NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Fiscal Years ended September 30, 2006, 2005, and 2004

The Company designs, manufactures, assembles and markets video systems and system components for use in security, surveillance, safety and control purposes by end users. The Company markets its products worldwide primarily to installing dealers, systems integrators, government entities and distributors.

The accompanying consolidated financial statements include the accounts of Vicon Industries, Inc. (the Company) and its wholly owned subsidiaries: Vicon Industries Limited and subsidiary (Videotronic Infosystems GmbH) and TeleSite U.S.A., Inc. and subsidiary (Vicon Systems Ltd.), after elimination of intercompany accounts and transactions.

The Company recognizes revenue when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the selling price is fixed or determinable, and collectibility of the resulting receivable is reasonably assured. As it relates to product sales, revenue is generally recognized when products are sold and title is passed to the customer. Shipping and handling costs are included in cost of sales. Advance service billings under a national supply contract with one customer are deferred and recognized as revenues on a pro rata basis over the term of the service agreement. The Company evaluates multiple-element revenue arrangements for separate units of accounting, and follows appropriate revenue recognition policies for each separate unit. Elements are considered separate units of accounting provided that (i) the delivered item has stand-alone value to the customer, (ii) there is objective and reliable evidence of the fair value of the delivered item, and
(iii) if a general right of return exists relative to the delivered item, delivery or performance of the undelivered item is considered probable and substantially within the control of the Company. As applied to the Company, under arrangements involving the sale of product and the provision of services, product sales are recognized as revenue when the products are sold and title is passed to the customer, and service revenue is recognized as services are performed. For products that include more than incidental software, and for separate licenses of the Company's software products, the Company recognizes revenue in accordance with the provisions of Statement of Position 97-2, "Software Revenue Recognition", as amended.

Cash and cash equivalents include cash on deposit and amounts invested in highly liquid money market funds.

Marketable securities consist of mutual fund investments in U.S. government debt securities. Such securities are stated at market value and are classified as available-for-sale under Financial Accounting Standards Board (FASB) Statement of Financial Accounting Standards (SFAS) No. 115, with unrealized gains and losses reported in other comprehensive income as a component of shareholders' equity. The cost of such securities was $129,373 and $123,881 at September 30, 2006 and 2005, respectively, with $2,676 and $2,051 of unrealized losses included in the carrying amounts at September 30, 2006 and 2005, respectively.

The Company maintains allowances for doubtful accounts for estimated losses resulting from the inability of its customers to make required payments. If the financial condition of its customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required.

Inventories are valued at the lower of cost (on a moving average basis which approximates a first-in, first-out method) or market. When it is determined that a product or product line will be sold below carrying cost, affected on hand inventories are written down to their estimated net realizable values.

Property, plant, and equipment are recorded at cost. Depreciation and amortization of assets under capital leases, is computed by the straight-line method over the estimated useful lives of the related assets. Machinery, equipment and vehicles are being depreciated over periods ranging from 2 to 10 years. The Company's buildings are being depreciated over periods ranging from 25 to 40 years and leasehold improvements are amortized over the lesser of their estimated useful lives or the remaining lease term. Fully depreciated fixed assets are retired from the balance sheet when they are no longer in use.

The Company reviews its long-lived assets for impairment whenever events or circumstances indicate that the carrying amount of an asset may not be recoverable. If the sum of the expected cash flows, undiscounted and without interest, is less than the carrying amount of the asset, an impairment loss is recognized as the amount by which the carrying amount of the asset exceeds its fair value.

Product engineering and development costs are charged to expense as incurred, and amounted to approximately $4,500,000, $4,800,000 and $4,900,000 in fiscal 2006, 2005, and 2004, respectively.

Basic EPS is computed based on the weighted average number of common shares outstanding. Diluted EPS reflects the maximum dilution that would have resulted from the exercise of stock options, warrants and incremental shares issuable under a deferred compensation agreement (see Note 10). In periods when losses are incurred, the effects of these securities are antidilutive and, therefore, are excluded from the computation of diluted EPS.

