**UNITED STATES SECURITIES AND EXCHANGE COMMISSION**

 

**Washington,D.C. 20549**

 

**FORM 10-KSB**

 

**ý****                ****Annual Report pursuant to Section 13 or 15(d) of the Securities ExchangeAct of 1934**

 

**for thefiscal year ended September 30, 2005**

 

**o****                ****Transition Report pursuant to Section 13 or 15(d) of the SecuritiesExchange Act of 1934**

 

**for thetransition period from       to      **

 

**CommissionFile Number  0-15318**

 

**BALLISTIC RECOVERY SYSTEMS, INC.**

(Exactname of issuer as specified in its charter)

 
| **Minnesota**                                                   | ** ** | **41-1372079**                     |
|-----------------------------------------------------------------|------------|------------------------------------|
| (State or other  jurisdiction of incorporation or organization) |       | (IRS Employer  Identification No.) |
|                                                            |       |                               |
| **300  Airport Road, South St. Paul, Minnesota**                | ** ** | **55075-3541**                     |
| (Address of Principal  Executive Offices)                       |       | (Zip Code)                         |

 

**(651)457-7491**

(Issuer’stelephone number)

 

Securities registeredpursuant to Section 12(b) of the Exchange Act:

 

**None**

 

Securities registeredpursuant to Section 12(g) of the Exchange Act:

 

**CommonStock, par value $0.01 per share**

 

Check whether the issuer: (1) filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the past 12 months (or for such shorter period that the issuer wasrequired to file such reports), and (2) has been subject to such filingrequirements for the past 90 days.       Yes  ý   No  o

 

Indicate by check mark whether the Registrant is ashell company (as defined in Rule 12b-2 of the Exchange Act).        Yes  ý  No o

 

Check if there is no disclosure of delinquent filerspursuant to Item 405 of Regulation S-B is not contained herein, and nodisclosure will be contained, to the best of registrant’s knowledge, indefinitive proxy or information statements incorporated by reference in PartIII of this Form 10-KSB or any amendment to this Form 10-KSB.      ý

 

The issuer’s revenues for the fiscal year endedSeptember 30, 2005 were****$8,115,544.

 

As of November 30, 2005 there were 7,685,434outstanding shares of common stock, par value $0.01 per share.

 

The aggregate market value of the voting common stockof the issuer held by non-affiliates of the issuer on November 30, 2005 basedon the closing price of the common stock as quoted by the NASD Over-the-CounterBulletin Board on such date was $7,052,864.

 

Transitional Small Business Disclosure Format: Yes  o   No  ý

 

 

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TABLE OF CONTENTS

 
| **PART I**   | ** **                                                                            | ** ** |
|--------------|---------------------------------------------------------------------------------------|------------|
| ** **   | ** **                                                                            | ** ** |
| Item 1       | Description of Business                                                               |       |
|         |                                                                                  |       |
| Item 2       | Description of Property                                                               |       |
|         |                                                                                  |       |
| Item 3       | Legal Proceedings                                                                     |       |
|         |                                                                                  |       |
| Item 4       | Submission of Matters to a  Vote of Security Holders                                  |       |
|         |                                                                                  |       |
| **PART II**  | ** **                                                                            | ** ** |
| ** **   | ** **                                                                            | ** ** |
| Item 5       | Market for Common Equity and  Related Stockholder Matters                             |       |
|         |                                                                                  |       |
| Item 6       | Management’s Discussion and  Analysis or Plan of Operation                       |       |
|         |                                                                                  |       |
| Item 7       | Consolidated Financial  Statements                                                    |       |
|         |                                                                                  |       |
| Item 8       | Changes in and Disagreements  with Accountants on Accounting and Financial Disclosure |       |
|         |                                                                                  |       |
| Item 8A      | Controls and Procedures                                                               |       |
|         |                                                                                  |       |
| **Item 8B**  | Other Information                                                                     |       |
| ** **   |                                                                                  |       |
| **PART III** |                                                                                  |       |
| ** **   |                                                                                  |       |
| Item 13      | Exhibits                                                                              |       |
|         |                                                                                  |       |
| Item 14      | Principal Accountant Fees  and Services                                               |       |
|         |                                                                                  |       |
|         | Index to  Consolidated Financial Statements                                           |       |
|         |                                                                                  |       |
|         | Certifications                                                                        |       |

 

DOCUMENTSINCORPORATED BY REFERENCE

 

Portions of the Company’s Definitive Proxy Statement to be used inconnection with the election of directors at the 2006 annual shareholdersmeeting (the “Proxy Statement”) are incorporated by reference into Part III,Items 9-12 as follows:

 
| ** ** | ** ** | **Part of Form 10KSB**                                                                                            | ** ** | **Portion of 2005 Proxy Statement**                            |
|------------|------------|-------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------|
| Item 9     |       | Directors, Executive  Officers, Promoters and Control Persons; Compliance with Section 16(a) of the  Exchange Act |       | PROPOSAL 1. ELECTION OF  DIRECTORS and OWNERSHIP OF SECURITIES |
|       |       |                                                                                                              |       |                                                           |
| Item 10    |       | Executive Compensation                                                                                            |       | EXECUTIVE COMPENSATION                                         |
|       |       |                                                                                                              |       |                                                           |
| Item 11    |       | Security Ownership of  Certain Beneficial Owners and Management                                                   |       | OWNERSHIP OF SECURITIES                                        |
|       |       |                                                                                                              |       |                                                           |
| Item 12    |       | Certain Relationships and  Related Transactions                                                                   |       | CERTAIN RELATIONSHIPS AND  RELATED TRANSACTIONS                |

 

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REFERENCES

 

References to “BRS”, the “Company,”the “Registrant,” “we,” “us,” or “our” or in this Annual Report on Form 10-KSB refersto Ballistic Recovery Systems, Inc., a Minnesota corporation.

 

FORWARD-LOOKING STATEMENTS

 

ThisAnnual Report on Form 10-KSB contains statements that are not historical butare forward-looking in nature, including statements regarding the expectations,beliefs, intentions or strategies regarding the future.  In particular, the “Management’s Discussionand Analysis or Plan of Operation” section in Item 6 of this annual reportinclude forward-looking statements that reflect our current views with respectto future events and financial performance. We use words such as we “expect,” “anticipate,” “believe,” and “intend”and similar expressions to identify forward-looking statements.  Investors should be aware that actual resultsmay differ materially from our expressed expectations because of risks anduncertainties inherent in future events, and should not unduly rely on theseforward looking statements.

 

**PART I**

 

**ITEM 1.****              ****DESCRIPTION OF BUSINESS**

 

**BusinessDevelopment:**

 

The Company is engaged in the business of developing andcommercializing whole-aircraft recovery parachute systems for use with generalaviation and recreational aircraft. The emergency parachute systems aredesigned to bring down the entire aircraft and its occupants in the event of anin-air emergency.  The parachute systemis designed for in-air emergencies that include but are not limited to mid aircollisions, structure failure, engine out at night, engine out over unlandableterrain, pilot incapacitation, and unintentional flight into instrumentmeteorological conditions.  The Companybelieves it is the only United States manufacturer of whole aircraft recoverysystems.  In addition, the Company hasdesigned and sold systems for use with various military and civilian unmannedaircraft.  Since its inception, theCompany has delivered over 21,000 systems that have been installed on generalaviation and recreational aircraft throughout the world, and the Company hasdocumented 181 lives saved through the use of its systems in actual in-airemergencies.

 

The Company was founded to provide recreational aircraft parachute systemsfor use in `ultralight and experimental aircraft.  That portion of the business continues to bea consistent source of revenues for the Company and accounted for 20.0% and 21.7%of the Company’s revenues infiscal year 2005and 2004, respectively.

 

The Company’s general aviation product lines accounted for 80.0% and 78.3%of the Company’s revenues in fiscal year 2005 and 2004, respectively.  Since 1999, the Company’s primary generalaviation product has been for the Cirrus SR20 and SR22 aircraft manufactured byCirrus Design Corporation (“Cirrus Design”). Sales to Cirrus Design account for74.7% and 73.9% of Company revenues for fiscal 2005 and 2004,respectively.  Cirrus Design, based inDuluth, Minnesota is presently the world’s largest manufacturer of singleengine certified aircraft.  Both modelsof Cirrus Design’s aircraft utilize the Company’s parachute system as arequired standard equipment feature.  Inaddition, in July 2002 and July 2004 the Company began delivering itsaftermarket FAA certified parachute system for the Cessna 172 and 182 aircraftcalled the BRS-172 and BRS-182, respectively.

 

The development of the parachute systems for the SR20 and SR22 aircraftwas a joint effort between the

 

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Company and Cirrus Design.  TheCompany has retained the developed technology for the parachute systems ingeneral and Cirrus Design has retained the developed technology that isspecific to their individual aircraft.

 

Cirrus Design continues to make enhancements and advancements in boththe SR20 and SR22 versions of their aircraft and they have new aircraft designscurrently under development.  It is theexpectation of both the Company and Cirrus Design to continue to offer theCompany’s parachute systems as standard equipment features of current andfuture designs.

 

Aftermarket sales for the BRS-172 continue to be slow and the Companybelieves the acceptance by this segment of the market has not been as positiveas for the BRS-182.  There is a more limitedmarket for this product related to the cost and operation of the Cessna 172 ascompared to the 182 even though the total number of Cessna 172’s is much higher.  Sales of the BRS-182 have been better thanthe initial sales for the BRS-172.

 

Over the past several years, the Company has been successful inestablishing various third party funding sources for its research anddevelopment.  Outside funding forresearch and development activities is an ongoing objective for the Company;however, no assurances can be made that the Company will be successful in thisregard.

 

The Company was incorporatedin 1980 under the laws of the State of Minnesota.

 

**Business ofthe Company:**

 

Principal Products

 

The Company’s principal product line is whole-aircraft emergency parachuterecovery systems.  The product, when utilized in an in-airemergency and at the appropriate altitude, may be activated bythe pilot releasing a parachute that is designed to open quickly, slow thedescent of the aircraft, and lower the aircraft and its occupants safely to theground to prevent or reduce human injury and damage to the aircraft. Possibleparachute usage scenarios include: Mid-air collision (loss of integrity or control); severe weather upset(wind shear, turbulence); power loss with poor visibility (night or IMC); lossof control (component failure or malfunction); engine out over hostile(unlandable) terrain; structural failure (age-weakened parts); pilot medicaltrauma (heart attack, allergic reaction, stroke); overstress (due to aerobatics,violent weather); and/or pilot error.

 

General Aviation Products

 

The Company entered the general aviation market in the mid 1980’s whenit began development of an emergency parachute recovery system for the Cessna150/152 series of aircraft.  In 1993,this system, known as the GARD-150 (now called the “BRS-150”), received aSupplemental Type Certificate (STC) from the FAA that allows owners of Cessna150/152 model aircraft to install the system. Media attention for this new product resulted in domestic andinternational television and radio broadcasts as well as coverage in domesticand international aviation and non-aviation print media. Although the BRS-150 didnot sell in significant volumes, the Company believes that it helped in the development of theCompany’s current products.

 

In 1994, the Company entered into an agreement with Cirrus Design, aprivately held company that began development and certification of a four-placeall composite general aviation aircraft. The FAA certified the aircraft, known as the Cirrus Design SR20, onOctober 23, 1998.  This was the first FAAcertified aircraft to offer one of the Company’s recovery systems as requiredstandard equipment.  The Company

 

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began delivering systems for the SR20 in fiscal year 1999.  Duringfiscal year 2000, Cirrus Design began development and certification efforts fortheir next generation aircraft called the SR22. The SR22 is a heavier and faster version of the SR20 and utilizes muchof the same parachute technology developed for the SR20.  The SR22 received FAA certification inNovember 2000 and was certified with the Company’s parachute system as astandard equipment component of the aircraft. Deliveries of SR22 parachutesystems by the Company began in December 2000.  The SR22became the third of the Company’s products to have received FAA certification (the BRS-150 and SR20 productsbeing the others).  Forfiscal year 2005, approximately 74.7% of the Company’s total revenues weregenerated from sales to Cirrus Design.

 

In fiscal year 2001 the Company began development of a parachute systemfor the Cessna 172 model aircraft. During fiscal year 2001, the Company received $200,000 in funding from athird party investor, which took the form of equity and project specificfunding, to develop and test such a recovery system.  The development and testing was completed infiscal year 2002 and the Company received FAA certification for the BRS-172 recoverysystem in July 2002.  The Company madeits first customer delivery in September 2002 with 14 total systems installedthrough the end of fiscal year 2005.

 

Near the end of fiscal year 2004, the Companyfinalized development of a parachute recovery system for the Cessna 182 modelaircraft, which is called the BRS-182. The system utilizes many of the same components used in the recoverysystems for the Cirrus aircraft models and the Cessna 172.  The Company received the Supplemental TypeCertificate or STC from the FAA on June 25, 2004.   This STC allows the product to be installedon certified Cessna 182 series aircraft. The first customer delivery and installation was completed in July2004.  The Company sales and marketing effortshave resulted in the sale and delivery of 20 BRS-182 units through the end offiscal year 2005.

 

Recreational Aviation Products

 

Recreational aviation products include products designed andmanufactured for use on unregistered aircraft such as ultralights and aircraftregistered with the FAA as experimental. Like the generalaviation product, these recreational aviation products are designed to preventor reduce bodily injury to the human occupant. The Company manufactures these products and sells themdirectly to individuals and through dealers and distributors who also marketand sell the aircraft and related products.  The Companycurrently works with approximately 30 dealers and distributors worldwide. Salesto international customers accounted for 48.0% of recreational aviationproduct sales.

 

Light Sport Aircraft

 

NewFederal Light Sport Aircraft (LSA) regulations were approved on December 24,2004 regulating airplanes that weigh less than 1,320 lbs.  Management believes that these regulationsmay positively affect the Company’s future recreational aviation product salesif LSA sales increase in the United States as a result of these regulatorychanges and the Company develops and manufactures compatible products.

 

ManyLSA aircraft were developed around existing eastern European aircraft designs,some of which, but not all, have a BRS installation.  The LSA category currently has 14 approvedairplane types and the Company is in development of installation designs for severalof these aircraft.  While the Company hasdeveloped solid relationships with US-based distributors and manufacturers of LSAaircraft, our relationships with European manufacturers needs to be improved.  Flight Design CT of Germany has contracted toadd BRS systems on every US-delivered airplane as standard equipment.  No assurances can be given that these newregulations will have a positive impact on sales of the Company’s recreationalaircraft products or that the European manufacturers will accept the Company’sdesign suggestions.

 

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TheCompany has implemented plans to expand market penetration for the domesticmarket for recreational aircraft products with the restructuring of itsdistribution network and adjusting pricing schedules.  However the recreational aircraft market hasbeen affected by the delay in implementing the LSA regulations.  If the Company completes LSA installationdesigns in a timely fashion on the more successful LSA aircraft, the Companyexpects increased sales due to incremental unit volume.  No assurances can be made that such plans, ifimplemented, will have a material impact on the Company’s recreational aircraftproduct sales.

 

Contract Research and Development

 

Contract research and development has allowed the Company to expand itsproduct line and expertise in whole-aircraft recovery systems. It has been andwill continue to be a goal of the Company to receive outside funding for itsresearch and development activities to supplement its own financial commitment.

 

**Manufacturing Operations and Suppliers:**

 

The Company’s personnel perform assembly ofthe Company’s product line in its South St. Paul, Minnesota facility.  Historically, the parachutes utilized by theCompany have been purchased from a certain key supplier although there havebeen other suppliers of parachutes.  In September2005, the Company acquired the Tijuana , Mexico manufacturing facility ofParanetics Technology, Inc., headquartered in Cayucos, California for thepurpose of manufacturing parachutes and related components.

 

Paranetics Technology, Inc. is a defensecontractor specializing in the design and manufacturing of parachutes for theUS Department of Defense.  This BRSacquisition was for the Paranetics’ Mexican manufacturing plant which theCompany believes, will help solidify the supply of parachutes for Sport andGeneral Aviation product lines.

 

The acquisition will add up to 45 jobs to BRSde Mexico S.A. de C.V., the newly formed subsidiary of BRS Inc.

 

The Company is in the final stages of negotiations to outsource someparachute component manufacturing in China. It is also estimated that a portion of the parachute manufacturing willbe in China by the end of fiscal 2006. This is being done to provide the Company with potential cost reductionsand a dual source for its parachute needs.

