** **

**U. S.Securities and Exchange CommissionWashington, D.C.  20549**

## **Form10-QSB**

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

**For the quarterly period ended September 30, 2006**

**For the transition period from             to             **

**Commission file number 0-28604**

**ENCISIONINC.**(Exact name of Registrant as specified in its charter)

| **Colorado**                     |   | **84-1162056**                        |
|----------------------------------|--------|---------------------------------------|
| (State or other  jurisdiction of |   | (I.R.S. Employer  Identification No.) |
| incorporation or  organization)  |   |                                  |

** **

**6797 Winchester Circle, Boulder, Colorado**  **80301**(Address of principal executive offices)

**(303) 444-2600**(Registrant’s telephone number)

**Checkwhether the issuer (1) filed all reports required to be filed by Section 13 of15(d) of the Exchange Act during the past 12 months (or for such shorter periodthat the registrant was required to file such reports), and (2) has beensubject to such filing requirements for the past 90 days.  Yes  ****x****    No  ****o**

**Indicateby checkmark whether the registrant is a shell company (as defined in Rule12b-2 of the Exchange Act).  ****Yes  ****o****    No  ****x**

**State the number of sharesoutstanding of each of the issuer’s classes of common equity, as of the latestpracticable date:**

| **Common Stock, no par value** |   | **6,430,437  Shares__**            |
|--------------------------------|--------|------------------------------------|
| Class                          |   | (outstanding at  October 31, 2006) |

** **

**Transitional Small BusinessDisclosure Format  Yes  ****o    No  ****x**

 

 

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** **

**ENCISIONINC.**

**FORM10-QSB**

**For theQuarter Ended September 30, 2006**

**INDEX**
|               | ** **                                                                                         | ** ** | ** ** |
|---------------|----------------------------------------------------------------------------------------------------|------------|------------|
| ** **    | ** **                                                                                         | ** ** | ** ** |
| **PART I.**   | **UNAUDITED FINANCIAL  INFORMATION**                                                               |       |       |
| ** **    | ** **                                                                                         |       |       |
| **ITEM 1**    | — Condensed  Interim Financial Statements:                                                    |       |       |
|          | —  Condensed Balance Sheets as of September 30, 2006 and March 31, 2006                       |       |       |
|          |                                                                                               |       |       |
|          | — Condensed Statements of Operations for the Three  Months Ended September 30, 2006 and 2005  |       |       |
|          |                                                                                               |       |       |
|          | — Condensed Statements of Operations for the Six  Months Ended September 30, 2006 and 2005    |       |       |
|          |                                                                                               |       |       |
|          | — Condensed Statements of Cash Flows for the Six  Months Ended September 30, 2006 and 2005    |       |       |
|          |                                                                                               |       |       |
|          | — Notes to Condensed Interim Financial Statements                                             |       |       |
|          |                                                                                               |       |       |
| **ITEM 2**    | — Management’s  Discussion and Analysis of Financial Condition and Results of Operations |       |       |
|          |                                                                                               |       |       |
| **ITEM 3**    | — Controls and  Procedures                                                                    |       |       |
| ** **    |                                                                                               |       |       |
| **PART II.**  | **OTHER INFORMATION**                                                                              |       |       |
| ** **    | ** **                                                                                         |       |       |
| **ITEM  6**   | —  Exhibits                                                                                   |       |       |
| ** **    |                                                                                               |       |       |
| **SIGNATURE** |                                                                                               |       |

 

2

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** **

**PART I                  FINANCIAL INFORMATION**

**ITEM 1 — CONDENSEDINTERIM FINANCIAL STATEMENTS**

ENCISION INC.

CONDENSED BALANCE SHEETS
| ** **                                                                                                                                   | ** ** | **September 30,** | ** ** | **March 31,** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------|------------|--------------------|------------|
| ** **                                                                                                                                   | ** ** | **2006**               | ** ** | **2006**           | ** ** |
| ** **                                                                                                                                   | ** ** | **(unaudited)**        | ** ** | **(audited)**      | ** ** |
| ASSETS                                                                                                                                       |       |                   |       |               |       |
| CURRENT ASSETS:                                                                                                                              |       |                   |       |               |       |
| Cash and cash  equivalents                                                                                                                   |       | $                      | 1,169,661  |               | $          | 901,541 |   |
| Accounts  receivable, net of allowance for doubtful accounts of $23,500 and $38,000,  respectively                                           |       | 1,087,562              |       | 942,494            |       |
| Inventory, net  of reserve for obsolescence of $72,000 and $70,000, respectively                                                             |       | 1,380,928              |       | 1,398,848          |       |
| Prepaid expenses                                                                                                                             |       | 206,002                |       | 81,828             |       |
|                                                                                                                                         |       |                   |       |               |       |
| Total current assets                                                                                                                         |       | 3,844,153              |       | 3,324,711          |       |
|                                                                                                                                         |       |                   |       |               |       |
| EQUIPMENT, at cost:                                                                                                                          |       |                   |       |               |       |
| Furniture,  fixtures and equipment                                                                                                           |       | 983,885                |       | 935,899            |       |
| Customer-site  equipment                                                                                                                     |       | 609,065                |       | 596,439            |       |
| Less -  accumulated depreciation                                                                                                             |       | (1,303,412             | )          | (1,216,160         | )          |
|                                                                                                                                         |       |                   |       |               |       |
| Equipment, net                                                                                                                               |       | 289,538                |       | 316,178            |       |
|                                                                                                                                         |       |                   |       |               |       |
| PATENTS, net of  accumulated amortization of $98,417 and $92,339, respectively                                                               |       | 156,065                |       | 152,930            |       |
| OTHER ASSETS                                                                                                                                 |       | 6,688                  |       | 23,483             |       |
|                                                                                                                                         |       |                   |       |               |       |
| Total assets                                                                                                                                 |       | $                      | 4,296,444  |               | $          | 3,817,302 |   |
|                                                                                                                                         |       |                   |       |               |       |
| LIABILITIES AND  SHAREHOLDERS’ EQUITY                                                                                                   |       |                   |       |               |       |
| CURRENT LIABILITIES:                                                                                                                         |       |                   |       |               |       |
| Accounts payable                                                                                                                             |       | $                      | 441,440    |               | $          | 299,766 |   |
| Accrued  compensation                                                                                                                        |       | 247,725                |       | 228,913            |       |
| Other accrued  liabilities                                                                                                                   |       | 583,253                |       | 556,949            |       |
|                                                                                                                                         |       |                   |       |               |       |
| Total current  liabilities                                                                                                                   |       | 1,272,418              |       | 1,085,628          |       |
|                                                                                                                                         |       |                   |       |               |       |
| SHAREHOLDERS’ EQUITY:                                                                                                                   |       |                   |       |               |       |
| Preferred stock,  no par value, 10,000,000 shares authorized, no shares issued or outstanding                                                |       | —                 |       | —             |       |
| Common stock, no  par value, 100,000,000 shares authorized, 6,430,437 (September 30, 2006) and  6,398,146 (Mar. 31, 2006) shares outstanding |       | 19,077,487             |       | 18,920,885         |       |
| Accumulated  (deficit)                                                                                                                       |       | (16,053,461            | )          | (16,189,211        | )          |
|                                                                                                                                         |       |                   |       |               |       |
| Total  shareholders’ equity                                                                                                             |       | 3,024,026              |       | 2,731,674          |       |
|                                                                                                                                         |       |                   |       |               |       |
| Total liabilities and  shareholders’ equity                                                                                             |       | $                      | 4,296,444  |               | $          | 3,817,302 |   |

 

The accompanying notesare an integral part of these condensed financial statements.

3

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ENCISION INC.

