Sys - Quarterly Report (10-Q)

Share Name	Share Symbol	Market	Type
Sys Technologies, Inc.	AMEX:SYS	AMEX	Ordinary Share

Washington, D.C. 20549

ý		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE QUARTERLY PERIOD ENDED MARCH 28, 2008

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934

Commission file number 000-04169

SYS

(Exact name of Registrant as specified in its charter)

California		95-2467354
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

5050 Murphy Canyon Road, Suite 200, San Diego, California 92123

(858) 715-5500

(Address, including zip code, and telephone number, including

area code, of Registrant’s principal executive offices)

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No o

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Securities Exchange Act of 1934. (Check one): Large accelerated filer o Accelerated filer o Non-accelerated filer x

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

As of April 30, 2008 there were 19.9 million shares of the registrant’s common stock outstanding.

SYS

FORM 10-Q

FOR THE QUARTERLY PERIOD ENDED MARCH 28, 2008

INDEX

PART I. FINANCIAL INFORMATION

Item 1.	Financial Statements

	Condensed Consolidated Balance Sheets as of March 28, 2008 and June 30, 2007 (unaudited)	3

	Condensed Consolidated Statements of Operations for the Three and Nine Months Ended March 28, 2008 and March 30, 2007 (unaudited)	4

	Condensed Consolidated Statements of Cash Flows for the Nine Months Ended March 28, 2008 and March 30, 2007 (unaudited)	5

	Notes to Condensed Consolidated Financial Statements	7

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	16

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	22

Item 4.	Controls and Procedures	22

PART II. OTHER INFORMATION

Item 1.	Legal Proceedings	23
Item 1A	Risk Factors	23
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	24
Item 3.	Defaults Upon Senior Securities	24
Item 4.	Submission of Matters to a Vote of Security Holders	24
Item 5.	Other Information	24
Item 6.	Exhibits	25
	Signatures
	Exhibit 31.1
	Exhibit 31.2
	Exhibit 32.1
	Exhibit 32.2

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

SYS AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED) (amounts in thousands, except par value amounts)
	March 28, 2008			June 30, 2007
ASSETS
Current Assets:
Cash and cash equivalents	$	1,639		$	2,770
Accounts receivable, net		16,467			16,321
Inventories, net		546			599
Prepaid expenses		412			603
Deferred taxes		748			275
Total current assets		19,812			20,568

Furniture, equipment and leasehold improvements, net		1,907			1,951
Intangible assets, net		5,346			6,111
Goodwill		23,107			23,477
Other assets		220			276
Total assets	$	50,392		$	52,383

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current Liabilities:
Line of credit	$	250		$	--
Accounts payable		3,061			5,270
Accrued payroll and related expenses		2,471			3,887
Income taxes payable		278			194
Other accrued liabilities		1,019			1,474
Current portion of convertible notes payable, related party		975			--
Current portion of convertible notes payable		2,150			--
Current portion of note payable		188			--
Deferred revenue		1,276			1,552
Total current liabilities		11,668			12,377

Convertible notes payable, related party		--			975
Convertible notes payable		--			2,150
Note payable, net of current portion		312			500
Other long-term liabilities		51			69
Deferred revenue, net of current portion		259			210
Deferred taxes		1,023			1,023
Total liabilities		13,313			17,304

Commitments and Contingencies

Stockholders' Equity:
4% convertible preferred stock, $.50 par value; 250 shares
authorized; none issued or outstanding		--			--
9% preference stock, $1.00 par value; 2,000 shares
authorized; none issued or outstanding		--			--
Common stock, no par value; 48,000 shares authorized;
and 19,844 and 19,232 shares issued and outstanding
as of March 28, 2008 and June 30, 2007, respectively		37,305			35,903
Accumulated deficit		(226	)		(824	)
Total stockholders’ equity		37,079			35,079

Total liabilities and stockholders’ equity	$	50,392		$	52,383

See accompanying notes to unaudited condensed consolidated financial statements.

SYS AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

(amounts in thousands, except per share data)


	Three Months Ended						Nine Months Ended
	March 28,			March 30,			March 28,			March 30,
	2008			2007			2008			2007

Revenues	$	18,715		$	19,069		$	57,346		$	54,528


Operating costs and expenses:
Costs of revenue		13,371			14,811			41,788			41,996
Selling, general and administrative expenses		3,319			4,299			10,069			11,019
Research, engineering and development expenses		1,021			1,059			3,235			3,050
Merger transaction costs		537			--			537			--
Total operating costs and expenses		18,248			20,169			55,629			56,065

Income (loss) from operations		467			(1,100	)		1,717			(1,537	)

Other (income) expense:
Other income		(28	)		(29	)		(102	)		(90	)
Interest expense		112			146			312			529
Total other (income) expense		84			117			210			439


Income (loss) before income taxes		383			(1,217	)		1,507			(1,976	)

Income tax provision (benefit)		357			(162	)		909			(464	)

Net income (loss)	$	26		$	(1,055	)	$	598		$	(1,512	)



Net income (loss) per share:
Basic	$	0.00		$	(0.06	)	$	0.03		$	(0.09	)
Diluted	$	0.00		$	(0.06	)	$	0.03		$	(0.09	)

Weighted average shares:
Basic		19,749			18,666			19,517			17,196
Diluted		19,757			18,666			19,596			17,196

See accompanying notes to unaudited condensed consolidated financial statements.

SYS AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS NINE MONTHS ENDED MARCH 28, 2008 AND MARCH 30, 2007 (UNAUDITED) (amounts in thousands)

	2008			2007
Cash Flows from Operating Activities:
Net income (loss)	$	598		$	(1,512	)
Adjustments to reconcile net income (loss) to net cash used in operating activities:
Depreciation and amortization		1,515			1,443
Share-based compensation expense		304			331
Accretion of debt discount		--			28
Deferred taxes		--			(577	)
Bad debt expense		56			165
Stock contributed to employee benefit plan		708			733
Gain on disposition of equipment		--			(4	)
Changes in operating assets and liabilities:
Accounts receivable		(202	)		(770	)
Income tax refund receivable		--			619
Inventories		53			70
Prepaid expenses		191			130
Other assets		40			--
Accounts payable		(2,209	)		641
Accrued payroll and related expenses		(1,416	)		(796	)
Income taxes payable		(389	)		--
Other accrued liabilities		(85	)		(152	)
Other long term liabilities		(18	)		--
Deferred revenue		(227	)		(528	)
Net cash used in operating activities		(1,081	)		(179	)

Cash Flows from Investing Activities:
Purchases of furniture, equipment and leasehold improvements		(696	)		(589	)
Cash received from acquisitions, net		--			108
Other		6			18
Net cash used in investing activities		(690	)		(463	)

Cash Flows from Financing Activities:
Borrowings from line of credit		20,504			26,478
Payments on line of credit		(20,254	)		(25,709	)
Payments of notes payable		--			(967	)
Proceeds from issuance of stock to employee stock purchase plan		265			266
Proceeds from exercise of stock options and warrants		125			133
Net cash provided by financing activities		640			201

Net decrease in cash and cash equivalents		(1,131	)		(441	)

Cash and cash equivalents at beginning of period		2,770			2,106

Cash and cash equivalents at end of period	$	1,639		$	1,665

SYS AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED) NINE MONTHS ENDED MARCH 28, 2008 AND MARCH 30, 2007 (UNAUDITED) (amounts in thousands)



	2008		2007

Supplemental disclosure of cash flow information:
Interest paid	$	242	$	479

Income taxes paid (refunded)	$	1,298	$	(505	)

Acquisition of capital leases	$	--	$	80

Common stock issued upon cashless exercise of stock options	$	37	$	--

Common stock issued upon conversion of notes payable	$	--	$	1,125

See accompanying notes to unaudited condensed consolidated financial statements.

SYS AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1. Basis of Financial Statement Preparation and Significant Accounting Policies:

The accompanying unaudited condensed consolidated financial information of SYS and its subsidiaries (SYS or the Company) should be read in conjunction with the audited consolidated financial statements and notes to consolidated financial statements contained in our Annual Report on Form 10-K for the year ended June 30, 2007 filed with the Securities and Exchange Commission (SEC). The accompanying unaudited condensed financial information includes all subsidiaries on a consolidated basis and all normal recurring adjustments which are considered necessary by the Company's management for a fair presentation of the financial position, results of operations and cash flows for the periods presented. However, these results are not necessarily indicative of results for a full fiscal year. All of the Company’s operations are primarily conducted in the United States.

