**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

**FORM10-KSB**

ý**                                 ****Annual Report pursuant toSection 13 or 15(d) of the Securities Exchange Act of 1934 for the fiscal yearended September 30, 2004**

**o****                                ****Transition Report pursuantto Section 13 or 15(d) of the Securities Exchange 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)

**Securitiesregistered pursuant to Section 12(b) of the Exchange Act:**None

**Securitiesregistered pursuant to Section 12(g) of the Exchange Act:**Common Stock, parvalue $0.01 per share

 

Check whether the issuer:(1) filed all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the past 12 months (or for such shorterperiod that the issuer was required to file such reports), and (2) has beensubject to such filing requirements for the past 90 days. Yes ý  No o

Check if there is nodisclosure of delinquent filers pursuant to Item 405 of Regulation S-B is notcontained herein, and no disclosure will be contained, to the best ofregistrant’s knowledge, in definitive proxy or information statementsincorporated by reference in Part III of this Form 10-KSB or any amendment tothis Form 10-KSB. ý

The issuer’s revenues forthe fiscal year ended September 30, 2004 were****$6,928,382.

As of December 9, 2004there were 6,844,284 outstanding shares of common stock, par value $0.01 per share.

The aggregate marketvalue of the voting common stock of the issuer held by non-affiliates of theissuer on December 9, 2004 based on the closing price of the common stock asquoted by the NASD Over-the-Counter Bulletin Board on such date was $8,909,974.

Transitional SmallBusiness 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 and Small Business Issuer Purchases of  Equity Securities |       |
| Item 6       | Management’s  Discussion and Analysis or Plan of Operation                                                     |       |
| Item 7       | Financial Statements                                                                                                |       |
| Item 8       | Changes in and  Disagreements with Accountants on Accounting and Financial Disclosure                               |       |
| Item 8A      | Controls and  Procedures                                                                                            |       |
| **PART III** |                                                                                                                |       |
| Item 13      | Exhibits and  Reports on Form 8-K                                                                                   |       |
| Item 14      | Principal  Accountant Fees and Services                                                                             |       |
|         | Index to 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 2005 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 to “BRS”, the “Company,”the “Registrant,” “we,” “us,” or “our” or in this Annual Report on Form 10-KSBrefer to Ballistic Recovery Systems, Inc., a Minnesota corporation.

**Forward-LookingStatements**

This Annual Reporton Form 10-KSB contains statements that are not historical but areforward-looking in nature, including statements regarding the expectations,beliefs, intentions or strategies regarding the future.  In particular, the “Management’s Discussionand Analysis of Financial Condition and Results of Operations” section in Item6 of this annual report include forward-looking statements that reflect ourcurrent views with respect to future events and financial performance.  We use words such as we “expect,” “anticipate,”“believe,” and “intend” and similar expressions to identify forward-lookingstatements.  Investors should be awarethat actual results may differ materially from our expressed expectationsbecause of risks and uncertainties inherent in future events, and should notunduly rely on these forward looking statements.

**PART I**

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

**BusinessDevelopment**

TheCompany was incorporated in 1980 under the laws of the State of Minnesota.

Weare engaged in the business of developing and commercializing whole-aircraftrecovery parachute systems for use with general aviation and recreationalaircraft. The emergency parachute systems are designed to bring down the entireaircraft and its occupants in the event of an in-air emergency.  The parachute system is designed for in-airemergencies that include but are not limited to midair collisions, structurefailure, engine out at night, engine out over unlandable terrain, pilotincapacitation, and unintentional flight into instrument meteorologicalconditions.  The Company believes it isthe only United States manufacturer of whole aircraft recovery systems.  In addition, the Company has designed andsold systems for use with various military and civilian unmanned aircraft.  Since its inception, the Company hasdelivered over 19,000 systems that have been installed on general aviation andrecreational aircraft throughout the world, and the Company has documented 176lives saved through the use of its systems in actual in-air emergencies.

 

The Company was founded to provide recreational aircraft parachutesystems for use in ultralight and experimental aircraft.  That portion of the business continues to bea consistent source of revenues for the Company and accounted for 22% and 25%of the Company’s revenues in fiscal year 2004 and 2003, respectively.

 

TheCompany’s general aviation product lines accounted for 77% and 75% of theCompany’s revenues in fiscal year 2004 and 2003, respectively.  Since 1999, the Company’s primary generalaviation product has been for the Cirrus SR20 (SR20) and SR22 aircraftmanufactured by Cirrus Design Corporation (“Cirrus Design”). Sales to CirrusDesign account for 75% and 74% of Company revenues for fiscal 2004 and 2003,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 2003, the Company began delivering itsaftermarket FAA certified parachute system for the Cessna 172 and 182 aircraftcalled the BRS172 and BRS182, respectively.

 

Thedevelopment of the parachute systems for the SR20 and SR22 aircraft was a jointeffort between the

 

 

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Companyand Cirrus Design.  The Company hasretained the developed technology for the parachute systems in general andCirrus Design has retained the developed technology that is specific to theirindividual aircraft.

 

CirrusDesign continues to make enhancements and advancements in both the SR20 andSR22 versions of their aircraft and they have new aircraft designs currentlyunder development.  It is the expectationof both the Company and Cirrus Design to continue to offer the Company’sparachute systems as standard equipment features of current and future designs.

 

Aftermarketsales for the BRS172 and BRS182 have been initially slow and the Company iscurrently looking at ways to expand its sales penetration in these markets.

 

Duringthe first part of fiscal year 2002, the Company was working under a contractwith the National Aeronautics and Space Administration (NASA) through its SmallBusiness Innovation Research (SBIR) program. The contract, which was a Phase I feasibility study, covered a six monthperiod and was a firm-fixed grant for $68,571. The Phase I award was entitled “Advanced Aircraft Parachute RecoverySystem” and was granted to allow the Company to investigate the feasibility ofdeveloping parachute systems for larger and faster aircraft than thosecurrently supported by the Company.  ThePhase I work was completed in May 2002 and effective September 16, 2002, theCompany was awarded a Phase II grant under a firm fixed contract for $598,694with a period of performance not to exceed 24 months.  In September 2004, work was completed underthe contract with total billings amounting to approximately $575,000 of theallowable amount, with $386,000 and $189,000 billed in fiscal year 2004 and2003, respectively.

 

Over the past several years, the Company hasbeen successful in establishing various third party funding sources for itsresearch and development.  Outsidefunding for research and development activities is an ongoing objective for theCompany; however, no assurances can be made that the Company will be successfulin this regard.

 

**Businessof the Company**

**Principal Products**:

 

The Company’s principal product line is whole-aircraft emergencyparachute recovery systems.  The product,when utilized in an in-air emergency and at the appropriate altitude, may beactivated by the pilot releasing a parachute that is designed to open quickly,slow the descent of the aircraft, and lower the aircraft and its occupantssafely to the ground to prevent or reduce human injury and damage to theaircraft. Possible parachute usage scenarios include:  Mid-air collision (loss of integrity orcontrol); severe weather upset (wind shear, turbulence); power loss with poorvisibility (night or IMC); loss of control (component failure or malfunction);engine out over hostile (unlandable) terrain; structural failure (age-weakenedparts); pilot medical trauma (heart attack, allergic reaction, stroke);overstress (due to aerobatics, violent weather); pilot error.

 

GeneralAviation Products:

 

TheCompany entered the general aviation market in the mid 1980’s when it begandevelopment of an emergency parachute recovery system for the Cessna 150/152series of aircraft.  In 1993, thissystem, known as the GARD-150 (now called the “BRS150”), 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.  The Company believes that the successfulcompletion of the product for the Cessna 150/152, which generated mediaattention for

 

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both the product and the Company, created interest in the Company’sproduct by general aviation manufacturers. Although the BRS150 was not successfully sold, the Company believes thatit helped for the development of the Company’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 (SR20),on October 23, 1998.  This was the firstFAA certified aircraft to offer one of the Company’s recovery systems asrequired standard equipment.  The Companybegan delivering 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 SR22received FAA 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 theCompany began in December 2000.  The SR22became the third of the Company’s products to have received FAA certification(the BRS150 and SR20 products being the others).  For fiscal year 2004, approximately 75% ofthe Company’s total 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 twelve totalsystems installed through the end of fiscal year 2004.

 

Near the end of fiscal year 2004, the Company finalized development ofa parachute recovery system for the Cessna 182 model of aircraft, which iscalled the BRS-182.  The system utilizesmany of the same components used in the recovery systems for the Cirrusaircraft models and the Cessna 172.  TheCompany received the Supplemental Type Certificate or STC from the FAA on June25, 2004.   This STC allows the productto be installed on certified Cessna 182 series aircraft.  The first customer delivery and installationwas completed in July 2004.  The Companyhas begun a direct marketing campaign which resulted in the sale and deliveryof six BRS-182 units through the end of fiscal year 2004.

 

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 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 200 dealers and distributors worldwide, although the Company doesnot have written distribution agreement with all distributors.  Accordingly, these dealers and distributorscould sell competing products.  Sales tointernational customers accounted for 40.2% of recreational aviation productsales.

 

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.

 

 

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In November 2001, the Company entered into a contract with NASA for theCompany’s second Phase I SBIR research grant. The Company has been a successful recipient of both Phase I and Phase IISBIR research grants in prior years.  Thecontract, which was a Phase I feasibility study, was completed in May 2002 andwas a firm-fixed grant for $68,571.  ThePhase I award is entitled “Advanced Aircraft Parachute Recovery System” and wasgranted to allow the Company to investigate the feasibility of developing parachutesystems for larger and faster aircraft than those currently supported by theCompany.  Following the Phase I work, theCompany applied for a follow-on Phase II grant and effective September 16, 2002the Company began work under a two-year contract for a firm fixed award of$598,694.  Work under the contract wascompleted in September 2004 with total contract billings of $575,000.  NASA and the United States Federal Governmentwill have a royalty free right to any developed technology, but only as a customerfor product that incorporates the developed technology that is purchased fromthe Company.

 

**Manufacturing Operations and Suppliers:**

 

The Company’s personnel perform assembly of the Company’s product linein a South St. Paul, Minnesota facility. The parachutes utilized by the Company are purchased from a certain keysupplier although there are other suppliers of parachutes. The Companymanufactures its own ballistic devices and receives its propellant from asingle source.  The Company believes thatthere are alternate sources for propellant in the event that this sourcebecomes unavailable.  Other componentsare purchased from a variety of suppliers or internally produced.  The Company routinely searches for newvendors and believes alternate sources can be found should any of these vendorsbe unable to meet the Company’s needs. The Company also attempts to hold reasonable inventory reserves of keycomponents to provide time to secure alternate suppliers should the needarise.  In addition, the Companypossesses or can acquire the expertise necessary for internal production ofsubstantially all 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 “ParachuteReefing Device” as part of a parachute recovery system.  The two employees assigned the patent to theCompany, which with the payment of continuing maintenance fees is effectiveuntil 2006.  This patented feature isutilized in the Company’s general aviation line as well as in its recreationalaviation products.  Current developmentprojects also utilize the reefing device as an integral design component.

 

On May 2, 2000, United States Patent No. 6,056,241 was issued to theCompany on behalf of one of the Company’s employees for a “Thin Film Parachutewith Continuous Lateral Reinforcing Fibers ”. The employee assigned the patent to the Company, which with the paymentof continuing maintenance fees is effective until 2017.  The Company in connection with its NASA SBIRgrant program that was completed during fiscal year 1999 developed thispatented process. The Company does not have a current application for thepatented process, but the Company hopes that the patented process can be usedin both military and civilian applications complimenting or enhancing theCompany’s current product line.

