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VIEW SYSTEMS, INC.and SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

View Systems, Inc. and Subsidiaries (the "Company") designs, develops and sells computer software and hardware used in conjunction with surveillance capabilities.  The technology utilizes the compression and decompression of digital inputs.  In March 2002, the Company acquired Milestone Technology, Inc., which has developed a concealed weapons detection portal.  In July 2009, the Company acquired FibreXpress, Inc., which is a company that specializes in developing and selling equipment and components for the fiber optic and communication cable industries.

The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries, Milestone Technology, Inc. and FibreXpress, Inc.  All significant intercompany accounts and transactions have been eliminated in consolidation.

Management uses estimates and assumptions in preparing financial statements in accordance with accounting principles generally accepted in the United States of America.  Those estimates and assumptions affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and the reported revenues and expenses.  Actual results could differ from the estimates that were used.

Cash and cash equivalents include all highly liquid investments with original maturities of three months or less

Accounts receivable consists of amounts due from customers.  Management periodically reviews the open accounts and makes a determination as to the ultimate collectability of each account.  Once it is determined that collection is in doubt the account is written off as a bad debt.  In order to provide for accounts that may become uncollectible in the future, the Company has established an allowance for doubtful accounts.  The balance of the allowance for doubtful accounts is based on management's judgment and the Company's prior experience with managing accounts receivable.

The Company recognized bad debt expense of $0 and $0 for the periods ended June 30, 2016 and 2015, respectively.  Management's determination is that the remaining balance is collectible and therefore no allowance for possible uncollectible accounts receivable has been recorded for the periods ended June 30, 2016 and 2015, respectively.

VIEW SYSTEMS, INC. and SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The Company has three main products, namely the concealed weapons detection system, the visual first responder system and the Viewmaxx digital video system.  In all cases revenue is considered earned when the product is shipped to the customer, installed (if necessary) and accepted by the customer as a completed sale.  The concealed weapons detection system and the digital video system each require installation and training.  The customer can engage us for installation and training, which is a revenue source separate and apart from the sale of the product.  In those cases revenue is recognized at the completion of the installation and training and acceptance by the customer.  However, the customer can also self-install or can engage another firm to provide installation and training.  Each product has an unconditional 30 day warranty, during which time the product can be returned for a complete refund.  Customers can purchase extended warranties, which provide for replacement or repair of the unit beyond the period provided by the unconditional warranty.  Warranties can be purchased for various periods but generally they are for one year period that begins after any other warranties expire.  The revenue from warranties is recognized on a straight line basis over the period covered by the warranty.  Prior to the issuance of financial statements management reviews any returns subsequent to the end of the accounting period which are from sales recognized during the accounting period, and makes appropriate adjustments as necessary.  Product prices are fixed or determinable and products are only shipped when collectability is reasonably assured.

Inventories stated at the lower of cost or market.  Cost is determined by the first-in-first-out method (FIFO).  As of June 30, 2016 and December 31, 2015 the Company's inventory consisted of  unassembled parts of the product.

Property and equipment is recorded at cost and depreciated over their useful lives, using the straight-line and accelerated depreciation methods.  Upon sale or retirement, the cost and related accumulated depreciation are eliminated from the respective accounts, and the resulting gain or loss is included in the results of operations.  The useful lives of property and equipment for purposes of computing depreciation are as follows:

Equipment 5-10 years

Software tools 5 years

Repairs and maintenance charges which do not increase the useful lives of assets are charged to operations as incurred.  Depreciation expense for the periods ended June 30, 2016 and 2015 amounted to $400 and $500, respectively.

VIEW SYSTEMS, INC. and SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Income taxes are recorded under the assets and liabilities method whereby deferred tax assets and liabilities are recognized for the future tax consequences, measured by enacted tax rates, attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss carry forwards.  The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period the rate change becomes effective.  Valuation allowances are recorded for deferred tax assets when it is more likely than not that such deferred tax assets will not be realized.