The Company’s fiscal year is from July 1 through June 30. The Company uses the 5-4-4 weeks per period method for each quarter; periods one (July) and twelve (June) may vary slightly in the actual number of days due to the beginning and end of each fiscal year.

Use of Estimates:

The preparation of financial statements in conformity with Generally Accepted Accounting Principles in the United States of America (US GAAP) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the 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. In the future, the Company may realize actual results that differ from the current reported estimates. The Company’s significant estimates include those related to revenues and customer billings, recovery of indirect costs, allowance for doubtful accounts, valuation of long-lived assets including identifiable intangibles and goodwill, accounting for income taxes including any related valuation allowance, contingencies, and share-based compensation.

Indirect Expense Rate Variance:

For interim reporting purposes, SYS applies overhead and selling, general and administrative expenses as a percentage of direct contract costs based on annual budgeted indirect expense rates. To the extent actual expenses for an interim period are greater than the budgeted rates (unfavorable variance), the variance is deferred if management believes it is probable that the variance will be absorbed by future contract activity. This probability assessment includes projecting whether future indirect costs will be sufficiently less than the annual budgeted rates or can be absorbed by seeking increased billing rates applied on cost-plus-fee contracts. At the end of each interim reporting period, management assesses the recoverability of any amount deferred to determine if any portion should be charged to expense. In assessing the recoverability of variances deferred, management takes into consideration estimates of the amount of direct labor and other direct costs to be incurred in future interim periods, the feasibility of modifications for provisional billing rates, and the likelihood that an approved increase in provisional billing rates can be passed along to a customer. Variances are charged to expense in the periods in which it is determined that such amounts are not probable of recovery. As of March 28, 2008, the deferred unfavorable variance totaled $0.3 million.

Reclassifications:

Certain amounts in the prior period financial statements have been reclassified to conform to the current period financial statement presentation. In particular, allocable indirect expenses that were previously reported for the nine month period ended March 30, 2007 as costs of revenue were reclassified to selling, general and administrative expenses in the amount of $0.1 million for both periods. The Company believes these reclassifications were immaterial to the overall presentation of the accompanying financial statements.

2. New Accounting Pronouncements:

In December 2007, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 141 (revised 2007) (“SFAS 141R”), Business Combinations , which replaces SFAS No 141. The statement retains the purchase method of accounting for acquisitions, but requires a number of changes, including changes in the way assets and liabilities are recognized in purchase accounting. It also changes the recognition of assets acquired and liabilities assumed arising from contingencies, requires the capitalization of in-process research and development at fair value, and requires the expensing of acquisition-related costs as incurred. SFAS 141R is effective for us beginning July 1, 2009 and will apply prospectively to business combinations completed on or after that date.

On July 1, 2007, the Company adopted the provisions of the FASB Interpretation No. 48 (“ FIN 48”), Accounting for Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109, which provides a financial statement recognition threshold and measurement attribute for a tax position taken or expected to be taken in a tax return. Under FIN 48, we may recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position should be measured based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate settlement. FIN 48 also provides guidance on derecognition of income tax assets and liabilities, classification of current and deferred income tax assets and liabilities, accounting for interest and penalties associated with tax positions, and income tax disclosures. Upon adoption, we recognized a $19,000 charge to our beginning accumulated deficit as a cumulative effect of a change in accounting principle. See Note 10 – Income Tax.

In February 2007, the FASB issued Statement No. 159, The Fair Value Option for Financial Assets and Financial Liabilities, including an amendment of FASB Statement No. 115 (“SFAS 159”). SFAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value that are not currently required to be measured at fair value. SFAS 159 will be effective for the Company beginning July 1, 2008. The Company is in the process of determining the impact of this statement on its consolidated financial statements.

In September 2006, the FASB issued Statement No. 157 (SFAS 157), Fair Value Measurements. SFAS 157 prescribes a single definition of fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The accounting provisions of SFAS 157 will be effective for the Company beginning July 1, 2008. The Company is in the process of determining the impact of this statement on its consolidated financial statements.

3. Share-Based Compensation:

The Company has two stock plans that provide or have provided for the grant to employees of stock options, permit the grant of non-statutory share-based awards to paid consultants, and provide for the automatic grant of non-statutory share-based awards to outside directors. The plans may have options with terms of no more than ten years. The maximum terms of the options granted under these plans have been seven years with a maximum vesting of five years. The Company also has an employee stock purchase plan (ESPP) for employees to purchase its common stock at a discount. The ESPP provides for enrollment on the first day of a six-month period in which the employees can elect payroll deductions for the purchase of the Company’s common stock. The exercise date of the ESPP is the last day of the six-month period and the purchase price is 85% of the fair market value of a share of common stock on the enrollment or exercise date, whichever is lower.

The Company adopted Statement of Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment” (“SFAS 123R”), effective July 1, 2005 using a modified prospective application, as permitted under SFAS 123R. Under the modified-prospective-transition method, share-based compensation expense recognized during the three and nine months ended March 28, 2008 and March 30, 2007 includes stock options granted prior to, but not yet vested as of July 1, 2005, based on the grant-date fair value estimated in accordance with the original provisions of SFAS No. 123 and the following items based on the grant date values estimated in accordance with the provisions of SFAS No. 123R: (a) stock options granted after June 30, 2005, (b) ESPP with offering periods commencing subsequent to June 30, 2005 and (c) stock issued to employees of the Company.

The following table summarizes certain information regarding stock options during the nine months ended and as of March 28, 2008 (in thousands, except per share amounts):

						Weighted
				Weighted		Average
				Average		Remaining		Aggregate
				Exercise		Contractual		Intrinsic
	Shares			Price		Term (Yrs)		Value
Balance outstanding at June 30, 2007		2,132		$	2.49
Granted		344			2.19
Exercised		(129	)		1.25
Forfeited		(105	)		3.36
Expired		(117	)		2.42
Balance outstanding at March 28, 2008		2,125		$	2.48		2.31	$	47

Options exercisable at March 28, 2008		1,302		$	2.48		1.58	$	44

The following is a summary of the share-based compensation expense recognized by the Company for the three and nine months ended March 28, 2008 and March 30, 2007 (in thousands):

	Three Months Ended				Nine Months Ended
	March 28,		March 30,		March 28,		March 30,
	2008		2007		2008		2007

Stock options	$	61	$	51	$	172	$	163
Employee stock purchase plan		14		53		122		168
Total	$	75	$	104	$	294	$	331

The following table summarizes the weighted average assumptions used to estimate the value of share-based awards granted for the nine months ended March 28, 2008 and March 30, 2007 for the Company’s stock option plan and employee stock purchase plan:

	Stock Options						ESPP
	2008			2007			2008			2007
Dividend yield		0.0	%		0.0	%		0.0	%		0.0	%
Expected volatility		41.6	%		38.8	%		46.3	%		42.4	%
Risk-free interest rate		4.3	%		4.8	%		5.0	%		5.2	%
Expected lives (in years)		3.63			3.73			0.50			0.50

During the nine months ended March 28, 2008, the Company issued warrants to a consultant for services to purchase 15,000 shares of the Company’s stock at an exercise price of $2.25 per share. The warrants fully vested on December 31, 2007 and expire on September 18, 2012. The Company recorded $10,000 of share based compensation expense related to these warrants.

4. Accounts Receivable:

Accounts receivable consisted of the following (in thousands):

	March 28,			June 30,
	2008			2007
Amounts billed	$	8,101		$	8,600
Amounts unbilled		8,798			8,150
Less allowance for doubtful accounts		(432	)		(429	)
Totals	$	16,467		$	16,321

5. Inventories:

Inventories consisted of the following (in thousands):

	March 28,		June 30,
	2008		2007
Raw materials, net	$	504	$	473
Finished goods, net		42		126
Total	$	546	$	599

6. Furniture, Equipment and Leasehold Improvements:

Furniture, equipment and leasehold improvements consisted of the following (in thousands):

	March 28,			June 30,
	2008			2007
Furniture and equipment	$	4,843		$	4,266
Leasehold improvements		520			412
		5,363			4,678

Less accumulated depreciation and amortization		(3,456	)		(2,727	)
Net	$	1,907		$	1,951

Depreciation and amortization expense for furniture, equipment and leasehold improvements was $0.3 million and $0.2 million for the three months ended March 28, 2008 and March 30, 2007, respectively, and $0.7 million and $0.6 million for the nine months ended March 28, 2008 and March 30, 2007, respectively.