 

**IntellectualProperty:**

** **

Ourgoal is to obtain, maintain and enforce patent protection for our products,processes, methods and other proprietary technologies, preserve our tradesecrets, and operate without infringing on the proprietary rights of otherparties, both in the United States and in other countries.  Our policy is to actively seek to obtain,where appropriate, the broadest protection possible for our products,proprietary information and proprietary technology through a combination ofcontractual arrangements and patents, both in the United States and elsewherein the world.

 

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Wealso depend upon the skills, knowledge and experience of our personnel, none ofwhich is patentable.  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 and confidentialityagreements to protect our interests.  Tothis end, when possible, we require employees, consultants, and othercontractors to enter into confidentiality agreements which prohibit thedisclosure of confidential information and, where applicable, requiredisclosure and assignment to us of the ideas, developments, discoveries andinventions important to our business.

**Seasonality:**

Typically,the Company experiences 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:**

Duringthe fiscal years ended September 30, 2004 and 2003, the Company was dependenton one customer, Cirrus Design Corporation, for 75% and 74% of the Company’stotal sales in the respective fiscal years. The Company supplies parachute recovery systems to Cirrus from itsgeneral aviation product line.

**Dealer/Distributor Network:**

TheCompany’s recreational aviation product sales are primarily to dealers anddistributors who in turn sell to the end consumer.  The Company believes that in the event thatany individual dealers or distributors cease to represent the Company’srecreational aviation products, that alternative dealers or distributors can beestablished.  The Companydoes not have agreements with its dealers and distributors and accordingly,such dealers and distributors are not prohibited from selling productscompetitive with the Company’s products.

**Backlog of Orders:**

Asof September 30, 2004 and 2003, the Company had a backlog of orders totalingapproximately $1,842,000 and $1,867,000, respectively. The backlogs includedover $1.6 million of orders for the Cirrus Design aircraft for bothperiods.  The 2004backlog is expected to be filled within 12 months.  Cirrus Design is currently producing aircraftat levels, which the Company understands has made it the largest producer ofsingle engine piston aircraft in the world ahead of Cessna AircraftCompany.  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 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.

**Research and Development:**

Asummary of research and development is as follows:

 

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| ** **                                                                 | ** ** | **2004** | ** ** | **2003** | ** ** |
|----------------------------------------------------------------------------|------------|----------|------------|----------|------------|
| Total research and development expenditures                                |       | $        | 658,401    |     | $          | 596,581 |   |
| Revenues recognized under contract research and development  relationships |       | (385,619 | )          | (189,410 | )          |
| Research and development, net                                              |       | $        | 272,782    |     | $          | 407,171 |   |

 

The source for the 2004 and 2003 third partyfunding was from NASA under the Phase II SBIR grant.  Work under the contract was completed inSeptember 2004 with total contract billings of $575,000.  Gross research and development expendituresare expected to be higher for fiscal year 2005 compared with fiscal year 2004with no offsets anticipated from outside sources.

 

**Competition**:

 

The Company sells its whole-aircraft emergency parachute systems in theUnited States and internationally.  TheCompany entered into a covenant not to compete agreement on October 26, 1995with Second Chantz (“SCI”), whom the Company believes was the only domesticcompetitor for 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.  At present, none of theforeign companies have successfully entered the domestic market.  The Company believes its current systems werethe first in the market and that its products and service are superior to itscompetitors.

 

The FAA, as part of the Cirrus Design SR20 and SR22 certificationprocess, has certified the Company’s product, which is standard andrequired equipment on those aircraft.  These are the first whole aircraft recoverysystem ever certified by the FAA as standard equipment.  The Company also holds Supplemental TypeCertificates for the recovery systems for the Cessna 150/152, Cessna 172 andCessna 182 model aircraft.  At present,there are no other manufacturers with the FAA Supplemental Type Certificate orFAA certification under a manufacturer’s Type Certificate necessary to installa recovery system for the general aviation market.  The Company is unaware of any othermanufacturer performing contract or self-funded research and development activitiesin an effort to obtain Supplemental Type Certificates or Type Certificates forany other FAA certified aircraft.

 

Many companies with resources and capabilities greater than those ofthe Company could develop, manufacture and market a parachute recovery systemcompetitive with that of the Company, although the Company believes that suchdevelopment and approval could take several years to complete.

 

**Product Liability:**

 

The Companydoes not currently maintain product liability insurance.  Accordingly, the costs of litigation must befunded directly by the Company.

 

**Environmental Compliance:**

 

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

 

**Employees:**

 

As of September 30, 2004, the Company had 21 full-time employees andone contract employee at its 

 

 

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South St. Paul facility, which are paid both hourly and by salary.  No employees are represented by a labor unionand we consider our relations with 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 31,2005.  The Company maintains all of itsequipment in good working order and has secured adequate insurance for thefacilities and its contents.

 

The Company believes that the current facilities are adequate for thecurrent level of business activities.  Inthe event that the Company requires additional facilities, the Company believesit could procure acceptable facilities. We do not own any real estate.

 

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

(a) In August 2003, the Company was served in two related actions,Kathleen F. Fischer, Individually and as personal representative of the Estateof Joseph C. Fischer v. Cirrus Design Corp., Ballistic Recovery Systems, Inc.,and Wings Aloft, Inc., U.S. District Court for the Northern District of NewYork, File No. 03-CV-0782 (HGM/DEP), and Susan Sedgwick, Individually, on herown behalf as surviving spouse of Thomas P. Sedgwick, as Executrix of theEstate of Thomas P. Sedgwick, deceased, and on behalf of all interestedbeneficiaries, including Jamie Lynn Sedgwick and Jacqueline Ann Sedgwick v.Cirrus Design Corp., Ballistic Recovery Systems, Inc. and Wings Aloft, Inc.,U.S. District Court for the Northern District of New York, File No. 03-CV-0592(HGM/DEP).

 

These actions arise from the crash of aCirrus Design Corp. SR22 airplane in April 2002 near Parish, NewYork.  Plaintiffs have brought claims for strict products liability,negligence and breach of warranty against Cirrus, the airplane’s manufacturer,the Company, which manufactures the CAPS (Cirrus Airframe Parachute System), aparachute system which is a required component of the plane, and Wings Aloft,Inc., which provided training on the SR22 to the decedents.

 

In preliminary reports submitted to thecourt, the plaintiff in *Fischer*has estimated the damages to be sought at trial as sixty million dollars, andthe plaintiff in *Sedgwick* hassubmitted an estimate of seven million five hundred thousand dollars.

 

The matters have been consolidated forpurposes of discovery, which began in November 2003 and is scheduled to becompleted by March 31, 2005, with the trials currently scheduled to commencelater in 2005.  At this time, theCompany cannot state with any degree of certainty what the outcome of thesematters will be or the amount or range of potential loss, if any.  TheCompany will vigorously defend these matters.

 

(b)  In April 2004, the Company notified CharlesF. Parsons of its intent to terminate the sales and marketing contract between theCompany and Mr. Parsons relating to the BRS-172 and BRS-150 products for lackof performance.  Subsequent to thenotification being sent to Mr. Parsons, both the Company and Mr. Parsons filedsuit against each other.  The Companyfiled suit to formalize the termination of the contract and Mr. Parsons filedsuit to block the termination of the contract. At this time, the Company cannot state with any degree of certainty whatthe outcome of this matter will be or if 

 

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therewill be any financial impact on the Company. The Company intends to vigorously defend this matter.

(c)  In September 2004, an action against theCompany has been commenced by the estate of Douglas Lefebvre arising from thecrash of a Sabian Rans S-12XL near Mexican Hat, Utah on September 22,2002.  Mr. Lefebvre was the passenger onthe aircraft.  The suit was only recentlycommenced and discovery has just begun. However, the Company has the report of the National TransportationSafety Board which investigated the accident. The Safety Board concluded that the pilot inadvertently stalled theaircraft and then he failed “to follow the proper emergency procedures foractivating his Ballistic Recovery System.” The Safety Board went on to say that “contributing factors [in theaccident] were the improper installation of the BRS by the pilot . . . .”  The Company believes that it has strongdefenses to the action, but is unable to predict the outcome or estimate whatamount of damages, if any, that might be awarded in this action.

**ITEM 4****.          SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.**

During the fourth quarterof our fiscal year ended September 30, 2004, there were no matters submitted toa vote of our stockholders.

**PART II**

**ITEM 5****.          MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS**

**Marketfor Common Stock**

Our common stock istraded on the electronic bulletin board on the over the counter market and onthe pink sheets under the trading symbol “BRSI” or “BRSI.OB.”  Several internet stock tracking and tradingservices show the Company’s trading volumes with bid and ask prices as far backas 1995.  Based on information providedby these internet stock tracking services, the Company believes that the askingprice and bid price was $2.22 as of September 30, 2004.

The following table liststhe high and low price for our common stock as quoted, in U.S. dollars, on theinternet tracking services during each quarter within the last two fiscalyears:
| ** **        | ** ** | **Price Range** | ** ** |
|-------------------|------------|-----------------|------------|
| ** **        | ** ** | **2004**        | ** ** | **2003** | ** ** |
| **Quarter Ended** | ** ** | **High**        | ** ** | **Low** | ** ** | **High** | ** ** | **Low** | ** ** |
| December 31       |       | $               | 1.55       |   | $ | 1.02 |   | $ | 1.37 |   | $ | 0.85 |   |
| March 31          |       | 2.53            |       | 1.48 |   | 1.25 |   | 0.98 |   |
| June 30           |       | 2.99            |       | 1.95 |   | 1.25 |   | 0.90 |   |
| September 30      |       | 2.32            |       | 1.95 |   | 1.27 |   | 1.00 |   |
|                   |            |                 |            |  |  |  |  |  |  |  |  |  |  |

 

The quotations from theinternet tracking 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 October 26, 2004 was approximately 1,500.

**Dividends**

 

 

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During fiscal year 2004, theCompany declared a dividend in the amount of $0.06 per share, payable January5, 2004 to all Common Shareholders of Record on December 15, 2003 and declareda dividend in the amount of $0.0655 per share, payable April 5, 2004 to allCommon Shareholders of Record on March 29, 2004.  During fiscal year 2003, the Company declareda dividend in the amount of $0.05 per share, payable January 30, 2003 to allCommon Shareholders of Record on January 15, 2003.

 

**RecentSales of Unregistered Securities**

On February 29, 2004, 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 for the SR20, SR22 and derivative aircraft during calendar year 2003.  Cirrus met their minimum purchase commitment for warrants number two and three, and exercised these warrants for 500,000 shares of the Company’s common stock, on February 29, 2004, for an aggregate exercise price of $562,500.  The transaction was exempt from registration under Section 4(2) of the Securities Act of 1933, as amended.

 

On August 16, 2004, the Company issued securities in a transaction that was not registered under the Securities Act of 1933, as amended, to John Dunham.  The transaction arose from the exercise of stock options held by Mr. Dunham under a stock subscription agreement backed by a promissory note.  The Company issued 50,000 shares of common stock in exchange for the note which has a principal sum of $12,500 together with aggregate interest on the unpaid principal balance of $2,500.  Payments under the note begin July 1, 2005 and continue monthly with a final maturity date of October 1, 2005.  The 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, 2004. 
| ** **                                                | ** ** | **Number of securities to be issued upon exercise of outstanding  options, warrants and rights** | ** ** | **Weighted average exercise price of outstanding options, warrants and  rights** | ** ** | **Number of securities remaining available for future issuance  (excluding securities reflected in column (a))** | ** ** |
|-----------------------------------------------------------|------------|--------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------------------|------------|
| **Plan category**                                         | ** ** | **(a)**                                                                                          | ** ** | **(b)**                                                                          | ** ** | **(c)**                                                                                                          | ** ** |
| Equity compensation plans approved by stockholders(1)     |       | 0                                                                                                |       | N/A                                                                              |       | 600,000                                                                                                          |       |
| Equity compensation plans not approved by stockholders(2) |       | 960,000                                                                                          |       | $1.20                                                                            |       | 0                                                                                                                |       |

----

(1)          Represents shares of common stockauthorized for issuance under the 2004 Stock Option Plan.

