UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)


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

For the quarterly period ended March 31, 2011


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

For the transition period from to

Commission file number 0-14843

DPAC TECHNOLOGIES CORP.

(Exact Name of Registrant as Specified in Its Charter)


CALIFORNIA (State or Other Jurisdiction of Incorporation or Organization)		33-0033759 (IRS Employer Identification No.)

5675 HUDSON INDUSTRIAL PARK, HUDSON, OHIO (Address of Principal Executive Offices)		44236 (Zip Code)

(800) 553-1170
(Registrant’s Telephone Number, Including Area Code)

(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)

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 þ NO o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). o Yes o No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act:


Large Accelerated filer o	Accelerated filer o	Non-accelerated filer o	Smaller Reporting Company þ
		(Do not check if a smaller reporting company)

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES o NO þ

The number of shares of common stock, no par value, outstanding as of April 28, 2011 was 141,995,826.

TABLE OF CONTENTS


PART I — FINANCIAL INFORMATION			4

Item 1. Financial Statements			4

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

Item 4 — Controls and Procedures			22

PART II — OTHER INFORMATION			23

Item 1 — Legal Proceedings			23

Item 6 — Exhibits			23

SIGNATURES			24

EXHIBIT INDEX			25

Exhibit 31.1
Exhibit 32.1

CAUTIONARY STATEMENT RELATED TO FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q includes forward-looking statements as defined within Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, relating to revenue, revenue composition, market conditions, demand and pricing trends, future expense levels, competition in our industry, trends in average selling prices and gross margins, product and infrastructure development, market demand and acceptance, the timing of and demand for next generation products, customer relationships, employee relations, and the level of expected future capital and research and development expenditures. Such forward-looking statements are based on the beliefs of, estimates made by, and information currently available to DPAC Technologies Corp.’s (“DPAC” or the “Company”) management and are subject to certain risks, uncertainties and assumptions. Any other statements contained herein (including without limitation statements to the effect that DPAC or management “estimates,” “expects,” “anticipates,” “plans,” “believes,” “projects,” “continues,” “may,” “will,” “could,” or “would” or statements concerning “potential” or “opportunity” or variations thereof or comparable terminology or the negative thereof) that are not statements of historical fact are also forward-looking statements. The actual results of DPAC may vary materially from those expected or anticipated in these forward-looking statements. The realization of such forward-looking statements may be impacted by certain important unanticipated factors, including those discussed under Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Because of these and other factors that may affect DPAC’s operating results, past performance should not be considered as an indicator of future performance, and investors should not use historical results to anticipate results or trends in future periods. We undertake no obligation to publicly release the results of any revisions to these forward-looking statements that may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. Readers should carefully review the risk factors described in this and other documents that DPAC files from time to time with the Securities and Exchange Commission, including subsequent Current Reports on Form 8-K, Quarterly Reports on Form 10-Q and Annual Reports on Form 10-K.

HOW TO OBTAIN DPAC’S SEC FILINGS

All reports filed by DPAC with the SEC are available free of charge via EDGAR through the SEC website at www.sec.gov. In addition, the public may read and copy materials filed by the Company with the SEC at the SEC’s public reference room located at 100 F Street, N.E., Washington, DC 20549

PART I—FINANCIAL INFORMATION


Item 1. Financial Statements.

DPAC Technologies Corp.

Condensed Consolidated Balance Sheets


	March 31,			December 31,
	2011			2010
	(Unaudited)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents	$	56,060		$	47,870
Accounts receivable, net		1,152,661			1,159,122
Inventories		973,168			898,418
Prepaid expenses and other current assets		130,653			37,358

Total current assets		2,312,542			2,142,768

PROPERTY, net		591,650			631,769

DEFERRED FINANCING COSTS, net		60,096			68,291
TRADEMARKS		2,583,000			2,583,000
GOODWILL		3,822,503			3,822,503
AMORTIZABLE INTANGIBLE ASSETS, net		37,000			121,664
OTHER ASSETS		16,133			16,133


TOTAL	$	9,422,924		$	9,386,128


LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES:
Revolving credit facility	$	1,500,000		$	1,500,000
Short term note		35,088			—
Current portion of long-term debt		320,000			320,000
Accounts payable		1,206,790			1,127,512
Put warrant liability		119,100			110,900
Other accrued liabilities		614,451			512,410

Total current liabilities		3,795,429			3,570,822

LONG-TERM LIABILITIES:
Ohio Development loan, less current portion		1,945,037			1,971,972
Subordinated debt, less current portion		1,176,594			1,191,724

Total long-term liabilities		3,121,631			3,163,696

COMMITMENTS AND CONTINGENCIES

STOCKHOLDERS’ EQUITY:
Convertible, voting, cumulative, 15% series A preferred stock, $100 par value; 30,000 shares authorized; 30,000 shares issued and outstanding at March 31, 2011 and December 31, 2010		2,499,203			2,499,203
Common stock, no par value, 500,000,000 shares authorized; 141,995,826 and 109,414,896 shares issued and outstanding at March 31, 2011 and December 31, 2010, respectively		6,266,018			5,755,728
Preferred stock dividends distributable in common stock; 2,250,883 and 32,580,930 common shares at March 31, 2011 and December 31, 2010, respectively		112,500			465,000
Accumulated deficit		(6,371,857	)		(6,068,321	)

Total stockholders’ equity		2,505,864			2,651,610


TOTAL	$	9,422,924		$	9,386,128

See accompanying notes to consolidated financial statements.

DPAC Technologies Corp.

Condensed Consolidated Statements of Operations
(Unaudited)


	For the three months ended:
	March 31,			March 31,
	2011			2010

NET SALES	$	2,012,419		$	1,769,020

COST OF GOODS SOLD		1,173,045			927,027


GROSS PROFIT		839,374			841,993

OPERATING EXPENSES
Sales and marketing		237,107			175,431
Research and development		214,096			187,727
General and administrative		343,525			289,876
Amortization of intangible assets		94,246			132,087

Total operating expenses		888,974			785,121


INCOME (LOSS) FROM OPERATIONS		(49,600	)		56,872

OTHER EXPENSES:
Interest expense		133,236			152,692
Fair value adjustment for put warrant liability		8,200			—

		141,436			152,692

LOSS BEFORE INCOME TAX PROVISION		(191,036	)		(95,820	)

INCOME TAX PROVISION		—			—


NET LOSS	$	(191,036	)	$	(95,820	)

PREFERRED STOCK DIVIDENDS		112,500			112,500


NET LOSS ATTRIBUTABLE TO COMMON STOCKHOLDERS	$	(303,536	)	$	(208,320	)


NET LOSS PER SHARE:
Net Loss — Basic and diluted	$	0.00		$	0.00


WEIGHTED AVERAGE SHARES OUTSTANDING:
Basic and diluted		120,275,000			109,415,000

See accompanying notes to consolidated financial statements.

DPAC Technologies Corp.

