##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 
 Form 10-Q
 (Mark One)
 þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
 For the quarterly period ended March 31, 2007
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
 For the transition period from          to
 Commission file number: 1-15177
 
 DIGITAL ANGEL CORPORATION
 (Exact name of Registrant as specified in its charter)
 Delaware
    
    52-1233960(State or other jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    Identification Number)490 Villaume Avenue, South St. Paul, MN
    
    55075(Address of principal executive offices)
    
    (Zip Code)
 Registrants telephone number, including area code
(651) 455-1621
 (Former Name, Former Address and Formal Fiscal Year, if Changed Since Last Report)
 
  þ o
   o o þ
 o þ




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##### 



DIGITAL ANGEL CORPORATION AND SUBSIDIARIES
 TABLE OF CONTENTS
 PagePART I  Financial InformationItem 1. Financial Statements (unaudited):Condensed Consolidated Balance Sheets  March 31, 2007 and December 31, 2006
    
    
    3Condensed Consolidated Statements of Operations for the Three Months Ended March 31, 2007 and 2006
    
    
    4Condensed Consolidated Statement of Changes in Stockholders Equity for the Three Months Ended March
31, 2007
    
    
    5Condensed Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2007 and 2006
    
    
    6Notes to Condensed Consolidated Financial Statements
    
    
    7Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    17Item 3. Quantitative and Qualitative Disclosures About Market Risk
    
    
    26Item 4T. Controls and Procedures
    
    
    27PART II  Other InformationItem 1. Legal Proceedings
    
    
    28Item 1A. Risk Factors
    
    
    28Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    29Item 5 Other Information
    
    
    29Item 6. Exhibits
    
    
    29Signatures
    
    
    30Exhibit 10.26Exhibit 31.1Exhibit 31.2Exhibit 32.1Exhibit 32.2
   2




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##### Table of Contents



PART I  Financial Information
 
 Item 1. Financial Statements
 DIGITAL ANGEL CORPORATION AND SUBSIDIARIES
 
   March 31,
    
    
    December 31,2007
    
    
    2006(unaudited)AssetsCurrent AssetsCash
    
    $
    8,556
    
    
    $
    1,523Restricted cash
    
    
    136
    
    
    
    81Accounts receivable, net of allowance for doubtful accounts of $195 at March 31,
2007 and $209 at December 31, 2006, respectively
    
    
    7,018
    
    
    
    10,565Accounts receivable from VeriChip Corporation
    
    
    151
    
    
    
    425Inventories
    
    
    10,861
    
    
    
    10,400Other current assets
    
    
    2,643
    
    
    
    2,890Total Current Assets
    
    
    29,365
    
    
    
    25,884Property and Equipment, net
    
    
    10,511
    
    
    
    10,259Goodwill
    
    
    51,252
    
    
    
    51,244Other Intangible Assets, net
    
    
    1,611
    
    
    
    1,633Other Assets, net
    
    
    1,540
    
    
    
    876$
    94,279
    
    
    $
    89,896Liabilities and Stockholders EquityCurrent LiabilitiesLine of credit and current maturities of long-term debt
    
    $
    5,254
    
    
    $
    4,127Accounts payable
    
    
    7,352
    
    
    
    6,443Accrued expenses and other current liabilities
    
    
    3,830
    
    
    
    3,064Deferred revenue
    
    
    1,634
    
    
    
    1,769Total Current Liabilities
    
    
    18,070
    
    
    
    15,403Long-Term Debt
    
    
    7,707
    
    
    
    4,036Other Long Term LiabilitiesDerivative warrant liability
    
    
    853
    
    
    
    Other long term liabilities
    
    
    1,903
    
    
    
    1,446Total Other Long Term Liabilities
    
    
    2,756
    
    
    
    1,446Total Liabilities
    
    
    28,533
    
    
    
    20,885Minority Interest
    
    
    412
    
    
    
    465Commitments and ContingenciesStockholders Equity (See Note 1)Preferred stock: Authorized 1,000 shares, of $1.75 par value, none outstanding
    
    
    
    
    
    
    Common stock: Authorized 95,000 shares, of $.005 par value; 44,894 shares and
44,516 shares issued and outstanding at March 31, 2007 and December 31, 2006,
respectively.
    