7. Intangible Assets and Goodwill:

Intangible assets consisted of the following (in thousands):

	Weighted
	Average		Gross
	Amortization		Carrying		Accumulated
	Period (Yrs)		Value		Amortization			Net
March 28, 2008
Technology		9	$	2,550	$	(692	)	$	1,858
Trade name		7		1,727		(626	)		1,101
Customer relationships		9		3,254		(868	)		2,386
Patents		-		29		(29	)		--
Other intangibles		1		697		(696	)		1
Total			$	8,257	$	(2,911	)	$	5,346

June 30, 2007
Technology		9	$	2,550	$	(464	)	$	2,086
Trade name		7		1,727		(407	)		1,320
Customer relationships		9		3,254		(569	)		2,685
Patents		-		29		(29	)		--
Other intangibles		1		697		(677	)		20
Total			$	8,257	$	(2,146	)	$	6,111

Amortization expense for intangible assets was $0.3 million for both three months ended March 28, 2008 and March 30, 2007, respectively, and $0.8 million for both nine months ended March 28, 2008 and March 30, 2007, respectively.

Estimated aggregate future amortization expense for acquisition-related intangible assets in future fiscal years is as follows:

Fiscal Year
Three months ending June 30, 2008	$	250
2009		920
2010		752
2011		662
2012		628
Thereafter		2,134
Total	$	5,346

Goodwill

The changes in the carrying amount of goodwill during the nine months ended March 28, 2008 were as follows (in thousands):

	DSG		PSSIG			Total
Balance June 30, 2007	$	11,344	$	12,133		$	23,477
Miscellaneous purchase price allocation adjustments		--		(370	)		(370	)
Balance March 28, 2008	$	11,344	$	11,763		$	23,107

8. Convertible Notes Payable and Other Debt:

As of March 28, 2008 and June 30, 2007, the Company had outstanding convertible notes payable totaling $3.1 million, of which $1.0 was payable to related parties. The convertible notes payable are unsecured and subordinate to the Company’s bank debt, bear interest at 10% per annum payable quarterly, principal is due February 14, 2009 and are convertible at any time into shares of common stock at a conversion rate of $3.60 per share.

Related parties consist of directors, officers and employees of the Company and their affiliates that are holders of the notes payable.

The Company has a bank line of credit facility which provides for borrowings of up to $4.0 million. This facility expires on December 28, 2008.

This credit facility, as it relates to any balances outstanding on the line of credit, contains financial and other covenants, and is collateralized by substantially all of the assets of the Company. Borrowings pursuant to the line of credit bear interest at the bank’s prime rate plus 0.25% (5.5% as of March 28, 2008). As of March 28, 2008, the Company had approximately $0.2 million of borrowings outstanding under this line of credit and none as of June 30, 2007. As of March 28, 2008, the Company was in compliance with the covenants of the credit facility.

The credit facility allows the Company to use, under a Sub Facility, up to $2.0 million of the credit facility for permitted acquisition purposes and $750,000 for minority investment purposes. Borrowings under the Sub Facility bear interest at the bank’s prime rate plus 0.50% (5.75% as of March 28, 2008). The Company is subject to certain restrictions on the permitted acquisitions and minority investments and in some cases must receive the lender’s consent prior to using the facility for such purposes.

If the Sub Facility is used for permitted acquisitions or minority investments, such borrowings must be repaid over 48 months. During fiscal 2006, in connection with the purchase of RBIS, the Company utilized $1.0 million of the line of credit for payment of a portion of the purchase consideration. In accordance with the terms of the credit facility, the $1.0 million was converted to a term note effective June 10, 2006. The term note is payable in monthly installments of $21,000 plus interest for the fiscal years 2007 through 2010, with payments beginning in October 2006. As of March 28, 2008, approximately $0.5 million was outstanding under the term note, of which $0.1 million was classified as a current liability as a result of the Company’s $250,000 prepayment on June 30, 2007 of the principal payments required through June 30, 2008. Principal amounts of $250,000 on this note are due annually in fiscal years 2009 and 2010. The outstanding balance related to the Sub Facility reduces the maximum borrowings available under the line of credit. As a result, as of March 28, 2008, the maximum borrowing capacity under the line of credit was $3.5 million and the remaining available borrowing capacity was $3.3 million.

9. Net Income (Loss) Per Share:

Basic net income (loss) per common share is calculated by dividing net income (loss) applicable to common stock by the weighted average number of common shares outstanding during the period. The calculation of diluted net income (loss) per common share is similar to that of basic net income (loss) per common share, except that the denominator is increased to include the number of additional common shares that would have been outstanding if all potentially dilutive common shares, principally those issuable upon the conversion of notes payable and the exercise of stock options and warrants, were issued during the period.

The following table summarizes the calculation of basic and diluted net income (loss) per common share for each period (in thousands except per share data):

	Three Months Ended					Nine Months Ended
	March 28,		March 30,			March 28,		March 30,
	2008		2007			2008		2007
Numerators:
Net income (loss)	$	26	$	(1,055	)	$	598	$	(1,512	)

Denominators:
Weighted average shares for basic net income (loss) per common share		19,749		18,666			19,517		17,196
Add dilutive effect of assumed exercise of stock options using the treasury stock method		--		--			39		--
Add dilutive effect of shares related to employee stock purchase plan		8		--			40		--
Weighted average shares for diluted net income (loss) per common share		19,757		18,666			19,596		17,196

Basic net income (loss) per common share	$	0.00	$	(0.06	)	$	0.03	$	(0.09	)
Diluted net income (loss) per common share	$	0.00	$	(0.06	)	$	0.03	$	(0.09	)

For the three and nine months ended March 28, 2008, 0.9 million shares related to convertible notes were excluded from the calculation of diluted EPS because they were anti-dilutive. For the three and nine months ended March 30, 2007, a total of 1.3 million and 1.8 million shares, respectively, related to stock options, convertible notes and the ESPP were excluded from the calculation of diluted EPS because they were anti-dilutive.

10. Income Tax:

The income tax provision was $0.4 million and $0.9 million respectively for the three and nine month periods ended March 28, 2008 as compared to an income tax benefit of $0.2 million and $0.5 million, respectively, in the same periods in fiscal 2007. Our effective tax rates were 93.2% and 60.3% for three and nine month periods ended March 28, 2008, respectively, compared to 13.3% and 23.5% for the comparable periods in fiscal 2007, respectively. Our effective tax rate is directly affected by share-based compensation expenses related to SFAS 123R and merger transaction costs, which are not deductible for tax purposes, but which are considered in estimating the annual effective tax rate as well as our forecast of annual income before taxes. These factors can lead to large fluctuations in the estimated effective tax rate from quarter to quarter.

On July 1, 2007, we adopted the provisions of FIN 48, Accounting for Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109, which provides a financial statement recognition threshold and measurement attribute for a tax position taken or expected to be taken in a tax return. Under FIN 48, we may recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position should be measured based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate settlement. FIN 48 also provides guidance on derecognition of income tax assets and liabilities, classification of current and deferred income tax assets and liabilities, accounting for interest and penalties associated with tax positions, and income tax disclosures.

Adopting FIN 48 had the following impact on our financial statements: increased current deferred tax assets by $0.5 million and the current income tax payable by $0.5 million. As of July 1, 2007 the Company had $1.1 million of unrecognized tax benefits, none of which if recognized, would affect our effective tax rate. There were no unrecognized tax benefits as of March 28, 2008. The Company recognizes interest accrued related to unrecognized tax benefits in interest expense and penalties in operating expenses. As of July 1, 2007 and March 28, 2008, the balance sheet included $0.1 million of accrued interest related to uncertain tax positions.

The Company files income tax returns in the U.S. federal jurisdiction and various states jurisdictions. With few exceptions, the Company is no longer subject to U.S. federal, state and local income tax examinations by tax authorities for fiscal years before 2004. In January 2008, the Internal Revenue Service (IRS) completed its examination of the Company’s U.S. income tax returns for fiscal years ended June 30, 2004 through June 30, 2006. The Company has agreed to IRS adjustments to reverse the acceleration of the deduction of certain expenses for the tax years under audit resulting in a payment in January 2008 for taxes of $483,000. This amount was included in the income taxes payable as of June 30, 2007 and paid in January 2008.