Condensed Consolidated Statements of Cash Flows
(Unaudited)


	For the three months ended
	March 31,			March 31,
	2011			2010
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss	$	(191,036	)	$	(95,820	)

Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation and amortization		128,783			170,681
Provision for obsolete inventory		12,000			12,000
Accretion of discount and success fees on debt		(10,815	)		7,504
Amortization of deferred financing costs		8,195			9,151
Fair value adjustment for put warrant liability		8,200			—
Non-cash compensation expense		45,290			19,677

Changes in operating assets and liabilities:
Accounts receivable		6,461			(41,441	)
Inventories		(86,750	)		115,294
Prepaid expenses and other assets		(93,295	)		(53,757	)
Accounts payable		79,278			(392,612	)
Other accrued liabilities		102,041			271,853


Net cash provided by operating activities		8,352			22,530


CASH FLOWS FROM INVESTING ACTIVITIES:
Property additions		(4,000	)		(19,230	)


Net cash used in investing activities:		(4,000	)		(19,230	)


CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings under revolving credit facility		—			74,757
Net borrowing under short term notes		35,088			35,060
Repayments on Ohio Development loan		(31,250	)		—
Repayments on Subordinated Debt		—			(25,000	)
Dividends paid		—			(17,500	)


Net cash provided by financing activities		3,838			67,317


NET INCREASE IN CASH AND CASH EQUIVALENTS		8,190			70,617

CASH & CASH EQUIVALENTS, BEGINNING OF PERIOD		47,870			17,532


CASH & CASH EQUIVALENTS, END OF PERIOD	$	56,060		$	88,149


SUPPLEMENTAL CASH FLOW INFORMATION:
Interest paid	$	126,212		$	96,246

Accrued preferred stock dividends distributable in common stock	$	112,500		$	95,000

Common stock issued in payment of preferred stock dividends	$	465,000		$	—

See accompanying notes to consolidated financial statements.

DPAC TECHNOLOGIES CORP.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

NOTE 1 — Summary of Significant Accounting Policies

Nature of Operations

DPAC Technologies Corp., (“DPAC”) through its wholly owned subsidiary, Quatech Inc., (“Quatech”) designs and sells device connectivity and device networking solutions for a broad market. Quatech sells its products through a global network of distributors, system integrators, value added resellers, and original equipment manufacturers (“OEM”). Quatech designs communication and data acquisition products for personal computer based systems. The Company sells to customers in both domestic and foreign markets.

Going Concern

The Company’s financial statements have been prepared on a going concern basis. Certain conditions exist that raise substantial doubt about the Company’s ability to continue as a going concern. These conditions include recent operating losses, deficit working capital balances and the inherent risk in extending or refinancing our bank line of credit, which matures on May 31, 2011. Our ability to continue as a going concern is dependent upon our ability to maintain positive cash flows from operations and to raise additional financing. Management believes that it has taken the necessary steps to achieve and maintain positive cash flows from operations, including the acquisition of a product line and reduction and management of the Company’s operating costs. The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As such, they do not include adjustments relating to the recoverability of recorded asset amounts and classification of recorded assets and liabilities that might result from the outcome of this uncertainty.

Liquidity

At March 31, 2011, the Company had a cash balance of $56,000 and a deficit in working capital of $1,483,000. At December 31, 2010, the Company had a cash balance of $48,000 and a deficit in working capital of $1,428,000. Although the Company has reported net losses in recent periods, a significant portion of our operating expenses are non-cash. During the first three months of 2011, the Company reported a net loss of $191,000, which included the following non-cash operating expenses: depreciation and amortization of $129,000, non-cash compensation expense for stock options of $45,000, and a charge of $8,200 for the put warrant adjustment. For 2010, the Company reported a net loss of $665,000, which included the following non-cash operating expenses: depreciation and amortization of $684,000, provision for excess inventory of $166,000, non-cash compensation expense for stock options of $68,000, and non-cash interest expense of $95,000.

The Company has taken the following actions to reduce expenses and increase capital: During the first quarter of 2009, the Company entered into an agreement with one of its contract manufacturers to sell certain equipment and inventory, lease a portion of its facility to the manufacturer, and further engage the manufacturer to produce more of the Company’s products. This transaction provided $150,000 in cash and has improved the operating efficiency of the Company. In the third quarter of 2009, the Company implemented additional cost reduction measures by reducing headcount and implementing a salary reduction program for all employees resulting in annual operating costs reductions of approximately $400,000. On September 30, 2009, the Company acquired the SocketSerial product line in a non cash transaction for the Company. Margins generated from revenues of this product line have helped enable the Company to achieve a cash flow break even from operations. In March 2011, the Company entered into a Fourth Amendment to Credit Agreement extending the maturity date of its Bank revolving credit facility to May 31, 2011.

Going forward, the Company is dependent on financing its operations from the contributions generated from future revenues and the use of its bank line of credit. Management believes that the actions it has taken will help enable the Company to generate positive cash flows from operations. Additionally, the Company experienced an increase in the rate of new orders over shipments during the first three months of 2011, resulting in a 81% increase in the size of its backlog of firm orders from $664,000 at December 31, 2010 to $1,200,000 at the beginning of the second quarter of 2011. However, a downturn in our revenue levels can severely impact the availability under our line of credit and limit our ability to meet our obligations on a timely basis and finance our operations as needed. The Company is currently talking to its current lender to extend the maturity date and also to a number of other potential lenders with the intent of replacing the bank line of credit, which matures on May 31, 2011 (as previously reported on the Company’s Current Report on Form 8-K, filed March 31, 2011).The Company was fully drawn on its line of credit at March 31, 2011. The Company may find it necessary to raise additional capital to fund its operations, however, there can be no assurance that additional capital will be available on acceptable terms, if at all, if and when it may be needed.

Interim financial Statements

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and in accordance with the instructions to Form 10-Q and Article 8-03 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all material adjustments (consisting of normal recurring adjustments) necessary for a fair presentation have been included. Operating results for the three months ended March 31, 2011 are not necessarily indicative of the results that may be expected for the year ending December 31, 2011.

All intercompany transactions and balances have been eliminated in consolidation.

For further information, refer to the audited financial statements and footnotes thereto of DPAC for the year ended December 31, 2010 which were filed on Form 10-K on April 15, 2011.

Use of Estimates

In accordance with accounting principles generally accepted in the United States, management utilizes estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements as well as the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. These estimates and assumptions relate to recording net revenue, collectibility of accounts receivable, useful lives and impairment of tangible and intangible assets, accruals, income taxes, inventory realization, stock-based compensation expense and other factors. Management believes it has exercised reasonable judgment in deriving these estimates. Consequently, a change in conditions could affect these estimates.

Fair Value Measurements

In September 2006, the FASB issued ASC No. 820, Fair Value Measurements (“ASC 820,” and previously referred to as Statement No. 157). The accounting pronouncement establishes a three-level hierarchy which prioritizes the inputs used in measuring fair value. In general, fair value determined by Level 1 inputs utilize quoted prices in active markets for identical assets or liabilities. Fair values determined by Level 2 inputs utilize data points that are observable such as quoted prices, interest rates and yield curves. Fair values determined by Level 3 inputs are unobservable data points for the asset or liability, and includes situations in which there is little, if any, market activity for the asset or liability.

The following table represents our financial assets and liabilities measured at fair value on a recurring basis and the basis for that measurement:


			Fair Value Measurement Using:
					Significant
			Quoted Prices in		Other		Significant
	Total		Active Markets		Observable		Unobservable
	Fair Value		for Identical Assets		Inputs		Inputs
	Measurement		(Level 1)		(Level 2)		(Level 3)
Put Warrant Liability
March 31, 2011	$	119,100		—	$	119,100		—

December 31, 2010	$	110,900		—	$	110,900		—


Success Fee
March 31, 2011	$	—		—	$	—		—

December 31, 2010	$	18,319		—	$	18,319		—

The Company values the put warrant liability at the end of each reporting period by calculating the difference between the put price per share as defined in the Warrant Agreement and the exercise price per share multiplied by the number of warrants granted. The Company has classified the fair value of the warrants as a liability and changes in the fair value of the warrants are recognized in the earnings of the Company. The Company recognized a loss of $8,200 for the three months ended March 31, 2011 and no gain or loss for the comparable period in 2010, related to the change in value of the put warrant liability. In the current year period, the Company calculated the put price per share by using the Company’s stock book value as defined in the Warrant Agreement, resulting in a per share value of $0.019. In prior periods, the Company has used the closing stock price to value the put warrant liability as it has approximated the per share book value. In addition, the actual settlement amount of the put warrant liability could differ materially from the value determined.