    
    226
    
    
    
    226Additional paid-in capital
    
    
    214,800
    
    
    
    214,509Accumulated deficit
    
    
    (148,235
    )
    
    
    (144,753
    )Treasury stock (carried at cost, 378 shares)
    
    
    (1,580
    )
    
    
    (1,580
    )Accumulated other comprehensive income
    
    
    123
    
    
    
    144Total Stockholders Equity
    
    
    65,334
    
    
    
    68,546$
    94,279
    
    
    $
    89,896
   3




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##### Table of Contents



DIGITAL ANGEL CORPORATION AND SUBSIDIARIES
 
    For the Three MonthsEnded March 31,2007
    
    
    2006Product revenue
    
    $
    15,472
    
    
    $
    15,142Service revenue
    
    
    527
    
    
    
    680Total net revenue
    
    
    15,999
    
    
    
    15,822Cost of products sold
    
    
    9,704
    
    
    
    8,767Cost of services sold
    
    
    402
    
    
    
    279Gross profit
    
    
    5,893
    
    
    
    6,776Selling, general and administrative expenses.
    
    
    7,827
    
    
    
    6,232Research and development expenses
    
    
    1,674
    
    
    
    1,190Operating loss
    
    
    (3,608
    )
    
    
    (646
    )Interest income
    
    
    38
    
    
    
    93Interest expense
    
    
    (324
    )
    
    
    (95
    )Reduction in derivative warrant liability
    
    
    400
    
    
    
    Other income
    
    
    32
    
    
    
    17Loss before income taxes and minority interest
    
    
    (3,462
    )
    
    
    (631
    )Income tax (provision) benefit
    
    
    (25
    )
    
    
    84Minority interest share of loss (income)
    
    
    5
    
    
    
    (39
    )Net loss
    
    $
    (3,482
    )
    
    $
    (586
    )Net loss per common share  basic and diluted
    
    $
    (0.08
    )
    
    $
    (0.01
    )Weighted average number of common shares outstanding  basic and diluted
    
    
    44,516
    
    
    
    43,907
   4




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##### Table of Contents



DIGITAL ANGEL CORPORATION AND SUBSIDIARIES
 AccumulatedAdditional
    
    
    
    
    
    
    
    
    
    
    Other
    
    
    TotalPreferred Stock
    
    
    Common Stock
    
    
    Paid-In
    
    
    Accumulated
    
    
    Treasury
    
    
    Comprehensive
    
    
    StockholdersNumber
    
    
    Amount
    
    
    Number
    
    
    Amount
    
    
    Capital
    
    
    Deficit
    
    
    Stock
    
    
    Income
    
    
    EquityBalance  December 31,
2006
    
    
    
    
    
    $
    
    
    
    
    44,894
    
    
    $
    226
    
    
    $
    214,509
    
    
    $
    (144,753
    )
    
    $
    (1,580
    )
    
    $
    144
    
    
    $
    68,546Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (3,482
    )
    
    
    
    
    
    
    
    
    
    
    (3,482
    )Comprehensive (loss)
income-foreign
currency translation
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (21
    )
    
    
    (21
    )Total comprehensive
loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (3,482
    )
    
    
    
    
    
    
    (21
    )
    
    
    (3,503
    )Compensation expense
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    291
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    291Balance  March 31, 2007
    
    
    
    
    
    $
    
    
    
    
    44,894
    
    
    $
    226
    
    
    $
    214,800
    
    
    $
    (148,235
    )
    
    $
    (1,580
    )
    
    $
    123
    
    
    $
    65,334
   5




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##### Table of Contents



DIGITAL ANGEL CORPORATION AND SUBSIDIARIES
 
    For the Three MonthsEnded March 31,2007
    
    
    2006Cash Flows From Operating ActivitiesNet loss
    
    $
    (3,482
    )
    
    $
    (586
    )Adjustments to reconcile net loss to net cash provided by (used in) operating activities:Equity-based compensation
    
    
    291
    
    
    
    151Depreciation and amortization
    
    
    499
    
    
    
    455Amortization of debt discount and financing costs
    
    
    93
    
    
    
    Reduction in derivative warrant liability
    
    
    (400
    )
    
    
    Minority interest
    
    
    (5
    )
    
