (Unaudited)

Selected quarterly financial data for 2001 and 2000 is as follows:

|      |                |  |          |        |        |  |      |       |           |  |   |         |   |  |           |       |  
|----- | -------------- |  | -------- | ------ | ------ |  | ---- | ----- | --------- |  | - | ------- | - |  | --------- | ----- | -
|      |                |  |          |        |        |  |      |       |           |  |   |         |   |  | Basic and
|      |                |  |          |        |        |  |      |       |           |  |   |         |   |  | Diluted  
|      |                |  | Net      |        | Gross  |  | Net  |       | loss     
|      |                |  | revenues |        | profit |  | loss |       | per share
|      |                |  |          |        |        |  |      |       |          
|2001: |                |  |          |        |        |  |      |       |           |  |   |         |   |  |           |      
|      | Fourth quarter |  | $        | 6,738  |        |  | $    | 809   |           |  | $ | (41,644 | ) |  | $         | (2.02 | )
|      | Third quarter  |  |          | 5,155  |        |  |      | 1,022 |           |  |   | (7,355  | ) |  |           | (0.52 | )
|      | Second quarter |  |          | 6,349  |        |  |      | 1,616 |           |  |   | (1,785  | ) |  |           | (0.18 | )
|      | First quarter  |  |          | 4,478  |        |  |      | 1,279 |           |  |   | (2,376  | ) |  |           | (0.24 | )
|      |                |  |          |        |        |  |      |       |           |  |   |         |   |  |           |      
|      | Total          |  | $        | 22,720 |        |  | $    | 4,726 |           |  | $ | (53,160 | ) |  |           |       |  
|      |                |  |          |        |        |  |      |       |           |  |   |         |   |  |           |      
|2000: |                |  |          |        |        |  |      |       |           |  |   |         |   |  |           |      
|      | Fourth quarter |  | $        | 10,473 |        |  | $    | 2,062 |           |  | $ | (33,872 | ) |  | $         | (3.45 | )
|      | Third quarter  |  |          | 15,111 |        |  |      | 2,760 |           |  |   | (1,652  | ) |  |           | (0.17 | )
|      | Second quarter |  |          | 9,050  |        |  |      | 2,439 |           |  |   | (2,420  | ) |  |           | (0.24 | )
|      | First quarter  |  |          | 4,722  |        |  |      | 935   |           |  |   | (3,461  | ) |  |           | (0.35 | )
|      |                |  |          |        |        |  |      |       |           |  |   |         |   |  |           |      
|      | Total          |  | $        | 39,356 |        |  | $    | 8,196 |           |  | $ | (41,405 | ) |  |           |       |  
|      |                |  |          |        |        |  |      |       |           |  |   |         |   |  |           |      

F-30



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##### Table of Contents



SCHEDULE II

SSP AND SUBSIDIARIES

VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEARS ENDED DECEMBER 31, 1999, 2000 AND 2001
(In thousands)

|                                                             |  |            |     |            |  |             |     |             |  |               |     |  |  |   |     |  |  |   |     | 
|------------------------------------------------------------ |  | ---------- | --- | ---------- |  | ----------- | --- | ----------- |  | ------------- | --- |  |  | - | --- |  |  | - | --- | 
|                                                             |  |            |     |            |  | Additions   |     |             |  |               |     |  |  |   |     |  |  |  
|                                                             |  | Balance At |     | Charged to |  | Additions   |     | Deductions |  |               |     | 
|                                                             |  | Beginning  |     | Costs and  |  | Due to      |     | Amounts     |  | Balance At   
|Description                                                  |  | of Period  |     | Expenses   |  | Acquisition |     | Written Off |  | End of Period
|                                                             |  |            |     |            |  |             |     |             |  |              
|Year Ended December 31, 1999
Allowance for doubtful accounts |  | $          | 14  |            |  | $           | 327 |             |  | $             | 194 |  |  | $ | 145 |  |  | $ | 390 | 
|                                                             |  |            |     |            |  |             |     |             |  |               |     |  |  |   |     |  |  |   |     | 
|Year Ended December 31, 2000
Allowance for doubtful accounts |  | $          | 390 |            |  | $           | 286 |             |  | $             |    |  |  | $ | 408 |  |  | $ | 268 | 
|                                                             |  |            |     |            |  |             |     |             |  |               |     |  |  |   |     |  |  |   |     | 
|Year Ended December 31, 2001
Allowance for doubtful accounts |  | $          | 268 |            |  | $           | 401 |             |  | $             |    |  |  | $ | 415 |  |  | $ | 254 | 
|                                                             |  |            |     |            |  |             |     |             |  |               |     |  |  |   |     |  |  |   |     | 