11. Legal Matters:

We are involved in legal actions in the normal course of business, including audits and investigations by various governmental agencies that result from our work as a governmental contractor. We are named as defendants in legal proceedings from time to time and we may assert claims from time to time. Management is of the opinion that any liability or loss associated with such matters, either individually or in the aggregate, will not have a material adverse effect on the Company’s operations and liquidity.

12. Segment Information:

The Company reports operating results and financial data for two reporting segments: Defense Solutions Group (DSG) and Public Safety, Security and Industrial Systems Group (PSSIG). DSG provides engineering, technical, and financial and management services primarily to U.S. Government customers. Revenues in the PSSIG include products and equipment sales, software, engineering and installation services for industrial and commercial customers as well as government customers.

The Company’s revenues are derived primarily from engineering and technical services, but also included product sales. For the three and nine months ended March 28, 2008, the product revenues represented 12.6% and 10.9%, respectively, of total revenues, compared to 5.8% and 7.5%, respectively, of the comparable periods in fiscal 2007.

Sales to government agencies, including both defense and non-defense agencies, and sales as a subcontractor as well as direct sales, aggregated approximately $16.8 million (89%) and $51.6 million (89%) of consolidated revenues in the three and nine months ended March 28, 2008, respectively. No single contract or individual customer accounted for more than 10% of total revenue for the three and nine months ended March 28, 2008 and March 30, 2007.

Selected financial data by segment is as follows (in thousands):

	Three Months Ended					Nine Months Ended
	March 28,		March 30,			March 28,		March 30,
	2008		2007			2008		2007
Revenue:
DSG	$	10,287	$	12,169		$	32,366	$	37,037
PSSIG		8,428		6,900			24,980		17,491
Totals	$	18,715	$	19,069		$	57,346	$	54,528

Income (loss) from operations:
DSG	$	264	$	571		$	932	$	1,489
PSSIG		203		(1,671	)		785		(3,026	)
Totals	$	467	$	(1,100	)	$	1,717	$	(1,537	)

13. Merger Agreement:

On February 20, 2008, SYS entered into an Agreement and Plan of Merger and Reorganization (the “Agreement”) with Kratos Defense & Security Solutions, Inc. (“Kratos”) and its wholly-owned subsidiary, White Shadow, Inc. (“Merger Sub”), pursuant to which Merger Sub will be merged with and into SYS (the “Merger”). SYS will be the surviving entity and a wholly owned subsidiary of Kratos. Effective at the time of Merger, each outstanding share of SYS’s common stock will be converted into 1.2582 shares of Kratos common stock.

At the effective time of the Merger; (i) the subordinated convertible notes will be assumed by Kratos subject to the same existing terms and conditions (ii) all outstanding SYS options will become fully vested and exercisable into SYS shares at or prior to closing in accordance with the terms of their respective stock option plans and no options will be assumed by Kratos; (iii) warrants to purchase common stock of the Company will continue to be in effect pursuant to their terms following the Merger and (iv) the term notes will be paid off at or prior to the closing.

The Merger Agreement contains certain termination rights, including a termination fee of $2,394,000 to be paid by the Company to Kratos upon termination of the Merger Agreement in certain circumstances

In conjunction with the merger agreement, the Company incurred $0.5 million of transaction costs which have been expensed.

Consummation of the Merger is subject to several closing conditions, including: (i) Approval of the Merger by the shareholders of SYS; which has scheduled a shareholder meeting for June 24, 2008 to approve the merger, (ii) approval of the issuance of shares of Kratos common stock in the Merger by the stockholders of Kratos; which has scheduled a shareholder meeting for June 25, 2008 to approve the merger, and (iii) the effectiveness of the Form S-4 registration statement jointly filed by Kratos and SYS on April 10, 2008.

Item 2 . Management’s Discussion and Analysis o f Financial Condition and Results of Operations

To the extent that the information presented in this Quarterly Report on Form 10-Q discusses financial projections, information or expectations about our business plans, results of operations, products or markets, or otherwise makes statements about future events, such statements are forward-looking. Such forward-looking statements can be identified by the use of words such as “intends”, “anticipates”, “believes”, “estimates”, “projects”, “forecasts”, “expects”, “plans” and “proposes”.

Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Moreover, neither we, nor any other person, assume responsibility for the accuracy and completeness of the forward-looking statements. We are under no obligation to update any of the forward-looking statements after the filing of this Quarterly Report on Form 10-Q to conform such statements to actual results or to changes in our expectations.

The following discussion should be read in conjunction with our unaudited condensed consolidated financial statements and the related notes and other financial information appearing elsewhere in this Form 10-Q. Readers are also urged to review and consider the various disclosures made by us which advise interested parties of the factors which affect our business, including without limitation the disclosures made under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” under the caption “Risks Related to Our Business,” and in the audited consolidated financial statements and related notes included in our Annual Report filed on Form 10-K for the year ended June 30, 2007 and other reports and filings made with the Securities and Exchange Commission.

Overview

Revenues and profits for the three and nine months ended March 28, 2008 were significantly impacted by three major themes. First, our mix of revenues has continued to change as a result of products based revenues during the nine month period growing from 7% of revenues in 2007 to 11% in 2008 which has directly resulted in our overall gross margins growing from 23.0% in 2007 to 27.1% in 2008. Second, while our services based revenues have been impacted by both funding delays and program reductions, we have had year over year growth in our services business. Third, our operating costs and expenses, primarily selling, general and administrative expenses (S,G&A), on a sequential quarterly basis, has decreased by approximately $1.2 million in each of the quarters of the current fiscal year compared to the fourth quarter of fiscal 2007. The decreases in these expenses combined with increased gross margins has resulted in improved profitability.

Our business areas that encompass engineering and program management services have been in a continuous slow decline for the past five years while during this same period our C4ISR (Command, Control, Communications, Computing, Intelligence, Surveillance and Reconnaissance) business has steadily grown and over the past year we’ve experienced additional growth from our learning and performance training solutions and in our public safety solutions. We anticipate that this trend of decreases in engineering and program management will continue as the Department of Defense continues to implement their information transformation strategy focusing on enhanced information technology and communications systems, data acquisition and real time situational awareness.

Our cost of revenues is affected by the mix of contract types (cost reimbursement, fixed-price or time and materials) as well as the mix of prime contracts versus subcontracts and the mix of product sales revenue versus services revenue. Significant portions of our contracts are time and materials and cost reimbursement contracts. We are reimbursed for labor hours at negotiated hourly billing rates and other direct expenses under time and materials contracts and reimbursed for all actual costs, plus a fee, or profit, under cost reimbursement contracts. The financial risks under these contracts are generally lower than those associated with other types of contracts, and margins are also typically lower than those on fixed-price contracts. The U.S. Government also has awarded us fixed-price contracts. Such contracts carry higher financial risks because we must deliver the products, systems or contract services at a cost below the fixed contract value in order to earn a profit.

The following table shows our revenues from each of these types of contracts as a percentage of our total contracts based revenues for the three and nine months ended March 28, 2008 and March 30, 2007:

	Three Months Ended		Nine months Ended
	2008	2007	2008	2007
Cost reimbursable	76%	80%	76%	78%
Time and materials	13%	14%	15%	16%
Fixed price	11%	6%	9%	6%
Total	100%	100%	100%	100%

Total backlog as of March 28, 2008 was $43.7 million, of which $26.9 million was funded and $16.8 million had been ordered, but not yet funded. Total backlog as of March 30, 2007 was $34.7 million, of which $27.5 million was funded and $17.0 million had been ordered, but not yet funded.