    
    39Loss on disposal of equipment
    
    
    4
    
    
    
    15Change in assets and liabilities:(Increase) decrease in restricted cash
    
    
    (55
    )
    
    
    137Decrease in accounts receivable
    
    
    3,576
    
    
    
    Decrease (increase) in accounts receivable from VeriChip
    
    
    274
    
    
    
    (126
    )Increase in inventories
    
    
    (439
    )
    
    
    (241
    )Decrease (increase) in other current assets
    
    
    249
    
    
    
    (174
    )Increase in deferred tax asset
    
    
    
    
    
    
    (117
    )Decrease in deferred tax liability
    
    
    (6
    )
    
    
    Increase (decrease) in accounts payable, accrued expenses and deferred revenue
    
    
    1,950
    
    
    
    (948
    )Net cash used in discontinued operations
    
    
    
    
    
    
    (6
    )Net Cash Provided by (Used In) Operating Activities
    
    
    2,549
    
    
    
    (1,401
    )Cash Flows From Investing Activities(Increase) decrease in other assets
    
    
    (67
    )
    
    
    101Payments for property and equipment
    
    
    (589
    )
    
    
    (432
    )Payments for acquisition costs
    
    
    
    
    
    
    (8
    )Net Cash Used in Investing Activities
    
    
    (656
    )
    
    
    (339
    )Cash Flows From Financing ActivitiesAmounts borrowed on line of credit
    
    
    1,072
    
    
    
    997Amounts paid on line of credit
    
    
    (977
    )
    
    
    (943
    )Amounts borrowed on debt
    
    
    6,000
    
    
    
    Payments on notes payable and long-term debt
    
    
    (278
    )
    
    
    (164
    )Exercise of stock options and warrants
    
    
    
    
    
    
    498Payments of dividends to minority shareholder in subsidiary
    
    
    (52
    )
    
    
    Payments for financing costs
    
    
    (625
    )
    
    
    Net Cash Provided by Financing Activities
    
    
    5,140
    
    
    
    388Effect of Exchange Rate Changes on Cash
    
    
    
    
    
    
    10Net Increase (Decrease) In Cash
    
    
    7,033
    
    
    
    (1,342
    )Cash  Beginning Of Period
    
    
    1,523
    
    
    
    10,049Cash  End Of Period
    
    $
    8,556
    
    
    $
    8,707
   6




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DIGITAL ANGEL CORPORATION
 
   1. Basis of Presentation
  The Company
         7




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##### Table of Contents



Summary of Significant Accounting Policies
  Principles of Consolidation
  Use of Estimates
  Foreign Currencies
  Inventories
  Goodwill
   8




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##### Table of Contents




    
    Animal Applications (goodwill of $44.0 million as of March 31, 2007);
    
    Signature (goodwill of $1.1 million as of March 31, 2007); and
    
    DSD Holdings A/S (goodwill of $6.1 million as of March 31, 2007).
  Deferred Financing Costs
  Revenue Recognition
    Amount ofLiability(in thousands)Balance as of December 31, 2006
    
    $
    34Accruals for warranties issued during the period
    
    
    110Accruals related to pre-existing warranties (including
changes in estimates)
    
    
    Settlements made (in cash or in kind) during the period
    
    
    Balance as of March 31, 2007
    
    $
    144
  9




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##### Table of Contents



Income Taxes
   Stock-Based Compensation
  Recently Issued Accounting Standards
    2. Legal Proceedings
 Digital Angel Corporation v. Datamars, Inc., Datamars, S.A., The Crystal Import Corporation
and Medical Management International, Inc.
  10




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##### Table of Contents



The Crystal Import Corporation v. Digital Angel, et al.
  Digital Angel Corporation v. Corporativo SCM, S.A. de C.V.
  3. Financing Arrangements
 10.25% Senior Secured Debenture
      11




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##### Table of Contents



4. Factored Accounts Receivable
 (In thousands)March 31,
    
    
    December 31,2007
    
    
    2006Receivables assigned to factor
    
    $
    6,569
    
    
    $
    1,094Advances from factor
    
    
    (5,255
    )
    
    
    (875
    )Amounts due from factor
    
    
    1,314
    
    
    
    219Unfactored accounts receivable
    
    
    5,899
    
    
    
