**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


**Washington,
      D.C. 20549**




**FORM
      10-KSB**




**(Mark
                One)**x
            
            **ANNUAL
                REPORT UNDER SECTION 13 OR 15(d)OF THE SECURITIES EXCHANGE ACT OF
                1934**




**For
      the Fiscal Year Ended June 30, 2008**





o
            
            **TRANSITION
                REPORT UNDER SECTION 13 OR 15(d)OF THE SECURITIES EXCHANGE ACT OF
                1934**




**For
      the Transition Period From****to****.**




**Commission
      File Number: 0-30810**




**ELECTRONIC
      CONTROL SECURITY INC.**


(Name
      of
      Small Business Issuer in Its Charter)





**New
                Jersey**
            **22-2138196**(State
                or Other Jurisdiction of
            (I.R.S.
                Employer Identification No.)Incorporation
                or Organization)**790 Bloomfield Avenue, Clifton, New Jersey**
            **07012**(Address
                of Principal Executive Offices)
            (Zip
                Code)




Issuer's
      telephone number, including area code: **(973)
      574-8555**




Securities
      registered under Section 12(b) of the Exchange Act: None




Securities
      registered under Section 12(g) of the Exchange Act:




**$0.001
      Par Value Common Stock**


(Title
      of
      Class)




Check
      whether the issuer is not required to file reports pursuant to Section 13 or
      15(d) of the Securities Exchange Act of 1934. o




Check
      whether the issuer (1) filed all reports required to be filed by Section 13
      or
      15(d) of the Exchange Act during the past 12 months (or for such shorter period
      that the registrant was required to file such reports), and (2) has been subject
      to such filing requirements for the past 90 days. x Yes o No




Check
      if
      there is no disclosure of delinquent filers in response to Item 405 of
      Regulation S-B contained in this form, and no disclosure will be contained,
      to
      the best of registrant's knowledge, in definitive proxy or information
      statements incorporated by reference in Part III of this Form 10-KSB or any
      amendment to this Form 10-KSB. x




Indicate
      by a check mark whether the registrant is a shell company (as defined in Rule
      12b-2 of the Securities Exchange Act of 1934). Yes o No x .




State
      the
      issuer's revenues for its most recent fiscal year: $2,916,410




As
      of
      October 2, 2008, there were 10,149,259 outstanding shares of the issuer's Common
      Stock. The aggregate market value of the shares of the issuer's Common Stock
      held by non-affiliates was $1,124,927. Such market value was calculated using
      the closing price of such Common Stock as of such date as quoted on the OTC
      Bulletin Board.




**DOCUMENTS
      INCORPORATED BY REFERENCE**




Certain
      exhibits hereto have been specifically incorporated by reference herein in
      Item
      13 under Part III hereof. Certain portions of issuer's definitive proxy
      statement, which will be filed with the Securities and Exchange Commission
      in
      connection with the issuer's 2008 annual meeting of stockholders, are
      incorporated by reference in Items 9-12 and 14 of Part III hereof.




Transitional
      Small Business Disclosure Format (Check one): o Yes x No







**TABLE
      OF CONTENTS**





**Page****PART I**Item 1.
            Description
                of Business
            1Item 2.
            Description
                of Properties
            13Item 3.
            Legal
                Proceedings
            13Item 4.
            Submission
                of Matters to a Vote of Security Holders
            13**PART II**Item 5.
            Market
                for Common Equity Related Stockholder Matters
            14Item 6.
            Management’s
                Discussion and Analysis of Financial Condition and Results of
                Operations
            14Item 7.
            Financial
                Statements
            20Item 8.
            Changes
                in and Disagreements with Accountants on Accounting and Financial
                Disclosure
            20Item 8A.
            Controls
                and Procedures
            20Item 8B.
            Other
                Information
            21**PART III**Item 9.
            Directors,
                Executive Officers, Promoters and Control Persons; Compliance With
                Section
                16(A) of the Exchange Act
            22Item 10.
            Executive
                Compensation
            22Item 11.
            Security
                Ownership of Certain Beneficial Owners and Management and Related
                Stockholder Matters
            22Item 12.
            Certain
                Relationships and Related Transactions
            22Item 13.
            Exhibits
            22Item 14.
            Principal
                Accountant Fees and Services
            22Item 15.
            Consolidated
                Financial Statements
            F-1


ii





**FORWARD
      LOOKING STATEMENTS**




THE
      FOLLOWING DISCUSSION SHOULD BE READ IN CONJUNCTION WITH THE FINANCIAL STATEMENTS
      AND RELATED NOTES CONTAINED ELSEWHERE IN THIS FORM 10-KSB. CERTAIN STATEMENTS
      MADE IN THIS DISCUSSION ARE “FORWARD LOOKING STATEMENTS” WITHIN THE MEANING OF
      THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995. FORWARD LOOKING STATEMENTS
      CAN BE IDENTIFIED BY TERMINOLOGY SUCH AS “MAY”, “WILL”, “SHOULD”, “EXPECTS”,
“INTENDS”, “ANTICIPATES”, “BELIEVES”, “ESTIMATES”, “PREDICTS”, OR “CONTINUE” OR
      THE NEGATIVE OF THESE TERMS OR OTHER COMPARABLE TERMINOLOGY AND INCLUDE, WITHOUT
      LIMITATION, STATEMENTS BELOW REGARDING: THE COMPANY'S INTENDED BUSINESS PLANS;
      EXPECTATIONS FOR CONTINUING IN BUSINESS; EXPECTATIONS AS TO PRODUCT PERFORMANCE;
      EXPECTATIONS AS TO MARKET ACCEPTANCE OF THE COMPANY'S TECHNOLOGY; AND BELIEF
      IN
      THE SUFFICIENCY OF CASH RESERVES. BECAUSE FORWARD LOOKING STATEMENTS INVOLVE
      RISKS AND UNCERTAINTIES, THERE ARE IMPORTANT FACTORS THAT COULD CAUSE ACTUAL
      RESULTS TO DIFFER MATERIALLY FROM THOSE EXPRESSED OR IMPLIED BY THESE FORWARD
      LOOKING STATEMENTS. ALTHOUGH THE COMPANY BELIEVES THAT EXPECTATIONS REFLECTED
      IN
      THE FORWARD LOOKING STATEMENTS ARE REASONABLE, IT CANNOT GUARANTEE FUTURE
      RESULTS, PERFORMANCE OR ACHIEVEMENTS. MOREOVER, NEITHER THE COMPANY NOR ANY
      OTHER PERSON ASSUMES RESPONSIBILITY FOR THE ACCURACY AND COMPLETENESS OF THESE
      FORWARD LOOKING STATEMENTS. THE COMPANY IS UNDER NO DUTY TO UPDATE ANY FORWARD
      LOOKING STATEMENTS AFTER THE DATE OF THIS REPORT TO CONFORM SUCH STATEMENTS
      TO
      ACTUAL RESULTS.


iii




**PART
      I**




**Item
      1. Description of Business**




**Overview**




Electronic
      Control Security Inc. designs, develops, manufactures and markets
      technology-based integrated security systems. We also provide consulting
      services consisting of risk assessment and vulnerability studies to ascertain
      a
      customer's security requirements in developing a comprehensive risk management
      and mitigation program, as well as product design and engineering services,
      and
      support systems integrators and dealers/installers providing the same services.
      We market our products domestically and internationally to:





•
            national
                and local government entities including the Department of Defense
                (DoD)
                and Department of Energy (DoE);•
            large
                chemical and petro chemical facilities and major office
                complexes;•
            energy
                facilities, including nuclear power stations, power utilities and
                pipelines; and•
            commercial
                transportation centers, such as airports and seaports;•
            border
                security and border crossing inspection stations; and•
            water
                and agricultural resources including reservoirs, dams, fish hatcheries
                and
                rivers.




We
      believe we are one of a few comprehensive security solution providers in the
      industry. We analyze security risks and develop security solutions specifically
      tailored to mitigate those risks, including designing, engineering and
      manufacturing individual components of a system as may be necessary to deliver
      a
      fully integrated security system that meets the facility requirements. We are
      frequently engaged by security system integrators, security system
      dealers/installers, and commercial architects and engineers because we are
      able
      to deliver an integrated platform for a fully integrated security solution
      to
      support our customers' requirements for the completion of a given
      project.




We
      believe we have developed an excellent reputation as a provider of integrated
      security systems since our inception in 1976 because we:





•
            offer
                a complete range of solutions-driven responses to accommodate our
                customers' needs,•
            offer
                technologically superior products,•
            are
                able to design, engineer and manufacture systems customized to our
                customers' specific requirements,•
            deliver
                systems that are easy to operate and maintain while providing superior
                life cycle cost performance compared to systems offered by our
                competitors,•
            have
                established solid credentials in protecting high value targets, and
                offer
                our customers what we believe may be the best warranty in the
                industry.•
            are
                ISO 9001:2000 registered and will seek to maintain our ISO
                status




**Security
      Industry Overview**




The
      Security Institute of America estimates that the worldwide market for security
      products and services in 2009 will exceed $ 9.1 billion. The industry
      encompasses a wide ranging, highly fragmented group of products and service
      providers which includes entities that market comprehensive security systems
      and
      offer security consulting services, dealers/installers, small single product
      companies, equipment manufacturers, consultants and systems
      integrators.




We
      believe the security industry has experienced significant growth over the last
      decade, both in the total dollar amounts generated from sales and the number
      of
      entrants offering security related products, and continues to grow rapidly
      because:





•
            western
                nations have been the target of high profile terrorist attacks over
                the
                last several years that have squarely focused attention on security
                issues
                and threat mitigation;•
            perimeter
                security for airports, maritime, chemical, transportation, energy
                and
                pharmaceutical facilities has been mandated by Homeland
                Security;•
            newer,
                more effective and efficient security equipment incorporating advancements
                in security technology is replacing obsolete equipment;•
            advanced
                electronic communications systems have created a growing need for
                information technology security to prevent the misuse of proprietary
                information and other intellectual property; and•
            private
                industry is operating in more remote geographic locations and higher
                risk
                environments.









**Products,
      Systems and Technologies**




The
      services and technologies required to create a secure environment must address
      the entire range of security concerns that challenge government and commercial
      institutions, including the protection of:





•
            life;•
            tangible
                assets, such as buildings, vessels and personal
                possessions;•
            intangible
                assets, such as intellectual property, sensitive research and other
                confidential information; and•
            electronic
                data and information technology.




Integrated
      security systems are comprised of one or more subsystems and components that
      perform a variety of security functions for a facility or group of facilities
      under the direction of a single command center and communication network. We
      offer both integrated, turnkey security solutions that incorporate many of
      our
      systems, and stand alone systems that comprise an individual
      technology.




The
      integrated security systems and/or stand alone products we market
      include:





•
            Computer
                Based Command, Control and Communications Networks. The command network
                consists of a central processor, a common database and software that
                links
                various subsystems and components, allowing them to communicate with
                each
                other, and integrates the subsystems and components into a single
                system.•
            Intrusion
                Detection Systems. Fixed location and rapid deployable infrared and
                fiber
                optic perimeter intrusion detection systems that detect an intruder
                passing through the sensors.•
            Video
                Motion Detection and Assessment Systems. As an adjunct to our perimeter
                intrusion detection systems, we offer video surveillance equipment
                using
                closed circuit television cameras, digital processing and fiber optic
                links to monitor and assess the nature of an annunciated threat at
                the
                control center.•
            Electronic
                Surveillance System. This system creates a detection and verification
                band
                outside and parallel to a secured perimeter and is geared toward
                high-level security demands such as border control, military bases,
                airports, power stations, oil and gas storage facilities, nuclear
                power
                plants, industrial sites, and prisons.•
            Ordnance
                Flash Detection System. Our VIPER technology is a muzzle flash detection
                system that detects and locates the discharge of firearms and provides
                an
                immediate counter fire response.•
            Environmental
                Monitoring Systems. Our SentinalTM system remotely monitors drinking water
                quality throughout the water distribution system to detect and instantly
                report the evidence of chemical, biological, or radiological
                contamination.•
            Computer
                Intrusion Detection Equipment. An information technology security
                system
                designed to protect computer local area networks (LANs) from illegal
                access via the Internet or by persons seeking to breach the LANs
                hard
                wiring.




In
      order
      to provide clients with the highest quality and most advanced systems, we
      incorporate technologies and products developed and manufactured by us or that
      have been licensed from other entities. Frequently, we enter into technology
      transfer agreements covering the technologies or products to be used so that
      we
      can design and execute the best possible security solutions for a client within
      the confines of their security budget. Products incorporate state-of-the-art
      components that are configured into flexible systems tailored specifically
      to
      meet the needs of risk mitigation in high threat environments.




We
      believe that the products we offer are qualitatively comparable to or more
      effective than those offered by our competitors because our
      products:





•
            provide
                low nuisance and false alarm rates;•
            are
                reliable in virtually any environmental condition;•
            in
                many cases can be user specified and adapted to their environment;
                and•
            are
                subject to low installation and maintenance
                costs.




We
      believe that we have built a solid reputation as a provider of leading-edge,
      high technology security solutions and services. Our view is shared and
      supported by the many international government sectors and commercial clients
      that engage our services and products on a continuing basis.




**Consulting
      Support Services**




The
      consulting support services we provide our dealer/installers and system
      integrators are an integral part of the security solution. Effective and
      efficient use of technology can be achieved only if properly utilized. Toward
      that end, we:




2





•
            assist
                our customers, if requested, in conducting risk assessment and
                vulnerability/criticality studies to ascertain their security requirements
                and develop a comprehensive risk management and mitigation program;
                and•
            provide
                security system design support
                services.




Our
      support services generally represent the first steps in assisting the
      dealer/installer or systems integrator to develop a security solution. The
      risk
      assessment, threat, vulnerability and criticality analyses the system integrator
      utilizes allow us to help develop effective responses and programs necessary
      to
      address and mitigate the range of threats, and to implement the appropriate
      solutions.




Our
      customers benefit from an integrated, interactive process to determine levels
      of
      risk. The systems integrator consults with our design staff to determine systems
      configurations and human operation requirements that will provide the most
      cost-effective options for mitigating risk. Our security engineers are
      technically accomplished and fully familiar with the latest trends in planning,
      programming, and designing systems utilizing standard peripheral components,
      mini/micro architecture, and “user friendly” software/ firmware applications.
      Many of our security engineers have the federal government's highest security
      clearances.




We
      also
      provide security system design support services involving the evaluation and
      specifications of security systems and components that meet a client's operating
      and budgetary requirements. Typically, these services are provided within the
      context of a comprehensive security evaluation and implementation program in
      conjunction with the systems' integrator.




We
      work
      closely with the customer and facility owner, architect, engineer, system
      integrators and/or construction manager to develop and design security
      monitoring and control systems that afford a normal but secure environment
      for
      management, staff and visitors. Our design personnel are expert in their
      knowledge of the various technologies (mature and emerging) and their
      application to security challenges, both in the United States and abroad,
      because they continue to be intimately involved in developing security systems
      for government facilities in the United States and overseas.




**Product
      Design**




We
      design
      and develop new products based upon market requirements and as deemed necessary
      to meet clients' specific needs. We research and assess threat and vulnerability
      issues and design and engineer our products in-house, with outside consultants
      as necessary, and in conjunction with joint venture partners to meet the needs
      of clients based upon the results of such research. We investigate new and
      emerging technologies that have application in the security industry and seek
      to
      license these technologies which we then incorporate into our product
      line.




**Markets
      for Our Products**




We
      have
      identified a number of markets for our products and have developed programs
      to
      gain access to those target markets. Generally, private industry and government
      facilities that possess sensitive information, valuable assets or by virtue
      of
      the nature of their business may be subject to terrorist threats, recognize
      the
      need to implement security measures to protect personnel and property. In many
      instances, laws have been enacted and mandates decreed for compliance with
      some
      minimum-security standards. Airport security is a prime example. We target
      these
      entities as well as entities where we can demonstrate the need for security
      measures.




Primary
      markets that we target include:





•
            the
                U.S. Government, its agencies and departments, including the Department
                of
                Defense and the Department of Energy;•
            large
                industrial facilities, including pharmaceutical companies and major
                office
                complexes;•
            energy
                facilities, including nuclear power plants, utilities,
                chemical-petrochemical pipelines;•
            commercial
                aviation and maritime facilities;•
            rail
                transportation; and•
            foreign/export
                opportunities in all of the above-targeted
                areas.




The
      U.S.
      Government, along with many of its agencies and departments, represents a
      significant market for our products. We actively market our products to the
      following U.S. Government agencies, all of which have purchased our products
      in
      the past and continue to be among our top customers:





•
            The
                U.S. Department of Defense and a number of its subdivisions have
                been
                using our products for force and asset protection at numerous military
                bases and air force installations around the world. Certain of our
                products have been certified and included as part of the government's
                tested and approved technologies.




3




•
            The
                U.S. Department of Energy, in connection with the clean-up and operation
                of military bases and government-owned nuclear processing facilities,
                offers an expansive and varied market. We are involved with the supply
                and
                support services at nine sites on an ongoing basis.•
            The
                Department of Transportation includes airports, trucking and distribution
                centers and marine terminals. Our products and systems directly apply
                to
                the security needs of this multi-billion dollar market
                opportunity.




Our
      open-ended contract with the General Services Administration (GSA), which has
      been extended through July 31, 2009, authorizes the U.S. Government and a
      network of eligible sources to purchase materials and services from us without
      having to undergo a full competition. In September 2003, we announced the
      finalization of a 5-year indefinite delivery/indefinite quantity contract for
      the Integrated Base Defense Security System (IBDSS) with the United States
      Air
      Force (USAF) to secure highly strategic military facilities throughout the
      world. During Fiscal 2008, the Company was awarded a number of orders for
      Tactical Automated Sensor Systems (TASS).




We
      also
      target state and local governments and government authorities and agencies
      fulfilling the roles described above.