(2)          650,000 shares represent stock warrantsissued to Cirrus Design under terms of a supply agreement.  These stock warrants expire February 28, 2005if unexercised.  The remaining sharesrepresent stock options granted to employees and directors at then currentmarket prices.

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

 

 

11

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**Operations:**

 

Sales

 

Salesfor fiscal year 2004 were $6,928,382, up 5.8%, compared to $6,549,011for fiscalyear 2003.  A reduction in sales wasrecorded in both fiscal years which was attributed to an accounting-relatedadjustment for stock based compensation relating to the Cirrus Design (Cirrus)stock purchase warrants. These warrants were granted as part of the purchaseand supply agreement between the Company and Cirrus.  No further reductions to sales are expectedfor stock based compensation relating to the Cirrus stock purchasewarrants.  The reductions recorded were$104,650 and $20,880 for fiscal year 2004 and 2003, respectively.  In the current fiscal year, sales derivedfrom the Company’s general aviation products, which consist primarily of salesto Cirrus Design, were up 9.6% over the prior fiscal year.  Sales from the Company’s general aviationproducts accounted for 77.0% of total sales for fiscal year 2004 compared to75.0% of total sales for fiscal year 2003.

 

TheCompany’s general aviation product is standard equipment on the Cirrus SRV,SR20 and SR22 model aircraft.   TheCompany delivered 532 and 466 units to Cirrus in fiscal year 2004 and 2003,respectively.  The Company believes that Cirrus has a backlog of aircraftorders, all of which are required to include the Company’s parachutesystems.  The Company understands that Cirrus expects to be able to fillthe backlog of firm aircraft orders during the next 12 months.  TheCompany also understands that Cirrus is expected to exceed fiscal year 2004manufacturing volumes for its aircraft throughout fiscal year 2005.  As aresult, the Company is forecasting further growth in 2005 in its generalaviation revenues.  However, with respect to Cirrus, sales andmanufacturing projections and timing is uncertain at this time. Accordingly, no assurance can be given that general aviation revenues willincrease as anticipated.  Futureproduction volumes for the Cirrus aircraft, and therefore, the Company’sparachute systems, will be dictated by ultimate market demands for Cirrus’products.  Accordingly, the Company is, and will likely be, dependent onCirrus for a material portion of its revenues for fiscal year 2005.  Anynegative impact on Cirrus’ sales would have a significantly negative impact onthe 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 Companyhas begun a direct marketing campaign which resulted in the sale and deliveryof six BRS-182 units through the end of fiscal year 2004.  The Company has begun a direct marketingcampaign on a factory direct basis 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.

 

The Company also has in production theBRS-172 product for the Cessna 172 model aircraft.  Since certified inJuly 2002, twelve systems have been sold.  The Company is reanalyzingits strategies for marketing the BRS-172 in an effort to expand marketpenetration.  Although certified, there can be no assurances that theBRS-172 product will sell in volumes that will have a material impact on theCompany.

 

The Company’s recreational aircraftproduct line sales, which largely consist of products for ultralight aircraft,decreased by 6.4% during fiscal year 2004 compared to the prior fiscal year andaccounted for 20.6% of the Company’s revenues for fiscal year 2004 versus 23.2%of the Company’s revenues for the prior fiscal of 2003.  The recreationalaircraft products business continues to be impacted by several factorsincluding general economic conditions, which have dramatically affected theUnited States 

 

 

12

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recreational aircraft business, anddelayed federal regulations that will change the rules under which recreationalaircraft are operated.

 

There are new federal regulations thatwere enacted in July 2004, that management believes will positively affect theCompany’s future recreational aircraft product sales.  The new regulationsare expected to increase sales of a new category of aircraft called Light SportAircraft or LSA, which management believes may in turn increase demand for theCompany’s recreational aircraft products. No assurances can be given if these new regulations will have a positiveimpact on sales of the Company’s recreational aircraft products.  The Company has implemented plans to expandmarket penetration for the domestic market for recreational aircraft productswith the restructuring of its distribution network and pricing schedules.  No assurances can be made that such plans asimplemented will have a material impact on the Company’s recreational aircraftproduct sales.

 

The Company anticipates being able toexpand its general aviation and recreational product lines to include othercertified and non-certified aircraft as the Company’s recovery systems gainfurther market acceptance.  The Company is in ongoing discussions withother domestic and foreign, general aviation and recreational aircraftcompanies that have expressed interest in utilizing certain of the Company’sproducts.  These companies produce both certified and non-certifiedaircraft.  No assurance can be made as to the future benefits, if any,that the Company will derive from these discussions.

 

GrossMargin

 

Gross margin as a percentage of revenueswas 38.6% for fiscal year 2004 compared to 39.4% for fiscal year 2003.  The relatively consistent gross margin is theresult of leveraging the Company’s operations personnel and manufacturingoverhead over the revenue base.  A portion of the decrease in the grossmargin is a result of price reductions granted to Cirrus Design under terms ofthe 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, grossmargins are expected to be impacted as the Company provides these pricingconcessions to its customers.  However,the Company has been successful in identifying cost savings and receivingmaterial cost 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 costsas a percentage of sales were 21.6% for fiscal year 2004 as compared to 18.5%for fiscal year 2003.  These costs haveincreased as a result of adjustments in the corporate office staff and salesstaff, marketing outsourcing, expanded trade show activity, increasedcompensation, business development expenses and legal fees.  The increasein legal fees related to the legal proceedings noted in Item 3, increasingselling, general and administrative costs by approximately $40,000 for fiscalyear 2004 compared to fiscal year 2003. Expenditures in this category are expected to increase as the Companyaccelerates its efforts to expand the general aviation market whilestrengthening the sport and recreational market sales.  Furthermore, theCompany does not have products liability insurance and must fund the expensesof its current product liability litigation. In addition, requirements under the Sarbanes-Oxley Act will requireincreased expenditures as the Company implements expanded compliance infrastructureand oversight.

###### **Research and Development, net**

 

Effective September 16, 2002, the Company was working under a contractwith the National Aeronautics and Space Administration (NASA) through its SmallBusiness Innovation Research (SBIR) program. The 

 

 

13

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contract, which was a follow on to a Phase I feasibility study, and wasentitled “Advanced Aircraft Parachute Recovery System” and was granted to allowthe Company to investigate the feasibility of developing parachute systems forlarger and faster aircraft than those currently supported by the Company.  The Phase II award was granted under a firmfixed contract for $598,694 with a period of performance not to exceed 24months.  In September 2004, work wascompleted under the contract with total billings amounting to approximately$575,000 of the allowable amount, with $386,000 and $189,000 billed in fiscalyear 2004 and 2003, respectively.  Noassurances can be made that the Phase II contract work will result in futureproducts and revenues for the Company.

 

Third party funding has offset a portion of the Company’s research anddevelopment costs for the current and prior fiscal years.  Offsets of$385,619 and $189,410 were reflected in the financial statements for fiscalyears 2004 and 2003, respectively.  Gross research and development costswere 9.5% and 9.1% of sales for fiscal years 2004 and 2003, respectively and3.9% and 6.2% of sales on a net basis for fiscal years 2004 and 2003,respectively.  Management believes thatresearch and development is an integral part of the growth strategy for theCompany, and will continue to play an important role in the Company’ssuccess.  Therefore, increases in research and development expendituresare planned for the future in the areas of new product development and in theexpansion of currently developed products for additional applications. Gross research and development expenditures are expected to be higher forfiscal year 2005 compared with fiscal year 2004 with no offsets anticipated fromoutside sources.

 

NetIncome and Earnings per Share

 

Incomebefore income taxes as a percentage of revenues was 12.6% and 13.9% for fiscalyears 2004 and 2003, respectively.   On a fully diluted basis, after-tax net income of $524,605 forfiscal year 2004 was 7.6% of sales or $0.08 per share, as compared to netincome of $549,567, which was 8.4% of sales or $0.09 per share for the priorfiscal year.

 

**Liquidity and Capital Resources:**

 

Management intends to continue to fundits operations out of its current sales.  The Company will continue tolook for non-equity sources to fund contract research and development projects,but there can be no assurances that the Company will be successful in itsefforts.  The Company funds its non-contract research and development outof operations.  In February 2004, CirrusDesign exercised warrants to acquire 500,000 shares of Common Stock at anaverage exercise price of $1.13 per share for an aggregate cash considerationof $562,500.  As of September 30, 2004,the Company had a cash balance of $1,314,557. On January 15, 2004 and April 5, 2004, the Company paid cash dividendsof $0.06 and $0.0655 per share, respectively, for an aggregate of$820,176.  On November 22, 2004, theCompany paid a cash dividend of $0.08 per share for an aggregate of$547,543.  The Company has a securedline-of-credit for $500,000, which was increased in October 2003 from itsprevious level of $250,000.  The Company has not drawn on that line duringthe current fiscal year as a result of positive cash flow fromoperations.  There is no balance currently outstanding under theline-of-credit.  Management believes that cash from current businessoperations, along with the line-of-credit, is adequate to support the ongoingoperations of the Company during the next twelve-month period.

 

The Company anticipates a need to makecontinuing capital improvements to its current production facility andcontinued equipment and tooling upgrades, consistent with that of prioryears.  In addition, the Company anticipatesthe need for expenditures to increase inventory levels during the fiscal yearand beyond as a result of the production of general aviation recovery systemsand further market penetration.  It is currently the intention of theCompany to fund the expenditures through current operations as well as revenuesgenerated by those units.  Furthermore, the Company does not presentlyhave product liability insurance and must fund the expenses of its pendinglawsuits.  The Company has 

 

 

14

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incurred approximately $190,000 in legalfees for fiscal year 2004 attributable to all legal support matters and thedefense of its pending lawsuits.  Inaddition, requirements under the Sarbanes-Oxley Act will require increasedexpenditures as the Company implements expanded compliance infrastructure andoversight.

 

The Private Securities Litigation ReformAct of 1995 provides “safe harbor” for forward-looking statements. Certain information included in this Form 10-KSB and other materials filed orto be filed by the Company with the Securities and Exchange Commission (as wellas information included in oral statements or other written statements made orto be made by the Company) contain statements that are forward-looking, such asstatements relating to anticipated Cirrus Design delivery orders and schedules,plans for research projects, development, anticipated delivery orders andschedules for the Cessna 182 system,  theCessna 172 system,  success of contracts for NASA SBIR research projects,the timing and impact of regulations on Light Sport Aircraft sales, otherbusiness development activities as well as other capital spending, financialsources, and the effects of competition.  Such forward-looking informationinvolves important risks and uncertainties that could significantly affectanticipated results in the future and, accordingly, such results may differfrom those expressed in any forward-looking statements made by or onbehalf of the Company.  These risks and uncertainties include, but are notlimited to, dependence on Cirrus Design, potential product liability claims,federal transportation rules and regulation which may negatively impact theCompany’s ability to ship its products in a cost efficient manner, theelimination of funding for new research and development projects, the declinein registered and unregistered aircraft sales, dependence on discretionaryconsumer spending, dependence on existing management, general economicconditions, changes in federal or state laws or regulations.