    10,555Allowance for doubtful accounts
    
    
    (195
    )
    
    
    (209
    )$
    7,018
    
    
    $
    10,565
    12




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##### Table of Contents



5. Inventory
 (In thousands)March 31,
    
    
    December 31,2007
    
    
    2006Raw materials
    
    $
    3,750
    
    
    $
    3,291Work in process
    
    
    656
    
    
    
    576Finished goods
    
    
    7,670
    
    
    
    7,56912,076
    
    
    
    11,436Allowance for excess and obsolescence
    
    
    (1,215
    )
    
    
    (1,036
    )Net inventory
    
    $
    10,861
    
    
    $
    10,400
  6. Stock Options and Restricted Stock
 Stock Option Plans
   Stock Option Activity
  For the Three MonthsEnded March 31,2007
    
    2006Risk-free interest rate
    
    
    4.60
    
    
    
    3.81Expected life (in years)
    
    
    5.0
    
    
    
    5.0Dividend yield
    
    
    0.0
    
    
    
    0.0Expected volatility
    
    
    83.18% - 83.78
    %
    
    
    109.7
    %Weighted-average volatility
    
    
    83.76
    %
    
    
    108.54
    %
   13




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##### Table of Contents



WeightedWeighted
    
    
    AverageStock
    
    
    Average
    
    
    Contractual
    
    
    AggregateOptions
    
    
    Exercise Price
    
    
    Term
    
    
    Intrinsic ValueOutstanding at January 1, 2007
    
    
    11,705
    
    
    $
    3.84Granted
    
    
    260
    
    
    
    2.75Exercised
    
    
    
    
    
    
    Forfeited or expired
    
    
    (345
    )
    
    
    3.85Outstanding at March 31, 2007
    
    
    11,620
    
    
    $
    3.81
    
    
    $
    7.37
    
    
    $
    795
    *Vested or expected to vest at March 31, 2007
    
    
    11,286
    
    
    $
    3.83
    
    
    $
    7.27
    
    
    $
    773
    *Exercisable at March 31, 2007
    
    
    9,062
    
    
    $
    3.99
    
    
    $
    6.84
    
    
    $
    795
    *
    WeightedAverageGrant-DateStock Options
    
    Fair ValueNonvested at January 1, 2007
    
    
    2,458

    
    
    2.64Granted
    
    
    260

    
    
    1.86Vested
    
    
    

    
    
    Forfeited or Expired
    
    
    (160
    )

    
    2.24Nonvested at March 31, 2007
    
    
    2,558

    
    
    2.55
     Restricted Stock
   14




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##### Table of Contents



7. Segment Information
    For the Three Months Ended March 31, 2007(In thousands)Animal
    
    
    GPS and RadioApplications
    
    
    Communications
    
    
    ConsolidatedProduct revenue
    
    $
    10,207
    
    
    $
    5,265
    
    
    $
    15,472Service revenue
    
    
    53
    
    
    
    474
    
    
    
    527Segment revenue
    
    $
    10,260
    
    
    $
    5,739
    
    
    $
    15,999Loss from operations
    
    $
    (2,629
    )
    
    $
    (979
    )
    
    $
    (3,608
    )Loss from
continuing
operations before
provision for taxes
and minority
interest
    
    
    (2,458
    )
    
    
    (1,004
    )
    
    
    (3,462
    )Segment assets
    
    
    81,946
    
    
    
    12,333
    
    
    
    94,279
  For the Three Months Ended March 31, 2006(In thousands)Animal
    
    
    GPS and RadioApplications
    
    
    Communications
    
    
    ConsolidatedProduct revenue
    
    $
    11,085
    
    
    $
    4,057
    
    
    $
    15,142Service revenue
    
    
    417
    
    
    
    263
    
    
    
    680Segment revenue
    
    $
    11,502
    
    
    $
    4,320
    
    
    $
    15,822Loss from operations
    
    $
    (96
    )
    
    $
    (550
    )
    
    $
    (646
    )Loss from
continuing
operations before
income tax benefit
and minority
interest
    
    
    (71
    )
    
    
    (560
    )
    
    
    (631
    )Segment assets
    
    
    80,288
    
    
    
    8,958
    
    
    