The Subordinated Debt Agreement, which funded on January 31, 2008, provides for a formula driven success fee equal to 7.0 times the trailing twelve months EBITDA minus indebtedness plus cash, times 6.0%, to be paid at maturity or a triggering event. The success fee is being accounted for as a separate contingent component of the note and will be revalued at each reporting period. The success fee is calculated at the end of each reporting period based on the trailing twelve months EBITDA, with the resultant amount multiplied times the percentage of the loan period remaining at each measurement date. As such, the liability is trued up at each reporting period based on the time elapsed, with the remaining unamortized portion of the success fee accreted monthly as additional interest expense over the remaining term of the loan. Based on the results of the above calculation, the Company recorded no liability for the success fee as of March 31, 2011, resulting in a gain of $18,319 for the three months ended March 31, 2011. There was no change in the valuation technique used by the Company since the last reporting period.

New Accounting Pronouncements

In January 2009, the Securities and Exchange Commission (“SEC”) issued Release No. 33-9002, “Interactive Data to Improve Financial Reporting.” The final rule requires companies to provide their financial statements and financial statement schedules to the SEC and on their corporate websites in interactive data format using the eXtensible Business Reporting Language (“XBRL”). The rule was adopted by the SEC to improve the ability of financial statement users to access and analyze financial data. The SEC adopted a phase-in schedule indicating when registrants must furnish interactive data. Under this schedule, the Company will be required to submit filings with financial statement information using XBRL commencing with its June 30, 2011 quarterly report on Form 10-Q. The Company is currently evaluating the impact of XBRL reporting on its financial reporting process.

In October 2009, the FASB amended revenue recognition guidance for arrangements with multiple deliverables. The guidance eliminates the residual method of revenue recognition and allows the use of management’s best estimate of selling price for individual elements of an arrangement when vendor specific objective evidence (“VSOE”), vendor objective evidence (“VOE”) or third-party evidence (“TPE”) is unavailable. This guidance should be applied on a prospective basis for revenue arrangements entered into or materially modified in fiscal years beginning on or after June 15, 2010, with early adoption permitted. Full retrospective application of the guidance is optional. The provision was adopted and did not have a material effect on the financial position, results of operations or cash flows of the Company.

In April 2010, the FASB issued Accounting Standards Update 2010-13 (ASU 2010-13), “Compensation—Stock Compensation (Topic 718).” ASU 2010-13 provides amendments to ASC Topic 718 to clarify that an employee share-based payment award with an exercise price denominated in the currency of a market in which a substantial portion of the entity’s equity securities trades should not be considered to contain a condition that is not a market, performance, or service condition. Therefore, an entity would not classify such an award as a liability if it otherwise qualifies as equity. The amendments in ASU 2010-13 are effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2010. The adoption of the provisions of ASU 2010-13 did not have a material effect on the financial position, results of operations or cash flows of the Company.

In December 2010, the FASB issued an Accounting Standards Update 2010-28(“ASU 2010-28”), “Intangibles—Goodwill and Other (Topic 350)”. ASU 2010-28 amends ASC Topic 350. ASU 2010-28 clarifies the requirement to test for impairment of goodwill. ASC Topic 350 requires that goodwill be tested for impairment if the carrying amount of a reporting unit exceeds its fair value. Under ASU 2010-28, when the carrying amount of a reporting unit is zero or negative an entity must assume that it is more likely than not that a goodwill impairment exists, perform an additional test to determine whether goodwill has been impaired and calculate the amount of that impairment. The modifications to ASC Topic 350 resulting from the issuance of ASU 2010-28 are effective for fiscal years beginning after December 15, 2010 and interim periods within those years. Early adoption is not permitted. The adoption of the provisions of ASU 2010-28 did not have a material effect on the financial position, results of operations or cash flows of the Company.

NOTE 2 — Inventories

Inventories consist of the following:


	March 31,		December 31,
	2011		2010
Finished goods	$	710,447	$	613,009
Raw materials and sub-assemblies		262,721		285,409

	$	973,168	$	898,418

Purchases of finished assemblies and components from three major vendors represented 40%, 29% and 22% of the total inventory purchased in the three months ended March 31, 2011, and four vendors accounted for 36, 24%, 12% and 12% for the three month period ended March 31, 2010. The Company has arrangements with these vendors to purchase product based on purchase orders periodically issued by the Company.

NOTE 3 — Property

Property consists of the following:


	March 31,			December 31,
	2011			2010
Leasehold improvements	$	103,714		$	103,714
Machinery and equipment		384,773			380,773
Computer software and equipment		628,683			628,683
Office funiture and equipment		79,602			79,602
Internally developed software		191,657			191,657
Developed embedded software		390,000			390,000

		1,778,429			1,774,429
Less: accumulated depreciation and amortization		(1,186,779	)		(1,142,660	)

Net property	$	591,650		$	631,769

NOTE 4 — Debt

At March 31, 2011 and December 31, 2010, outstanding debt is comprised of the following:


	March 31,			December 31,
	2011			2010

Revolving credit facility	$	1,500,000		$	1,500,000


Long term debt:
Ohio Development Loan:
Principal balance	$	1,875,018		$	1,906,268
Accrued participation fee		195,019			190,704

		2,070,037			2,096,972
Less: current portion		(125,000	)		(125,000	)

Net long-term portion		1,945,037			1,971,972


Subordinated debt:
Principal balance	$	1,395,000		$	1,395,000
Accrued success fee		—			18,319
Less: Unamortized discount for stock warrants		(23,406	)		(26,595	)

		1,371,594			1,386,724
Less: current portion		(195,000	)		(195,000	)

Net long-term portion	$	1,176,594		$	1,191,724


Total Current Portion of Long-term Debt	$	320,000		$	320,000

Total Net Long-term Debt	$	3,121,631		$	3,163,696

Revolving Credit Facility

The Company has a revolving line of credit with a Bank providing for a maximum facility of $1,500,000 working capital line of credit through May 31, 2011. At March 31, 2011, the facility had a floating interest rate at the 30 day LIBOR (.24% at March 31, 2011) plus 8.5%. Interest is payable monthly on the last day of each month, until maturity. The Company is obligated to pay to the Bank an extension fee of $17,500 per the terms of the Fourth Amendment, which extended the line from December 15, 2010 to May 31, 2011, with $7,500 paid with the signing of the agreement in March 2011, and $10,000 due at maturity. All other terms and conditions of the Credit Agreement remain unchanged by the Amendment. Availability under the line of credit is formula driven based on applicable balances of the Company’s accounts receivable and inventories. Based on the formula, at March 31, 2011 the Company had availability to draw up to the maximum line amount of $1,500,000. The Credit Facility is secured by substantially all of the assets of the Company and expires on May 31, 2011.

As of March 31, 2011, we were not in compliance with certain of our bank financial covenants, which included purchasing assets in excess of $100,000.00 from Socket Mobile, Inc. through the assistance of Development Capital Venture, L.P. without the express written consent of the bank. These defaults were waived by Fifth Third Bank by agreement (entered into in March, 2011), but any other events of default were not waived. Each of the loan agreements with Canal Mezzanine Partners and the State of Ohio provide for cross-default of such loans in the event the Company defaults on a material agreement (such as the Bank credit facility) under certain terms. Further, each of the loan agreements provide for restrictive covenants, including the incurrence of additional indebtedness and certain equity financings, which restrict the Company’s ability to access other sources of liquidity, absent refinancing all of the existing indebtedness. The Company is currently talking to a number of other potential lenders with the intent of replacing the bank line of credit with a new facility; however, we have not at this time received a commitment from another source that could replace the Bank line in its entirety. The Bank line currently is set to mature in May, 2011. Additionally, the Canal Mezzanine and State of Ohio loan agreements contain provisions that accelerate the maturity and repayment of outstanding borrowings upon the acceleration of the Bank debt.