 

The Company manufactures its own ballistic devices and receives itspropellant from a single source.  TheCompany believes that there are alternate sources for propellant in the eventthat this source becomes unavailable. Other components are purchased from a variety of suppliers or internallyproduced.  The Company routinely searchesfor new vendors and believes alternate sources can be found should any of thesevendors be unable to meet the Company’s needs. Additionally, the Company has recently developed a policy to dual sourceall critical parts and components.  TheCompany also attempts to hold reasonable inventory of key components to providetime to secure alternate suppliers should the need arise.  In addition, the Company believes it possessesor can acquire the expertise necessary for internal production of substantiallyall key components.

 

**Patents**:

 

On September 5, 1989, United States Patent No. 4,863,119 was issued tothe Company on behalf of two of the Company’s employees for a “Parachute ReefingDevice” as part of a parachute recovery system. The two employees assigned the patent to the Company, which with thepayment of continuing

 

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maintenance fees is effective until 2008.  This patented feature is utilized in theCompany’s general aviation line as well as in its recreational aviationproducts.  Current development projectsalso utilize the reefing device as an integral design component.

 

On May 2, 2000, United States Patent No.6,056,241 was issued to the Company on behalf of one of the Company’s employeesfor a “Thin Film Parachute with Continuous Lateral Reinforcement Fibers”. Theemployee assigned the patent to the Company, which with the payment ofcontinuing maintenance fees is effective until August 14, 2018. The Companydeveloped this process as a result of a NASA Small Business Innovative Research(SBIR) grant program that was completed during the fiscal year 1999. TheCompany does not have an application for this patented process within itscurrent product line. However, military and civilian markets are both are beingexplored for potential applications of this technology, which could offerweight and volume reductions for special critical situations.

 

**IntellectualProperty:**

 

The Company’s goal is toobtain, maintain and enforce patent protection for our products, processes,methods and other proprietary technologies, preserve our trade secrets, andoperate without infringing on the proprietary rights of other parties, both inthe United States and in other countries. Our policy is to actively seek to obtain, where appropriate, thebroadest protection possible for our products, proprietary information andproprietary technology through a combination of contractual arrangements andpatents, both in the United States and elsewhere in the world.

 

We also depend upon theskills, knowledge and experience of our personnel, none of which ispatentable.  To help protect ourproprietary know-how which is not patentable, and for inventions for whichpatents may be difficult to enforce, we rely on trade secret protection andconfidentiality agreements to protect our interests.  To this end, when possible, we requireemployees, consultants, and other contractors to enter into confidentialityagreements which prohibit the disclosure of confidential information and, whereapplicable, require disclosure and assignment to us of the ideas, developments,discoveries and inventions important to our business.

 

**Trademark Protection:**

 

The U.S. Trademark Office hasacknowledged its receipt of the Company’s application to register the “DEFININGAVIATION SAFETY” application, and advises that the application has beenassigned a filing date of May 6, 2005, bearing Serial No. 76/637940.  Several months may elapse before furtherinformation concerning this application is available from the Trademark Office.

 

**Seasonality:**

 

Typically, the Companyexperiences seasonality in its recreational aviation line.  The second and third quarters have thehighest sales as this product line is marketed to recreational pilots who tendto fly their aircraft during the warmer months and equip their aircraft with arecovery system near the beginning of the flying season.  The Company’s expansion in the generalaviation market through the production of systems for the Cirrus Design SR20and SR22 has lessened the impact of seasonality on the Company.  This trend is expected to continue as theCompany increases its deliveries in the general aviation market over the nextseveral years.

 

**Dependence on a Single Customer:**

 

During the fiscal yearsended September 30, 2005 and 2004, the Company was dependent on one customer,Cirrus Design Corporation (Cirrus), for 74.7% and 73.9% of the Company’s totalsales in the

 

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respective fiscalyears.  The Company supplies parachuterecovery systems to Cirrus from its general aviation product line.  Cirrus also owns 14.96% of common stock ofthe Company at September 30, 2005.

 

**Dealer/Distributor Network:**

 

The Company’s recreationalaviation product sales are primarily through dealers and distributors who sellto the end consumer.  The Companybelieves that in the event that any individual dealers or distributors cease torepresent the Company’s recreational aviation products, alternative dealers ordistributors can be established.  The Company does not have formalwritten agreements with all its dealers and distributors and accordingly, suchdealers and distributors are not prohibited from selling products competitivewith the Company’s products.

 

The Company is in negotiations with potential agents in China and Indiafor expanded representation in these developing markets.

 

**Backlog of Orders:**

 

As of September 30, 2005 and2004, the Company had a backlog of orders totaling approximately $940,000 and $1,842,000,respectively.  The backlogs included over$850,000 and $1.6 million of orders for the Cirrus Design aircraft for bothperiods, respectively.  This decrease inbacklog is related to the timing of the receipt of purchase orders from Cirruswith respect to the Company’s fiscal year end and is unrelated to the volume ofthose orders received or anticipated on-going volumes from Cirrus.  The 2005 backlog is expected to be filled within 12months.  Due to the backlog periodinvolved, however, it is possible that there could be cancellations of aportion of the currently backlogged orders. The Company expects to fund the build out and sale of the backloggedorders through cash flow provided by the sale of those orders.  The Company cautions investors who mayutilize published bookings and backlog information as tools to forecast theCompany’s revenue during a given timeframe since certain purchase orders may besubject to cancellation and/or delivery schedule revision.

 

**Research and Development:**

 

A summary of research anddevelopment is as follows:

 

| ** **                                                                        | ** ** | **2005** | ** ** | **2004** | ** ** |
|-----------------------------------------------------------------------------------|------------|----------|------------|----------|------------|
| Total research and development expenditures                                       |       | $        | 357,702    |     | $          | 658,401 |   |
| Revenues  recognized under contract research and development relationships (SBIR) |       | —   |       | (385,619 | )          |
|                                                                              |       |     |       |     |       |
| Research and development, net                                                     |       | $        | 357,702    |     | $          | 272,782 |   |

 

The source for the 2004 third party funding was from NASA under the Phase IISBIR grant.  Work under the contract wascompleted in September 2004 with total contract billings of $575,000.  The Company is committed to productdevelopment and has budgeted approximately $1,070,000 for research anddevelopment expenditures for fiscal 2006.

 

**Competition**:

 

The Company sells its whole-aircraft emergency parachute systems in theUnited States and internationally (worldwide). The Company entered into a covenant not to compete agreement on October26, 1995 with Second Chantz (“SCI”), whom the Company believes was the onlydomestic competitor for

 

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whole-aircraft emergency parachute systems for the domesticrecreational aviation market.  Severalforeign companies have or are attempting to introduce new competitive productsinto the international recreational aviation market. Competition is strong inthe European market based on price, but the Company continues to pursue salesin that market.  One of the foreigncompetitors has entered the US market as a standard component on a newlydesigned LSA airplane. While the BRS product is preferred by most USpurchasers, this competitor has successfully entered the domestic market.

 

The FAA, as part of the Cirrus Design SR20and SR22 certification process, has certified the Company’s product, which isstandard and requiredequipment on those aircraft.  These arethe first whole aircraft recovery system ever certified by the FAA as standardequipment.  The Company also holdsSupplemental Type Certificates for the recovery systems for the Cessna 150/152,Cessna 172 and Cessna 182 model aircraft. There are no other manufacturers with the FAA Supplemental TypeCertificate or FAA certification under a manufacturer’s Type Certificatenecessary to install a recovery system for the general aviation market.  The Company is unaware of any othermanufacturer performing contract or self-funded research and developmentactivities in an effort to obtain Supplemental Type Certificates or TypeCertificates for any other FAA certified aircraft

 

At present, BRS is involved in a cooperativeFAA Supplemental Type Certificate (STC) project for the Symphony AircraftIndustries (SAI) “Symphony 160” model aircraft, whose FAA Type Certificate wasformally held by Ostmecklenburgische Flugzeugbau GmbH (OMF) of Germany. Completion of this project is expected in early fiscal 2006.  The STC would allow BRS to sell product toboth the SAI factory and aftermarket customers.

 

BRS is also working in cooperation withFlight Design GmbH of Germany, manufacturer of the “CT” modelaircraft currently being sold in the US as a certified FAA Light SportAircraft (LSA).  This mutual agreement grants exclusive rights to BRS toproduce and outfit every CT aircraft sold though US dealers with aparachute recovery system as standard equipment.

 

Both research and development projects arebeing funded by BRS.

 

Many other companies with resources and capabilities greater than thoseof the Company could develop, manufacture and market a parachute recoverysystem competitive with that of the Company, although the Company believes thatsuch development and approval could take several years to complete due to thetechnical challenges associated with performance and regulatory issues.

 

**ProductLiability:**

 

The Company does notcurrently maintain product liability insurance. Accordingly, the costs of litigation must be funded directly by theCompany.  In fiscal 2005, significantefforts have been made to determine the availability and cost of productliability insurance.  At present, we arestill evaluating a formal quote and pricing and will attempt to secure some formof product liability protection in early fiscal 2006.  However, there can be no assurance that theCompany will obtain such product liability insurance.

 

**Environmental Compliance:**

 

The Company believes that it is in compliance with all current federaland state environmental laws.

 

**Employees:**

 

As of September 30, 2005, the Company had 24 full-timeemployees at its South St. Paul facility.  No employees are represented by a labor unionand we consider our relations with employees to be good.

 

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As of September 30, 2005, the Company had 23full-time employees at it BRS de Mexico SA de CV facility in Tijuana, Mexico.  The employees are represented by a labor unionand we consider our relations with these employees to be good.

 

**ITEM 2.****              ****DESCRIPTION OF PROPERTY**

 

The Company leases a stand-alone 13,000 square foot office andproduction facility located at Fleming Field Airport in South St. Paul,Minnesota.  The building is a World WarII training hangar, which the Company renovated.  This lease expires December 31, 2007.  The Company has a second building on FlemingField, which it also leases.  This secondbuilding is also stand-alone and measures approximately 4,800 square feet ofcombined office and shop space and is used for engineering office space andtesting.  This lease expires October 31,2006.  The Company maintains all of itsequipment in good working order and has secured adequate insurance for thefacilities and its contents.

 

The Company leases a stand-alone 25,000 square foot office (twofloors) and production facility located at Calle Uno Poniente No.115-A,  Tijuana, Baja California, Mexico for parachute manufacturing.  The building lease expires October 31,2007.  This facility is used tomanufacture BRS items.  The Companymaintains all of its equipment in good working order and has secured adequateinsurance for the facilities and its contents.

 

The Company believes that the current facilities are adequate for thecurrent level of business activities, but is searching for alternatives forexpansion to meet the continued sales increases.  In the event that the Company requiresadditional facilities, the Company believes it could procure acceptablefacilities.  The Company does not own anyreal estate.

 

**ITEM 3.****              ****LEGAL PROCEEDINGS**

 

(a)  In August 2003, theCompany was served in two related actions, Kathleen F. Fischer, Individuallyand as personal representative of the Estate of Joseph C. Fischer v. CirrusDesign Corp., Ballistic Recovery Systems, Inc., and Wings Aloft, Inc., U.S.District Court for the Northern District of New York, File No. 03-CV-0782(HGM/DEP), and Susan Sedgwick, Individually, on her own behalf as survivingspouse of Thomas P. Sedgwick, as Executrix of the Estate of Thomas P. Sedgwick,deceased, and on behalf of all interested beneficiaries, including Jamie LynnSedgwick and Jacqueline Ann Sedgwick v. Cirrus Design Corp., Ballistic RecoverySystems, Inc. and Wings Aloft, Inc., U.S. District Court for the NorthernDistrict of New York, File No. 03-CV-0592 (HGM/DEP).

 

These actions arise from the crash of a Cirrus Design Corp. SR22airplane in April 2002 near Parish, New York.  Plaintiffs havebrought claims for strict products liability, negligence and breach of warrantyagainst Cirrus, the airplane’s manufacturer, the Company, which manufacturesthe CAPS (Cirrus Airframe Parachute System), a parachute system which is arequired component of the plane, and Wings Aloft, Inc., which provided trainingon the SR22 to the decedents.

 

In preliminary reports submitted to the court, the plaintiff in Fischerhas estimated the damages to be sought at trial as sixty million dollars, andthe plaintiff in Sedgwick has submitted an estimate of seven million fivehundred thousand dollars.

 

The matters have been consolidated for purposes of discovery, whichbegan in November 2003 and is scheduled to be completed by May 1, 2006,with the trials currently scheduled to commence later in 2006.  At this time, the Company cannot state withany degree of certainty what the outcome of these matters will be or the amountor range of potential loss, if any.  The Company will vigorously defend

 

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these matters.

 

(b) On April 17, 2004, an action was commenced against the Company byAerospace Marketing, Inc. and Charles Parsons v. Ballistic Recovery Systems,Inc., U.S. District Court, Middle District of Florida, File No. 04-CV-242.  The action resulted from the Company’snotification to Charles F. Parson in April 2004 of its intent to terminate thesales and marketing contract between the Company and Mr. Parsons relating tothe BRS-172 and BRS-150 products for lack of performance.

 

In 2005, a jury awarded damages to Parsons and Aerospace Marketing inthe combined amount of approximately $3.4 million for breach of contract. BRSsettled this matter directly with Parsons and Aerospace on September 19, 2005by agreeing to pay $1.9 million pursuant to terms described in the settlementagreement.  An initial payment of $700,000 plus interest was made onSeptember 19, 2005.  The remainder of the settlement amount will be paidby BRS over a term of 8 years, although BRS has the right topre-pay remaining amounts due at any time.

 

(c) In September 2004, an action against the Company has been commencedby the estate of Douglas Lefebvre arising from the crash of a Sabian RansS-12XL near Mexican Hat, Utah on September 22, 2002.  Mr. Lefebvre was the passenger on theaircraft.  The Company reached asettlement with the Lefebvre estate on October 13, 2005 which resolves suchlitigation.  The terms of the settlementare confidential and do not have a material adverse impact on the Company.

 

(d) On September 16, 2005, an action was commenced against the Companyby Robert Treat Rayner, in the Circuit Court of the 5th Judicial Circuit in andfrom Lake County Florida, File No. 04 CA 1749. The Complaint alleges that plaintiff was injured when his ultralightaircraft crashed while being towed by another ultralight.  Plaintiff alleges that he deployed his BRSsystem, but that it failed to deploy properly. BRS is undertaking an investigation of the claim and has responded tothe suit.  BRS believes that it hasstrong defenses to the suit and will vigorously defend against the claims.

 

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

 

During the fourth quarter ofour fiscal year ended September 30, 2005, there were no matters submitted to avote of our stockholders.

 

**PART II**

 

**ITEM 5.****              ****MARKET FOR COMMON EQUITY ANDRELATED STOCKHOLDER MATTERS**

 

**Market forCommon Stock**

 

Our common stock is tradedon the electronic bulletin board on the over the counter market and on the pinksheets under the trading symbol “BRSI.OB.” Several internet stock tracking and trading services show the Company’strading volumes with bid and ask prices as far back as 1995.  Based on information provided by theseinternet stock tracking services, the Company believes that the asking price andbid price was $2.25 as of September 30, 2005.

 

The following table liststhe high and low price for our common stock as quoted, in U.S. dollars, on the internettracking services during each quarter within the last two fiscal years:

 

10

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| ** **        | ** ** | **Price Range** | ** ** |
|-------------------|------------|-----------------|------------|
| ** **        | ** ** | **2005**        | ** ** | **2004** | ** ** |
| **Quarter Ended** | ** ** | **High**        | ** ** | **Low** | ** ** | **High** | ** ** | **Low** | ** ** |
| December 31       |       | $               | 3.70       |   | $ | 2.05 |   | $ | 1.55 |   | $ | 1.02 |   |
| March 31          |       | 4.90            |       | 2.95 |   | 2.53 |   | 1.48 |   |
| June 30           |       | 4.34            |       | 2.51 |   | 2.99 |   | 1.95 |   |
| September 30      |       | 3.00            |       | 2.15 |   | 2.32 |   | 1.95 |   |
|                   |            |                 |            |  |  |  |  |  |  |  |  |  |  |

 

The quotations from the internettracking services reflect inter-dealer prices, without retail mark-up,mark-down or commission, and may not represent actual transactions.

 

**RecordHolders**

 

The number of holders ofrecord of our common stock as of November 30, 2005 was approximately 330.