The Company translates the financial statements of its foreign subsidiaries by applying the current rate method under which assets and liabilities are translated at the exchange rate on the balance sheet date, while revenues, costs, and expenses are translated at the average exchange rate for the reporting period. The resulting cumulative translation adjustment of $998,000 and $573,000 at September 30, 2006 and 2005, respectively, is recorded as a component of shareholders' equity in accumulated other comprehensive income (loss).

The Company accounts for income taxes under the provisions of SFAS No. 109, "Accounting for Income Taxes", which requires recognition of deferred tax liabilities and assets for the expected future tax consequences of events that have been included in the financial statements or tax returns. Under this method, deferred tax liabilities and assets are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. Deferred U.S. income taxes are not provided on undistributed earnings of foreign subsidiaries as the Company presently intends to reinvest such earnings indefinitely, and any plan to repatriate any of such earnings in the future is not expected to result in a material incremental tax liability to the Company. In fiscal 2006 and 2005, the Company recognized a valuation allowance against its entire net deferred tax asset balance due to the uncertainty of future realization (see Note 4 for further discussion).

The Company provides for the estimated cost of product warranties at the time revenue is recognized (see Note 3). While the Company engages in product quality programs and processes, including monitoring and evaluating the quality of its component suppliers, its warranty obligation is affected by product failure rates, material usage and service delivery costs incurred in correcting a product failure. Should actual product failure rates, material usage or service delivery costs differ from its estimates, revisions to the estimated warranty liability may be required.

SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities", establishes accounting and reporting standards for derivative instruments as either assets or liabilities in the statement of financial position based on their fair values. Changes in the fair values are required to be reported in earnings or other comprehensive income depending on the use of the derivative and whether it qualifies for hedge accounting. Derivative instruments are designated and accounted for as either a hedge of a recognized asset or liability (fair value hedge) or a hedge of a forecasted transaction (cash flow hedge). For derivatives designated as effective cash flow hedges, changes in fair values are recognized in other comprehensive income. Changes in fair values related to fair value hedges as well as the ineffective portion of cash flow hedges are recognized in earnings.

The Company does not use derivative instruments for speculative or trading purposes. Derivative instruments are primarily used to manage exposures related to transactions with the Company's Europe and Israel based subsidiaries and interest rate risk on certain variable rate bank indebtedness. To accomplish this, the Company uses certain contracts, primarily foreign currency forward contracts ("forwards") and interest rate swaps, which minimize cash flow risks from changes in foreign currency exchange rates and interest rates, respectively. These derivatives have been designated as cash flow hedges for accounting purposes.

As of September 30, 2006, the Company had an interest rate swap and currency forwards outstanding with notional amounts aggregating $1.4 million and $800,000, respectively, whose aggregate fair value was a liability of approximately $22,000. The change in the fair value of these derivatives is reflected in other comprehensive income in the accompanying statement of shareholders' equity, net of tax where applicable. The forwards have maturities of less than one year and require the Company to exchange currencies at specified dates and rates. The interest rate swap matures in the same amounts and over the same periods as the related debt. The Company considers the credit risk related to the interest rate swaps and the forwards to be low because such instruments are entered into with financial institutions having high credit ratings and are generally settled on a net basis. There were no gains or losses recognized in operations due to hedge ineffectiveness during the three-year period ended September 30, 2006. The Company does not expect that the amounts currently classified in accumulated other comprehensive income that will be recognized in operations in the next fiscal year will be material.

The carrying amounts for trade accounts and other receivables, accounts payable and accrued expenses approximate fair value due to the short-term maturity of these instruments. The carrying amounts of the Company's long-term debt instruments approximate fair value. The Company's interest rate swap agreement is carried at its fair market value (which was a liability of approximately $20,000 at September 30, 2006). This value represents the estimated amount the Company would need to pay if such agreement was terminated before maturity, principally resulting from market interest rate decreases. The fair value of the Company's foreign currency forward exchange contracts is estimated by obtaining quoted market prices. The contracted exchange rates on committed forward exchange contracts was approximately $2,000 less favorable than the market rates for similar term contracts at September 30, 2006.

