QI Systems (QIIU) 20-F 2006 FY Annual report (foreign)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 20-F

o Registration Statement pursuant to Section 12(b) or 12(g) of the Securities Exchange Act of 1934

or

x Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the fiscal year ended June 30, 2006

or

o Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period [    ] from to [    ]

or

o Shell Company report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

Date of event requiring this shell company report [    ]

Commission file number000-30948

QI Systems Inc.

(Exact name of Registrant as specified in its charter) 

Delaware

(Jurisdiction of incorporation) 

609 Cheek Sparger Road, Suite 300, Colleyville, TX 76034

(Address of principal executive offices)

Securities registered pursuant to Section 12(b) of the Act: None.

Securities registered pursuant to Section 12(g) of the Act:

Common stock, $.001 par value.

(Title of Class)

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act: None.

Indicate the number of outstanding shares of each of the registrant's classes of capital or common stock as of the close of the period covered by the annual report.

44,834,629shares of common stock, $.001 par value.

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes o No  x  

If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.  Yes x    No o

Note - Checking the box above will not relieve any registrant required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 from their obligations under those Sections.

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 x    No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer  o Accelerated filer  o Non-accelerated filerx

Indicate by check mark which financial statement item the registrant has elected to follow.     Item 17 ý Item 18 o

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).     Yes o No  ý

(Applicable only to issuers involved in bankruptcy proceedings during the past five years)

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13, or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.

x Not Applicable         Yes o  No o

EXPLANATORY NOTE

We are filing this annual report for the fiscal year ended June 30, 2006 on Form 20-F pursuant to General Instruction A of Form 20-F. For the entire fiscal year ended June 30, 2006, we were a “foreign private issuer,” as that term is defined in Rule 3b-4, promulgated under the Securities Exchange Act of 1934, as amended. On July 1, 2006, the first day of our 2007 fiscal year, we changed our jurisdiction of incorporation, or domesticated, from the Province of British Columbia, Canada to the State of Delaware. Because we were a “foreign private issuer” for the entire period covered by this report, we are required to file our annual report for our fiscal year ended June 30, 2006 on Form 20-F, and not on Form 10-KSB. We plan to file future annual reports on Form 10-KSB, as long as we qualify to use such form.

NOTE REGARDING FORWARD LOOKING STATEMENTS

This annual report on Form 20-F contains forward looking statements. Except for statements of historical fact, specified information contained in this annual report may constitute “forward-looking statements,” including without limitation, statements based on the beliefs, opinions and expectations of our management; statements related to projections, estimates and future trends; and statements containing the words “believes,” “anticipates,” “intends,” “expects,” “estimates”, “projected”, “may”, “should”, “could” and words of similar import, and all projections of future results. Such forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause our actual results or achievements to be materially different from any of our future results or achievements expressed or implied by such forward-looking statements. Such factors include, among others, the following:

· our history of operating losses and uncertainty of future profitability;

· our lack of operating cash flow, uncertainty of access to additional capital;

· risks associated with the acceptance of Cash Card systems;

· rapidly changing technology and the high costs associated with research and development;

· the development of technologies that may render our technology obsolete; competition with companies having greater financial and technological resources;

· dependence on strategic alliances to install our Cash Card technology in the marketplace;

· dependence on large contracts and concentration of customers;

· changes in economic conditions; and

· other risks and uncertainties described in “Key Information,” “Information on the Company,” “Operating and Financial Review and Projects” and “Quantitative and Qualitative Disclosures about Market Risk.”

Our actual results, performance or achievement could differ significantly from those expressed in, or implied by, these forward-looking statements. Accordingly, we cannot assure that any of the events anticipated by our forward-looking statements will occur, or if they do, what impact they will have on our results of operations and financial condition.

Forward-looking statements are based on the beliefs, opinions and expectations of our management at the time they are made, and we do not assume any obligation to update our forward-looking statements if those beliefs, opinions or expectations, or other circumstances, should change.

QI SYSTEMS INC.

FORM 20-F

TABLE OF CONTENTS

			Page No.
PART I
ITEM 1.		IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS	1
	1.A	Directors and Senior Management	1
	1.B	Advisors	1
	1.C	Auditors	1
ITEM 2		OFFER STATISTICS AND EXPECTED TIMETABLE	1
ITEM 3		KEY INFORMATION	1
	3.A	Selected financial data	1
	3.B	Capitalization and indebtedness	2
	3.C	Reasons for the offer and use of proceeds	3
	3.D	Risk factors	3
ITEM 4		INFORMATION ON THE COMPANY	9
	4.A	History and development of the company	9
	4.B	Business overview	9
	4.C	Organizational structure	17
	4.D	Property, plants and equipment	17
ITEM 5		OPERATING AND FINANCIAL REVIEW AND PROSPECTS	17
	5.A	Operating results	19
	5.B	Liquidity and capital resources	20
	5.C	Research and development, patents and licenses, etc.	20
	5.D	Trend information	21
	5.E	Off-balance arrangements	22
	5.F	Tabular disclosure of contractual obligations	22
	5.G	Safe Harbor	22
ITEM 6		DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES	22
	6.A	Directors and senior management	22
	6.B	Compensation	25
	6.C	Board practices	29
	6.D	Employees	30
	6.E	Share ownership	30
ITEM 7		MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS	32
	7.A	Major shareholders	32
	7.B	Related party transactions	33
	7.C	Interests of experts and counsel	35
ITEM 8		FINANCIAL INFORMATION	35
	8.A	Consolidated statements and other financial information	35
	8.B	Significant changes	35
ITEM 9		THE OFFER AND LISTING	35
	9.A	Offer and listing details	35
	9.B	Plan of distribution	35
	9.C	Markets	36
	9.D	Selling shareholders	37
	9.E	Dilution	38
	9.F	Expenses of the issue	38
ITEM 10		ADDITIONAL INFORMATION	38
	10.A	Share capital	38
	10.B	Memorandum and articles of association	38
	10.C	Material contracts	38
	10.D	Exchange controls	38
	10.E	Taxation	38

	10.F	Dividends and paying agents	39
	10.G	Statement by experts	39
	10.H	Documents on display	39
	10.I	Subsidiary information	40
ITEM 11		QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK	40
ITEM 12		DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES	40
	12.A	Debt securities	40
	12.B	Warrants and rights	40
	12.C	Other securities	40
	12.D	American depository shares	40
PART II
ITEM 13		DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES	40
ITEM 14		MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY	40
		HOLDERS AND USE OF PROCEEDS	40
ITEM 15		CONTROLS AND PROCEDURES	40
ITEM 16
	16.A	Audit Committee financial expert	41
	16.B	Code of Ethics	41
	16.C	Principal accountant fees and services	41
	16.D	Exemptions from the listing standards for audit committees	42
	16.E	Purchases of equity securities by the issuer and affiliated purchasers	42
PART III
ITEM 17		FINANCIAL STATEMENTS	43
ITEM 18		FINANCIAL STATEMENTS	43
ITEM 19		EXHIBITS	43

PART I

Item 1 Identity of Directors, Senior Management and Advisers

1.A Directors and senior management

Not Applicable.

1.B Advisers

Not Applicable.

1.C Auditors

Not Applicable.

Item 2 Offer Statistics and Expected Timetable

Not applicable.

Item 3 Key Information

3.A Selected financial data

The following table sets forth selected financial data regarding our consolidated operating results and financial position. The data has been derived from our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in Canada, referred to below as “Canadian GAAP.” For reconciliation to accounting principles generally accepted in the United States, referred to below as “US GAAP,” see Note 14 to our Consolidated Financial statements dated June 30, 2006. The following selected financial data is qualified in their entirety by, and should be read in conjunction with, the consolidated financial statements and notes thereto included elsewhere in this annual report. The selected financial data is expressed in United States dollars, in accordance with Canadian GAAP.