Large
      Industrial Facilities and Major Office Complexes. These types of facilities,
      such as pharmaceutical companies, frequently house sensitive data where research
      and product development occur and are likely to acquire integrated security
      packages to create a “smart building.” The technologies required to create a
      smart building in today's environment must address life, safety, power,
      lighting, information technology protection and other security systems to create
      a normal yet secure environment for employees, visitors and service
      personnel.




Energy
      Facilities, Including Nuclear Power Plants, Utilities, Chemical-Petrochemical
      Pipeline Facilities. Nuclear power stations and utilities that house sensitive
      information and dangerous materials represent a large and lucrative market
      for
      our products. Chemical-petrochemical, natural gas and pipeline companies, many
      of which operate in high risk environments and remote geographic locations,
      invest huge sums in the assets necessary to operate those businesses and adopt
      appropriate measures to protect their investments through the acquisition of
      security equipment and systems.




Commercial
      Aviation and Maritime Transportation. Infrastructure security has been at the
      forefront of security consciousness for many years. The federal government
      appropriated significant funds for the acquisition and installation of new,
      high-technology security systems at these facilities. There are approximately
      1,200 facilities in the U.S. that the Federal Aviation Agency has identified
      and
      mandated for perimeter and access control security systems upgrade to be
      completed over the next several years and we will bid to provide products and
      services for many of these sites.




Foreign/Export
      Opportunities. Government operations and private industries in foreign countries
      are all subject to the same security issues that challenge similar entities
      in
      the United States. We, along with our strategic teaming partners and
      international sales representatives, continue to seek penetration of these
      markets.




**Marketing**




We
      have
      developed a multi-tiered marketing plan, allowing us to effectively market
      products to each of the separate government and industry segments identified
      as
      target markets both in the United States and internationally. Our marketing
      strategy highlights product strengths as they apply to each particular
      industry.




The
      primary goals of our marketing strategy are to:





•
            broaden
                the base of potential clients, and•
            demonstrate
                the efficacy of our products.




We
      have
      entered into strategic partnerships, teaming, and representative relationships
      with major multi-national corporations in each of the industries that comprise
      our target markets. These companies generally enjoy a strong market presence
      in
      their respective industries and we believe that our association with these
      entities affords the Company and our products added credibility. These entities
      frequently subcontract our services and purchase our products in connection
      with
      larger projects. During Fiscal 2007, we entered into teaming agreements with
      Finex Trade LLC of Mexico City, Mexico, and Suntech Corporation of Central
      and
      S. America.




Members
      of our management team have many years of experience in the security industry.
      Each member is assigned a corporate account and thereby establishes
      relationships with government and commercial organizations in a specific market.
      We attempt to maintain direct contact with key employees of the major corporate
      accounts and government agencies encompassing our target markets.




4




We
      are
      projecting our international business to develop through a network of
      independent sales representatives. Agreements are in place with various entities
      that allow us to maintain a presence in 25 countries worldwide. These agreements
      generally extend for a period of two years and provide the dealer/installer
      with
      price discounts from current price schedules as an incentive to market our
      products in their geographic area. We rely on our dealer/installer base to
      represent our product line throughout the world and to apprise us of potential
      projects where the products can be incorporated. In addition, we rely on our
      dealers/installers to introduce our company and products to key government
      and
      private enterprise personnel in their respective geographic
      regions.




We
      also
      market directly to providers of integrated security systems, security systems
      dealers/installers, systems engineers and other entities that may be contracted
      for a security system on behalf of a client.




A
      presence is maintained at the major trade conferences that address our target
      markets and we advertise in the relevant conference publications.




We
      employ
      a variety of pricing strategies for our services. Proposals for consulting
      services are based on an estimate of hours multiplied by standard rates. Systems
      integration projects are based on the estimated cost of the components including
      subcontractors and equipment, plus a profit margin. Pricing for engineering
      and
      maintenance services vary widely depending on the scope of the specific project
      and the length of engagement.




**Business
      Growth Strategy**




In
      order
      to achieve a sustainable and continuous growth rate, we believe that we must
      devote additional resources to marketing and product development. Specifically,
      we have or intend to:





•
            Expand
                our base of dealers/installers/integrators worldwide. This is an
                effective
                and cost efficient means of increasing sales. These entities serve
                as our
                local agents to market products and provide customer support. Furthermore,
                these entities are familiar with local laws and frequently have local
                contacts in government and business at decision-making
                levels.•
            Expand
                our global presence. We entered into sales agreements with a number
                of
                multi-national companies to represent and support our products in
                Africa,
                China and Eastern Europe.•
            Design
                and develop new systems. We will continue to develop new security
                systems
                to expand our portfolio of proprietary products. We believe that
                this will
                help us to open new markets and retain our position as a leading
                edge
                provider of technology based security equipment.•
            License
                new and emerging technologies. We will continue to identify, analyze
                and
                acquire new and emerging technologies for application in the security
                industry. We will seek to acquire technologies that will enhance
                our
                existing systems and develop new products.•
            Upgrade
                existing products. We have and will continue to upgrade existing
                products
                by taking advantage of technological advancements to ensure that
                they
                remain state-of-the-art.




**Customers**




We
      provide products and services to certain customers who maintain their own
      integration engineering and installation departments. During the past five
      years
      we have provided products to approximately 50 nuclear power stations, Department
      of Energy and other government agencies covering over 220 projects.




Under
      usual business conditions, given the nature of our customers and products,
      we
      receive relatively large orders for products and services from a relatively
      small number of customers. We have committed to expand our customer base and,
      for the fiscal year ended June 30, 2008,there were three customers from which
      we
      had significant sales volume. Leadcom, Inc., the Department of Energy and
      the Department of Defense accounted for 35%, 21% and 16%, respectively, of
      our
      net revenues. In Fiscal Year 2007, the United States Air Force and Duke Energy
      Corporation, accounted for 40% and 15%, respectively, of our net
      revenues **.**




**Competition**




As
      the
      public and private sectors become increasingly concerned with security issues,
      we believe that the security and anti-terrorism industry will experience
      substantial growth. Competition is intense among a fragmented and wide ranging
      group of product and service providers, including security equipment
      manufacturers, providers of integrated security systems, systems integrators,
      consulting, engineering and design firms and others that provide individual
      elements of a system. Many of our current and potential competitors possess
      greater name recognition and financial, technical and marketing resources than
      we do. As a result, they may be able to respond more quickly to new or emerging
      technologies and changes in customer requirements, or to devote greater
      resources to the development, promotion, sale and support of their products
      than
      we can. Because of growth in the marketplace, we anticipate increased
      competition from other sources, ranging from emerging to established companies.
      We believe that the principal factors affecting competition in the industry
      include applied technology, product performance, price and customer service.
      We
      cannot be certain that we will be able to compete successfully in the future
      against existing or potential competitors.




5




We
      believe we are able to sustain our competitive position in the industry
      because:





•
            our
                principal officers, security analysts, design personnel and sales
                persons
                have an aggregate of over 215 years of experience in the security
                industry;•
            we
                have the ability to analyze security risks, design, engineer and
                manufacture products customized to a client's
                requirements;•
            our
                products address a wide range of security requirements;•
            our
                products are among the most technologically advanced and the highest
                quality available;•
            our
                products are flexible in that many of them can be configured and
                customized to meet a client's specific needs and can be integrated
                in new
                or existing security systems;•
            our
                products are reliable, and relatively easy and inexpensive to install
                and
                maintain; and•
            we
                have been successful in teaming with large multinational companies
                to
                market and incorporate our products into their product offerings,
                thereby
                contributing to the credibility and efficacy of our
                products.




**Manufacturing**




We
      maintain manufacturing operations at our facilities in New Jersey and Alabama.
      These activities include the procurement of materials, product assembly and
      component integration, product assurance, quality control and final
      testing.




We
      purchase the individual components that comprise our products or subcontract
      the
      manufacture of specific subsystems to third parties. We believe that we are
      not
      overly dependent on any one supplier for the components of our products. In
      the
      event of any disruption in supply or discontinuation of production by any of
      our
      present suppliers, we believe that the components used in our products are
      available from numerous sources at competitive prices. Various aspects of the
      software programming required in connection with our computer products are
      designed and written by in-house personnel or are subcontracted to third
      parties.




We
      have
      not entered into any long-term contracts for the purchase of components but
      rather rely on rolling forecasts to determine the number of units we will sell
      and the components required. We maintain an inventory of certain long-lead
      items
      required in the manufacture of our products, as reflected in our balance sheet.
      To date, we have been able to obtain supplies of these components and we believe
      that adequate quantities are available to meet our needs.




To
      date,
      compliance with environmental laws has not impacted our manufacturing or other
      operations, although there can be no assurance that this will continue to be
      the
      case.




**Intellectual
      Property and Other Proprietary Rights**




Proprietary
      protection for our technological expertise, products and product candidates
      are
      important to our business. Currently, we rely upon trade secrets, application
      experience and continuing technological innovation to develop and maintain
      our
      competitive position. We also rely on a combination of trade secret protection
      and non-disclosure agreements to establish and protect our proprietary
      rights.




Our
      success is dependent to a great extent on our proprietary knowledge, innovative
      skills, technical expertise and marketing ability. Our intention is not to
      rely
      primarily on patents or other intellectual property rights to protect or
      establish our market position.




We
      obtained trademarks in the United States, South Korea, United Kingdom and Saudi
      Arabia for “FOIDS®” (Fiber Optic Intelligent Detection System); “IPID®”
(Infrared Perimeter Intrusion Detection); “RDIDS®” (Rapid Deployment Intrusion
      Detection System); “IDMS®” (Intrusion Detection & Monitoring System);
      LanData Secure (LAN and WAN Security Monitoring); Sentinal, Vacusonic and Gamma
      Shark. We have also filed for trademarks in other countries.




We
      require all employees, consultants and contractors to execute non-disclosure
      agreements as a condition of employment with or engagement by the Company.
      We
      cannot be certain, however, that we can limit unauthorized or wrongful
      disclosures of unpatented trade secret information.




6




Although
      we continue to implement protective measures and intend to defend our
      proprietary rights, policing unauthorized use of our technology or products
      is
      difficult and we cannot be certain that these measures will be effective or
      successful.




**Research
      and Development**




The
      forces that drive the design and development of new products include the need
      to
      meet new security threats, incorporate newly developed technologies and satisfy
      a client's unique security requirements. We research and assess threat and
      vulnerability issues at selected facilities within our target markets and design
      and engineer products in-house with outside consultants as necessary and in
      conjunction with joint venture partners to meet the needs of clients based
      upon
      the results of such research. We investigate new and emerging technologies
      in
      the security industry and seek to license certain technologies which we then
      incorporate into our products.




During
      the years ended June 30, 2008 and 2007, we expended $95,336 and $141,256
      respectively, on research and development activities.




**Product
      Warranty**




IPID®
      sensors are warranted for ten (10) years, under normal use, against defects
      in
      workmanship and material from date of installation of the system on the
      customer's premises. All other components are warranted to the extent of the
      warranty given by the actual manufacturer. FOIDS® processors are warranted for a
      ten (10) year period. For the years ended June 30, 2008 and 2007, net expenses
      attributable to warranties were well below the amounts accrued. An unanticipated
      cost in fiscal 2007 was incurred due to a supplier who had produced and
      delivered defective sensor housings which were not immediately evident but
      which
      were discovered after they had been fully assembled, shipped and installed
      at
      various sites during 2006 and 2007. We replaced over 950 sensors during fiscal
      2006 and 2007, and we incurred approximately $290,000 and $210,000 in direct
      costs for fiscal 2007 and 2006 respectively. We have filed suit against the
      housing manufacturer seeking in excess of $530,000 in damages, and plan to
      seek
      additional damages. We believe the problem has been defined and resolved. No
      further repairs were required in Fiscal 2008.




**Technology
      Licensing Arrangements**




As
      we
      endeavor to design and manufacture the most effective and efficient technology
      based security solutions, we review and investigate new and emerging
      technologies that have application in the security industry. Frequently, we
      seek
      to incorporate these technologies into our systems. We are party to agreements
      to use certain technologies including licenses with ATC, Vindicator/Honeywell
      and Hyperdyne, Inc.




**Employees**




As
      of
      September 22, 2008 **,** we
      employed 18 people on a full-time basis including six design and engineering
      staff, four manufacturing and assembly employees, three marketing employees,
      two
      project managers and three administrative employees. A number of employees
      serve
      in multiple capacities. For example, Arthur Barchenko serves as our President
      but is also an integral member of our marketing team. Our manufacturing staff
      may oversee site installation of the products.




We
      have
      relationships with 12 independent sales representative organizations covering
      specific regions in the U.S.A., Central America, South America, United Kingdom,
      India, the Middle East, and Southeast Asia.




None
      of
      our employees are covered by a collective bargaining agreement or represented
      by
      a labor union. We consider our relationship with our employees to be
      satisfactory.




**RISK
      FACTORS**




An
      investment in our common stock involves risks and uncertainties. You should
      consider the following factors carefully, in addition to the other information
      contained in this Form 10-KSB, before deciding to purchase our
      securities.




7




**Risks
      Relating to Our Business**




***We
      depend on government contracts for a large part of our total sales, and
      therefore our business is vulnerable to fluctuations in government
      spending.***




Because
      many of our contracts are with governmental entities, our business is subject
      to
      risks that are out of our control, including global economic developments,
      wars,
      political instability, changes in the tax and regulatory environments, foreign
      exchange rate volatility and fluctuations in government spending. For example,
      the 2005 Homeland Security Appropriations Act provides $9.1 billion in
      discretionary spending for the Department of Homeland Security. However, because
      many customers are governmental entities with variable and uncertain budgets,
      the amount of business that we might receive from them may vary from year to
      year, regardless of the perceived quality of our business.




Some
      of
      our contracts are subject to cancellation by clients upon short notice with
      little or no penalty so we cannot be certain that our backlog will be filled.
      The contracts we enter into with government entities are often awarded prior
      to
      legislative funding appropriations to support those contracts. Consequently,
      the
      entire amount of orders and contracts received from these entities may never
      be
      funded. If a substantial portion of our backlog orders are cancelled, our
      business, operating results and financial condition could be materially and
      adversely affected. In addition, the cancellation of a substantial portion
      of
      booked orders would negatively impact other areas of our business. For example,
      if we have booked orders from a large customer and the customer cancels their
      order, it would greatly affect our operating results for the period during
      which
      we would have recognized revenues from that customer. This could cause our
      stock
      price to fluctuate and make it difficult to evaluate the Company. Moreover,
      cancellation of a booked order after we have ordered components and materials
      to
      manufacture systems could result in the Company having excess inventory with
      no
      corresponding income.




During
      the fiscal year ended June 30, 2008, three customers accounted for substantially
      all of our revenues, with the Department of Defense, Leadcom, Inc. and the
      Department of Energy accounting for 35%, 21% and 16% respectively, of net
      revenues. A substantial decrease in revenues generated from contracts from
      these
      customers could have an adverse effect on our business unless we were able
      to
      identify other customers. For the fiscal year ended June 30, 2007, the United
      States Air Force and Duke Energy accounted for approximately 40% and 15%,
      respectively, of our net revenues. If we are unsuccessful in diversifying our
      customer base, we may experience a significant decrease in business resulting
      in
      a material adverse effect on our financial condition and results of
      operations.




***Because
      our sales tend to be concentrated among a small number of customers during
      any
      period, our operating results may be subject to substantial fluctuations.
      Accordingly, our revenues and operating results for any particular quarter
      may
      not be indicative of our performance in future quarters, making it difficult
      for
      investors to evaluate our future prospects based solely on the results of any
      one quarter.***




Given
      the
      nature of our customers and products, we receive relatively large orders for
      products from a relatively small number of customers. Consequently, a single
      order from one customer may represent a substantial portion of our sales in
      any
      one period and significant orders by any customer during one period may not
      be
      followed by further orders from the same customer in subsequent periods. Our
      sales and operating results are subject to very substantial periodic variations.
      Since quarterly performance is likely to vary significantly, our results of
      operations for any quarter are not necessarily indicative of the results that
      we
      might achieve for any subsequent period. Accordingly, quarter-to-quarter
      comparisons of our operating results may not be meaningful.




***If
      we were to have an event of default or breach a covenant under our senior
      secured convertible debentures issued in our January 2006 private financing,
      the
      outstanding principal amount of the debentures plus all accrued and unpaid
      interest would become immediately due and payable to the holders of the
      debentures, and we currently do not have the cash resources to pay these
      obligations, which are secured by all of our assets including our intellectual
      property and would therefore be subject to seizure by the holders of the
      debentures in the event of a default or covenant
      breach.***




Our
      senior secured convertible debentures contain numerous events of default and
      covenants. Events of default under the debentures include:





•
            failure
                to pay principal or any premium on any debenture when
                due,•
            failure
                to pay any interest, late fees or liquidated damages on any debenture
                after a period of three trading days,•
            failure
                to perform other covenants under the debenture that are not cured
                by the
                earlier of seven trading days after notice by holder or 15 trading
                days
                after we are aware of such default,•
            default
                under the other financing documents that is not cured by the earlier
                of
                five trading days after notice or ten trading days after we are aware
                of
                such default,




8




•
            any
                representation or warranty under the financing documents that is
                untrue or
                incorrect in any material respect, or certain events of bankruptcy
                or
                insolvency of us or any of our subsidiaries, or any default by us
                or our
                subsidiaries under any instrument in excess of $150,000 that results
                in
                such obligation becoming due and payable prior to
                maturity,•
            our
                becoming party to a change of control transaction, or disposing of
                greater
                than 40% of our assets or redeeming more than a de minimus number
                of
                outstanding equity securities,•
            if,
                during the effectiveness period of the registration statement for
                the
                resale of the Common Stock underlying these securities (which registration
                statement was declared effective in March 2006), the effectiveness
                of the
                registration statement lapses for any reason or the holder shall
                not be
                permitted to resell registrable securities under the registration
                statement, in either case, for more than 30 consecutive trading days
                or 60
                non-consecutive trading days during any 12-month period, subject
                to
                certain limited exceptions, and•
            failure
                to deliver common stock certificates to a holder prior to the fifth
                trading day after a debenture conversion
                date.