 

**Critical AccountingPolicies and Estimates**

 

Ourdiscussion and analysis or plan of operation is based upon our financialstatements, which have been prepared in accordance with accounting principlesgenerally accepted in the United States of America.  The preparation ofthese financial statements requires us to make estimates and assumptions thataffect the reported amounts of assets and liabilities at the date of thefinancial statements, the reported amounts of revenues and expenses during thereporting period, and related disclosures of contingent assets and liabilitiesfor the periods indicated.  The notes to the financial statementscontained herein describe our significant accounting policies used in thepreparation of the financial statements.  On an on-going basis, weevaluate our estimates, including, but not limited to, those related to ourallowance for doubtful accounts, inventory valuation allowance, the lives andcontinued usefulness of furniture, fixtures and leasehold improvements andcontingencies.  Due to uncertainties, however, it is at least reasonablypossible that management’s estimates will change during the next year, whichcannot be estimated.  We base our estimates on historical experience andon various other assumptions that we believe to be reasonable under thecircumstances, the results of which form the basis for making judgments aboutthe carrying values of assets and liabilities that are not readily apparentfrom other sources.  Actual results could differ from these estimatesunder different assumptions or conditions.

 

**Disclosures about Contractual Obligations andCommercial Commitments**

 

Thefollowing summarizes our contractual obligations at September 30, 2004, 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          |       | $          | 72,671     |        | $          | 39,397    |       | $           | 33,274     |   | — |   |
| Line of Credit Borrowings |       | —     |       | —      |       | —    |       | —      |       |
| Total                     |       | $          | 72,671     |        | $          | 39,397    |       | $           | 33,274     |   | — |   |

 

 

15

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**ITEM7****.****                                                    ****FINANCIAL STATEMENTS**

For a list of thefinancial statements and related footnotes filed as part of this report, seethe Index to Financial Statements beginning at Page F-1 of this annual reporton Form 10-KSB.

**ITEM 8****.****                                                    ****CHANGES IN ANDDISAGREEMENTS WITH ACCOUNTANTS ON****ACCOUNTINGAND FINANCIAL DISCLOSURE**

The Company filed a report on Form 8-K on July 9, 2003 disclosing thechange in the registrant’s certifying accountants.  The July 9, 2003 Form 8-K as filed with theSEC is incorporated herein by reference.

 

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, 2004, the Company carriedout an evaluation, with the participation of our chief executive/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/chief financial officer concluded thatour disclosure controls and procedures are effective in alerting him 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 2004,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. Subsequent to the end of the fiscal year, in October 2004, the chiefexecutive/chief financial officer resigned and was replaced on an interim basisby the chairman of the board as the chief executive officer/chief financialofficer.  Although not anticipated, theresignation of the chief executive/chief financial officer could impact ourinternal controls and could be a factor which could significantly affectinternal controls subsequent to such evaluation.

 

**PART III**

**ITEM 9****.****                                                    ****DIRECTORS,EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH SECTION16(A) OF THE EXCHANGE ACT**

 

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

 

**ITEM 10****.              ****EXECUTIVECOMPENSATION**

 

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

 

**ITEM 11****.****                                             ****SECURITYOWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT**

 

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

 

**ITEM 12****.              ****CERTAINRELATIONSHIPS AND RELATED TRANSACTIONS**

 

 

16

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

 

**ITEM 13****.               EXHIBITS AND REPORTS ON FORM 8-K**

**Exhibits**

The following documentsare included 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.                                      |
|               |       |                                                                                                                                                                                                                                                                                                                                   |
| 10.1               |       | Cessna 172 Development and  Funding Agreement dated October 26, 2000 between the Company and Charles F.  Parsons appears as exhibit 10.1 to the Company’s Report on Form 8-K filed  November 13, 2000 and is incorporated herein by reference.                                                                                    |
|               |       |                                                                                                                                                                                                                                                                                                                                   |
| 10.2               |       | 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.                                                                                         |
|               |       |                                                                                                                                                                                                                                                                                                                                   |
| 10.3               |       | 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 10.1 to the Company’s Report on Form 10-KSB for the fiscal year  ended September 30, 1995 and is incorporated herein by reference. |
|               |       |                                                                                                                                                                                                                                                                                                                                   |
| 10.4               |       | The Company filed a report  on Form 8-K on July 9, 2003 disclosing the change in the registrant’s  certifying accountants. The July 9, 2003 Form 8-K as filed with the SEC is  incorporated herein by reference.                                                                                                                  |
|               |       |                                                                                                                                                                                                                                                                                                                                   |
| 10.5               |       | Employment Agreement dated  January 1, 2004, between the Registrant and Mark B. Thomas (incorporated by  reference to Exhibit 10.1 to the Registrant’s Form 10-QSB for the quarter  ended December 31, 2003).                                                                                                                     |
|               |       |                                                                                                                                                                                                                                                                                                                                   |
| 10.6               |       | The Company filed a report  on Form 8-K on March 2, 2004 disclosing the receipt of an equity contribution  of $562,500 as a result of Cirrus Design Corporation’s exercise of common  stock warrants. The March 2, 2004 Form 8-K as filed with the SEC is  incorporated herein by reference.                                      |
|               |       |                                                                                                                                                                                                                                                                                                                                   |
| 10.7               |       | The Company filed a report  on Form 8-K on March 19, 2004 disclosing the declaration of a $0.0655 per  share dividend. The March 19, 2004 Form 8-K as filed with the SEC is  incorporated herein by reference.                                                                                                                         |
|               |       |                                                                                                                                                                                                                                                                                                                                   |
| 10.8               |       | The Company adopted the  2004 Stock Option Plan in conjunction                                                                                                                                                                                                                                                                         |

 

 

17

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|   |   | with the 2004 Proxy  Statement filed January 23, 2004 with the SEC. The 2004 Stock Option Plan as  found under Appendix A of the filing is incorporated herein by reference.                                                                              |
|--------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                      |
| 10.9   |   | The Company adopted a Code  of Ethics for Senior Financial Executives in conjunction with the 2004 Proxy  Statement filed January 23, 2004 with the SEC. The Code of Ethics as found  under Appendix B of the filing is incorporated herein by reference. |
|   |   |                                                                                                                                                                                                                                                      |
| 31.1   |   | Rule 13a-14(a)/15d-14(a) Certifications.                                                                                                                                                                                                                  |
|   |   |                                                                                                                                                                                                                                                      |
| 32.1   |   | Section 1350  Certifications.                                                                                                                                                                                                                             |

 

**Reports on Form 8-K**

The Company filed no reports on Form 8-K during the three months endedSeptember 30, 2004.

 

**ITEM 14****.               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 financial statements for fiscal year 2004 and 2003 and reviewsof the financial statements included in the Company’s Form 10KSB for fiscalyear 2004 and 2003 were $29,250 and $26,470, respectively.

 

Audit-Related Fees

 

For fiscal 2004 and 2003, 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 financial statements andare not reported under “Audit Fees” above.

 

Tax Fees

 

The aggregate fees billed by the Company’s auditors for professionalservices for tax compliance, tax advice, and tax planning were $24,410 and $0for fiscal year 2004 and 2003, respectively.

All Other Fees

 

For fiscal 2004 and 2003 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.

 

 

18

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**SIGNATURES**

 

In accordance withSection 13 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 9, 2004.
|   | Ballistic Recovery Systems, Inc. |
|--------|----------------------------------|
|   |                             |
|   | By:                              | /s/ Robert L. Nelson |
|   |                             | Robert L. Nelson |
|   |                             | Principal Executive Officer and Principal Accounting  Officer |

 

 

In accordance with theSecurities Exchange Act, this report has been signed below by the followingpersons on behalf of Ballistic Recovery Systems, Inc. and in the capacities andon the dates indicated.

 
| **Signature**            | ** ** | **Title**                                                                            | ** ** | **Date**         |
|--------------------------|------------|--------------------------------------------------------------------------------------|------------|------------------|
|                     |       |                                                                                 |       |             |
| /s/ Robert L. Nelson     |       | Chairman of the Board, Principal Executive Officer  and Principal Accounting Officer |       | December 9, 2004 |
| Robert L. Nelson         |
|                     |       |                                                                                 |       |             |
| /s/ Thomas H. Adams, Jr. |       | Director                                                                             |       | December 9, 2004 |
| Thomas H. Adams, Jr.     |
|                     |       |                                                                                 |       |             |
| /s/ Darrel D. Brandt     |       | Director                                                                             |       | December 9, 2004 |
| Darrel D. Brandt         |
|                     |       |                                                                                 |       |             |
| /s/ Boris Popov          |       | Director                                                                             |       | December 9, 2004 |
| Boris Popov              |

 

19

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**Index to Financial****Statements**
|                                                                                        | **Page #**  |
|---------------------------------------------------------------------------------------------|-------------|
| Report of Independent Registered  Public Accounting Firm Virchow, Krause & Company, LLP | F-2         |
|                                                                                        |        |
| Balance Sheets as of September 30, 2004  and 2003                                           | F-3         |
|                                                                                        |        |
| Statements of Operations for  the Years Ended September 30, 2004 and 2003                   | F-4         |
|                                                                                        |        |
| Statements of  Shareholders’ Equity for the Years Ended September 30, 2004 and 2003    | F-5         |
|                                                                                        |        |
| Statements of Cash Flows for  the Years Ended September 30, 2004 and 2003                   | F-6         |
|                                                                                        |        |
| Notes to Financial Statements                                                               | F-7 to F-21 |

 

F-1

----

 

**REPORTOF INDEPENDENT****REGISTERED PUBLIC ACCOUNTING FIRM**

Shareholders, Audit Committee and Board ofDirectors

BallisticRecovery Systems, Inc.

St. Paul, Minnesota

 

We haveaudited the accompanying balance sheet of Ballistic Recovery Systems, Inc. asof September 30, 2004 and 2003 and the related statements of operations,shareholders’ equity and cash flows for the years then ended. These statementsare the responsibility of the Company’s management.  Our responsibility is to express an opinionon these financial statements based on our audits.

We conducted our audit in accordance withstandards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform the audit to obtain reasonableassurance about whether the financial statements are free of materialmisstatement.  An audit includesexamining, on a test basis, evidence supporting the amounts and disclosures inthe financial statements.  An audit alsoincludes assessing the accounting principles used and significant estimatesmade by management as well as evaluating the overall financial statementpresentation.  We believe that our auditsprovide a reasonable basis for our opinion.

In our opinion, the financial statementsreferred to above present fairly, in all material respects, the financialposition of Ballistic Recovery Systems, Inc. as of September 30, 2004 and 2003and the results of its operations and its cash flows for the years then endedin conformity with accounting principles generally accepted in the UnitedStates of America.