Fair value estimates are made at a specific point in time based on relevant market information about the financial instrument. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

Prior to October 1, 2005, the Company followed Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB No. 25") and related interpretations in accounting for its employee stock-based compensation. Under APB No. 25, compensation expense was recorded if, on the date of grant, the market price of the underlying stock exceeded its exercise price. As permitted by Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS No. 123") and SFAS No. 148 "Accounting for Stock-Based Compensation - Transition and Disclosure - An Amendment of FASB Statement No. 123" ("SFAS No. 148"), the Company had retained the accounting prescribed by APB No. 25 and presented the disclosure information prescribed by SFAS No. 123 and SFAS No. 148.

Had compensation expense for stock option grants issued been determined under the fair value method of SFAS No. 123, the Company's net loss and loss per share (EPS) for the fiscal years ended September 30, 2005 and 2004 would have been:

                                                   2005            2004
                                                ----------       --------

Reported net loss                              $(2,884,621)    $(2,690,594)
Stock-based compensation cost, net of tax         (194,935)       (227,113)
                                               ------------    ------------
Pro forma net loss                             $(3,079,556)    $(2,917,707)
                                               ============    ============

Reported basic and diluted EPS                   $ (.63)        $  (.59)
Pro forma basic and diluted EPS                  $ (.67)        $  (.63)

Effective October 1, 2005, the Company adopted SFAS No. 123(R), "Share-Based Payment", which requires that all share based payments to employees, including stock options, be recognized as compensation expense in the consolidated financial statements based on their fair values and over the requisite service period. For the year ended September 30, 2006, the Company recorded non-cash compensation expense of $152,413 ($.03 per basic and diluted share) relating to stock options. The Company elected to utilize the modified-prospective application method, whereby compensation expense is recorded for all awards granted after October 1, 2005 and for the unvested portion of awards granted prior to this date. Accordingly, prior period amounts have not been restated. The adoption of SFAS No. 123(R) resulted in an immaterial cumulative change in accounting as of the date of adoption.

The fair value for options granted during the fiscal years ended September 30, 2006, 2005 and 2004 was determined at the date of grant using a Black-Scholes valuation model and the straight-line attribution approach using the following weighted average assumptions:

                                      2006            2005            2004
                                      ----            ----            ----

Risk-free interest rate                4.4%            3.8%            3.5%
Dividend yield                         0.0%            0.0%            0.0%
Volatility factor                     75.9%           62.2%           67.9%
Weighted average expected life       5 years         4 years         4 years

The risk-free interest rate used in the Black-Scholes valuation method is based on the implied yield currently available in U.S. Treasury securities at maturity with an equivalent term. The Company has not recently declared or paid any dividends and does not currently expect to do so in the future. Expected volatility is based on the annualized daily historical volatility of the Company's stock over a representative period. The weighted-average expected life represents the period over which stock-based awards are expected to be outstanding and was determined based on a number of factors, including historical weighted average and projected holding periods for the remaining unexercised shares, the contractual terms of the Company's stock-based awards, vesting schedules and expectations of future employee behavior.

The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options.

The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Such estimates include, but are not limited to, provisions for doubtful accounts receivable, net realizable value of inventory, warranty obligations, deferred tax valuation and assessments of the recoverability of the Company's long-lived assets. Actual results could differ from those estimates.

Certain prior year amounts have been reclassified to conform to current year presentation.

The Company's European based subsidiary maintains a bank overdraft facility that provides for maximum borrowings of one million Pounds Sterling ($1,870,000) and is secured by all the assets of the subsidiary. This facility expires in March 2007. During fiscal 2006 and 2005, there were no outstanding borrowings under this facility.