	Year Ended June 30
	2006 (US$)			2005 (US$)			2004 (US$)			2003 (US$)			2002 (US$)
Revenue		406,168			390,111			383,722			325,422			152,985
Costs of Goods Sold		239,933			216,652			75,320			84,742			147,452
Net Revenue		166,238			173,459			308,402			240,680			5,533
General & Administrative Expenses		2,010,442			1,232,497			1,554,611			951,029			972,099
Net Gain (Loss) fromContinuing Operations
Canadian GAAP		(1,789,433	)		(1,036,566	)		(1,183,895	)		(710,175	)		(966,440	)
US GAAP		(1,789,433	)		(1,036,566	)		(1,183,895	)		(710,175	)		(966,440	)
Net Loss per Share
Canadian GAAP		0.05			0.04			0.06			0.05			0.08
US GAAP		0.05			0.04			0.06			0.05			0.08
Working Capital
(Deficiency)		98,668			(135,913	)		(198,097	)		(707,137	)		(78,130	)
Total Assets		516,670			719,257			362,956			251,027			1,109,056
Total Liabilities		384,322			846,064			548,572			940,993			1,165,351
Shareholders’ Equity
(Deficiency)
Canadian GAAP		132,348			(126,807	)		(185,616	)		(689,966	)		(56,295	)
US GAAP		132,348			(126,807	)		(174,573	)		(679,966	)		(56,295	)
Long-term Obligations		Nil			Nil			Nil			Nil			Nil
Outstanding
Number of Shares		42,095,756			24,230,053			22,246,598			16,363,501			12,280,168
Dividends Declared		Nil			Nil			Nil			Nil			Nil

1

We have not paid dividends on our shares and do not anticipate doing so for the foreseeable future. The declaration of dividends on our common shares is within the discretion of our board of directors and will depend upon, among other factors, our earnings, our capital requirements and our operating and financial condition.

Currency and Exchange Rates

The following tables set out the exchange rates for one Canadian dollar, represented by the symbol, “Cdn$”, expressed in terms of one United States dollar, represented by the symbol, “$”, derived from the reciprocals of the noon buying rates in New York City for cable transfers payable in Canadian dollars, as certified for customs purposes by the Federal Reserve Bank of New York.

The high and low exchange rates for each month during the previous six months are as follows (Canadian dollars per United States $1.00):

Month	High	Low
	Cdn $	Cdn $
November 2006	1.1458	1.1275
October 2006	1.1384	1.1154
September 2006	1.1272	1.1052
August 2006	1.1312	1.1066
July 2006	1.1415	1.1112
June 2006	1.1241	1.0991

The average closing exchange rates for each of our five previous fiscal years ended June 30 are as follows:

Fiscal Year Ended	Average
	Cdn$
June 30, 2006	1.16
June 30, 2005	1.24
June 30, 2004	1.34
June 30, 2003	1.51
June 30, 2002	1.57
June 30, 2001	1.52

On November 30, 2006, the exchange rate of Canadian dollars into United States dollars, based upon the noon buying rate in New York City for cable transfers payable in Canadian dollars as certified for customs purposes by the Federal Reserve Bank of New York, was $0.87 (US $1.00 equals Cdn $1.14).

3.B Capitalization and indebtedness

Not applicable.

2

3.C Reasons for the offer and use of proceeds

Not applicable.

3.D Risk Factors

The following risk factors and other information in this prospectus contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Actual results could differ materially from those projected as a result of risk factors discussed in this section and elsewhere in this prospectus.

We face intense competition.

The smart card micropayment industry is intensely competitive and subject to rapid technological change. Numerous factors affect our competitive position, including price, product features, product performance and reliability, ease of use, product scalability, product availability, meeting customer schedules, integration of products with other enterprise solutions, availability of project consulting services and timely ongoing customer service and support. We face competition from a number of companies across our range of businesses, including original equipment manufacturers, peripheral equipment manufacturers and others. Our competitors include other smart card micropayment system providers. These competitors are both national and regional. We anticipate that we will face additional competition from new entrants that provide significant performance, price, creative or other advantages over those we are able to offer. Many of these competitors have greater name recognition and resources than we do. Increased competition would likely result in price reductions, reduced margins and loss of market share, any of which would have a material adverse effect on our business and operating results.

Additionally, potential competitors with established market shares and greater financial resources may introduce competing products. Thus, there can be no assurance that we will be able to compete successfully in the future or that competition will not have a material adverse effect on the results of our operations.

We have a history of losses, expect future losses and may never achieve profitability.

We have not achieved profitability and expect to continue to incur operating losses for the foreseeable future. Asof June 30, 2006, we had an accumulated deficit of $14,061,839, and we incurred a net loss in fiscal 2006 of $1,789,433. Asof June 30, 2005, we had an accumulated deficit of $12,272,406, and we incurred a net loss in fiscal 2005 of $1,036,566. As of June 30, 2004 and June 30, 2003, we had an accumulated deficit of $11,235,840 and $10,051,945, respectively. We incurred net losses of $1,183,895 in fiscal 2004, $710,175 in fiscal 2003, $966,440 in fiscal 2002 and $1,066,772 in fiscal 2001. We expect that we may continue to incur losses in future years.

A relatively high percentage of our expenses are typically fixed in the short term. Our gross revenues net of cost of goods sold for each of the years ended June 30, 2006, 2005, 2004, 2003 and 2002 were $166,235, $173,459, $308,402, $240,680 and $5,533, respectively, while our general and administrative operating expenses for the same periods were $2,010,442, $1,232,497, $1,554,611, $951,029 and $972,099, respectively. We expect our general and administrative operating expenses to increase in future periods as we increase our efforts to market and commercialize our products. To the extent that we are unable to increase net revenues significantly, we will continue to incur losses. It is possible that our revenues will grow more slowly than we anticipate or that operating expenses will exceed our expectations.

We have a limited operating history in the Cash Card industry; therefore, evaluation of our future prospects is difficult.

We commenced our current business of developing Cash Card technologies in December 1995. Therefore, we have only a limited operating history upon which an evaluation of our business and prospects can be based. Our revenue and income potential is unproven, and as of yet, our business strategy has not been fully implemented. During the last four fiscal years, our revenue has been erratic, ranging from $152,985 in fiscal 2002 to $325,422 in fiscal 2003 to $383,722 in fiscal 2004 to $390,111 in fiscal 2005 to 406,168 in fiscal 2006. We cannot assure you that, in the future, we will experience revenue growth or ever become profitable on a quarterly or annual basis. Based on our historical results of operations and the development stage of our business, we believe that period-to-period comparisons of financial results are not necessarily meaningful and should not be relied upon as an indication of future performance.

3

Our working capital position makes our ability to continue as a going concern doubtful.

We had working capital of $98,668 at June 30, 2006 and working capital deficits of $135,913 at June 30, 2005,$198,097 at June 30, 2004, and $707,137 at June 30, 2003. Our ability to continue as a going concern is doubtful when our working capital deficit and our expectation that we may incur losses in future years are considered. Our auditors have included an explanatory note to U.S. readers, and our financial statements contain a note expressing substantial doubt regarding our ability to continue as a going concern. Our financial statements were prepared based on the assumption that we would continue as a going concern and do not reflect adjustments to the carrying value of assets and liabilities, the reported expenses and balance sheet classifications that would be necessary if the going concern assumption were not appropriate. If we are unable to successfully increase our revenues from our operations or to raise sufficient capital to fund our plan of operation, we may be unable to continue as a going concern and the value of our common shares would be materially adversely affected.

Our operating results may fluctuate.

Our results of operations have fluctuated in the past and are likely to continue to fluctuate from period to period depending on a number of factors, including but not limited to:

· the timing and receipt of significant orders;

· the timing of completion of contracts;

· increased competition;

· changes in the demand for our products and services;

· the cancellation of contracts;

· the timing of new product announcements and introductions;

· changes in pricing policies by us and our competitors;

· delays in the introduction of products or enhancements by us;

· expenses associated with the acquisition of products or technology from third parties;

· the mix of sales of our products and services;

· seasonality of customer purchases;

· personnel changes;

· market acceptance of Cash Cards, including VisaCash and Mondex/MasterCard;

· the mix of international and North American revenue; and

· changes in tax policies, foreign currency exchange rates and general economic conditions.

These factors are beyond our control and may affect the demand for our products and services and our results of operations.

The market for Cash Cards is not well developed and may not grow.