Upon
      an
      event of default, the outstanding principal of the debentures plus all accrued
      and unpaid interest shall become immediately due and payable to the holders
      of
      the debentures.




The
      debentures contain various covenants that limit our ability to:





•
            incur
                additional debt, other than permitted debt as defined in the
                debenture,•
            incur
                specified liens, other than permitted liens as defined in the
                debenture,•
            amend
                our certificate of incorporation or by-laws in a material adverse
                manner
                to the holder, or•
            repay
                or repurchase more than a de minimus number of shares of common
                stock.




We
      currently do not have the cash resources to pay these obligations, which are
      secured by all of our assets including our personal and intellectual property,
      and such assets would therefore be subject to seizure by the holders of the
      debentures in the event of a default or covenant breach. We cannot assure you
      that we will not have an event of default under the debentures or experience
      a
      covenant breach that would trigger such an event of default.




***We
      rely on rolling forecasts when ordering components and materials for the
      manufacture of our products which could cause us to overestimate or
      underestimate our actual requirements. This may result in an increase in our
      costs or prevent us from meeting customer demand.***




We
      use
      rolling forecasts based on anticipated orders to determine component
      requirements. Lead times for materials and components vary significantly and
      depend on factors such as specific supplier requirements, contract terms and
      current market demand for such components. As a result, our component
      requirement forecasts may not be accurate. If management overestimates our
      component requirements, we may have excess inventory, which would increase
      our
      costs. If management underestimates component requirements, we may have
      inadequate inventory, which could interrupt manufacturing and delay delivery
      of
      product to customers. Any of these occurrences would negatively impact our
      business and results of operations.




***Our
      product offerings involve a lengthy sales cycle and management may not
      anticipate sales levels appropriately, which could impair
      profitability.***




Our
      products and services are designed for medium to large commercial, industrial
      and government facilities, such as military installations, office buildings,
      nuclear power stations and other energy facilities, airports, correctional
      institutions and high technology companies desiring to protect valuable assets
      and/or prevent intrusion into high security facilities. Given the nature of
      our
      products and customers, sales cycles can be lengthy as customers conduct
      intensive investigations of specific competing technologies and providers.
      Moreover, orders received from governments may be subject to funding
      appropriations, which may not be approved. For these and other reasons, the
      sales cycle associated with our products is typically lengthy and subject to
      a
      number of significant risks over which we have little or no
      control.




***We
      anticipate that business from projects outside the United States will comprise
      an increasing part of our business and, accordingly, we are subject to risks
      associated with doing business outside the United
      States.***




During
      the fiscal years ended June 30, 2008 and 2007, we generated approximately 21%
      and 20%, respectively, of our business from projects outside the United States.
      However, we anticipate that the revenue portion from overseas operations will
      significantly increase during Fiscal 2008. Our international business operations
      are subject, generally, to the financial and operating risks of conducting
      business internationally, including, but not limited to:




9





•
            unexpected
                changes in or impositions of legislative or regulatory
                requirements;•
            potential
                hostilities and changes in diplomatic and trade relationships;
                and•
            political
                instability.




One
      or
      more of these or other factors not referenced herein or now known to us could
      materially impact our business and results of operations could
      suffer.




***We
      depend on our relationships with strategic partners as a source of business
      and
      our business and results of operations could suffer if these relationships
      are
      terminated.***




We
      have
      entered into strategic partnerships or teaming arrangements with several large
      multinational corporations that promote our products and services and
      incorporate our products into their projects. In the event that we are unable
      to
      maintain these strategic relationships for any reason, our business, operating
      results and financial condition could be adversely affected.




***We
      compete against entities that have significantly greater name recognition and
      resources than we do, enabling them to respond more quickly to changes in
      customer requirements and allocate these resources to marketing
      efforts.***




The
      security industry is highly competitive and continues to become increasingly
      so
      as security issues and concerns have become a primary consideration at both
      government and private facilities worldwide. Competition is intense among a
      wide
      ranging and fragmented group of product and service providers, including
      security equipment manufacturers, providers of integrated security systems,
      systems integrators, consulting firms, engineering and design firms and others
      that provide individual elements of a system, some of which are larger than
      us
      and possess significantly greater name recognition, assets, personnel, sales
      and
      financial resources. These entities may be able to respond more quickly to
      changing market conditions by developing new products that meet customer
      requirements or are otherwise superior to our products and may be able to more
      effectively market their products than we can because of the financial and
      personnel resources. We cannot assure investors that we will be able to
      distinguish ourselves in a competitive market. To the extent that we are unable
      to successfully compete against existing and future competitors, our business,
      operating results and financial condition would be materially and adversely
      affected.




***We
      rely on third parties for key components used in our
      products.***




We
      rely
      on suppliers for several key components utilized in the manufacture of our
      products. Our reliance on suppliers involves certain risks, including a
      potential inability to obtain an adequate supply of required components, price
      increases, timely delivery and component quality. To date, we have experienced
      one major disruption in the supply of components which we reported in our
      quarterly report on Form 10-QSB for the three months ended March 31, 2006.
      We
      cannot assure you that there will not be additional disruptions of our supplies
      in the future. Disruption or termination of the supply of components could
      delay
      shipments of products and could have a material adverse affect on our business,
      operating results and financial condition.




***If
      our subcontractors fail to perform their contractual obligations, our prime
      contract performance and our ability to obtain future business could be
      materially and adversely impacted.***




Many
      of
      our contracts involve subcontracts with other companies upon which we rely
      to
      perform a portion of the services that we must provide to our customers. There
      is a risk that we may have disputes with our subcontractors, including disputes
      regarding the quality and timeliness of work performed by the subcontractor.
      A
      failure by one or more of our subcontractors to satisfactorily perform the
      agreed-upon services may materially and adversely impact our ability to perform
      our obligations as the prime contractor. Subcontractor performance deficiencies
      could result in a customer terminating our contract for default. A default
      termination could expose us to liability and have a material adverse effect
      on
      our ability to compete for future contracts and orders.




***Our
      services and reputation may be adversely affected by product defects or
      inadequate performance.***




In
      the
      event our products do not perform to specifications or are defective in any
      way,
      our reputation may be adversely affected and we may suffer a loss of business
      and a corresponding loss in revenues.




***If
      we are unable to retain key executives or hire new qualified personnel, our
      business will be adversely affected.***




Our
      success greatly depends on our ability to retain existing management and attract
      key technical, sales, marketing, information systems, and financial and
      executive personnel. We are especially dependent on the continued services
      of
      our senior management team, particularly Arthur Barchenko, our President and
      our
      key marketing personnel. The loss of any of these people could have a materially
      detrimental effect on our business. We have not entered into employment
      agreements with any of these people. We do not maintain key person life
      insurance on any of our personnel. In addition, we are seeking to engage senior
      sales staff and if we fail to attract, hire or retain the necessary personnel,
      or if we lose the services of any member of our senior management team, our
      business could be adversely affected.




10




**Risks
      Relating to Our Common Stock**




***We
      have outstanding two classes of preferred stock which have preference over
      the
      common stock as to dividends and liquidation distributions, among other
      preferential rights.***




As
      of the
      date hereof, we have issued and outstanding 300,000 shares of Series A
      Convertible Preferred Stock (“Series A Preferred Stock”) and 791 shares of
      Series B Preferred Stock (which together with the Series A Preferred Stock
      is
      referred to as the “Preferred Stock”). The Preferred Stock affords holders a
      preference to assets upon liquidation, a cumulative annual dividend and is
      convertible into shares of common stock, all of which rights impact the
      outstanding shares of common stock. The Preferred Stock's right to annual
      dividends makes less likely the possibility that we will declare dividends
      on
      the common stock. In the event of a liquidation of the Company's assets, holders
      of Preferred Stock will have a right to receive as a liquidation payment any
      remaining assets of the Company prior to any distributions to holders of the
      common stock and the holders of the Preferred Stock may be able to block actions
      otherwise approved by the holders of the common stock if such action is adverse
      to their rights. In addition, holders of common stock will suffer dilution
      upon
      any conversion of the Preferred Stock which could reduce the market value of
      the
      common stock.




***Our
      common stock price has fluctuated considerably and may not appreciate in
      value.***




Prices
      for our common stock have in the past, and could continue to, fluctuate
      significantly and will be influenced by many factors, including the liquidity
      of
      the market for the common stock, investor perception of the industry in which
      we
      operate and our products, and general economic and market conditions. Factors
      which could cause fluctuation in the price of our common stock
      include:





•
            conditions
                or trends in the industry,•
            failure
                to keep pace with changing technology,•
            costs
                associated with developing new products and services,•
            costs
                associated with marketing products and services may increase
                significantly,•
            the
                timing of sales and the recognition of revenues from
                them,•
            government
                regulations may be enacted which affect how we do business and the
                products which may be used at government facilities,•
            downward
                pressure on prices due to increased competition,•
            changes
                in our operating expenses,•
            sales
                of common stock,•
            actual
                or anticipated variations in quarterly results, and•
            changes
                in financial estimates by securities
                analysts.




The
      stock
      market in general has experienced extreme price and volume fluctuations. The
      market prices of shares of security-related companies experienced fluctuations
      that often have been unrelated or disproportionate to the operating results
      of
      these companies. Continued market fluctuations could result in extreme
      volatility in the price of our common stock, which could cause a decline in
      the
      value of our common stock. Price volatility might be worse if the trading volume
      of our common stock is low.




***Our
      common stock may be considered a “penny stock” and may be difficult to
      trade.***




The
      SEC
      has adopted regulations that generally define “penny stock” as an equity
      security with a market or exercise price of less than $5.00 per share, subject
      to specific exemptions. The market price of our common stock is less than $5.00
      per share, and therefore may be designated as a “penny stock” according to SEC
      rules. Under these rules, broker-dealers who recommend such securities to
      persons other than institutional accredited investors must:





•
            make
                a special written suitability determination for the
                purchaser,•
            receive
                the purchaser's written agreement to a transaction prior to
                sale,•
            provide
                the purchaser with risk disclosure documents which identify certain
                risks
                associated with investing in “penny stocks” and which describe the market
                for these “penny stocks” as well as a purchaser's legal remedies,
                and•
            obtain
                a signed and dated acknowledgment from the purchaser demonstrating
                that
                the purchaser has actually received the required risk disclosure
                document
                before a transaction in a “penny stock” can be
                completed.




Under
      these rules, broker-dealers may find it difficult to effectuate customer
      transactions and trading activity in our securities may be adversely affected.
      As a result, the market price of our securities may be depressed, and it may
      be
      more difficult to sell our securities. In addition, you may find it difficult
      to
      obtain accurate quotations of our common stock and may experience a lack of
      buyers to purchase such stock or a lack of market makers to support the stock
      price.




11




***Our
      common stock is traded over the counter, which may result in higher price
      volatility and less market liquidity for our common
      stock.***




Our
      common stock is quoted on the OTC Bulletin Board. As such, our common stock
      may
      have fewer market makers, lower trading volume and a larger spread between
      bid
      and asked prices than securities listed on an exchange such as the New York
      Stock Exchange, the American Stock Exchange or the Nasdaq Stock Market. These
      factors may result in higher price volatility and less market liquidity for
      our
      common stock.




***Compliance
      with changing regulation of corporate governance and public disclosure may
      result in additional expenses.***




Keeping
      abreast of, and in compliance with, changing laws, regulations and standards
      relating to corporate governance and public disclosure, including the
      Sarbanes-Oxley Act of 2002, new SEC regulations and, in the event we are
      approved for listing on a registered exchange at some point, stock exchange
      rules, will require an increased amount of management attention and external
      resources. We intend to continue to invest all reasonably necessary resources
      to
      comply with evolving standards, which may result in increased general and
      administrative expenses and a diversion of management time and attention from
      revenue-generating activities to compliance activities.




***Our
      principal stockholders have significant voting power and may take actions that
      may not be in the best interest of other
      stockholders.***




Our
      executive officers, directors and principal stockholders control approximately
      35% of our currently outstanding shares of common stock. If these stockholders
      act together, they may be able to exert significant control over our management
      and affairs requiring stockholder approval, including approval of significant
      corporate transactions. This concentration of ownership may have the effect
      of
      delaying or preventing a change in control and might adversely affect the market
      price of our common stock. This concentration of ownership may not be in the
      best interests of all our stockholders.




***We
      do not anticipate paying cash dividends on our common stock in the near future,
      and the lack of dividends may have a negative effect on our stock
      price.***




We
      have
      never declared or paid any cash dividends or distributions on our capital stock.
      We currently intend to retain our future earnings to support operations and
      to
      finance expansion and therefore we do not anticipate paying any cash dividends
      on our common stock in the near future.




***Investors
      in our securities will suffer dilution.***




The
      issuance of shares of our common stock, or shares of our common stock underlying
      warrants, options, preferred stock or convertible debentures, will dilute the
      equity interest of existing stockholders who do not have anti-dilution rights
      and could have a significant adverse effect on the market price of our common
      stock. The sale of our common stock acquired, or converted or exercised into,
      at
      a discount could have a negative impact on the market price of our common stock
      and could increase the volatility in the market price of our common stock.
      In
      addition, we may seek additional financing which may result in the issuance
      of
      additional shares of our common stock and/or rights to acquire additional shares
      of our common stock. The issuance of our common stock in connection with such
      financing may result in substantial dilution to the existing holders of our
      common stock who do not have anti-dilution rights. The sale of our common stock,
      or securities convertible or exercisable into shares of our common stock, could
      trigger the anti-dilution rights of our outstanding securities that have such
      rights, specifically our preferred stock, convertible debentures and some of
      our
      warrants, which could result in further dilution to the existing holders of
      our
      common stock who do not have anti-dilution rights. With respect to the senior
      secured convertible debentures and warrants that we issued in our January 2006
      private financing, in the event that we issue common stock in an equity
      financing at a price less than the then conversion price and exercise price
      for
      the debentures and the warrants, respectively, (i) the conversion price of
      the
      debentures shall be immediately adjusted to the price at which such common
      stock
      was issued, subject to specified exempt issuances, and (ii) the exercise price
      of the warrants shall be reduced to the price at which such common stock was
      issued and the share amount shall be increased such that the aggregate exercise
      price payable, after taking into account the decrease in the exercise price,
      shall be equal to the aggregate exercise price prior to such adjustment. Those
      additional issuances of our common stock and potential triggering of existing
      anti-dilution rights would result in a reduction of an existing holder's
      percentage interest in the company.




12




***A
      significant number of our shares will be eligible for sale, and their sale
      could
      depress the market price of our common stock.***




Sales
      of
      a significant number of shares of our common stock in the public market could
      harm the market price of our common stock.




There
      is
      an approximate aggregate of 10.1 million shares of our common stock, some or
      all
      of which may also be offered from time to time in the open market pursuant
      to
      Rule 144, and these sales may have a depressive effect on the market for our
      shares of common stock. In general, a non-affiliated person who has held
      restricted shares for a period of six months may, under Rule144, sell into
      the
      market shares of our common stock. Such sales may be repeated once every three
      months, and any of the restricted shares may be sold by a non-affiliate after
      they have been held for two years.




***We
      could issue “blank check” preferred stock without stockholder approval with the
      effect of diluting then current stockholder interests and impairing their voting
      rights.***




Our
      Certificate of Incorporation authorizes the issuance of up to an additional
      3,898,000 shares of “blank check” preferred stock with designations, rights and
      preferences as may be determined from time to time by our Board of Directors.
      Accordingly, our Board of Directors is empowered, without stockholder approval,
      to issue a series of preferred stock with dividends, liquidation, conversion,
      voting or other rights which could dilute the interest of, or impair the voting
      power of, our common stockholders. The issuance of a series of preferred stock
      could be used as a method of discouraging, delaying or preventing a change
      in
      control. For example, it would be possible for our Board of Directors to issue
      preferred stock with voting or other rights or preferences that could impede
      the
      success of any attempt to change control of our Company.




***The
      liability of our directors is limited under State of New Jersey corporate
      law.***




As
      permitted by the corporate laws of the State of New Jersey, our Certificate
      of
      Incorporation includes a provision that eliminates the personal liability of
      our
      directors for monetary damages for breach or alleged breach of their fiduciary
      duties as directors, subject to certain exceptions. In addition, our by-laws
      provide that we are required to indemnify our officers and directors under
      certain circumstances, including those circumstances in which indemnification
      would otherwise be discretionary, and we are required to advance expenses to
      our
      officers and directors as incurred in connection with proceedings against them
      for which they may be indemnified.




**Item
      2. Description of Properties**




Our
      corporate headquarters are located at 790 Bloomfield Avenue, Clifton, New Jersey
      where we lease approximately 12,200 square feet of space divided among
      administrative (2,600 square feet) and manufacturing (9,600 square feet) space.
      We have renewed our lease for this space through April 30, 2018 at a rent of
      $7,098 per month with an option to renew through April 30, 2028. We also lease
      approximately 2,500 square feet of manufacturing space at 102 Commerce Circle,
      Madison, Alabama. We have leased this space through February 2010 at a cost
      of
      $2,200 per month. We
      believe that these facilities is sufficient to meet our present requirements
      and
      that we would be able to renew our present lease or obtain suitable replacement
      facilities




**Item
      3. Legal Proceedings**





(i)
      On
      December 22, 2006, a former employee and shareholder of Clarion, filed a
      complaint against us for breach of employment contract and asset purchase
      agreement. Damages were sought in excess of $300,000. Although we and our
      advisors believe we have meritorious defenses in the case, we have agreed to
      a
      settlement offer totaling approximately $52,000. Although agreed to in
      principle, as of October 8, 2008, an agreement reflecting the agreement terms
      has not been finalized.




(ii)
      In
      September 2006 Amata Inc. filed suit in Superior Court in New Jersey against
      us
      claiming that it is owed $309,046.00 for services provided and additional
      charges of $217,178.00. We settled the claims for $220,000. The settlement
      was
      comprised of $200,000 in cash and 20,000 shares of common stock valued at $1.00
      per share. The
      shares of common stock were issued in November 2007 and the final payment of
      $180,000 was paid in September 2008.