 

 

/s/ Virchow, Krause &Company, LLP

 

 

 

Minneapolis, Minnesota

November 4, 2004

 

 

F-2

----

 

**Ballistic Recovery Systems, Inc.**

**BalanceSheets**

**September30, 2004 and 2003**

** **
| ** **                                                                                                                        | ** ** | **2004**  | ** ** | **2003**  | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------|------------|-----------|------------|-----------|------------|
| Assets                                                                                                                            |       |      |       |      |       |
| Current assets:                                                                                                                   |       |      |       |      |       |
| Cash and cash equivalents                                                                                                         |       | $         | 1,314,557  |      | $          | 862,495 |   |
| Accounts receivable - net of allowance for doubtful                                                                               |       |      |       |      |       |
| accounts of $10,000 and $10,000 respectively                                                                                      |       | 402,113   |       | 326,321   |       |
| Note receivable - shareholder                                                                                                     |       | 12,500    |       | —-   |       |
| Inventories                                                                                                                       |       | 1,132,496 |       | 1,118,190 |       |
| Deferred tax asset — current portion                                                                                         |       | 106,000   |       | 114,000   |       |
| Prepaid expenses                                                                                                                  |       | 44,025    |       | 60,695    |       |
| Total current assets                                                                                                              |       | 3,011,691 |       | 2,481,701 |       |
|                                                                                                                              |       |      |       |      |       |
| Furniture, fixtures and leasehold improvements                                                                                    |       | 591,767   |       | 467,578   |       |
| Less accumulated depreciation and amortization                                                                                    |       | (292,164  | )          | (207,038  | )          |
| Furniture, fixtures and leasehold improvements — net                                                                         |       | 299,603   |       | 260,540   |       |
|                                                                                                                              |       |      |       |      |       |
| Other assets:                                                                                                                     |       |      |       |      |       |
| Patents, net of accumulated amortization of $10,053 and $9,367,  respectively                                                     |       | 1,611     |       | 2,297     |       |
| Long-term prepaid expenses                                                                                                        |       | 53,120    |       | 77,972    |       |
| Covenant not to compete, net of accumulated amortization of $335,908  and $300,388, respectively                                  |       | 43,530    |       | 79,050    |       |
| Total other assets                                                                                                                |       | 98,261    |       | 159,319   |       |
|                                                                                                                              |       |      |       |      |       |
| Total assets                                                                                                                      |       | $         | 3,409,555  |      | $          | 2,901,560 |   |
|                                                                                                                              |       |      |       |      |       |
| Liabilities And  Shareholders’ Equity                                                                                        |       |      |       |      |       |
| Current liabilities:                                                                                                              |       |      |       |      |       |
| Current portion of covenant not to compete, shareholder                                                                           |       | $         | 45,255     |      | $          | 40,561 |   |
| Accounts payable                                                                                                                  |       | 173,515   |       | 122,714   |       |
| Customer deposits                                                                                                                 |       | 79,061    |       | 116,827   |       |
| Accrued payroll                                                                                                                   |       | 100,451   |       | 103,229   |       |
| Other accrued liabilities                                                                                                         |       | 342,635   |       | 198,415   |       |
|                                                                                                                              |       |      |       |      |       |
| Total current liabilities                                                                                                         |       | 740,917   |       | 581,746   |       |
|                                                                                                                              |       |      |       |      |       |
| Covenant not to compete, shareholder, less current portion                                                                        |       | 4,000     |       | 49,254    |       |
|                                                                                                                              |       |      |       |      |       |
| Shareholders’ equity:                                                                                                        |       |      |       |      |       |
| Common stock ($.01 par value; 10,000,000 shares authorized;6,844,284  and 6,245,929 shares, respectively, issued and outstanding) |       | 68,443    |       | 62,459    |       |
| Additional paid-in capital                                                                                                        |       | 3,468,301 |       | 2,784,635 |       |
| Accumulated deficit                                                                                                               |       | (872,106  | )          | (576,534  | )          |
| Total shareholders’ equity                                                                                                   |       | 2,664,638 |       | 2,270,560 |       |
|                                                                                                                              |       |      |       |      |       |
| Total liabilities and shareholders’ equity                                                                                   |       | $         | 3,409,555  |      | $          | 2,901,560 |   |

** **

See notes to financialstatements.

 

F-3

----

 

** **

**BallisticRecovery Systems, Inc.**

**Statementsof Operations**

**For the Years Ended September 30, 2004 and 2003**

 
| ** **                                                   | ** ** | **2004**  | ** ** | **2003**  | ** ** |
|--------------------------------------------------------------|------------|-----------|------------|-----------|------------|
| Sales                                                        |       | $         | 6,928,382  |      | $          | 6,549,011 |   |
| Cost of sales                                                |       | 4,252,531 |       | 3,966,125 |       |
|                                                         |       |      |       |      |       |
| Gross profit                                                 |       | 2,675,851 |       | 2,582,886 |       |
|                                                         |       |      |       |      |       |
| Selling, general and administrative                          |       | 1,494,447 |       | 1,211,567 |       |
| Research and development                                     |       | 272,782   |       | 407,171   |       |
|                                                         |       |      |       |      |       |
| Income from operations                                       |       | 908,622   |       | 964,148   |       |
|                                                         |       |      |       |      |       |
| Other income (expense):                                      |       |      |       |      |       |
| Interest expense                                             |       | (7,875    | )          | (14,905   | )          |
| Intangible amortization                                      |       | (35,519   | )          | (43,083   | )          |
| Other income (expense)                                       |       | 4,377     |       | 3,407     |       |
|                                                         |       |      |       |      |       |
| Income before income taxes                                   |       | 869,605   |       | 909,567   |       |
|                                                         |       |      |       |      |       |
| Income taxes expense                                         |       | 345,000   |       | 360,000   |       |
|                                                         |       |      |       |      |       |
| Net income                                                   |       | $         | 524,605    |      | $          | 549,567 |   |
|                                                         |       |      |       |      |       |
| Basic earnings per common share                              |       | $         | 0.08       |      | $          | 0.09 |   |
|                                                         |       |      |       |      |       |
| Weighted average number of shares outstanding — Basic   |       | 6,577,281 |       | 6,222,399 |       |
|                                                         |       |      |       |      |       |
| Diluted earnings per common share                            |       | $         | 0.08       |      | $          | 0.09 |   |
|                                                         |       |      |       |      |       |
| Weighted average number of shares outstanding — Diluted |       | 6,910,530 |       | 6,346,373 |       |
|                                                         |       |      |       |      |       |
| Dividends per share                                          |       | $         | 0.1255     |      | $          | 0.05 |   |

** **

See notes to financialstatements.

 

F-4

----

 

**BallisticRecovery Systems, Inc.**

**Statementsof Shareholders’ Equity**

**For the Years Ended September 30, 2004 and 2003**

 
| ** **                                                      | ** ** | **Common Stock** | ** ** | **Additional** | ** ** | ** **  | ** ** | ** **      | ** ** |
|-----------------------------------------------------------------|------------|------------------|------------|----------------|------------|-------------|------------|-----------------|------------|
| ** **                                                      | ** ** | **Number of**    | ** ** | ** **     | ** ** | **Paid-in** | ** ** | **Accumulated** | ** ** | **Shareholders’** | ** ** |
| ** **                                                      | ** ** | **Shares**       | ** ** | **Amount**     | ** ** | **Capital** | ** ** | **Deficit**     | ** ** | **Equity** | ** ** |
| Balance September 30, 2002                                      |       | 6,209,737        |       | $              | 62,098     |        | $          | 2,764,197       |       | $ | (817,185 | ) | $ | 2,009,110 |   |
|                                                            |       |             |       |           |       |        |       |            |       |   |   |
| Issuance of stock in cashless transactions                      |       | 36,192           |       | 361            |       | (361        | )          | —          |       | — |   |
| Expenses from stock based transaction                           |       | —           |       | —         |       | 20,799      |       | —          |       | 20,799 |   |
| Dividend declaration                                            |       | —           |       | —         |       | —      |       | (308,916        | )          | (308,916 | ) |
| Net Income                                                      |       | —           |       | —         |       | —      |       | 549,567         |       | 549,567 |   |
|                                                            |       |             |       |           |       |        |       |            |       |   |   |
| Balance September 30, 2003                                      |       | 6,245,929        |       | 62,459         |       | 2,784,635   |       | (576,534        | )          | 2,270,560 |   |
|                                                            |       |             |       |           |       |        |       |            |       |   |   |
| Issuance of 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                           |       | —           |       | —         |       | 104,650     |       | —          |       | 104,650 |   |
| Dividend declaration                                            |       | —           |       | —         |       | —      |       | (820,177        | )          | (820,177 | ) |
| Net Income                                                      |       | —           |       | —         |       | —      |       | 524,605         |       | 524,605 |   |
|                                                            |       |             |       |           |       |        |       |            |       |   |   |
| Balance September 30, 2004                                      |       | 6,844,284        |       | $              | 68,443     |        | $          | 3,468,301       |       | $ | (872,106 | ) | $ | 2,664,638 |   |

** **

See notes to financialstatements.

** **

 

F-5

----

 

** **

**BallisticRecovery Systems, Inc.**

**Statementsof Cash Flow**

**For the Years Ended September 30, 2004 and 2003**

 
| ** **                                       | ** ** | **2004** | ** ** | **2003** | ** ** |
|--------------------------------------------------|------------|----------|------------|----------|------------|
| Cash flows from operating activity:              |       |     |       |     |       |
| Net income                                       |       | $        | 524,605    |     | $          | 549,567 |   |
| Adjustments to reconcile net income to net cash  |       |     |       |     |       |
| From operating activity:                         |       |     |       |     |       |
| Deferred income tax                              |       | 8,000    |       | 305,000  |       |
| Depreciation and amortization                    |       | 85,813   |       | 68,639   |       |
| Amortization of covenant not to compete          |       | 35,519   |       | 37,944   |       |
| Expense from stock based transaction             |       | 104,650  |       | 20,799   |       |
| Loss on retirement of furniture and equipment    |       | —   |       | 1,096    |       |
| (Increase) decrease in:                          |       |     |       |     |       |
| Accounts receivable, net                         |       | (75,792  | )          | (247,376 | )          |
| Inventories                                      |       | (14,306  | )          | (290,292 | )          |
| Prepaid expenses                                 |       | 16,670   |       | (12,324  | )          |
| Long-term prepaid expenses                       |       | 24,852   |       | 25,239   |       |
| Increase (decrease) in:                          |       |     |       |     |       |
| Accounts payable                                 |       | 50,801   |       | 71,132   |       |
| Customer deposits                                |       | (37,766  | )          | (75,927  | )          |
| Accrued payroll and other accrued liabilities    |       | 141,442  |       | (115,930 | )          |
|                                             |       |     |       |     |       |
| Net cash from operating activities               |       | 864,488  |       | 337,567  |       |
|                                             |       |     |       |     |       |
| Cash flows from investing activities:            |       |     |       |     |       |
| Capital expenditures                             |       | (124,189 | )          | (127,430 | )          |
|                                             |       |     |       |     |       |
| Net cash from investing activities               |       | (124,189 | )          | (127,430 | )          |
|                                             |       |     |       |     |       |
| Cash flows from financing activities:            |       |     |       |     |       |
| Proceeds from exercise of common stock warrants  |       | 562,500  |       | —   |       |
| Proceeds from exercise of common stock options   |       | 10,000   |       | —   |       |
| Principal payments on covenant not to compete    |       | (40,560  | )          | (36,355  | )          |
| Dividends paid                                   |       | (820,177 | )          | (308,916 | )          |
|                                             |       |     |       |     |       |
| Net cash from financing activities               |       | (288,237 | )          | (345,271 | )          |
|                                             |       |     |       |     |       |
| Increase (decrease) in cash and cash equivalents |       | 452,062  |       | (135,134 | )          |
| Cash and cash equivalents - beginning of year    |       | 862,495  |       | 997,629  |       |
|                                             |       |     |       |     |       |
| Cash and cash equivalents - end of year          |       | $        | 1,314,557  |     | $          | 862,495 |   |

 

See notes to financial statements.

 

 

F-6

----

 

 

**Ballistic Recovery Systems, Inc.**

**Notes toFinancial****Statements**

**September30, 2004 and 2003**

 

**1.     Nature of Business**

 

BallisticRecovery Systems, Inc. (the “Company”) designs, manufactures and distributesrocket deployed whole-aircraft emergency parachute systems for use on generalaviation and recreational aviation aircraft. The emergency parachute systemsare intended for use in the event of an in-air emergency and are designed tobring down the entire aircraft and its occupants under the parachute canopy.  In the general aviation market, the Company iscurrently producing and selling emergency recovery systems for four four-placegeneral aviation aircraft, known as the Cirrus Design SR20 (SR20) and SR22, andthe Cessna 172 and 182.  The products forCirrus Design were developed in a joint effort between the Company and CirrusDesign.  The Cirrus Design aircraft werecertified by the Federal Aviation Administration (FAA) in 1998 and 2000,respectively, and features 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**

 

***Accounting Principles***

 

The financial statements and accompanying notes are prepared inaccordance with accounting principles generally accepted in the United Statesof America.