Balance as of September 30, 2004                          $ 541,000
Deduct: Expenditures                                       (302,000)
Add: Provision                                              213,000
                                                          ---------
Balance as of September 30, 2005                          $ 452,000
Deduct: Expenditures                                       (268,000)
Add: Provision                                              218,000
                                                          ---------
Balance as of September 30, 2006                          $ 402,000
                                                          =========

                                        2006            2005             2004
                                        ----            ----             ----

Federal:
 Current                           $      -         $     -        $      -
 Deferred                                 -               -               -
                                   -------------    -----------    ------------
                                          -               -               -

State                                     -               8,805          12,015
Foreign                                  150,000         18,195         468,985
                                   -------------    -----------    ------------
 Total income tax expense          $     150,000    $    27,000    $    481,000
                                   =============    ===========    =============

A reconciliation of the U.S. statutory tax rate to the Company's effective tax rate follows:

                                   2006                   2005                     2004
                                   ----                   ----                     ----


                            Amount     Percent      Amount     Percent       Amount    Percent

U.S. statutory tax        (135,000)    (34.0)%   $ (972,000)    (34.0)%   $ (751,000)   (34.0)%
Increase in valuation
  allowance                423,000     106.5      1,019,000      35.6      1,408,000     63.7
Unrecognized prior year
  foreign operating
  losses                  (121,000)    (30.6)         -           -            -          -
Foreign tax rate
  difference                42,000      10.6          -           -            -          -
Permanent differences      (41,000)    (10.2)         -           -            -          -
State tax, net of
  federal benefit             -          -            6,000       0.2          8,000      0.4
Dissolution of
  subsidiary                  -          -             -          -         (192,000)    (8.7)
Other                      (18,000)     (4.5)       (26,000)     (0.9)         8,000      0.4
                       ------------    ------     ----------    ------      ---------   ------
   Effective Tax Rate  $   150,000      37.8%     $   27,000      0.9%    $  481,000     21.8%
                       ===========     ======     ==========    ======     ==========   ======

The tax effects of temporary differences that give rise to deferred tax assets and liabilities at September 30, 2006 and 2005 are presented below:

                                                     2006             2005
                                                     ----             ----

Deferred tax assets:
  Inventories                                    $   619,000       $  797,000
  Accrued compensation                               666,000          488,000
  Warranty accrual                                   147,000          166,000
  Depreciation                                       394,000          240,000
  Allowance for doubtful
    accounts receivable                              421,000          414,000
  Unearned revenue                                   378,000          268,000
  U.S. net operating loss carryforwards            2,372,000        2,621,000
  Foreign net operating loss carryforwards           300,000            -
  U.S. capital loss carryforward                      17,000            -
  Unrealized loss on derivatives                       8,000            5,000
  Other                                                1,000            1,000
                                                 -----------      -----------
    Gross deferred tax assets                      5,323,000        5,000,000

Deferred tax liabilities:
  Other                                               37,000          137,000
                                                 -----------      -----------
   Gross deferred tax liabilities                     37,000          137,000
                                                 -----------      -----------

   Total deferred tax assets and liabilities     $ 5,286,000      $ 4,863,000

   Less valuation allowance                       (5,286,000)      (4,863,000)
                                                 -----------      -----------
   Net deferred tax assets and liabilities       $     -          $     -
                                                 ===========      ===========

The Company maintains a valuation allowance against its deferred tax assets due to the uncertainty of future realization. The establishment of such valuation allowance in 2003 was determined to be appropriate due to recent operating losses and the inherent uncertainties of predicting future operating results in periods over which such net tax differences become deductible. Deferred U.S. income taxes are not provided on undistributed earnings of foreign subsidiaries as the Company presently intends to reinvest such earnings indefinitely, and any plan to repatriate any of such earnings in the future is not expected to result in a material incremental tax liability to the Company.

The Company has approximately $6.9 million of U.S. federal income tax loss carryforwards that expire in 2023 through 2026.

Pretax domestic loss amounted to approximately $(189,000), $(2,767,000) and $(3,856,000) in fiscal years 2006, 2005 and 2004, respectively. Pretax foreign income (loss) amounted to approximately $(208,000), $(91,000) and $1,646,000 in fiscal years 2006, 2005 and 2004, respectively.