CONDENSED STATEMENTS OFOPERATIONS

(Unaudited)
| ** **                                                                            | ** ** | **For the Three Months** | ** ** |
|---------------------------------------------------------------------------------------|------------|-----------------------------------------|------------|
| ** **                                                                            | ** ** | **Ended September 30,**       | ** ** |
| ** **                                                                            | ** ** | **2006**                                | ** ** | **2005** | ** ** |
| REVENUE, NET                                                                          |       | $                                       | 2,651,466  |   | $ | 2,302,454 |   |
|                                                                                  |       |                                    |       |   |   |
| COST OF SALES                                                                         |       | 952,637                                 |       | 925,618 |   |
|                                                                                  |       |                                    |       |   |   |
| Gross profit                                                                          |       | 1,698,829                               |       | 1,376,836 |   |
|                                                                                  |       |                                    |       |   |   |
| OPERATING  EXPENSES:                                                                  |       |                                    |       |   |   |
| Sales and marketing                                                                   |       | 1,070,931                               |       | 930,285 |   |
| General and administrative                                                            |       | 366,717                                 |       | 343,618 |   |
| Research and development                                                              |       | 249,122                                 |       | 263,511 |   |
|                                                                                  |       |                                    |       |   |   |
| Total operating expenses                                                              |       | 1,686,770                               |       | 1,537,414 |   |
|                                                                                  |       |                                    |       |   |   |
| INCOME (LOSS)  FROM OPERATIONS                                                        |       | 12,059                                  |       | (160,578 | ) |
|                                                                                  |       |                                    |       |   |   |
| OTHER INCOME  (EXPENSE):                                                              |       |                                    |       |   |   |
| Interest income                                                                       |       | 10,912                                  |       | 6,765 |   |
| Other income (expense), net                                                           |       | 9,190                                   |       | (7,693 | ) |
|                                                                                  |       |                                    |       |   |   |
| NET INCOME  (LOSS)                                                                    |       | $                                       | 32,161     |   | $ | (161,506 | ) |
|                                                                                  |       |                                    |       |   |   |
| NET INCOME (LOSS)  PER SHARE:                                                         |       |                                    |       |   |   |
| Basic net income (loss) per common share                                              |       | $                                       | 0.01       |   | $ | (0.03 | ) |
|                                                                                  |       |                                    |       |   |   |
| Diluted net income (loss) per common share                                            |       | $                                       | 0.00       |   | $ | (0.03 | ) |
|                                                                                  |       |                                    |       |   |   |
| Weighted average shares used in computing basic net  income (loss) per common share   |       | 6,430,437                               |       | 6,370,926 |   |
|                                                                                  |       |                                    |       |   |   |
| Weighted average  shares used in computing diluted net income (loss) per common share |       | 6,435,468                               |       | 6,370,926 |   |

 

The accompanying notesare an integral part of these condensed financial statements.

4

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ENCISION INC.

CONDENSED STATEMENTS OFOPERATIONS

(Unaudited)
| ** **                                                                            | ** ** | **For the Six Months** | ** ** |
|---------------------------------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                                            | ** ** | **Ended September 30,**     | ** ** |
| ** **                                                                            | ** ** | **2006**                              | ** ** | **2005** | ** ** |
| REVENUE, NET                                                                          |       | $                                     | 5,405,653  |   | $ | 4,591,082 |   |
|                                                                                  |       |                                  |       |   |   |
| COST OF SALES                                                                         |       | 2,001,102                             |       | 1,829,816 |   |
|                                                                                  |       |                                  |       |   |   |
| Gross profit                                                                          |       | 3,404,551                             |       | 2,761,266 |   |
|                                                                                  |       |                                  |       |   |   |
| OPERATING  EXPENSES:                                                                  |       |                                  |       |   |   |
| Sales and marketing                                                                   |       | 2,143,085                             |       | 1,799,548 |   |
| General and administrative                                                            |       | 678,115                               |       | 603,745 |   |
| Research and development                                                              |       | 474,230                               |       | 504,303 |   |
|                                                                                  |       |                                  |       |   |   |
| Total operating expenses                                                              |       | 3,295,430                             |       | 2,907,596 |   |
|                                                                                  |       |                                  |       |   |   |
| INCOME (LOSS)  FROM OPERATIONS                                                        |       | 109,121                               |       | (146,330 | ) |
|                                                                                  |       |                                  |       |   |   |
| OTHER INCOME  (EXPENSE):                                                              |       |                                  |       |   |   |
| Interest income                                                                       |       | 19,322                                |       | 13,172 |   |
| Other (expense), net                                                                  |       | 7,307                                 |       | (9,653 | ) |
|                                                                                  |       |                                  |       |   |   |
| NET INCOME  (LOSS)                                                                    |       | $                                     | 135,750    |   | $ | (142,811 | ) |
|                                                                                  |       |                                  |       |   |   |
| NET INCOME  (LOSS) PER SHARE:                                                         |       |                                  |       |   |   |
| Basic and diluted net income (loss) per common share                                  |       | $                                     | 0.02       |   | $ | (0.02 | ) |
|                                                                                  |       |                                  |       |   |   |
| Weighted average shares used in computing basic net  income (loss) per common share   |       | 6,415,174                             |       | 6,343,914 |   |
|                                                                                  |       |                                  |       |   |   |
| Weighted average  shares used in computing diluted net income (loss) per common share |       | 6,434,109                             |       | 6,343,914 |   |

 

The accompanying notesare an integral part of these condensed financial statements.

5

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ENCISION INC.

CONDENSED STATEMENTS OFCASH FLOWS

(Unaudited)
| ** **                                                                                    | ** ** | **For the Six Months** | ** ** |
|-----------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                                                    | ** ** | **Ended September 30,**     | ** ** |
| ** **                                                                                    | ** ** | **2006**                              | ** ** | **2005** | ** ** |
|                                                                                          |       |                                  |       |   |   |
| CASH FLOWS FROM  OPERATING ACTIVITIES:                                                        |       |                                  |       |   |   |
| Net income (loss)                                                                             |       | $                                     | 135,750    |   | $ | (142,811 | ) |
| Adjustments to reconcile net income to net cash  provided by (used in) operating activities - |       |                                  |       |   |   |
| Depreciation and amortization                                                                 |       | 93,330                                |       | 98,373 |   |
| Stock-based compensation expense related to stock  options                                    |       | 94,654                                |       | — |   |
| Provision for bad debts                                                                       |       | (14,500                               | )          | 35,500 |   |
| Inventory reserves                                                                            |       | 2,000                                 |       | — |   |
| Changes in operating assets and liabilities -                                                 |       |                                  |       |   |   |
| Accounts receivable                                                                           |       | (130,568                              | )          | (288,602 | ) |
| Inventory                                                                                     |       | 15,920                                |       | (207,158 | ) |
| Other assets                                                                                  |       | (107,379                              | )          | 11,328 |   |
| Accounts payable                                                                              |       | 141,674                               |       | (163,709 | ) |
| Accrued compensation and other accrued liabilities                                            |       | 45,116                                |       | 134,859 |   |
| Net cash provided by (used in) operating activities                                           |       | 275,997                               |       | (522,220 | ) |
|                                                                                          |       |                                  |       |   |   |
| CASH FLOWS FROM  INVESTING ACTIVITIES:                                                        |       |                                  |       |   |   |
| Investment in equipment                                                                       |       | (60,612                               | )          | (155,505 | ) |
| Patent costs                                                                                  |       | (9,213                                | )          | (45,612 | ) |
| Net cash (used in) investing activities                                                       |       | (69,825                               | )          | (201,117 | ) |
|                                                                                          |       |                                  |       |   |   |
| CASH FLOWS FROM  FINANCING ACTIVITIES:                                                        |       |                                  |       |   |   |
| Proceeds from the exercise of stock options                                                   |       | 61,948                                |       | 83,138 |   |
| Net cash provided by financing activities                                                     |       | 61,948                                |       | 83,138 |   |
|                                                                                          |       |                                  |       |   |   |
| NET INCREASE  (DECREASE) IN CASH AND CASH EQUIVALENTS                                         |       | 268,120                               |       | (640,199 | ) |
|                                                                                          |       |                                  |       |   |   |
| CASH AND CASH  EQUIVALENTS, beginning of period                                               |       | 901,541                               |       | 1,472,385 |   |
|                                                                                          |       |                                  |       |   |   |
| CASH AND CASH  EQUIVALENTS, end of period                                                     |       | $                                     | 1,169,661  |   | $ | 832,186 |   |

 

The accompanying notesare an integral part of these financial statements.

 

6

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ENCISION INC.

NOTES TO CONDENSED INTERIM FINANCIAL STATEMENTS

SEPTEMBER 30, 2006(Unaudited)

(1)       ORGANIZATION AND NATURE OF BUSINESS

Encision Inc. is amedical device company that designs, develops, manufactures and marketspatented surgical instruments that provide greater safety to patientsundergoing minimally-invasive surgery. We believe our patented AEM® surgical instrument technology is changing themarketplace for electrosurgical devices and instruments by providing a solutionto a patient safety risk in laparoscopic surgery. Our sales to date have beenmade principally in the United States.