Bank Cash Cards are a relatively new technology, and the industry is still in the developmental stage. There are only a few users of Cash Card systems in North America, and the growth of the industry has been slower than originally anticipated. Our SmartKit® project is dependent on the commercial deployment of Cash Cards by the world banking community and the overall success of Cash Cards as a monetary medium. Lack of standardization has created a barrier to acceptance because of the number of different platforms and smart chip technologies available for both attended and unattended point-of-sale applications. The success of the Cash Card industry depends on the ability of market participants, including us, to convince commercial enterprises, organizations and other potential system sponsors to adopt smart card systems in lieu of existing or alternative systems. Cash Card-based smart card systems may not prove economically feasible for some potential system sponsors due to a very high cost of implementation, the high cost of smart cards and negative consumer response to the data that is generated and stored from their use. Our success will depend upon our ability to enhance our existing products and to develop and introduce new products and technologies to meet customer requirements.

4

We must constantly update our technology to remain competitive.

The smart card technology on which Cash Cards are based is evolving very rapidly; thus, the Cash Card industry has been and continues to be dynamic and ever-changing. Our SmartKit® systems are primarily designed for self-serve or unattended point-of-sale (UPOS) applications. Both Visa and MasterCard have modified their specifications to better accommodate UPOS applications and to allow for the wide diversity of UPOS devices. These modifications may require us to develop compatible systems or update existing systems to accommodate the VisaCash and Mondex/MasterCard platforms. New technology is being developed that is expected to greatly enhance the functionality and data management capabilities of Cash Cards and other smart card technologies. We must continue to enhance our terminals to keep pace with the market and advances in Cash Card technologies in order to remain competitive.

Our historical financial results may not be meaningful for comparative purposes.

We are unable to forecast with certainty the receipt of orders for our products and services. Moreover, our expense levels are relatively fixed and are based, in part, upon our expectation of future revenue. Thus, if revenue levels fall below expectations as a result of a delay in completing a contract, the inability to obtain new contracts, the cancellation of an existing contract or otherwise, operating results are likely to be adversely affected. As a result, net income may be disproportionately affected because a relatively small amount of our expenses vary with our revenue. In particular, we plan to increase our operating expenses to expand our sales and marketing operations, expand our distribution channels, fund greater levels of research and development, broaden our customer support capabilities and increase our administrative resources. Based upon all of the foregoing factors, we believe that our quarterly revenue, direct expenses and operating results are likely to vary significantly in the future, that period-to-period comparisons of the results of operations are not necessarily meaningful and that such comparisons should not be relied upon as an indication of future performance.

We may also choose to reduce prices or increase spending in response to competition or to pursue new market opportunities. If new competitors, technological advances by existing competitors or other competitive factors require us to reduce our prices or invest significantly greater resources in research and development efforts, our operating results in the future may be adversely affected. It is likely that in some future quarter(s) our operating results will be below the expectations of public market analysts and investors. In such event, the price of our common shares would likely be materially adversely affected.

The market’s acceptance of and demand for our products are uncertain.

We face the risk that Cash Card technology generally, and our products specifically, will not be chosen to replace existing technology or will not otherwise achieve market acceptance. Existing demand for Cash Card products in North America is not large enough for all the companies seeking to engage in the Cash Card business to succeed. We and other competitors in the Cash Card business rely upon anticipated growth in demand, which may not occur or may be slow to occur. The success of the Cash Card industry depends on the ability of market participants, including us, to convince end users to utilize Cash Cards. Unless there is wide acceptance of Cash Card-based systems, there may never be sufficient demand for our Cash Card systems to make our business commercially viable.

We experience lengthy sales cycles for our products.

The purchase of a Cash Card system is often an enterprise-wide decision for prospective customers, which requires us to engage in sales efforts over an extended period of time and to provide a significant level of education to prospective customers regarding the uses and benefits of such systems. Due in part to the impact that the application of Cash Card readers has on the operations of a business and the commitment of capital required by such a system, potential customers tend to be cautious in making acquisition decisions. As a result, our products generally have a lengthy sales cycle ranging from several months to several years. Consequently, if sales from a specific customer forecasted for a particular quarter are not realized in that quarter, we may not be able to generate revenue from alternative sources in time to compensate for the shortfall. The loss or delay of a large contract could have a material adverse effect on our quarterly operating results. Moreover, to the extent that significant contracts are entered into and required to be performed earlier than expected, operating results for subsequent quarters may be adversely affected.

5

We depend upon large contracts and a concentration of customers.

Our revenue is dependent, in large part, on significant contracts from a limited number of customers. During the fiscal year ended June 30, 2006, approximately 63% of our consolidated revenue was attributable to one customer, Cale Parking. During the fiscal year ended June 30, 2005, approximately 60% of our consolidated revenue was attributable to one customer. During the fiscal year ended June 30, 2004, approximately 63% of our consolidated revenue was attributable to three customers. We believe that revenue derived from current and future large customers will continue to represent a significant portion of our total revenue. If we are unable to continue to secure and maintain a sufficient number of large contracts, our business, operating results and financial condition will be materially adversely affected. Moreover, our success will depend in part upon our ability to obtain orders from new customers, as well as the financial condition and success of our customers and general economic conditions.

Our future profitability is expected to depend on enhancements to existing products and new products that we develop.

We expect that a significant portion of our future revenue will be derived from the sale of newly introduced products and from enhancement of existing products. Our success will depend in part upon our ability to enhance our current products on a timely and cost-effective basis and to develop new products that meet changing market conditions, including changing customer needs, new competitive product offerings, new Cash Card platforms and enhanced technology. We face the risk generally associated with introducing new products to markets, including high marketing costs, possible lack of market acceptance and competition with new and existing products and technologies. There can be no assurance that we will be successful in developing and marketing, on a timely and cost-effective basis, new products and enhancements that respond to such changing market conditions. If we are unable to anticipate or adequately respond on a timely or cost-effective basis to changing market conditions, to develop new software products and enhancements to existing products, to correct errors on a timely basis or to complete products currently under development, or if such new products or enhancements do not achieve market acceptance, our business, operating results and financial condition could be materially adversely affected. In light of the difficulties inherent in software and hardware development, we expect that we may experience delays in the completion and introduction of new products.

Our products may contain defects that could result in liability to us and have a material adverse effect on our business.

Cash Card reader systems, including those offered by us, may from time to time contain undetected defects or software errors. There can be no assurance that, despite testing by us and by current and potential customers, defects or errors will not be found in our products. Such defects or errors could result in loss of or delay in market acceptance of our products, which could have a material adverse effect on our business, operating results and financial condition.

We may be unable to protect our proprietary technology.

Our success is dependent on our ability to protect our intellectual property rights. At present, we have no registered copyright pertaining to our software, nor any patent protection. The absence of any registered proprietary rights may limit our ability to maintain control of trade and technology secrets. We rely principally upon a combination of trade secret laws, nondisclosure agreements and other contractual provisions to establish and maintain our rights. As part of our confidentiality procedures, we generally enter into nondisclosure and confidentiality agreements with each of our key employees, consultants, distributors, customers and corporate partners, to limit access to and distribution of our software, documentation and other proprietary information. There can be no assurance that our efforts to protect our intellectual property rights will be successful. Despite our efforts to protect our intellectual property rights, unauthorized third parties, including competitors, may be able to copy or reverse engineer certain portions of our software products, and use such copies to create competitive products.

6

In addition, because third parties may attempt to develop similar technologies independently, we expect that software product developers will be increasingly subject to infringement claims as the number of products and competitors in our industry segments grows and the functionality of products in different industry segments overlap. Although we believe that our products do not infringe on the intellectual property rights of third parties, there can be no assurance that third parties will not bring infringement claims (or claims for indemnification resulting from infringement claims) against us with respect to copyrights, trademarks, patents and other proprietary rights. Any such claims, whether with or without merit, could be time consuming, result in costly litigation and diversion of resources, cause product shipment delays or require us to enter into royalty or licensing agreements. Such royalty or licensing agreements, if required, may not be available on terms acceptable to us or at all. A claim of product infringement against us, or our inability to license the infringed or similar technology, could have a material adverse effect on our business, operating results and financial condition.

We depend upon third-party suppliers.