The Company files income tax returns in the U.S. federal jurisdictions, and in various state jurisdictions.  The Company is no longer subject to U.S. federal, state and local examinations by tax authorities for years prior to 2010.  TheCompany policy is to recognize interest related to unrecognized tax benefits as income tax expense.  The Company believes that it has appropriate support for the income tax positions it takes and expects to take on its tax returns, and that its accruals for tax liabilities are adequate for all open years based on an assessment of many factors including past experience and interpretations of tax law applied to the facts of each matter.

Research and development costs are expensed as incurred.

Nonmonetary transactions are accounted for in accordance with ASC 845 " Nonmonetary Transactions" which requires the transfer or distribution of a nonmonetary asset or liability to be based generally, on the fair value of the asset or liability that is received or surrendered, whichever is more clearly evident.

For most financial instruments, including cash, accounts receivable, accounts payable and accruals, management believes that the carrying amount approximates fair value, as the majority of these instruments are short-term in nature.

The Company accounts for share-based compensation at fair value.  Share-based compensation cost for stock options granted to employees, board members and service providers is determined at the grant date using an option pricing model that uses level 3 unobservable inputs.  The value of the award that is ultimately expected to vest is recognized as expense on a straight-line basis over the requisite service period.

VIEW SYSTEMS, INC. and SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Basic net loss per common share is computed by dividing net loss available to common stockholder by the weighted average number of common shares outstanding.  Diluted net loss per common share is computed by dividing net loss available to common stockholders by the weighted average number of common shares and dilutive potential common share equivalents then outstanding.  Potential common shares consist of shares issuable upon the exercise of stock options and warrants in addition to shares that may be issued in the event that convertible debt is exchanged for shares of common stock.  The calculation of the net loss per share available to common stockholders for the periods ended June 30, 2016 and 2015 does not include potential shares of common stock equivalents, as their impact would be antidilutive.  The following reconciles amounts reported in the financial statements:

       

VIEW SYSTEMS, INC. and SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

The Company has incurred and continues to incur, losses from operations.  For the periods ended June 30, 2016 and 2015, the Company incurred net losses of $103,928 and $279,174, respectively, and has a working capital deficiency of $1,735,690 at June 30, 2016..  In addition, certain notes payable have come due and the note holders are demanding payment.

Management is very actively working to cure these situations and has implemented major plans to for the future growth and development of the Company.  Management is in the process of renegotiating more favorable repayment terms on the notes payable and the Company anticipates that these negotiations will result in extended payment plans.  In addition, during 2016 and 2015, the Company implemented marketing and information strategies to increase public awareness of its products and thereby sales.  It has established new international markets which it believes will be the source for sales growth in the very near future.  It also was able to reduce the per-unit cost of manufacturing its products.  Additionally, the Company has increased the efficiency of its processes and focused its development efforts on products that appear to have greater sales potential.

Historically, the Company has financed its operations primarily through private financing.  It is management's intention to finance operations during the remainder of 2016 primarily through increased sales although there will still be a need for additional equity financing.  In addition, management is actively seeking out mergers and acquisitions which would be beneficial to the future growth of the Company.  There can be no assurance, however, that this financing will be successful and the Company may be required to further reduce expenses and scale back operations.

As described in Note 4, the Company is currently in default on a $50,000 loan from a stockholder.

The consolidated financial statements presented above and the accompanying Notes have been prepared on a going concern basis, which contemplates the realization of assets and discharge of liabilities in the normal course of business for the foreseeable future, and does not include any adjustments to reflect possible future effects on the recoverability  and classification of assets, or the amounts and classification of liabilities that may result from the outcome of any extraordinary regulatory action, which would affect our ability to continue as a going concern.

Due to the conditions and events discussed above, there is substantial doubt about the Company's ability to continue as a going concern.

In February 2016, the FASB issued new guidance on the accounting for leases, which supersedes previous lease guidance. Under this guidance, for all leases with terms in excess of one year, including operating leases, the Company will be required to recognize on its balance sheet a lease liability and a right-of-use asset representing its right to use the underlying asset for the lease term. The new guidance retains a distinction between finance leases and operating leases and the classification criteria is substantially similar to previous guidance. Additionally, the recognition, measurement, and presentation of expenses and cash flows arising from a lease by a lessee have not significantly changed. The Company is currently evaluating the impact of this guidance on its consolidated balance sheets. This guidance is effective for interim and annual reporting periods beginning after December 15, 2018, with early adoption permitted.