We achievedprofitable operations in fiscal years 2004 and 2003. However, in each fiscalyear prior to 2003 and in fiscal years 2006 and 2005, we incurred losses andhad an accumulated deficit of $16,053,461 at September 30, 2006. Operationshave been financed primarily through the issuance of our common stock.

Our strategicmarketing and sales plan is designed to expand the use of our products insurgically active hospitals in the United States. We expect these efforts toresult in continued revenue increases for fiscal year 2007.

(2)      SUMMARY OF SIGNIFICANT ACCOUNTINGPOLICIES

Basis of Presentation

Thecondensed interim financial statements included herein have been prepared byus, without audit, pursuant to the rules and regulations of the Securities andExchange Commission. Certain information and footnote disclosures normallyincluded in financial statements prepared in accordance with generally acceptedaccounting principles have been condensed or omitted pursuant to such rules andregulations, although we believe that the disclosures made are adequate to makethe information presented not misleading. The condensed interim financialstatements and notes thereto should be read in conjunction with the financialstatements and the notes thereto, included in our Annual Report to theSecurities and Exchange Commission for the fiscal year ended March 31, 2006,filed on Form 10-KSB on June 30, 2006.

Theaccompanying condensed interim financial statements have been prepared, in allmaterial respects, in conformity with the standards of accounting measurementsset forth in Accounting Principles Board Opinion No. 28 and reflect, in theopinion of management, all adjustments necessary to summarize fairly thefinancial position and results of operations for such periods in accordancewith accounting principles generally accepted in the United States ofAmerica.  All adjustments are of a normalrecurring nature. The results of operations for the most recent interim periodare not necessarily indicative of the results to be expected for the full year.

Use of Estimatesin the Preparation of Financial Statements

The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States requires us to make estimates and assumptions.Such estimates and assumptions affect the reported amounts of assets andliabilities as well as disclosure of contingent assets and liabilities at thedate of the financial statements and the reported amounts of revenue andexpense during the reporting period. Actual results could differ from thoseestimates.

Revenue Recognition

Revenuefrom product sales is recorded when we ship the product and title has passed tothe customer, provided that we have evidence of a customer arrangement and canconclude that collection is probable. Our shipping policy is FOB ShippingPoint. We recognize revenue from sales to stocking distributors when there isno right of return, other than for normal warranty claims. We have no ongoingobligations related to product sales, except for normal warranty.

Concentration ofCredit Risk

We have nosignificant off-balance sheet concentrations of credit risk such as foreignexchange contracts, options contracts or other foreign hedging arrangements. Wemaintain the majority of our cash balances with two financial institutions inthe form of demand deposits and money market funds.

7

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Accountsreceivable are typically unsecured and are derived from transactions with andfrom entities in the healthcare industry primarily located in the UnitedStates. Accordingly, we may be exposed to credit risk generally associated withthe healthcare industry. We maintain allowances for doubtful accounts for estimatedlosses resulting from the inability of ourcustomers to make required payments.

The net accountsreceivable balance at September 30, 2006 of $1,087,562 included no more than 4%from any one customer. The net accounts receivable balance at March 31, 2006 of$942,494 included no more than 4% from any one customer.

Inventories

Inventories arestated at the lower of cost (first-in, first-out basis) or market. We reduce inventory for estimated obsolete orunmarketable inventory equal to the difference between the cost of inventoryand the estimated market value based upon assumptions about future demand andmarket conditions. If actual market conditions are less favorable than thoseprojected by management, additional inventory write-downs may be required. Inventoryconsisted of the following:

|                                  | ** ** | **September 30,  2006** | ** ** | **March 31,  2006** | ** ** |
|----------------------------------|------------|------------------------------|------------|--------------------------|------------|
| Raw materials                    |       | $                            | 938,896    |                     | $          | 869,571 |   |
| Finished goods                   |       | 514,032                      |       | 599,277                  |       |
|                             |       | 1,452,928                    |       | 1,468,848                |       |
| Less - Reserve  for obsolescence |       | (72,000                      | )          | (70,000                  | )          |
|                             |       | $                            | 1,380,928  |                     | $          | 1,398,848 |   |

 

Accrued Liabilities

Wehave accrued $100,000 related to warranty claims, $135,008 related to salescommissions and $113,870 related to rent normalization and have included theseamounts in accrued liabilities in the accompanying balance sheets as ofSeptember 30, 2006.

Research and Development Expenses

Weexpense research and development costs for products and processes as incurred.

Stock-Based Compensation Expense

OnApril 1, 2006, we adopted Statement of Financial Accounting Standards No. 123(revised 2004), “Share-Based Payment,” (“SFAS 123(R)”) which requires themeasurement and recognition of compensation expense for all share-based paymentawards made to employees and directors including employee stock options basedon estimated fair values. SFAS 123(R) supersedes our previous accounting underAccounting Principles Board Opinion No. 25, “Accounting for Stock Issued toEmployees” (“APB 25”) for periods beginning in fiscal year 2007. In March 2005,the Securities and Exchange Commission issued Staff Accounting Bulletin No. 107(“SAB 107”) relating to SFAS 123(R). We have applied the provisions of SAB 107in our adoption of SFAS 123(R).

Wehave adopted SFAS 123(R) using the modified prospective transition method,which requires the application of the accounting standard as of April 1, 2006,the first day of our fiscal year 2007. Our financial statements as of and forthe three months ended September 30, 2006 reflect the impact of SFAS 123(R). Inaccordance with the modified prospective transition method, our financialstatements for prior periods have not been restated to reflect, and do notinclude, the impact of SFAS 123(R). Stock-based compensation expense recognizedunder SFAS 123(R) for the three months ended September 30, 2006 was $47,327which consisted of stock-based compensation expense related to employee stockoptions. There was no stock-based compensation expense related to employeestock options during the three months ended September 30, 2006.

SFAS123(R) requires companies to estimate the fair value of share-based paymentawards on the date of grant using an option-pricing model. The value of theportion of the award that is ultimately expected to vest is recognized asexpense over the requisite service periods in our Statement of Operations.Prior to the adoption of SFAS 123(R), we accounted for stock-based awards toemployees and directors using the intrinsic value method in accordance with APB25 as allowed under Statement of Financial Accounting Standards No. 123, “Accountingfor Stock-Based Compensation” (“SFAS 123”). Under the intrinsic value method,no stock-based compensation expense had been recognized in our Statement ofOperations because the exercise price of our stock options granted to employeesand directors equaled the fair market value of the underlying stock at the dateof grant.

Stock-basedcompensation expense recognized during the period is based on the value of theportion of share-based payment awards that is ultimately expected to vestduring the period. Stock-based compensation expense recognized in our Statementof Operations for the first quarter of fiscal year 2007 included compensationexpense for share-based payment awards granted prior to, but not yet vested asof September 30, 2006 based on the grant date fair 

8

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valueestimated in accordance with the pro forma provisions of SFAS 123 andcompensation expense for the share-based payment awards granted subsequent toJuly 30, 2005 based on the grant date fair value estimated in accordance withthe provisions of SFAS 123(R). Compensation expense for all share-based paymentis recognized using the straight-line single-option method. As stock-basedcompensation expense recognized in the Statement of Operations for the firstquarter of fiscal year 2007 is based on awards ultimately expected to vest, ithas been reduced for estimated forfeitures. SFAS 123(R) requires forfeitures tobe estimated at the time of grant and revised, if necessary, in subsequentperiods if actual forfeitures differ from those estimates. In our pro formainformation required under SFAS 123 for the periods prior to fiscal year 2007,we accounted for forfeitures as they occurred.

Uponadoption of SFAS 123(R), we continued to use the Black-Scholes option-pricingmodel (“Black-Scholes model”) which was previously used for our pro formainformation required under SFAS 123. Our determination of fair value ofshare-based payment awards on the date of grant using an option-pricing modelis affected by our stock price as well as assumptions regarding a number ofhighly complex and subjective variables. These variables include, but are notlimited to our expected stock price volatility over the term of the awards, andactual and projected employee stock option exercise behaviors. Although thefair value of employee stock options is determined in accordance with SFAS123(R) and SAB 107 using an option-pricing model, that value may not beindicative of the fair value observed in a willing buyer/willing seller markettransaction.