                                               2006               2005
                                               ----               ----

U.S. bank mortgage loans                    $2,010,201         $2,266,867
U.K. bank term loan                             54,540            140,124
Other                                            7,424             64,177
                                            ----------         ----------
                                             2,072,165          2,471,168
Less current maturities                        331,830            409,343
                                            ----------         ----------

                                            $1,740,335         $2,061,825
                                            ==========         ==========

In January 1998, the Company entered into an aggregate $2.9 million mortgage and term loan agreement with a bank to finance the purchase of its principal operating facility. Such agreement included a $2,512,000 ten-year mortgage loan payable in monthly installments through January 2008, with a $1,188,000 payment due at the end of the term. The mortgage loan bears interest at the bank's prime rate minus 1.35% (6.90% and 5.40% at September 30, 2006 and 2005, respectively) and is secured by all the assets of the Company. At the same time, the Company entered into interest rate swap agreements with the same bank at the time to effectively convert the foregoing floating rate long-term loans to fixed rate loans. Subsequently, such bank sold its local operations, including the Company's loans, to another bank while retaining the Company's interest rate swap agreements. These agreements effectively fixed the Company's interest rate on its $2,512,000 mortgage loan at 7.79%. The interest rate swap agreement matures in the same amounts and over the same periods as the related mortgage loan.

In October 1999, the Company entered into a $1.2 million mortgage loan agreement with its bank to finance the expansion of its principal operating facility. The loan is payable in equal monthly principal installments through January 2008, with a $460,000 payment due at the end of the term. The loan bears interest at the bank's prime rate minus 160 basis points (6.65% and 5.15% at September 30, 2006 and 2005, respectively) or, at the Company's option, LIBOR plus 100 basis points (6.37% and 5.06% at September 30, 2006 and 2005, respectively).

In April 1997, the Company's Europe based subsidiary entered into a ten-year 500,000 pound sterling (approximately $935,000) bank term loan. The term loan is payable in equal monthly installments with interest at a fixed rate of 9%. The loan is secured by a first mortgage on the subsidiary's property and contains restrictive covenants that, among other things, require the subsidiary to maintain certain levels of net worth, earnings and debt service coverage.

Current and long-term debt maturing in each of the fiscal years subsequent to September 30, 2006 approximates $332,000 in 2007 and $1,740,000 in 2008.

                                                      2006           2005
                                                   ----------    -----------
Foreign currency translation adjustment            $ 998,132      $ 572,846
Unrealized loss on derivatives                       (21,841)       (13,750)
Unrealized loss on securities                         (2,676)        (2,051)
                                                   ----------    -----------
Accumulated other comprehensive income             $ 973,615      $ 557,045
                                                  ===========    ===========

The Company operates in one business segment which encompasses the design, manufacture, assembly and marketing of video systems and system components for the electronic protection segment of the security industry. Its U.S. based operations consist of Vicon Industries, Inc., the Company's corporate headquarters and principal operating entity. Its Europe-based operations consist of Vicon Industries Limited and its Videotronic subsidiary, which market and distribute the Company's products principally within Europe and the Middle East.

Net sales and long-lived assets related to operations in the United States and other foreign countries for the fiscal years ended September 30, 2006, 2005, and 2004 are as follows:

                                       2006             2005            2004
                                       ----             ----            ----
Net sales
 U.S.                              $35,358,000      $36,035,000     $36,530,000
 Foreign                            20,921,000       20,021,000      17,003,000
                                    ----------      -----------     -----------
   Total                           $56,279,000      $56,056,000     $53,533,000

Long-lived assets
 U.S.                              $ 4,518,000      $ 4,710,000     $ 5,059,000
 Foreign                             1,711,000        1,906,000       2,031,000
                                    ----------      -----------     -----------
   Total                           $ 6,229,000      $ 6,616,000     $ 7,090,000

U.S. sales include $5,040,000, $6,969,000 and $5,310,000 for export in fiscal years 2006, 2005, and 2004, respectively. Foreign sales principally represent sales from the Company's Europe based subsidiaries.

The Company maintains stock option plans which include both incentive and non-qualified options covering a total of 616,881 shares of common stock reserved for issuance to key employees, including officers and directors, as of September 30, 2006. All options are issued at fair market value at the grant date and are exercisable in varying installments according to the plans. The plans allow for the payment of option exercises through the surrender of previously owned mature shares based on the fair market value of such shares at the date of surrender. There were 73,933 shares available for grant at September 30, 2006.