 

***Use of Estimates***

The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States of America requires management to make estimatesand assumptions that affect certain reported amounts of assets and liabilitiesand disclosure of contingent assets and liabilities at the date of thefinancial statements and the reported amounts of expenses during the reportingperiod. Actual results could differ from those estimates.

***CashConcentrations***

Bank balances exceededfederally insured levels during 2004 and 2003 and exceeded federally insuredlevels as of September 30, 2004. Generally, these balances may be redeemed upon demand and therefore bearminimal risk.

***Cashand Cash Equivalents***

Short-term investmentswith an original maturity of three months or less are considered to be cashequivalents and are stated at their fair value.

***AccountsReceivable, credit risk and allowance for doubtful accounts***

The Company sells itsproducts to domestic and foreign companies. The Company reviews customers’ credit history before extending unsecuredcredit and established an allowance for doubtful accounts based upon factorssurrounding the credit risk of specific customers and other information.  The Company does not accrue interest on pastdue accounts receivable.  Unless specificarrangements have been made, accounts receivable over 30 days are consideredpast due. The Company writes off accounts receivable when they are deemeduncollectible.  Accounts receivable areshown net of an 

 

 

F-7

----

 

 

allowance for doubtfulaccounts of $10,000 at both September 30, 2004 and 2003.The Company’s contractresearch and development projects are billed to its customers on anuncollateralized credit basis.  Theestimated loss that management believes is probable is included in theallowance for doubtful accounts.  Due touncertainties in the collection process, however, it is at least reasonablypossible that management’s estimate will change during the next year, whichcannot be estimated.

***CustomerConcentration***

The Company had sales toone major customer, Cirrus Design, which represented 75% of the Company’s totalsales for both fiscal years 2004 and 2003. This customer also accounted for 81% (or $325,000) and 44% (or $142,000)of accounts receivable at September 30, 2004 and 2003, respectively.  The Company supplies parachute systems toCirrus Design from the Company’s general aviation product line.

In its recreationalaviation product line, the Company primarily distributes its products throughdealers and distributors who in turn sell the products to the endconsumer.  The Company believes that in theevent that any individual dealers or distributors cease to represent theCompany’s products, alternative dealers or distributors can be established.

***Valuationof Inventories***

Out inventories arestated at the lower of cost or market. Cost is determined by the first-in, first-out (“FIFO”) method.  We maintain a standard costing system for ourinventories.  Assumptions with respect todirect labor utilization, standard direct and indirect cost rates, vendor pricingand utilization of factory capacities are formulated in the development of ourstandard costing system.  Sudden orcontinuing changes in the Company’s product markets could result in significantproduction variances from our standard rates. These variances could directly impact our gross profit performance andmay cause variability in gross profit results from reporting period toreporting period.  Our labor and overheadrates are set for production 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.

Provisions to reduceinventories to the lower of cost or market are made based on a review of excessand 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 ourprovision methods.  Sudden or continuingdownward changes in the Company’s product markets may cause us to recordadditional inventory revaluation charges in future periods.  No write-off provision was made to ourinventories for the year ended September 30, 2004.

***CustomerDeposits***

The Company requiresorder deposits from most of its domestic and international customers.  These deposits represent either partial orcomplete down payments for orders.  Thesedown payments are recorded as customer deposits.  The deposits are recognized as revenue whenthe product is shipped.

***IncomeTaxes***

Differences betweenaccounting rules and tax laws cause differences between the bases of certainassets 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 

 

F-8

----

 

Statement of FinancialAccounting Standards (SFAS) 109. Temporary differences relate primarily to: allowances for doubtfulaccounts; inventory valuation allowances; depreciation; and accrued expensesnot currently deductible.

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

Furniture, fixtures andleasehold improvements are stated at cost. Depreciation is computed using thestraight-line method over the estimated useful lives of the related assets,ranging from three to seven years for equipment and leasehold improvements andten years for the airplane. When assets are retired or otherwise disposed of,the cost and related accumulated depreciation are removed from the accounts andthe resulting 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.

***Intangibles***

Patents are recorded atcost and are being amortized on a straight-line method over 17 years.  The covenant not to compete is recorded atcost and is being amortized using the straight-line method over the ten-year termof the agreement.  Other intangibleassets are recorded at cost and are being amortized on a straight-line methodover five years.

Components of intangibleassets are as follows:
| ** **                                 | ** ** | **September 30, 2004** | ** ** | **September 30, 2003** | ** ** |
|--------------------------------------------|------------|------------------------|------------|------------------------|------------|
| ** **                                 | ** ** | **Gross Carrying**     | ** ** | **Accumulated**        | ** ** | **Gross Carrying** | ** ** | **Accumulated** | ** ** |
| ** **                                 | ** ** | **Amount**             | ** ** | **Amortization**       | ** ** | **Amount** | ** ** | **Amortization** | ** ** |
| Intangible assets subject to amortization: |       |                   |       |                   |       |   |   |   |   |
|                                       |       |                   |       |                   |       |   |   |   |   |
| Patents                                    |       | $                      | 11,664     |                   | $          | 10,053 |   | $ | 11,664 |   | $ | 9,367 |   |
| Other intangible assets                    |       | $                      | 51,398     |                   | $          | 51,398 |   | $ | 51,398 |   | $ | 51,398 |   |
| Covenant not to compete                    |       | $                      | 379,438    |                   | $          | 335,908 |   | $ | 379,438 |   | $ | 300,388 |   |

 

Amortizationexpense of intangible assets was $36,206 and $43,771 for the years endedSeptember 30, 2004 and 2003, respectively. Amortization expense is estimated to approximate $9,540, $9,540, $9,093,$8,853 and $8,115 for the years ending September 30, 2005, 2006, 2007, 2008 and2009, respectively.

 

***Comprehensive Income***

 

SFASNo. 130 establishes standards for the reporting and disclosure of comprehensiveincome and its components, which will be presented in association with acompany’s financial statements. Comprehensive income is defined as the change in a business enterprise’sequity during a period arising from transactions, events or circumstancesrelating to non-owner sources, such as foreign currency translation adjustmentsand unrealized gains or losses on available-for-sale securities.  It includes all changes in equity during aperiod except those resulting from investments by or distributions toowners.  For the fiscal years endedSeptember 30, 2004 and 2003, net income and comprehensive income wereequivalent.

 

 

F-9

----

 

***Fair Value of Financial Instruments***

 

SFASNo. 107, “Disclosures About Fair Value of Financial Instruments” requiresdisclosure of the estimated fair value of financial instruments as follows:

 

Short-term Assets and Liabilities:

 

Thefair values of cash, accounts receivable, accounts payable, accruedliabilities, and short-term debt approximate their carrying values due to theshort-term nature of these financial instruments.

 

Long-term Debt:

 

The fair value of long-term debt approximatetheir carrying value because the terms are equivalent to borrowing ratescurrently available to the Company for debt with similar terms and maturities.

 

***Segment Reporting***

Abusiness segment is a distinguishable component of an enterprise that isengaged in providing an individual product or service or a group of relatedproducts or services and that is subject to risks and returns that aredifferent from those of other business segments. The Company’s segments havesimilar economic characteristics and are similar in the nature of the productssold, type of customers, methods used to distribute the Company’s products andregulatory environment.  Managementbelieves that the Company meets the criteria for aggregating its operatingsegments into a single reporting segment.

***Stock-Based Compensation***

 

SFAS No. 123, *Accounting for Stock-Based Compensation* (“SFAS123”), provides for the use of a fair value based method of accounting foremployee stock compensation.  However,SFAS 123 also allows an entity to continue to measure compensation cost forstock options granted to employees using the intrinsic value method ofaccounting prescribed by Accounting Principles Board Opinion No. 25, *Accounting for Stock Issued to Employees* (“APB25”), which only requires charges to compensation expense for the excess, ifany, of the fair value of the underlying stock at the date a stock option isgranted (or at an appropriate subsequent measurement date) over the amount theemployee must pay to acquire the stock*,*if such 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 andearnings per share as if a fair value based method of accounting had beenapplied.

Had compensation costsbeen determined in accordance with the fair value method prescribed by SFASNo. 123 for all options issued to employees and amortized over the vestingperiod, the Company’s net income applicable to common shares and net income percommon share (basic and diluted) for plan options would have been decreased tothe pro forma amounts indicated below.  

 

F-10

----

 
| ** **                         | ** ** | **Fiscal Year ended**

**September 30,** | ** ** |
|------------------------------------|------------|------------------------------------------|------------|
| ** **                         | ** ** | **2004**                                 | ** ** | **2003** | ** ** |
| Net Income:                        |       |                                     |       |   |   |
| As reported                        |       | $                                        | 524,605    |   | $ | 549,567 |   |
| Pro forma                          |       | $                                        | 524,605    |   | $ | 523,357 |   |
|                               |       |                                     |       |   |   |
| Basic earnings per common share:   |       |                                     |       |   |   |
| As reported                        |       | $                                        | 0.08       |   | $ | 0.09 |   |
| Pro forma                          |       | $                                        | 0.08       |   | $ | 0.08 |   |
|                               |       |                                     |       |   |   |
| Diluted earnings per common share: |       |                                     |       |   |   |
| As reported                        |       | $                                        | 0.08       |   | $ | 0.09 |   |
| Pro forma                          |       | $                                        | 0.08       |   | $ | 0.08 |   |
|                               |       |                                     |       |   |   |
| Stock based compensation:          |       |                                     |       |   |   |
| As reported                        |       | $                                        | 104,650    |   | $ | 20,799 |   |
| Pro forma                          |       | —                                   |       | $ | 26,210 |   |

 

Nooptions were granted or vested during fiscal year 2004.  The fair value of each option granted isestimated on the dateof the grant using the Black-Scholes option pricing model with the followingassumptions used for the grants in 2003: dividend yield of 5.0%; expectedvolatility of 36.6%; risk-free interest rate of 2.6%; and expectedlives of five years.

***Earnings per Common Share***

 

Basicearnings per common share is computed by dividing net income by the weightedaverage number of common shares outstanding during the period.  Diluted earnings per common share is computedby dividing net income by the weighted average number of common sharesoutstanding plus all additional common stock that would have been outstandingif potentially dilutive common stock related to stock options and warrants hadbeen issued.  Weighted average sharesoutstanding-diluted includes 333,249 and 123,974 shares of dilutive securitiesfor fiscal year 2004 and 2003, respectively.

 

Followingis a reconciliation of basic and diluted earnings per common share for fiscalyear 2004 and 2003, respectively:

 
| ** **                                                       | ** ** | **Fiscal Year ended  September 30,** | ** ** |
|------------------------------------------------------------------|------------|--------------------------------------|------------|
| ** **                                                       | ** ** | **2004**                             | ** ** | **2003** | ** ** |
| Earnings per common share — basic:                          |       |                                 |       |   |   |
|                                                             |       |                                 |       |   |   |
| Net income                                                       |       | $                                    | 524,605    |   | $ | 549,567 |   |
|                                                             |       |                                 |       |   |   |
| Weighted average shares outstanding                              |       | 6,577,281                            |       | 6,222,399 |   |
|                                                             |       |                                 |       |   |   |
| Earnings per common share — basic                           |       | $                                    | 0.08       |   | $ | 0.09 |   |
|                                                             |       |                                 |       |   |   |
| Earnings per common share — diluted:                        |       |                                 |       |   |   |
|                                                             |       |                                 |       |   |   |
| Net income                                                       |       | $                                    | 524,605    |   | $ | 549,567 |   |
|                                                             |       |                                 |       |   |   |
| Weighted average shares outstanding                              |       | 6,577,281                            |       | 6,222,399 |   |
| Common stock equivalents                                         |       | 333,249                              |       | 123,974 |   |
|                                                             |       |                                 |       |   |   |
| Weighted average shares and potential diluted shares outstanding |       | 6,910,530                            |       | 6,346,373 |   |
|                                                             |       |                                 |       |   |   |
| Earnings per common share — diluted                         |       | $                                    | 0.08       |   | $ | 0.09 |   |

 

 

F-11

----

 

 

TheCompany uses the treasury method for calculating the dilutive effect of thestock options and warrants (using the average market price).