OnNovember 10, 2005, the Financial Accounting Standards Board (“FASB”) issuedFASB Staff Position No. FAS 123(R)-3 “Transition Election Related to Accountingfor Tax Effects of Share-Based Payment Awards.” We have elected to adopt thealternative transition method provided in the FASB Staff Position forcalculating the tax effects of stock-based compensation pursuant to SFAS123(R). The alternative transition method includes simplified methods toestablish the beginning balance of the additional paid-in capital pool (“APICpool”) related to the tax effects of employee stock-based compensation, and todetermine the subsequent impact on the APIC pool and Statements of Cash Flowsof the tax effects of employee stock-based compensation awards that areoutstanding upon adoption of SFAS 123(R).

Segment Reporting

We have concludedthat we have one operating segment.

Basic and Diluted Income and Loss per Common Share

Net income or lossper share is calculated in accordance with SFAS No. 128, “Earnings Per Share” (“SFASNo. 128”). Under the provisions of SFAS No. 128, basic net income or loss percommon share is computed by dividing net income or loss for the period by theweighted average number of common shares outstanding for the period. Dilutednet income or loss per common share is computed by dividing the net income orloss for the period by the weighted average number of common and potentialcommon shares outstanding during the period if the effect of the potentialcommon shares is dilutive.

For the threemonth period ended September 30, 2006, we had currently-exercisable stockoptions outstanding that could create future dilution to our commonshareholders and are not currently classified as our outstanding common shares.The common stock number is based on specific conversion or issuance assumptionspursuant to the corresponding terms of each instrument. Potential stockissuance excluded from earnings per share because their effect wasanti-dilutive was 440,000 and 120,000 for the three and six months endedSeptember 30, 2006, respectively.

The following is atable that reconciles the numerators and denominators of the basic and dilutedearnings per share:
| ** **                                                            | ** ** | **For the Three Months Ended:** | ** ** |
|-----------------------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                            | ** ** | **September 30, 2006**                    | ** ** | **September 30, 2005** | ** ** |
| ** **                                                            | ** ** | **Income (Loss)   (Numerator)**           | ** ** | ** Shares  (Denominator)** | ** ** | **Per-Share  Amount** | ** ** | **Income (Loss)  (Numerator)** | ** ** | ** Shares  (Denominator)** | ** ** | **Per-Share  Amount** | ** ** |
| Net income  (loss)                                                    |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Basic EPS                                                             |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Income (loss)  available to common stockholders                       |       | $                                                   | 32,161     |   | 6,430,437 |   | $ | 0.01 |   | $ | (161,506 | ) | 6,370,926 |   | $ | (0.03 | ) |
| Effect of  Dilutive Securities Stock Options                          |       | —                                              |       | 5,031 |   |   |   | — |   | — |   |   |   |
| Diluted EPS                                                           |       |                                                |       |   |   |   |   |   |   |   |   |   |   |
| Income (loss) available  to common stockholders + dilutive securities |       | $                                                   | 32,161     |   | 6,435,468 |   | $ | 0.00 |   | $ | (161,506 | ) | 6,370,926 |   | $ | (0.03 | ) |

 

9

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| ** **                                                            | ** ** | **For the Six Months Ended:** | ** ** |
|-----------------------------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                                            | ** ** | **September 30, 2006**                  | ** ** | **September 30, 2005** | ** ** |
| ** **                                                            | ** ** | **Income (Loss)   (Numerator)**         | ** ** | **Shares  (Denominator)** | ** ** | **Per-Share  Amount** | ** ** | **Income (Loss)  (Numerator)** | ** ** | ** Shares  (Denominator)** | ** ** | **Per-Share  Amount** | ** ** |
| Net income  (loss)                                                    |       |                                              |       |   |   |   |   |   |   |   |   |   |   |
| Basic EPS                                                             |       |                                              |       |   |   |   |   |   |   |   |   |   |   |
| Income (loss)  available to common stockholders                       |       | $                                                 | 135,750    |   | 6,415,174 |   | $ | 0.02 |   | $ | (142,811 | ) | 6,343,914 |   | $ | (0.02 | ) |
| Effect of  Dilutive Securities Stock Options                          |       | —                                            |       | 18,935 |   |   |   | — |   | — |   |   |   |
| Diluted EPS                                                           |       |                                              |       |   |   |   |   |   |   |   |   |   |   |
| Income (loss) available  to common stockholders + dilutive securities |       | $                                                 | 135,750    |   | 6,434,109 |   | $ | 0.02 |   | $ | (142,811 | ) | 6,343,914 |   | $ | (0.02 | ) |

 

(3)       COMMITMENTS AND CONTINGENCIES

We currently leaseour facilities under noncancelable lease agreements through August 14, 2009 at6797 Winchester Circle, Boulder, Colorado. The minimum future lease payments asof September 30, 2006 were as follows:

| Year ended March 31, | ** ** | ** ** | ** ** |
|-------------------------------------|------------|------------|------------|
| 2007                                |       | 77,089     |       |
| 2008                                |       | 166,930    |       |
| 2009                                |       | 172,685    |       |
| 2010                                |       | 65,566     |       |
|                                |       | $          | 482,270    |   |
|                                     |            |            |            |  |

 

Weare subject to regulation by the United States Food and Drug Administration (“FDA”).The FDA provides regulations governing the manufacture and sale of our productsand regularly inspects us and other manufacturers to determine compliance withthese regulations. As of September 30, 2006 we believe we were in substantialcompliance with all known regulations. FDA inspections are conductedperiodically at the discretion of the FDA. We were last inspected in May 2004and were notified of six potential deficiencies from that inspection, none ofwhich we believe to be material.

Theresults of operations for the quarter ended September 30, 2006 should not betaken as an indication of the results of operations for all or any part of thebalance of the year.

(4)       VALUATION AND EXPENSE INFORMATIONUNDER SFAS 123(R)

On April 1, 2006, we adoptedSFAS 123(R), which requires the measurement and recognition of compensationexpense for all share-based payment awards made to our employees and directorsincluding employee stock options based on estimated fair values. The followingtable summarizes stock-based compensation expense related to employee stockoptions and employee stock purchases under SFAS 123(R) for the three monthsended September 30, 2006 which was allocated as follows:
| ** **                                                       | ** ** | **Three Months Ended  September 30, 2006** | ** ** | **Six Months Ended  September 30, 2006** | ** ** |
|------------------------------------------------------------------|------------|----------------------------------------------------------------|------------|--------------------------------------------------------------|------------|
| Sales and  marketing                                             |       | $                                                              | 10,588     |                                                         | $          | 21,176 |   |
| General and  administrative                                      |       | 28,240                                                         |       | 56,480                                                       |       |
| Research and  development                                        |       | 8,499                                                          |       | 16,998                                                       |       |
| Stock-based  compensation expense included in operating expenses |       | $                                                              | 47,327     |                                                         | $          | 94,654 |   |

 

There was no stock-basedcompensation expense recognized for the three and six months ended September30, 2005.

The table below reflects netincome and diluted net income per share for the three months ended September30, 2006 compared with the pro forma information for the three months endedSeptember 30, 2005 as follows:

10

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| ** **                                                                                          | ** ** | **Three Months Ended  September 30,** | ** ** |
|-----------------------------------------------------------------------------------------------------|------------|------------------------------------------------------|------------|
| ** **                                                                                          | ** ** | **2006**                                             | ** ** | **2005** | ** ** |
| Net income  (loss)—as reported for the prior period (1)                                        |       | N/A                                                  |       | $ | (161,506 | ) |
|                                                                                                |       |                                                 |       |   |   |
| Stock-based  compensation expense related to employee stock options (2)                             |       | $                                                    | 47,327     |   | $ | 55,739 |   |
|                                                                                                |       |                                                 |       |   |   |
| Net income  (loss), including the effect of stock-based compensation expense (3)                    |       | $                                                    | 32,161     |   | $ | (217,245 | ) |
|                                                                                                |       |                                                 |       |   |   |
| Diluted net  income (loss) per share—as reported for the prior period (1)                      |       | N/A                                                  |       | $ | (0.03 | ) |
|                                                                                                |       |                                                 |       |   |   |
| Diluted net income  (loss) per share, including the effect of stock-based compensation expense  (3) |       | $                                                    | 0.01       |   | $ | (0.03 | ) |

 
| ** **                                                                                          | ** ** | **Six Months Ended  September 30,** | ** ** |
|-----------------------------------------------------------------------------------------------------|------------|----------------------------------------------------|------------|
| ** **                                                                                          | ** ** | **2006**                                           | ** ** | **2005** | ** ** |
| Net income  (loss)—as reported for the prior period (1)                                        |       | N/A                                                |       | $ | (142,811 | ) |
|                                                                                                |       |                                               |       |   |   |
| Stock-based  compensation expense related to employee stock options (2)                             |       | $                                                  | 94,654     |   | $ | 109,948 |   |
|                                                                                                |       |                                               |       |   |   |
| Net income  (loss), including the effect of stock-based compensation expense (3)                    |       | $                                                  | 135,750    |   | $ | (252,759 | ) |
|                                                                                                |       |                                               |       |   |   |
| Diluted net  income (loss) per share—as reported for the prior period (1)                      |       | N/A                                                |       | $ | (0.02 | ) |
|                                                                                                |       |                                               |       |   |   |
| Diluted net income  (loss) per share, including the effect of stock-based compensation expense  (3) |       | $                                                  | 0.02       |   | $ | (0.04 | ) |