Short Term Note

The short term note is with a financial institution and was funded for $39,474 to finance insurance premiums. The note bears interest at 7.0% per annum and calls for 9 monthly payments of $4,514, beginning in March 2011.

Ohio Development Loan

On January 27, 2006 Quatech entered into a Loan Agreement with the Director of Development of the State of Ohio pursuant to which Quatech borrowed $2,267,000 for certain eligible project financing. The State of Ohio debt accrues interest at the rate of 9.0% per year. Payments of interest only were due and payable monthly from March 2006 through February 2007. Thereafter, Quatech was obligated to make 48 consecutive monthly principal payments of $10,417 plus interest with the then balance due on February 1, 2011. During the second quarter of 2010, the repayments terms of the note were modified by means of an Allonge to the original instrument and provided a new debt amortization table. The modification deferred all monthly principal payments for a period of 11 months from October 2009 through September 2010 and extended the maturity date of the note. Per the modified agreement, the Company was obligated to make only monthly interest payments from November 2009 through September 2010. Thereafter, Quatech is obligated to make monthly principal payments of $10,417 plus interest through January 2013, with the remaining balance due in January 2013. The Company is current on all payments through March 31, 2011. At maturity, Quatech is obligated to pay the State of Ohio a participation fee equal to the lesser of 10% of the maximum principal amount borrowed or $250,000. The State of Ohio debt is secured by all the assets of Quatech which security interest is subordinated to the interest of the Bank. The participation fee is being accrued as additional interest each month over the term of the loan.

Subordinated Debt

On January 31, 2008, the Company entered into a Senior Subordinated Note and Warrant Purchase Agreement (“Agreement”) with Canal Mezzanine Partners, L.P. (“Canal”), for $1,200,000. The subordinated note has a stated annual interest rate of 13% and a five year maturity date. Interest only payments are payable monthly during the first five years of the note with all principal due and payable on the fifth anniversary of the note. Effective March 1, 2011, the interest rate was increased to 16%. The Agreement also provides for a formula driven success fee based on a multiple of the trailing twelve months EBITDA, to be paid at maturity or a triggering event, and for issuance of warrants entitling Canal to purchase 3% of the Company’s fully diluted shares at time of exercise at a nominal purchase price. At March 31, 2011, the Company was in compliance with the financial covenants of the agreement.

In October 2008, the Company entered into an Amendment to the Agreement providing for a second tranche of Senior Subordinated Debt financing from Canal of $250,000, which was due and payable on February 15, 2009. In March 2010, the Company and Canal came to agreement, effective November 1, 2009, that established a modified payment schedule and increased the interest rate from 13% to 16% per annum. The Company repaid $55,000 of the principal balance. In April 2011, the Company and Canal came to agreement extending the maturity date to July 31, 2011.

The warrants associated with the Canal debt have a 10 year life and are exercisable at any time. The subordinated note has been discounted by the fair value of the detachable warrants, with a corresponding contribution to capital. The discount, calculated to be $63,800 at time of issuance, is being amortized as additional interest expense and accretes the note to face value at maturity. The Company determined the fair value of the warrant by using the Black-Scholes pricing model and calculating 3% of fully diluted shares at time of issuance, including a potential 50 million common shares for the conversion of the outstanding Series A preferred stock, which equated to approximately 4.9 million shares and using the closing stock price on the date of the transaction of $0.014 per share.

The success fee is defined as equal to 7.0 times the trailing twelve months EBITDA minus indebtedness plus cash, times 6.0%, to be paid at maturity or a triggering event. The success fee is being accounted for as a separate contingent component of the note and will be revalued at each reporting period. The success fee is calculated at the end of each reporting period based on the trailing twelve months EBITDA, with the resultant amount multiplied times the percentage of the loan period remaining at each measurement date. As such, the liability is trued up at each reporting period based on the time elapsed, with the remaining unamortized portion of the success fee accreted monthly as additional interest expense over the remaining term of the loan. Based on the formula calculation, there was no success fee accrued at March 31, 2011 and $18,319 was accrued at December 31, 2010.

Put Warrant Liability

In connection with the Subordinated Loan Agreement between the Company and the HillStreet Fund, entered into on February 28, 2006 and which was paid in full on January 31, 2008, the Company issued 5,443,457, and per certain default provisions could be obligated to issue 1,006,000 additional, 10-year warrants (“Put Warrants”) at an exercise price of $0.00001 per share. The warrants expire on February 28, 2016. The Put Warrants continue to remain outstanding and can be “put” to the Company at any time based on criteria set forth in the warrant agreement at a price equal to the greatest of (i) the fair market value as established by a capital transaction or public offering; (ii) six times the Company’s EBITDA for the trailing 12 month period; and (iii) an appraised value. The Company has determined to value the put warrant liability by calculating the difference between the put price as defined in the Warrant Agreement at the end of a reporting period and the exercise price per share multiplied by the number of warrants granted. The Company has classified the fair value of the warrants as a liability and changes in the fair value of the warrants are recognized in the earnings of the Company. The Company recorded a loss of $8,200 for the three months ended March 31, 2011, and no gain or loss was recorded for the period ended March 31, 2010, for changes in the fair value of the put warrant liability. The actual settlement amount of the put warrant liability could differ materially from the value determined based on the Company’s determination.

The aggregate amounts of combined long term debt, exclusive of the put warrant liability and the unamortized discount for stock warrants, maturing as of March 31st in future years is $320,000 in 2012 and $3,121,631 in 2013.

NOTE 5 — Concentration of Customers

Two customers accounted for 12% and 11% and no single customer accounted for more than 10% of net sales for the three months ended March 31, 2011 and 2010, respectively. Two customers accounted for 12% and 11% of accounts receivable at March 31, 2011 and no single customer accounted for more than 10% of net accounts receivable at March 31, 2010. The Company has and will have customers ranging from large OEM’s to startup operations. Any inability to collect receivables from any such customers could have a material adverse effect on the Company’s financial position and liquidity.

NOTE 6 — Net Income (Loss) Per Share

The Company computes net income (loss) per share by dividing the net income (loss) by the weighted-average number of common shares outstanding for the period. Diluted earnings per share reflect the potential dilution of securities by including other common stock equivalents, such as stock options and warrants, in the weighted-average number of shares outstanding for a period. Common stock equivalents are excluded from the calculation in loss periods, as the effect is anti-dilutive.

The tables below set forth the reconciliation of the denominator of the income (loss) per share calculations:


	Three-months ended
	March 31,
	2011		2010
Shares used in computing basic net income per share		120,275,000		109,415,000
Dilutive effect of stock options and warrants(1)(2)		—		—

Shares used in computing diluted net income per share		120,275,000		109,415,000


(1)		Potential common shares of 13,545,000 and 8,522,000 for the exercise of stock options and warrants have been excluded from diluted weighted average common shares for the three month periods ended March 31, 2011 and 2010, respectively, as the effect would be anti-dilutive.

(2)		Also excluded from both the March 31, 2011 and 2010 computations are the potential of approximately 71 million common shares that would be issued upon the conversion of the total number of shares of Preferred Stock outstanding, at the option of the preferred shareholders. Also excluded are 2,251,000 and 7,170,000 common shares distributable in payment of preferred stock dividends at March 31, 2011 and 2010, respectively.