 

Options and warrants to purchase 390,000 shares of common stock with aweighted average exercise price of $1.28 were outstanding at September 30,2003, but were excluded from the computation of common share equivalents forthe fiscal year ended September 30, 2003 because their exercise prices weregreater than the average market price of the common shares.  No options were excluded from the computationof diluted earnings per share for the fiscal year ended September 31, 2004.

 

***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 $45,399 in 2004 and $88,838 in 2003.

 

***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 (SR20),on October 23, 1998.  This was the firstFAA certified 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 SR22received FAA certification in November 2000 and was certified with the Company’sparachute system as a standard equipment component of the aircraft.  Deliveries of SR22 parachutesystems by the Company began in December 2000.  The SR22 became thethird of the Company’s products to have received FAA certification (theBRS150 and SR20 products being the others).  For fiscal year 2004, approximately 75% ofthe Company’s total 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, whichtook the form of 

 

 

F-12

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equity and project specific funding, to develop and test such arecovery system.  The development andtesting was completed in fiscal year 2002 and the Company received FAAcertification for the BRS-172 recovery system in July 2002.  The Company made its first customer deliveryin September 2002 with twelve total systems installed through the end of fiscalyear 2004.

 

During fiscal year 2004, the Company developed a parachute recoverysystem for the Cessna 182 model of aircraft, which is called the BRS-182.  The system utilizes many of the samecomponents used in the recovery systems for the Cirrus aircraft models and theCessna 172.  The Company received the STCfrom the FAA on June 25, 2004.   ThisSupplemental Type Certificate (“STC”) allows the product to be installed oncertified Cessna 182 series aircraft. The first customer delivery and installation was completed in July2004.  The Company has begun a direct marketingcampaign which resulted in the sale and delivery of six BRS-182 units throughthe end of fiscal year 2004.

 

In November 2001, the Company entered into a contract with NASA for theCompany’s second Phase I Small Business Innovation Research (“SBIR”)grant.  The Company has been a successfulrecipient of both Phase I and Phase II SBIR research grants in prioryears.  The contract, which was a Phase Ifeasibility study, was completed in May 2002 and was a firm-fixed grant for$68,571.  The Phase I award is entitled “AdvancedAircraft Parachute Recovery System” and was granted to allow the Company toinvestigate the feasibility of developing parachute systems for larger andfaster aircraft than those currently supported by the Company.  Following the Phase I work, the Companyapplied for a follow-on Phase II grant and effective September 16, 2002 theCompany began work under a two-year contract for a firm fixed award of$598,694.  Work under the contract wascompleted in September 2004 with total contract billings of $575,000.  During the years ended September 30, 2004 and2003, the Company offset expenses by $385,619 and $189,410, respectively.  NASA and the United States Federal Governmentwill have a royalty free right to any developed technology, but only as acustomer for product that incorporates the developed technology that ispurchased from the Company.

 

**4.     Purchase and SupplyAgreement**

 

OnSeptember 17, 1999, the Company entered into a Purchase and SupplyAgreement with Cirrus, the manufacturer of the SR20 and SR22 aircraft thatutilize the Company’s parachute system as standard equipment.  Under theAgreement, Cirrus was issued four warrants to acquire an aggregate of up to 1.4million shares of unregistered Company common stock.  In order to executethe warrants, Cirrus must meet certain purchase levels of the Company’semergency parachute systems for the SR20, SR22 and derivative aircraft over thesubsequent five years. Cirrus met their minimum purchase commitment forthe first warrant period, but such warrant for 250,000 shares expiredunexercised on February 28, 2003. Cirrus met their minimum purchasecommitment for warrants number two and three, and exercised these warrants for500,000 shares, on February 29, 2004, for an aggregate exercise price of$562,500.  Cirrus has met their minimumpurchase commitment for warrant number four. The corresponding number of shares under this remaining warrant and thewarrant strike price, are as follows:

 
| **Warrant #** | ** ** | **Exercise Period** | ** ** | **Warrant Shares** | ** ** | **Exercise Price per Warrant Share** | ** ** | **Purchase Commitment** | ** **                  |
|---------------|------------|---------------------|------------|--------------------|------------|--------------------------------------|------------|-------------------------|-----------------------------|
| 4             |       | 01-2004  to 02-2005 |       | 650,000            |       | $                                    | 1.25       |                    | 500  Units in Calendar 2004 |   |
|               |            |                     |            |                    |            |                                      |            |                         |                             |  |

 

 

F-13

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Cirrushas the right to exercise the warrant during the exercise period for the statedexercise price. Cirrus has not indicated to the Company its intentionswith regards to the exercise of this warrant.

 

Pursuantto Emerging Issues Task Force 96-18 (EITF 96-18), “Accounting for EquityInstruments that are Issued to Other Than Employees for Acquiring, or inConjunction with Selling, Goods or Services,” the Company has and will record areduction in sales related to the warrants earned by Cirrus for fiscal year2004 and 2003.  Sales have been reduced by $104,650 and $20,799 for fiscalyear 2004 and 2003, respectively.  Basedon EITF 96-18, the warrants are not considered earned until the products aresold.

 

AssumingCirrus exercises all of warrant number four, the impact on equity may be asfollows (assumes equity contributions based on the exercise of warrants nearthe end of the exercise period):

 

| **Fiscal Year** | ** ** | **Equity Contribution** | ** ** |
|-----------------|------------|-------------------------|------------|
| 2005            |       | $                       | 812,500    |   |
|                 |            |                         |            |  |

 

**5.     Covenant Not to Compete**

 

OnOctober 26, 1995 the Company entered into an agreement with the presidentand 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.

 

OnAugust 16, 2004, the Company extended the non-compete period by five additionalyears in exchange for the exercise of stock options held by SCI’s presidentunder a stock subscription agreement backed by a promissory note.  The note has a principal sum of $12,500together with aggregate interest on the unpaid principal balance of $2,500.  Payments under the note begin July 1, 2005and continue monthly with a final maturity date of October 1, 2005.  The present value of the Company’s obligationunder this agreement was recorded as an intangible asset and is being amortizedover fifteen years as shown in the accompanying financial statements.

 

Futurepayments under this agreement are as follows:

 

| **Fiscal Year** | ** ** | **Future Dollars** | ** ** | **Present Dollars** | ** ** |
|-----------------|------------|--------------------|------------|---------------------|------------|
| 2005            |       | $                  | 48,436     |                | $          | 45,255 |   |
| 2006            |       | 4,036              |       | 4,000               |       |
|            |       | $                  | 52,472     |                | $          | 49,255 |   |

 

**6.     Other Financial Information**

 

Inventories

 

 

F-14

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

 

| ** **        | ** ** | **2004** | ** ** | **2003** | ** ** |
|-------------------|------------|----------|------------|----------|------------|
| Raw materials     |       | $        | 778,707    |     | $          | 811,538 |   |
| Work in process   |       | 325,561  |       | 93,701   |       |
| Finished goods    |       | 28,228   |       | 212,951  |       |
| Total inventories |       | $        | 1,132,496  |     | $          | 1,118,190 |   |

 

Furniture, Fixtures andLeasehold Improvements

Furniture, fixtures andleasehold improvements consisted of the following categories at September 30:

| ** **                     | ** ** | **2004** | ** ** | **2003** | ** ** |
|--------------------------------|------------|----------|------------|----------|------------|
| Office furniture and equipment |       | $        | 237,587    |     | $          | 172,454 |   |
| Manufacturing equipment        |       | 260,307  |       | 201,251  |       |
| Airplane                       |       | 93,873   |       | 93,873   |       |
| Total fixed assets             |       | $        | 591,767    |     | $          | 467,578 |   |

 

Depreciation Expense

 

Depreciation expense totaled $85,126 in 2004 and $62,812 in 2003.

 

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 assets outstanding with estimated future cash flows expectedto result from the use of the assets, including cash flows fromdisposition.  Should the sum of theexpected future cash flows be less than the carrying value, the Company wouldrecognize an impairment loss.  Animpairment loss would be measured by comparing the amount by which the carryingvalue exceeds the 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, 2004 and 2003:

 

| ** **                            | ** ** | **2004** | ** ** | **2003** | ** ** |
|---------------------------------------|------------|----------|------------|----------|------------|
| Bonus and Profit Sharing Plan Accrual |       | $        | 132,733    |     | $          | 139,875 |   |
| Income Tax Accrual                    |       | 182,602  |       | 39,071   |       |
| Other Miscellaneous Accruals          |       | 27,300   |       | 19,469   |       |
|                                  |       | $        | 342,635    |     | $          | 198,415 |   |

 

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% in 2004 and5% in 2003.

 

 

F-15

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Major Suppliers

 

During the fiscal years ended September 30, 2004 and 2003, 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.  TheCompany routinely searches for new suppliers and feels alternate sources can befound should any of these suppliers be unable to meet the Company’s needs.

###  

### RelatedParties

 

### Through December 2003, the Companycontracted with an officer/shareholder of the Company to coordinate itsadvertising, at which time the arrangement was cancelled.  Total advertising expenses were $45,399 and$88,838 for fiscal year 2004 and 2003, respectively, with $15,100 and $39,259,respectively of these total being paid to this individual.  The advertising rates charged were at orbelow current market rates.  There wereno outstanding balances due to this related party as of September 30, 2004 or2003.

###  

### The Company paid consulting fees to amember of the board of directors for services provided in the amount of $4,101in fiscal year 2004.

 

### ProfitSharing 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.  Companymatch contributions made for the years ended September 30, 2004 and 2003,respectively, were $11,514 and $8,668. The Company can also make discretionary profit sharingcontributions.  Company contributionsmade at the discretion of management and the board of directors for the yearsended September 30, 2004 and 2003, respectively, were $55,349 and $53,512.

 

Product Warranties

 

The Company offers itscustomers up to a one-year warranty on its products.  The warranty covers only manufacturingdefects, which will be replaced or repaired by the Company at no charge to thecustomer.  To date, the Company has nothad any material claims against its products. The Company has not recorded an accrual for possible warranty claims andbelieves that the product warranties as offered will not have a material effecton the Company’s financial position, results of operations or cash flows.

Backlog of Orders

 

As of September 30, 2004 and 2003, the Company had a backlog of orderstotaling approximately $1,842,000 and $1,867,000, respectively. The backlogsincluded over $1.6 million of orders for the Cirrus Design aircraft for bothperiods.  The 2004backlog is expected to be filled within 12 months.  Cirrus Design is currently producing aircraftat levels, which has made it the largest producer of single engine pistonaircraft in the world ahead of Cessna Aircraft Company.  Due to the backlog period involved, however,it is possible that there could be cancellations of a portion of the currentlybacklogged orders.  The Company expectsto fund the build out and sale of the backlogged orders through cash flowprovided by the sale of those orders. The Company cautions investors who may

 

F-16

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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**

 

For fiscal year 2003, the Company had a $250,000 line-of-credit for usein operations.  In October 2003, theCompany negotiated an increase in the line-of-credit to $500,000.  The line-of-credit was established on anannual renewal basis and is secured by all of the Company’s assets.  The current line-of-credit expires March 6,2005.  The line calls for a variableinterest rate of 5.09% at September 30, 2004. At September 30, 2004 and 2003 there were no outstanding balances underthe line of credit.  The Company expectsto renew the line each year following the review of its financial results andprojections with the bank.