----

(1)             Netincome and net income per share prior to fiscal year 2007 did not include stock-basedcompensation expense for employee stock options under SFAS 123 because we didnot adopt the recognition provisions of SFAS 123. 

(2)             Stock-basedcompensation expense prior to fiscal year 2007 is calculated based on the proforma application of SFAS 123. 

(3)             Netincome and net income per share prior to fiscal year 2007 represents pro formainformation based on SFAS 123. 

Upon adoption of SFAS 123(R)and prior to the adoption of SFAS 123(R), the value of each employee stockoption was estimated on the date of grant using the Black-Scholes model for thepurpose of financial information in accordance with SFAS 123.

The use of a Black-Scholesmodel requires the use of actual employee exercise behavior data and the use ofa number of assumptions including expected volatility, risk-free interest rateand expected dividends. The weighted-average estimated value of employee stockoptions granted during the three months ended September 30, 2006 was $1.95 pershare using the Black-Scholes model with the following weighted-averageassumptions:
| Expected  volatility     |   | 63.1 | % |
|--------------------------|--------|------|---|
| Risk-free  interest rate |   | 5.0  | % |
| Expected dividends       |   | 0.0  | % |

 

As of September 30, 2006,$566 thousand of total unrecognized compensation costs related to nonvestedstock is expected to be recognized over a weighted-average period of threeyears.

Recent Accounting Pronouncements

In September 2006, SFAS158, “Employers’ Accounting for Defined Benefit Pensions and OtherPost-Retirement Plans” (“SFAS 158”), was issued by the FASB and is effective forfinancial statements for fiscal years ending after December 15, 2006. SFAS 158improves financial reporting by requiring an employer to recognize theoverfunded or underfunded status of a defined benefit postretirement plan(other than a multiemployer plan) as an asset or liability in its statement offinancial position and to recognize changes in that funded status in the yearin which the changes occur through comprehensive income of a business entity orchanges in unrestricted net assets of a not-for-profit organization. ThisStatement also improves financial reporting by requiring an employer to measurethe funded status of a plan as of the date of its year-end statement orfinancial position, with limited exceptions. We anticipate that SFAS 158 will nothave a material impact on our financial statements.

 

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** **

**ITEM 2 — MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS**

Certain statementscontained in this section on Management’s Discussion and Analysis are nothistorical facts, including statements about our strategies and expectationsabout new and existing products, market demand, acceptance of new and existingproducts, technologies and opportunities, market and industry segment growth,and return on investments in products and markets. These statements are forwardlooking statements within the meaning of the Private Securities LitigationReform Act of 1995 and involve substantial risks and uncertainties that maycause actual results to differ materially from those indicated by the forwardlooking statements. All forward looking statements in this section onManagement’s Discussion and Analysis are based on information available to uson the date of this document, and we assume no obligation to update suchforward looking statements. Readers of this Form 10-QSB are strongly encouragedto review the section entitled *“Risk Factors.”*

**General**

Encision Inc., amedical device company based in Boulder, Colorado, has developed and launchedinnovative technology that is emerging as a standard of care inminimally-invasive surgery. We believe our patented AEM® Surgical Instruments are changing themarketplace for electrosurgical devices and laparoscopic instruments byproviding a solution to a well documented patient safety risk in laparoscopicsurgery.

We were founded toaddress market opportunities created by the increase in minimally-invasivesurgery (“MIS”) and surgeons’ preference for using electrosurgery devices inthese procedures. The product opportunity was created by surgeons’ continuedwidespread demand for using monopolar electrosurgery instruments which, whenused in laparoscopic surgery, are susceptible to causing inadvertent collateraltissue damage outside the surgeon’s field of view. The risk of unintendedelectrosurgical burn injury to the patient in laparoscopic surgery has beenwell documented. This risk poses a threat to patient safety and createsliability exposure for surgeons and hospitals that do not adequately addressthe issue.

Our patented AEMtechnology provides surgeons with the desired tissue effects, while preventingstray electrosurgical energy that can cause unintended and unseen tissueinjury. AEM Laparoscopic Instruments are equivalent to conventional instrumentsin functionality but they incorporate “active electrode monitoring” technologyto dynamically and continuously monitor the flow of electrosurgical current,thereby helping to prevent patient injury. With our “shielded and monitored”instruments, surgeons are able to perform electrosurgical procedures moresafely and effectively than when using conventional instruments. In addition,our AEM instruments are cost competitive with conventional “non-shielded,non-monitored” instruments. The result is advanced patient safety at comparablecost and with no change in surgeon technique.

AEM technology hasbeen recommended and endorsed by sources from all groups involved inminimally-invasive surgery. Surgeons, nurses, biomedical engineers, themedicolegal community, malpractice insurance carriers and electrosurgicaldevice manufacturers advocate the use of AEM technology. Recommendations fromthe malpractice insurance and medicolegal communities complement the broadclinical endorsements AEM technology has garnered over the past few years.

Adding furthercredibility to the benefits of our AEM technology are our supplier agreementswith Novation and Premier, two of the largest Group Purchasing Organizations “GPOs”in the United States. Together, Novation and Premier represent over 3,000hospitals which perform over 50% of all surgery in the U.S. We believe that theseGPO supplier agreements give further indication that AEM technology is gainingbroader acceptance in the market. We believe that having the nation’s leadingmedical purchasing groups recognize the value of our technology reflects thepotential impact that AEM products can have in the market and in advancingpatient safety in surgery nationwide. These agreements do not involve purchasecommitments, but we expect these relationships to expand the market visibilityof AEM technology and to ease the procurement process for new hospitalcustomers.

We have focusedour marketing strategies to date on expanding the market awareness of the AEMtechnology and our broad independent endorsements, and have continued effortsto improve and expand the AEM product line. Accordingly, we are currentlyfocusing on modernizing our accepted AEM instruments to include ergonomics anduser functionalities for which surgeons have been expressing a preference.During fiscal year 2006, we announced enTouchTM,an ergonomically-designed handle for our articulating instruments, and furthernew additions to the AEM product line are planned for introduction in fiscalyear 2007.

When a hospitalchanges to AEM technology we receive recurring revenue from sales ofreplacement instruments. We believe that there is no directly competingtechnology to supplant AEM products once a hospital switches to our products.The replacement market of reusable and disposable AEM products in changedhospitals represents over 90% of Encision’s revenue over the past three months.This revenue stream is expected to grow as the base of newly changed hospitalscontinues to grow. In addition, we intend to develop disposable versions ofmore of our AEM products in order to meet market demands and expand our revenueopportunities.

We achievedprofitable operations in fiscal years 2004 and 2003. However, in each fiscalyear prior to 2003 and in fiscal years 2006 and 2005, we incurred losses andhad an accumulated deficit of $16,053,461 at September 30, 2006. Operationshave been financed primarily through the issuance of our common stock.

12

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During the sixmonths ended September 30, 2006, we provided $275,997 of cash from ouroperations and used $69,825 for investments in equipment. As of September 30,2006, we had $1,169,661 in cash and cash equivalents available to fund futureoperations, an increase of $268,120 from March 31, 2006. Our working capitalwas $2,571,735 at September 30, 2006.