Changes in outstanding stock options for the three years ended September 30, 2006 are as follows:

                                                        Weighted
                                                         Average
                                             Weighted   Remaining
                                   Number    Average   Contractual  Aggregate
                                     of      Exercise     Term      Intrinsic
                                   Options    Price    (in years)     Value
                                   -------    -----    ----------     -----

Balance at September 30, 2003      562,537    $3.34
Options granted                     35,000    $5.40
Options exercised                  (16,470)   $2.34
Options forfeited                  (25,747)   $3.33
----------------------------------------------------------
Balance at September 30, 2004      555,320    $3.50
Options granted                     86,000    $3.00
Options exercised                   (8,355)   $2.65
Options forfeited                  (50,224)   $4.58
----------------------------------------------------------
Balance at September 30, 2005      582,741    $3.35
Options granted                     39,975    $3.17
Options exercised                   (3,500)   $2.20
Options forfeited                  (73,933)   $3.79
----------------------------------------------------------
Balance at September 30, 2006      545,283    $3.28         2.6     $150,544
Exercisable at September 30, 2006  332,927    $3.32         2.0     $100,387

The weighted-average grant date fair value of options granted during the years ended September 30, 2006, 2005 and 2004 was $2.05, $1.52 and $2.90, respectively. The total intrinsic value of options exercised during the years ended September 30, 2006, 2005 and 2004 was $3,150, $12,475 and $50,265, respectively.

A summary of the status of the Company's nonvested shares as of September 30, 2006 and changes during the year is as follows:

                                                             Weighted-Average
                                                                 Grant-Date
Nonvested Shares                        Shares                   Fair Value
----------------                        ------                   ----------

Nonvested at October 1, 2005            294,253                     $1.79
Granted                                  39,975                     $2.05
Vested                                  (88,372)                    $1.79
Forfeited                               (33,500)                    $2.40
                                        -------                     -------
Nonvested at September 30, 2006         212,356                     $1.74

As of September 30, 2006, there was $205,678 of total unrecognized compensation cost, net of estimated forfeitures, related to nonvested share-based compensation arrangements, which is expected to be recognized over a weighted-average period of 1.1 years. The total fair value of shares vested during the years ended September 30, 2006, 2005 and 2004 was $158,299, $252,062 and $178,965, respectively.

On November 14, 2001, the Company's Board of Directors adopted a Shareholder Rights Plan, which declared a dividend of one Common Stock Purchase Right (a Right) for each outstanding share of common stock of the Company to shareholders of record on December 21, 2001. Each Right entitles the holder to purchase from the Company one share of common stock at a purchase price of $15 per share. In the event of the acquisition of or tender offer for 20% or more of the Company's outstanding common stock by certain persons or group without the Board of Directors' consent, such purchase price will be adjusted to equal fifty percent of the average market price of the Company's common stock for a period of thirty consecutive trading days immediately prior to the event. Until the Rights become exercisable, they have no dilutive effect on the Company's earnings per share.

The Rights, which are non-voting and exercisable until November 30, 2011, can be redeemed by the Company in whole at a price of $.001 per Right at any time prior to the acquisition by certain persons or group of 50% of the Company's common stock. Separate certificates for the Rights will not be distributed, nor will the Rights be exercisable, until either (i) a person or group acquires beneficial ownership of 20% or more of the Company's common stock or (ii) the tenth day after the commencement of a tender or exchange offer for 20% or more of the Company's common stock. Following an acquisition of 20% or more of the Company's common shares, each Right holder, except for the 20% or more stockholder, can exercise their Right(s), unless the 20% or more stockholder has offered to acquire all of the outstanding shares of the Company under terms that a majority of the independent Directors of the Company have determined to be fair and in the best interest of the Company and its stockholders. On May 7, 2002, the Company's shareholders approved an amendment of the Company's Certificate of Incorporation to increase the total number of shares of common stock authorized to issue from 10,000,000 to 25,000,000 shares.