 

**8.     Income Taxes**

 

At September 30, 2004 and2003, the Company did not have any federal or state net operating losscarryforwards.  The provision for incometaxes consisted of the following components for the years ended September 30:

 

| **Current:** | ** ** | **2004** | ** ** | **2003** | ** ** |
|--------------|------------|----------|------------|----------|------------|
| Federal      |       | $        | 283,000    |     | $          | — |   |
| State        |       | 70,000   |       | 55,000   |       |
| Deferred     |       | (8,000   | )          | 305,000  |       |
|         |       | $        | 345,000    |     | $          | 360,000 |   |

 

Componentsof net deferred income taxes are as follows at September 30:

| ** **                                     | ** ** | **2004**   | ** ** | **2003**   | ** ** |
|------------------------------------------------|------------|------------|------------|------------|------------|
| Deferred income tax assets:                    | ** ** | ** ** | ** ** | ** ** | ** ** |
| Amortization                                   |       | $          | 10,000     |       | $          | 12,000 |   |
| Allowance for doubtful accounts                |       | 4,000      |       | 4,000      |       |
| Vacation accruals                              |       | 23,000     |       | 28,000     |       |
| Asset valuation reserves                       |       | 40,000     |       | 51,000     |       |
| Other accruals                                 |       | 2,000      |       | —     |       |
| Inventory Section 263 adjustment               |       | 40,000     |       | 40,000     |       |
|                                           |       | 119,000    |       | 135,000    |       |
| Deferred income tax liabilities - depreciation |       | (13,000    | )          | (21,000    | )          |
| Net deferred income tax assets                 |       | $          | 106,000    |       | $          | 114,000 |   |

 

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

 

| ** **                          | ** ** | **2004** | ** ** | **2003** | ** ** |
|-------------------------------------|------------|----------|------------|----------|------------|
| Federal statutory tax rate          |       | 34.0     | %          | 34.0     | %          |
| State taxes, net of federal benefit |       | 6.4      |       | 6.4      |       |
| Other                               |       | (0.7     | )          | (0.8     | )          |
| Effective tax rate                  |       | 39.7     | %          | 39.6     | %          |

 

 

 

F-17

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**9.     Common Stock**

 

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 year 2004.

 

During fiscal year 2003, the Company has issued options to variousdirectors, officers, employees and others on a discretionary basis.  Stock option activity for fiscal years 2004and 2003 is as follows:

 

| ** **                                                              | ** ** | **Number of  Shares** | ** ** | **Option Price  Range  per Share** | ** ** |
|-------------------------------------------------------------------------|------------|-----------------------|------------|------------------------------------|------------|
| Balance at September 30, 2002                                           |       | 417,086               |       | $0.25  to $1.38                    |       |
|                                                                    |       |                  |       |                               |       |
| Granted during fiscal year 2003                                         |       | 80,000                |       | $1.05                              |       |
| Converted to stock under cashless transaction                           |       | (70,836               | )          | $0.31  to $0.75                    |       |
|                                                                    |       |                  |       |                               |       |
| 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                    |       |
|                                                                    |       |                  |       |                               |       |
| Weighted average fair value of options granted during fiscal year  2004 |       | —                |       |                               |       |
|                                                                    |       |                  |       |                               |       |
| Weighted average fair value of options granted during fiscal year  2003 |       | $0.23                 |       |                               |       |
|                                                                    |       |                  |       |                               |       |
| At September 30, 2004:                                                  |       |                  |       |                               |       |
| Options vested and exercisable                                          |       | 310,000               |       |                               |       |
| Shares available for options                                            |       | 600,000               |       |                               |       |
|                                                                    |       |                  |       |                               |       |
| At September 30, 2003:                                                  |       |                  |       |                               |       |
| Options vested and exercisable                                          |       | 426,250               |       |                               |       |
| Shares available for options                                            |       | —                |       |                               |       |

 

 

F-18

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The following tables summarize information about stock optionsoutstanding as of September 30, 2004:

 

| **Options Outstanding** | ** ** |
|-------------------------|------------|
| ** **              | ** ** | **Weighted-Average** | ** ** | **Weighted-Average** | ** ** | ** ** | ** ** |
| ** **              | ** ** | **Number** | ** ** | **Remaining** | ** ** | **Exercise** | ** ** |
| **Exercise Price**      | ** ** | **Outstanding** | ** ** | **Contractual Life** | ** ** | **Price** | ** ** |
|                    |       |   |   |   |   |   |   |
| $0.44                   |       | 30,000 |   | 1.13 |   | $ | 0.44 |   |
| $0.91                   |       | 60,000 |   | 1.46 |   | $ | 0.91 |   |
| $1.05                   |       | 80,000 |   | 3.46 |   | $ | 1.05 |   |
| $1.25                   |       | 60,000 |   | 0.46 |   | $ | 1.25 |   |
| $1.38                   |       | 80,000 |   | 2.46 |   | $ | 1.38 |   |
|                    |       |   |   |   |   |   |   |
| $0.44 to $1.38          |       | 310,000 |   | 2.00 |   | $ | 1.09 |   |

 

StockWarrants

 

As of September 30, 2004,the Company had a total of 650,000 common stock warrants outstanding relatingto the Purchase and Supply Agreement with Cirrus Design.  Cirrus Design met their minimum purchasecommitment for the exercise of the outstanding warrant.  The price of these warrants is $1.25 pershare and the warrants expire February 28, 2005 if they are not exercised.

 

**10.  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 2004 and2003 was $40,556 and $39,706, 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, 2004 and 2003, and long-term prepaid lease expense of $53,120 and$77,972, respectively, as reflected in the accompanying 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 2004 was $30,839.  This lease expires October 31, 2005.

 

Future minimum lease payments required on non-cancelable operatingleases at September 30, 2004 are as follows:

     

| **Fiscal Year** | ** ** | **Amount** | ** ** |
|-----------------|------------|------------|------------|
| 2005            |       | $          | 39,397     |   |
| 2006            |       | 17,627     |       |
| 2007            |       | 15,647     |       |
| 2008            |       | 3,912      |       |
|            |       |       |       |
| Total           |       | $          | 76,583     |   |

 

 

F-19

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Legal Proceedings

 

(a)  InAugust 2003, the Company was served in two related actions, Kathleen F.Fischer, Individually and as personal representative of the Estate of Joseph C.Fischer v. Cirrus Design Corp., Ballistic Recovery Systems, Inc., and WingsAloft, Inc., U.S. District Court for the Northern District of New York, FileNo. 03-CV-0782 (HGM/DEP), and Susan Sedgwick, Individually, on her own behalfas surviving spouse of Thomas P. Sedgwick, as Executrix of the Estate of ThomasP. Sedgwick, deceased, and on behalf of all interested beneficiaries, includingJamie Lynn Sedgwick and Jacqueline Ann Sedgwick v. Cirrus Design Corp.,Ballistic Recovery Systems, Inc. and Wings Aloft, Inc., U.S. District Court forthe Northern District of New York, File No. 03-CV-0592 (HGM/DEP).

 

These actions arise from the crash of a CirrusDesign Corp. SR22 airplane in April 2002 near Parish, New York. Plaintiffs have brought claims for strict products liability, negligence andbreach of warranty against Cirrus, the airplane’s manufacturer, the Company,which manufactures the CAPS (Cirrus Airframe Parachute System), a parachutesystem which is a required component of the plane, and Wings Aloft, Inc., whichprovided training on the SR22 to the decedents.

 

In preliminary reports submitted to the court,the plaintiff in *Fischer* hasestimated the damages to be sought at trial as sixty million dollars, and theplaintiff in *Sedgwick* hassubmitted an estimate of seven million five hundred thousand dollars.

 

The matters have been consolidated for purposesof discovery, which began in November 2003 and is scheduled to becompleted by March 31, 2005, with the trials currently scheduled to commencelater in 2005.  At this time, theCompany cannot state with any degree of certainty what the outcome of thesematters will be or the amount or range of potential loss, if any.  TheCompany will vigorously defend these matters.

 

(b)  In April 2004, the Companynotified Charles F. Parsons of its intent to terminate the sales and marketingcontract between the Company and Mr. Parsons relating to the BRS-172 andBRS-150 products for lack of performance. Subsequent to the notification being sent to Mr. Parsons, both theCompany and Mr. Parsons filed suit against each other.  The Company filed suit to formalize thetermination of the contract and Mr. Parsons filed suit to block the terminationof the contract.  At this time, theCompany cannot state with any degree of certainty what the outcome of thismatter will be or if there will be any financial impact on the Company.  The Company intends to vigorously defend thismatter.

(c)  In September 2004, an action against theCompany has been commenced by the estate of Douglas Lefebvre arising from thecrash of a Sabian Rans S-12XL near Mexican Hat, Utah on September 22, 2002.  Mr. Lefebvre was the passenger on theaircraft.  The suit was only recentlycommenced and discovery has just begun. However, the Company has the report of the National TransportationSafety Board which investigated the accident. The Safety Board concluded that the pilot inadvertently stalled theaircraft and then he failed “to follow the proper emergency procedures foractivating his Ballistic Recovery System.” The Safety Board went on to say that “contributing factors [in theaccident] were the improper installation of the BRS by the pilot . . . .”  The Company believes that it has strongdefenses to the action, but is unable to predict the outcome or estimate whatamount of damages, if any, that might be awarded in this action.

 

F-20

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**11.  Supplemental Cash FlowInformation**

 

| **Cash paid for:** | ** ** | **2004** | ** ** | **2003** | ** ** |
|--------------------|------------|----------|------------|----------|------------|
| Interest           |       | $        | 7,875      |     | $          | 14,905 |   |
| Income taxes       |       | 201,469  |       | 121,463  |       |
|                    |            |          |            |          |            |  |  |

 

Summary of non-cash activity:

 

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

•                  Options to acquire 35,000shares and 70,836 shares of the Company’s common stock were converted into27,105 shares and 36,192 shares of the Company’s common stock in cashlesstransactions during fiscal year 2004 and 2003, respectively.

 

**12.   SubsequentEvents**

 

On October14, 2004, Ballistic Recovery Systems, Inc., a Minnesota corporation (the “Company”)and Mark B. Thomas entered into a Resignation, Consulting, Non-Competition andGeneral Release Agreement (the “Agreement”) in connection with Mr. Thomas’resignation as Chief Executive Officer, Chief Financial Officer, President, andas a director of the Company.  Pursuant to the terms of the Agreement, Mr.Thomas resigned such offices effective October 14, 2004.  The Company andMr. Thomas agreed to terminate that certain Employment Agreement between suchparties which was effective January 1, 2004.  Mr. Thomas agreed to becomea consultant to the Company for a 90 day period for $5,000 per month pursuantto which Mr. Thomas would provide certain services to the Company up to amaximum of 25 hours per month.  For services requested by the Company’sBoard beyond such monthly amount, Mr. Thomas would be paid $200 per hour. Mr. Thomas would also be reimbursed, consistent with Company internal policyfor accrued vacation time and reimbursable business expenses and would have hishealthcare benefits extended for the shorter of 18 months or such time as Mr.Thomas obtains comparable replacement coverage.

 

At a meeting on October 27, 2004, the Company’s Board of Directorsdeclared a dividend of $0.08 per share for all holders of record as of theclose of business on November 8, 2004 and payable November 22, 2004.

 

 

F-21

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