The number of shares of common stock, no par value, outstanding at April 28, 2011 was 141,995,826.

At March 31, 2011 the Company had outstanding 30,000 shares of convertible, voting, cumulative, Series A preferred stock. Through December 31, 2009, dividends accrued and were payable quarterly in arrears at the annual rate of 9% of the Original Issue Price of $100 per share, either in cash or common stock, at the decision of the Company. Effective January 1, 2010, dividends accrue and are payable quarterly in arrears at the annual rate of 15% given that the Company is not listed for trading on the American Stock Exchange, a NASDAQ Stock Market or the New York Stock Exchange. For purposes of valuing the common stock payable to holders of Series A Preferred in lieu of cash with respect to such quarterly dividends, the value shall be deemed to be the average of the closing bid or sale prices (whichever is applicable) over the 10 day period ending the day prior to the dividend payment date. At March 31, 2011, the Company has accrued dividends distributable in common stock of $112,500, which equates to approximately 2,251,000 common shares issuable, and $17,500 of accrued dividends payable in cash. In March 2011, the Company issued 32,580,930 shares of common stock in payment of accrued preferred stock dividends payable in common stock of $465,000.

Series A preferred stock can, at the option of the holder, be converted into fully paid shares of common stock. The number of shares of common stock into which shares of Series A preferred may be converted shall be obtained by multiplying the number of shares of Series A preferred to be converted by the Original Issue Price of $100 and dividing the result by the product of $0.034 (the “Reference Price”) times 1.25, which equates to approximately 71 million common shares should the total number of outstanding preferred shares be converted. After December 31, 2009, the Company can redeem the Series A preferred shares at a price per share equal to the Original Issue Price. The holders of preferred stock have preference in the event of liquidation or dissolution of the Company over the holders of common stock.

NOTE 7 — Stock Options

Stock-Based Compensation

The Company recognizes compensation expense, using a fair-value based method, for costs related to all share-based payments including stock options and stock issued under our employee stock plans. The Company estimates the fair value of share-based payment awards on the date of grant using a Black-Scholes option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expense on a straight-line basis over the requisite service periods in our consolidated statements of operations.

Under the terms of the Company’s 1996 Stock Option Plan, (the “Plan”), qualified and nonqualified options to purchase shares of the Company’s common stock are available for issuance to employees, officers, directors, and consultants. As amended on February 23, 2006, the Plan authorized 15,000,000 option shares with an annual increase to the total number of option shares available in the plan equal to 4% of the total number of common shares outstanding each year until the end of the option plan. On February 23, 2006, the termination date for the plan was extended to January 11, 2011. At March 31, 2011, no additional shares are authorized to be granted since the plan has terminated.

Options issued under this Plan are granted with exercise prices equal to the closing stock price on the date of grant and generally vest immediately for options granted to directors and at a rate of 25% per year for options granted to employees, and expire within 10 years from the date of grant or 90 days after termination of employment.

In January 2011, the Company granted stock options under the standard plan provisions of 1,000,000 shares to directors and 8,100,000 shares to employees for a total of 9,100,000 shares granted.

During the three-month periods ended March 31, 2011 and 2010, the Company recognized compensation expense for stock options of $45,290 and $19,677 respectively. The expense is included in the consolidated statement of operations as general and administrative expense. Total unamortized compensation expense related to non-vested stock option awards at March 31, 2011 was $160,000, which is expected to be recognized over a weighted-average period of 1.9 years. The Company’s calculations were made using the Black-Scholes option-pricing model, with the following weighted average assumptions:


	For the Three Months
	Ended March 31,
	2011			2010 (1)
Expected life		6.5 Years			N/A
Volatility		369	%		N/A
Interest rate		2.5	%		N/A
Dividend yield		None			N/A


(1)		No options were granted during the three months ended March 31, 2010.

Expected volatilities are based on historical volatility of the Company’s stock. The Company used historical experience with exercise and post employment termination behavior to determine the options’ expected lives. The expected life represents the period of time that options granted are expected to be outstanding. The risk-free rate is based on the U.S. Treasury rate with a maturity date corresponding to the options’ expected life. The dividend yield is based upon the historical dividend yield.

The following table summarizes stock option activity under DPAC’s 1996 Stock Option Plans for the three months ended March 31, 2011:


				Weighted-
				Average		Weighted-Average		Aggregate
	Number of			Exercise		Remaining		Intrinsic
	Shares			Price		Contractual Life		Value
Outstanding — December 31, 2010		12,784,699		$	0.21
Granted		9,100,000		$	0.02
Exercised		—			—
Canceled		(1,066,256	)	$	0.36

Outstanding — March 31, 2011		20,818,443		$	0.12		7.3 Years	$	451,400

Exercisable — March 31, 2011		10,755,943		$	0.21		6.0 Years	$	131,500

NOTE 8 — Segment Information

Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the Company’s chief operating decision-maker, or decision-making group, in deciding how to allocate resources and in assessing performance. The Company’s Chief Executive Officer reviews financial information and makes operational decisions based upon the Company as a whole. Therefore, the Company reports as a single segment.

The Company had export sales of 21% and 29% of net sales for the three months ended March 31, 2011 and 2010, respectively. Export sales were primarily to Canada, Brazil, Singapore, and Western European countries. Foreign sales are made in U.S. dollars. All long-lived assets are located in the United States.

NOTE 9 — Income Taxes

The Company recognizes deferred tax assets and liabilities based on the differences between the financial statement carrying values and the tax bases of assets and liabilities. The Company exercises significant judgment relating to the projection of future taxable income to determine the recoverability of any tax assets recorded on the balance sheet. DPAC regularly reviews its deferred tax assets for recoverability and establishes a valuation allowance based on historical taxable income, projected future taxable income, and the expected timing of the reversals of existing temporary differences. To the extent that recovery is not believed to be more likely than not, a valuation allowance is established. The Company has established a valuation allowance associated with its net deferred tax assets.

As of March 31, 2011, the Company’s prior three income tax years remain subject to examination by the Internal Revenue Service, as well as various state and local taxing authorities.

The valuation allowance was calculated by using an assessment of both negative and positive evidence when measuring the need for a valuation allowance. Evidence evaluated by management included operating results during the most recent three-year period and future projections, with more weight given to historical results than expectations of future profitability, which are inherently uncertain. The Company’s net losses in recent periods represented sufficient negative evidence to require a full valuation allowance against its net deferred tax assets. This valuation allowance will be evaluated periodically and could be reversed partially or totally if business results have sufficiently improved to support realization of deferred tax assets.

NOTE 10 — Commitments and Contingencies

Legal Proceedings

We are subject to various legal proceedings and threatened legal proceedings from time to time as part of our business. We are not currently party to any legal proceedings nor are we aware of any threatened legal proceedings, the adverse outcome of which, individually or in the aggregate, we believe would have a material adverse effect on our business, financial condition and results of operations. However, any potential litigation, regardless of its merits, could result in substantial costs to us and divert management’s attention from our operations. Such diversions could have an adverse impact on our business, results of operations and financial condition.

Other Contingent Contractual Obligations

Over time, the Company has made and continues to make certain indemnities, commitments and guarantees under which it may be required to make payments in relation to certain transactions. These include: indemnities to past, present and future directors, officers, employees and other agents pursuant to the Company’s Articles, Bylaws, resolutions, agreements or otherwise; indemnities to various lessors in connection with facility leases for certain claims arising from such facility or lease; indemnities to vendors and service providers pertaining to claims based on the negligence or willful misconduct of the Company; and indemnities pursuant to contracts involving protection of selling security holders against claims by third parties arising from any alleged inaccuracy of information in registration statements filed by the Company with the SEC or involving indemnification of the other parties to contracts from any damages arising from misrepresentations made by the Company. The Company may also issue a guarantee in the form of a standby letter of credit as security for contingent liabilities under certain customer contracts. The duration of these indemnities, commitments and guarantees varies and, in certain cases, may be indefinite. The majority of these indemnities, commitments and guarantees may not provide for any limitation of the future payments that the Company could potentially be obligated to make. The Company has not recorded any liability for these indemnities, commitments and guarantees in the accompanying balance sheets.