                                       2006            2005           2004
                                       ----            ----           ----
Basic and Diluted EPS Computation

Net loss                           $  (546,555)    $(2,884,621)   $(2,690,594)
Weighted average shares
  outstanding                        4,571,905       4,566,621      4,597,961

Basic and diluted loss per share   $      (.12)     $     (.63)    $     (.59)
                                   ============     ===========    ===========

In 2006, 2005 and 2004, 103,218, 148,645 and 238,717 shares, respectively, have been omitted from the calculation of diluted EPS as their effect would have been antidilutive.

The Company leases vehicles and occupies certain facilities under operating leases that expire at various dates through 2009. The leases, which cover periods from three to eight years, generally provide for renewal options at specified rental amounts. The aggregate operating lease commitment at September 30, 2006 was $517,000 with minimum rentals for the fiscal years shown as follows: 2007 - $379,000; 2008 - $119,000; and 2009 - $19,000.

The Company is a party to employment agreements with certain of its officers that provide for, among other things, the payment of compensation if there is a change in control without Board of Director approval (as defined in the agreements). The contingent liability under such change in control provisions at September 30, 2006 was approximately $2.0 million. Certain of the Company's employment agreements with its officers provide for a severance benefit upon certain occurrences or at a specified date of retirement, absent a change in control, aggregating $2.1 million at September 30, 2006. The Company is amortizing such obligation to expense on the straight-line method through the specified dates of retirement. Such expense amounted to approximately $93,000 and $289,000 in fiscal 2006 and 2005, respectively.

The Company has agreements with certain of its officers to provide a deferred compensation benefit in the form of 103,898 shares of common stock currently held by the Company in treasury. Such shares vest upon retirement or, in the case of 70,647 shares, the expiration of one officer's employment agreement in September 2006. All shares vest earlier under certain occurrences including death, involuntary termination or a change in control of the Company. The market value of such shares approximated $630,000 at the dates of grant, which is being amortized on the straight-line method through the specified dates of retirement or over the term of the employment agreement.

The Company is one of several defendants in a patent infringement suit commenced by Lectrolarm Custom Systems, Inc. in May 2003 in the United States District Court for the Western District of Tennessee. The alleged infringement by the Company relates to its camera dome systems and other products that represent significant sales to the Company. Among other things, the suit seeks past and enhanced damages, injunctive relief and attorney's fees. In January 2006, the Company received the plaintiff's claim for past damages through December 31, 2005 that approximated $11.7 million plus pre-judgment interest. The Company and its outside patent counsel believe that the complaint against the Company is without merit. The Company is vigorously defending itself and is a party to a joint defense with certain other named defendants. The Company is unable to reasonably estimate a range of possible loss, if any, at this time. Although the Company believes that it has meritorious defenses to such claims, there is a possibility that an unfavorable outcome could ultimately occur that could result in a liability that is material to the Company's results of operations and financial position. The Company has held discussions with the plaintiff in the interest of settling the case. However, there can be no assurance that any settlement can be reached.

In connection with this suit, the Company petitioned the U.S. Patent and Trademark Office (USPTO) for reexamination of the plaintiff's patent. In April 2006, the USPTO issued a non-final office action rejecting all of the plaintiff's patent claims asserted against the Company citing the existence of prior art of the Company and another defendant. The plaintiff has appealed the USPTO ruling and has additional appeals available to them in the USPTO and, thereafter, in the Court of Appeals for the Federal Circuit. On June 30, 2006, the Federal District Court granted the defendants' motion for continuance
(delay) of the trial, pending the outcome of the USPTO's reexamination office proceedings.

In the normal course of business, the Company is a party to certain other claims and litigation. Management believes that the settlement of such claims and litigation, considered in the aggregate, will not have a material adverse effect on the Company's financial position and results of operations.

As of September 30, 2006, CBC Co., Ltd. and affiliates ("CBC") owned approximately 11.9% of the Company's outstanding common stock. The Company, which has been conducting business with CBC for approximately twenty-seven years, imports certain finished products and components through CBC and also sells its products to CBC. The Company purchased approximately $404,000, $566,000 and $651,000 of products and components from CBC in fiscal years 2006, 2005, and 2004, respectively, and the Company sold $205,000, $362,000 and $712,000 of products to CBC for distribution in fiscal years 2006, 2005, and 2004, respectively. At September 30, 2006 and 2005, the Company owed $11,000 and $37,000, respectively, to CBC and CBC owed $5,000 and $32,000, respectively, to the Company resulting from purchases of products.