**HistoricalPerspective**

We were organized in 1991 and spent several years developing the AEMmonitoring system and protective sheaths to adapt to conventionalelectrosurgical instruments. During this period, we conducted product trialsand applied for patents with the United States Patent Office and withinternational patent agencies. Patents were issued to us in 1994, 1996, 1997,1998 and 2002.

As we evolved, itbecame clear to us that our ‘active electrode monitoring’ technology needed tobe integrated into the standard laparoscopic instrument design. As thedevelopment program proceeded, it also became apparent that the merging ofelectrical and mechanical engineering skills in the instrument developmentprocess for our patented, integrated electrosurgical instruments was a complexand difficult task. As a result, instruments with integrated AEM technologywere not completed for several years. Prior to offering a full range oflaparoscopic electrosurgical instrumentation, it was difficult for hospitals tocommit to the AEM solution, as we did not have adequate comparable surgical instrumentoptions to match what surgeons demanded. As of fiscal year 2001, a sufficientlybroad product line was available to provide hospital operating rooms with AEMinstruments in most of the designs common for laparoscopic surgery.

The launch of anexpanded line of AEM instruments was accomplished over the past two years. Weare now turning our focus to developing next generation versions of our AEMinstruments to better meet market demands, particularly demand for improvedergonomics and simplified user functionalities. This strategy coincides withthe independent endorsements for our AEM technology. Recommendations from themalpractice insurance and medicolegal communities complement the broad clinicalendorsements that AEM technology has garnered over the past few years. Duringfiscal year 2006, we announced the introduction of enTouch, anergonomically-designed handle for our articulating instruments, and further newadditions to the AEM product line are planned for introduction in fiscal year2007.

**Outlook**

*InstalledBase of AEM Monitoring Equipment*:  We believe that the installed base of AEMmonitors has the potential for increasing revenue as the inherent risksassociated with monopolar laparoscopic electrosurgery become more widelyacknowledged and as we focus on increasing our sales efficiency. We expect thatthe replacement sales of electrosurgical instruments and accessories willincrease as additional hospitals adopt AEM technology. We anticipate that theefforts to improve the quality of sales representatives carrying the AEMproduct line, along with increased marketing efforts and the introduction ofnext generation products, may provide the basis for increased revenue andmaintaining profitable operations. However, these measures, or any others thatwe may adopt, may not result in either increased revenue or maintainingprofitable operations. Furthermore, most of our next generation products are inthe early stages of development. Furtheradditions to the AEM product line are planned for introduction in fiscal year2007.

Webelieve the unique performance of the AEM technology and our breadth ofindependent endorsements provides an opportunity for continued market sharegrowth. In our view, market awareness and awareness to the clinical credibilityof the AEM technology, as well as awareness of our endorsements, arecontinually improving, and we expect this awareness to benefit our salesefforts for the remainder of fiscal year 2007. Our objective in the remainderof fiscal year 2007 is to maintain expense controls while optimizing salesexecution in the field, to expand market awareness of the AEM technology and tomaximize the number of additional hospital accounts switching to AEMinstruments, while retaining existing hospital customers. In addition,acceptance of AEM products depends on surgeons’ preference for our instruments,which depends on factors such as ergonomics and ease of use in addition to thetechnological advantage of AEM products. If surgeons prefer other instrumentsto our instruments, our business results will suffer.

*Possibilityof Operating Losses*: We achieved profitable operations in fiscal years 2004 and 2003.However, in fiscal years prior to 2003 and in fiscal years 2006 and 2005 weincurred losses and had an accumulated deficit of $16,053,461 at September 30,2006. We have made strides toward improving our operating results. Due to theongoing need to develop, optimize and train the direct sales managers and theindependent sales representative network, the need to support the developmentof refinements to our product line and the need to increase sustained revenuesto a level adequate to cover fixed and variable operating costs, we may operateat a net loss from time to time. Sustained losses, or our inability to generatesufficient cash flow from operations to fund our obligations, may result in aneed to raise additional capital.

*RevenueGrowth*:  We expect togenerate increased revenue in the U.S. from sales to new hospital customers andfrom expanded sales in existing hospitals as our network of direct andindependent sales representatives become more efficient. We believe that thevisibility and credibility of the independent clinical endorsements for AEMtechnology will contribute to new hospital accounts and increase revenues infiscal year 2007. We also expect thatsupplier agreements with Novation and Premier, which together represent over3,000 U.S. hospitals, will expose more hospitals to the benefits of AEMtechnology and may stimulate new hospital accounts. We also expect to increasemarket share through promotional programs of placing our AEM monitors at nocharge into hospitals that commit to standardize AEM instruments. However, allof these efforts to increase market share and grow revenues will depend in parton our ability to expand the efficiency and effective coverage range of ourdirect and independent sales representatives.

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We also havelonger term initiatives in place to improve our prospects.  We expect that development of next generationversions of our AEM products will better position our products in themarketplace and improve our retention rate at hospitals that have changed toAEM technology, enabling us to grow our revenue. We may also explore overseas markets to assess opportunities for revenuegrowth internationally. Finally, we intend to explore opportunities tocapitalize on our proven AEM technology via licensing arrangements andstrategic alliances. These efforts to generate additional revenue and furtherthe market penetration of our products are longer term in nature and may notmaterialize. Even if we are able to successfully develop next generationproducts or identify potential international markets or strategic partners, wemay not be able to capitalize on these opportunities.

*GrossProfit and Gross Margins*: Gross profit and gross margins can be expected to fluctuate from quarterto quarter, as a result of product sales mix and sales volume. Gross margins onproducts manufactured or assembled by us are expected to improve at higherlevels of production and sales.

*Sales andMarketing Expenses*: We continue our efforts to expanddomestic and international distribution capability, and we believe that sales and marketing expenses will decrease as apercentage of net revenue with increasing sales volume.

*Researchand Development Expenses*: Researchand development expenses are expected to increase modestly to supportdevelopment of refinements to our AEM product line, further expanding theinstrument options for surgeons. Further additions to the AEM productline are planned for introduction in fiscal year 2007.

**Resultsof Operations**

*For the three months endedSeptember 30, 2006 compared to the three months ended September 30, 2005.*

*Net revenue.*  Revenue for the quarter ended September 30,2006, was $2,651,466 compared to $2,302,454 for the quarter ended September 30,2005, an increase of 15%. The increase is attributable to the addition of newhospital accounts, partially offset by business lost from hospitals thatpreviously changed to AEM technology. We opened eight new hospital accounts forAEM technology in the three months ended September 30, 2006 versus twelve newhospital accounts for AEM technology in the three months ended September 30,2005. We have changed and added new sales managers and independent salesrepresentatives in an effort to capitalize on identified market opportunities.It will take a number of months before new sales managers and new independentsales representatives generate new hospital accounts, but we expect that thecombination of these new additions will provide the focus that is needed toachieve market gains.

*Gross profit*.  Gross profit for the quarter endedSeptember 30, 2006 of $1,698,829 represented an increase of 23% from grossprofit of $1,376,836 for the quarter ended September 30, 2005. Gross profit asa percentage of revenue (gross margin) increased from 60% for the quarter endedSeptember 30, 2005 to 64% for the quarter ended September 30, 2006. The increase in gross margin was primarily theresult of higher levels of production, while the manufacturing process becamemore efficient compared with one year ago. In addition, approximately 11⁄2% ofour gross margin increase was attributed to a decrease in accrued liabilitiesrelated to warranty claims. For the three months ended September 30,2006, we provided $3,573 in AEM monitors at no charge to newly changedhospitals as part of a sales incentive program.

*Sales and marketing expenses*.  Sales and marketing expenses of $1,070,931for the quarter ended September 30, 2006 represented an increase of 15% fromsales and marketing expenses of $930,285 for the quarter ended September 30,2005. The increase was a result of increasedcompensation for increased sales employees and increased commissions as aresult of higher revenue. These increases were partially offset by reduced bycatalog printing costs.

*Generaland administrative expenses*. General and administrative expenses of $366,717 for the quarter endedSeptember 30, 2006 represented an increase of 7% from general and administrativeexpenses of $343,618 for the quarter ended September 30, 2005. The increase wasprimarily the result of an increase instock-based compensation expense, which was not required to be recognized inthe prior year’s quarterly results, increased compensation and outsideservices.

*Researchand development expenses*. Research and development expenses of $249,122 for the quarter endedSeptember 30, 2006 represented a decrease of 5% compared to $263,511 for thequarter ended September 30, 2005. The decrease was a result of decreasedoutside services.