The Company’s severance agreements with the current CEO and CFO provide for compensation equivalent to one year of compensation and six months of compensation, respectively, should either individual be terminated for any reason other than cause.

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

Please refer to the Cautionary Statement Related to Forward-Looking Statements set forth on page 2 of this Report, which is incorporated herein by reference. The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the condensed financial statements and notes to those statements included elsewhere in this Report.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

Introduction/Business Overview

DPAC, through its wholly owned subsidiary, Quatech, designs and sells device connectivity and device networking solutions for a broad market. Quatech sells its products through a global network of distributors, system integrators, value added resellers, and original equipment manufacturers (“OEM”).

In October 2009, Quatech acquired the SocketSerial product line from Socket Mobile. The products in the SocketSerial product line consist of a CompactFlash serial card, a PC serial card, a PC dual serial card, and a PC quad serial card, all with fixed and removable cable models. Also included are a USB to Serial Adapter, USB to Ethernet Adapter and a license to sell the Cordless Serial Adapter. In addition, Quatech has added several of the North American and International distribution partners that had historically sold the SocketSerial products to its list of distribution partners for both its device and networking connectivity product lines.

Quatech products can be categorized into two broad product lines:

Our Device Connectivity products include:

•

Multi-port serial boards that add ports to desktop computers to allow for the connection of multiple peripherals with standard interfaces. These products are used in a variety of industries including banking, transportation management, kiosks, satellite communications, and retail point of sale.

•

Mobile products that add ports for laptop and handheld computers. These products include multi-port serial adapters, parallel port adapters, and Bluetooth products.

•

USB to Serial products that add standard serial ports to any computing environment through a USB port. These products address the need to add connectivity through a solution that is external to the computer. These products are used in several markets including retail point of sale and kiosks.

Our Device Networking products include:

•

Serial device server products that connect peripherals to a local area network through a standard TCP/IP interface. This product line was introduced in 2003 and was extended in 2004 through the introduction of product models that connect to the local area network through a wireless 802.11 interface.

•

Industrial rated, embedded wireless modules that enable OEM customers to add standard 802.11 connectivity capabilities to their products. These modules address the needs of a number of industries including transportation, telematics, warehouse and logistic, and point of sale.

Risks

Period-to-period comparisons of our financial results are not necessarily meaningful and should not be relied upon as indications of future performance. It is likely that from time to time our operating results will be below the expectations of some investors and not above the expectations of other investors. In such events, the market price of our common stock would be adversely affected, in some proportion, and perhaps disproportionately. We ourselves have difficulties forecasting, and there are numerous risks and uncertainties concerning the timing of our customers’ initiating their production orders and the amounts of such orders, fluctuating market demand for and declines in the selling prices of similar products, decreases or increases in the costs of the components, uncertain market acceptance, our competitors, delays, or other problems with new products, software, manufacturing inefficiencies, cost overruns, fixed overhead costs, competition from new wireless products using 802.11 with newer technology, and challenges managing production from overseas suppliers, among other factors, each of which will make it more difficult for us to meet expectations.

Other primary factors that may in the future affect our results of operations include our efforts to reduce our operating expenses and our fixed overhead. Our costs in any particular period could include higher costs associated with stock-based compensation and / or higher costs associated with adjusting the liability for warrants to their fair value through earnings at each reporting period.

These risks should be read in connection with the detailed risks associated with DPAC and Quatech set forth under the caption “Risk Factors” contained in the Registrant’s Annual Report on Form 10-K filed with the SEC on April 15, 2011.

Results of Operations and Financial Condition

Three Months Ended March 31, 2011 and 2010

The following table sets forth certain Condensed Consolidated Statement of Operations data in total dollars, as a percentage of net revenues and as a percentage change from the same period in the prior year. This information should be read in conjunction with the Consolidated Financial Statements included elsewhere in this Form 10-Q.


	For the Three Months Ended:
	March 31, 2011						March 31, 2010						Change
	Results			% of Sales			Results			% of Sales			Dollars			%

NET SALES	$	2,012,419			100	%	$	1,769,020			100	%	$	243,399			14	%
COST OF GOODS SOLD		1,173,045			58	%		927,027			52	%		246,018			27	%

GROSS PROFIT		839,374			42	%		841,993			48	%		(2,619	)		0	%
OPERATING EXPENSES
Sales and marketing		237,107			12	%		175,431			10	%		61,676			35	%
Research and development		214,096			11	%		187,727			11	%		26,369			14	%
General and administrative		343,525			17	%		289,876			16	%		53,649			19	%
Amortization of intangible assets		94,246			5	%		132,087			7	%		(37,841	)		-29	%

Total operating expenses		888,974			44	%		785,121			44	%		103,853			13	%

INCOME (LOSS) FROM OPERATIONS		(49,600	)		-2	%		56,872			3	%		(106,472	)		-187	%
INTEREST EXPENSE		133,236			7	%		152,692			9	%		(19,456	)		-13	%
FAIR VALUE ADJUSTMENT FOR PUT WARRANT LIABILITY		8,200			0	%		—			0	%		8,200

LOSS BEFORE INCOME TAX PROVISION		(191,036	)		-9	%		(95,820	)		-5	%		(95,216	)		99	%
INCOME TAX PROVISION		—			0	%		—			0	%		—			0	%

NET LOSS	$	(191,036	)		-9	%	$	(95,820	)		-5	%	$	(95,216	)		99	%

PREFERRED STOCK DIVIDENDS		112,500			6	%		112,500			6	%		—			0	%

NET LOSS ATTRIBUTABLE TO COMMON STOCKHOLDERS	$	(303,536	)		-15	%	$	(208,320	)		-12	%	$	(95,216	)		46	%

Net Sales. Net sales of $2.0 million for the quarter ended March 31, 2011 increased by $243,000 or 14% as compared to the prior year first quarter. Net sales related to the Company’s Device Connectivity products increased by $42,000, or 4%, and net sales related to the Company’s Device Networking products, including the Airborne wireless product line, increased by $201,000, or 271% from the prior year period.

Gross Profit. Gross profit in absolute dollars decreased by $3,000. Gross profit as a percentage of net sales decreased from 48% to 42%, due primarily to higher variable costs, with direct material costs as a percentage of net sales increasing from 46% to 50%, due to the change in product mix. Additionally, fixed overhead costs increased by $53,000 in the current year quarter due to increased indirect material costs of $27,000, salaries and benefits of $13,000 and freight and other cost of $13,000.

Sales and Marketing Expenses. Sales and marketing expenses for the quarter ended March 31, 2011 of $237,000 increased by $62,000 or 35% from the prior year first quarter, due to an increase in salary and commissions of 28,000, advertising of $27,000 and travel related expenses of $7,000.

Research and Development Expenses. Research and development expenses of $214,000 for the first quarter of 2011 increased by 26,000, or 14%, from the prior year period. The increase was due to higher salaries and outside consulting expenses. The Company will continue to invest in research and development to expand and develop new wireless products. See “Forward-Looking Statements.”