 

**Dividends**

 

During fiscal year 2005, theCompany declared a dividend in the amount of $0.08 per share, payable November22 2004 to all Common Shareholders of Record on November 8, 2003 for anaggregate of $547,543. The Company also declared a dividend in the amount of$0.085 per share, payable April 15, 2005 to all Common Shareholders of Recordon April 1, 2005 for an aggregate of $648,914. The Company's managementanticipates no dividends will be declared or paid during fiscal 2006, rather itis anticipated additional expenditures will be made towards research anddevelopment for fiscal 2006.

 

**Recent Sales of Unregistered Securities**

 

On February 23, 2005, the Company issued securities in a transaction that was not registered under the Securities Act of 1933, as amended, to Cirrus Design Corporation.  The transaction arose from the issuance of stock warrants to Cirrus in conjunction with a Purchase and Supply Agreement between the Company and Cirrus.  In order to execute the warrants, Cirrus had to meet certain purchase levels of the Company’s emergency parachute systems.  Cirrus met their minimum purchase commitment for warrant number four, and exercised this warrant for 650,000 shares of the Company’s common stock, on February 23, 2005, for an aggregate exercise price of $812,500.  This transaction was exempt from registration under Section 4(2) of the Securities Act of 1933, as amended.

 

**EquityCompensation Plan Information**

 

The following tablesummarizes outstanding options under our 2004 Stock Option Plan, as well asoutstanding options that we have issued to certain officers, directors andemployees of our company outside of any plan as of September 30, 2005. 

 
| **Plan category**                                           | ** ** | **Number of  securities to be  issued upon  exercise of  outstanding  options, warrants  and rights  (a)** | ** ** | **Weighted  average  exercise price  of outstanding  options,  warrants and  rights  (b)** | ** ** | **Number of  securities  remaining  available for future  issuance (excluding  securities reflected  in column (a))  (c)** | ** ** |
|-------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------------|------------|--------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------------------------------|------------|
| Equity compensation plans approved by stockholders  (1)     |       | 0                                                                                                          |       | N/A                                                                                        |       | 568,850                                                                                                                    |       |
|                                                        |       |                                                                                                       |       |                                                                                       |       |                                                                                                                       |       |
| Equity compensation plans not approved by  stockholders (2) |       | 150,000                                                                                                    |       | $                                                                                          | 1.11       |                                                                                                                       | 0          |   |
|                                                             |            |                                                                                                            |            |                                                                                            |            |                                                                                                                            |            |  |

 

11

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----

(1)     Represents shares of common stock authorizedfor issuance under the 2004 Stock Option Plan.

 

(2)     Represents stock options granted to employeesand directors at then current market prices.

 

**ITEM 6.****              ****MANAGEMENT’S DISCUSSION ANDANALYSIS OR PLAN OF OPERATION.**

 

**Operations:**

 

Sales

 

Sales for fiscal year 2005 were $8,115,544,up 23.7%, compared to $6,558,551for fiscal year 2004.  A reduction in sales of $474,481 was recordedfor fiscal year 2004 relating to the Cirrus Design (Cirrus) stock purchasewarrants.  No further reductions to salesrelating to these stock purchase warrants are expected.  In fiscal year 2005, sales derived from theCompany’s general aviation products, which consist primarily of sales to CirrusDesign, were up 26.4% over the prior fiscal year.  Sales from the Company’s general aviationproducts accounted for 80.0% of total sales for fiscal year 2005 compared to 78.3%of total sales for fiscal year 2004.

 

The Company’s general aviation product isstandard equipment on the Cirrus SRV, SR20 and SR22 model aircraft.   The Company delivered 633 and 532 units toCirrus in fiscal year 2005 and 2004, respectively.  The Company believesthat Cirrus has a backlog of aircraft orders, all of which are required toinclude the Company’s parachute systems.  The Company understands thatCirrus expects to be able to fill the backlog of firm aircraft orders during thenext 12 months.  The Company also understands that Cirrus is expected toexceed fiscal year 2005 manufacturing volumes for its aircraft throughoutfiscal year 2006.  As a result, the Company is forecasting further growthin 2006 in its general aviation revenues.  No assurance can be given that generalaviation revenues will increase as anticipated. Future production volumes for the Cirrus aircraft, and therefore, theCompany’s parachute systems, will be dictated by ultimate market demands forCirrus’ products.  Accordingly, the Company is, and will likely be,dependent on Cirrus for a material portion of its revenues for fiscal year 2006. Any negative impact on Cirrus’ sales would have a significantly negative impacton the Company’s revenues.

 

Near the end of fiscal year 2004, the Companyfinalized development of a parachute recovery system for the Cessna 182 modelof aircraft, which is called the BRS-182. The system utilizes many of the same components used in the recoverysystems for the Cirrus aircraft models and the Cessna 172.  The Company received the STC from the FAA onJune 25, 2004.   This STC allows theproduct to be installed on certified Cessna 182 series aircraft.  The first customer delivery and installationwas completed in July 2004.  The Company’ssales and marketing efforts resulted in the sale and delivery of twenty BRS-182units through the end of fiscal year 2005. The Company continues direct sales and marketing for the BRS-182.  No assurances can be made as to the successof sales efforts or if the product will sell in sufficient volumes to impactthe Company’s financial performance.

 

TheCompany also has in production the BRS-172 product for the Cessna 172 modelaircraft.  Since certified in July 2002, thirteen systems have beensold.  The Company altered strategies for marketing the BRS-172 in aneffort to expand market penetration.  Although certified, there can be noassurances that the BRS-172 product will sell in volumes that will have amaterial impact on the Company.

 

TheCompany’s recreational aircraft product line sales, which largely consist ofproducts for ultralight aircraft, increased by 14.3% during fiscal year 2005compared to the prior fiscal year and accounted for 20% of the Company’srevenues for fiscal year 2005 versus 21.7% of the Company’s revenues for the

 

12

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priorfiscal of 2004.  The recreational aircraft products business relies oncustomer acceptance of the BRS parachute concept and the existence ofinstallation designs for sport and ultralight aircraft. Many of these old recreationalaircraft products are still sold and the Company has been able to adapt tosmall changes in these models without great difficulty.

 

The Germangovernment requires parachutes on planes that weigh less than 472.5 Kilos(1,041.7 lbs).  In this sector, we have agood performance/weight ratio and the US dollar weakness has allowed theCompany to remain competitive.  Some competitors are beginningto look at entering the US market in newly designed LSA aircraft whichcould have an effect on the United States recreational aircraft business.  A significant number of LSA airplanes aremade in the former eastern block countries where major completion is based andsome designs already exist. The passage of LSA legislation and successfulentry of these foreign planes into the US market should helpthis sector overall. We do expect some early attrition of companies that do nothave solid financing, design or distribution networks. The Company will prioritizeresources in selecting aircraft to expend engineering effort.

 

TheCompany anticipates being able to expand its general aviation and recreationalproduct lines to include other certified and non-certified aircraft as theCompany’s recovery systems gain further market acceptance.  The Company isin ongoing discussions with other domestic and foreign, general aviation andrecreational aircraft companies that have expressed interest in utilizingcertain of the Company’s products.  These companies produce both certifiedand non-certified aircraft.  No assurance can be made as to the futurebenefits, if any, that the Company will derive from these discussions.

 

GrossMargin

 

Grossmargin as a percentage of revenues was 38.3% for fiscal year 2005 compared to 35.2%for fiscal year 2004.  A reduction insales of $474,481 was recorded for fiscal year 2004 relating to the CirrusDesign (Cirrus) stock purchase warrants. This reduction in sales decreased the gross margin by 4.3% for the fiscalyear 2004, from 39.5% to 35.2%.  The fiscalyear 2005 margin of 38.3% decreased from the 2004 margin of 39.5% before theadjustment for the warrants as a result of price reductions granted to CirrusDesign under terms of the Purchase and Supply Agreement between the two companies.  The Company expects to provide additionalpricing reductions to its larger customers in the future and as a result, the grossmargins could be impacted.  However, theCompany has been successful in identifying cost savings and receiving materialcost reductions and will continue to look for further savings and costreductions on an ongoing basis.  TheCompany’s objective is to maintain or improve overall gross margins in thefuture.

 

Selling,General and Administrative

 

Selling,general and administrative costs as a percentage of sales were 29.4% for fiscalyear 2005 as compared to 22.8% for fiscal year 2004.  Administrative costs have increased in fiscalyear 2005 with the resignation of Mark Thomas and the search for a replacementCEO & President/Chief Operating Officer and a replacement CFO.  Consulting fees increased $87,432 andDirectors fees increased $94,149 for services provided to assist the financialadministration of the Company during this search process. The Company promotedLarry E. Williams to CEO & President/COO effective May 6, 2005 and hired anew CFO in the July 2005.  Accounting andaudit fees are up $45,003 during fiscal year 2005 compared to fiscal year 2004for responses to a SEC comment letter and subsequent amended 10KSB and 10QSBfilings. Legal fees increased $433,543 related primarily to the legalproceedings noted in Item 3 for fiscal year 2005 compared to fiscal year2004.  Regulatory requirements under theSarbanes-Oxley Act have also increased expenditures by $18,833 for fiscal year2005 as the Company implements expanded compliance infrastructure andoversight.  Management expects selling,general and administrative costs as a percentage of sales to decrease goingforward.

 

13

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###### **Research andDevelopment, net**

 

Through the fourth quarter of fiscal year 2004, the Company was workingunder a contract with NASA for the Company’s second Phase II Small BusinessInnovation Research (“SBIR”) grant.  ThePhase II grant entitled “Advanced Aircraft Parachute Recovery System” wasgranted to allow the Company to investigate the feasibility of developingparachute systems for larger and faster aircraft than those currently supportedby the Company.  During fiscal year 2004the Company recorded an offset to research and development expenses by$385,619. There were no offsets to expenses in the current fiscal year as thecontract was completed prior to the start of the current fiscal year.   NASA and the United States FederalGovernment will have a royalty free right to any developed technology, but onlyas a customer for product that incorporates the developed technology that ispurchased from the Company.  Noassurances can be made that the Phase II contract work will result in futureproducts and revenues for the Company.

 

Research and development costs were 4.4% ($357,702) and 4.2% ($272,782)of sales for fiscal years 2005 and 2004, respectively.  Management believes that research anddevelopment is an integral part of the growth strategy for the Company, andwill continue to play an important role in the Company’s success. Therefore, increases in research and development expenditures are planned forthe future in the areas of new product development and in the expansion ofcurrently developed products for additional applications.  The Company has budgeted approximately $1,070,000for research and development expenditures for fiscal 2006.

 

The Company has undertakenresearch and development on potential new products and services including enhancementsto current products.  Such efforts mayresult in future offerings and model upgrades to existing products.  The development efforts are funded throughcurrent operations and it is unclear what impact, if any, these will have onfuture sales or financial performance of the Company.

 

NetIncome (Loss) and Earnings (Loss) per Share

 

Income (loss) before income taxes as apercentage of revenues was (21.7%) and 7.6% for fiscal years 2005 and 2004,respectively.  On a fully diluted basis,after-tax net income (loss) of ($902,048) for fiscal year 2005 was (11.1%) ofsales or ($0.12) per share, as compared to net income of $301,474, which was 4.6%of sales or $0.04 on a diluted basis per share for the prior fiscal year.

 

**Liquidity and Capital Resources:**

 

Asof September 30, 2005, the Company had a cash and cash equivalents of$103,102.  On November 22, 2004, theCompany paid a cash dividend of $0.08 per share for an aggregate of$547,543.  On April 15, 2005, the Companypaid a cash dividend of $0.085 per share for an aggregate of $648,914.  The Company also received $812,500 from theexercise of common stock warrants and $171,076 from the exercise of commonstock options during fiscal 2005.  TheCompany has a secured line-of-credit for $500,000, which was increased inOctober 2003 from its previous level of $250,000.  The Company had abalance outstanding under the line-of-credit of $204,715 at September 30, 2005. Management believes that cash from current business operations, along with theline-of-credit, is adequate to support the ongoing operations of the Companyduring the next twelve-month period.  TheCompany will continue to look for non-equity sources to fund contract researchand development projects, but there can be no assurances that the Company willbe successful in its efforts.  The Company funds its non-contract researchand development out of operations.

 

TheCompany anticipates a need to make continuing capital improvements to itscurrent production facilities in both the US and Mexico and continued equipmentand tooling upgrades, consistent with that

 

14

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ofprior years.  The Company expects toincrease inventory during the fiscal year and beyond as a result of abuild-up for Mexico operations and further market penetration.  It is currently the intention of the Companyto fund these expenditures through current operations as well as revenuesgenerated by those units.

 

TheCompany does not presently have product liability insurance and must fund theexpenses of its pending lawsuits.  Furthermore,a significant judgment against the Company in its existing litigation couldhave a material impact on the Company.  TheCompany has incurred approximately $624,000 in legal fees for fiscal year 2005attributable to all legal support matters and the defense of its pendinglawsuits.  In 2005, a jury awardeddamages to Parsons and Aerospace Marketing in the combined amount ofapproximately $3.4 million for breach of contract.  BRS settled this matter directly with Parsonsand Aerospace on September 19, 2005 by agreeing to pay $1.9 million pursuant toterms described in the settlement agreement.  An initial payment of$700,000 plus interest was made on September 19, 2005.  The remainder ofthe settlement amount will be paid by BRS over a term of 8 years, although BRShas the right to pre-pay remaining amounts due at any time.  The terms of the notes require monthlypayments of $18,952 for the first five years, and monthly payments of $9,808for the final 3 years.  In addition,requirements under the Sarbanes-Oxley Act will require increased expendituresas the Company implements expanded compliance infrastructure and oversight. TheCompany's management anticipates no dividends will be declared or paid duringfiscal 2006, rather it is anticipated additional expenditures will be madetowards research and development for fiscal 2006.

 

ThePrivate Securities Litigation Reform Act of 1995 provides “safe harbor” forforward-looking statements.  Certain information included in this Form10-KSB and other materials filed or to be filed by the Company with theSecurities and Exchange Commission (as well as information included in oralstatements or other written statements made or to be made by the Company)contain statements that are forward-looking, such as statements relating toanticipated Cirrus Design delivery orders and schedules, plans for researchprojects, development, anticipated delivery orders and schedules for the Cessna182 system,  the Cessna 172 system, success of contracts for NASA SBIR research projects, the timing and impact ofregulations on Light Sport Aircraft sales, other business developmentactivities as well as other capital spending, financial sources, and theeffects of competition.  Such forward-looking information involvesimportant risks and uncertainties that could significantly affect anticipatedresults in the future and, accordingly, such results may differ fromthose expressed in any forward-looking statements made by or on behalf ofthe Company.  These risks and uncertainties include, but are not limitedto, dependence on Cirrus Design, potential product liability claims and paymentif such claims are successful, federal transportation rules and regulationwhich may negatively impact the Company’s ability to ship its products in acost efficient manner, the elimination of funding for new research anddevelopment projects, the decline in registered and unregistered aircraftsales, dependence on discretionary consumer spending, dependence on existingmanagement, general economic conditions, changes in federal or state laws orregulations.

 

**Critical Accounting Policies and Estimates**

 

Ourdiscussion and analysis or plan of operation is based upon our consolidatedfinancial statements, which have been prepared in accordance with accountingprinciples generally accepted in the United States of America.  Thepreparation of these consolidated financial statements requires us to makeestimates and assumptions that affect the reported amounts of assets andliabilities at the date of the consolidated financial statements, the reportedamounts of revenues and expenses during the reporting period, and relateddisclosures of contingent assets and liabilities for the periodsindicated.  The notes to the consolidated financial statements containedherein describe our significant accounting policies used in the preparation ofthe consolidated financial statements.  On an on-going basis, we evaluateour estimates, including, but not limited to, those related to our allowancefor doubtful accounts, inventory valuation allowance, the lives and continuedusefulness of furniture, fixtures and leasehold improvements andcontingencies.  Due to uncertainties, however, it is at least reasonablypossible that management’s

 

15

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estimateswill change during the next year, which cannot be estimated.  We base ourestimates on historical experience and on various other assumptions that webelieve to be reasonable under the circumstances, the results of which form thebasis for making judgments about the carrying values of assets and liabilitiesthat are not readily apparent from other sources.  Actual results coulddiffer from these estimates under different assumptions or conditions.