Certain contracts may require us to supply, coordinate and install third-party products and services. We believe there are a number of acceptable vendors and subcontractors for most of our required products, but in many cases, despite the availability of multiple sources, we may select a single source in order to maintain quality control and to develop a strategic relationship with the supplier. Likewise, we may be directed by a customer to use a particular product. The failure of a third-party supplier to provide a sufficient supply of parts and components or products and services in a timely manner could have a material adverse effect on our results of operations. In addition, any increase in the price of one or more of these parts, components, products or services could have a material adverse effect on our business, operating results and financial condition.

We rely upon key personnel and may need additional personnel.

We are largely dependent upon the personal efforts and abilities of existing management and staff. Our success will also be largely dependent upon our ability to continue to attract quality management and employees to help us operate as our operations may grow. An inability to retain or attract key personnel could have a material adverse effect on our operations.

Our success depends upon marketing relationships.

Our products are marketed by our direct field sales force as well as by resellers. There can be no assurance that our existing resellers will continue to provide the level of services and technical support necessary to provide a complete solution to our customers or that they will not emphasize their own or third-party products to the detriment of our products. We also depend on our strategic relationships with VisaCash and MasterCard, who assist us in our marketing efforts. The loss of these marketing relationships, the failure of such parties to perform under our agreements or our inability to attract and retain new resellers with the technical, industry and application experience required to market our products successfully could have a material adverse effect on our business, operating results and financial condition. We expect that we may enter into certain joint ventures in order to facilitate our expansion into other vertical markets and geographic areas.

Our financial results may be affected by currency fluctuations.

We do not currently hedge against foreign exchange fluctuations that may occur between Canadian and U.S. dollars, which are the two currencies that have a direct effect on our financial results. Our management anticipates that any gains or losses derived from foreign exchange fluctuations will be offset by either an increase in revenues and cost of sales or a decrease in revenues or cost of sales.

7

New rules, including the Sarbanes-Oxley Act of 2002, may make it difficult for us to retain or attract officers and directors.

We may be unable to attract and retain qualified officers, directors and members of board committees required to provide for our effective management as a result of the recent and currently proposed changes in the rules and regulations which govern publicly held companies in the United States. The enactment of the Sarbanes-Oxley Act of 2002 has resulted in a series of rules and regulations by the Securities and Exchange Commission that increases responsibilities of officers and directors. The perceived increased personal risk associated with these recent changes may deter qualified individuals from accepting these roles.

The market for our common shares has been volatile in the past and may be subject to fluctuations in the future.

The trading prices of our common shares have been subject to wide fluctuations since trading of our shares commenced in March 1978. The market price of our shares has ranged between US $0.09 and US $ 0.70 on the Over-the-Counter Bulletin Board (the “OTCBB”) (December 1, 2003 to June 30, 2006). See “Description of our Business—Market Information”. There can be no assurance that the market price of our common shares will not significantly fluctuate from its current level. The market price of our common shares may be subject to wide fluctuations in response to quarterly variations in operating results, announcements of technological innovations or new products by us or our competitors, changes in financial estimates by securities analysts or other events or factors. In addition, the financial markets have experienced significant price and volume fluctuations for a number of reasons, including the failure of the operating results of certain companies to meet market expectations that have particularly affected the market prices of equity securities of many high-technology companies that have often been unrelated to the operating performance of such companies. These broad market fluctuations, or any industry-specific market fluctuations, may adversely affect the market price of our common shares. In the past, following periods of volatility in the market price of a company’s securities, securities class action litigation has at times been instituted against such a company. Such litigation, whether with or without merit, could result in substantial costs and a diversion of management’s attention and resources, which would have a material adverse effect on our business, operating results and financial condition.

Broker-dealers may be discouraged from effecting transactions in our shares because they are considered a penny stock and are subject to the penny stock rules.

Rules 15g-1 through 15g-9 promulgated under the U.S. Securities Exchange Act of 1934, as amended, impose sales practice and disclosure requirements on specified brokers-dealers who engage in specified transactions involving a “penny stock.” Subject to specific exceptions, a penny stock generally includes any non-NASDAQ equity security that has a market price of less than $5.00 per share. The market price of our shares has ranged between US $0.07 and US $1.30 on the OTCBB (September 30, 2002 to June 30, 2006); thus, our shares are deemed penny stock for these purposes. Under the penny stock regulations, a broker-dealer selling penny stock to anyone other than an established customer or “accredited investor” (which generally means an individual with net worth in excess of $1,000,000 or an annual income exceeding $200,000, or $300,000 together with his or her spouse) must make a special suitability determination for the purchaser and must receive the purchaser’s written consent to the transaction prior to sale, unless the broker-dealer or the transaction is otherwise exempt. In addition, the penny stock regulations require the broker-dealer to deliver, prior to any transaction involving a penny stock, a disclosure schedule prepared by the Securities and Exchange Commission relating to the penny stock market, unless the broker-dealer or the transaction is otherwise exempt. A broker-dealer is also required to disclose commissions payable to the broker-dealer and the registered representative and current quotations for the securities. Finally, a broker-dealer is required to send monthly statements disclosing recent price information with respect to the penny stock held in a customer’s account and information with respect to the limited market in penny stocks. These additional sales practice and disclosure requirements imposed upon brokers-dealers may discourage broker-dealers from effecting transactions in our shares, which could severely limit the market liquidity of the shares and impede the sale of our shares in the secondary market.

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Item 4 Information on the Company

4.A History and development of the company

Our legal and commercial name is “QI Systems Inc.”

We were incorporated on July 4, 1978, under the name Jewel Resources Inc. by registration of our memorandum and articles under the British Columbian Company Act. We were initially engaged in natural resource exploration. In the late 1980s, we changed our business strategy and began to pursue our current mission of developing, marketing and selling technology related products. We subsequently changed our name to “Wkay Resources Inc.” on December 22, 1987, and to “Magnatron International Corp.” on October 18, 1990. Effective March 17, 1994, we changed our name to “QI Technologies Corp.” Effective May 25, 2001, we changed our name to “QI Systems Inc.”

We have one subsidiary, QI Systems International, Inc., a Texas corporation.

On December 15, 1999, our shareholders approved a forward split or subdivision of our common shares on a one (old) for two (new) common shares basis. All references to our common shares in this registration statement give effect to the forward split. Prior to July 1, 2006, we were a reporting issuer in Canada under the Securities Act (British Columbia) and the Securities Act (Alberta). Our common shares were publicly traded in Canada (from May 9, 1979 to July 16, 2004) on the TSXV Venture Exchange under the symbol “QII. U,” in the United States (since May 23, 2001) on the OTCBB under the symbol “QIIIF” until July 1, 2006 and since then as QIII; and in Germany (from March 23, 2000 to July 16, 2004) on the Berlin Stock Exchange under WKN# 865679. On May 29, 2001, the Canadian Venture Exchange was acquired by the Toronto Stock Exchange and changed its name to TSXV Venture Exchange.

Effective July 1, 2006, we changed our jurisdiction of incorporation, or domesticated, from the Province of British Columbia, Canada to the State of Delaware. In connection with the domestication, we incorporated in the State of Delaware on July 1, 2006 and are now a domestic reporting issuer organized under the laws of the State of Delaware.

We have not been subject to any bankruptcy, receivership or similar proceedings.

Our principal business office is located at 609 Cheek Sparger Road, Suite 300, Colleyville, Texas 76034, and our telephone number there is (817) 485-8111.

We had no material capital expenditures or divestures during the last three fiscal years. We have received no public takeover offers during the last or current fiscal year.

4.B Business overview

Our personnel consist of engineers, technologists and marketing professionals specializing in smart card based micropayment systems. We design, manufacture and market hardware and software for electronic cash (Cash Cards), self-serve payment systems. See “Our Products” below. Cash Cards have data storage capabilities that allow secure storage and immediate transfer of verifiable financial credit from card to card. Consumers use the cards in place of coins and small bills to purchase goods and services from vending machines, copier machines, transit systems, laundromat machines and other machines that have Cash Card readers.