    89,246
  15




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##### Table of Contents



8. Supplemental Cash Flow Information (in thousands)
 Three Months EndedMarch 31,2007
    
    2006Interest paid
    
    $
    38

    
    $
        93Taxes paid
    
    
    31

    
    
    36Non-cash activity:Financing of equipment through capital lease
    
    
    112

    
    
    
 9. Related Party Activity
   10. Subsequent Events
    16




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##### Table of Contents



Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
   Overview
  Animal Applications
 GPS and Radio Communications
    17




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##### Table of Contents



Critical Accounting Policies and Estimates
  Goodwill, Intangibles and Other Long-Lived Assets
   
    
    Animal Applications (goodwill of $44.0 million as of March 31, 2007);
    
    Signature (goodwill of $1.1 million as of March 31, 2007); and
    
    DSD Holdings A/S (goodwill of $6.1 million as of March 31, 2007).
 st
  
    
    Cash flows were generated for 5 years based on the expected recovery period for the goodwill;
    
    Adjusted earnings before interest, taxes, depreciation and amortization as the measure of cash flow; and
    
    Discount rates ranging from 16.5% to 26.0%. The discount rate used by us was the rate of return
expected from the market or the rate of return expected for a similar investment with similar risks.
     18




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##### Table of Contents



Inventories
  Deferred Taxes
  Revenue Recognition
    19




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##### Table of Contents



Results of Operations
  For the Three MonthsEnded March 31,2007
    
    2006%
    
    %Product revenue
    
    
    96.7
    
    
    
    95.7Service revenue
    
    
    3.3
    
    
    
    4.3Total net revenue
    
    
    100.0
    
    
    
    100.0Cost of products sold
    
    
    60.7
    
    
    
    55.4Cost of services sold
    
    
    2.5
    
    
    
    1.8Gross profit
    
    
    36.8
    
    
    
    42.8Selling, general and administrative expenses
    
    
    48.9
    
    
    
    39.4Research and development expenses
    
    
    10.5
    
    
    
    7.5Loss from operations
    
    
    (22.6
    )
    
    
    (4.1
    )Interest income
    
    
    (0.2
    )
    
    
    (0.6
    )Interest expense
    
    
    1.9
    
    
    
    0.6Reduction in derivative warrant liability
    
    
    (2.5
    )
    
    
    Other income
    
    
    (0.2
    )
    
    
    (0.1
    )Loss from continuing operations before minority interest
    
    
    (21.6
    )
    
    
    (4.0
    )Income tax (provision) benefit
    
    
    (0.2
    )
    
    
    0.5Loss from continuing operations before minority interest
    
    
    (21.8
    )
    
    
    (3.5
    )Minority interest share of income
    
    
    0.0
    
    
    
    (0.2
    )Net loss
    
    
    (21.8
    )
    
    
    (3.7
    )
 Three Months Ended March 31, 2007 Compared to the Three Months Ended March 31, 2006
 Revenue
  2007
    
    
    % Revenue
    
    
    2006
    
    
    % RevenueAnimal Applications
    
    $
    10,260
    
    
    
    64.1
    
    
    $
    11,502
    
    
    
    72.7GPS and Radio Communications
    
    
    5,739
    
    
    
    35.9
    
    
    
    4,320
    
    
    
    27.3Total
    
    $
    15,999
    
    
    
    100.0
    
    
    $
    15,822
    
    
    
    100.0
    20




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##### Table of Contents



Gross Margin
   2007
    
    
    % Revenue
    
    
    2006
    
    
    % RevenueAnimal Applications
    
    $
    2,974
    
    
    
    29.0
    
    
    $
    4,651
    
    
    
    40.4GPS and Radio Communications
    
    
    2,919
    
    
    
    50.9
    
    
    
    2,125
    
    
    
    49.2Total
    
    $
    5,893
    
    
    
    36.8
    
    
    $
    6,776
    
    
    
    42.8
   Selling, General and Administrative Expenses
   2007
    
    
    % Revenue
    
    
    2006
    
    
    % RevenueAnimal Applications
    
    $
    5,001
    
    
    
    48.7
    
    
    $
    3,952
    
    
    
    34.4GPS and Radio Communications
    
    
    2,826
    
    
    
    49.2
    
    
    
    2,280
    
    
    