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




No
      matters were submitted to a vote of stockholders during the three-month period
      ended June 30, 2008.


13




**PART
      II**




**Item
      5. Market for Common Equity and Related Stockholder
      Matters**




The
      common stock of the Company trades on the OTC Bulletin Board under the trading
      symbol EKCS. The prices set forth below reflect the quarterly high and low
      sales
      prices for shares of common stock since the Company's stock commenced trading
      as
      reported by the National Quotation Bureau, Inc. These quotations reflect
      inter-dealer prices, without retail markup, markdown or commission, and may
      not
      represent actual transactions.





**Closing Bid******
            
            **High**
            
            **Low**Fiscal
                2008April
                1 – June 30, 2008
            
            $
            0.81
            
            $
            0.33January
                1 – March 31, 2008
            
            $
            0.40
            
            $
            0.20Oct.
                1 – December 31, 2007
            
            $
            0.89
            
            $
            0.33July
                1 – September 30, 2007
            
            $
            1.04
            
            $
            0.86Fiscal
                2007April
                1 – June 30, 2007
            
            $
            1.07
            
            $
            0.61January
                1 – March 31, 2007
            
            $
            0.88
            
            $
            0.60Oct.
                1 – December 31, 2006
            
            $
            0.81
            
            $
            0.34July
                1 – September 30, 2006
            
            $
            0.60
            
            $
            0.42




As
      of
      September 26, 2008, ECSI had approximately 195 holders of record of common
      stock. This number of holders of record does not include beneficial owners
      of
      the Company's common stock whose shares are held in the names of various
      security holders, dealers, and clearing agencies.




**Dividend
      Policy**




The
      Company has not paid any cash dividends on its common stock and does not
      anticipate paying cash dividends in the foreseeable future. The Company intends
      to retain any earnings to finance the growth of its business. There can be
      no
      assurance that the Company will ever pay cash dividends. See Item 6,
      Management's Discussion and Analysis of Financial Condition and Results of
      Operations.




**Item
      6. Management's Discussion and Analysis of Financial Condition and Results
      of
      Operations**




*The
      following discussion should be read together with our Financial Statements
      and
      the Notes related to those statements, as well as the other financial
      information included in this Form 10-KSB. Some of our discussion is
      forward-looking and involves risks and uncertainties. For information regarding
      risk factors that could have a material adverse effect on our business, refer
      to
      the RISK FACTORS section in Item 1 of this Annual Report on Form
      10-KSB.*




**Overview**




We
      design, develop, manufacture and market technology-based integrated security
      systems. We also provide support services to system integrators consisting
      of
      risk assessment and vulnerability studies to ascertain a client's security
      requirements in order to develop a comprehensive risk management and mitigation
      program.




We
      market
      our products domestically and internationally to:





•
            security
                systems integrators;•
            national
                and local government entities;•
            large
                industrial facilities and major office complexes;•
            energy
                facilities, including nuclear plants, power utilities and pipelines;
                and•
            commercial
                transportation centers, such as airports and
                seaports.




We
      believe that we are one of the few true totally comprehensive security solution
      providers in the industry. We are able to analyze a security risk and develop
      security solutions specifically tailored to mitigate that risk, including
      design, engineering and manufacturing individual components of a system as
      may
      be necessary to deliver a fully integrated security system customized to a
      client’s requirements. We are frequently engaged by security systems
      integrators, dealers/installers, and commercial architects and engineers because
      we are able to deliver the integrated platform of design, engineering services
      and fully integrated security solutions that support their requirements for
      the
      completion of a given project.




14




We
      believe that we have developed a superior reputation as a provider of integrated
      security systems since our inception in 1976 because we:





•
            offer
                the complete range of solutions-driven responses to accommodate our
                customers' needs;•
            offer
                technologically superior products;•
            are
                able to design, engineer and manufacture systems customized to our
                clients' specific requirements;•
            deliver
                systems that are easy to operate and maintain while providing superior
                life cycle cost performance compared to systems offered by
                competitors;•
            have
                established solid credentials in protecting high value targets;
                and•
            offer
                customers perhaps the best warranty in the
                industry.




**Critical
      Accounting Policies**




We
      prepare our financial statements in conformity with accounting principles
      generally accepted in the United States of America. The preparation of these
      financial statements requires management to make estimates and judgments that
      affect the reported amounts of assets, liabilities, revenues and expenses.
      On an
      ongoing basis, management evaluates its estimates, including those related
      to
      inventory reserves, allowance for doubtful accounts and deferred taxes. Actual
      results may differ from these estimates under different assumptions or
      conditions. Management believes the following critical accounting policies
      and
      the related judgments and estimates affect the preparation of our financial
      statements.




Inventory
      Valuation — Inventories are valued at lower of cost or market. We
      routinely evaluate the composition of our inventory to identify obsolete or
      otherwise impaired inventories. Inventories identified as impaired are evaluated
      to determine if reserves are required. We do not currently have any reserves
      against inventory.




Allowance
      for Doubtful Accounts — The allowance for doubtful accounts is
      comprised of two parts, a specific account analysis and a general reserve.
      Accounts where specific information indicates a potential loss may exist are
      reviewed and a specific reserve against amounts due is recorded. As additional
      information becomes available such specific account reserves are updated.
      Additionally, a general reserve is applied to the aging categories based on
      historical collection and write-off experience.




Accounting
      for Income Taxes — We record a valuation allowance to our deferred tax
      assets to the amount that is more likely than not to be realized. While we
      consider historical levels of income, expectations and risks associated with
      estimates of future taxable income and ongoing prudent and feasible tax planning
      strategies in assessing the need for the valuation allowance, in the event
      that
      we determine that we would be able to realize deferred tax assets in the future
      in excess of the net amount recorded, an adjustment to the deferred tax asset
      would increase income in the period such determination has been made. Likewise,
      should we determine that we would not be able to realize all or part of the
      net
      deferred tax asset in the future, an adjustment to the deferred tax asset would
      be charged against income in the period such determination was made. A valuation
      allowance in the amount of $1,810,684 has been recorded against our deferred
      tax
      asset at June 30, 2008.




We
      account for stock-based compensation in accordance with the fair value
      recognition provisions of SFAS No. 123R. Under SFAS No. 123R, stock-based
      compensation cost is measured at the grant date based on the value of the award
      and is recognized as expense over the vesting period of the individual equity.
      We use the Black-Scholes option-pricing model to estimate the fair value of
      options. In order to calculate the fair value of the options, assumptions are
      made for certain components of the model, including risk-free interest rate,
      volatility, expected dividend yield rate and expected option life. Although
      we
      use available resources and information when setting these assumptions, changes
      to the assumptions could cause significant adjustments to the
      valuation.




**Results
      of Operations**




***Year
      Ended June 30, 2008 (“Fiscal 2008 Period”) Compared to Year Ended June 30, 2007
      (“Fiscal 2007 Period”)***




*Revenues.* We had
      net revenues of $2,916,410 for the Fiscal 2008 Period, as compared to revenues
      of $5,600,598 for the Fiscal 2007 Period, a decrease of approximately 48%.
      Of
      the revenues reported in the Fiscal 2008 period, approximately 90% are
      attributable to domestic projects and 10% are attributable to international
      projects. The decrease in sales in the Fiscal 2008 Period is primarily
      attributable to a decrease in purchase orders by the DoD and other IBDSS
      projects, offset by an increase in higher gross margin private sector purchase
      orders.




15


*Gross
        Margins.* Gross
        margins for the Fiscal 2008 Period were 35% of revenue as compared to 27%
        of
        revenue for the Fiscal 2007 Period. The increase in gross margins is primarily
        attributable to an increase in private sector projects as well as an increase
        in
        the order mix for higher gross margin products during Fiscal 2008. In the
        corresponding period in 2007, we performed a greater percentage of lower
        gross
        profit generating activities such as outside purchase of equipment for the
        DoD
        purchase orders. The increase in gross margin was consistent with our strategy
        to focus on higher margin revenue in order to achieve profitability toward
        the
        end of Fiscal 2009.


*Research
      and Development (R&D).* R&D
      expenses decreased 30% in the Fiscal 2008 Period to $98,336 from $141,256 in
      the
      Fiscal 2007 Period. R&D in Fiscal 2008 was for upgrades to existing products
      and systems and for new product development work on the Fiber Optic Intrusion
      Detection System (FOIDS®), our Infrared Perimeter Intrusion Detection (IPID®)
      System, the Clarion Sentinal® technology and the Gamma SharkTM
product.




*Selling,
      General and Administrative (SG&A).* SG&A
      expenses decreased approximately 35% in the Fiscal 2008 Period to $1,201,211from
      $1,848,297 for the Fiscal 2007 Period. The decrease in the Fiscal 2008 Period
      is
      primarily the result of management’s action to decrease certain fixed overhead
      and payroll costs which were undertaken commencing January 1, 2007 to support
      then anticipated lower revenues.




*Stock
      Based Compensation.* In the
      2008 Period, we issued stock options to our directors and various employees
      valued at $136,573. The value of these options is being amortized over the
      vesting period of the underlying award. In the 2007 Period, we issued
      immediately vested stock to various consultants and to the directors that were
      valued at $123,705 at the time of issuance. Stock-based compensation is non-cash
      and, therefore, has no impact on cash flow or liquidity.




*Interest
      Expense.* Interest
      expense in the Fiscal 2008 Period was $200,472 as compared to $432,505 for
      the
      Fiscal 2007 Period. Included in interest expense is the amortization of deferred
      finance costs relating the offering costs and the value of the warrant issued
      on
      the private placement of the convertible debentures. Amortization expense in
      the
      Fiscal 2008 period was $66,363 as compared to $251,499 for the Fiscal 2007
      period. The decrease is attributable to the fact that the debentures were issued
      in January 2006 as well as the acceleration of amortization on debt that was
      converted before the maturity date. The amortization expense amounting to
      $18,440 on the convertible debentures is non-cash and, therefore, has no impact
      on cash flow or liquidity.




*Minority
      Interest in Subsidiary Loss.* The
      minority interest in the loss from the foreign subsidiaries was $-0- for the
      Fiscal 2008 period and $4,464 for the Fiscal 2007 period. This decrease was
      due
      to the reduction in overhead and General Operating Expenses.




*Amortization
      of Beneficial Conversion Feature.* In
      accordance with EITF No. 00-27, we recorded an additional discount upon the
      issuance in January 2006 of our convertible debentures to reflect the beneficial
      conversion feature of the debt and amortizing this amount to the earlier of
      the
      date of conversion or the maturity date. In the 2008 and 2007 periods, the
      Company recorded amortization of $18,440 and $71,714 respectively..




*Income
      Tax Benefit.* We did
      not recognize any tax benefits from net operating losses in Fiscal 2008 or
      2007.




*Net
      Loss.* Net loss
      before dividends for the Fiscal 2008 period was $(852,807) as compared to a
      loss
      of $(1,104,865) in Fiscal 2007.




**Dividends
      Related to 10% Series B Convertible Preferred Stock.**




We
      recorded dividends totaling $110,751 on our Series B Convertible Preferred
      Stock
      in Fiscal 2008 and $100,050 in Fiscal 2007. In lieu of a cash payment we have
      elected under the terms of the agreement whereby these securities were sold
      to
      add this amount to the stated value of the Series B Convertible Preferred
      Stock.




These
      dividends are non-cash and, therefore, have no impact on our net worth or cash
      flow.




**Liquidity
      and Capital Resources**




At
      June
      30, 2008, we had working capital of $1.6 million compared to $2.2 million at
      June 30, 2007. Net cash provided by operating activities for Fiscal 2008 was
      $56,858 as compared to $543,743 for Fiscal 2007.




Inventory
      has decreased by $9,016 in Fiscal 2008, and we anticipate a further decrease
      during the first half of 2009 for shipments on committed projects that have
      or
      are being released.




Day's
      sales outstanding (DSO) were 253 days at June 30, 2008 as compared with 144
      DSO
      at June 30, 2007. This is due to certain payments being held until final
      completion of projects in Fiscal 2009.




Accounts
      payable and accrued expenses have increased $885,835 in the Fiscal 2008 period
      as payments to vendors have been made to match the collection of
      receivables.




16




Investing
      activities for Fiscal 2008 included equipment and software purchases totaling
      $2,120, primarily related to upgrade two major product lines. We do not have
      any
      material commitments for capital expenditures going forward. Investing
      activities for Fiscal 2007 included $128,765 for product upgrades.




In
      January 2006, we raised net proceeds of $831,000 from the proceeds of the
      private placement of $1 million in principal amount of our Senior Secured
      Convertible Debentures (“the Debentures”). Our obligations with respect to the
      Debentures are secured by a lien on all of our assets, including our
      intellectual property. The Debentures have a term of three years and are
      convertible at the option of the holder at any time into shares of our Common
      Stock at a conversion price of $0.75 per share, subject to certain adjustments.
      Interest is payable at a rate equal to the greater of 8% per annum or the prime
      rate for the applicable interest period plus 2.5%. As of June 30, 2008,
      approximately $490,000 in principal amount of the Debentures remains
      outstanding.




In
      April
      2006 we entered into a factoring agreement with a finance company. All
      borrowings were secured by outstanding receivables specifically assigned to
      the
      financing company. Assigned receivables were at the sole discretion of the
      financing company and advances were made on 95% of approved receivables
      assigned. Payments on assigned receivables were received directly by the
      financing company, and applied to outstanding advances. All outstanding advances
      and uncollected assigned receivables were subject to fees and interest charges
      ranging from 0.05 percent to 7.2 percent, with a minimum annual fee of 0.8
      percent. All receivables assigned and advances made were subject to return
      and
      recall by the financing company, respectively. The agreement could be terminated
      by giving the financing company 30 days notice. In Fiscal 2007 we repaid the
      balance due under this agreement in the amount of $518,866 and terminated the
      agreement.




In
      connection with the Clarion acquisition we assumed an existing loan in the
      amount of $95,300. The loan is payable in 34 monthly installments of $2,750
      plus
      interest at the rate of prime plus 1/2% per annum. The balance due at June
      30,
      2008 is $20,245.




In
      Fiscal
      2007, the Company financed the purchase of equipment from a vendor in the amount
      of $101,762, evidenced by a bearing interest at the rate of 8% per annum. As
      the
      Company purchases product from the vendor a portion of each invoice will be
      charged to reduce the note balance. Management expects that the note will be
      repaid in approximately 18 months.




In
      July
      2007, $150,000 of the loan balance due to officers was converted into 200,000
      shares of the Company's Common Stock. In May 2007, $150,000 of the loan balance
      was converted into 200,000 shares of the Company’s common stock.




We
      expect
      that cash on hand together with collection of accounts receivable will be
      sufficient to provide for our working capital needs for the next 12
      months.




**Discussion
      of Results, Business Outlook and Identifiable Industry
      Trends**




Spending
      in the security industry has increased over the last year as the U.S. Congress
      has continued to allocate money to fund homeland security initiatives. We expect
      this trend will continue for the foreseeable future. As a result, the level
      of
      new proposals continues and our committed backlog, including the IBDSS awards
      from the U.S. Air Force, is the largest backlog in our history. We cannot,
      however, assure you that we will complete any or all of the orders comprising
      our backlog within the anticipated time frame. Our experience has taught us
      that
      all of these anticipated releases and new contracts are subject to cancellation
      or delay, thus we cannot be certain of the total realized revenue amount of
      our
      backlog and do not even reference the total dollar amount of our present backlog
      or submitted proposals.




Our
      sales
      dependency has continued to shift from our President and Chief Executive
      Officer, Arthur Barchenko, to program and project managers to meet our revenue
      objectives. During the last year, we continued to mitigate the concentration
      of
      sales efforts by (i)  engaging independent sales representatives to market
      our products and generate sales opportunities and (ii) expanding sales
      efforts through dealer-installers and system integrators in geographic regions
      on which we have not focused our resources in years past such as the Caribbean,
      Latin America, Egypt and the Middle East, China and Africa, where we are
      developing projects that management believes will result in ongoing
      revenue.




During
      the Fiscal 2008 period, we submitted bids on 52 new projects for work to be
      performed at our Clifton, New Jersey and Madison, Alabama facilities. We cannot
      be certain that we will be successful in winning any of the bids tendered.
      Even
      if we do receive orders, contracts are subject to cancellation by customers
      upon
      short notice with little or no penalty, as is typical in our
      industry.




We
      believe these steps and others we expect to implement over the course of Fiscal
      Year 2009 will help us to achieve revenue stability with improved gross margins
      and consistent and steady growth in the years ahead.




17




We
      are
      committed to offering our customers comprehensive, integrated security systems
      that employ the latest technologies and address the most critical security
      requirements. The security industry continues to evolve rapidly as new
      technologies are developed specifically to meet security challenges and existing
      technologies are being adapted for new uses. In addition, the public and private
      sectors continue to analyze and distinguish new security risks and industry
      participants seek to develop technologies and products to fill these newly
      discerned requirements. We remain committed to pursuing teaming and OEM
      agreements that may add to our revenues and enhance both our product line and,
      ultimately, our ability to compete in our industry.




**Business
      Outlook**




As
      global
      economic prospects began to change during 2007, orders and commitments continued
      to increase. Currently, purchase order commitments continue to grow. However,
      our historical results have taught us that the release of funds that support
      contracts and orders may never be forthcoming. Furthermore, as is customary
      in
      the security industry, our contracts are subject to cancellation or delay at
      any
      time with little notice or penalty. Government based orders which are subject
      to
      legislative appropriations are particularly sensitive to economic and political
      conditions. Thus, we cannot be certain of the total realized value and revenue
      which we will generate from committed orders. We expect to receive releases
      and
      task orders for a significant portion of our contract commitments sometime
      within the next 8 to 12 months, although we cannot be certain that we will
      complete any or all of such orders within the anticipated time
      frame.




The
      security industry as a whole has not changed. The security market historically
      has been a product oriented opportunity for manufacturers, both within the
      United States and internationally. The difficulty the industry traditionally
      faced has been the ability to develop a standard security platform that would
      permit systems integrators to design a seamless interface between the multiple
      products and subsystems required to address threats in high-security
      environments. A number of companies are attempting to develop platforms that
      address seamless integration of multiple technologies. We expect this trend
      continuing for the foreseeable future, since the demand for integrated platforms
      will continue.