S-1



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##### Table of Contents



EXHIBITS

|        |  |                                                                                                                                                                                                                                                                                                                   |  |        |  | 
|------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------ |  | 
|Exhibit |  |                                                                                                                                                                                                                                                                                                                   |  | Page  
|Number  |  | Description                                                                                                                                                                                                                                                                                                       |  | Number
|        |  |                                                                                                                                                                                                                                                                                                                   |  |       
|3.1     |  | Amended and Restated Certificate of Incorporation
(incorporated by reference to Exhibit 3.3 contained in
Registrants Registration Statement on Form S-1 filed
with the Commission on or about February 11, 1999).                                                                                               
|       
|       
|       
|       
|3.2     |  | Bylaws of the Registrant (incorporated by reference to
Exhibit 3.2 contained in Registrants Registration
Statement on Form S-1 filed with the Commission on or
about February 11, 1999).                                                                                                                        
|       
|       
|       
|       
|4.1     |  | Form of Stock Certificate.                                                                                                                                                                                                                                                                                       
|       
|       
|       
|       
|4.2     |  | Registration Rights Agreement (incorporated by
reference to Exhibit 4.1 contained in Registrants
Registration Statement on Form S-1 filed with the
Commission on or about February 11, 1999).                                                                                                                   
|       
|       
|       
|       
|4.3     |  | Warrant Agreement (incorporated by reference to
Exhibit 4.2 contained in Registrants Registration
Statement on Form S-1/A filed with the Commission on or
about May 6, 1999).                                                                                                                                   
|       
|       
|       
|       
|4.4     |  | SSP Solutions, Inc. Purchase Agreement, 8.0%
Subordinated Convertible Notes, dated December 17,
2001 (without schedules).                                                                                                                                                                                        
|       
|       
|       
|       
|4.5     |  | Subordinated Convertible Note, dated December 17,
2001, between SSP Solutions, Inc. and Richard P.
Kiphart.                                                                                                                                                                                                      
|       
|       
|       
|       
|4.6     |  | Subordinated Convertible Note, dated December 17,
2001, between SSP Solutions, Inc. and Sandy Tennant.                                                                                                                                                                                                           
|       
|       
|       
|       
|4.7     |  | Amended and Restated Subordinated Convertible Note,
dated December 18, 2001, between SSP Solutions, Inc.
and Marvin J. Winkler.                                                                                                                                                                                  
|       
|       
|       
|       
|4.8     |  | Amended and Restated Subordinated Convertible Note,
dated December 18, 2001, between SSP Solutions, Inc.
and Kris Shah.                                                                                                                                                                                          
|       
|       
|       
|       
|10.1    |  | Employment Agreement with Kris Shah (incorporated by
reference to Exhibit 10.1 contained in Registrants
Registration Statement on Form S-1 filed with the
Commission on or about February 11, 1999).                                                                                                            
|       
|       
|       
|       
|10.2    |  | Litronic Industries, Inc. 1998 Stock Option Plan and
form of Litronic Industries, Inc. 1998 Stock Option
Plan Incentive Stock Option Agreement (incorporated by
reference to Exhibit 10.24 contained in Registrants
Registration Statement on Form S-1 filed with the
Commission on or about February 11, 1999).
|       
|       
|       
|       
|10.3    |  | SSP Solutions, Inc. Amended and Restated 1999 Stock
Option Plan (incorporated by reference to Exhibit 4.5
contained in Registrants Registration Statement on
Form S-8 filed with the Commission on or about
November 13, 2001).                                                                                 