 

**Disclosures about Contractual Obligations andCommercial Commitments**

 

Thefollowing summarizes our contractual obligations at September 30, 2005, and theeffects of these contractual obligations are expected to have on our liquidityand cash flows in future periods:

 

| ** **                | ** ** | ** ** | ** ** | **1 Year**  | ** ** | **1-3**   | ** ** | **Over**    | ** ** |
|---------------------------|------------|------------|------------|-------------|------------|-----------|------------|-------------|------------|
| ** **                | ** ** | **Total**  | ** ** | **or Less** | ** ** | **Years** | ** ** | **3 Years** | ** ** |
| Operating Leases          |       | $          | 68,827     |        | $          | 43,782    |       | $           | 25,045     |   | — |   |
| Long-Term Debt            |       | $          | 1,200,000  |        | $          | 153,951   |       | $           | 526,525    |   | $ | 519,524 |   |
| Line of Credit Borrowings |       | $          | 204,715    |        | $          | 204,715   |       | —      |       | — |   |
| Total                     |       | $          | 1,475,702  |        | $          | 403,408   |       | $           | 552,770    |   | $ | 519,524 |   |

 

**ITEM 7.****                           CONSOLIDATEDFINANCIAL STATEMENTS**

 

For a list of the consolidatedfinancial statements and related footnotes filed as part of this report, seethe Index to Consolidated Financial Statements beginning at Page F-1 of thisannual report on Form 10-KSB.

 

**ITEM 8.****                          ****CHANGES IN AND DISAGREEMENTSWITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE**

 

There have been no disagreements with the Company’s independentcertified public accountants on accounting principles or practices or financialstatement disclosures.

 

**ITEM 8A.****                     ****CONTROLS AND PROCEDURES**

 

As of September 30, 2005, the Company carriedout an evaluation, with the participation of our chief executive officer and chieffinancial officer, of the effectiveness of the design and operation of ourdisclosure controls and procedures (as defined in Rules 13a-15(e) and15d-15(e) of the Securities Exchange Act of 1934, as amended). Based upon thatevaluation, our chief executive officer and chief financial officer concludedthat our disclosure controls and procedures are effective in alerting them on atimely basis to material information required to be disclosed in our periodicreports to the Securities and Exchange Commission.  During the fourth quarter fiscal year 2005,there were no changes in our internal control over financial reporting thathave materially affected, or reasonably likely to materially affect, ourinternal control over financial reporting.

 

**ITEM 8B.****                     ****OTHER INFORMATION**

 

None

 

16

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**PART III**

 

**ITEM 9.****                          ****DIRECTORS, EXECUTIVE OFFICERS,PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGEACT**

 

The information required by this item is incorporated by reference fromthe Proxy Statement.

 

**ITEM 10.****                      ****EXECUTIVE COMPENSATION**

 

The information required by this item is incorporated by reference fromthe Proxy Statement.

 

**ITEM 11.****                      ****SECURITY OWNERSHIP OF CERTAINBENEFICIAL OWNERS AND MANAGEMENT**

 

The information required by this item is incorporated by reference fromthe Proxy Statement.

 

**ITEM 12.****                      ****CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS**

 

The information required by this item is incorporated by reference fromthe Proxy Statement.

 

**ITEM 13.****                      ****EXHIBITS**

 

**Exhibits**

 

The following documents areincluded or referenced in this report.

 
| **Exhibit Number** | ** ** | **Description**                                                                                                                                                                                                                                                                                   |
|--------------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** **         | ** ** | ** **                                                                                                                                                                                                                                                                                        |
| 3.1                |       | Company’s Articles of  Incorporation, as amended, appear as Exhibit 3.1 to the Company’s  Registration Statement on Form S-1 (No. 33-21843) filed May 12, 1988 (“Form  S-1”) and are incorporated herein by reference.                                                        |
|               |       |                                                                                                                                                                                                                                                                                              |
| 3.2                |       | Company’s Restated Bylaws  as amended, were filed as Exhibit 3.2, under Form 8, Amendment No. 1 (“1990  Amendment”) to the Company’s Report on Form 10-K for the fiscal year ended  September 30, 1990 (the “1990  10-K”) and are incorporated herein by reference. |
|               |       |                                                                                                                                                                                                                                                                                              |
| 4.1                |       | Form of Director Stock  Option Agreement (filed as exhibit 4.1 to the Company’s Registration  Statement Form S-8 filed o February 23, 2005 and incorporated herein by  reference).                                                                                                           |
|               |       |                                                                                                                                                                                                                                                                                              |
| 4.2                |       | Schedule of Director Stock  Options pertaining to Exhibit 4.1 (filed as exhibit 4.2 to the Company’s  Registration Statement Form S-8 filed on February 23, 2005 and incorporated  herein by reference).                                                                                     |
|               |       |                                                                                                                                                                                                                                                                                              |
| 10.1               |       | Purchase and Supply  Agreement dated September 17, 1999 between the Company and Cirrus Design  Corporation appears as exhibit 10.1 to the Company’s Report on Form 8-K filed  September 20, 1999 and is incorporated herein by reference.                                                    |
|               |       |                                                                                                                                                                                                                                                                                              |
| 10.2               |       | Covenant not to Compete  Agreement dated October 26, 1995 between the Company and the President and  majority shareholder of Second Chantz Aerial Survival Equipment, Inc. appears  as Exhibit 10.2 to the Company’s Report on Form 10-KSB for the fiscal year                               |

 

17

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|   |   | ended September 30, 1995  and is incorporated herein by reference.                                                                                                                                                                                                                          |
|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                        |
| 10.3   |   | Code of Ethics for Senior  Financial Executives (filed as Exhibit B with 2004 Proxy Statement filed  January 23, 2004).                                                                                                                                                                     |
|   |   |                                                                                                                                                                                                                                                                                        |
| 10.4   |   | Stipulation and Confession  of Judgment dated September 19, 2005 (filed as exhibit 10.1 to the  Company’s Current Report on Form 8-K dated September 19, 2005 and  incorporated herein by reference).                                                                             |
|   |   |                                                                                                                                                                                                                                                                                        |
| 10.5   |   | Security Agreement dated  September 19, 2005 (filed as exhibit 10.2 to the Company’s Current  Report on Form 8-K dated September 19, 2005 and incorporated herein by  reference).                                                                                                 |
|   |   |                                                                                                                                                                                                                                                                                        |
| 10.6   |   | Resignation, Consulting,  Non-Competition and General Release Agreement dated October 14, 2004 with  Mark B. Thomas (filed as exhibit 10.1 to the Company’s Quarterly  Report on Form 10-QSB for the quarter ended December 31, 2004 and  incorporated herein by reference). |
|   |   |                                                                                                                                                                                                                                                                                        |
| 10.7   |   | Interim Services Agreement  with Robert L. Nelson dated November 17, 2004 (filed as exhibit 10.2 to the  Company’s Quarterly Report on Form 10-QSB for the quarter ended December 31,  2004 and incorporated herein by reference).                                                     |
|   |   |                                                                                                                                                                                                                                                                                        |
| 10.8   |   | Consulting Agreement with  Thomas H. Adams, Jr. dated November 17, 2004 (filed as exhibit 10.3 to the  Company’s Quarterly Report on Form 10-QSB for the quarter ended December 31,  2004 and incorporated herein by reference).                                                       |
|   |   |                                                                                                                                                                                                                                                                                        |
| 10.9   |   | Consulting Agreement with  Boris Popov dated November 17, 2004 (filed as exhibit 10.4 to the Company’s  Quarterly Report on Form 10-QSB for the quarter ended December 31, 2004 and  incorporated herein by reference).                                                                |
|   |   |                                                                                                                                                                                                                                                                                        |
| 10.10  |   | Employment  Agreement dated May 6, 2005, between the Registrant and Larry E. Williams.                                                                                                                                                                                                      |
|   |   |                                                                                                                                                                                                                                                                                        |
| 21.1   |   | List  of Subsidiaries                                                                                                                                                                                                                                                                       |
|   |   |                                                                                                                                                                                                                                                                                        |
| 23.1   |   | Consent  of Virchow, Krause & Company LLP                                                                                                                                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                                        |
| 31.1   |   | Rule  13a-14(a)/15d-14(a) Certifications.                                                                                                                                                                                                                                                   |
|   |   |                                                                                                                                                                                                                                                                                        |
| 31.2   |   | Rule  13a-14(a)/15d-14(a) Certifications.                                                                                                                                                                                                                                                   |
|   |   |                                                                                                                                                                                                                                                                                        |
| 32.1   |   | Section  1350 Certifications.                                                                                                                                                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                                        |
| 32.2   |   | Section  1350 Certifications.                                                                                                                                                                                                                                                               |

 

**ITEM14.****                      ****PRINCIPAL ACCOUNTANT FEES ANDSERVICES**

 

Audit Fees

 

The aggregate fees billed or expected to be billed by the Company’sauditors for professional services rendered in connection with the audit of theCompany’s annual consolidated financial statements for fiscal year 2005 and 2004,reviews of the consolidated financial statements included in the Company’s Form10-KSB and Form 10-QSB, responses to SEC comment letter and amended 10-KSB and10-QSB filings for fiscal year 2005 and 2004 were $78,325 and $33,535,respectively.

 

18

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Audit-Related Fees

 

For fiscal 2005 and 2004, the Company’s auditors did not bill any feesfor assurances and related services that are reasonably related to theperformance of the audit or review of the Company’s consolidated financialstatements and are not reported under “Audit Fees” above.

 

Tax Fees

 

Theaggregate fees billed by the Company’s auditors for professional services fortax compliance, tax advice, and tax planning were $7,730 and $24,410 for fiscalyear 2005 and 2004, respectively.

 

All Other Fees

 

For fiscal 2005 and 2004 the Company’s auditors did not bill any feesfor any other non-audit services rendered to the Company, such as attendingmeetings and other miscellaneous financial consulting.

 

Audit Committee

 

The policy of the Company’s audit committee is to review andpre-approve both audit and non-audit services to be provided by the independentauditors (other than *de minimis*exceptions permitted by the Sarbanes Oxley Act of 2002).  This duty may be delegated to one or moredesignated members of the audit committee with any such approval reported tothe committee at its next regularly scheduled meeting.  Approval of non-audit services shall bedisclosed to investors in periodic reports required by section 13 (a) of theSecurities and Exchange Act of 1934. Approximately 100% of fees paid to the Company’s auditors werepre-approved by the audit committee.

 

19

----

 

**SIGNATURES**

 

In accordance with Section13 or 15(d) of the Securities Exchange Act, Ballistic Recovery Systems, Inc.has duly caused this report to be signed on its behalf by the undersigned,thereunto duly authorized, on December 23, 2005.

 
|   | Ballistic Recovery  Systems, Inc. |
|--------|-----------------------------------|
|   |                              |
|   | By:                               | /s/ Larry E. Williams |   |
|   |                              | Larry E. Williams |
|   |                              | Principal Executive  Officer, |
|   |                              | Chief Executive Officer,  President and Chief  Operating Officer |
|   |                              |
|   | By:                               | /s/ Don R. Hedquist |   |
|   |                              | Don R. Hedquist |
|   |                              | Principal Accounting  Officer |

 

20

----

 

**Index to Consolidated FinancialStatements**

 
| Report  of Independent Registered Public Accounting Firm Virchow, Krause &  Company, LLP          |   |
|-------------------------------------------------------------------------------------------------------|--------|
| Consolidated  Balance Sheets as of September 30, 2005 and 2004                                        |   |
| Consolidated  Statements of Operations for the Years Ended September 30, 2005 and 2004                |   |
| Consolidated Statements of Shareholders’ Equity for  the Years Ended September 30, 2005 and 2004 |   |
| Consolidated Statements of Cash Flows for the Years  Ended September 30, 2005 and 2004                |   |
| Notes to Consolidated Financial Statements                                                            |   |

 

F-21

----

 

**REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTINGFIRM**

 

Shareholders, Audit Committeeand Board of Directors

BallisticRecovery Systems, Inc. and Subsidiary

St.Paul, Minnesota

 

We haveaudited the accompanying consolidated balance sheets of Ballistic RecoverySystems, Inc. and Subsidiary as of September 30, 2005 and 2004 and the related consolidatedstatements of operations, shareholders’ equity and cash flows for the yearsthen ended. These consolidated statements are the responsibility of the Company’smanagement.  Our responsibility is toexpress an opinion on these consolidated financial statements based on ouraudits.

 

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

 

In our opinion, the consolidatedfinancial statements referred to above present fairly, in all materialrespects, the consolidated financial position of Ballistic Recovery Systems,Inc. and Subsidiary as of September 30, 2005 and 2004 and the results of theiroperations and their cash flows for the years then ended in conformity withaccounting principles generally accepted in the United States of America.

 
|   | /s/ Virchow, Krause &  Company, LLP |
|--------|-----------------------------------------|

 

 

Minneapolis, Minnesota

November 22, 2005

 

F-22

----

 

**Ballistic Recovery Systems, Inc. and Subsidiary**

**Consolidated Balance Sheets**

**September30, 2005 and 2004**

 
| ** **                                                                                          | ** ** | **2005**  | ** ** | **2004**  | ** ** |
|-----------------------------------------------------------------------------------------------------|------------|-----------|------------|-----------|------------|
| Assets                                                                                              |       |      |       |      |       |
| Current assets:                                                                                     |       |      |       |      |       |
| Cash and cash equivalents                                                                           |       | $         | 103,102    |      | $          | 1,314,557 |   |
| Accounts  receivable - net of allowance for doubtful accounts of $10,000 and $10,000,  respectively |       | 457,808   |       | 402,113   |       |
| Note receivable – shareholder                                                                  |       | 4,036     |       | 12,500    |       |
| Inventories                                                                                         |       | 1,460,919 |       | 1,132,496 |       |
| Deferred tax asset – current portion                                                           |       | 160,700   |       | 252,700   |       |
| Income taxes receivable                                                                             |       | 230,544   |       | —    |       |
| Prepaid expenses                                                                                    |       | 61,517    |       | 44,025    |       |
| Total current assets                                                                                |       | 2,478,626 |       | 3,158,391 |       |
|                                                                                                |       |      |       |      |       |
| Furniture, fixtures and leasehold improvements                                                      |       | 942,475   |       | 591,767   |       |
| Less accumulated depreciation and amortization                                                      |       | (357,207  | )          | (292,164  | )          |
| Furniture, fixtures and leasehold improvements – net                                           |       | 585,268   |       | 299,603   |       |
|                                                                                                |       |      |       |      |       |
| Other assets:                                                                                       |       |      |       |      |       |
| Patents, net of accumulated amortization of $10,739  and $10,053, respectively                      |       | 925       |       | 1,611     |       |
| Goodwill                                                                                            |       | 103,774   |       | —    |       |
| Deferred tax asset – net of current portion                                                    |       | 1,296,700 |       | —    |       |
| Long-term prepaid expenses                                                                          |       | 28,269    |       | 53,120    |       |
| Covenants not to  compete, net of accumulated amortization of $448,149 and $335,908,  respectively  |       | 156,862   |       | 43,530    |       |
| Total other assets                                                                                  |       | 1,586,530 |       | 98,261    |       |
|                                                                                                |       |      |       |      |       |
| Total assets                                                                                        |       | $         | 4,650,424  |      | $          | 3,556,255 |   |

 

Seenotes to consolidated financial statements.

 

F-23

----

 

**Ballistic Recovery Systems, Inc. and Subsidiary**

**ConsolidatedBalance Sheets**

**September 30, 2005 and 2004**

 
| ** **                                                                                                                          | ** ** | **2005**   | ** ** | **2004**   | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------|------------|------------|------------|------------|------------|
| Liabilities And  Shareholders’ Equity                                                                                          |       |       |       |       |       |
| Current liabilities:                                                                                                                |       |       |       |       |       |
| Line of credit – bank                                                                                                          |       | $          | 204,715    |       | $          | — |   |
| Current portion of long-term debt                                                                                                   |       | 153,951    |       | —     |       |
| Current portion of covenants not to compete,  shareholder                                                                           |       | 87,672     |       | 45,255     |       |
| Accounts payable                                                                                                                    |       | 305,297    |       | 173,515    |       |
| Customer deposits                                                                                                                   |       | 125,255    |       | 79,061     |       |
| Accrued payroll                                                                                                                     |       | 88,561     |       | 100,451    |       |
| Other accrued liabilities                                                                                                           |       | 183,870    |       | 342,635    |       |
|                                                                                                                                |       |       |       |       |       |
| Total current liabilities                                                                                                           |       | 1,149,321  |       | 740,917    |       |
|                                                                                                                                |       |       |       |       |       |
| Long-term debt, less current portion                                                                                                |       | 1,046,049  |       | —     |       |
| Covenants not to compete, shareholder, less current  portion                                                                        |       | 7,068      |       | 4,000      |       |
|                                                                                                                                |       |       |       |       |       |
| Total liabilities                                                                                                                   |       | 2,202,438  |       | 744,917    |       |
|                                                                                                                                |       |       |       |       |       |
| Shareholders’ equity:                                                                                                          |       |       |       |       |       |
| Common stock  ($.01 par value; 10,000,000 shares authorized; 7,685,434 and 6,844,284  shares, respectively, issued and outstanding) |       | 76,854     |       | 68,443     |       |
| Additional paid-in capital                                                                                                          |       | 5,782,590  |       | 3,838,132  |       |
| Accumulated deficit                                                                                                                 |       | (3,411,458 | )          | (1,095,237 | )          |
| Total shareholders’ equity                                                                                                     |       | 2,447,986  |       | 2,811,338  |       |
|                                                                                                                                |       |       |       |       |       |
| Total liabilities and shareholders’ equity                                                                                     |       | $          | 4,650,424  |       | $          | 3,556,255 |   |

 

See notes to consolidatedfinancial statements.