We
      recognized this trend early in our existence and to that end, we developed,
      marketed and installed integrated platforms which encompass multiple
      technologies. We continue to seek to improve our integrated systems and have
      retained a highly-competent systems oriented software programmer and two
      computer-oriented electronic engineers to further develop and enhance the
      integrated platform for current and future projects.




**Business
      Approach**




Over
      the
      last several years we have tried to develop contacts and relationships through
      our marketing programs and staff with clearly defined and targeted potential
      strategic partners. The strategic relationship framework provides a
      comprehensive and thorough mechanism for developing and implementing corporate
      strategy. Our advisory board determined early in our existence that, given
      our
      size and the criticality of our business situation, the strategic relationship
      framework would provide us with a non-resource exhaustive and more expedient
      and
      efficient means of entering new markets. This approach has met with considerable
      success and we continue to seek strategic alliances.




We
      believe we are positioned for economic success during Fiscal 2009 which should
      continue into 2010 and beyond. A number of factors contribute to this
      outlook.





•
            Our
                selection by the United States Air Force, Force Protection Office,
                as one
                of four companies, two multinational and two small business organizations,
                entitled us to submit proposals to obtain contracts to supply technology
                and security system upgrades over the next nine- month
                period.•
            Our
                estimate that orders recently received, including nuclear power station
                security upgrades; Hanscom Air Force Base equipment purchases; and
                Honeywell, Sandia and Indyne relationships resulting in product purchase
                orders will yield significant sales in 2009.•
            The
                conclusion of agreements with new strategic partners for the U.S.
                Navy
                base security upgrade program will be a source of material orders
                during
                Fiscal 2009 and for the next three years.•
            We
                have entered into agreements with a number of large system integrators
                for
                the U.S. Air Force FPS2 initiative as a technology
                supplier.•
            We
                concluded a marketing agreement with Global Trade of China to pursue
                the
                energy and military markets in
                China.




18




**Recently
      Issued Accounting Pronouncements**





In
      December 2007, the Financial Accounting Standards Board issued Financial
      Accounting Statement (FAS) 141(R), "Business Combinations - a replacement
      of FASB Statement No. 141", which significantly changes the principles and
      requirements for how the acquirer of a business recognizes and measures in
      its
      financial statements the identifiable assets acquired, the liabilities assumed,
      and any non-controlling interest in the acquire. The statement also provides
      guidance for recognizing and measuring the goodwill acquired in the business
      combination and determines what information to disclose to enable users of
      the
      financial statements to evaluate the nature and financial effects of the
      business combination. This statement is effective prospectively, except for
      certain retrospective adjustments to deferred tax balances, for fiscal years
      beginning after December 15, 2008. We are currently evaluating FAS 141(R),
      and has not yet determined the impact if any, FAS 141(R) will have on our
      consolidated results of operations or financial position.





In
      February 2008, the FASB issued SFAS No. 157-2, *“Effective
      Date of FASB Statement No. 157* ”.  This
      FASB Staff Position (FSP) delays the effective date of FASB Statement No. 157,
      “Fair Value Measurements”, for non-financial assets and non-financial
      liabilities, except for items that are recognized at fair value in the financial
      statements on a recurring basis (at least annually) to fiscal years beginning
      after November 15, 2008.  The delay is intended to allow the Board and
      constituents additional time to consider the effect of various implementation
      issues that have arisen, or may arise, from the application of FASB Statement
      No. 157.





In
      March
      2008, the Financial Accounting Standards Board issued Statement of Financial
      Accounting Standards (“SFAS”) No. 161, “Disclosures about Derivative
      Instruments and Hedging Activities,—an amendment of FASB Statement No. 133”
(“FAS 161”). FAS 161 requires enhanced disclosures about an entity’s derivative
      and hedging activities and thereby improves the transparency of financial
      reporting. The objective of the guidance is to provide users of financial
      statements with an enhanced understanding of how and why an entity uses
      derivative instruments; how derivative instruments and related hedged items
      are
      accounted for; and how derivative instruments and related hedged items affect
      an
      entity’s financial position, financial performance, and cash flows. FAS 161 is
      effective for fiscal years beginning after November 15, 2008. Management is
      currently evaluating what impact FAS 161 will have on our consolidated financial
      statements, but it currently does not expect the effect to be
      material.





In
      April
      2008, the FASB finalized Staff Position No. 142-3, “Determination of the
      Useful Life of Intangible Assets” (“FSP 142-3”). This position amends the
      factors that should be considered in developing renewal or extension assumptions
      used to determine the useful life of a recognized intangible asset under SFAS
      No. 142 (“SFAS 142”), “Goodwill and Other Intangible Assets”. FSP 142-3
      applies to intangible assets that are acquired individually or with a group
      of
      other assets and both intangible assets acquired in business combinations and
      asset acquisitions. This position is effective for fiscal years beginning after
      December 15, 2008. Management is currently evaluating the effect that the
      adoption of FSP 142-3 will have on our consolidated financial position and
      results of operations.





In
      May 2008, the FASB issued SFAS No. 162, “The Hierarchy of Generally
      Accepted Accounting Principles” (“SFAS No. 162”). SFAS No. 162
      identifies the sources of accounting principles and the framework for selecting
      the principles to be used in the preparation of financial statements of
      nongovernmental entities that are presented in conformity with generally
      accepted accounting principles in the United States (commonly referred to as
      the
      GAAP hierarchy). The statement is effective 60 days following the SEC’s
      approval of the Public Company Accounting Oversight Board amendments to AU
      Section 411, The Meaning of Present Fairly in Conformity With Generally
      Accepted Accounting Principles. We are currently evaluating the potential
      impact, if any, the adoption of SFAS No. 162 will have on its financial
      position, results of operations, cash flows, and disclosures.




In
      May
      2008, FASB issued FSP Accounting Principles Board No. 14−1 *Accounting
      for Convertible Debt Instruments That May Be Settled in Cash upon Conversion
      (Including Partial Cash Settlement)* (“FSP
      APB 14−1”).  FSP APB 14−1 requires the issuer of certain convertible
      debt instruments that may be settled in cash (or other assets) on conversion
      (including partial cash settlement) to separately account for the liability
      and
      equity components of the instrument in a manner that reflects the issuer's
      non−convertible debt borrowing rate when interest cost is recognized in
      subsequent periods.  FSP APB 14−1 will apply prospectively to business
      combinations for which the acquisition date is on or after our fiscal year
      beginning July 1, 2009. We are currently evaluating the effect of adopting
      FSP
      APB 14−1 on its financial statements.





19




In
      June
      2008, FASB ratified EITF Issue No. 08-4, *Transition
      Guidance for Conforming Changes to Issue No. 98-5* (“EITF
      No. 08-4”).  Per EITF No. 08-4, conforming changes made to EITF Issue No.
      98-5, *Accounting
      for Convertible Securities with Beneficial Conversion Features or Contingently
      Adjustable Conversion Ratios* ,
      that
      result from EITF Issue No. 00-27, *Application
      of Issue No. 98-5 to Certain Convertible Instruments* ,
      and
      SFAS No. 150, *Accounting
      for Certain Financial Instruments with Characteristics of both Liabilities
      and
      Equity.* This
      issue is effective fiscal years ending after December 15, 2008  We are
      currently evaluating the impact of adoption of EITF No. 08-4 on the accounting
      for the convertible notes and related warrants transactions.




**Item
      7. Financial Statements**




The
      information called for by this Item 7 is included following the “Index to
      Financial Statements” contained in this Annual Report on Form 10-KSB.




**Item
      8. Changes In and Disagreements with Accountants on Accounting and Financial
      Disclosure**




None.




**Item
      8A(T) Controls and Procedures.**




EVALUATION
      OF DISCLOSURE CONTROLS AND PROCEDURES.




We
      maintain disclosure controls and procedures that are designed to ensure that
      information required to be disclosed in our Exchange Act reports is recorded,
      processed, summarized and reported within the time periods specified in the
      SEC's rules and forms, and that such information is accumulated and communicated
      to management, including our President and Chief Executive Officer (who also
      serves as our principal executive officer and principal financial and accounting
      officer) to allow timely decisions regarding required disclosure based closely
      on the definition of "disclosure controls and procedures" in Rule
      13a-15(e).




As
      of the
      end of the period covered by this report, we carried out an evaluation, under
      the supervision and with participation of management, including our President
      and Chief Executive Officer (who also serves as our principal executive officer
      and principal financial and accounting officer), of the effectiveness of the
      design and operation of our disclosure controls and procedures. Based on the
      foregoing, our President and Chief Executive Officer concluded that our
      disclosure controls and procedures were effective.




MANAGEMENT’S
      REPORT ON
      INTERNAL CONTROL OVER FINANCIAL REPORTING.




Our
      management is responsible for establishing and maintaining adequate internal
      control over financial reporting. Internal control over financial reporting
      is a
      process designed to provide reasonable assurance regarding the reliability
      of
      financial reporting and the preparation of financial statements for external
      reporting purposes in accordance with accounting principles generally accepted
      in the United States. Because of inherent limitations, internal control over
      financial reporting may not prevent or detect misstatements.




The
      Company’s management, including our
      principal executive officer who also serves as our principal financial and
      accounting officer, does not expect that our Disclosure Controls will
      prevent all errors and all fraud. A control system, no matter how well conceived
      and operated, can provide only reasonable, not absolute, assurance that the
      objectives of the control system are met. Further, the design of a control
      system must reflect the fact that there are resource constraints, and the
      benefits of controls must be considered relative to their costs. Because of
      the
      inherent limitations in all control systems, no evaluation of controls can
      provide absolute assurance that all control issues and instances of fraud,
      if
      any, within the Company have been detected. These inherent limitations include
      the realities that judgments in decision making can be faulty and that
      breakdowns can occur because of simple error or mistake. The design of any
      system of controls also is based in part upon certain assumptions about the
      likelihood of future events, and there can be no assurance that any design
      will
      succeed in achieving its stated goals under all potential future
      conditions.




Our
      management, including our principal executive officer who also serves as our
      principal financial and accounting officer, conducted an evaluation of the
      effectiveness of our internal control over financial reporting based on the
      framework in *Internal
      Control - Integrated Framework* issued
      by the Committee of Sponsoring Organizations of the Treadway Commission. Based
      on his evaluation under the framework in *Internal
      Control -  Integrated Framework* ,
      our
      management concluded that our internal control over financial reporting was
      effective as of June 30, 2008.




20




This
      annual report does not include an attestation report of the company's registered
      public accounting firm regarding internal control over financial reporting.
      Management's report was not subject to attestation by the company's registered
      public accounting firm pursuant to temporary rules of the Securities and
      Exchange Commission that permit the company to provide only management's report
      in this Annual Report.




During
      the year ended June 30, 2008, there have been no changes in our internal
      controls over financial reporting that have materially affected, or are
      reasonably likely to materially affect, these controls.




**Item
      8B. Other Information.**




On
      June
      9, 2008, General Gordon E. Fornell, USAF (Retired) was appointed to our Board.
      General Fornell, age 71, retired from active duty in the USAF in 1993. Since
      retiring, he has been a private consultant in the field of security technology
      and its applications. General Fornell is also a member of the Defense Support
      Initiative of the Okaloosa County Economic Development Council, President of
      the
      Air Force Museum Foundation, and member of the Mid Bay Bridge Authority.


21




**PART
      III**




The
      information called for by Items 9, 10, 11, 12
      and 14
      will
      be contained in the Company's definitive proxy statement which the Company
      intends to file within 120 days after the end of the Company's fiscal year
      ended
      June 30, 2008 and such information is incorporated herein by
      reference.




**Item
      13. Exhibits**





**Exhibit**
              **No.**
            
            **Description**
            
            **Location**
              **Reference**3.1
            
            Certificate
                of Incorporation of Electronic Control Security Inc.
            
            13.2
            
            Certificate
                of Amendment to Certificate of Incorporation of Electronic Control
                Security Inc.
            
            23.3
            
            Certificate
                of Amendment to Certificate of Incorporation
            
            33.4
            
            By-Laws
                of Electronic Control Security Inc.
            
            13.5
            
            Certificate
                of Incorporation of SEM Consultants III, Inc.
            
            13.6
            
            By-Laws
                of SEM Consultants III, Inc.
            
            13.7
            
            Certificate
                of Incorporation of ECSI International, Inc.
            
            13.8
            
            By-Laws
                of ECSI International, Inc.
            
            13.9
            
            Certificate
                of Incorporation of ECSI FOIDS, Inc.
            
            13.10
            
            By-Laws
                of ECSI FOIDS, Inc.
            
            13.11
            
            Certificate
                of Incorporation of ECSI-DSA, Inc.
            
            13.12
            
            By-Laws
                of ECSI-DSA, Inc.
            
            13.13
            
            Memorandum
                of Association of ECSI Security Communications, Inc., a Middle East
                Corporation
            
            23.14
            
            Articles
                of Association of ECSI Security Communications, Inc., a Middle East
                Corporation
            
            24.1
            
            Form
                of Common Stock Purchase Warrant issued June 30, 2004
            
            34.2
            
            Form
                of Common Stock Purchase Warrant issued January 13, 2006
            
            44.3
            
            Form
                of Senior Secured Convertible Debenture due January 11,
                2009.
            
            44.4
            
            Registration
                Rights Agreement dated as of January 11, 2006, by and among Electronic
                Control Security Inc. and the investors specified therein.
            
            410.1
            
            Lease
                Agreement with 580 Brighton Road Associates for space in Clifton,
                New
                Jersey.
            
            110.2
            
            Securities
                Purchase Agreement dated June 30, 2004.
            
            310.3
            
            Registration
                Rights Agreement dated June 30, 2004.
            
            310.4
            
            Securities
                Purchase Agreement dated as of January 11, 2006, by and among Electronic
                Control Security Inc. and the purchasers named therein.
            
            410.5
            
            Security
                Agreement, dated January 11, 2006, by and among Electronic Control
                Security Inc. and the investors specified therein.
            
            414.1
            
            Code
                of Ethics and Business Conduct
            
            431
            
            Certifications
                of Chief Executive Officer.
            
            632
            
            Certification
                of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as
                adopted
                pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
            
            6




*
      * *
      *





1.
            Incorporated
                by reference to such exhibit filed with Electronic Control Security
                Inc.'s
                Registration Statement on Form 10-SB filed with the Commission on
                February
                16, 2001.2.
            Incorporated
                by reference to such exhibit filed with Electronic Control Security
                Inc.'s
                Registration Statement on Form SB-2 filed with the Commission on
                June 6,
                2002.3.
            Incorporated
                by reference to such exhibit filed with Electronic Control Security
                Inc.'s
                Current Report on Form 8-K filed with the Commission on July 1,
                2004.4.
            Incorporated
                by reference to such exhibit filed with Electronic Control Security
                Inc.'s
                Current Report on Form 8-K filed with the Commission on January 18,
                20065.
            Incorporated
                by reference to such exhibit filed with Electronic Control Security
                Inc.'s
                Current Report on Form 8-K filed with the Commission on March 8,
                2005.6.
            Filed
                as an Exhibit hereto.




22




**SIGNATURES**




In
      accordance with the Exchange Act, the registrant caused this report to be signed
      on its behalf by the undersigned, thereunto duly authorized.





By:
            /s/
                Arthur Barchenko
              Name:
                Arthur Barchenko
              Title:
                President, Chief Executive Officer
              (and
                Principal Financial and Accounting Officer
              Dated:
                October 10, 2008




In
      accordance with the Exchange Act, this report has been signed below by the
      following person on behalf of the registrant and in the capacities and on the
      dates indicated.





**Person**
            
            **Capacity**
            
            **Date**/s/ Arthur Barchenko
              Arthur Barchenko
            
            President,
                Chief Executive Officer
              (and
                Principal Financial and Accounting
              Officer)
                and Director
            
            October
                10, 2008/s/ Natalie Barchenko
              Natalie Barchenko
            
            Treasurer
                and Director
            
            October
                10, 2008/s/ Edward Snow
              Edward Snow
            
            Director
            
            October
                10, 2008/s/ Stephen Rossetti
              Stephen Rossetti
            
            Director
            
            October
                10, 2008/s/ Gordon E. Fornell
              Gordon E. Fornell
            
            Director
            
            October
                10, 2008/s/ Ronald Thomas
              Ronald Thomas
            
            Director
            
            October
                10, 2008


23





ELECTRONIC
      CONTROL SECURITY INC.


AND
      SUBSIDIARIES





CONSOLIDATED
      FINANCIAL STATEMENTS


With
      Report of Independent Registered Public Accounting Firm





Report
                of Independent Registered Public Accounting Firm
            F-1Consolidated
                Balance Sheets
            F-2Consolidated
                Statements of Operations
            F-3Consolidated
                Statement of Changes in Shareholders’ Equity
            F-4Consolidated
                Statements of Cash Flow
            F-5Notes
                to Consolidated Financial Statements
            F-6-F-19










REPORT
      OF
      INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM





To
      the
      Board of Directors and Shareholders of Electronic Control Security Inc. and
      Subsidiaries





We
      have
      audited the accompanying consolidated balance sheets of Electronic Control
      Security, Inc. and Subsidiaries as of June 30, 2008 and 2007, and the related
      consolidated statements of operations, changes in shareholders' equity, and
      cash
      flows for each of the two years in the period ended June 30, 2008. These
      consolidated financial statements are the responsibility of the Company’s
      management. Our responsibility is to express an opinion on these consolidated
      financial statements based on our audits.





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





In
      our
      opinion the consolidated financial statements referred to above present fairly,
      in all material respects, the consolidated financial position of Electronic
      Control Security, Inc. and Subsidiaries as of June 30, 2008 and 2007, and the
      consolidated results of their operations and cash flows for each of the two
      years in the period ended June 30, 2008 in conformity with accounting principles
      generally accepted in the United States of America.





DEMETRIUS
      & COMPANY, L.L.C.