In May 2014, the FASB issued guidance on the recognition of revenues which provides a single, comprehensive revenue recognition model for all contracts with customers and supersedes most existing revenue recognition guidance. The main principle under this guidance is that an entity should recognize revenue at the amount it expects to be entitled to in exchange for the transfer of goods or services to customers. The Company is currently evaluating the impact of this guidance on its consolidated balance sheets and statement of operations. This guidance is effective for interim and annual reporting periods beginning after December 15, 2017, with early adoption permitted for interim and annual reporting periods beginning after December 15, 2016.

VIEW SYSTEMS, INC. and SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Notes payable as of June 30, 2016 and December 31, 2015 consists of the following:

VIEW SYSTEMS, INC. and SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

               For income tax purposes the Company has net operating loss carry forwards of $27,915,000 as of December 31, 2015 that may be used to offset future taxable income.  In the instance of future corporate acquisitions, the net operating losses may be used to offset the future taxable income of a qualifying subsidiary corporation which meets IRS regulations governing such situations.  The losses have accumulated since 1998 and they will start to expire in 2018.  IRS regulations also provide that significant changes in ownership (greater than 50%) could result in the expiration of some of the net operating loss carry forwards.  As of  the date of this report the Company has not made an analysis of the changes in ownership to determine if any of these losses have expired.  Net income tax benefit is not recognized at this time because there is no reasonable expectation that the benefit will be realized in the future.Due to continuous losses from operations the Company has assigned a full valuation allowance against its deferred tax assets.

In July 2005 the Company issued 7,171,725 shares of Series A Preferred Stock in payment of services.  The issuance had been previously authorized by the Board of Directors.  Each share of Series A Preferred Stock has a liquidation preference, in the event of liquidation of the Company, of $0.001 per share before any payment or distribution is made to the holders of common stock.

During 2008 the Board of Directors approved a reverse split of the stock in which one new share of preferred stock was issued in exchange for each 80 shares of stock outstanding.  Accordingly, the total issued of preferred stock was adjusted from 7,171,725 shares to 89,647 shares.  The par value and the total authorized shares did not change.

Effective in 2010 the initial issuance of  Series A Preferred can be converted into common stock in the ratio of 15:1.  During 2011 the Board of Directors authorized the issuance of an additional 1,400,000 shares of Series A Preferred Stock in payment of a loan from a shareholder in the amount of $64,000 and also in payment of services in the amount of $34,000. These additional shares can be converted to common stock beginning in 2013. Each share is entitled to fifteen votes and shall be entitled to vote on any matters brought to a vote on the common stock shareholder.

During 2012 the Board of Directors authorized the issuance of an additional 1,500,000 shares of Series A Preferred Stock in payment of deferred compensation and current compensation in the amount of $161,463.

During 2013 the Board of Directors authorized the issuance of an additional 500,000 shares of Series A Preferred Stock in payment of professional services in the amount of $225,000.

During 2014 the Board of Directors authorized the issuance of an additional 2,000,000 shares of Series A Preferred Stock in payment of deferred and current compensation in the amount of $480,000.

During 2015 an owner of preferred stock elected to convert 1,400,000 shares of his preferred stock into 21,000,000 shares of the Company's common stock.

During 2015 the Board of Directors authorized the issuance of an additional 1,000,000 shares of Series A Preferred Stock in payment of deferred compensation of $37,500 and current compensation of $37,500.

During 2016 an owner of preferred stock elected to convert 500,000 shares of preferred stock into 7,500,000 shares of the Company's common stock.

VIEW SYSTEMS, INC. and SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The Company leased  a 3,600 sq. ft. office and warehouse space at 1550 Caton Center Drive, Baltimore, Maryland, under a non-cancellable operating  lease which expired in May 2015.  The original base rent was $3,077 per month with a 3% annual rent escalator clause.  Upon its expiration the Company leased 1,500 sq. ft. under a non-cancellable lease at 1900 Lansdowne Road, Baltimore Maryland at a current monthly rent of $1,595 for a period of 3 years.  Minimum annual lease payments over the term of the lease are $19,140 for 2016 and $4,785 for 2017.  Rent expense incurred under these leases was $8,918 and $20,593 for the periods ended June 30, 2016 and 2015, respectively.