Results of Operations

The following table sets forth selected items, including consolidated revenues for the three and nine months ended March 28, 2008 and March 30, 2007 (in thousands):

	Three Months Ended											Nine Months Ended
	2008		Percent			2007			Percent			2008		Percent			2007			Percent
Revenues	$	18,715		100.0	%	$	19,069			100.0	%	$	57,346		100.0	%	$	54,528			100.0	%
Costs of revenues		13,371		71.4	%		14,811			77.7	%		41,788		72.9	%		41,996			77.0	%
Selling, general & administrative		3,319		17.7	%		4,299			22.5	%		10,069		17.6	%		11,019			20.2	%
Merger transaction costs		537		2.9	%		--			--			537		0.9	%		--			--
Research, engineering and development		1,021		5.5	%		1,059			5.6	%		3,235		5.6	%		3,050			5.6	%
Income (loss) from operations		467		2.5	%		(1,100	)		(5.8	)%		1,717		3.0	%		(1,537	)		(2.8	)%
Other expense (income)		84		0.4	%		117			0.6	%		210		0.4	%		439			0.8	%
Income tax provision (benefit)		357		1.9	%		(162	)		(0.8	)%		909		1.6	%		(464	)		(0.9	)%

Revenues . For the three months ended March 28, 2008, revenues were $18.7 million, a decrease of $0.4 million or 1.9% compared to the same period in fiscal 2007. The decrease in revenues consisted of a $1.6 million decrease in service related revenues and a $1.2 million increase in product related revenues. The decrease in services related revenues was primarily attributable to decreases in certain software engineering and IT support programs that were partially offset by growth in learning and performance training solutions and in public safety solutions. For the nine months ended March 28, 2008, revenues were $57.3 million, an increase of $2.8 million or 5.2% compared to the same period in fiscal 2007. The increase in revenues was attributable to $2.6 million of acquisition revenues related to Ai Metrix, which was acquired in October 2006, and $0.2 million of net increases in other products and services.

Revenues by reportable segment for the three and nine months ended March 28, 2008 and March 30, 2007 were as follows (in thousands):

	Three Months Ended										Nine Months Ended
	2008		2007		Change			%			2008		2007		Change			%
DSG	$	10,287	$	12,169	$	(1,882	)		(15.5	)%	$	32,366	$	37,037	$	(4,671	)		(12.6	)%
PSSIG		8,428		6,900		1,528			22.1	%		24,980		17,491		7,489			42.3	%
Total revenues	$	18,715	$	19,069	$	(354	)		(1.9	)%	$	57,346	$	54,528	$	2,818			5.2	%

The decline in the DSG segment revenue of $1.9 million and $4.7 million in the three and nine month periods, respectively, is primarily attributable to decreases in certain engineering services and IT support programs that were partially offset by growth in enterprise solutions services.

The growth in the PSSIG segment revenue of $1.5 million and $7.5 million for the three and nine month periods, respectively, is attributable to the acquisition of Ai Metrix which added $2.6 million of revenues in the nine month period, and growth in network management services, learning and performance training solutions, and public safety solutions, which combined contributed increased revenues of $1.5 million and $4.9 million in the three and nine month periods, respectively.

Costs of revenue. Costs of revenue for services includes all direct costs such as labor, materials and subcontractor costs. Costs of revenue for services also includes indirect overhead costs such as facilities, indirect labor, fringe benefits and other discretionary costs which are pooled and allocated to contracts on a pro rata basis. Generally, changes in direct costs for services are correlated to changes in revenue as resources are consumed in the production of that revenue. Costs of revenue for products includes the direct costs and manufacturing indirect expenses associated with manufacturing our products.

As a percentage of revenue, costs of revenue were 71.4% for the three months ended March 28, 2008 compared to 77.7% for the same period in fiscal 2007 resulting in gross margins of 28.6% and 22.3%, respectively. For the nine months ended March 28, 2008 costs of revenue were 72.9% compared to 77.0% for the same period in fiscal 2007 resulting in gross margins of 27.1% and 23.0%, respectively. During the three and nine months ended March 28, 2008, the growth in the gross margin resulted from increased products sales with higher margins and higher margins from services revenues (an increase of 1.3%), primarily the result of an increase in the gross margins on certain time and material contracts.

Selling, general and administrative expenses . Selling, general and administrative expenses (SG&A) include labor, fringe benefits, sales and marketing, bid and proposal (B&P) and other indirect costs. SG&A expenses decreased approximately $1.0 million or 22.8%, to $3.3 million in the three months ended March 28, 2008 compared to the same period in fiscal 2007. For the nine months ended March 28, 2008, SG&A expenses decreased approximately $1.0 million or 8.6%, to $10.0 million compared to the same period in fiscal 2007. The decrease in SG&A during the three and nine month periods is primarily attributable to personnel reductions that were implemented at the end of FY07 together with ongoing cost containment efforts.

Research, engineering and development expenses . Research, engineering and development (R&D) expenses include burdened labor and material costs to develop new products as well as maintaining and enhancing our existing product capabilities. During the three months ended March 28, 2008, there was essentially no change to R&D expenses compared to the same period in fiscal 2007. During the nine months ended March 28, 2008, R&D expenses increased approximately $0.2 million or 6.1% compared to the same period in fiscal 2007. The increase in these expenses is primarily attributable to research and development as well as sustaining engineering related to our network security and management product lines that were partially offset by decreases in our IP video and data distribution product lines.

Income (loss) from operations. The Company had income from operations of approximately $0.5 million in the three months ended March 28, 2008 compared to a loss from operations of approximately $1.1 million in the same period in fiscal 2007. For the nine months ended March 28, 2008, the Company had income from operations of approximately $1.7 million compared to a loss of approximately $1.5 million for the same period in fiscal 2007. The increase in income from operations is primarily due to the increase in gross margins and reduced operating costs, which were partially offset by the merger transaction costs of $.5 million incurred during the quarter.

Income (loss) from operations includes share-based compensation expense of approximately $0.1 million and $0.3 million for the three and nine month periods ended March 28, 2008, respectively, and the same amounts for each of these same periods in fiscal 2007. These expenses include non-cash expenses associated with stock options granted to employees, the employee stock purchase plan.

Other (income) expense . Other (income) expense includes interest expense on our outstanding convertible notes and borrowings made under our credit facility and interest and other income. Other expense was approximately $0.1 million in the three months ended March 28, 2008 and the same period in fiscal 2007 and $0.2 million for the nine months ended March 28, 2008 compared to $0.4 million for the same period in fiscal 2007. The decrease in other expense for the nine month period is primarily due to a decrease in interest expense related to a reduction of approximately $2.1 million in convertible notes that matured and were converted to stock or paid down in cash during the prior fiscal year.

Income tax provision (benefit) . Our effective tax rates were 93.2% and 60.3% for three and nine month periods ended March 28, 2008, respectively, compared to 13.3% and 23.5% for the comparable periods in fiscal 2007, respectively. Our effective tax rate is directly affected by share-based compensation expenses related to SFAS 123R and merger transaction costs, which are not deductible for tax purposes, but which are considered in estimating the annual effective tax rate as well as our forecast of annual income before taxes. These factors can lead to large fluctuations in the estimated effective tax rate from quarter to quarter. The 93.2% effective tax rate for the three month period ended March 28, 2008 was the result of revising the estimated annual effective tax rate to 60.3% from the 49.1% rate used at December 28, 2007 primarily due to the merger transaction costs. The 13.3% effective tax rate for the three month period ended March 30, 2007 was the result of revising our estimated annual effective tax rate used for fiscal 2007 from the 39.8% rate estimated at December 29, 2006 to the 23.5% rate estimated at March 30, 2007.

Liquidity and Capital Resources

Historically, we have financed our operations and met our capital expenditure requirements through cash flows provided from operations, long-term borrowings (including the sale of convertible notes), sales of equity securities and the use of our line of credit. The significant components of our working capital are liquid assets such as cash, trade accounts receivable, inventories and income taxes receivable, reduced by accounts payable, accrued expenses, line of credit, the current portion of our term note, the current portion of our convertible notes payable, the current portion of our deferred tax liabilities and deferred revenue. Working capital was $8.1 million at March 28, 2008 compared to $8.2 million at June 30, 2007.

Cash flows from operating activities . Cash flows used in operating activities were approximately $1.1 million for the nine months ended March 28, 2008 compared to cash used of $0.2 million for the same period in fiscal 2007. The increased use of cash in the current fiscal year was primarily attributable to a significant amount of liabilities for subcontractor and other trade payables and incentive compensation accrued at the end of fiscal 2007 that were paid during the first quarter of fiscal 2008.

Cash flows from investing activities . Cash flows used in investing activities were approximately $0.7 million in the nine months ended March 28, 2008 compared to $0.5 million for the same fiscal period in 2007. The primary reason for the increase of cash related to investing activities in the current fiscal year relates to approximately $0.2 million of cash from Ai Metrix that exceeded acquisition costs when acquired in October 2006, which partially offset other cash used in investing activities in the prior fiscal year.