Wayne,
      New Jersey


October
      10, 2008





F-1


Electronic
        Control Security Inc.
 Consolidated
        Balance Sheets
 
 June 30,
                2008
              
              June 30,
                2007ASSETSCurrent
                  assetsCash
                  and cash equivalents
              
              $
              72,592
              
              $
              58,107Accounts
                  receivable, current portion, net of allowance of $100,000
              
              
              1,447,880
              
              
              919,671Accounts
                  receivable, retainage
              
              
              797,888
              
              
              797,888Inventories
              
              
              2,152,533
              
              
              2,161,549Other
                  current assets
              
              
              337,461
              
              
              358,122Total
                  current assets
              
              
              4,808,354
              
              
              4,295,337Property,
                  equipment and software development costs - net
              
              
              306,788
              
              
              448,470Intangible
                  assets - net
              
              
              1,198,367
              
              
              1,281,612Accounts
                  receivables, non-current portion
              
              
              0
              
              
              73,923Goodwill
              
              
              50,000
              
              
              50,000Deferred
                  income taxes
              
              
              460,750
              
              
              442,300Other
                  assets
              
              
              156,382
              
              
              156,614$
              6,980,641
              
              $
              6,748,256LIABILITIES
                  AND SHAREHOLDERS' EQUITYCurrent
                  LiabilitiesAccounts
                  payable and accrued expenses
              
              $
              2,675,299
              
              $
              1,982,336Current
                  maturities of long-term debt
              
              
              106,991
              
              
              100,8418%
                  Convertible debentures (net of discounts of $45,214)
              
              
              444,786
              
              
              -Payroll
                  taxes payable
              
              
              613
              
              
              799Total
                  current liabilities
              
              
              3,227,689
              
              
              2,083,976Noncurrent
                  liabilitiesLong-term
                  debt
              
              
              -
              
              
              35,8318%
                  Convertible debentures (net of discounts of $130,017)
              
              
              -
              
              
              369,983Due
                  to officers and shareholders
              
              
              444,308
              
              
              622,655Deferred
                  income taxes
              
              
              66,950
              
              
              48,500Total
                  liabilities
              
              
              3,738,947
              
              
              3,160,945Shareholders'
                  equitySeries
                  A Convertible Preferred stock, cumulative, $.01 par value; $2.00
                  liquidation preference; 5,000,000 shares authorized, 300,000 and
                  325,000
                  shares issued and outstanding, respectively
              
              
              3,000
              
              
              3,250Series
                  B 10% Convertible Preferred stock, cumulative, $.001 par value;
                  $1,485 per
                  share liquidation preference; 2,000 shares authorized, 791 shares
                  issued
                  and outstanding, respectively
              
              
              1
              
              
              1Common
                  Stock, $.001 par value; 30,000,000 shares authorized; 10,249,259
                  and
                  9,740,267 shares issued; 10,149,259 and 9,640,267 shares
                  outstanding
              
              
              10,249
              
              
              9,740Additional
                  paid-in capital
              
              
              12,735,943
              
              
              12,118,260Accumulated
                  deficit
              
              
              (9,502,288
              )
              
              (8,538,730
              )Accumulated
                  other comprehensive income
              
              
              4,790
              
              
              4,790Treasury
                  stock, at cost, 100,000 shares
              
              
              (10,000
              )
              
              (10,000
              )Total
                  shareholders' equity
              
              
              3,241,694
              
              
              3,587,311$
              6,980,641
              
              $
              6,748,256
 
 See
        Notes
        to Consolidated Financial Statements.
  F-2
 
 Electronic
        Control Security Inc.
 Consolidated
        Statements of Operations
 
 Year
                Ended
                June 30,2008
              
              2007Revenues
              
              $
              2,916,410
              
              $
              5,600,598Cost
                  of revenues
              
              
              1,894,215
              
              
              4,092,450Gross
                  profit
              
              
              1,022,195
              
              
              1,508,148Research
                  and development
              
              
              98,336
              
              
              141,256Selling,
                  general and administrative expenses
              
              
              1,201,211
              
              
              1,848,297Stock
                  based compensation
              
              
              136,543
              
              
              123,705Loss
                  from operations
              
              
              (413,895
              )
              
              (605,110
              )Other
                  (income) expenseInterest
                  expense
              
              
              200,472
              
              
              432,505Minority
                  interest in subsidiary loss
              
              
              0
              
              
              (4,464
              )Legal
                  settlement
              
              
              220,000
              
              
              0Amortization
                  of beneficial conversion feature on convertible debt
              
              
              18,440
              
              
              71,714Total
                  other (income) expense
              
              
              438,912
              
              
              499,755Loss
                  before income taxes
              
              
              (852,807
              )
              
              (1,104,865
              )Income
                  taxes
              
              
              -
              
              
              -Loss
                  before dividends
              
              
              (852,807
              )
              
              (1,104,865
              )Dividends
                  related to convertible preferred stock
              
              
              110,751
              
              
              100,050Net
                  loss attributable to common shareholders
              
              $
              (963,558
              )
              $
              (1,204,915
              )Net
                  loss per share:Basic
              
              $
              (0.10
              )
              $
              (0.14
              )Diluted
              
              $
              (0.10
              )
              $
              (0.14
              )Weighted
                  average number of  common shares and equivalents:Basic
              
              
              10,044,762
              
              
              8,820,450Diluted
              
              
              10,044,762
              
              
              8,820,450
 
 See
        Notes
        to Consolidated Financial Statements.
  F-3
 
 Electronic
        Control Security Inc.
 Consolidated
        Statements of Changes in Shareholders Equity
 Series A Convertible
                  Preferred Stock
                  Shares
                
                Amount
                
                Series B 10% Convertible
                  Preferred Stock
                  Shares
                
                Amount
                
                Common Stock
                  Shares
                
                Amount
                
                Additional
                  Paid-in
                  Capital
                
                Accumulated
                  Deficit
                
                Accumulated
                  Other
                  Comprehensive
                  Income
                
                Common
                  Stock
                  Subscribed
                
                Treasury
                  Stock
                
                Total
                
                Comprehensive
                  Income (Loss)Balances
                    at July 1, 2006
                
                
                325,000
                
                $
                3,250
                
                
                791
                
                $
                1
                
                
                8,823,601
                
                $
                8,823
                
                $
                11,200,712
                
                $
                (7,333,815
                )
                $
                4,790
                
                $
                -
                
                $
                (10,000
                )
                $
                3,873,761Conversion
                    of preferred stock
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                0Dividend
                    on preferred stock
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                100,050
                
                
                (100,050
                )
                
                
                
                
                
                
                
                
                
                
                0Common
                    stock subcribed, shares held in escrow
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                4,800,000
                
                
                4,800
                
                
                1,195,200
                
                
                
                
                
                
                
                
                (1,200,000
                )
                
                
                
                
                0Cancellation
                    of stock subscription
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (4,800,000
                )
                
                (4,800
                )
                
                (1,195,200
                )
                
                
                
                
                
                
                
                1,200,000
                
                
                
                
                
                0Conversion
                    of convertible debentures
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                666,666
                
                
                667
                
                
                499,333
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                500,000Conversion
                    of stockholder loan
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                200,000
                
                
                200
                
                
                149,800
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                150,000Issuance
                    of stock and warrants for services
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                50,000
                
                
                50
                
                
                44,660
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                44,710Stock
                    based compensation
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                123,705
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                123,705Net
                    loss
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (1,104,865
                )
                
                
                
                
                
                
                
                
                
                
                (1,104,865
                )
                
                (1,104,865
                )Balances
                    at June 30, 2007
                
                
                325,000
                
                
                3,250
                
                
                791
                
                
                1
                
                
                9,740,267
                
                
                9,740
                
                
                12,118,260
                
                
                (8,538,730
                )
                
                4,790
                
                
                0
                
                
                (10,000
                )
                
                3,587,311Conversion
                    of preferred stock
                
                
                (25,000
                )
                
                (250
                )
                
                
                
                
                
                
                
                28,409
                
                
                28
                
                
                222
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                0Dividend
                    on preferred stock
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                110,751
                
                
                (110,751
                )
                
                
                
                
                
                
                
                
                
                
                0Conversion
                    of convertible debentures
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                17,892
                
                
                18
                
                
                13,379
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                13,397Conversion
                    of stockholder loan
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                200,000
                
                
                200
                
                
                149,800
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                150,000Issuance
                    of stock and warrants for services
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                23,400
                
                
                23
                
                
                17,752
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                17,775Issuance
                    of stock in lieu of amounts payable
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                239,291
                
                
                239
                
                
                189,236
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                189,475Stock
                    based compensation
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                136,543
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                136,543Net
                    loss
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (852,807
                )
                
                
                
                
                
                
                
                
                
                
                (852,807
                )
                
                (852,807
                )Balances
                    at June 30, 2008
                
                
                300,000
                
                $
                3,000
                
                
                791
                
                $
                1
                
                
                10,249,259
                
                $
                10,249
                
                
                12,735,943
                
                $
                (9,502,288
                )
                $
                4,790
                
                $
                0
                
                $
                (10,000
                )
                $
                3,241,694
                
                $
                (1,104,865
                )
 
 See
        Notes
        to Consolidated Financial Statements.
  F-4
 
 Electronic
        Control Security Inc.
 Consolidated
        Statements of Cash Flows
 
 Year
                Ended
                June 30,2008
              
              2007INCREASE
                  (DECREASE) IN CASH AND CASH EQUIVALENTSCash
                  flows from operating activities:Net
                  loss before deemed dividends
              
              $
              (852,807
              )
              $
              (1,104,865
              )Adjustments
                  to reconcile loss to net cash provided by (used in) operating
                  activities:Depreciation
                  and amortization
              
              
              293,410
              
              
              513,628Allowance
                  for bad debt
              
              
              
              
              
              50,000Stock
                  based compensation
              
              
              136,543
              
              
              123,705Minority
                  interest in subsidiary loss
              
              
              0
              
              
              (4,464
              )Amortization
                  of beneficial conversion feature on convertible debt
              
              
              18,440
              
              
              71,714Increase
                  (decrease) in cash attributable to changes in assets and
                  liabiltiesAccounts
                  receivable
              
              
              (454,286
              )
              
              800,942Inventory
              
              
              9,016
              
              
              142,340Other
                  current assets
              
              
              20,661
              
              
              (126,142
              )Other
                  assets
              
              
              232
              
              
              28,477Accounts
                  payable and accrued expenses
              
              
              885,835
              
              
              68,923Payroll
                  taxes payable
              
              
              (186
              )
              
              (20,515
              )Net
                  cash provided by operating activities
              
              
              56,858
              
              
              543,743Cash
                  flows from investing activities:Acquisition
                  of property, equipment and software development
              
              
              (2,120
              )
              
              (128,765
              )Net
                  cash used in investing activities
              
              
              (2,120
              )
              
              (128,765
              )Cash
                  flows from financing activities:Proceeds
                  from exercise of stock options and warrants
              
              
              17,775Repayment
                  of short-term borrowing
              
              
              -
              
              
              (518,866
              )Payments
                  on long-term debt
              
              
              (29,681
              )
              
              (19,250
              )Loans
                  from officers and shareholders - net
              
              
              (28,347
              )
              
              156,232Net
                  cash used in financing activities
              
              
              (40,253
              )
              
              (381,884
              )Net
                  increase in cash and cash equivalents
              
              
              14,485
              
              
              33,094Cash
                  and cash equivalents at beginning of period
              
              
              58,107
              
              
              25,013Cash
                  and cash equivalents at end of period
              
              $
              72,592
              
              $
              58,107Noncash
                  financing and investing activities:Stock
                  issued upon conversion of stockholder loan
              
              $
              150,000
              
              $
              150,000Stock
                  issued upon conversion of debentures
              
              $
              13,397
              
              $
              500,000Stock
                  issued in lieu of amounts payable
              
              $
              189,475
              
              $
              44,710Obligations
                  incurred in connection with purchase of equipment
              
              
              
              
              $
              $
                  101,762Supplemental
                  disclosures of cash flow information Cash
                  paid during the period for:Interest
              
              $
              72,820
              
              $
              104,740Taxes
              
              $
              -
              
              $
 
 See
        Notes
        to Consolidated Financial Statements.
  F-5




ELECTRONIC
        CONTROL SECURITY, INC.
 NOTES
        TO
        CONSOLIDATED FINANCIAL STATEMENTS




**Note
      1 - Nature of Operations**





Electronic
      Control Security, Inc. (the “Company”) is engaged in the design, manufacture and
      marketing of electronic security and lighting systems for high threat
      environments. The Company also performs consulting services, which consists
      principally of designing security system solutions in support of their
      technologies to system integrators, for medium to large government and
      commercial facilities worldwide.





In
      March
      2005, the Company, through its wholly owned subsidiary, Clarion Sensing Systems
      Acquisition Corp, acquired all of the assets and assumed certain of the
      liabilities of Clarion Sensing Systems, Inc., an Indiana corporation
      ("Clarion"). Clarion is a provider of proprietary nuclear, biological, chemical
      and radiological (NBCR) remote monitoring sensor systems designed for air and
      water contamination detection sensing applications.





**Note
      2 - Summary of Significant Accounting Policies**





**Principles
      of Consolidation**





The
      financial statements include the accounts of the Company, its wholly owned
      subsidiaries, and its majority owned subsidiary. All significant inter-company
      accounts and transactions have been eliminated.





**Accounts
      Receivable**





Trade
      accounts receivable is recorded net of an allowance for expected losses. The
      allowance is estimated from historical performance and projections of
      trends.





**Inventories**





Inventories
      are stated at the lower of cost (first-in, first-out) or market.





**Property
      and Equipment and Depreciation**





Depreciation
      is provided for by straight-line and accelerated methods over the estimated
      useful lives of the assets, which vary from three to ten years. Cost of repairs
      and maintenance are charged to operations in the period incurred.





**Software
      Development Costs**





Software
      development costs are expensed as incurred until technological feasibility
      is
      established. Software
      development costs incurred subsequent to establishing technological feasibility
      are capitalized and amortized. Amortization is provided based on the greater
      of
      the ratios that current gross revenues for a product bear to the total of
      current and anticipated future gross revenues for that product, or the
      straight-line method over the estimated useful life of the product. The
      estimated useful life for the straight-line method is determined to be 5 years.
      Approximately $18,200 of software development costs have been capitalized for
      the year ended June 30, 2007. There were no software development costs for
      the
      year ended June 30, 2008.




**Earnings
      per Share**





In
      determining basic or diluted earnings per share (EPS), the effects of dividends
      related to the Company's convertible preferred stock is added to the net
      loss.





Basic
      EPS
      is computed by dividing net income or net loss by the weighted average number
      of
      common shares outstanding for the period. Diluted EPS reflects the potential
      dilution from the exercise or conversion of other securities into common stock,
      but only if dilutive. The following securities have been excluded from the
      dilutive per share computation as they are antidilutive.





F-6


ELECTRONIC
        CONTROL SECURITY, INC.
 NOTES
        TO
        CONSOLIDATED FINANCIAL STATEMENTS




2008
            
            2007Stock
                options
            
            
            1,124,500
            
            
            999,500Warrants
            
            
            556,522
            
            
            2,803,397Convertible
                debentures
            
            
            653,333
            
            
            666,667Convertible
                Preferred Stock
            
            
            1,906,984
            
            
            1,787,727





**Foreign
      Currency Translation**





The
      functional currency of the Company's foreign subsidiaries is the local currency.
      Accordingly, the Company translates all assets and liabilities into U.S. dollars
      at current rates. Revenues, costs, and expenses are translated at average rates
      during each reporting period. Gains and losses resulting from the translation
      of
      the consolidated financial statements are excluded from results of operations
      and are reflected as a translation adjustment and a separate component of
      stockholders' equity.





Gains
      and
      losses resulting from foreign currency transactions are recognized in the
      consolidated statement of operations in the period they occur.





**Cash
      and Cash Equivalents**





The
      Company considers all short-term deposits with a maturity of three months or
      less to be cash equivalents.





**Use
      of Estimates**





The
      preparation of financial statements in conformity with accounting principles
      generally accepted in the United States of America requires management to make
      estimates and assumptions that affect the reported amounts of assets and
      liabilities and disclosure of contingent assets and liabilities at the date
      of
      the financial statements and reported amounts of revenues and expenses during
      the reporting period. Actual results could differ from those
      estimates.





**Long-lived
      assets**





The
      Company records impairment losses on long-lived assets used in operations when
      events and circumstances indicate that the assets might be impaired and the
      undiscounted cash flows estimated to be generated by those assets are less
      than
      the carrying amounts of those assets





**Revenue
      Recognition**





The
      Company recognizes product revenue at the time of shipment. Revenues from
      consulting and design services are recognized at the time the services are
      rendered.





The
      Company also provides professional and technical services under a specific
      contract, based on a time and material plus fixed profit basis. Revenue on
      this
      contract is recognized to the extent of costs incurred plus a proportionate
      amount of profit earned. Contract costs including indirect costs are subject
      to
      audit by agencies of the United States Government. Management believes future
      adjustments, if any, from government cost audits will not have a material effect
      on the financial statements.





F-7


ELECTRONIC
        CONTROL SECURITY, INC.
 NOTES
        TO
        CONSOLIDATED FINANCIAL STATEMENTS


**Warranty
      Reserve**





All
      of
      the Company’s products carry a warranty, and the Company maintains a reserve for
      warranty work based on historical experience and anticipation of possible
      warranty work .





**Research
      and Development**





Research
      and development expenditures are expensed as incurred. Research and development
      costs for the years ended June 30, 2008 and 2007 amounted to $98,336 and
      $141,256, respectively.




**Income
      Taxes**





The
      Company uses the liability method to determine its income tax expense as
      required under Statement of Financial Accounting Standards (“SFAS”) No. 109
      (SFAS 109). Under SFAS 109, deferred tax assets and liabilities are computed
      based on differences between financial reporting and tax basis of assets and
      liabilities, and are measured using the enacted tax rates and laws that will
      be
      in effect when the differences are expected to reverse. Valuation allowances
      are
      established when necessary to reduce deferred tax assets, if it is more likely
      than not that all or a portion of it will not be realized.