Our primary products are the QiWave™ Contactless Card reader and the SmartKit® Cash Card reader, both of which enable Cash Card payments to be accepted in a wide range of vending and self-serve machines. Our QiWave™ and SmartKit® Cash Card readers are fully developed products that support multiple Cash Card schemes. See “Our Products” below. In a Cash Card transaction, our readers validate the Cash Card, display the balance, deduct the amount of the transaction from the card, then display the remaining balance. We offer our QiWave™ and SmartKit® for factory installation in new equipment or in kits that can be installed in existing machines in the field. QiWave™ and SmartKit® consist of a custom computer and a custom smart card interface in a steel or plastic enclosure designed for quick installation in the vending machine. We have developed several variations of our readers, including a card acceptor, a user keypad and a back-lit liquid crystal display; a laundry system that allows Cash Card payment at individual machines in a laundry facility; and for newspaper vending machines.

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We also developed QLink®, a hand-held computer data retriever that allows data to be downloaded from SmartKit® readers. Our SmartKit® and QLink® systems are currently being used in commercial applications throughout the world. See “Our Products” below. We have incurred approximately $7 million over the past five years researching, developing, marketing and selling our SmartKit® and QLink® products. We offer complete turnkey card payment systems that use our proprietary stored value cards and other stored value card schemes.

Our Products

We design, develop and market hardware and software for electronic cash applications that allows Cash Card payments to be accepted in a wide range of vending machines, parking meters, gaming devices and other applications. In addition, our products can be used for identification and security functions. We have the capability of providing top-to-bottom technology in both off-the-shelf and custom design smart card solutions.

QiWave™

QiWave™ is a contactless payment control system that allows contactless cash card payments to be accepted in a wide range of vending machines. It can be used in a variety of unattended point of sale applications, such as vending, laundry, parking, and in printers and copiers. It carries the same features of our SmartKit® with the added benefit of accepting the newer, more popular contactless cash cards.

QiWave™ fulfills the promise of the multi-application card.  QiWave™’s contactless solution increases transaction speed and convenience for the user, reduces or eliminates cash handling, reduces machine maintenance and extends card life by eliminating mechanical contact between the card and the reader.  It is a plug and play payment technology for vending, laundry, parking, printing and photocopying.  QiWave™’s technology can be adapted to be used in almost any unattended point of sale situation.  QiWave™ is completely flexible; it works with either the customer’s on-line system or as an off-line system using QI’s stored value electronic purse or it can be used in both environments. 

SmartKit®

SmartKit® is a payment control system that allows Cash Card payments to be accepted in a wide range of vending machines. SmartKit® had been certified by VisaCash and Mondex/MasterCard, the principal bank card systems and proprietary Cash Card systems that use Cash Cards issued by a company, institution or organization. Both VisaCash and Mondex/MasterCard impose stringent testing requirements before a device is certified for use with their Cash Cards. The SmartKit® reader has been tested in markets throughout North America and Europe and works concurrently with multiple Cash Card schemes.

Designed for ease of use, Smart Kit® features a card acceptor, a user keypad and a crisp back-lit liquid crystal display. SmartKit® validates the Cash Card and authorizes the transaction in about two seconds; the message “SELECT PRODUCT” advises the customer to make a selection. The card balance before and after the transaction may be displayed, depending on the Cash Card system specifications.

SmartKit® is offered in kit form for field installation in existing equipment or for factory installation in new equipment. SmartKit® consists of a custom computer and a custom smart card interface in a steel enclosure designed for quick installation in the vending machine. A molded front panel with display and push buttons attaches to the front and provides a standard user interface for all installations. SmartKit® installs in a knock out panel provided for bill acceptors. A standard configuration for these panels has been adopted by nearly all equipment manufacturers. The kit is shipped with different interface cables for the different internal standards.

Installation of SmartKit® is simple. The removable panel on the machine is typically held in place by four nuts accessible from within the machine. When the panel is removed, SmartKit® is installed in the opening using the same four nuts. SmartKit® interface cables are provided with male and female plugs to fit the coin changer interface in the machines. Using the appropriate interface harness, the installer unplugs the coin acceptor from the machine and plugs SmartKit® into its place. The coin changer is then plugged into the female connector on the SmartKit® harness.

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SmartKit® II

SmartKit® II was engineered specifically for vending machine applications and capitalizes on the modular design of our latest generation of Cash Card payment systems. The modular configuration of SmartKit® products enables us to offer cost-effective, flexible and scaleable Cash Card solutions for a greater number of markets. Features such as loyalty program capability are tailored to meet the requirements of individual clients, from original equipment manufacturers (“OEM”) to route operators.

SmartKit® II features a card acceptor, a user keypad and a back-lit liquid crystal display. Cash Card transactions are quick and simple. Like SmartKit®, SmartKit® II will validate the Cash Card and authorize the transaction in just a few seconds. Depending on the card specification chosen, the card balance before and after the transaction can be easily displayed.

Integrating Cash Card payment with existing payment options, SmartKit® II installs in almost all vending machines. We use multi-board architecture designed to enable us to configure board components compatible with current, custom and future requirements for power supply, software, data-storage and communications needs. SmartKit® II’s wide system compatibility and future upgrading or expansion should permit the support of additional card systems. SmartKit® II supports VisaCash, Mondex/MasterCard and additional Cash Cards, including proprietary card systems.

QLink®

QLink® is a “palmtop” computer linking card-accepting devices (“CADs”), such as our SmartKit®, with host computers and/or data gathering systems without the need for telecommunications.

Until recently, VisaCash installations have required phone or radio communications to each CAD. For many applications the expense was prohibitive. Networks generally reduce costs when similar CADs are clustered in close proximity. Where operators need to communicate with various types of CADs, networking may not be successful. Also, applications like vending frequently have scattered machine locations, making networking impractical.

QLink® offers a solution to these obstacles. It collects data from one or many CADs and stores the files for later transmission to Visa. When connected to a modem, QLink® dials the concentration point (“CP”) and transmits the data collected from each CAD. The CP returns updated information for each CAD via QLink® during the next data collection session at the CAD.

QLink® can communicate with and handle data from various types of CADs. It can store data from over 100 CADs spread over any distance. When connected with the CP it presents the CADs as stations on a network. QLink® is part of the QLink Management System (“QMS”). QMS is designed to provide enhanced control and reporting for merchants. CADs in unattended devices, such as vending machines, currently offer little direct reporting to the merchant. QMS provides merchants with CAD supervision capabilities.

QLink® allows direct reporting of the value of each upload from each CAD. It also reports the value of any re-transmission of old data when CADs re-send files per the specification. Reports can be viewed on the QLink® screen and can be printed. QLink® can communicate with a CAD either through a standard serial port or through the CAD Smart Card reader. For some applications, such as laundry machines, communication through the Smart Card reader is more convenient than internal serial port access. Even in standard point-of-sale applications, data access through the reader can be the most practical approach. For these cases, QLink® works with our SmartLink paddle, which is inserted in the smart card reader and permits data access through the reader.

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QLink® consists of our QLink hand-held software running on a palmtop computer together with a modem, cables and connectors as necessary for communications with CADs.

SmartKit® Laundry

The SmartKit® Laundry system allows Cash Card payment at individual machines in a laundry facility. SmartKit® Laundry can be integrated into most modern laundry machines. Support for custom or proprietary card systems is also available. SmartKit® Laundry is an unattended point-of-sale application where Cash Card payment offers major advantages over traditional payment methods. Laundry facilities, particularly in apartment buildings, are vulnerable to damage by thieves attempting to access cash. This creates revenue loss and repair costs for machine operators and causes frustration for customers. Card payment can eliminate these problems.

Cash Card transactions are quick and simple. They dispense with the need for exact change and coin collection. Using on-line credit and ATM accounts, Smart Card re-valuation may be done electronically making laundry facilities cashless and revenues secure. This makes payments convenient, improves security and increases customer satisfaction. SmartKit® Laundry is part of the SmartKit® modular system of electronic Cash Card payment products. Other devices that share the payment module include vending machine kits and OEM kits for applications such as payphones and newspaper vending. Using SmartKit® products, coin-free pay laundry facilities are now possible. We can quickly implement custom machine interface modules for new applications.

SmartKit® Laundry design offers cost-saving custom configuration. For example, it may be delivered with or without its own display and configured for either networked or stand-alone operation. Networked, the system allows automated data upload and exception log handling. For stand-alone machines, a hand-held reporting device is available. We can custom craft a card supply system to meet the needs of the vendor and the customer.