On October 1, 2004, the Company entered into an agreement to purchase all of the operating assets of Videotronic Infosystems GmbH ("Videotronic"), a Germany based video system supplier which was operating under insolvency protection, for 700,000 Eurodollars (approximately $868,000). The purchase was ratified by Videotronic's Creditors on November 26, 2004. During the year ended September 30, 2005, the Company recognized a $211,000 extraordinary gain on the recovery of Videotronic net assets in excess of their allocated purchase price. Such gain includes adjustments to assigned values of accounts receivable, inventories, trade payables and severance liabilities. Pro forma results of operations have not been presented due to the relative insignificance of the operating assets acquired.

In July 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 48 ("FIN 48"), "Accounting for Uncertainty in Income Taxes -- an interpretation of FASB Statement No. 109". FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise's financial statements in accordance with FASB Statement No. 109, Accounting for Income Taxes. FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. FIN 48 also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosures, and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006. The Company does not expect that the adoption of FIN 48 will have a material impact on its consolidated financial position, results of operations or cash flows.

In September 2006, the FASB issued SFAS No. 157, "Fair Value Measurements" ("SFAS 157"). SFAS 157 clarifies that fair value is the amount that would be exchanged to sell an asset or transfer a liability in an orderly transaction between market participants. Further, the standard establishes a framework for measuring fair value in generally accepted accounting principles and expands certain disclosures about fair value measurements. SFAS 157 is effective for fiscal years beginning after November 15, 2007. The Company does not expect that the adoption of SFAS 157 will have a material impact on its consolidated financial position, results of operations or cash flows.

In September 2006, the U.S. Securities and Exchange Commission issued Staff Accounting Bulletin No. 108, "Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements" ("SAB 108"). SAB 108 provides interpretive guidance on how the effects of the carryover or reversal of prior year misstatements should be considered in quantifying a current year misstatement. The SEC staff believes that registrants should quantify errors using both a balance sheet and an income statement approach and evaluate whether either approach results in quantifying a misstatement that, when all relevant quantitative and qualitative factors are considered, is material. SAB 108 is effective for fiscal years beginning after November 15, 2006. The Company does not expect that the adoption of SAB 108 will have a material impact on its consolidated financial position, results of operations or cash flows.

                                                             Earnings (Loss)
                                                   Net          Per Share
  Quarter          Net            Gross          Income      ---------------
   Ended          Sales           Profit         (Loss)      Basic   Diluted
   -----          -----           ------         ------      -----   -------

Fiscal 2006
-----------
December       $14,259,000      $5,636,000    $   147,000    $  .03    $  .03
March           12,223,000       4,578,000       (848,000)     (.19)     (.19)
June            14,675,000       5,914,000         37,000       .01       .01
September       15,122,000       5,966,000        117,000       .03       .03
               -----------     -----------    -----------    ------    ------
 Total         $56,279,000     $22,094,000    $  (547,000)   $ (.12)   $ (.12)
               ===========     ===========    ===========    ======    ======


Fiscal 2005
-----------
December       $15,582,000      $5,868,000    $  (740,000)   $ (.16)   $ (.16)
March           12,802,000       4,708,000     (1,169,000)     (.26)     (.26)
June            13,991,000       5,319,000       (548,000)     (.12)     (.12)
September       13,681,000       5,101,000       (428,000)     (.09)     (.09)
               -----------     -----------    -----------    ------    ------
 Total         $56,056,000     $20,996,000    $(2,885,000)   $ (.63)   $ (.63)
               ===========     ===========    ===========    ======    ======

The Company has not declared or paid cash dividends on its common stock for any of the foregoing periods.

Because of changes in the number of common shares outstanding and market price fluctuations affecting outstanding stock options, the sum of quarterly earnings per share may not equal the earnings per share for the full year.