General and Administrative Expenses. General and administrative expenses of $344,000 incurred for the first quarter of 2011 increased by $54,000 or 19% from the prior year period. The increase was due primarily to higher salary expense of $28,000 and non-cash compensation expense related to stock options of $25,000.

Amortization of Intangible Assets. Amortization expense decreased by $38,000, or 29%, due to the technology acquired in the DPAC / Quatech merger being fully amortized as of February 28, 2011. $82,000 of the current year period amortization expense is for the amortization of purchased technology acquired in the merger, and the balance of $12,000 in the current year period is the amortization of capitalized developed software and customer lists being amortized over 5 years.

Interest Expense. The Company incurred interest and financing costs of $133,000 during the first quarter of 2011, as compared to $153,000 for the same period in the prior year. The decrease is due to the write down of $18,000 of accrued success fees for the Subordinated Debt in the current year period. The following non-cash items are included in interest expense for the first quarter of 2011: a gain for the adjustment of accrued success fees of $14,000, amortization of deferred financing costs of $8,000, and amortization of the discount for warrants of $3,000. The following non-cash charges are included in interest expense for the first quarter of 2010: accretion of success fees of $4,000, amortization of deferred financing costs of $9,000, and amortization of the discount for warrants of $3,000.

Fair Value Adjustment of Put Warrant Liability. The Company adjusts the liability for the HillStreet Fund put warrant to its fair value, through earnings, at the end of each reporting period. During the first quarter of 2011, the company recorded a loss of $8,200 compared to no gain or loss for the first quarter of 2010.

Income Taxes. The Company has recorded a full valuation allowance against the Company’s related deferred tax assets. Recent net operating losses represent sufficiently negative evidence to require a continued valuation allowance against the net deferred tax assets. This valuation allowance will be evaluated periodically and could be reversed partially or totally if business results have sufficiently improved to support realization of our deferred tax assets.

Preferred Stock Dividends. The Company has outstanding 30,000 shares of convertible, cumulative, 15% Series A preferred stock, $100 stated value.

Liquidity and Capital Resources

Going forward, the Company is dependent on financing its operations from through the contribution generated from future revenues and the use of its bank line of credit. Management believes that the actions it has taken will help enable the Company to generate positive cash flows from operations. Additionally, the Company experienced an increase in the rate of new orders over shipments during the first three months of 2011, resulting in a 81% increase in the size of its backlog of firm orders from $664,000 at December 31, 2010 to $1,200,000 at the beginning of the second quarter of 2011. However, a downturn in our revenue levels can severely impact the availability under our line of credit and limit our ability to meet our obligations on a timely basis and finance our operations as needed. The Company is currently talking to a number of other potential lenders with the intent of replacing the bank line of credit, which matures on May 31, 2011, with a new facility; however, we have not at this time received a commitment from another source that could replace the Bank line in its entirety. The Company was fully drawn on its line of credit at March 31, 2011. The Company may find it necessary to raise additional capital to fund its operations, however, there can be no assurance that additional capital will be available on acceptable terms, if at all, if and when it may be needed.

The Company has a revolving line of credit with a Bank providing for a maximum $1,500,000 working capital line of credit. The facility bears a floating interest rate at the Bank’s Revolver LIBOR Rate (.24% at March 31, 2011) plus 8.5%. Availability under the line of credit is formula driven based on applicable balances of the Company’s accounts receivable and inventories. Based on the formula calculation, the Company had availability to draw up to the maximum line amount of $1,500,000, of which the Company was fully drawn at March 31, 2011. The Credit Facility is secured by substantially all the assets of the Company and is scheduled to mature on May 31, 2011.

The actual amount and timing of working capital and capital expenditures that we may incur in future periods may vary significantly and will depend upon many factors, including the amount and timing of the receipt of revenues from operations, any potential acquisitions or divestitures, an increase in manufacturing capabilities, the reduction of liabilities, the timing and extent of the introduction of new products and services and growth in personnel and operations. If needed, there can be no assurance that additional financing will be available on terms favorable to the Company, if at all. If internally generated funds are inadequate, we may scale back expenditures or seek other financing, which might include sales of equity securities that could dilute existing shareholders. See “Cautionary Statements.”

Net cash provided by operating activities for the three months ended March 31, 2011 was $8,000 as compared to $23,000 in the first three months of 2010. The net loss of $191,000 incurred in the first three months of 2011 was offset by non-cash items, including depreciation and amortization, non-cash compensation expense, accretion of success fees and amortization of deferred financing costs, totaling $192,000. Cash was used to increase prepaids and other assets by $93,000, and fund increases in inventories of $87,000. An increase in other accrued liabilities of $102,000 and in accounts payable of $79,000 contributed to cash.

Net cash used in investing activities for property additions was $4,000 and $19,000 for the three months ended March 31, 2011 and 2010, respectively.

Net cash provided by financing activities for the three months ended March 31, 2011 was $4,000 as compared to $67,000 for the same period of 2010. Cash provided in the current year period consisted of net borrowing of $35,000 in short term notes to finance insurance premiums, partially offset by $31,000 in principal payments on the Ohio Development loan.

The Company operates at leased premises in Hudson, Ohio, which are adequate for the Company’s needs for the near term.

The Company does not expect to acquire more than $50,000 in capital equipment during the remainder of the fiscal year.

Off Balance Sheet Arrangements

Our off-balance sheet arrangements consist primarily of conventional operating leases, purchase commitments and other commitments arising in the normal course of business, as further discussed below under “Contractual Obligations and Commercial Commitments.” As of March 31, 2011, we did not have any relationships with unconsolidated entities or financial partners, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.

Contractual Obligations and Commercial Commitments

Purchase Commitments with Contract Manufacturers. We generally issue purchase orders to our contract manufacturers with delivery dates from four to eight weeks from the purchase order date, and longer when lead times dictate. In addition, we regularly provide such contract manufacturers with rolling six-month forecasts of material and finished goods requirements for planning and long-lead time parts procurement purposes only. We are committed to accept delivery of materials pursuant to our purchase orders subject to various contract provisions which may in certain limited circumstances allow us to delay receipt of such orders or cancel orders beyond certain agreed lead times. Such cancellations, if any, may or may not result in cancellation costs payable by us. Cancellation without contractual permission to do so would result in additional potential losses, damages and costs. In the past, we have been required to take delivery of materials from our suppliers that were in excess of our actual requirements at the time of delivery, and we have previously recognized charges and expenses related to such excess material. If we are unable to adequately manage our commitments to contract manufacturers and adjust such commitments for changes in demand, we may incur additional costs and expenses, including without limitation inventory expenses related to excess and obsolete inventory. Such costs and expenses could have a material adverse effect on our business, financial condition and results of operations.

Other Purchase Commitments. We also incur various purchase obligations with other vendors and suppliers for the purchase of inventory, as well as other goods and services, in the normal course of business. These obligations are generally evidenced by purchase orders with delivery dates from four to six weeks from the purchase order date, and in certain cases, supply agreements that contain the terms and conditions associated with these purchase arrangements. Because of macro conditions impacting the entire electronics industry, lead times for certain components of the Company’s products have extended to beyond twenty weeks. We are committed to accept delivery of such materials pursuant to such purchase orders subject to various contract provisions which allow us to delay receipt of such orders or cancel orders beyond certain agreed lead times. Such cancellations may or may not result in cancellation costs payable by us. In the past, we have been required to take delivery of materials from our suppliers that were in excess of our requirements and we have previously recognized charges and expenses related to such excess material. If we are not able to adequately manage our supply chain and adjust such commitments for changes in demand, we may incur additional inventory expenses related to excess and obsolete inventory. Such expenses could have a material adverse effect on our business, financial condition and results of operations.