SmartKit® Laundry supports installation in existing and future OEM laundry devices, including the Maytag G2, Maytag G1 and other coin-drop appliances. For modern machines such as the Maytag G2, a full serial interface with the controller is supported. For older coin-drop type machines the standard pulsed interface is used. SmartKit® Laundry design is easily installed in the field or on the factory floor.

SmartKit® for Newspaper Vending

SmartKit® for Newspaper Vending is designed to increase access to newspapers by allowing consumers to buy newspapers using Cash Cards.

Newspaper vending boxes of varied design use the SmartKit® for Newspaper Vending system and are in use around the world. We can develop a solution to the specific requirements of most publishers or equipment manufacturers. Our products for the newspaper industry offer card acceptance with a battery powered device in a harsh environment and provide several years of service from a single battery.

QICash™

QICash is a proprietary smart card purse offered by us for deployment in government and business applications. The product is scalable to meet a range of security features and system size requirements. As the supplier of both the card payment system itself and the supporting system hardware, we believe we are uniquely positioned to provide solutions tailored to the needs of our clients.

QI Value™

QI Value is a system consisting of a range of products for loading value to smart cards. We offer self-serve cash to card load stations, and countertop value load terminals are offered. QI Value products are primarily used in government and industry applications. For example, the City of San Diego has installed QI Value terminals to enable convenience store operators to load value to Cash Cards used in parking meters throughout the city.

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QI SmartVend™

QI SmartVend is the market name we apply to a range of turnkey financial and device control systems. The system will typically include our stored value cards, QI Value reload terminals and our SmartKit® payment terminals communicating with or directly controlling self-serve devices for delivery of products or services.

A good example of the concept is our Ranch Water Control system installed in Fort Collins, Colorado. It consists of a self-serve card sale and reload station, a water delivery control station and our stored value cards. The devices are packaged in secure, climate-controlled cabinets for unattended outdoor operation in all weathers. It is a complete turnkey solution that automates the processes of revenue collection, product delivery and micropayment processing at time of delivery.

QI SmartVend systems can be developed for essentially any form of self-serve device. Examples of systems in development or under consideration include revenue and control systems for pay showers for campgrounds, gaming machines in various configurations, amusement machines and exercise equipment. Cash Card technology is evolving quickly, and we are committed to keeping our products current through ongoing research and development, planning and product flexibility.

Our Marketing Strategy

Historically, our marketing strategy has consisted of two major initiatives:

· develop close relationships with the card associations and with their member financial institutions; and

· establish strategic partnerships with companies and organizations that can benefit from our technology in proprietary applications or could use the same core technology in parallel industry segments.

Our strategy was based on a belief that open Cash Card schemes, sponsored by financial institutions, would be developed over a few years and would then deploy rapidly in commercial applications.

Our strategy was to use the relationships with the card associations to achieve credibility and market share, which would allow us to develop strategic partnerships to meet product demand and respond to the demand for commercial deployment.

We established good relationships with Visa, Mondex/MasterCard and other major financial institutions. We participated in several significant North American deployment projects for the VisaCash and Mondex/MasterCard card systems. Although we believe our strategy of establishing strong relationships with the banking community was very successful, banks have not yet proceeded to commercial deployment of Cash Card products in North America, and we have concentrated our recent marketing efforts on proprietary systems.

We believe that our relationships with the financial institutions and our successes in their pilot programs have helped us to establish a reputation for competence and technical excellence. Our systems, designed and certified to meet the demanding requirements of the bank-issued card schemes, are also fully able to support the simpler card schemes typically used in private industry deployments. Our marketing strategy is to promote our products and capabilities by:

· marketing our products to companies, institutions and organizations issuing Cash Cards; and

· offering QICash turnkey solutions to clients looking for the tools to implement closed electronic cash systems.

To date, our marketing efforts have been directed predominantly to the parking industry and the university campus industry. In the campus market, our products are used with card schemes deployed by Touch Technologies and by EFM (Enterprise Funds Management). These installations include our SmartKit® terminals installed in vending, parking, laundry and microfiche machines, in photocopiers and in print server controllers. They also typically include QI Value self-serve card reload machines.

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In the parking industry, we have developed SmartKit products to meet specific requirements of parking equipment OEMs. Our history of supporting multiple card schemes has allowed us to provide flexible solutions so our customers can meet the changing needs of their business and government clients. For these applications, we have developed hybrid versions of the SmartKit product, supporting both smart cards and magnetic strip credit cards. We believe the parking industry is an excellent example of an application where chip cards are being deployed in North America today because they are the most cost-effective solution, particularly for municipal parking operations.

Stored value card systems have historically been very costly to deploy. We believe that our experience and expertise with a wide range of other card systems allows us to offer complete turnkey solutions tailored specifically to the needs of potential clients at lower costs than competing systems.

Our systems can also be used as a secure ID badge, with or without the stored value purse. We continue to seek new opportunities to use our card technology for applications other than stored value electronic cash.

Our marketing strategy for fiscal 2006 can be summarized as follows:

· maintain and renew relationships with the card associations and financial industry;

· continue to develop strategic relationships with other card-issuing entities on a global basis;

· continue to seek new clients and new industries for new applications of Cash Card technology with complete turnkey systems; and

· continue to seek new clients and new industries for new applications of other chip card technologies.

In the past we have attended and/or exhibited at trade shows in the smart card, computer technology, banking, parking, vending and laundry industries. In the coming year we plan to expand our trade show involvement to include the gaming industry.

Our Product Deployment

Our core products were extensively deployed, tested and proven in the various pilots and programs with VisaCash and Mondex/MasterCard throughout North America and in some programs on other continents. In the past three years, product deployments have been predominantly to university campus and parking applications.

Our strategy is to continue to design and document our products for high volume manufacturing and third-party contract assembly in preparation for the time when the market for the products matures to justify these steps.

In the interim, we are using third-party contractors for circuit board manufacture and assembly but perform all the steps of final assembly and test of our products in our own plant.

We have made substantial investments developing relationships with financial institutions and preparing products for markets created by their deployments of Cash Card products. Although we continue to believe that this market will develop, we cannot predict when banks will proceed with deployment. In the interim, we must focus our energies and strategies on proprietary systems and turnkey solutions for existing applications and new markets.

Proprietary System Platform Strategy

Examples of proprietary systems include laundry systems, newspaper vending systems, parking systems, university campus systems (for copiers, vending machines, printers, libraries, etc.), telephone card systems, tobacco dispensing systems, bulk water dispensing systems and other systems that accept smart card payments from cards issued by the organization. We have installed or have arrangements to install our products in a variety of proprietary system applications, including:

· SmartCentric - university campus solutions

· HID Corporation - supplement to their access control solutions providing contactless vending applications

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· Telus Communications Ltd. - Prison and university campus solutions in Canada

· City of Fort Collins, Colorado - Ranch water systems

· Cale Systems Inc. - Parking solutions in Canada, the United States and Sweden

· Rothman’s Benson & Hedges - Tobacco programs in Canada

· Aurora Bar Code - Bulk water systems in Canada

· CardLogix - Parking systems in the United States

· Touch Technology (TTI ) - Campus and mass transit solutions in Canada and the United States

· Pepsi-Cola Canada - Vending and university campus systems in Canada

· Pepsi - Venezuela - Vending and university campus systems in Venezuela

· Coffee Solutions - Vending and university campus systems in Venezuela

· USA Today - Vending and university campus systems in the United States

· Coca Cola - Vending and university campus systems in Canada, the United States, Norway and England

· Jayd, LLC - Pay and display parking, and revalue stations utilized in the United States

· EFM - Smart business solutions to colleges and educational institutions in the United States

· Lexis Parking Systems - Metered parking solutions in Canada and the United States

To date, we have installed over 3,500 QI Cash Card payment terminals in proprietary system applications in Canada, the United States, Venezuela, Norway and England.

The Cash Card Industry

Cash Card or “smart card” technology was developed in 1974. In 1992 and 1993, France became the first country to roll out a national banking system using smart cards. By the beginning of 1993, all of the 21 million banking cards issued in France were smart cards. In 1994, France Telecom reached an agreement allowing 22 million Carte Bancaires cardholders access to the 120,000 French chip-reading public telephones. (Source: The Smart Card 1998, Jones and Mearns). Following the successful introduction of smart cards in France, other countries began deploying smart cards for a number of applications in industries ranging from banking to telecommunications, from healthcare to pay television. Frost & Sullivan estimates that approximately 592 million smart cards were shipped in Europe in 1997. In recent years, Asia has begun to deploy smart card technology in several industries.