Cash flows from financing activities . Cash flows provided by financing activities were approximately $0.6 million in the nine months ended March 28, 2008 compared to $0.2 million in the same period in fiscal 2007. The increase was due primarily to borrowings exceeding payments on our credit facility in the current fiscal year.

One of our regular sources of liquidity is our revolving line of credit facility with Comerica for $4.0 million, which expires on December 28, 2008. The outstanding balance on our revolving $4.0 million line of credit at March 28, 2008 was $0.2 million. The Company’s $4.0 million revolving line of credit facility allows SYS to use (i) the full $4.0 million for working capital purposes or (ii) under a Sub Facility, up to $2.0 million of the credit facility for permitted acquisition purposes and $750,000 for minority investment purposes. The line of credit is subject to certain restrictions on permitted acquisitions and minority investments, and in some cases, we must receive the lender’s consent prior to using the facility for such purposes. If used for permitted acquisitions or minority investments, these advances must be repaid over 48 months.

During fiscal 2006, in connection with the purchase of RBIS, we utilized $1.0 million of this line for payment of a portion of the purchase consideration. In accordance with the terms of the credit facility, the $1.0 million was converted to a term note effective June 10, 2006. The term note is payable in monthly installments of $20,833 plus interest for fiscal years 2007 through 2010, with payments beginning October, 2006. In June 2007, the Company elected to pre-pay principal of $0.25 million which represented the amount of principal due for the next twelve months. The balance of the term note as of March 28, 2008 was $0.5 million, of which $0.2 million is classified as a current liability. A total of $0.25 million of principal amounts of this note are due annually in fiscal years 2009 and 2010. The outstanding balance related to the Sub Facility reduces the maximum borrowings available under the line of credit. As a result, as of March 28, 2008, the maximum borrowing under the line of credit was $3.5 million and the remaining available borrowing capacity on the line of credit was approximately $3.3 million.

We have the option of being charged prime plus 0.25% or LIBOR plus 300 basis points on the credit facility and prime plus 0.50% or LIBOR plus 325 basis points on the sub facility subject to minimum advance amounts and duration under the LIBOR option. The loan is collateralized by all of our assets including accounts receivable. Borrowings are limited to 80% of our billed accounts receivable that are less than 90 days old.

As of March 28, 2008 SYS had outstanding convertible notes payable totaling $3.1 million. The principal balance of these convertible notes payable become due on February 14, 2009 and are convertible at any time into shares of common stock at a conversion rate of $3.60 per share. If the merger with Kratos is completed, these convertible notes payable will be assumed by Kratos. If the merger is not completed and the Company is unsuccessful in obtaining an extension of its line of credit with Comerica, management believes that existing cash on hand as well as cash flow generated from operations will be sufficient to pay the convertible notes that become due, amounts due under the credit facility and principal amounts as they become due under the installment note.

Long-term liquidity and continued acquisition related growth will depend on our ability to manage cash, raise cash through debt and equity financing transactions and maintain profitability. We may seek to raise additional capital from time to time as market conditions permit and subject to Board approval. Our losses in the two prior fiscal years may impact our ability to raise capital.

Commitments (amounts in thousands)

	Total		2008 (2)		2009		2010		2011		2012		Thereafter
Convertible notes (1)	$	3,398	$	78	$	3,320	$	--	$	--	$	--	$	--
Note payable (1)		550		10		280		260		--		--		--
Capital leases (1)		63		6		22		22		13		--		--
Operating leases		3,836		504		1,467		664		582		476		143
Total	$	7,847	$	598	$	5,089	$	946	$	595	$	476	$	143

(1) Includes principal and interest.

(2) Three months ending June 30, 2008.

Off-Balance Sheet Arrangements

SYS does not have any off balance sheet arrangements, investments in special purpose entities or undisclosed borrowings or debt. In addition, SYS has not entered into any derivative contracts.

Recent Accounting Pronouncements

In December 2007, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 141 (revised 2007), Business Combinations , which replaces SFAS No 141. The statement retains the purchase method of accounting for acquisitions, but requires a number of changes, including changes in the way assets and liabilities are recognized in the purchase accounting. It also changes the recognition of assets acquired and liabilities assumed arising from contingencies, requires the capitalization of in-process research and development at fair value, and requires the expensing of acquisition-related costs as incurred. SFAS No. 141R is effective for us beginning July 1, 2009 and will apply prospectively to business combinations completed on or after that date.

On July 1, 2007, we adopted the provisions of the Financial Accounting Standards Board (“FASB”) Interpretation No. 48 (“FIN 48”), Accounting for Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109, which provides a financial statement recognition threshold and measurement attribute for a tax position taken or expected to be taken in a tax return. Under FIN 48, we may recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position should be measured based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate settlement. FIN 48 also provides guidance on derecognition of income tax assets and liabilities, classification of current and deferred income tax assets and liabilities, accounting for interest and penalties associated with tax positions, and income tax disclosures. Upon adoption, we recognized a $19,000 charge to our beginning retained deficit as a cumulative effect of a change in accounting principle. See Note 10 – Income Tax (Part I, Item 1).

Critical Accounting Policies and Estimates

The foregoing discussion of our financial condition and results of operations is based on the consolidated financial statements included in this Form 10-Q, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, sales and expenses, and the related disclosures of contingencies. We base these estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates.

During the nine months ended March 28, 2008, there were no significant changes to the critical accounting policies we disclosed in Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended June 30, 2007.

ITEM 3. Quantitative and Qualitative Disclosures about Market Risk

Our exposure to market risk for changes in interest rates relates primarily to our investment income and interest expense. As of March 28, 2008 our cash was primarily invested in a money market interest bearing account. A hypothetical 10% adverse change in the average interest rate on our money market cash investments would have had no material effect on our results of operations or cash flows for the nine months ended March 28, 2008. We currently do not utilize any derivative financial instruments to hedge interest rate risks.

We have interest rate risk in that borrowings under our line of credit and term note are based on variable market interest rates. As of March 28, 2008, we had $0.3 million of variable rate debt outstanding under our revolving credit line and $0.5 million outstanding under a term note. Presently, the revolving credit line bears interest at a rate of prime plus 0.25% and the term note bears interest at a rate of prime plus 0.50%. A hypothetical 10% increase in the weighted average interest rate on our combined line of credit and term note would not have had a material impact to our results of operations or cash flows for the nine months ended March 28, 2008.

Our privately issued convertible notes have fixed interest rates of 10%, but have exposure to changes in the debt’s fair value. We believe that the fair value of our total outstanding convertible notes is approximately $1.8 million based on the conversion prices of the notes and the closing price of our common stock on March 28, 2008.

ITEM 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of March 28, 2008. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officer, as appropriate to allow timely decisions regarding required disclosure. Based on the evaluation of our disclosure controls and procedures as of March 28, 2008, our Chief Executive Officer and Chief Financial Officer concluded that, as of such date, our disclosure controls and procedures were effective.

Limitations on the Effectiveness of Internal Controls

Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives, and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

Changes in Internal Control Over Financial Reporting

There has been no change in our internal control over financial reporting during our most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II - OTHER INFORMATION

Item 1 . Legal Proceedings

NONE

Item 1A . Risk Factors

Other than the items listed below, no material changes to our risk factors as reported on our Form 10-K for the year ended June 30, 2007:

Uncertainty about the proposed merger with Kratos and diversion of management could harm SYS, whether or not the merger is completed.

In response to the announcement of our merger with Kratos, existing or prospective customers of SYS may delay or defer their procurement or other decisions concerning SYS, or they may seek to change their existing business relationship with SYS. In addition, as a result of the merger, current and prospective employees could experience uncertainty about their future with SYS, and SYS could lose key employees as a result. These uncertainties may also impair our ability to recruit or motivate key personnel. Completion of the merger will also require a significant amount of time and attention from management. The diversion of management’s attention away from ongoing operations could adversely affect ongoing operations and business relationships.

Failure to complete the merger could adversely affect SYS’s stock price and its future business and financial results.

Completion of the merger is conditioned upon, among other things, the receipt of approval of the Kratos and SYS stockholders. There is no assurance that the parties will receive the necessary approvals or satisfy the other conditions to the completion of the merger. Failure to complete the proposed merger would prevent SYS from realizing the anticipated benefits of the merger. SYS would also remain liable for significant transaction costs, including legal, accounting and financial advisory fees. In addition, the market price of our common stock may reflect various market assumptions as to whether the merger will occur. Consequently, the failure to complete the merger could result in a significant change in the market price of our common stock.