*Netincome (loss).  *Netincome was $32,161 for the quarter ended September 30, 2006 compared to a net(loss) of $(161,506) for the quarter ended September 30, 2005. The increase wasa result of increased revenue and higher gross margin.

*For the six months endedSeptember 30, 2006 compared to the six months ended September 30, 2005.*

*Net revenue.*  Revenue for the six months ended September30, 2006, was $5,405,653 compared to $4,591,082 for the six months endedSeptember 30, 2005, an increase of 18%. The increase is attributable to theaddition of new hospital accounts, partially offset by business lost fromhospitals that previously changed to AEM technology. We opened 21 new hospitalaccounts for AEM technology in the six months ended September 30, 2006 versus24 new hospital accounts for AEM technology in the six months ended September30, 2005. We have changed and added new sales managers and independent salesrepresentatives in an effort to capitalize on identified market 

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opportunities. It will take a number of months before new sales managersand new independent sales representatives generate new hospital accounts, butwe expect that the combination of these new additions will provide the focusthat is needed to achieve market gains.

*Gross profit*.  Gross profit for the six months ended September 30, 2006 of$3,404,551 represented an increase of 23% from gross profit of $2,761,266 forthe six months ended September 30,2005. Gross profit as a percentage of revenue (gross margins) increased from60% for the six months endedSeptember 30, 2005 to 63% for the six monthsended September 30, 2006. Theincrease in gross margins was primarily the result of higher levels ofproduction, while the manufacturing process became more efficient compared withone year ago. For the six months endedSeptember 30, 2006, we provided $12,626 in AEM monitors at no charge to newlychanged hospitals as part of a sales incentive program.

*Sales and marketing expenses*.  Sales and marketing expenses of $2,143,085for the six months ended September30, 2006 represented an increase of 19% from sales and marketing expenses of$1,799,548 for the six months endedSeptember 30, 2005. The increase was aresult of increased compensation for increased sales employees, increasedcommissions as a result of higher revenue and increased sales samples. Theseincreases were partially offset by reduced by catalog printing costs.

*Generaland administrative expenses*. General and administrative expenses of $678,115 for the six months ended September 30, 2006represented an increase of 12% from general and administrative expenses of$603,745 for the six months endedSeptember 30, 2005. The increase was primarily the result of an increase in stock-based compensation expense, whichwas not required to be recognized in the prior year’s quarterly results,increased compensation and outside services.

*Researchand development expenses*. Research and development expenses of $474,230 for the six months ended September 30, 2006represented a decrease of 6% compared to $504,303 for the six months ended September 30, 2005. Thedecrease was a result of decreased compensation and decreased test andprototype materials cost.

*Netincome (loss).  *Netincome was $135,750 for the six monthsended September 30, 2006 compared to a net (loss) of $(142,811) for the six months ended September 30, 2005. Theincrease was a result of increased revenue and increased gross margin.

**Liquidityand Capital Resources**

To date, operatingfunds have been provided primarily by sales of our common stock and of warrantsto purchase our common stock, which together totaled $19,077,487 throughSeptember 30, 2006, and, to a lesser degree by funds provided by sales of ourproducts.

Our operations provided$275,997 of cash in the six months endedSeptember 30, 2006 on sales of $5,405,653. Prior to fiscal year 2003 and infiscal years 2006 and 2005, the use of cash in our operations resultedprimarily from the funding of annual net losses. These amounts of cashgenerated from and used in operations are not indicative of the expected cashto be generated from or used in operations in fiscal year 2007. As of September30, 2006, we had $1,169,661 in cash and cash equivalents available to fundfuture operations. Working capital was $2,571,735 at September 30, 2006compared to $2,239,083 at March 31, 2006. Current liabilities were $1,272,418at September 30, 2006, compared to $1,085,628 at March 31, 2006.

If we are notsuccessful in obtaining profitability and positive cash flow, additionalcapital may be required to maintain ongoing operations. We have explored andare continuing to explore options to provide additional financing to fundfuture operations as well as other possible courses of action. Such actionsinclude, but are not limited to, securing a line of credit, sales of debt orequity securities (which may result in dilution to existing shareholders),licensing of technology, strategic alliances and other similar actions. Therecan be no assurance that we will be able to obtain additional funding (ifneeded) through a sale of our common stock, loans from financial institutionsor other third parties or any of the actions discussed above. If we cannotsustain profitable operations and additional capital is unavailable, lack ofliquidity could have a material adverse effect on our business viability,financial position, results of operations and cash flows.

We lease ourfacilities under a noncancelable lease agreement with minimum future leasepayments as of September 30, 2006 as follows:

| Year ended March 31, | ** ** | ** ** | ** ** |
|-------------------------------------|------------|------------|------------|
| 2007                                |       | 77,089     |       |
| 2008                                |       | 166,930    |       |
| 2009                                |       | 172,685    |       |
| 2010                                |       | 65,566     |       |
|                                |       | $          | 482,270    |   |
|                                     |            |            |            |  |

 

Capitalexpenditures of $60,612 in the six months endedSeptember 30, 2006 include the $12,626 capital expenditure associated withplacing AEM monitors in hospitals under various promotional programs. Placingour AEM monitors into hospitals at no charge to facilitate a hospital’s use ofAEM instruments is an initiative to accelerate new hospital accounts. Underthese promotional programs we maintain ownership of the AEM monitor, and thecost is capitalized and depreciated as cost of sales over the projected fiveyear life of the asset.

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Our fiscal year2007 operating plan is focused on increasing new hospital accounts, retainingexisting hospital customers, growing revenue, increasing gross profits andconserving cash. We also are investing in research and development efforts todevelop next generation versions of the AEM product line. We can not predictwith certainty the expected revenue, gross profit, net income or loss and usageof cash and cash equivalents for fiscal year 2007. However, we believe that ourcash resources will be sufficient to fund our operations for at least the nexttwelve months. If we are unable to manage our business operations in line withbudget expectations, it could have a material adverse effect on our businessviability, financial position, results of operations and cash flows. If we arenot successful in achieving profitability and positive cash flow, additionalcapital may be required to maintain ongoing operations.

**Income Taxes**

As of March 31,2006, net operating loss carryforwards totaling approximately $16,500,000 areavailable to reduce taxable income in the future. The net operating losscarryforwards expire, if not previously utilized, at various dates beginning inthe fiscal year ended March 31, 2008. We have not paid income taxes since ourinception. The Tax Reform Act of 1986 and other income tax regulations containprovisions which may limit the net operating loss carryforwards available to beused in any given year, if certain events occur, including changes in ownershipinterests. We have established a valuation allowance for the entire amount ofour deferred tax asset since inception due to our history of losses. Should weachieve sufficient, sustained income in the future, we may conclude that someor all of the valuation allowance should be reversed. If some or all of thevaluation allowance were reversed, then, to the extent of the reversal, a taxbenefit would be recognized which would result in an increase to income.

## **CriticalAccounting Policies and Estimates**

Our discussion and analysis of our financial condition and results ofoperations are based upon our financial statements, which have been prepared inaccordance with accounting principles generally accepted in the United States.The preparation of these financial statements requires us to make estimates andjudgments that affect the reported amounts of assets, liabilities, revenue andexpenses, and related disclosure of contingent assets and liabilities. On anon-going basis, we evaluate our estimates, including those related to baddebts, inventories, sales returns, warranty, contingencies and litigation. Webase our estimates on historical experience and on various other assumptionsthat are believed to be reasonable under the circumstances, the results ofwhich form the basis for making judgments about the carrying values of assetsand liabilities that are not readily apparent from other sources. Actualresults may differ from these estimates under different assumptions orconditions. We believe the following critical accounting policies affect themore significant judgments and estimates used in the preparation of ourfinancial statements.

We maintain allowances for doubtful accounts for estimated lossesresulting from the inability of our customers to make required payments. If thefinancial condition of our customers were to deteriorate, resulting in animpairment of their ability to make payments, additional allowances would berequired, which would increase our expenses during the periods in which anysuch allowances were made. The amount recorded as a provision for bad debts ineach period is based upon our assessment of the likelihood that we will be paidon our outstanding receivables, based on customer-specific as well as generalconsiderations. To the extent that our estimates prove to be too high, and weultimately collect a receivable previously determined to be impaired, we mayrecord a reversal of the provision in the period of such determination.