 

F-24

----

 

**BallisticRecovery Systems, Inc.****and Subsidiary**

**Consolidated Statements of Operations**

**For the Years Ended September 30, 2005 and 2004**

 
| ** **                                                    | ** ** | **2005**   | ** ** | **2004**  | ** ** |
|---------------------------------------------------------------|------------|------------|------------|-----------|------------|
| Sales                                                         |       | $          | 8,115,544  |      | $          | 6,558,551 |   |
| Cost of sales                                                 |       | 5,003,519  |       | 4,252,531 |       |
|                                                          |       |       |       |      |       |
| Gross profit                                                  |       | 3,112,025  |       | 2,306,020 |       |
|                                                          |       |       |       |      |       |
| Selling, general and administrative                           |       | 2,383,261  |       | 1,494,447 |       |
| Research and development                                      |       | 357,702    |       | 272,782   |       |
| Legal settlements                                             |       | 2,010,000  |       | —    |       |
| Intangible amortization                                       |       | 112,241    |       | 35,519    |       |
|                                                          |       |       |       |      |       |
| Income (loss) from operations                                 |       | (1,751,179 | )          | 503,272   |       |
|                                                          |       |       |       |      |       |
| Other income (expense):                                       |       |       |       |      |       |
| Interest expense                                              |       | (24,630    | )          | (7,875    | )          |
| Other income                                                  |       | 13,045     |       | 4,377     |       |
|                                                          |       |       |       |      |       |
| Income (loss) before income taxes                             |       | (1,762,764 | )          | 499,774   |       |
|                                                          |       |       |       |      |       |
| Income taxes expense (benefit)                                |       | (643,000   | )          | 198,300   |       |
|                                                          |       |       |       |      |       |
| Net income (loss)                                             |       | $          | (1,119,764 | )         | $          | 301,474 |   |
|                                                          |       |       |       |      |       |
| Basic earnings (loss) per common share                        |       | $          | (0.15      | )         | $          | 0.05 |   |
|                                                          |       |       |       |      |       |
| Weighted average number of shares outstanding –  Basic   |       | 7,320,328  |       | 6,577,281 |       |
|                                                          |       |       |       |      |       |
| Diluted earnings (loss) per common share                      |       | $          | (0.15      | )         | $          | 0.04 |   |
|                                                          |       |       |       |      |       |
| Weighted average number of shares outstanding –  Diluted |       | 7,320,328  |       | 6,910,530 |       |
|                                                          |       |       |       |      |       |
| Dividends per share                                           |       | $          | 0.1634     |      | $          | 0.1255 |   |

 

Seenotes to consolidated financial statements.

 

F-25

----

 

**BallisticRecovery Systems, Inc.****and Subsidiary**

**Consolidated Statements of Shareholders’ Equity**

**For the Years Ended September 30, 2005 and 2004**

 
| ** **                                                                        | ** ** | **Common Stock** | ** ** | **Additional** | ** ** | ** **  | ** ** | ** **      | ** ** |
|-----------------------------------------------------------------------------------|------------|------------------|------------|----------------|------------|-------------|------------|-----------------|------------|
| ** **                                                                        | ** ** | **Number of**    | ** ** | ** **     | ** ** | **Paid-in** | ** ** | **Accumulated** | ** ** | **Shareholders’** | ** ** |
| ** **                                                                        | ** ** | **Shares**       | ** ** | **Amount**     | ** ** | **Capital** | ** ** | **Deficit**     | ** ** | **Equity** | ** ** |
| Balance September 30, 2003                                                        |       | 6,245,929        |       | $              | 62,459     |        | $          | 2,784,635       |       | $ | (576,534 | ) | $ | 2,270,560 |   |
|                                                                              |       |             |       |           |       |        |       |            |       |   |   |
| Issuance of  common stock in cashless transactions                                |       | 27,105           |       | 271            |       | (271        | )          | —          |       | — |   |
| Stock warrant exercise                                                            |       | 500,000          |       | 5,000          |       | 557,500     |       | —          |       | 562,500 |   |
| Stock option exercises for cash                                                   |       | 21,250           |       | 213            |       | 9,787       |       | —          |       | 10,000 |   |
| Stock option  exercises under note receivable – shareholder                  |       | 50,000           |       | 500            |       | 12,000      |       | —          |       | 12,500 |   |
| Expenses from stock based transaction                                             |       | —           |       | —         |       | 474,481     |       | —          |       | 474,481 |   |
| Dividend declaration                                                              |       | —           |       | —         |       | —      |       | (820,177        | )          | (820,177 | ) |
| Net income                                                                        |       | —           |       | —         |       | —      |       | 301,474         |       | 301,474 |   |
|                                                                              |       |             |       |           |       |        |       |            |       |   |   |
| Balance September 30, 2004                                                        |       | 6,844,284        |       | 68,443         |       | 3,838,132   |       | (1,095,237      | )          | 2,811,338 |   |
|                                                                              |       |             |       |           |       |        |       |            |       |   |   |
| Issuance of  common stock in lieu of cash for general and administrative expense  |       | 31,150           |       | 311            |       | 69,776      |       | —          |       | 70,087 |   |
| Stock warrant exercise                                                            |       | 650,000          |       | 6,500          |       | 806,000     |       | —          |       | 812,500 |   |
| Income tax  benefit associated with exercise of common stock warrants and options |       | —           |       | —         |       | 830,000     |       | —          |       | 830,000 |   |
| Stock option exercises for cash                                                   |       | 160,000          |       | 1,600          |       | 169,476     |       | —          |       | 171,076 |   |
| Expenses from stock based transaction                                             |       | —           |       | —         |       | 69,206      |       | —          |       | 69,206 |   |
| Dividend declaration                                                              |       | —           |       | —         |       | —      |       | (1,196,457      | )          | (1,196,457 | ) |
| Net loss                                                                          |       | —           |       | —         |       | —      |       | (1,119,764      | )          | (1,119,764 | ) |
|                                                                              |       |             |       |           |       |        |       |            |       |   |   |
| Balance September 30, 2005                                                        |       | 7,685,434        |       | $              | 76,854     |        | $          | 5,782,590       |       | $ | (3,411,458 | ) | $ | 2,447,986 |   |

 

Seenotes to consolidated financial statements.

 

F-26

----

 

**Ballistic Recovery Systems, Inc.****and Subsidiary**

**Consolidated Statements of Cash Flow**

**For the Years Ended September 30, 2005 and 2004**

 
| ** **                                                                       | ** ** | **2005**   | ** ** | **2004** | ** ** |
|----------------------------------------------------------------------------------|------------|------------|------------|----------|------------|
| Cash flows from  operating activity:                                             |       |       |       |     |       |
| Net income  (loss)                                                               |       | $          | (1,119,764 | )        | $          | 301,474 |   |
| Adjustments to  reconcile net income (loss) to net cash from operating activity: |       |       |       |     |       |
| Deferred income  tax                                                             |       | (374,700   | )          | (138,700 | )          |
| Depreciation and  amortization                                                   |       | 102,476    |       | 85,813   |       |
| Amortization of  covenants not to compete                                        |       | 112,241    |       | 35,519   |       |
| Expense from  stock based transaction – warrant                             |       | —     |       | 474,481  |       |
| Expense from  stock based transaction – employee                            |       | 69,206     |       | —   |       |
| Issuance of  stock in lieu of cash                                               |       | 70,087     |       | —   |       |
| Loss on  retirement of furniture and equipment                                   |       | 2,435      |       | —   |       |
| Litigation settlement  financed by long term debt                                |       | 1,200,000  |       | —   |       |
| (Increase)  decrease in:                                                         |       |       |       |     |       |
| Accounts  receivable, net                                                        |       | (55,695    | )          | (75,792  | )          |
| Inventories                                                                      |       | (328,423   | )          | (14,306  | )          |
| Income taxes  receivable                                                         |       | (230,544   | )          | —   |       |
| Prepaid expenses                                                                 |       | (17,492    | )          | 16,670   |       |
| Long-term prepaid  expenses                                                      |       | 24,851     |       | 24,852   |       |
| Increase  (decrease) in:                                                         |       |       |       |     |       |
| Accounts payable                                                                 |       | 131,782    |       | 50,801   |       |
| Customer  deposits                                                               |       | 46,194     |       | (37,766  | )          |
| Accrued payroll  and other accrued liabilities                                   |       | (170,655   | )          | 141,442  |       |
|                                                                             |       |       |       |     |       |
| Net cash from  operating activities                                              |       | (538,001   | )          | 864,488  |       |
|                                                                             |       |       |       |     |       |
| Cash flows from  investing activities:                                           |       |       |       |     |       |
| Capital  expenditures                                                            |       | (251,328   | )          | (124,189 | )          |
| Purchase of  assets of Paranetics Technology, Inc.                               |       | (242,336   | )          | —   |       |
|                                                                             |       |       |       |     |       |
| Net cash from  investing activities                                              |       | (493,664   | )          | (124,189 | )          |
|                                                                             |       |       |       |     |       |
| Cash flows from  financing activities:                                           |       |       |       |     |       |
| Proceeds from  exercise of common stock warrants                                 |       | 812,500    |       | 562,500  |       |
| Proceeds from  exercise of common stock options                                  |       | 171,076    |       | 10,000   |       |
| Net proceeds  from borrowings under line of credit - bank                        |       | 204,715    |       | —   |       |
| Principal  payments on covenant not to compete                                   |       | (171,624   | )          | (40,560  | )          |
| Dividends paid                                                                   |       | (1,196,457 | )          | (820,177 | )          |
|                                                                             |       |       |       |     |       |
| Net cash from  financing activities                                              |       | (179,790   | )          | (288,237 | )          |
|                                                                             |       |       |       |     |       |
| Increase  (decrease) in cash and cash equivalents                                |       | (1,211,455 | )          | 452,062  |       |
| Cash and cash  equivalents - beginning of year                                   |       | 1,314,557  |       | 862,495  |       |
|                                                                             |       |       |       |     |       |
| Cash and cash  equivalents - end of year                                         |       | $          | 103,102    |     | $          | 1,314,557 |   |

 

Seenotes to consolidated financial statements.

 

F-27

----

 

**BallisticRecovery Systems, Inc. and Subsidiary**

**Notesto Consolidated Financial Statements**

**September30, 2005 and 2004**

 

**1.     Nature of Business**

 

Ballistic Recovery Systems, Inc. (the “Company”) designs, manufacturesand distributes rocket deployed whole-aircraft emergency parachute systems foruse on general aviation and recreational aviation aircraft. The emergencyparachute systems are intended for use in the event of an in-air emergency andare designed to bring down the entire aircraft and its occupants under theparachute canopy.  In the generalaviation market, the Company is currently producing and selling emergencyrecovery systems for four four-place general aviation aircraft, known as theCirrus Design SR20 (SR20) and SR22, and the Cessna 172 and 182.  The products for Cirrus Design were developedin a joint effort between the Company and Cirrus Design.  The Cirrus Design aircraft were certified bythe Federal Aviation Administration (FAA) in 1998 and 2000, respectively, andfeatures the Company’s parachutes as standard equipment.  In July 2002 and July 2004, respectively, theCompany received FAA approval for the Cessna 172 and 182 systems for theaftermarket.  In the recreationalaviation market, the Company sells products to several hundred differentaircraft designs that are categorized as ultralights and experimentalaircraft.  The Company’s products aresold both domestically and internationally.

 

**2.     Summary of SignificantAccounting Policies**

 

***Principles of Consolidation***

 

In September 2005, the Company formed its wholly-owned subsidiary, BRSde Mexico S.A. de C.V.  The consolidatedfinancial statements include the wholly-owned subsidiary.  All significant intercompany transactions andbalances have been eliminated in consolidation.

 

***Accounting Principles***

 

The consolidated financial statements and accompanying notes areprepared in accordance with accounting principles generally accepted in theUnited States of America.

 

***Useof Estimates***

 

Thepreparation of consolidated financial statements in conformity with accountingprinciples generally accepted in the United States of America requiresmanagement to make estimates and assumptions that affect certain reportedamounts of assets and liabilities and disclosure of contingent assets and liabilitiesat the date of the consolidated financial statements and the reported amountsof expenses during the reporting period. Actual results could differ from thoseestimates.

 

***Cash Concentrations***

 

Bankbalances exceeded federally insured levels during 2005 and 2004 and exceededfederally insured levels as of September 30, 2004.  Generally, these balances may be redeemedupon demand and therefore bear minimal risk.

 

***Cash and Cash Equivalents***

 

Short-terminvestments with an original maturity of three months or less are considered tobe cash equivalents and are stated at their fair value.

 

F-28

----

 

***Accounts Receivable, credit risk and allowance for doubtful accounts***

 

TheCompany sells its products to domestic and foreign companies.  The Company reviews customers’ credit historybefore extending unsecured credit and established an allowance for doubtfulaccounts based upon factors surrounding the credit risk of specific customersand other information.  The Company doesnot accrue interest on past due accounts receivable.  Unless specific arrangements have been made,accounts receivable over 30 days are considered past due. The Company writesoff accounts receivable when they are deemed uncollectible.  Accounts receivable are shown net of an allowancefor doubtful accounts of $10,000 at both September 30, 2005 and 2004.  The Company’s contract research anddevelopment projects are billed to its customers on an uncollateralized creditbasis.  The estimated loss that managementbelieves is probable is included in the allowance for doubtful accounts.  Due to uncertainties in the collectionprocess, however, it is at least reasonably possible that management’s estimatewill change during the next year, which cannot be estimated.

 

***Customer Concentration***

 

TheCompany had sales to one major customer, Cirrus Design, which represented 74.7%of the Company’s total sales for fiscal year 2005 and 73.9% of the Company’stotal sales for fiscal year 2004.  Thiscustomer also accounted for 90% (or $413,000) and 91% (or $325,000) of accountsreceivable at September 30, 2005 and 2004, respectively.  The Company supplies parachute systems toCirrus Design from the Company’s general aviation product line.

 

In itsrecreational aviation product line, the Company primarily distributes itsproducts through dealers and distributors who in turn sell the products to theend consumer.  The Company believes thatin the event that any individual dealers or distributors cease to represent theCompany’s products, alternative dealers or distributors can be established.

 

***Valuation of Inventories***

 

TheCompany’s inventories are stated at the lower of cost or market.  Cost is determined by the first-in, first-out(“FIFO”) method.  The Company maintains astandard costing system for inventories. Assumptions with respect to direct labor utilization, standard directand indirect cost rates, vendor pricing and utilization of factory capacitiesare formulated in the development of the standard costing system.  Sudden or continuing changes in the Company’sproduct markets could result in significant production variances from the standardrates.  These variances could directlyimpact gross profit performance and may cause variability in gross profitresults from reporting period to reporting period.  Labor and overhead rates are set forproduction rates that match typical market conditions.  Production variances are charged to cost ofsales each quarter as incurred.  Materialstandards are based upon normal purchase volumes.  Purchase price variances are charged to costof sales each quarter as incurred.

 

Provisionsto reduce inventories to the lower of cost or market are made based on a reviewof excess and obsolete inventories through an examination of historical componentconsumption, current market demands and shifting production methods.  Significant assumptions, with respect tomarket trends and customer product acceptance are utilized to formulate the provisionmethods.  Sudden or continuing downwardchanges in the Company’s product markets may cause the Company to recordadditional inventory revaluation charges in future periods.  No write-off provision was made toinventories for the years ended September 30, 2005 and 2004.