    52.8Total
    
    $
    7,827
    
    
    
    48.9
    
    
    $
    6,232
    
    
    
    39.4
    21




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##### Table of Contents



Research and Development Expense
   2007
    
    
    % Revenue
    
    
    2006
    
    
    % RevenueAnimal Applications
    
    $
    602
    
    
    
    5.9
    
    
    $
    795
    
    
    
    6.9GPS and Radio Communications
    
    
    1,071
    
    
    
    18.7
    
    
    
    395
    
    
    
    9.1Total
    
    $
    1,674
    
    
    
    10.5
    
    
    $
    1,190
    
    
    
    7.5
   Interest Expense
  Derivative Warrant Liability
  Income Taxes
  Liquidity and Capital Resources
  Cash Flows
   22




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##### Table of Contents



Financing and Liquidity
  March 31,2007Mortgage notes payable-Animal Applications and Corporate facilities
    
    $
    2,212Line of Credit  DSD Holdings
    
    
    3,175Equipment Loans / Notes Payable  DSD Holdings
    
    
    1,262Capital lease obligations
    
    
    1,49610.25% Senior Secured Debenture
    
    
    6,000$
    14,145
 Equipment Loans-DSD Holdings .
 Line of Credit-DSD Holdings .
 Note Payable-DSD Holdings .
  23




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##### Table of Contents



Invoice Discounting Agreement .
 Revolving invoice funding facility.
 10.25% Senior Secured Debenture
     24




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##### Table of Contents



Payments Due by PeriodLess than
    
    
    1-3
    
    
    4-5
    
    
    AfterContractual Cash Obligations
    
    Total
    
    
    1 Year
    
    
    Years
    
    
    Years
    
    
    5 YearsNotes payable and long-term debt
    
    $
    12,649
    
    
    
    5,121
    
    
    
    5,492
    
    
    
    2,036
    
    
    
    Operating leases
    
    
    19,167
    
    
    
    795
    
    
    
    1,309
    
    
    
    1,075
    
    
    
    15,988Capital leases
    
    
    1,496
    
    
    
    550
    
    
    
    837
    
    
    
    109
    
    
    
    Employment contracts
    
    
    1,111
    
    
    
    1,111
    
    
    
    
    
    
    
    
    
    
    
    $
    34,423
    
    
    $
    7,577
    
    
    $
    7,638
    
    
    $
    3,220
    
    
    $
    15,988
 Acquisitions
   Recently Issued Accounting Standards
     25




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##### Table of Contents



Item 3. Quantitative and Qualitative Disclosures about Market Risk
    Fair2007
    
    2008
    
    2009
    
    2010
    
    2011
    
    Thereafter
    
    Value(In thousands)Long-term debt:Fixed rate (10.25%)
    
    $
    800
    
    
    
    2,400
    
    
    
    2,400
    
    
    
    400
    
    
    
    
    
    
    
    
    
    
    
    
   Cautionary Note Regarding Forward-Looking Statements
  
    
    our anticipation that we will make monthly payments on our 10.25% senior secured debenture with cash;
    
    our expectation that trial will commence in mid to late 2007 regarding our lawsuit against Datamars,
Inc., Datamars, S.A., The Crystal Import Corporation and Medical Management International, Inc.;
    
    our expectation that during 2007 and 2008, our GPS and Radio Communications segment s revenue will
increase from the 2006 levels as the market for our beacons expands;
    
    our expectations regarding the replacement of the URT33 beacon;
    
    our expectation that the sale of OuterLink will close prior to July 3, 2007;
    
    our expectation regarding the weighted average period over which the total unrecognized compensation
cost related to nonvested share-based compensation will be recognized;
    
    our expectations regarding the adoption of certain Accounting Standards;
    
    our intent to classify any future expense for income tax-related interest and penalties as a
component of income taxes; and
    
    our expectations regarding the principal uses and sources of liquidity and our ability to generate
sufficient cash from operations to fund our business over the next 12 months.
  26