In
      June
      2006, the Financial Accounting Standards Board (FASB) issued Interpretation
      No.
      48 “Accounting for Uncertainty in Income Taxes—an interpretation of FASB
      Statement No. 109” (“FIN 48”). This Interpretation clarifies the accounting for
      uncertainty in income taxes recognized in an enterprise’s financial statements
      in accordance with SFAS No. 109, “Accounting for Income Taxes.” ** FIN
      48
      prescribes a recognition threshold and measurement attribute for the financial
      statement recognition and measurement of a tax position taken or expected to
      be
      taken in a tax return. This Interpretation also provides guidance on
      derecognition, classification, interest and penalties, accounting in interim
      periods, disclosure, and transition. This Interpretation is effective for fiscal
      years beginning after December 15, 2006. The application of this standard did
      not have a material effect on the Company's results of operations or its
      financial condition. During the year ended June 30, 2008, the Company recognized
      no adjustments from uncertain tax positions.





**Intangible
      Assets**





The
      cost
      of licenses, patents, and trademarks are being amortized on the straight-line
      method over their useful lives, ranging from 5 to 20 years.





**Advertising
      Costs**





Advertising
      costs are reported in selling, general and administrative expenses, and include
      advertising, marketing and promotional programs. These costs are charged to
      expense in the year in which they are incurred. Advertising costs for the years
      ended June 30, 2008 and 2007 were approximately $10,300 and $11,200,
      respectively.




**Shipping
      and Handling**




Shipping
      and handling costs are recorded as costs of revenues and are approximately
      $18,700 and $11,500 for the years ended June 30, 2008 and 2007,
      respectively.




**Stock
      Based Compensation**




Effective
      July 1, 2007, the Company adopted SFAS Statement of Financial Accounting
      Standards Statement No. 123(R) "Share Based Payment" ("SFAS 123(R)) utilizing
      the "modified prospective" method as described in SFAS 123(R). In the "modified
      prospective" method, compensation cost is recognized for all share-based
      payments granted after the effective date and for all unvested awards granted
      prior to the effective date. In accordance with SFAS 123(R), prior period
      amounts were not restated. SFAS 123(R) also requires the tax benefits associated
      with these share-based payments to be classified as financing activities in
      the
      Statement of Cash Flows, rather than operating cash flows as required under
      previous regulations. There was no effect to the Company's financial position
      or
      results of operations as a result of the adoption of this Standard .





F-8


ELECTRONIC
        CONTROL SECURITY, INC.
 NOTES
        TO
        CONSOLIDATED FINANCIAL STATEMENTS


**Fair
      Value of Financial Instruments**





The
      carrying values of cash, accounts receivable, accounts payable, accrued expenses
      and other current liabilities are representative of their fair value due to
      the
      short-term maturity of these instruments. The carrying value of the Company’s
      long-term debt is considered to approximate its fair value, based on current
      market rates and conditions.





**Recent
      Pronouncements**





In
      December 2007, the FASB issued FAS 141(R), "Business Combinations - a
      replacement of FASB Statement No. 141", which significantly changes the
      principles and requirements for how the acquirer of a business recognizes and
      measures in its financial statements the identifiable assets acquired, the
      liabilities assumed, and any non-controlling interest in the acquire. The
      statement also provides guidance for recognizing and measuring the goodwill
      acquired in the business combination and determines what information to disclose
      to enable users of the financial statements to evaluate the nature and financial
      effects of the business combination. This statement is effective prospectively,
      except for certain retrospective adjustments to deferred tax balances, for
      fiscal years beginning after December 15, 2008. The Company is currently
      evaluating FAS 141(R), and has not yet determined the impact if any, FAS 141(R)
      will have on its consolidated results of operations or financial
      position.





In
      February 2008, the FASB issued SFAS No. 157-2, *“Effective
      Date of FASB Statement No. 157* ”.  This
      FASB Staff Position (FSP) delays the effective date of FASB Statement No. 157,
      “Fair Value Measurements”, for non-financial assets and non-financial
      liabilities, except for items that are recognized at fair value in the financial
      statements on a recurring basis (at least annually) to fiscal years beginning
      after November 15, 2008.  The delay is intended to allow the Board and
      constituents additional time to consider the effect of various implementation
      issues that have arisen, or may arise, from the application of FASB Statement
      No. 157.





In
      March
      2008, the Financial Accounting Standards Board issued Statement of Financial
      Accounting Standards (“SFAS”) No. 161, “Disclosures about Derivative
      Instruments and Hedging Activities,—an amendment of FASB Statement No. 133”
(“FAS 161”). FAS 161 requires enhanced disclosures about an entity’s derivative
      and hedging activities and thereby improves the transparency of financial
      reporting. The objective of the guidance is to provide users of financial
      statements with an enhanced understanding of how and why an entity uses
      derivative instruments; how derivative instruments and related hedged items
      are
      accounted for; and how derivative instruments and related hedged items affect
      an
      entity’s financial position, financial performance, and cash flows. FAS 161 is
      effective for fiscal years beginning after November 15, 2008. Management is
      currently evaluating what impact FAS 161 will have on the Company’s consolidated
      financial statements, but it currently does not expect the effect to be
      material.





In
      April
      2008, the FASB finalized Staff Position No. 142-3, “Determination of the
      Useful Life of Intangible Assets” (“FSP 142-3”). This position amends the
      factors that should be considered in developing renewal or extension assumptions
      used to determine the useful life of a recognized intangible asset under SFAS
      No. 142 (“SFAS 142”), “Goodwill and Other Intangible Assets”. FSP 142-3
      applies to intangible assets that are acquired individually or with a group
      of
      other assets and both intangible assets acquired in business combinations and
      asset acquisitions. This position is effective for fiscal years beginning after
      December 15, 2008. Management is currently evaluating the effect that the
      adoption of FSP 142-3 will have on the Company’s consolidated financial position
      and results of operations.





F-9


ELECTRONIC
        CONTROL SECURITY, INC.
 NOTES
        TO
        CONSOLIDATED FINANCIAL STATEMENTS


In
      May 2008, the FASB issued SFAS No. 162, “The Hierarchy of Generally
      Accepted Accounting Principles” (“SFAS No. 162”). SFAS No. 162
      identifies the sources of accounting principles and the framework for selecting
      the principles to be used in the preparation of financial statements of
      nongovernmental entities that are presented in conformity with generally
      accepted accounting principles in the United States (commonly referred to as
      the
      GAAP hierarchy). The statement is effective 60 days following the SEC’s
      approval of the Public Company Accounting Oversight Board amendments to AU
      Section 411, The Meaning of Present Fairly in Conformity With Generally
      Accepted Accounting Principles. The Company is currently evaluating the
      potential impact, if any, the adoption of SFAS No. 162 will have on its
      financial position, results of operations, cash flows, and disclosures.





In
      May
      2008, FASB issued FSP Accounting Principles Board No. 14−1 *Accounting
      for Convertible Debt Instruments That May Be Settled in Cash upon Conversion
      (Including Partial Cash Settlement)* (“FSP
      APB 14−1”).  FSP APB 14−1 requires the issuer of certain convertible
      debt instruments that may be settled in cash (or other assets) on conversion
      (including partial cash settlement) to separately account for the liability
      and
      equity components of the instrument in a manner that reflects the issuer's
      non−convertible debt borrowing rate when interest cost is recognized in
      subsequent periods.  FSP APB 14−1 will apply prospectively to business
      combinations for which the acquisition date is on or after Company’s fiscal year
      beginning July 1, 2009. The Company is currently evaluating the effect of
      adopting FSP APB 14−1 on its financial statements.





In
      June
      2008, FASB ratified EITF Issue No. 08-4, *Transition
      Guidance for Conforming Changes to Issue No. 98-5* (“EITF
      No. 08-4”).  Per EITF No. 08-4, conforming changes made to EITF Issue No.
      98-5, *Accounting
      for Convertible Securities with Beneficial Conversion Features or Contingently
      Adjustable Conversion Ratios* ,
      that
      result from EITF Issue No. 00-27, *Application
      of Issue No. 98-5 to Certain Convertible Instruments* ,
      and
      SFAS No. 150, *Accounting
      for Certain Financial Instruments with Characteristics of both Liabilities
      and
      Equity.* This
      issue is effective fiscal years ending after December 15, 2008  The
      Company is currently evaluating the impact of adoption of EITF No. 08-4 on
      the
      accounting for the convertible notes and related warrants
      transactions.





**Note
      3 - Inventories**





Inventories
      at June 30, 2008 and 2007 consist of the following:





2008
            
            2007Raw
                materials
            
            $
            358,877
            
            $
            384,366Work-in-process
            
            
            467,297
            
            
            328,888Finished
                goods
            
            
            1,326,359
            
            
            1,448,295$
            2,152,533
            
            $
            2,161,549





**Note
      4 – Property, Equipment and Software Development Costs**





Property,
      equipment and software development costs consist of the following:





2008
            
            2007Furniture
                and fixtures
            
            $
            70,551
            
            $
            70,551Machinery
                and equipment
            
            
            858,512
            
            
            856,391Improvements
            
            
            23,008
            
            
            23,008Software
            
            
            106,415
            
            
            106,415Software
                development costs
            
            
            526,760
            
            
            526,7601,585,246
            
            
            1,583,125Less:
                accumulated depreciation and amortization
            
            
            1,278,458
            
            
            1,134,655$
            306,788
            
            $
            448,470




Depreciation
      expense was $143,808 and $178,884 for the years ended June 30, 2008 and 2007,
      respectively.





F-10


ELECTRONIC
        CONTROL SECURITY, INC.
 NOTES
        TO
        CONSOLIDATED FINANCIAL STATEMENTS


**Note
      5 – Intangibles**


June
                    30, 2008
                
                June
                    30, 2007Gross
                  Carrying
                
                Accumulated
                
                Gross
                  Carrying
                
                AccumulatedAmount
                
                Amortization
                
                Amount
                
                AmortizationAmortized
                    intangible assets:Licenses
                
                $
                74,000
                
                $
                50,467
                
                $
                74,000
                
                $
                50,467Patent
                
                
                852,793
                
                
                156,240
                
                
                852,793
                
                
                109,367Trademarks
                
                
                577,263
                
                
                96,210
                
                
                577,263
                
                
                67,347Other
                
                
                8,881
                
                
                5,920
                
                
                8,881
                
                
                4,144$
                1,512,937
                
                $
                314,570
                
                $
                1,512,937
                
                $
                231,325




Amortization
      expense charged to operations was $83,245 for each of the years ended June
      30,
      2008 and 2007. Future annual amortization expense for the licenses and other
      intangible assets is expected to be approximately $9,300 for the next 1.5 years
      and $75,700 for the patents and trademarks through 2022, their estimated
      remaining useful lives.





**Note
      6 - Long-Term Debt**





In
      connection with the Clarion acquisition, the Company assumed an existing loan
      in
      the amount of $95,300. The loan was payable in 34 monthly installments of $2,750
      plus interest at the rate of prime plus 1/2% per annum. The balance due at
      June
      30, 2008 is $20,245..




In
      fiscal
      2007, the Company financed the purchase of equipment from a vendor in the amount
      of $101,762, evidenced by a note bearing interest at the rate of 8%. As the
      Company purchases product from the vendor a portion of each invoice will be
      charged to reduce the note balance. Management expects that the note will be
      repaid over the next 12 months. Collateral for the note is the underlying
      equipment. The balance in the note at June 30, 2008 was $86,746.




**Note
      7 - Convertible Debentures**





In
      January 2006, the Company completed a private placement of $1million in
      principal amount of its Senior Secured Convertible Debentures ("the
      Debentures"). At closing, the Company received net proceeds of approximately
      $831,000 from the proceeds of the Debentures, after the payment of offering
      related fees and expenses. The Company’s obligations with respect to the
      Debentures are secured by a lien on all of the assets of the Company, including
      its intellectual property. The Debentures have a term of three years and were
      originally convertible at the option of the holder at any time into shares
      of
      the Company's common stock, par value $0.001 per share (the “Common Stock”) at a
      conversion price of $1.15 per share at issuance, subject to certain adjustments.
      Interest is payable on a quarterly basis at a rate equal to the greater of
      8%
      per annum or the prime rate for the applicable interest period plus 2.5%. At
      the
      option of the Company, interest payments are payable either in cash or in shares
      of Common Stock (provided there is an effective registration statement at the
      time of payment), subject to certain conditions. The Company elected to pay
      the
      interest in cash.





F-11


ELECTRONIC
        CONTROL SECURITY, INC.
 NOTES
        TO
        CONSOLIDATED FINANCIAL STATEMENTS


Investors
      in the private placement received three-year warrants to purchase up to an
      aggregate of 434,783 shares of the Company’s Common Stock at a per share
      exercise price of $2.00 (the "Warrants"). The Warrants may be exercised on
      a
      cashless basis following the first anniversary of issuance if a registration
      statement covering the Common Stock issuable upon exercise of the Warrants
      is
      not in effect at the time of exercise.





In
      connection with the financing the Company paid to two placement agents, a cash
      fee in the aggregate amount of $72,500 and also to such persons three-year
      warrants to purchase an aggregate of 121,739 shares of common Stock at a per
      share exercise price of $2.00 and otherwise on substantially the same terms
      as
      the Warrants issued to the investors, including without limitation, expiration
      date, potential adjustments and cashless exercise rights.





For
      financial reporting purposes, the Company recorded a discount of $223,096 to
      reflect the value of the Warrants and a discount of $193,350 to reflect the
      value of issuance costs and will be amortizing this amount to the earlier of
      the
      date of conversion or maturity. In addition, in accordance with EITF No. 00-27,
      the Company recorded additional discount on the debentures of $118,748 to
      reflect the beneficial conversion feature of the debt and is amortizing this
      amount to the date of maturity. The amortization of the discounts and beneficial
      conversion amounted to $84,803 and $323,213, respectively, for the years ended
      June 30, 2008 and 2007.





In
      May
      2006, in connection with the execution of the factoring agreement the conversion
      price and exercise price of the Debentures and Warrants were reduced to
      $0.75





From
      April to June 2007 a total of $500,000 in principal was converted into 666,666
      shares of the Company's common stock. In November 2007 an additional $10,000
      in
      principal was converted into 13,355 shares.





**Note
      8 - Due to Officers and Shareholders**





These
      amounts represent interest bearing advances and are due on demand. At the
      present time, the officers and shareholders do not contemplate requesting
      repayment of these loans within the next fiscal year . On
      May
      14, 2007, and subsequently on July 11, 2007, $150,000 of the outstanding loan
      balance was converted in 400,000 shares of the Company's common
      stock .





**Note
      9 - Legal Settlement**





In
      October 2007, the Company entered into a settlement agreement with one of its
      vendors. Under the agreement, the Company was required to pay $200,000 and
      issue
      20,000 shares of its Common Stock. Of the cash portion, the Company remitted
      $20,000 up front and assigned the right to receive $180,000 from certain
      contract retainages. The Company has also agreed that, commencing one year
      from
      the date of issuance, it may be required to buy back the stock issued for
      $20,000. As of this date the company is current in meeting its
      obligations.





**Note
      10 - Income Taxes**




The
      provision for taxes for the year ended June 30, 2008 and 2007 includes the
      following components:





2008
            
            2007CurrentFederal
            
            $
            -
            
            $
            -State
            
            
            -
            
            
            -Foreign
            
            
            -
            
            
            --
            
            
            
            
            
            -DeferredFederal
            
            
            -
            
            
            -State
            
            
            -
            
            
            -Foreign
            
            
            -
            
            
            --
            
            
            -$
            -
            
            $
            -




F-12


ELECTRONIC
        CONTROL SECURITY, INC.
 NOTES
        TO
        CONSOLIDATED FINANCIAL STATEMENTS


The
      components of the deferred tax accounts as of June 30, 2008 and 2007 are as
      follows:





2008
            
            2007Deferred
                tax assetsNet
                operating loss carryforward
            
            $
            2,068,631
            
            $
            1,891,136Stock
                based compensation
            
            
            159,014
            
            
            104,397Other
            
            
            44,001
            
            
            95,8492,271,646
            
            
            2,091,382Deferred
                tax liabilitiesDepreciation
                and amortization
            
            
            67,162
            
            
            48,385Subtotal
            
            
            2,204,484
            
            
            2,042,997Valuation
                allowance
            
            
            (1,810,684
            )
            
            (1,649,197
            )Net
                deferred tax assets
            
            $
            393,800
            
            $
            393,800





The
      valuation allowance at June 30, 2006 was $1,244,112.





The
      reconciliation of estimated income taxes attributed to operations at the
      statutory tax rates to the reported income tax benefit is as
      follows:





2008
            
            2007Expected
                federal tax at statutory rate
            
            $
            (327,610
            )
            $
            (669,563
            )State
                taxes, net of federal tax effect
            
            
            (57,790
            )
            
            (115,379
            )Foreign
                rate differential
            
            
            (23
            )
            
            (2,780
            )Non
                deductible expenses
            
            
            77,986
            
            
            173,890Change
                in valuation allowance
            
            
            307,437
            
            
            552,019Other
            
            
            -
            
            
            61,812$
            -
            
            $
            -





At
      June
      30, 2008 the Company had net operating loss carryforwards for federal and state
      income tax purposes of $4,400,204 and $3,667,866 respectively, expiring through
      2029. The Company has foreign net operating loss carryforwards of $606,646
      with
      no expiration date.




The
        Company and its subsidiaries have adopted FASB Interpretation No. 48,
“Accounting for Uncertainty in Income Taxes” (FIN48) effective July 1, 2007. The
        Company has identified its federal consolidated tax return as a “major” taxing
        jurisdiction as defined under FIN 48. At June 30, 2008, the company has
        evaluated its tax filings with this major tax jurisdiction for the fiscal
        years
        2005 through 2008. These years remain open and can be subjected to an
        examination. Based on its evaluation, the Company believes that its income
        tax
        filing positions and deductions would be sustained under examination; and
        does
        not anticipate any adjustments would result in a material change in its
        financial position. Therefore, no allowances for uncertain income tax positions,
        including interest and penalties, were required to be recorded at June 30,
        2008
        pursuant to FIN 48. Additionally, no cumulative effect of an accounting change
        resulted from the Company’s initial adoption of this FASB
        Interpretation.