Critical Accounting Policies

The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in the United States of America and the Company’s discussion and analysis of its financial condition and results of operations requires the Company’s management to make judgments, assumptions, and estimates that affect the amounts reported in its financial statements and accompanying notes. Note 1 of the notes to DPAC’s audited financial statements, filed on Form 10-K, describes the significant accounting policies and methods used in the preparation of the Company’s financial statements. Management bases its estimates on historical experience and on various other assumptions that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results may differ from these estimates.

Management believes the Company’s critical accounting policies are those related to revenue recognition, allowance for doubtful accounts, warranty reserves, inventory valuation, valuation of long-lived assets including capitalized developed software, acquired intangibles, goodwill and trademarks, accrual of income tax liability estimates, accounting for our put warrant liability, and accounting for stock-based compensation. Management believes these policies to be critical because they are both important to the portrayal of the Company’s financial condition and results of operations, and they require management to make judgments and estimates about matters that are inherently uncertain.

We recognize product revenue when persuasive evidence of an arrangement exists, delivery has occurred, the sales price is fixed or determinable and collectibility is probable and there are no post—delivery obligations other than warranty. In those instances where customers have right of return, which typically would be for initial stocking orders for distributors, revenue is deferred until confirmation has been received from the customer indicating that the product has shipped and completed the sales cycle. Some distributors have annual stock rotation or return provisions which are typically limited to 5% of the previous twelve months of shipments. In these situations, we reserve the appropriate percentage against shipments throughout the period as deferred revenue. We do not typically have any post delivery obligations other than warranty. The Company also offers marketing incentives to certain customers. These incentives are incurred based on the level of expenses the customers incur and are charged to operations as expenses in the same period. Development revenue is recognized when services are performed and was not material for any of the periods presented.

We establish an allowance for doubtful accounts and a warranty reserve based on historical experience and believe the collection of revenues, net of these reserves, is reasonably assured.

The allowance for doubtful accounts is an estimate for potential non-collection of accounts receivable based on historical experience and known circumstances regarding collectibility of customer accounts. Accounts will be written off as uncollectible if the company determines the amount cannot be collected. The Company typically has not experienced a non-collection of accounts receivable materially affecting its financial position or results of operations. If the financial condition of the Company’s customers were to deteriorate causing an impairment of their ability to make payments, additional provisions for bad debts may be required in future periods.

The Company records a warranty reserve as a charge against earnings based on historical warranty claims and estimated costs. If actual returns are not consistent with the historical data used to calculate these estimates, additional warranty reserves could be required.

Inventories consist principally of raw materials, sub-assemblies and finished goods, which are stated at the lower of average cost or market. The Company records an inventory reserve as a charge against earnings for potential slow-moving or obsolete inventory. The reserve is evaluated quarterly utilizing both historical movement over a three year period as compared to quantities on-hand and qualitative factors related to the age of product lines. Significant changes in market conditions, including potential changes in technology, in the future may require additional inventory reserves.

We capitalize certain internally developed software costs after a product becomes technologically feasible and before its general release to customers. Significant judgment is required in determining when a product becomes “technologically feasible.” Capitalized development costs are then amortized over the product’s estimated life beginning upon general release of the product. Periodically, we compare a product’s unamortized capitalized cost to the product’s net realizable value. To the extent unamortized capitalized cost exceeds net realizable value based on the product’s estimated future gross revenues (reduced by the estimated future costs of completing and selling the product) the excess is written off. This analysis requires us to estimate future gross revenues associated with certain products and the future costs of completing and selling certain products. Changes in these estimates could result in write-offs of capitalized software costs. As of March 31, 2011, $191,657 of software development costs were capitalized with accumulated amortization of $67,080. The assets are being amortized on a straight line basis over their estimated life of 5 years.

Goodwill and trademarks are subject to an impairment assessment annually on December 31^st of each year and more often if conditions should dictate, which may result in a charge to operations if the fair value of the reporting unit in which the goodwill is reported declines. Other intangible assets are amortized over their estimated useful lives. The determination of related estimated useful lives of other intangible assets and whether goodwill and trademarks are impaired involves judgments based upon long-term projections of future performance. The Company operates in a single business segment as a single business unit and annually reviews the recoverability of the carrying value of goodwill using the methodology prescribed in FASB guidance. Recoverability of goodwill is determined by comparing the fair value of the entire Company to the accounting value of the underlying net assets. Based on the results of the most recently completed analysis, the Company’s goodwill and trademarks were not impaired as of December 31, 2010. No event has occurred as of or since the period ended December 31, 2010 that would give management an indication that an impairment charge was necessary that would adversely affect the Company’s financial position or results of operations.

Deferred tax assets and liabilities are recorded in accordance with FASB guidance. The Company records an estimated income tax liability to recognize the amount of income taxes payable or refundable for the current year and deferred income tax liabilities and assets for the future tax consequences of events that have been recognized in the Company’s financial statements or income tax returns. Judgment is required in estimating the future income tax consequences of events that have been recognized in the Company’s financial statements or the income tax returns. The Company estimates and provides an allowance for deferred tax assets based on estimated realization of the asset utilizing information related to historical taxable income and projected taxable income.

The Company values the put warrant liability at the end of a reporting period by calculating the difference between the put price per share as defined in the Warrant Agreement and the exercise price per share multiplied by the number of warrants granted. In accordance with FASB guidance, the Company has classified the fair value of the put warrants as a liability and changes in the fair value of the warrants are recognized in the earnings of the Company. Changes in the put price price can have a material impact to the put warrant valuation and, therefore, to our financial statements. Additionally, the actual settlement amount of the put warrant liability could differ materially from the value determined.

The Company amortizes deferred debt issuance costs using the effective interest method.


Item 4 — Controls and Procedures.

An evaluation was carried out under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and the Company’s Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of March 31, 2011, the end of the period covered by this report, as required by Exchange Act Rule 13a—15(b). The Company’s disclosure controls were designed to provide reasonable assurance that information required to be disclosed in reports filed or furnished under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission. It should be noted that the design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote. However, the Company’s disclosure controls have been designed to provide reasonable assurance of achieving the controls’ stated goals. Based on the foregoing evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective at the reasonable assurance level. There were no changes in the Company’s internal control over financial reporting that occurred during the Company’s most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II—OTHER INFORMATION


Item 1 — Legal Proceedings.

We are or could be subject to various legal proceedings and threatened legal proceedings from time to time as part of the conduct of our business. We believe we are not currently party to any material legal proceedings nor are we aware of any threatened material legal proceedings, the adverse outcome of which, individually or in the aggregate, would have a material adverse effect on our business, financial condition and results of operations. However, any potential litigation, regardless of its merits, could result in substantial costs to us and divert management’s attention from our operations. Such costs and diversions could have a material adverse impact on our business, results of operations and financial condition.


Item 6 — Exhibits.


Exhibit No.		Description

	31.1	Certifications of Chief Executive Officer and Chief Financial Officer pursuant to Securities Exchange Act Rule 13a-14(a)/15d-14(a).

	32.1	Certifications of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.


	DPAC TECHNOLOGIES CORP. (Registrant)
Date: May 13, 2011	By:	/s/ STEVEN D. RUNKEL
		Steven D. Runkel,
		Chief Executive Officer

Date: May 13, 2011	By:	/s/ STEPHEN J. VUKADINOVICH
		Stephen J. Vukadinovich,
		Chief Financial Officer

EXHIBIT INDEX


Exhibit No.		Description

	31.1	Certifications of Chief Executive Officer and Chief Financial Officer pursuant to Securities Exchange Act Rule 13a-14(a)/15d-14(a).

	32.1	Certifications of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

DPAC TECHNOLOGIES CORP 10-Q