Businesses in North America have been slower to adopt smart card technology because of the wide usage and existing infrastructure of magnetic stripe technology, the cost of deploying new technology and the lack of industry-wide standards for smart card operating systems. However, we believe that smart card technology is likely to achieve greater adoption in North America for several reasons, including:

· The cost of producing smart card products, including microchips, cards, readers, writers and terminals, is declining continuously;

· Smart card technology offers much more functionality and flexibility than the magnetic stripe credit/ debit card technologies that are currently popular in North America because:

o magnetic stripe cards are simply ID badges with little or no security

o smart cards store hundreds or thousands of times more information;

o smart cards are more reliable;

o smart cards are more secure;

o smart cards are much more difficult or impossible to copy;

o smart cards can be used for a wide variety of applications (payment methods, identification, security, authorized access, etc.);

o smart cards can provide advanced security features including data processing and encryption; these features are simply not possible on magnetic stripe cards;

o smart cards allow secure off-line transactions;

· Operating system advances, such as JavaCard and Multos, have allowed multiple applications to be co-resident in the cards;

· New technology such as the Internet and electronic commerce have increased the need for the added security and versatility smart cards provide; and

· Several industry standards have been recently developed by such organizations as Europay, MasterCard and Visa.

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Self-Serve Point-of-Sale Applications

We believe that the world vending machine and point-of-sale payment industry is a major market opportunity for Cash Card technology. There are over seven million vending machines in the United States with annual sales in excess of $11 billion. In Europe the market is even larger, with one vending machine for every 120 people. In Japan, the ratio is one vending machine for every 25 people. In the United States alone, there are over seven million vending machines, including over 1.7 million canned cold drink machines. The vending market is growing about 35-40% per year. Vending Times says that the vending industry is presently a $45-$50 per year billion business.

Our SmartKit® technology applications permit conditional access, security, flexible multi-card payment and data storage to be performed in a low-cost, easy-to-use, secure manner. Conditional access and security applications include those that restrict the use of products and services. Payment system applications include the use of smart cards in connection with credit and debit card systems, as well as coin and currency replacement, couponing and electronic commerce. Data storage applications can use the data storage capacity of smart cards to provide the secure storage of data in a durable, portable form.

SmartKit® can be installed in most of the vending machines in use in the United States and around the world, as well as in new models being manufactured. Once installed in vending machines, we believe that SmartKit® offers significant advantages, including reduced cash handling, reduced costs related to on-line verification, automated credit to merchant accounts, increased data gathering and accounting flexibility, reduced losses from theft and equipment damage from attempted theft. Cash Card payment also allows for pricing flexibility and eliminates the need and expense for bill validators and handling change. Smart cards provide an easy, flexible and cost-effective way to achieve the key benefits of highly secure, authenticated transactions.

Seasonality of Business

Our business is not impacted by seasonality factors.

Principal Supplier and Sources and Availability of Raw Materials

We manufacture our products from components provided by third parties that are readily available, sourced in Canada and the United States and subject to standard purchase and credit terms in the industry. We believe that alternative supply sources for the components we use are available with relative ease of effort and without compromising our manufacturing capabilities.

Marketing Channels

We market our products in a variety of ways. Our primary focus is using direct sales conducted primarily by our Vice President of Sales and Business Development. We do receive leads as a direct result of our web pages on the internet. These leads are handled directly by an employee of the Company. We also use distributors and integrators to sell into specialized markets, such as municipal water departments or colleges and universities.

Recently, we have entered into several strategic partnerships with key companies to offer our products as part of their overall solution offering. Although our product may play a small part of the overall solution being sold, we believe that the volumes generated fro these strategic relationships will be significant.

We do not offer installment sales. Typically, we try to receive a deposit with each order.

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Competition

Competition in the technology markets in which we operate is intense and is characterized by rapidly changing technologies, evolving industry standards, frequent new product introductions and rapid changes in customer requirements. To be competitive, we must continue to develop and introduce, on a timely and cost-effective basis, new products and product features that keep pace with technological developments and emerging industry standards and address the increasingly sophisticated needs of our customers (see “Research and Development” below). The principal competitive factors affecting the market for our products are the product’s technical characteristics, price, install ability, multi-card scheme flexibility, strategic relationships, customer service, reputation in the industry and brand loyalty. In order to compete, we will be required to continue to respond promptly and effectively to the challenges of technological changes and our competitors’ innovations.

Several of our competitors have greater financial, technical and other resources than we do. SCM Microsystems, Gemplus, Utimaco, Towitoko Electronics, Philips Electronics, Activcard, Coincard, Smartmove and PubliCARD Cash Card systems compete directly with our SmartKit® card readers. Our SmartKit® laundry Cash Card products also compete with Danyl, ESD and Set-O-Matic commercial laundry Cash Card products. Several of our competitors develop, market and sell their own proprietary Cash Cards and Cash Card systems, which may have features that we cannot offer. Smartmove has developed a Cash Card reader that, like ours, supports multiple Cash Card platforms. In the future, OEMs, peripheral equipment manufacturers and software development companies may develop systems that compete directly with our SmartKit® and QLink® products.

Many of our current and potential competitors have longer operating histories and significantly greater financial, technical, sales, customer support, marketing and other resources, as well as greater name recognition and a larger installed base of products and technologies than we do. In addition, as the Cash Card market develops, a number of companies with significantly greater resources than we have could attempt to increase their presence in the market by acquiring or forming strategic alliances with our competitors, resulting in increased competition. We cannot assure you that we will successfully compete against established competitors or that our SmartKit® system will gain market acceptance.

4.C Organizational structure

We have one active subsidiary, QI Systems International Inc., incorporated under the laws of the State of Texas.

4.D Property, plants and equipment

We have no material tangible fixed assets, property, plants or equipment.

Item 5 Operating and Financial Review and Prospects

Critical Accounting Policies

Our significant accounting policies are outlined within Note 1 and Note 2 to our consolidated financial statements contained elsewhere in this annual report. Our consolidated financial statements have been prepared with accounting principles generally accepted in the Canada. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses and the related disclosures of contingent assets and liabilities. We base our estimates on historical experience and on various assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

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The following items require the most significant judgment and involve complex estimation:

Going Concern

Our consolidated financial statements have been prepared with accounting principles generally accepted in the Canada applicable to a going concern. The use of such principles may not be appropriate because as at June 30, 2006, there was substantial doubt that we would be able to continue as a going concern because of our significant losses, working capital deficit and accumulated deficit. We based our decision to apply going concern principles, in part, on our management’s estimates that we would be able to raise capital and improve cash flows from operations to meet our capital requirements as they became due. Our financial statements do not reflect adjustments to the carrying value of assets and liabilities, the reported expenses, balance sheet classifications that would be necessary if the going concern assumption were not applied.

Revenue Recognition Policy

We recognize revenues when all of the following criteria have been met:

· persuasive evidence for an arrangement exists;

· delivery has occurred;

· the fee is fixed or determinable; and

· collectibility is reasonably assured.

Generally, these criteria are met when we deliver our products to our customer. Installation revenues are generally recorded upon completion of services.

Foreign Currency Transactions

The U.S. dollar is our reporting currency and the Canadian dollar is our functional currency. We conduct our operations primarily in Canada and maintain our bank accounts in Canadian and US dollars. Sales are predominately based in US Dollars but can also be issued in Canadian Dollars. Canadian sales, if invoiced in Canadian Dollars, are converted using the daily exchange rate. Current exchange rates are used to translate monetary assets and liabilities, and historical exchange rates are used for non-monetary assets and liabilities. We compute a foreign exchange gain or loss at each balance sheet date on all recorded foreign transactions that have not been settled. The difference between the exchange rate that could have been used to settle the transaction at the date it occurred (the invoice date), and the exchange rate at the balance sheet date, is the unrealized gain or loss recognized in current net income.