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##### Table of Contents



|        |  |                                                                                                                                                                                                                                                                                                     |  |        |  | 
|------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------ |  | 
|Exhibit |  |                                                                                                                                                                                                                                                                                                     |  | Page  
|Number  |  | Description                                                                                                                                                                                                                                                                                         |  | Number
|        |  |                                                                                                                                                                                                                                                                                                     |  |       
|       
|       
|       
|       
|10.4    |  | Form of SSP Solutions, Inc. Amended and Restated 1999
Stock Option Plan Incentive Stock Option Agreement
(incorporated by reference to Exhibit 4.6 contained in
Registrants Registration Statement on Form S-8 filed
with the Commission on or about November 13, 2001).                          
|       
|       
|       
|       
|10.5    |  | BIZ Interactive Zone, Inc. 2000 Stock Option Plan
(incorporated by reference to Exhibit 4.3 contained in
Registrants Registration Statement on Form S-8 filed
with the Commission on or about November 13, 2001).                                                                                 
|       
|       
|       
|       
|10.6    |  | Form of BIZ Interactive Zone, Inc. Stock Option
Agreement (incorporated by reference to Exhibit 4.4
contained in Registrants Registration Statement on
Form S-8 filed with the Commission on or about
November 13, 2001).                                                                         
|       
|       
|       
|       
|10.7    |  | SSP Solutions, Inc. 2001 Employee Stock Purchase Plan
(incorporated by reference to Exhibit 4.1 contained in
Registrants Registration Statement on Form S-8 filed
with the Commission on or about November 13, 2001).                                                                             
|       
|       
|       
|       
|10.8    |  | Form of SSP Solutions, Inc. 2001 Employee Stock
Purchase Plan Subscription Agreement (incorporated by
reference to Exhibit 4.2 contained in Registrants
Registration Statement on Form S-8 filed with the
Commission on or about November 13, 2001).                                              
|       
|       
|       
|       
|10.9    |  | Award Contract between Maryland Procurement Office and
Litronic Industries, Inc. dated June 27, 1997
(incorporated by reference to Exhibit 10.11 contained
in Registrants Registration Statement on Form S-1/A
filed with the Commission on or about May 6,
1999).                                
|       
|       
|       
|       
|10.10   |  | Modification dated February 3, 1999 of Original GSA
Contract GS-35F-4232D dated May 3, 1996 (incorporated
by reference to Exhibit 10.26 contained in
Registrants Registration Statement on Form S-1/A filed
with the Commission on or about June 1, 1999).                                        
|       
|       
|       
|       
|10.11   |  | Deed of Lease Agreement between Pulsar Data Systems,
Inc. and Massachusetts Mutual Life Insurance Company
dated August 11, 1998 (incorporated by reference to
Exhibit 10.27 contained in Registrants Registration
Statement on Form S-1/A filed with the Commission on or
about June 1, 1999).    
|       
|       
|       
|       
|10.12   |  | Basic Ordering Agreement dated April 16, 1998 between
the United States of America and Litronic
(incorporated by reference to Exhibit 10.38 contained
in Registrants Registration Statement on Form S-1/A
filed with the Commission on or about May 6,
1999).                                     
|       
|       
|       
|       
|10.13   |  | Nonexclusive Distributor Agreement dated April 27,
1999 among Litronic and Itochu Techno-Science
Corporation and Itochu Corporation (incorporated by
reference to Exhibit 10.39 contained in Registrants
Registration Statement on Form S-1/A filed with the
Commission on or about June 1, 1999).
|       
|       
|       
|       
|10.14   |  | Equipment Purchase, Software License and Maintenance
Agreement dated April 20, 1999 between Bank of America
and Litronic (incorporated by                                                                                                                                                          