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##### Table of Contents




    
    our ability to successfully implement our business strategy;
    
    our ability to successfully integrate the assets acquired in the McMurdo acquisition and realize the anticipated savings;
    
    our ability to comply with
the financial covenants in our 10.25% senior secured debenture and
our ability to restructure certain terms of our transaction with
Imperium on mutually satisfactory terms or at all;
    
    the impact of Applied Digitals voting control over us;
    
    conflicts of interest among Applied Digital, VeriChip and us;
    
    our reliance on a single source supplier for our implantable microchip;
    
    our expectation that we will continue to incur consolidated operating losses for the foreseeable future;
    
    our ability to fund our operations;
    
    our ability to compete as our competitors improve the performance of and support for their new products, and as they
introduce new products, technologies or services;
    
    our reliance on government contractors;
    
    the negative impact of the expiration of patents in 2008 and 2009 relating to the implantable microchip technology;
    
    our ability to successfully defend against infringements of our patents;
    
    our ability to comply with current and future regulations relating to our businesses;
    
    the impact of technological obsolescence;
    
    our ability to successfully mitigate the risks associated with foreign operations;
    
    the impact of the write-off of goodwill and other intangible assets;
    
    risks associated with our ability to close the sale of OuterLink, including (1) that the buyer may not obtain the
required financing to fund the acquisition, (2) that the buyer may not receive regulatory approval, (3) that there may
occur a material adverse change in the business, or (4) that any of the other conditions to close may not be satisfied;
    
    the impact of new accounting pronouncements; and
    
    our ability to maintain proper and effective internal accounting and financial controls.
 
 Item 4T. Controls and Procedures
 Evaluation of Disclosure Controls and Procedures
   27




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##### Table of Contents



Change in Internal Control Over Financial Reporting
  
 Part II
 
 Item 1. Legal Proceedings
 Digital Angel Corporation v. Corporativo SCM, S.A. de C.V.
  
 Item 1A. Risk Factors
  Our 10.25% senior secured debenture contains restrictive covenants that could
adversely affect our business.
  
    
    incur additional indebtedness;
    
    incur liens;
    
    pay dividends, repurchase capital stock or engage in other restricted payments;
    
    sell property;
    
    enter into certain merger, acquisitions or combinations;
    
    make certain investments; and
    
    enter into affiliate transactions.
   28




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##### Table of Contents



Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
   
 Item 5. Other Information
   
 Item 6. Exhibits
  ExhibitNumber
    
    Description10.26
    
    Amendment 4 to the Stock Purchase Agreement, dated as of May 7,
2007 by and between Digital Angel Corporation and Imperium
Master Fund, Ltd.31.1
    
    Certification of Chief Executive Officer of Digital Angel
Corporation pursuant to Section 302 of the Sarbanes-Oxley Act of
200231.2
    
    Certification of Chief Financial Officer of Digital Angel
Corporation pursuant to Section 302 of the Sarbanes-Oxley Act of
200232.1
    
    Certification of Chief Executive Officer of Digital Angel
Corporation pursuant to Section 906 of the Sarbanes-Oxley Act of
200232.2
    
    Certification of the Chief Financial Officer of Digital Angel
Corporation pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
  29




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##### Table of Contents



SIGNATURES
  DIGITAL ANGEL CORPORATION
(Registrant)Date:      May 14, 2007
    By:
    /s/ Kevin N. McGrathName:
    Kevin N. McGrathTitle:
    President, Chief Executive
Officer and Director
(Principal Executive Officer)Date:      May 14, 2007
    By:
    /s/ Thomas J. HoyerName:
    Thomas J. HoyerTitle:
    Vice President, Treasurer
and Chief Financial
Officer

(Principal Accounting and
Financial Officer)  30




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##### Table of Contents



INDEX TO EXHIBITS
 ExhibitNumber
    
    Description10.26
    
    Amendment 4 to the Stock Purchase Agreement, dated as of May 7,
2007 by and between Digital Angel Corporation and Imperium Master
Fund, Ltd.31.1
    
    Certification of Chief Executive Officer of Digital Angel
Corporation pursuant to Section 302 of the Sarbanes-Oxley Act of
200231.2
    
    Certification of Chief Financial Officer of Digital Angel
Corporation pursuant to Section 302 of the Sarbanes-Oxley Act of
200232.1
    
    Certification of Chief Executive Officer of Digital Angel
Corporation pursuant to Section 906 of the Sarbanes-Oxley Act of
200232.2
    
    Certification of the Chief Financial Officer of Digital Angel
Corporation pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
  31