 

F-29

----

 

***Customer Deposits***

 

TheCompany requires order deposits from most of its domestic and internationalcustomers.  These deposits representeither partial or complete down payments for orders.  These down payments are recorded as customerdeposits.  The deposits are recognized asrevenue when the product is shipped.

 

***Income Taxes***

 

Differencesbetween accounting rules and tax laws cause differences between the bases ofcertain assets and liabilities for financial reporting purposes and tax purposes.  The tax effects of these differences, to theextent they are temporary, are recorded as deferred tax assets and liabilitiesunder Statement of Financial Accounting Standards No. (SFAS) 109.  Temporary differences relate primarily to: stockbased compensation; allowances for doubtful accounts; inventory valuationallowances; depreciation; valuation of warrants issued to a customer; netoperating loss; and accrued expenses not currently deductible. Deferred incometax assets are reduced by a valuation allowance to the extent that realizationof the related deferred tax asset is not assured.

 

***Furniture, Fixtures and Leasehold Improvements***

 

Furniture,fixtures and leasehold improvements are stated at cost. Depreciation iscomputed using the straight-line method over the estimated useful lives of therelated assets, ranging from three to seven years for equipment and ten yearsfor the airplane. When assets are retired or otherwise disposed of, the costand related accumulated depreciation are removed from the accounts and theresulting gain or loss is recognized in income for the period.  The cost of maintenance and repairs isexpensed as incurred; significant renewals and betterments are capitalized.Deduction is made for retirements resulting from renewals or betterments.  Leasehold improvements are amortized usingthe straight-line method over the shorter of the lease term, or the estimateduseful life of the assets.

 

***Goodwill***

 

TheCompany applies SFAS No. 142*, Goodwill and OtherIntangible Assets*related to the carrying amount of goodwill andother intangible assets.  Goodwill willbe tested for impairment annually in the fourth quarter or more frequently ifchanges in circumstances or the occurrence of events suggest an impairmentexists.  The Company has concluded thatno impairment of goodwill or other intangible assets exists as of September 30,2005.

 

***Intangibles***

 

Patentsare recorded at cost and are being amortized on a straight-line method over 17years.  The covenants not to compete are recordedat cost and are being amortized using the straight-line method over the terms ofthe agreement which range from two to fifteen years.  The weighted average life of the covenantsnot to compete is 2.5 years at September 30, 2005.

 

Componentsof intangible assets are as follows:

 
| ** **                                  | ** ** | **September 30, 2005** | ** ** | **September 30, 2004** | ** ** |
|---------------------------------------------|------------|------------------------|------------|------------------------|------------|
| ** **                                  | ** ** | **Gross Carrying**     | ** ** | **Accumulated**        | ** ** | **Gross Carrying** | ** ** | **Accumulated** | ** ** |
| ** **                                  | ** ** | **Amount**             | ** ** | **Amortization**       | ** ** | **Amount** | ** ** | **Amortization** | ** ** |
| Intangible  assets subject to amortization: |       |                   |       |                   |       |   |   |   |   |
|                                        |       |                   |       |                   |       |   |   |   |   |
| Patents                                     |       | $                      | 11,664     |                   | $          | 10,739 |   | $ | 11,664 |   | $ | 10,053 |   |
| Covenants not to  compete                   |       | $                      | 605,011    |                   | $          | 448,149 |   | $ | 379,438 |   | $ | 335,908 |   |

 

F-30

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Amortization expense of intangible assets was $112,927 and $36,206 forthe years ended September 30, 2005 and 2004, respectively.  Amortization expense is estimated toapproximate $122,326, $18,492, $8,854, $8,115 and $0 for the years endingSeptember 30, 2006, 2007, 2008, 2009 and 2010, respectively.

 

***Revenue Recognition***

 

The Company recognizes revenue in accordance with Securities andExchange Commission, Staff Accounting Bulletin No. 104, “Revenue Recognition”.  The Company recognizes revenue on productsales upon shipment to customers.

 

***Comprehensive Income***

 

SFAS No. 130 establishes standards for the reporting and disclosure ofcomprehensive income and its components, which will be presented in associationwith a company’s consolidated financial statements.  Comprehensive income is defined as the changein a business enterprise’s equity during a period arising from transactions,events or circumstances relating to non-owner sources, such as foreign currencytranslation adjustments and unrealized gains or losses on available-for-salesecurities.  It includes all changes inequity during a period except those resulting from investments by ordistributions to owners.  For the yearsended September 30, 2005 and 2004, net income (loss) and comprehensive income (loss)were equivalent.

 

***Fair Value of Financial Instruments***

 

SFAS No. 107, “Disclosures About Fair Value of Financial Instruments”requires disclosure of the estimated fair value of financial instruments asfollows:

 

Short-term Assets and Liabilities:

 

The fair values of cash and cash equivalents, accounts receivable,accounts payable, accrued liabilities, and short-term debt approximate theircarrying values due to the short-term nature of these financial instruments.

 

Long-term Debt and Covenants Not to Compete:

 

The fair value of long-term debtand covenants not to compete approximate their carrying value because the termsare equivalent to borrowing rates currently available to the Company for debtwith similar terms and maturities.

 

***Segment Reporting***

 

A business segment is adistinguishable component of an enterprise that is engaged in providing anindividual product or service or a group of related products or services andthat is subject to risks and returns that are different from those of otherbusiness segments. The Company’s segments have

 

F-31

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similar economiccharacteristics and are similar in the nature of the products sold, type ofcustomers, methods used to distribute the Company’s products and regulatoryenvironment.  Management believes thatthe Company meets the criteria for aggregating its operating segments into asingle reporting segment.

 

***Stock-Based Compensation***

 

SFASNo. 123, *Accounting for Stock-BasedCompensation* (“SFAS 123”), provides for the use of a fair valuebased method of accounting for employee stock compensation.  However, SFAS 123 also allows an entity tocontinue to measure compensation cost for stock options granted to employeesusing the intrinsic value method of accounting prescribed by AccountingPrinciples Board Opinion No. 25, *Accountingfor Stock Issued to Employees* (“APB 25”) and related interpretations,which only requires charges to compensation expense for the excess, if any, ofthe fair value of the underlying stock at the date a stock option is granted(or at an appropriate subsequent measurement date) over the amount the employeemust pay to acquire the stock*,* ifsuch amounts differ materially from historical amounts.  The Company has elected to continue toaccount for employee stock options using the intrinsic value method under APB25.  By making that election, it isrequired by SFAS 123 and SFAS 148, “Accounting for Stock-Based Compensation –Transition and Disclosure” to provide pro forma disclosures of net income (loss)and earnings (loss) per share as if a fair value based method of accounting hadbeen applied.

 

Hadcompensation costs been determined in accordance with the fair value methodprescribed by SFAS No. 123 for all options issued to employees andamortized over the vesting period, the Company’s net income (loss) applicableto common shares and earnings (loss) per common share (basic and diluted) forplan options would have been decreased to the pro forma amounts indicatedbelow.  

 

| ** **                                | ** ** | **Fiscal Year ended  September 30,** | ** ** |
|-------------------------------------------|------------|--------------------------------------|------------|
| ** **                                | ** ** | **2005**                             | ** ** | **2004** | ** ** |
| Net Income (loss):                        |       |                                 |       |   |   |
| As reported                               |       | $                                    | (1,119,764 | ) | $ | 301,474 |   |
| Pro forma                                 |       | $                                    | (1,119,764 | ) | $ | 301,474 |   |
|                                      |       |                                 |       |   |   |
| Basic earnings (loss) per common share:   |       |                                 |       |   |   |
| As reported                               |       | $                                    | (0.15      | ) | $ | 0.05 |   |
| Pro forma                                 |       | $                                    | (0.15      | ) | $ | 0.05 |   |
|                                      |       |                                 |       |   |   |
| Diluted earnings (loss) per common share: |       |                                 |       |   |   |
| As reported                               |       | $                                    | (0.15      | ) | $ | 0.04 |   |
| Pro forma                                 |       | $                                    | (0.15      | ) | $ | 0.04 |   |
|                                      |       |                                 |       |   |   |
| Stock based compensation:                 |       |                                 |       |   |   |
| As reported                               |       | $                                    | 69,206     |   | $ | 474,481 |   |
| Pro forma                                 |       | —                               |       | — |   |

 

F-32

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No options were granted or vested during fiscal years2005 and 2004.

 

***Earnings (loss) per Common Share***

 

Basic earnings (loss) percommon share is computed by dividing net income (loss) by the weighted averagenumber of common shares outstanding during the period.  Diluted earnings (loss) per common share iscomputed by dividing net income (loss) by the weighted average number of commonshares outstanding plus all additional common stock that would have beenoutstanding if potentially dilutive common stock related to stock options andwarrants had been issued.  Weightedaverage shares outstanding-diluted includes 0 and 333,249 shares of dilutivesecurities for the years ended September 30, 2005 and 2004, respectively.  The stock based compensation in fiscal 2005related to a modification of stock options and in fiscal 2004 related tonon-employee warrants.

 

Following is areconciliation of basic and diluted earnings (loss) per common share for fiscalyears ended September 30, 2005 and 2004, respectively:

 

| ** **                                                        | ** ** | **Fiscal Year ended  September 30,** | ** ** |
|-------------------------------------------------------------------|------------|--------------------------------------|------------|
| ** **                                                        | ** ** | **2005**                             | ** ** | **2004** | ** ** |
| Earnings (loss) per common share – basic:                    |       |                                 |       |   |   |
|                                                              |       |                                 |       |   |   |
| Net income  (loss)                                                |       | $                                    | (1,119,764 | ) | $ | 301,474 |   |
|                                                              |       |                                 |       |   |   |
| Weighted average  shares outstanding                              |       | 7,320,328                            |       | 6,577,281 |   |
|                                                              |       |                                 |       |   |   |
| Earnings (loss)  per common share – basic                    |       | $                                    | (0.15      | ) | $ | 0.05 |   |
|                                                              |       |                                 |       |   |   |
| Earnings (loss) per common share – diluted:                  |       |                                 |       |   |   |
|                                                              |       |                                 |       |   |   |
| Net income  (loss)                                                |       | $                                    | (1,119,764 | ) | $ | 301,474 |   |
|                                                              |       |                                 |       |   |   |
| Weighted average  shares outstanding                              |       | 7,320,328                            |       | 6,577,281 |   |
| Common stock  equivalents                                         |       | 0                                    |       | 333,249 |   |
|                                                              |       |                                 |       |   |   |
| Weighted average  shares and potential diluted shares outstanding |       | 7,320,328                            |       | 6,910,530 |   |
|                                                              |       |                                 |       |   |   |
| Earnings (loss)  per common share – diluted                  |       | $                                    | (0.15      | ) | $ | 0.04 |   |

 

The Company uses thetreasury method for calculating the dilutive effect of the stock options andwarrants (using the average market price).

 

In the year ended September30, 2005, 150,000 options were excluded from the computation of diluted lossper share since their effect was anti-dilutive with the current year loss.

 

No options were excluded from the computation of diluted earnings pershare for the year ended September 30, 2004.

 

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***Recently Issued Accounting Pronouncements***

 

In November 2004, theFinancial Accounting Standards Board (FASB) issued SFAS No. 151 “InventoryCosts,” (SFAS No. 151) which amends the guidance in ARB No. 43 (ARB 43),Chapter 4 “Inventory Pricing,” to clarify the accounting for abnormal amountsof idle facility expense, freight, handling costs, and wasted material(spoilage).  Paragraph 5 of ARB 43,Chapter 4, previously stated that under some circumstances, items such as idlefacility expense, excessive spoilage, double freight, and rehandling costs maybe so abnormal as to require treatment as current period charges.  SFAS No. 151 requires that those items berecognized as current-period charges regardless of whether they meet thecriterion of “so abnormal.”  In addition,SFAS No. 151 requires that allocation of fixed production overheads to thecosts of conversion be based on the normal capacity of the productionfacilities.  SFAS No. 151 shall beeffective for inventory costs incurred during fiscal years beginning after June15, 2005.  Earlier application ispermitted for inventory costs incurred during fiscal years beginning after thedate SFAS No. 151 was issued.  SFAS No.151 shall be applied prospectively.  TheCompany does not expect the adoption of SFAS No. 151 to have a material effecton its consolidated financial statements.

 

In December 2004, FASBissued SFAS No. 153 “Exchanges of Nonmonetary Assets” (SFAS No. 153) which amendsAPB Opinion No. 29, “Accounting for Nonmonetary Transactions.” APB No. 29 isbased on the principle that exchanges of nonmonetary assets should be measuredbased on the fair value of the assets exchanged.  The guidance in that Opinion, however,included certain exceptions to that principle. SFAS No. 153 amends APB No. 29 to eliminate the exception fornonmonetary exchanges of similar productive assets and replaces it with ageneral exception for exchanges of nonmonetary assets that do not havecommercial substance.  A nonmonetaryexchange has commercial substance if the future cash flows of the entity areexpected to change significantly as a result of the exchange.  SFAS No. 153 will be effective fornonmonetary asset exchanges occurring in fiscal periods beginning after June15, 2005.  Earlier application ispermitted for nonmonetary asset exchanges occurring in fiscal periods beginningafter the date SFAS No. 153 was issued. SFAS No. 153 shall be applied prospectively.  The Company does not expect the adoption ofSFAS No. 153 to have a material effect on its consolidated financial statements.

 

In December 2004, FASBissued SFAS No. 123 (revised 2004), “Share-Based Payment,” (SFAS No. 123R) thatfocuses primarily on accounting for transactions in which an entity obtainsemployee services in shared-based payment transactions.  This statement replaces SFAS No. 123, “Accountingfor Stock-Based Compensation,” and supersedes APB Opinion No. 25, “Accountingfor Stock issued to Employees.” Beginning October 1, 2006, we will be required to expense the fair valueof employee stock options and similar awards. As a public company we are allowed to select from two alternativetransition methods, each having different reporting implications.  The impact of SFAS No. 123R has not beendetermined at this time.

 

In June 2005, FASB issuedSFAS No. 154, “Accounting Changes and Error Corrections”, a replacement of APBOpinion No. 20 and FASB Statement No. 3. The statement applies to all voluntary changes in accounting principle,and changes the requirements for accounting for and reporting of a change inaccounting principle.  SFAS No. 154requires retrospective application to prior periods’ consolidated financialstatements of a voluntary change in accounting principle unless it isimpracticable.  SFAS No. 154 is effectivefor accounting changes and corrections of errors made in fiscal years beginningafter December 15, 2005.  Earlierapplication is permitted for accounting changes and corrections of errors madeoccurring in fiscal years beginning after June 1, 2005.  The statement does not change the transitionprovisions of any existing accounting pronouncements, including those that arein a transition phase as of the effective date of this statement.  The Company

 

F-34

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does not expect the adoptionof SFAS No. 154 to have a material effect on its consolidated financialstatements.

 

***Research and Development Costs***

 

Research and development costs are charged to expense as incurred.

 

***Advertising Expenses***

 

Non-direct response advertising expenses are recognized in the periodincurred.  Non-direct responseadvertising expenses totaled $40,805 in 2005 and $45,399 in 2004.

 

***Legal Costs***

 

The Company expenses itslegal costs as incurred.

 

***Shipping and Handling Costs***

 

The Company records amountsbeing charged to customers for shipping and handling as sales and costsincurred in cost of sales.

 

**3.     New Product Development,Research and Development Funding and Income Recognition**

 

In 1994, the Company entered into an agreement with Cirrus Design, aprivately held company that began development and certification of a four-placeall composite general aviation aircraft. The FAA certified the aircraft, known as the Cirrus Design SR20, onOctober 23, 1998.  This was the first FAAcertified aircraft to offer one of the Company’s recovery systems as requiredstandard equipment.  The Company begandelivering systems for the SR20 in fiscal year 1999.  During fiscal year 2000, Cirrus Design begandevelopment and certification efforts for their next generation aircraft calledthe SR22.  The SR22 is a heavier andfaster version of the SR20 and utilizes much of the same parachute technologydeveloped for the SR20.  The SR22 receivedFAA certification in November 2000 and was certified with the Company’sparachute system as a standard equipment component of the aircraft.  Deliveries of SR22 parachute systems by the Company began inDecember 2000.  The SR22 became the third of the Company’s productsto have received FAA certification (the BRS-150 and SR20 products beingthe others).  For fiscal year 2005, 74.7% of the Company’stotal revenues were generated from sales to Cirrus Design.