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##### Table of Contents



|        |  |                                                                                                                                                                                                                                                                                                                                            |  |        |  | 
|------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ |  | ------ |  | 
|Exhibit |  |                                                                                                                                                                                                                                                                                                                                            |  | Page  
|Number  |  | Description                                                                                                                                                                                                                                                                                                                                |  | Number
|        |  |                                                                                                                                                                                                                                                                                                                                            |  |       
|       
|       
|       
|       
|        |  | reference to Exhibit
10.40 contained in Registrants Registration Statement
on Form S-1/A filed with the Commission on or about
May 6, 1999).                                                                                                                                                                                             
|       
|       
|       
|       
|10.15   |  | Lease agreement between KRDS, Inc., and the Company,
dated January 2, 2000 (incorporated by reference to
Exhibit 10.14 contained in Registrants Form 10-K
filed with the Commission on or about April 19, 2001).                                                                                                                         
|       
|       
|       
|       
|10.16   |  | Purchase, Development, and Deployment Agreement dated
October 2, 2000 between BIZ Interactive Zone, Inc. and
Wave Systems Corporation.                                                                                                                                                                                                    
|       
|       
|       
|       
|10.17   |  | Amendment No. 1, dated May 10, 2001, to Purchase,
Development, and Deployment Agreement dated October 2,
2000 between BIZ Interactive Zone, Inc. and Wave
Systems Corporation.                                                                                                                                                            
|       
|       
|       
|       
|10.19   |  | Lease agreement, dated October 10, 2001, between
Litronic Inc. and Research Venture LLC, related to
real property located at 9012 Research Drive, Irvine,
California 92618.                                                                                                                                                               
|       
|       
|       
|       
|10.20   |  | Lease agreement, dated October 10, 2001, between
Litronic Inc. and Research Venture LLC, related to
real property located at 11 Cushing, Irvine,
California 92618.                                                                                                                                                                        
|       
|       
|       
|       
|10.21   |  | Account Purchase Agreement dated as of November 2,
2001 by and between Pulsar Data Systems, Incorporated
and Wells Fargo Business Credit, Inc. for the sale and
assignment of Accounts Receivable (incorporated by
reference to Exhibit 10.6 contained in Registrants
Form 10-Q filed with the Commission on or about
November 19, 2001).
|       
|       
|       
|       
|10.22   |  | Account Purchase Agreement dated as of November 2,
2001 by and between SSP Solutions, Inc. and Wells
Fargo Business Credit, Inc. for the sale and
assignment of Accounts Receivable (incorporated by
reference to Exhibit 10.7 contained in Registrants
Form 10-Q filed with the Commission on or about
November 19, 2001).              
|       
|       
|       
|       
|10.23   |  | Guaranty dated as of November 2, 2001 by Kris Shah for
the benefit of Wells Fargo Business Credit Inc.
relative Pulsar Data Systems, Inc. Purchase Agreement
dated November 2, 2001 (incorporated by reference to
Exhibit 10.8 contained in Registrants Form 10-Q filed
with the Commission on or about November 19, 2001).              
|       
|       
|       
|       
|10.24   |  | Guaranty dated as of November 2, 2001 by Kris Shah for
the benefit of Wells Fargo Business Credit Inc.
relative to SSP Solutions, Inc. Purchase Agreement
dated November 2, 2001 (incorporated by reference to
Exhibit 10.9 contained in Registrants Form 10-Q filed
with the Commission on or about November 19, 2001).                 
|       
|       
|       
|       
|10.25   |  | Guaranty dated as of November 2, 2001 by Marvin
Winkler for the benefit of                                                                                                                                                                                                                                                                





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##### Table of Contents



|        |  |                                                                                                                                                                                                                                                                                                                                 |  |        |  | 
|------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------ |  | 
|Exhibit |  |                                                                                                                                                                                                                                                                                                                                 |  | Page  
|Number  |  | Description                                                                                                                                                                                                                                                                                                                     |  | Number
|        |  |                                                                                                                                                                                                                                                                                                                                 |  |       
|       
|       
|       
|       
|        |  | Wells Fargo Business Credit
Inc. relative Pulsar Data Systems, Inc. Purchase
Agreement dated November 2, 2001 (incorporated by
reference to Exhibit 10.10 contained in Registrants
Form 10-Q filed with the Commission on or about
November 19, 2001).                                                                        
|       
|       
|       
|       
|10.26   |  | Guaranty dated as of November 2, 2001 by Marvin
Winkler for the benefit of Wells Fargo Business Credit
Inc. relative to SSP Solutions, Inc. Purchase
Agreement dated November 2, 2001 (incorporated by
reference to Exhibit 10.11 contained in Registrants
Form 10-Q filed with the Commission on or about
November 19, 2001).
|       
|       
|       
|       
|10.27   |  | Master Services Agreement, dated December 1, 2001,
between SSP Solutions, Inc., Electronic Data Systems
Corp., and EDS Information Services LLC.                                                                                                                                                                               
|       
|       
|       
|       
|10.28   |  | Task Order Number 2001-001, dated December 1, 2001,
between SSP Solutions, Inc., Electronic Data Systems
Corp., and EDS Information Services LLC.                                                                                                                                                                              
|10.29   |  | Promissory Note
and Pledge Agreement, dated July 24, 2000, between Kris Shah and
BIZ Interactive Zone, Inc.                                                                                                                                                                                                                    
|       
|       
|       
|       
|10.30   |  | Reseller
Agreement between Control Break International Corp. and SSP
Solutions, Inc.                                                                                                                                                                                                                                           
|       
|       
|       
|       
|10.31   |  | Contribution
Agreement, dated January 15, 2002, between Venetian Casino
Resort, LLC and GET/SSP, LLC.                                                                                                                                                                                                                          
|       
|       
|       
|       
|21      |  | Subsidiaries of the Registrant.                                                                                                                                                                                                                                                                                                
|       
|       
|       
|