On April 2, 2010 the Company adopted its 2010 Equity Incentive Plan.  Reserved for equity issuances under the Equity Incentive Plan are 50,000,000 shares of our common stock.  During 2011 14,116,433 shares of common stock were issued under the provisions of the 2010 Equity Incentive Plan for which $92,065 of expenses were recognized.

On June 1, 2010 the Company adopted its 2010 Service Provider Stock Compensation Plan.  Reserved for equity issuances under the Service Provider Stock Compensation Plan are 50,000,000 shares of our common stock.  No equity issuances were made during the reporting period from the 2010 Service Provider Stock Compensation Plan.

During the periods ended June 30, 2016 and 2015 the Company issued the following compensatory shares outside of its existing Stock Option and Restricted Share Plans at the discretion of the Board of Directors:

For the six month period ended June 30, 2016 the Board authorized the issuance of 7,000,000 shares of common stock in payment of interest expense amounting to $16,800.

For the six month period ended June 30, 2015 the Board authorized the issuance of 8,350,000 shares of common stock in payment of current services and also for services accrued in prior periods amounting to $114,250.

Independent contractors and consultants' expense was based on the estimated value of services rendered or the value of the common stock issued, if more reliably determined.

VIEW SYSTEMS, INC. and SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

On April 2, 2010, the Company adopted its 2010 Equity Incentive Plan, which authorized, among other forms of incentives, the issuance of stock options.  Reserved for equity issuances under the 2010 Equity Incentive Plan are 50,000,000 shares of our common stock.  No equity issuances have been made from the 2010 Equity Incentive Plan.  Stock options, which may be tax qualified and non-qualified, are exercisable for a period of up to ten years at prices at or above market prices as established on the date of the grant.

Certain nonqualified stock options were issued during the period ended June 30, 2013 to a member of the board of directors as compensation for services performed.

               Weighted            Weighted Average    Aggregate

                                                           Number of       Average Exercise           Remaining              Intrinsic

Options Price                                                                                                Contractual  Life           Value

Outstanding at Dec 31, 2015              10,000,000                 $0.03                          2.69                   $     -

Granted                                                         -                             -                                 -                           -

Exercised                                                      -                             -                                 -                           -

Forfeited                                                       -                             -                                 -                           -

Outstanding at June 30, 2016             10,000,000                 $0.03                           2.00                 $      -

Exercisable at June 30, 2016                10,000,000                 $0.03                           2.00                 $      -

The Company uses the Black-Scholes option pricing model to calculate the fair value of options.  Significant assumptions used in this model include:

Annual Dividend                                                                                           -

Expected Life (in years)                                                                                 5.00

Risk Free Interest Rate                                                                                  0.78%

Expected Volatility                                                                                    325.25%

VIEW SYSTEMS, INC. and SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

9.     RELATED PARTY TRANSACTIONS

Certain stockholders made cash advances to the Company to help with short-term working capital needs.  The net proceeds from stockholders with unstructured payment plans amounted to $26,505 and $102,316 for the periods ended June 30, 2016 and 2015, respectively.  The total balance due on unstructured loans from stockholders amounted to $591,208 as of June 30, 2016 and $564,703 at December 31, 2015.  Loans from stockholders made with repayment terms are described in Note 4 above.

10.      ISSUABLE COMMON STOCK

              As of June 30, 2016 and December 31, 2015 740,000 shares of the authorized shares of common stock amounting to $16,000, had not been issued.

11.  CONTINGENT LIABILITY

               Effective January 1, 2014 the Board of Directors authorized a new employment contract with Gunther Than, CEO of View Systems, Inc.  That employment contract provides that in the event of a change in control of the Board of Directors or a buyout or takeover or substantial change of management structure Mr. Than will receive a minimum of three year's salary plus 4.8 million shares of unrestricted stock of the equivalent in cash at Mr. Than's direction.  Mr. Than's current base salary is $120,000 per annum.