 

In fiscal year 2001 the Company began development of a parachute systemfor the Cessna 172 model aircraft. During fiscal year 2001, the Company received $200,000 in funding from athird party investor, which took the form of equity and project specificfunding, to develop and test such a recovery system.  The development and testing was completed infiscal year 2002 and the Company received FAA certification for the BRS-172recovery system in July 2002.  TheCompany made its first customer delivery in September 2002 with 14 totalsystems installed through the end of fiscal year 2005.

 

Near the end of fiscal year 2004, the Company finalized development ofa parachute recovery system for the Cessna 182 model aircraft, which is calledthe BRS-182.  The system utilizes many ofthe same components used in the recovery systems for the Cirrus aircraft modelsand the Cessna 172.  The Company receivedthe Supplemental Type Certificate or STC from the FAA on June 25, 2004.

 

F-35

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This STC allows the product to be installed on certified Cessna 182series aircraft.  The first customerdelivery and installation was completed in July 2004.  The Company sales and marketing efforts haveresulted in the sale and delivery of 20 BRS-182 units through the end of fiscalyear 2005.

 

Recreational aviation products include products designed andmanufactured for use on unregistered aircraft such as ultralights and aircraftregistered with the FAA as experimental. Like the general aviation product, these recreational aviation productsare designed to prevent or reduce bodily injury to the human occupant.  The Company manufactures these products andsells them directly to individuals and through dealers and distributors whoalso market and sell the aircraft and related products.  The Company currently works withapproximately 30 dealers and distributors worldwide.  Sales to international customers accounted for48.0% and 45.0% of recreational aviation product sales for the years endedSeptember 30, 2005 and 2004, respectively.

 

New Federal Light Sport Aircraft (LSA) regulations were approved onDecember 24, 2004 regulating airplanes that weigh less than 1,320 lbs.  Management believes that these regulationsmay positively affect the Company’s future recreational aviation product sales ifLSA sales increase in the United States as a result of these regulatory changesand the Company develops and manufactures compatible products.

 

Many LSA aircraft were developed around existing eastern Europeanaircraft designs, some of which, but not all, have a BRS installation.  The LSA category currently has 14 approvedairplane types and the Company is in development of installation designs forseveral of these aircraft.  While theCompany has developed solid relationships with US-based distributors andmanufacturers of LSA aircraft, our relationships with European manufacturersneeds to be improved.  Flight Design CTof Germany has contracted to add BRS systems on every US-delivered airplane asstandard equipment.  No assurances can begiven that these new regulations will have a positive impact on sales of theCompany’s recreational aircraft products or that the European manufacturerswill accept the Company’s design suggestions.

 

The Company has implemented plans to expand market penetration for thedomestic market for recreational aircraft products with the restructuring ofits distribution network and adjusting pricing schedules.  However the recreational aircraft market hasbeen affected by the delay in implementing the LSA regulations.  If the Company completes LSA installationdesigns in a timely fashion on the more successful LSA aircraft, the Companyexpects increased sales due to incremental unit volume.  No assurances can be made that such plans, ifimplemented, will have a material impact on the Company’s recreational aircraftproduct sales.

 

Contract research and development has allowed the Company to expand itsproduct line and expertise in whole-aircraft recovery systems. It has been andwill continue to be a goal of the Company to receive outside funding for itsresearch and development activities to supplement its own financial commitment.  No assurance can be made that research anddevelopment expenditures will be funded by third parties.

 

**4.     Purchase and SupplyAgreement**

 

On September 17, 1999, the Company entered into a Purchase andSupply Agreement with Cirrus, the manufacturer of the SR20 and SR22 aircraftthat utilize the Company’s parachute system as standard equipment.  Underthe Agreement, Cirrus was issued four warrants to acquire an aggregate of up to1.4 million shares of unregistered Company common stock.  In order toexecute the warrants, Cirrus

 

F-36

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was required to meet certain purchase levels of the Company’s emergencyparachute systems for the SR20, SR22 and derivative aircraft over thesubsequent five years. Cirrus met their minimum purchase commitment forthe first warrant period, but did not exercise the warrant to purchase 250,000shares of common stock which expired on February 28, 2003. Cirrus mettheir minimum purchase commitment for warrant periods two and three, andexercised warrants to purchase an aggregate of 500,000 shares of common stockon February 29, 2004, for an aggregate exercise price of $562,500.  Cirrus met their minimum purchase commitmentfor warrant period four in 2004 and exercised a warrant for 650,000 shares ofcommon stock on February 23, 2005 for an aggregate exercise price of$812,500.  Cirrus currently owns 14.96%,of the outstanding shares of BRS common stock.

 

Pursuant to Emerging Issues Task Force (EITF 96-18), “Accounting forEquity Instruments that are Issued to Other Than Employees for Acquiring, or inConjunction with Selling Goods or Services,” and EITF 01-9, “Accounting forConsideration Given by a Vendor to a Customer (Including a Reseller of theVendor’s Products)” the Company recorded a reduction in sales related to thewarrants earned by Cirrus during fiscal year 2004. The warrant relating to thefourth period was earned and exercisable at June 2004, and therefore noreductions in sales were necessary for fiscal year 2005.  Sales were reduced by $474,831 for the yearended September 30, 2004.

 

**5.     Covenants Not to Compete**

 

On October 26, 1995 the Company entered into an agreement with thepresident and majority shareholder of Second Chantz Aerial Survival Equipment,Inc. (SCI), whereby SCI ceased all business activities, and SCI’s president andmajority shareholder entered into a ten-year covenant not to compete with theCompany.  The payments required under this agreement contained anon-interest-bearing portion and a portion that bears interest at a rate belowthe Company’s incremental borrowing rate.  Under generally acceptedaccounting principles the future payments were discounted at the Company’sincremental borrowing rate.  The 4% tenyear note calls for monthly payments of $4,036 through October 2005. Payments under this agreement are unsecured.

 

On August 16, 2004, the Company extended the non-compete period by fiveadditional years in exchange for the exercise of stock options held by SCI’spresident under a stock subscription agreement backed by a promissorynote.  The note had a principal sum of$12,500 together with aggregate interest on the unpaid principal balance of$2,500.  Payments under the note beginJuly 1, 2005 and continue monthly with a final maturity date of October 1,2005.  The present value of the Company’sobligation under this agreement was recorded as an intangible asset and isbeing amortized over a range of two to 15 years as shown in the accompanying consolidatedfinancial statements.

 

On October 14, 2004, the Company and Mr. Mark Thomas entered into aResignation, Consulting, Non-Competition and General Release Agreement (the “ResignationAgreement”) in connection with Mr. Thomas’ resignation as Chief ExecutiveOfficer, Chief Financial Officer, President, and as a director of theCompany.  Pursuant to the terms of theResignation Agreement, Mr. Thomas resigned such offices effective October 14,2004.

 

Mr. Thomas agreed, for a two year period, not to 1) call on or solicitCompany customers, 2) directly or indirectly, become employed by, consult with,manage, own or operate any business engaged in the design, manufacturing,marketing or distribution of (i) emergency parachute recovery systems forrecreational, general and commercial aviation aircraft and unmanned aircraft or(ii) general aviation

 

F-37

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aircraft.  Mr. Thomas also agreednot to divulge any trade secrets or confidential information regarding theCompany.  In exchange for suchResignation Agreement, the Company agreed to pay Mr. Thomas an aggregate of$230,000; $60,000 of which was paid 15 days after execution of the Agreementand $170,000 of which would be paid over a 24 month period ($7,083 per month)during the compliance of Mr. Thomas’ non-competition /non-disclosurerequirements.  The present value of theCompany’s obligation under this agreement was recorded as an intangible assetand is being amortized over two years as shown in the accompanying consolidatedfinancial statements.

 

Future payments under theseagreements are as follows:

 
| **Fiscal Year** | ** ** | **Future Dollars** | ** ** | **Present Dollars** | ** ** |
|-----------------|------------|--------------------|------------|---------------------|------------|
| 2006            |       | $                  | 89,036     |                | $          | 87,672 |   |
| 2007            |       | 7,083              |       | 7,068               |       |
|            |       | $                  | 96,119     |                | $          | 94,740 |   |

 

**6.     Other Financial Information**

 

Inventories

 

The components of inventory consist of the following at September 30:

 
| ** **        | ** ** | **2005** | ** ** | **2004** | ** ** |
|-------------------|------------|----------|------------|----------|------------|
| Raw materials     |       | $        | 1,162,175  |     | $          | 778,707 |   |
| Work in process   |       | 252,225  |       | 325,561  |       |
| Finished goods    |       | 46,519   |       | 28,228   |       |
| Total inventories |       | $        | 1,460,919  |     | $          | 1,132,496 |   |

 

Furniture,Fixtures and Leasehold Improvements

 

Furniture,fixtures and leasehold improvements consisted of the following categories atSeptember 30:

 
| ** **                     | ** ** | **2005** | ** ** | **2004** | ** ** |
|--------------------------------|------------|----------|------------|----------|------------|
| Office furniture and equipment |       | $        | 293,930    |     | $          | 237,587 |   |
| Manufacturing equipment        |       | 383,078  |       | 260,307  |       |
| Airplane                       |       | 265,467  |       | 93,873   |       |
| Total fixed assets             |       | $        | 942,475    |     | $          | 591,767 |   |

 

Depreciation Expense

 

Depreciation expense totaled $101,790 in 2005 and $85,126 in 2004.

 

Long-Lived Assets

 

In accordance with SFAS 144, Accounting For The Impairment OfLong-Lived Assets And For Long-Lived Assets To Be Disposed Of, the Companyreviews its long-lived assets and intangibles related to those assetsperiodically to determine potential impairment by comparing the carrying valueof the long-lived

 

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assets outstanding with estimated future cash flows expected to resultfrom the use of the assets, including cash flows from disposition.  Should the sum of the expected future cashflows be less than the carrying value, the Company would recognize animpairment loss.  An impairment losswould be measured by comparing the amount by which the carrying value exceedsthe fair value of the long-lived assets and intangibles.  To date, management has determined that noimpairment of long-lived assets exists.

 

Other Accrued Liabilities

 

Other accrued liabilities consisted of the following categories atSeptember 30:

 
| ** **                            | ** ** | **2005** | ** ** | **2004** | ** ** |
|---------------------------------------|------------|----------|------------|----------|------------|
| Bonus and Profit Sharing Plan Accrual |       | $        | 44,530     |     | $          | 132,733 |   |
| Income Tax Accrual                    |       | —   |       | 182,602  |       |
| Contingency Accrual                   |       | 80,000   |       | —   |       |
| Other Miscellaneous Accruals          |       | 59,340   |       | 27,300   |       |
|                                  |       | $        | 183,870    |     | $          | 342,635 |   |

 

Export Sales

 

The Company’s international sales are made through independentrepresentatives in various foreign countries. International sales as a percentage of total sales were 9.6% in 2005 and9.8% in 2004.

 

Major Suppliers

 

During the years ended September 30, 2005 and 2004, the Companypurchased its parachutes from a certain key vendor. The Company manufacturesits own ballistic devices, but the propellant for the ballistic devices ispurchased from a single source.  InAugust 2004, the Company signed a three-year supply agreement with extensionswith its propellant supplier.  The Companyroutinely searches for new suppliers and feels alternate sources can be foundshould any of these suppliers be unable to meet the Company’s needs.

 

Related Parties

 

Through December 2003, the Company contracted with anofficer/shareholder of the Company to coordinate its advertising.  At a future date the arrangement wascancelled.  Total advertising expenseswere $45,399 for fiscal year 2004, with $15,100 of this total being paid tothis individual.  There were nooutstanding balances due to this related party as of September 30, 2004.  The Company did not incur any expenses tothis related party during the year ended September 30, 2005.

 

Effective as of November 19, 2004, the Company entered into aConsulting Agreement with Mr. Boris Popov, a director of the Company, pursuantto which Mr. Popov would provide certain consulting services relating to theCompany’s new product development. Pursuant to this agreement, the term of which is six months, Mr. Popovis required to provide a minimum of 64 hours of service per month for $3,200per month and shall be paid an additional $50 per hour for each hour over the64 hour minimum.  On March 16, 2005 theCompany extended this agreement for 12 additional months.  Consulting expenses for Mr. Popov were $21,162for the year ended September 30, 2005.

 

Also effective as of November 19, 2004, the Company entered into aConsulting Agreement with Mr. Thomas H. Adams, Jr.,

 

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a director of the Company, pursuant to which Mr. Adams would providecertain consulting and advisory services to the Company relating to aftermarket business development of the Company’s products.  Pursuant to this agreement, the term of whichwas six months, Mr. Adams was required to provide a minimum of 50 hours ofservices per month for $2,500 and shall be paid an additional $50 per hour foreach hour over the 50 hour minimum.  OnMarch 16, 2005 the Company extended this agreement for three months.  Consulting expenses for Mr. Adams were$10,323 for the year ended September 30, 2005. This agreement has expired.

 

Also effective as of November 19, 2004, the Company entered into anInterim Services Agreement with Robert L. Nelson, the Company’s Chairman of theBoard, Chief Executive Officer, President and Chief Financial Officer, inconnection with his consulting services as interim Chief Executive Officer,Chief Financial Officer and President while the Company pursued a candidate tofill those positions on a permanent basis. The term of this agreement was three months, with an automatic renewalof three months unless otherwise agreed to in writing.  Mr. Nelson received $11,000 per month as afee for his services during this Agreement. Effective March 16, 2005, Mr. Nelson’s payment under this agreement wascontinued at $4,000 per month and this agreement was extended an additional twomonths.  Consulting expenses for Mr.Nelson were $49,000 for the year ended September 30, 2005.  This agreement has expired.

 

For all such agreements, the fees paid were and will be in addition toand independent of any fees or compensation owed to such directors in theircapacity as non-employee directors.

 

Profit Sharing Plan

 

The Company adopted a pre-tax salary reduction plan, under theprovisions of Section 401(k) of the Internal Revenue Code, in fiscal year 2000,which covers its full-time employees over age 21.  The Company will match 25% of the first 4%contributed by the employee.  Company matchcontributions made for the years ended September 30, 2005 and 2004, respectively,were $11,336 and $11,514.  The Companycan also make discretionary profit sharing contributions.  Company contributions made at the discretionof management and the board of directors for the years ended September 30, 2005and 2004, respectively, were $0 and $55,349.

 

Product Warranties

 

The Company offers its customers up to a one-year warranty on itsproducts.  The warranty covers onlymanufacturing defects, which will be replaced or repaired by the Company at nocharge to the customer.  To date, theCompany has not had any material claims against its products.  The Company has not recorded an accrual forpossible warranty claims and believes that the product warranties as offeredwill not have a material effect on the Company’s financial position, results ofoperations or cash flows.

 

Backlog of Orders

 

As of September 30, 2005 and 2004, the Company had a backlog of orderstotaling approximately $940,000 and $1,842,000, respectively.  The backlogs included over $850,000 and $1.6million of orders for the Cirrus Design aircraft for both periods,respectively.  This decrease in backlogis related to the timing of the receipt of purchase orders from Cirrus withrespect to the Company’s fiscal year end and is unrelated to the volume ofthose orders received or anticipated on-going volumes from Cirrus.  The 2005 backlog is expected to be filledwithin 12 months.  Due to the backlogperiod involved, however, it is possible that there could be cancellations of aportion of the currently

 

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backlogged orders.  The Companyexpects to fund the build out and sale of the backlogged orders through cashflow provided by the sale of those orders. The Company cautions investorswho may utilize published bookings and backlog information as tools to forecastthe Company’s revenue during a given timeframe since certain purchase ordersmay be subject to cancellation and/or delivery schedule revision.

 

**7.     Line-of Credit Borrowings**

 

The Company has a $500,000 line-of-credit with a bank on an annualrenewal basis and is collateralized by all of the Company’s assets.  The current line-of-credit expires March 6,2006.  The line calls for a variableinterest rate of 6.97% at September 30, 2005. At September 30, 2005, there was an outstanding balance of $204,715under the line of credit.  At September30, 2004, there was no outstanding balance under the line of credit.  The Company expects to renew the line eachyear following the review of its financial results and projections with thebank.

 

**8.   Long-Term Debt**

 

In 2005, a jury awarded damages to Parsons and Aerospace Marketing inthe combined amount of approximately $3.4 million for breach of contract. BRSsettled this matter directly with Parsons and Aerospace on September 19, 2005by agreeing to pay $1.9 million pursuant to terms described in the settlementagreement.  An initial payment of $700,000 plus interest was made onSeptember 19, 2005.  The remainder of the settlement amount will be paidby BRS over a term of 8 years, although BRS has the right topre-pay remaining amounts due at any time.  The terms of the agreements’ contain certainfinancial covenants.  The Company was incompliance with all financial covenants as of September 30, 2005.