There are a large number of shares that are available for future sale, and the sale of these shares may depress the market price of our common stock.

As of March 28, 2008, we had issued 19,844,350 shares of common stock. Up to 2,125,000 shares of common stock were issuable upon the exercise of employee stock options at prices ranging from $1.75 to $4.90 per share, 868,000 shares were issuable upon the conversion of convertible notes at $3.60 per share, 313,401 shares were issuable upon the exercise of warrants at $2.50 per share, 50,000 shares were issuable upon the exercise of warrants at $3.85 per share, 110,000 shares were issuable upon the exercise of warrants at $4.00 per share, 20,000 shares were issuable upon the exercise of warrants at $2.44 per share, 15,000 were issuable upon the exercise of warrants at $2.25 per share, and up to 50,000 shares were contingently issuable under earn-out provisions in various acquisition transactions. Sales of shares issued upon any conversion of our outstanding convertible notes or upon the exercise of outstanding options and warrants could adversely affect the market price of our common stock.

Future sales of our common stock by existing shareholders under Rule 144 could decrease the trading price of our common stock.

As of March 28, 2008, a total of 6,826,815 shares of our outstanding common stock were “restricted securities” and could be sold in the public markets only in compliance with Rule 144 adopted under the Securities Act of 1933 or other applicable exemptions from registration. Rule 144 provides that a person holding restricted securities for a period of one year may thereafter sell, in brokerage transactions, an amount not exceeding in any three-month period the greater of either (i) 1% of the issuer’s outstanding common stock or (ii) the average weekly trading volume in the securities during a period of four calendar weeks immediately preceding the sale. Persons who are not affiliated with the issuer and who have held their restricted securities for at least two years are not subject to the volume limitation. Possible or actual sales of our common stock by present shareholders under Rule 144 could have a depressive effect on the price of our common stock.

Our directors, executive officers and affiliated persons beneficially own a significant amount of our stock, and their interests could conflict with yours.

As of March 28 2008, our directors, executive officers and affiliated persons beneficially own approximately 24% of our common stock, including stock options exercisable within 60 days of March 28, 2008. As a result, our executive officers, directors and affiliated persons will have a significant ability to:

·	elect or defeat the election of our directors;

·	amend or prevent amendment of our articles of incorporation or bylaws;

·	effect or prevent a merger; sale of assets or other corporate transactions; and

·	control the outcome of any other matters submitted to the shareholders for vote.

As a result of their ownership and positions, our directors, executive officers, and affiliated persons, collectively, are able to significantly influence all matters requiring shareholder approval, including the election of directors and approval of significant corporate transactions. In addition, sales of significant amounts of shares held by our directors and executive officers and affiliated persons, or the prospect of these sales, could adversely affect the market price of our common stock. Management’s stock ownership may discourage a potential acquirer from making a tender offer or otherwise attempting to obtain control of us, which in turn could reduce our stock price or prevent our shareholders from realizing a premium over our stock price.

Item 2. Unregistered Sales Of Equity Securities And Use Of Proceeds.

On September 18, 2007, the Company issued a warrant to a consultant for services to be performed that are exercisable into 15,000 shares of the Company’s common stock at an exercise price of $2.25 per share. The warrant became fully vested on December 31, 2007 and expires September 18, 2012.

Item 3 . Defaults Upon Senior Securities

None.

Item 4 . Submission of Matters to a Vote of Securities Holders

None

Item 5 . Other Information

None

Item 6 . Exhibits

Those exhibits marked with a (*) refer to exhibits filed herewith. The other exhibits are incorporated herein by reference, as indicated in the following list. Those exhibits marked with a (†) refer to management contracts or compensatory plans or arrangements.

Ex No.	Description
2.1	Certificate of Ownership filed with the California Secretary of State on November 28, 1979, filed as Exhibit 2.1 to SYS’s report on Form 10-K for the fiscal year ended June 30, 1979 and incorporated by this reference.
2.2	Certificate of Ownership filed with the California Secretary of State on March 18, 1985, incident to change of name of SYS, filed as Exhibit 3.6 to SYS’s report on Form 10-K for the fiscal year ended June 30, 1985 and incorporated by this reference.
2.3	Testmasters, Inc. Stock Purchase Agreement, filed as Exhibit 2.1 to SYS’s Registration Statement on Form SB-2 dated May 24, 2002 (Commission file No. 333-88988), and incorporated by this reference.
2.4	Polexis merger agreement, filed as Exhibit 2.2 to SYS’s Registration Statement on Form SB-2 dated April 19, 2004 (Commission file No. 333-114606 ), and incorporated by this reference.
2.5	Asset Purchase and Sale Agreement effective as of December 15, 2004, by and between SYS and Xsilogy, Inc filed as Exhibit 2.5 to SYS’s report on Form 10-QSB filed February 7, 2005 (Commission file No. 001-32397), and incorporated by this reference.
2.6	Agreement and plan of merger effective as of January 3, 2005 among SYS, Shadow I, Inc., a wholly-owned subsidiary of SYS, Antin Engineering, Inc., and the stockholders of Antin Engineering, Inc. filed as Exhibit 2.6 to SYS’s report on Form 10-QSB filed February 7, 2005 (Commission file No. 001-32397), and incorporated by this reference.
2.7	Agreement and Plan of Merger effective as of November 7, 2005 among SYS, Shadow II, Inc., a wholly owned subsidiary of SYS, Logic Innovations, Inc. and the stockholders of Logic Innovations, Inc., filed as Exhibit 2.7 to SYS’s report on Form 10-Q for the quarter ended December 30, 2005 (Commission file No. 001-32397), and incorporated by this reference.
2.8	Asset Purchase and Sale Agreement effective December 2, 2005 among SYS, cVideo, Inc. and certain of the stockholders of cVideo, Inc., filed as Exhibit 2.8 to SYS’s report on From 10-Q for the quarterly period ended December 30, 2005 (Commission file No. 001-32397), and incorporated by this reference.
2.9	Stock Purchase Agreement effective as of April 2, 2006, between SYS and Gary E. Murphy (the sole stockholder of Reality Based IT Services, Ltd.), filed as Exhibit 2.9 to SYS’s Form 8-K filed April 6, 2006 (Commission file No. 001-32397), and incorporated by this reference.
2.10	Agreement and Plan of Merger Dated as of October 17, 2006 by and among SYS, Shadow IV, Inc., Ai Metrix, Inc., the Majority Stockholders of Ai Metrix, Inc., and Victor E. Parker, as the Stockholder Representative, filed as Exhibit 2.9 to SYS’s Form 8-K filed October 18, 2006 (Commission file No. 001-32397), and incorporated by this reference.
2.11	Agreement and Plan of Merger and Reorganization, dated February 20, 2008, by and among Kratos Defense & Security Solutions, Inc., White Shadow, Inc. and the Company filed as Exhibit 10.1 to SYS’s Form 8-K filed February 22, 2008 (Commission file No. 001-32397), and incorporated by this reference.
3.1	Articles of Incorporation for SYS, as amended, filed as Exhibit 3.1 to SYS’s Registration Statement on Form SB-2, filed May 24, 2002 (Commission file No. 333-88988 ), and incorporated by this reference.
3.2	Bylaws of SYS incorporated by reference SYS’s Registration Statement on Form SB-2 filed on May 24, 2002 (Commission file No. 333-88988 ), and incorporated by this reference.
4.1	Certificate of Determination of Preferences of Preferred Shares of Systems Associates, Inc., filed by SYS with the California Secretary of State on July 28, 1968, filed as Exhibit 3.2 to SYS’s report on Form 10-K for the fiscal year ended June 30, 1981 and incorporated by this reference.
4.2	Certificate of Determination of Preferences of Preference Shares of Systems Associates, Inc., filed by SYS with the California Secretary of State on December 27, 1968, filed as Exhibit 3.3 to SYS’s report on Form 10-K for the fiscal year ended June 30, 1981 and incorporated by this reference.
4.3	Certificate of Determination of Series B 9% Cumulative Convertible Callable Non-Voting Preference Stock was filed by SYS with the California Secretary of State on August 15, 1996, and included in Exhibit 3.1 to SYS’s Registration Statement on Form SB-2, filed May 24, 2002 (Commission file No. 333-88988), and incorporated by this reference.
4.4	Form of Subscription Agreement from the January 2002 Offering, filed as Exhibit 4.1 to SYS’s Registration Statement on Form SB-2 dated May 24, 2002 (Commission file No. 333-88988), and incorporated by this reference.
4.5	Form of Convertible Note from the January 2002 Offering, filed as Exhibit 4.2 to SYS’s Registration Statement on Form SB-2 dated May 24, 2002 (Commission file No. 333-88988).