F-13




ELECTRONIC
        CONTROL SECURITY, INC.
 NOTES
        TO
        CONSOLIDATED FINANCIAL STATEMENTS




**Note
      11- Shareholders’ Equity**





**Series
      A Convertible Preferred Stock**




In
      January to March 2002, the Company realized gross proceeds of $2,000,000 from
      the private placement of 40 Units, each Unit consisting of 25,000 shares of
      Series A Convertible Preferred Stock (“Series A Preferred”) and 12,500 common
      stock purchase Warrants. The Series A Preferred provides for an annual dividend
      of $.20 per share, payable quarterly, (payable in cash or shares of common
      stock
      valued at $2.00 per share), when, as and if declared by the Board of Directors.
      Dividends will be paid on a cumulative basis. Each Series A Preferred share
      was
      initially convertible at the option of the holder into one common share,
      commencing 120 days after closing. The conversion ratio is subject to certain
      adjustments, as defined and has since been adjusted to .88 Series A Preferred
      shares for one common share. The Series A Preferred shares have a liquidation
      preference in the amount of $2.00 per share and the Company may redeem them
      commencing one year from date of issuance if the common shares have traded
      at or
      above $4.00 for a period of twenty consecutive trading days. All of the Warrants
      issued in connection with this offering have since expired unexercised.





As
      of
      June 30, 2008, 700,000 shares of Series A Preferred were converted into a like
      amount of common stock.





Cumulative
      but undeclared dividends at June 30, 2008 total approximately
      $180,000.





**Series
      B Convertible Preferred Stock**




On
      June
      30, 2004, the Company completed a private placement of 2,000 shares of its
      10%
      Series B Convertible Preferred Stock (“Series B Preferred”) and warrants to
      purchase up to 2,000,000 shares of common stock for an aggregate purchase price
      of $2,000,000. The Preferred Stock provides for a dividend at the rate of 10%
      per annum, payable quarterly, (payable in cash or **** by
      adding
      the dollar amount of such dividends to the Stated Value), dividends will be
      paid
      on a cumulative basis. The preferred shares have a liquidation preference in
      the
      amount of $1,000 per share and have preference to any payments to the Preferred
      A shareholders. Each preferred share is convertible at the option of the holder
      into 1,000 shares of common stock. The conversion price is subject to
      anti-dilution adjustments, including, among other things, in the event that
      the
      Company sells common stock during the next three years for a price of less
      than
      one dollar per share. The
      Company may require the conversion of all (but not less than all) of the then
      outstanding shares of Series B Preferred Stock, if at any time the volume
      weighted average trading price per share of common stock for each of 20
      consecutive trading days prior to a conversion notice is greater than $2.50
      (subject to adjustment), and the daily trading volume of thecommon
      stock is at least 100,000 shares. In addition all shares of common stock
      underlying the Series B Preferred Stock must be covered by an effective
      registration statement.





F-14


ELECTRONIC
        CONTROL SECURITY, INC.
 NOTES
        TO
        CONSOLIDATED FINANCIAL STATEMENTS


The
      Warrants are exercisable for a period of four years from the date of issuance
      at
      an exercise price per share of $1.00 per share and have similar anti-dilution
      privileges as the Series B Preferred Stock. The Company may call the Warrants
      if
      the volume weighted average trading price per share of common stock for each
      of
      20 consecutive trading days is greater than 200% of the exercise price, and
      the
      daily trading volume of the common stock is at least 100,000 shares. In addition
      all shares of common stock underlying Warrants must be covered by an effective
      registration.




In
      May
      2006, in connection with the reset of the conversion and exercise price of
      the
      Debentures and Warrants discussed in Note 8 above, the conversion and exercise
      prices of the Series B Preferred and the accompanying warrants were reduced
      to
      $.75





**Stock
      Option Plans**





**Incentive
      Stock Option Plan**





In
      1986,
      the Company adopted an Incentive Stock Option Plan, which was renewed in 1996
      for a second ten-year term. The Company initially had reserved 1,000,000 shares
      of common stock for issuance under the Incentive Stock Option Plan, which was
      increased to 2,000,000 shares upon the approval of the stockholders at the
      2005
      annual meeting. The board of directors administers the Incentive Stock Option
      Plan but may delegate such administration to a committee of three persons,
      one
      of whom must be a member of the board. The board or the committee has the
      authority to determine the number of stock options to be granted, when the
      stock
      options may be exercised and the exercise price of the stock options, provided
      that the exercise price may never be less than the fair market value of the
      shares of the common stock on the date the stock option is granted (110% in
      the
      case of any employee who owns more than 10% of the combined voting power or
      value of all classes of stock). Stock options may be granted for terms not
      exceeding ten years from the date of the grant, except for stock options granted
      to any person holding in excess of 5% of our common stock, in which case the
      stock options may not be granted for a term not to exceed five years from the
      date of the grant. The Incentive Stock Option Plan expired in September
      2006.




**Equity
      Incentive Plan**




In
      October 2006, the Board adopted the Equity Incentive Plan, which was approved
      by
      the shareholders at the annual meeting of shareholders held in December 2006.
      The Equity Incentive Plan is intended to succeed the Incentive plan, which
      expired in September 2006. 2,000,000 shares are reserved for issuance under
      the
      Equity Incentive Plan. The Equity Incentive Plan will be administered by the
      Board of Directors or, at the discretion of the Board, by a committee consisting
      of at least two directors. The administrating body, whether it be the Board
      of
      Directors or a committee of the type described above, is sometimes referred
      to
      as the "Committee." The Committee is authorized from time to time to select
      and
      to grant awards under the Equity Incentive Plan to such key employees,
      non-employee directors, and consultants of the Company and its subsidiaries
      as
      the Compensation Committee, in its discretion, selects. The Compensation
      Committee is authorized to delegate any of its authority under the Equity
      Incentive Plan (including the authority to grant awards) to such executive
      officers of the Company as it thinks appropriate and is permitted by Rule 16B-3
      of the Exchange Act and Section 162(m) of the Code. The Equity Incentive Plan
      allows for the grant of a number of different types of awards, including both
      incentive and non-statutory stock options, stock appreciation rights, restricted
      stock grants, performance units, cash payments and other stock-based
      awards.




**Non-Statutory
      Stock Option Plan.**




The
      Company also adopted a Non-Statutory Stock Option Plan and have reserved 250,000
      shares of common stock for issuance to directors, employees and non-employees.
      Stock options granted pursuant to this plan will be non-transferable and expire,
      if not exercised within five years from the date of the grant. Stock options
      will be granted in such amounts and at such exercise prices as our board of
      directors may determine.





F-15


ELECTRONIC
        CONTROL SECURITY, INC.
 NOTES
        TO
        CONSOLIDATED FINANCIAL STATEMENTS


Option
      activity for 2008 and 2007 is summarized as follows:





WeightedAverageExerciseOptions
              
              PriceOptions
                  outstanding, July 1, 2006
              
              
              
              
              
              1,504,500
              
              $
              1.31Granted
              
              
              
              
              
              552,000
              
              
              .75ExercisedForfeited
              
              
              
              
              
              (1,057,500
              )
              
              1.41Options
                  outstanding, June 30, 2007
              
              
              
              
              
              999,500
              
              
              .89Granted
              
              
              
              
              
              125,000
              
              $
              .75Forfeited
              
              
              
              
              
              —
              
              
              —Options
                  outstanding, June 30, 2008
              
              
              
              
              
              ,1,124,500
              
              $
              .88Aggregate
                  intrinsic value
              
              
              
              
              $
              -0-Exercisable
                  at June 30, 2008
              
              
              
              
              
              1,062,000
              
              $
              .88Shares
                  of common stock availablefor
                  future grant under the plans
              
              
              
              
              
              1,343,000


The
      aggregate intrinsic value on this table was calculated based on the positive
      difference between the closing market price of the Company’s common stock and
      the exercise price of the underlying options. There were no option exercises
      in
      fiscal 2007 or 2008.




The
      following table summarizes information about stock options outstanding at June
      30, 2008.





Options ExercisableWeighted Average
            
            
            
            WeightedRemaining
            
            
            
            
            
            AverageNumber
            
            Contractual
            
            Exercise
            
            Number
            
            ExerciseRanges of price
            
            Outstanding
            
            Life
            
            Price
            
            Exercisable
            
            Price$.30
            
            
            40,000
            
            
            3.11
            
            $
            .30
            
            
            40,000
            
            $
            .30$.75
            
            
            657,000
            
            
            7.14
            
            $
            .75
            
            
            594,500
            
            $
            0.75$1.00-1.07
            
            
            190,000
            
            
            6.12
            
            $
            1.02
            
            
            190,000
            
            $
            1.02$1.20
            
            
            237,500
            
            
            6.56
            
            $
            1.20
            
            
            237,500
            
            $
            1.20$.30-$1.20
            
            
            1,124,500
            
            
            6.70
            
            $
            .88
            
            
            1,062,000
            
            $
            .88




F-16





ELECTRONIC
        CONTROL SECURITY, INC.
 NOTES
        TO
        CONSOLIDATED FINANCIAL STATEMENTS


The
      fair
      value of each option grant is estimated on the date of grant using the
      Black-Scholes option-pricing model. The Company uses historical data to estimate
      expected volatility, the period of time that option grants are expected to
      be
      outstanding, as well as employee termination behavior. The risk-free rate is
      based on the U.S. Treasury yield in effect at the time of grant for the
      estimated life of the option. The following weighted-average assumptions were
      used to estimate the fair value of options granted during the fiscal years
      ended
      June 30, 2008 and 2007.using the Black-Scholes option-pricing:


2008
              
              2007Risk
                  free interest rate
              
              
              3.02%
              
              
              4.58%Expected
                  life
              
              
              4.5
              
              
              5.16Expected
                  volatility
              
              
              119.%
              
              
              133.5%Dividend
                  yield
              
              
              0%
              
              
              0%Weighted-average
                  grant date fair value per share
              
              $
              0.22
              
              $
              0.52




As
      of
      June 30, 2008, there was $46,658 of total unrecognized compensation cost
      related to nonvested options granted. That cost is expected to be recognized
      over a weighted-average period of 2.5 years.





**Escrow
      Shares**





In
      connection with purchase of the Clarion Assets, the Company issued 394,682
      shares of its Common Stock. The Shares are being held in escrow pursuant to
      the
      terms of an escrow agreement among ECSI, Clarion and the Clarion Stockholders
      in
      order to indemnify the Company from and against, any adverse consequences which
      may result from an inaccuracy in or breach of any representation, warranty,
      covenant or other provision set forth in any of the Asset Purchase Agreement
      or
      related agreements. During such time as the Shares are held in escrow, they
      shall be entitled to participate in any dividends or other distributions upon
      the common stock and to vote (as directed by a representative of the Clarion
      Stockholders) in all matters presented to holders of common stock but shall
      not
      be assignable or transferable, other than by operation of law.





The
      Shares are to be released from escrow for distribution to the Clarion
      Stockholders upon the earlier of (i) March 3, 2008 or (ii) after the fiscal
      year
      in which the Subsidiary achieves sales in excess of $3,000,000 and net earnings
      before taxes in excess of $600,000





**Note
      12 - Concentrations and Economic Dependency**





The
      Company had three customers that accounted for 26%, 22% and 10%, respectively
      of
      net revenues for year ended June 30, 2008 and two customers that accounted
      for
      50% and 20%, respectively, of net revenues for year ended June 30, 2007. Three
      customers accounted for 83% of the accounts receivables as of June 30, 2008.
      At
      June 30, 2008 approximately 31% of accounts receivable were from foreign
      customers.  The
      Company performs ongoing credit evaluations of its customers’ financial
      condition and generally requires no collateral from its customers.





F-17


ELECTRONIC
        CONTROL SECURITY, INC.
 NOTES
        TO
        CONSOLIDATED FINANCIAL STATEMENTS


During
      the year and at year end, the Company had cash deposits in a bank in excess
      of
      FDIC limits. The Company periodically reviews the financial condition of the
      bank to minimize its exposure.




**Note
      13 – Commitments and Contingencies**





**Lease
      Agreements**





Future
      minimum annual rental payments required under non-cancelable operating leases
      for years after June 30, 2008 are as follows:





2009
            
            $
            93,5002010
            
            
            86,0002011
            
            
            70,0002012
            
            
            71,0002013
            
            
            73,000Thereafter
            
            
            372,000$
            765,500





Rent
      expense under all operating leases was $116,281 and $128,252 for the years
      ended
      June 30, 2008 and 2007.





**License
      Agreement**





The
      Company has acquired intellectual property, equipment and a tooling license
      from
      Mason & Hanger National, Inc. and a patent license from Lucent Technologies,
      Inc. for the Fiber Optic Intelligence Detection Systems (FOIDS â ).
      In
      conjunction with these two license agreements whereby royalties totaling 5.4%
      are due on revenues from the Fiber Optic Intelligence Detection System
      (FOIDS â ).





**Contingent** **Liabilities**





On
      March
      4, 2005, the Company, through its wholly owned subsidiary, Clarion Sensing
      Systems Acquisition Corp.(the "Subsidiary"), entered into a series of agreements
      with Clarion Sensing Systems, Inc., an Indiana corporation ("Clarion"), and
      its
      stockholders (the "Clarion Stockholders") to acquire all of Clarion's assets
      (the "Clarion Assets") and assume certain of its liabilities. In addition to
      the
      initial cost of the acquisition, the Company agreed to assume $438,959 of
      certain liabilities of Clarion on a contingent basis. The Subsidiary will be
      obligated to pay the Contingent Liabilities, if at all, only if the Subsidiary
      achieves (A) sales in excess of $3,000,000 ("$3,000,000 in Sales") and/or (B)
      net earnings before taxes in excess of $600,000 ("$600,000 in Net Earnings")
      in
      one of its fiscal years beginning within three (3) years of March 4, 2005.
      In
      the event $3,000,000 in Sales are achieved but $600,000 in Net Earnings are
      not
      achieved, then 10% of the Subsidiary's net earnings before taxes earned during
      such fiscal year shall be utilized to pay the Contingent Liabilities. In the
      event $600,000 in Net Earnings are achieved (whether or not $3,000,000 in Sales
      are achieved), then (I) all net earnings before taxes in excess of $600,000
      earned during such fiscal year plus (II) 10% of the Subsidiary's net earnings
      before taxes earned during such fiscal year, shall be utilized to pay the
      Contingent Liabilities. If the Contingent Liabilities are not paid in full
      and
      $3,000,000 in sales or $600,000 in net earnings occurs in one or more subsequent
      fiscal years, then net earnings before taxes with respect to such fiscal years
      shall be utilized to pay the Contingent Liabilities in the manner set forth
      in
      the preceding two sentences until such time, if ever, the Contingent Liabilities
      are paid in full. Any amounts shall be payable in cash or shares of common
      stock
      (valued as of the closing ask price on the date of issuance) as the recipient
      shall direct.




F-18


ELECTRONIC
        CONTROL SECURITY, INC.
 NOTES
        TO
        CONSOLIDATED FINANCIAL STATEMENTS


The
      Company anticipates the contingent payments made, if any, will be treated as
      additional purchase price and included as an addition to the identifiable
      intangible assets. As of June 30, 2008, the Company is not liable for any
      contingent payments and, therefore, has not accrued any at this time. The
      Company will continue to asses its liability under the contingent payment
      arrangement in each successive quarter, and will record additional purchase
      price through an increase to intangible assets, if and when a liability is
      realized.





**Loss
      Contingencies**





Loss
      contingencies, including claims and legal actions arising in the ordinary course
      of business, are recorded as liabilities when the likelihood of loss is probable
      and an amount or range of loss can be reasonably estimated. Management does
      not
      believe there now are such matters that will have a material effect on the
      financial statements





Contract
      costs, including indirect costs, are subject to audit by agencies of the United
      States Government. Contract costs incurred through June 30, 2007 are currently
      being audited. Management believes future adjustments, if any, from government
      cost audits will not have a material effect on the financial
      statements.





**Note
      14 – Geographic Data**





The
      Company currently operates in the United States and the Middle East. The
      following is a summary of local operations by geographic area:





U.S.
            
            %
                of total
            
            Middle
                East
            
            %
                of totalFor
                the year endedJune
                30, 2008Revenue
            
            $
            2,916,410
            
            
            100.00
            %
            $
            —
            
            
            —Operating
                loss
            
            
            (413,509
            )
            
            99.91
            %
            
            (386
            )
            
            .09
            %Identifiable
                assets
            
            
            6,618,698
            
            
            94.82
            %
            
            361,943
            
            
            5.18
            %For
                the year endedJune
                30, 2007Revenue
            
            $
            5,600,598
            
            
            100.00
            %
            $
            —
            
            
            —Operating
                loss
            
            
            (558,783
            )
            
            92.34
            %
            
            (46,327
            )
            
            7.66
            %Identifiable
                assets
            
            
            6,386,313
            
            
            95.05
            %
            
            332,927
            
            
            4.95
            %




**Note
      15 – Related Party Transactions**





The
      Company made non-interest bearing advances that are due on demand to a former
      officer and director of the Company. The balances outstanding at June 30, 2008
      and 2007 was $50,250 **.**





**Note
      16 - Subsequent event**





**Legal
      Settlement**





On
      December 22, 2006, a former employee and shareholder of Clarion filed a
      complaint against the Company for breach of employment contract and asset
      purchase agreement. Damages were sought in excess of $300,000. Although the
      Company and its advisors believe they have meritorious defenses in the case,
      they have agreed to a settlement offer totaling approximately $52,000. Although
      agreed to in principle, as of October 3, 2008, an agreement reflecting the
      agreement terms has not been finalized. The shares will be held in escrow until
      certain issues are resolved between the Company and the proposed shareholders.
      We expect these to be resolved during the first half of Fiscal
      2009.




F-19