 

The components of long-term debt consist of the following at September30:

 
| ** **                                                                                                                                                                                                                                                                                         | ** ** | **2005**  | ** ** | **2004** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------|------------|----------|------------|
| Note payable – Parsons, principal and interest  payments due in monthly installments of $17,281 including interest at 6.5%,  through September 2010, collateralized by substantially all assets of the  Company                                                                               |       | $         | 880,000    |     | $          | — |   |
| Note payable – Parsons, interest only payments at  6.5% through September 2010, then principal and interest payments due in  monthly installments of $9,808 including interest at 6.5%, from October 2010  through September 2013, collateralized by substantially all assets of the  Company |       | 320,000   |       | —   |       |
| Total long-term  debt                                                                                                                                                                                                                                                                              |       | 1,200,000 |       | —   |       |
| Less: current  portion                                                                                                                                                                                                                                                                             |       | 153,951   |       | —   |       |
| Long-term debt,  net of current portion                                                                                                                                                                                                                                                            |       | $         | 1,046,049  |     | $          | — |   |

 

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Future minimum payments required at September 30, 2005 are as follows:

 

| **Fiscal Year**     | ** ** | **Amount** | ** ** |
|---------------------|------------|------------|------------|
| 2006                |       | $          | 153,951    |   |
| 2007                |       | 164,262    |       |
| 2008                |       | 175,263    |       |
| 2009                |       | 187,000    |       |
| 2010                |       | 199,524    |       |
| 2011 and thereafter |       | 320,000    |       |
|                |       | $          | 1,200,000  |   |

**9.****             ****Income Taxes**

 

At September 30, 2005 and2004, the Company had $2,051,683 and $0 in net operating loss carryforwardswhich will expire in 2025.  The provisionfor income taxes consisted of the following components for the years endedSeptember 30:

 
| ** **                                                                                 | ** ** | **2005**   | ** ** | **2004** | ** ** |
|--------------------------------------------------------------------------------------------|------------|------------|------------|----------|------------|
| Current:                                                                                   |       |       |       |     |       |
| Federal                                                                                    |       | $          | (242,300   | )        | $          | 283,000 |   |
| State                                                                                      |       | (26,000    | )          | 54,000   |       |
| Deferred                                                                                   |       | (1,204,700 | )          | (138,700 | )          |
| Tax benefit of  stock option and warrant exercises, credited to additional paid-in capital |       | 830,000    |       | —   |       |
|                                                                                       |       | $          | (643,000   | )        | $          | 198,300 |   |

 

The tax benefit of $830,000noted above, relates to compensation expense for tax purposes in excess ofamounts recognized for financial reporting purposes.

 

Components of net deferred income taxes areas follows at September 30:

 
| ** **                                                          | ** ** | **2005**  | ** ** | **2004** | ** ** |
|---------------------------------------------------------------------|------------|-----------|------------|----------|------------|
| Deferred income tax assets:                                         |       |      |       |     |       |
| Amortization                                                        |       | $         | 24,700     |     | $          | 10,000 |   |
| Allowance for doubtful accounts                                     |       | 4,000     |       | 4,000    |       |
| Vacation accruals                                                   |       | 24,200    |       | 23,000   |       |
| Asset valuation reserves                                            |       | 39,600    |       | 40,000   |       |
| Warrants related to purchase and supply agreement – see note 4 |       | —    |       | 146,700  |       |
| Net Operating Losses                                                |       | 729,700   |       | —   |       |
| Legal Settlement Accruals                                           |       | 510,000   |       | —   |       |
| Income Tax Credits                                                  |       | 115,000   |       | —   |       |
| Other accruals                                                      |       | —    |       | 2,000    |       |
| Inventory Section 263 adjustment                                    |       | 36,200    |       | 40,000   |       |
|                                                                |       | 1,483,400 |       | 265,700  |       |
| Deferred income tax liabilities - depreciation                      |       | (26,000   | )          | (13,000  | )          |
| Net deferred income tax assets                                      |       | $         | 1,457,400  |     | $          | 252,700 |   |

 

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Reconciliation between thestatutory rate and the effective tax rate for the years ended September 30, isas follows:

 
| ** **                          | ** ** | **2005** | ** ** | **2004** | ** ** |
|-------------------------------------|------------|----------|------------|----------|------------|
| Federal statutory tax rate          |       | (34.0    | )%         | 34.0     | %          |
| State taxes, net of federal benefit |       | (6.3     | )          | 6.4      |       |
| Other                               |       | 3.8      |       | (0.7     | )          |
| Effective tax rate                  |       | (36.5    | )%         | 39.7     | %          |

 

**10.  Shareholders’ Equity**

 

Common Stock

 

During the year ended September 30, 2005, the Company issued 31,150 registeredshares of common stock at $2.25 per share (the stock trading price on the dateof issuance) for services rendered valued at $70,087.

 

Stock Options

 

In March 2004, the shareholders at their annual meeting approved the2004 Stock Option Plan (the 2004 Plan), which provides for the granting of upto 600,000 options to officers, directors, employees and consultants for thepurchase of stock.  No grants were madeunder this plan in fiscal years 2005 and 2004.

 

Stock option activity for the years ended September 30, 2005 and 2004is as follows:

 
| ** **                                    | ** ** | **Number of  Shares** | ** ** | **Option Price Range per  Share** | ** ** |
|-----------------------------------------------|------------|-----------------------|------------|-----------------------------------|------------|
| Balance at September 30, 2003                 |       | 426,250               |       | $0.25 to $1.38                    |       |
|                                          |       |                  |       |                              |       |
| Granted during fiscal year 2004               |       | —                |       | —                            |       |
| Converted to stock under cashless transaction |       | (35,000               | )          | $0.50 to $0.69                    |       |
| Options exercised                             |       | (71,250               | )          | $0.25 to $0.50                    |       |
| Expirations                                   |       | (10,000               | )          | $                                 | 0.44       |   |
|                                          |       |                  |       |                              |       |
| Balance at September 30, 2004                 |       | 310,000               |       | $0.44 to $1.38                    |       |
|                                          |       |                  |       |                              |       |
| Granted during fiscal year 2005               |       | —                |       | —                            |       |
| Converted to stock under cashless transaction |       | —                |       | —                            |       |
| Options exercised                             |       | (160,000              | )          | $0.44 to $1.38                    |       |
| Expirations                                   |       | —                |       | —                            |       |
|                                          |       |                  |       |                              |       |
| Balance at September 30, 2005                 |       | 150,000               |       | $0.91 to $1.38                    |       |
|                                               |            |                       |            |                                   |            |  |

 

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| Weighted average fair value of options granted  during fiscal year 2005 |   | —  |   |   |   |
|-------------------------------------------------------------------------|--------|---------|--------|--------|--------|
|                                                                    |   |    |   |   |   |
| Weighted average fair value of options granted  during fiscal year 2004 |   | —  |   |   |   |
|                                                                    |   |    |   |   |   |
|                                                                    |   |    |   |   |   |
| At September 30, 2005:                                                  |   |    |   |   |   |
| Options vested and exercisable                                          |   | 150,000 |   |   |   |
| Shares available for options                                            |   | 600,000 |   |   |   |
|                                                                    |   |    |   |   |   |
| At September 30, 2004:                                                  |   |    |   |   |   |
| Options vested and exercisable                                          |   | 310,000 |   |   |   |
| Shares available for options                                            |   | 600,000 |   |   |   |

 

The following tables summarize information about stock options outstandingand exercisable as of September 30, 2005:

 
| **Options Outstanding and Exercisable** | ** ** |
|-----------------------------------------|------------|
| ** **                              | ** ** | ** ** | ** ** | **Weighted-Average** | ** ** | **Weighted-Average** | ** ** |
| ** **                              | ** ** | **Number** | ** ** | **Remaining** | ** ** | **Exercise** | ** ** |
| **Exercise Price**                      | ** ** | **Outstanding** | ** ** | **Contractual Life** | ** ** | **Price** | ** ** |
|                                    |       |   |   |   |   |   |   |
| $0.91                                   |       | 45,000 |   | 0.46 |   | $ | 0.91 |   |
| $1.05                                   |       | 60,000 |   | 2.46 |   | $ | 1.05 |   |
| $1.38                                   |       | 45,000 |   | 1.46 |   | $ | 1.38 |   |
|                                    |       |   |   |   |   |   |   |
| $0.91 to $1.38                          |       | 150,000 |   | 1.57 |   | $ | 1.11 |   |

 

StockWarrants

 

On February 23, 2005 Cirrus Design exercised its warrant to purchase650,000 shares of common stock pursuant to the Purchase and Supply Agreementdated September 17, 1999.  The exerciseprice related to this warrant was $1.25 per share for total consideration of$812,500.  There are no warrantsoutstanding as of September 30, 2005.

 

**11.  Acquisitions**

 

In September 2005, the Company completed the purchase through itssubsidiary, BRS de Mexico S.A. de C.V., of certain assets of ParaneticsTechnology, Inc. (Paranetics) for the purpose of manufacturing parachutes andrelated components.

 

The acquisition of assets from Paranetics was pursuant to an AssetPurchase Agreements with a purchase price for the net assets of $204,695.  The Company financed the purchase withproceeds from

 

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borrowings under the line of credit with their bank.

 

SFAS No. 141 “Business Combinations” requires that all businesscombinations after June 30, 2001 be accounted for under the purchase method ofaccounting.  The acquisition of assetswas accounted for under the purchase method of accounting and, accordingly, thepurchase price allocated to property acquired was based on the estimated fairvalue as of the acquisition date.  Theexcess of the purchase price and expenses relating to the acquisition over thefair value of the assets received resulted in goodwill of $103,774.  The goodwill recorded is estimated to be deductiblefor income tax purposes.  The Companyacquired the assets to help solidify the supply of parachutes for sport andGeneral Aviation product lines.

 

**12.  Commitments and Contingencies**

 

Leases

 

The Company leases its production facility on an airport in South St.Paul, Minnesota. Total rental expense for this operating lease during 2005 and2004 was $43,138 and $40,556, respectively. The Company bought out the remaining portion of its five-year subleasewith its landlord in September 2002. This buyout resulted in short-term prepaid lease expense of $24,851 atSeptember 30, 2005 and 2004, and long-term prepaid lease expense of $28,269 and$53,120, respectively, as reflected in the accompanying consolidated financialstatements.  This buyout allowed theCompany to become a direct lessee with the City of South St. Paul.  This lease expires December 31, 2007.

 

The Company leases a second facility on the same airport for use inresearch and development.  Total rentalexpense for this operating lease during 2005 and 2004 was $31,758 and $30,839,respectively.  This lease expires October31, 2006.

 

Future minimum lease payments required on non-cancelable operatingleases at September 30, 2005 are as follows:

 
| **Fiscal Year** | ** ** | **Amount** | ** ** |
|-----------------|------------|------------|------------|
| 2006            |       | $          | 43,782     |   |
| 2007            |       | 20,460     |       |
| 2008            |       | 4,585      |       |
|            |       |       |       |
| Total           |       | $          | 68,827     |   |

 

Legal Proceedings

 

(a)  In August 2003, theCompany was served in two related actions, Kathleen F. Fischer, Individuallyand as personal representative of the Estate of Joseph C. Fischer v. CirrusDesign Corp., Ballistic Recovery Systems, Inc., and Wings Aloft, Inc., U.S.District Court for the Northern District of New York, File No. 03-CV-0782(HGM/DEP), and Susan Sedgwick, Individually, on her own behalf as survivingspouse of Thomas P. Sedgwick, as Executrix of the Estate of Thomas P. Sedgwick,deceased, and on behalf of all interested beneficiaries, including Jamie LynnSedgwick and Jacqueline Ann Sedgwick v. Cirrus Design Corp., Ballistic RecoverySystems, Inc. and Wings Aloft, Inc., U.S. District Court for the NorthernDistrict of New York, File No. 03-CV-0592 (HGM/DEP).

 

These actions arise from the crash of a Cirrus Design Corp. SR22airplane in April 2002 near Parish, New York.  Plaintiffs havebrought claims for strict products liability, negligence and breach of warrantyagainst Cirrus Design, the airplane’s manufacturer, the Company, whichmanufactures the CAPS (Cirrus

 

F-45

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Airframe Parachute System), a parachute system which is a requiredcomponent of the plane, and Wings Aloft, Inc., which provided training on theSR22 to the decedents.

 

In preliminary reports submitted to the court, the plaintiff in Fischerhas estimated the damages to be sought at trial as sixty million dollars, andthe plaintiff in Sedgwick has submitted an estimate of seven million fivehundred thousand dollars.

 

The matters have been consolidated for purposes of discovery, whichbegan in November 2003 and is scheduled to be completed by May 1, 2006,with the trials currently scheduled to commence later in 2006.  At this time, the Company cannot state withany degree of certainty what the outcome of these matters will be or the amountor range of potential loss, if any.  The Company will vigorously defendthese matters.

 

(b) On April 17, 2004, an action was commenced against the Company byAerospace Marketing, Inc. and Charles Parsons v. Ballistic Recovery Systems,Inc., U.S. District Court, Middle District of Florida, File No. 04-CV-242.  The action resulted from the Company’snotification to Charles F. Parson in April 2004 of its intent to terminate thesales and marketing contract between the Company and Mr. Parsons relating tothe BRS-172 and BRS-150 products for lack of performance.

 

In 2005, a jury awarded damages to Parsons and Aerospace Marketing inthe combined amount of approximately $3.4 million for breach of contract. BRSsettled this matter directly with Parsons and Aerospace on September 19, 2005by agreeing to pay $1.9 million pursuant to terms described in the settlementagreement.  An initial payment of $700,000 plus interest was made onSeptember 19, 2005.  The remainder of the settlement amount will be paidby BRS over a term of 8 years, although BRS has the right topre-pay remaining amounts due at any time.

 

(c) In September 2004, an action against the Company has been commencedby the estate of Douglas Lefebvre arising from the crash of a Sabian RansS-12XL near Mexican Hat, Utah on September 22, 2002.  Mr. Lefebvre was the passenger on theaircraft.  The Company reached asettlement with the Lefebvre estate on October 13, 2005 which resolves suchlitigation.  The amount of the settlementwas accrued at September 30, 2005, and is not material to the consolidatedfinancial position or results of the operations of the Company.  The terms of the settlement are confidentialand do not have a material adverse impact on the Company.

 

(d) On September 16, 2005, an action was commenced against the Companyby Robert Treat Rayner, in the Circuit Court of the 5th Judicial Circuit in andfrom Lake County Florida, File No. 04 CA 1749. The Complaint alleges that plaintiff was injured when his ultralightaircraft crashed while being towed by another ultralight.  Plaintiff alleges that he deployed his BRSsystem, but that it failed to deploy properly. BRS is undertaking an investigation of the claim and has responded tothe suit.  At this time, the Companycannot state with any degree of certainty what the outcome of these matterswill be or the amount or range of potential loss, if any.  BRS believes that it has strong defenses tothe suit and will vigorously defend against the claims.

 

**13.  Supplemental Cash FlowInformation**

 
| **Cash paid for:** | ** ** | **2005** | ** ** | **2004** | ** ** |
|--------------------|------------|----------|------------|----------|------------|
| Interest           |       | $        | 21,380     |     | $          | 7,875 |   |
| Income taxes       |       | 144,846  |       | 201,469  |       |
|                    |            |          |            |          |            |  |  |

 

F-46

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Summary of non-cash activity:

 

•                  The Company issued 50,000 shares of commonstock on August 16, 2004 through the exercise of stock options in exchange fora note receivable in the amount of $12,500 plus interest.

 

•                  Options to acquire 35,000 shares of theCompany’s common stock were converted into 27,105 shares of the Company’scommon stock in cashless transactions during fiscal year 2004.

 

•                  The Company recognized a deferred tax benefitof $830,000 for stock option and warrant exercises, credited to additionalpaid-in capital during fiscal year 2005.

 

•                  The Company entered into a covenant not tocompete agreement for $225,573 in exchange for a covenant not to competepayable during fiscal year 2005.

 

•                  The Company applied a covenant not to competepayable in the amount of $8,464 to a note receivable from shareholder duringfiscal year 2005.

 

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