4.6	Form of Subscription Agreement from the February 2004 Offering (Convertible Note from December 2003 Offering included), filed as Exhibit 4.3 to SYS’s Registration Statement on Form SB-2 dated April 19, 2004 (Commission file No. 333-114606), and incorporated by this reference.
4.7	Securities Purchase Agreement, from the May 27, 2005 offering, by and among SYS and the investor parties as identified on the signature pages thereto, filed as exhibit 10.1 to SYS’s Form 8-K filed on June 3, 2005 (Commission file No. 001-32397), and incorporated by this reference.
4.8	Registration Rights Agreement, from the May 27, 2005, by and among SYS and the investor parties as identified on the signature pages thereto, filed as exhibit 10.3 to SYS’s Form 8-K filed on June 3, 2005 (Commission file No. 001-32397), and incorporated by this reference.
4.9	Form of Warrant to be issued by SYS to the investors in connection with the Securities Purchase Agreement from May 27, 2005 Offering, filed as exhibit 10.2 to SYS’s Form 8-K filed on June 3, 2005 (Commission file No. 001-32397), and incorporated by this reference.
4.10	Restricted stock purchase agreement between SYS and Ben Goodwin dated August 16, 2005, filed as Exhibit 99.1 to SYS’s report on Form 8-K filed August 18, 2005 (Commission file No. 001-32397), and incorporated by this reference.
4.11	Form of Subscription Agreement from the Company’s February 14, 2006 Offering, filed as Exhibit 99.1 to SYS’s report on Form 8-K filed February 17, 2006 (Commission file No. 001-32397), and incorporated by this reference.
4.12	Form of Unsecured Subordinated Convertible Note from SYS’s February 14, 2006 Offering, filed as Exhibit 99.2 to SYS’s report on Form 8-K filed February 17, 2006 (Commission file No. 001-32397), and incorporated by this reference.
4.13	Form of Subordination Agreement from SYS’s February 14, 2006 Offering, filed as Exhibit 99.3 to SYS’s report on Form 8-K filed February 17, 2006 (Commission file No. 001-32397), and incorporated by this reference.
10.1†	SYS 1997 Incentive Stock Option and Restricted Stock Plan filed as Attachment 1 to SYS’s Proxy Statement filed on February 21, 1997 (Commission file No. 000-04169), and incorporated by this reference.
10.2†	SYS 2003 Stock Option Plan filed as Exhibit 10.2 to SYS’s report on Form S-8 filed on April 8, 2003 (Commission file No. 333-104372), and incorporated by this reference.
10.3†	SYS 2003 Employee Stock Purchase Plan filed as Exhibit 10.3 to SYS’s report on Form S-8 filed on April 8, 2003 (Commission file No. 333-104372), and incorporated by this reference.
10.4†	Employment contract for Clifton L. Cooke, Jr., SYS’s Chief Executive Officer filed as Exhibit 10.4 to SYS’s report on Form 10-Q for the quarter ended September 30, 2006, filed on November 13, 2006 (Commission file No. 001-32397), and incorporated by this reference.
10.5†	Employment contract for Edward M. Lake, SYS’s Chief Financial Officer and Executive Vice President of Financial Operations filed as Exhibit 10.5 to SYS’s report on Form 10-Q for the quarter ended September 30, 2006, filed on November 13, 2006 (Commission file No. 001-32397), and incorporated by this reference.
10.6†	Employment contract for Michael W. Fink, SYS’s Secretary and Sr. Vice president of Finance and Contracts filed as Exhibit 10.6 to SYS’s report on Form 10-Q for the quarter ended September 30, 2006, filed on November 13, 2006 (Commission file No. 001-32397), and incorporated by this reference.
10.7†	Employment contract for Kenneth D. Regan, SYS’s Defense Solutions Group’s President and Chief Operating Officer filed as Exhibit 10.7 to SYS’s report on Form 10-Q for the quarter ended September 30, 2006, filed on November 13, 2006 (Commission file No. 001-32397), and incorporated by this reference.
10.8†	Restricted stock purchase agreement between SYS and Ben Goodwin dated August 16, 2005, filed as Exhibit 99.1 to SYS’s Form 8-K filed August 18, 2005 (Commission file No. 001-32397), and incorporated by this reference.
10.9†	Employment contract for Ben Goodwin, SYS’s Senior Vice President of Sales and Marketing and President of the Public Safety, Security and Industrial Products Group filed as Exhibit 10.9 to SYS’s report on Form 10-Q for the quarter ended September 30, 2006, filed on November 13, 2006 (Commission file No. 001-32397), and incorporated by this reference.
10.10†	Employment contract for Clifton L. Cooke, Jr., SYS’s Chief Executive Officer filed as Exhibit 10.10 to SYS’s report on Form 10-Q for the quarter ended September 28, 2007, filed on November 12, 2007 (Commission file No. 001-32397), and incorporated by this reference..
10.11†	2007 Restatement of SYS Technologies 401(k) Plan filed as Exhibit 10.11 to SYS’s report on Form 10-Q for the quarter ended September 28, 2007, filed on November 12, 2007 (Commission file No. 001-32397), and incorporated by this reference..
21.1	List of all subsidiaries of SYS incorporated by reference from Exhibit 21.1 of SYS’s report on Form 10-Q for the quarter ended September 30, 2006, filed on November 13, 2006 (Commission file No. 001-32397).
31.1*	Certification of Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a)
31.2*	Certification of Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a)
32.1*	Certification of Chief Executive Officer pursuant to Section 1350 of Title 18 of the United States Code
32.2*	Certification of Chief Financial Officer pursuant to Section 1350 of Title 18 of the United States Code

SIGNATURES

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

			SYS
			(Registrant)


Date:	May 12, 2008	/s/ Clifton L. Cooke, Jr.
		Clifton L. Cooke, Jr.
		Chief Executive Officer


Date:	May 12, 2008	/s/ Edward M. Lake
		Edward M. Lake
		Chief Financial Officer

Exhibit 31.1

CERTIFICATION OF CHIEF EXECUTIVE OFFICER

I, Clifton L. Cooke, Jr., certify that:

1. I have reviewed this Quarterly Report on Form 10-Q of SYS;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report.

4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; and

b) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

c) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):

a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Dated: May 12, 2008	By:	/s/ Clifton L. Cooke, Jr.
		Clifton L. Cooke, Jr.
		Chief Executive Officer

Exhibit 31.2

CERTIFICATION OF CHIEF FINANCIAL OFFICER

I, Edward M. Lake, certify that:

1. I have reviewed this Quarterly Report on Form 10-Q of SYS;

b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Dated: May 12, 2008	By:	/s/ Edward M. Lake
		Edward M. Lake
		Chief Financial Officer

Exhibit 32.1

CERTIFICATION OF CHIEF EXECUTIVE OFFICER

I, Clifton L. Cooke, Jr., Chief Executive Officer of SYS (the “Registrant”), do hereby certify pursuant to Rule 15d-14(b) of the Securities and Exchange Act of 1934, as amended, and Section 1350 of Chapter 63 of Title 18 of the United States Code that:

(1) the Registrant’s Quarterly Report on Form 10-Q of the Registrant for the quarter ended March 28, 2008 (the “Report”), to which this statement is filed as an exhibit, fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and

(2) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Registrant.

Dated: May 12, 2008	By:	/s/ Clifton L. Cooke, Jr.
		Clifton L. Cooke, Jr.
		Chief Executive Officer

Exhibit 32.2

CERTIFICATION OF CHIEF FINANCIAL OFFICER

I, Edward M. Lake, Chief Financial Officer of SYS (the “Registrant”), do hereby certify pursuant to Rule 15d-14(b) of the Securities and Exchange Act of 1934, as amended, and Section 1350 of Chapter 63 of Title 18 of the United States Code that:

(2) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Registrant.

Dated: May 12, 2008	By:	/s/ Edward M. Lake
		Edward M. Lake
		Chief Financial Officer

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