We provide for the estimated cost of product warranties at the timerevenue is recognized. While we engage in extensive product quality programsand processes, including actively monitoring and evaluating the quality of ourcomponent suppliers, we have experienced some costs related to warranty. Thewarranty accrual is based upon historical experience and is adjusted based oncurrent experience. Should actual warranty experience differ from ourestimates, revisions to the estimated warranty liability would be required.

We reduce inventory for estimated obsolete or unmarketable inventoryequal to the difference between the cost of inventory and the estimated marketvalue based upon assumptions about future demand and market conditions. Ifactual market conditions are less favorable than those projected by management,additional inventory write-downs may be required. Any write-downs of inventorywould reduce our reported net income during the period in which suchwrite-downs were applied. To the extent that our estimates prove to be toohigh, and we ultimately utilize or sell inventory previously determined to beimpaired, we may record a reversal of the provision in the period of suchdetermination.

We recognizedeferred income tax assets and liabilities for the expected future income taxconsequences, based on enacted tax laws, of temporary differences between thefinancial reporting and tax bases of assets and liabilities. Deferred taxassets are then reduced, if deemed necessary, by a valuation allowance for theamount of any tax benefits which, more likely than not based on currentcircumstances, are not expected to be realized. Should we achieve sufficient,sustained income in the future, we may conclude that all or some of thevaluation allowance should be reversed.

We depreciate ourproperty and equipment primarily on a double-declining basis over the estimateduseful life of the asset, generally three to five years. Our owned,customer-site AEM Monitors are depreciated on a double-declining basis for aperiod of 5 years. Leasehold improvements are depreciated over the shorter ofthe remaining lease term or the estimated useful life of the asset. Maintenanceand repairs are expensed as incurred and major additions, replacements andimprovements are capitalized.

We amortize our patent costs over their estimated useful lives, which istypically the remaining statutory life. From time to time, we may be requiredto adjust these lives based on advances in technology, competitor actions, andthe like. We review the recorded amounts of 

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patents at each period end to determine if their carrying amount isstill recoverable based on our expectations regarding sales of relatedproducts. Such an assessment, in the future, may result in a conclusion thatthe assets are impaired, with a corresponding charge against earnings.

We currently estimate forfeitures for stock-based compensation expenserelated to employee stock options at 7% and evaluate the forfeiture ratequarterly.

**Subsequent Events**

On November 10, 2006, we entered into a creditfacility agreement with Silicon Valley Bank. The terms of the credit facilityinclude a line of credit for $2 million for three years at an interest ratecalculated as prime rate plus 1.25%. In connection with the credit facility, weissued warrants to Silicon Valley Bank to purchase 28,000 shares of our commonstock at a per share price of $2.75. Our borrowing under the credit facility islimited by our eligible receivables and inventory at the time of borrowing.

We had previously been exploring the benefit ofobtaining equity capital financing. As a result of obtaining the creditfacility, we discontinued our relationship with an investment advisory firmduring the third quarter ending December 31, 2006. We incurred equity capitalfinancing costs, including costs to the investment advisory firm, ofapproximately $73,000. These costs will be expensed in the third quarter endingDecember 31, 2006.

**Risk Factors**

We wish to caution you that there are risks anduncertainties that could cause our actual results to be materially differentfrom those indicated by forward-looking statements that we make from time totime in filings with the Securities and Exchange Commission, news releases,reports, proxy statements, registration statements and other writtencommunications, as well as oral forward-looking statements made from time totime by our representatives. These risks and uncertainties include, but are notlimited to, those listed in our Annual Report on Form 10-KSB for the year endedMarch 31, 2006. These risks and uncertainties and additional risks anduncertainties not presently known to us or that we currently deem immaterial maycause our business, financial condition, operating results and cash flows to bematerially adversely affected. Except for the historical information containedherein, the matters discussed in this analysis are forward looking statementsthat involve risks and uncertainties, including but not limited to generalbusiness conditions and other factors which are often beyond our control. We donot undertake any obligation to update forward-looking statements except asrequired by law.

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**ITEM 3 — CONTROLSAND PROCEDURES**

(a) We havecarried out an evaluation under the supervision and with the participation ofour management, including our Chief Executive Officer and Principal Accountingand Financial Officer, of the effectiveness of our disclosure controls and procedures(as defined in Rules 13a-14(c) and 15d-14c of the Securities and Exchange Actof 1934 (the “Exchange Act”)). Based upon that evaluation, the Chief ExecutiveOfficer and the Principal Accounting and Financial Officer concluded as ofSeptember 30, 2006 that our disclosure controls and procedures were effectivein ensuring that information required to be disclosed by our under the ExchangeAct was recorded, processed, summarized and reported within the time periodsspecified under the Exchange Act rules and forms.

(b) During thequarter ended September 30, 2006, there were no changes in our internal controlover financial reporting or in other factors that have materially affected, orare reasonably likely to materially affect, our internal control over financialreporting, nor were there any significant deficiencies or material weaknessesin such disclosure controls and procedures or internal control over financialreporting requiring corrective actions. As a result no corrective actions weretaken.

 

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** **

**PART II.**                **OTHER INFORMATION**

**ITEM 4  **                **Submissionof Matters to a Vote of Security Holders**

At our Annual Meeting of shareholders on August 2,2006 the following actions were taken:

(i)                         Thefollowing persons were elected director of Encision Inc. for terms expiring in2007:

|                   | ** ** | **Votes For** | ** ** | **Votes Withheld** | ** ** |
|-------------------|------------|--------------------|------------|-------------------------|------------|
| Bruce L. Arfmann  |       | 6,020,781          |       | 12,444                  |       |
| Robert H. Fries   |       | 6,015,339          |       | 17,886                  |       |
| Vern D. Kornelsen |       | 5,979,765          |       | 53,460                  |       |
| David W. Newton   |       | 6,015,930          |       | 17,295                  |       |
| Roger C. Odell    |       | 6,015,007          |       | 18,218                  |       |
| John R. Serino    |       | 6,016,990          |       | 16,235                  |       |
| George A. Stewart |       | 6,020,781          |       | 12,444                  |       |

 

(ii)                      Ratificationof appointment of Gordon, Hughes & Banks, LLP to serve as Company’sIndependent Auditors in 2007:

| Votes for     |   | 6,022,650 |   |
|---------------|--------|-----------|--------|
| Votes against |   | 375       |   |
| Abstentions   |   | 10,200    |   |

 

**ITEM****6**                   **Exhibits**

The following exhibitsare attached to this report on Form 10KSB or are incorporated byreference:

3.1            Articles of Incorporation of the Company, asamended. (Incorporated by reference from Registration Statement #333-4118-Ddated June 25, 1996).

3.2          Bylaws of the Company. (Incorporated byreference from Registration Statement #333-4118-D dated June 25, 1996).

4.1            Form of certificate for shares ofCommon Stock. (Incorporated by reference from Registration Statement#333-4118-D dated June 25, 1996).

10.1      Lease Agreement dated June 3, 2004 betweenEncision Inc. and DaPuzzo Investment Group, LLC (Incorporated by reference fromQuarterly Report on Form 10-QSB filed on August 12, 2004).

10.2    Encision Inc. 1991 Stock Option Plan, as amended.(Incorporated by reference from Registration Statement #333-4118-D datedJune 25, 1996).

10.3    Encision Inc. 1997 Stock Option Plan. (Incorporatedby reference from Proxy Statement dated July 15, 1997).

31.1        Certificationof Chief Executive Officer under Rule 13a-14(a)

31.2        Certificationof Principal Financial and Accounting Officer under Rule 13a-14(a)

32.1        Certificationof Periodic Reports pursuant to Sarbanes-Oxley Act of 2002

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**SIGNATURE**

Pursuant to the requirements of Section 13 or 15(d) of the SecuritiesExchange Act of 1934, the registrant has duly caused this report to be signedon our behalf by the undersigned thereunto duly authorized.

 
| Name                 | ** ** | **Title**                                                       | ** ** | **Date**          |
|----------------------|------------|-----------------------------------------------------------------|------------|-------------------|
|                 |       |                                                            |       |              |
| /s/ Marcia  McHaffie |       | Controller                                                      |       | November 13, 2006 |
| Marcia McHaffie      |       | Principal Accounting Officer &  Principal Financial Officer |       |              |

 

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