Accounts Receivable

We periodically review the collectibility of our accounts receivable balances. Where significant doubt exists with regard to the collection of a certain receivable balance, an allowance and charge to the income statement is recorded. Allowances for doubtful accounts are based on estimates of management. At June 30, 2006, we had $2,061 established as an allowance for doubtful accounts. If future events indicate collection issues, we may be required to record additional allowances for doubtful accounts. 

Warranties

We provide a limited 12-month warranty on our products. Given past experience, warranty expense (less than 1%) has not been a significant cost of sales, and we do not anticipate it to be in the future.

Stock-based Compensation Plans

The Company has a stock-based compensation plan, which is described in Note 7. Effective for the year ending June 30, 2004, the Company adopted, on a prospective basis, the fair value method of accounting for stock options granted to employees, consultants and directors. Compensation expense is recognized over the options’ vesting period.

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The Company recognizes an expense for the fair value of options granted. Upon exercise of stock options, consideration paid by the option holder, together with the amount previously recognized in contributed surplus, is recorded as an increase to share capital. The Company uses the Black-Scholes option pricing model to value stock options granted. The Black-Scholes model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. The model requires management to make estimates, which are subjective and may not be representative of actual results. Changes in assumptions can materially affect estimates of fair values.

Warrants

Consideration received on the exercise of warrants or purchase of stock is credited to share capital. Detachable warrants are allocated a portion of the proceeds from debt or share issues based on fair values and included in additional paid-in capital warrants until the warrants are exercised or expired.

5.A Operating results

Years Ended June 30, 2006 Compared to Years Ended June 30, 2005 and 2004

Revenues during the twelve months ended June 30, 2006 were $406,168, derived from the sale of smart card systems and ancillary products to our client base, particularly within the parking industry. Sales of our products increased 4% above sales achieved in fiscal 2005 and 6% above sales achieved in 2004. We anticipate that our revenue will continue to be derived from sales to a few customers in fiscal 2007. In fiscal 2006, 63% of our sales were made to a single customer, compared to 2005 and 2004, when 60% and 63%, respectively, were attributable to a single customer. We anticipate that revenue will increase during fiscal 2007 as a result of new orders for our new QiWave™ product and as we continue our marketing efforts to existing customers and plan to pursue new customers and applications for our products.

Cost of sales during the 2006 period was $239,933, which represents 59% of sales, up from total cost of sales of $216,652, or 56% of sales, in fiscal 2005 and $75,320, or 20% of sales, in fiscal 2004. The increase in 2006 compared to 2005 and 2004 comes mainly from thorough inventory adjustments to account for obsolescence. Gross Margins in fiscal 2006 were $166,235, or 41% of sales in 2006, compared to 44% in 2005 and 80% in 2004.

Expenses are categorized as administration, development costs, investor relations, marketing, stock-based compensation, corporate finance, professional fees, bad debt, financing costs and interest and amortization.

Administration expenses were $848,958 in 2006, compared to $406,154 in 2005 and $419,060 in 2004. These 2006 expenses include the following three major expenses: salaries and benefits paid to administrative employees and managers of $491,405, foreign exchange costs of $107,792 and $73,743 of rent expense. The primary increases in 2006 over 2005 and 2004 are due to the hiring of a full time CFO/COO which was not in place in 2005, increased foreign exchange expenses due to increased activity between the US and Canada and rent expense attributed to the new headquarters located in Texas. Other expenses were slightly higher in 2006, compared to 2005, reflecting the increased business activity in fiscal 2006, compared to the fiscal years ended June 30, 2005 and 2004, respectively. We anticipate that most administrative expenses in fiscal 2007 will remain comparable with 2006 expenses.

During fiscal 2006, investor relations costs of $502,964 were incurred in association with services to support the Company’s stock compared to $42,313 and 240,606 in 2005 and 2004, respectively. The majority of this expense relates to an investors relations agreement entered into on May 25, 2005. This agreement required us to irrevocably issue 3,000,000 of our common shares, having a value of $435,000, to the investor relations firm. Relating to this agreement, $404,344 of expense was taken in fiscal 2006. At the end of fiscal 2006, we issued 1,030,000 common shares, valued at $246,000 for investor relations services to two unrelated arms-length investor relations firms. The value of the shares was recorded as a prepaid expense for the investors relations services, which we are recognizing over the term of the related contracts. The contracts expire on various dates through December 22, 2006. At June 30, 2006, we had expensed $19,110 as investor relations fees in connection with these contracts. Cash payments for services and support for our stock positions accounted for the remaining expense. Investor relations costs decreased $198,293 from fiscal 2004 to 2005 because we decreased our focus on investor relations in 2005. We expect investment relations expenses to be lower in fiscal 2007; however, we still intend to continue to support investor relations initiatives.

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Development costs in fiscal 2006 were $174,439, the most significant portion of which is for salaries and benefits of $169,279 paid to employees involved in the development of our products. Development costs in 2005 were $269,997, compared to $284,190 in 2004, of which the most significant category of expense was for salaries and benefits paid to employees involved in the development of our products, which totalled $173,989. Development costs may increase in fiscal 2007 to accommodate our introduction of QiWave™ contactless readers and reload stations and the development of credit card acceptance technology in our devices.

Professional fees were $253,123 in fiscal 2006, compared to $65,102 in 2005 and $59,500 in 2004, which include audit and legal fees paid in connection with our regulatory obligations as a reporting issuer in United States, British Columbia and Alberta, trading in the OTCBB. However, the most significant expense in 2006 related to our change in domicile from British Columbia, Canada to the State of Delaware, United States. The expenses associated with the change in domicile were approximately $200,000. The Company expects to see a significant reduction in professional fees in 2007 now that the change of domicile has been completed, effective July 1, 2006.

5.B Liquidity and capital resources

Our ability to continue as a going concern is doubtful when our working capital deficit and our expectation that we may incur losses in future years are considered. If we are unable to successfully increase our revenues from our operations or to raise sufficient capital to fund our plan of operation, we may be unable to continue as a going concern and the value of our common shares would be materially adversely affected.

We are not committed to further capital expenditures for the purchase of property, plant and equipment.

As of June 30, 2006, we had options to purchase 1,050,000 shares of common stock, with exercise prices ranging from $0.15 to $0.50, and warrants to purchase 14,225,803 shares of common stock, with exercise prices ranging from $0.25 to $0.40.

During the year ended June 30, 2006, we issued 966,665 common shares pursuant to the exercise of share purchase warrants at $0.20 per share for total proceeds of $193,333. In addition, one of our directors, who is also an officer, exercised 66,667 warrants at $0.20 and 145,454 warrants at $0.30 for a total of $56,970, which was applied to past due amounts owed to the director.

Also, during fiscal 2006, we issued 32,250 common shares pursuant to employee and director stock options at $0.15 for total proceeds of $4,838.

5.C Research and development, patents and licenses, etc.

During the last several years, we have spent approximately $1.2 million on research and development efforts. We currently employ six employees who develop our technology. Our current research and development efforts focus on designing QiWave™ Cash Card systems that are compatible with multiple Cash Card platforms. We currently have projects involving security, identification, gaming and data transfer application under development.

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We are currently undertaking the following research and development projects:

PROJECT	DESCRIPTION	STATUS
QiWave™	Cash card readers and reload machines employing contactless card technologies.	Ongoing
Hybrid Credit Card	Software development for QiWave™ and SmartKit® Hybrid Cash reader that will permit the use and storage of electronic cash cards in machines which were previously coin only..	Ongoing
Data Base Management/ Third Party Application Tools	Improve data base management functionality of our QiWave™ and SmartKit® readers and QLink® system	Ongoing
Functionality Improvement	Improve functionality and compatibility of our QI Wave® and SmartKit® Cash Card systems with OEM and other platforms	Ongoing

We closely monitor advancements in Cash Card technologies and undertake research and development efforts necessary to maintain the multi-platform compatibility of our QiWave™ and SmartKit® Cash Card systems.

5.D Trend information

Smart Cards are plastic cards containing computer chips. Advances in technology allow these cards to become smaller, faster, cheaper, more reliable and more secure with each generation.

Recent advances in contactless technologies have created a unique opportunity for us to develop and deploy contactless smart card reader and reload machines to serve a variety of unattended point of sales machines. Our new QiWave™ technology will be targeted in the campus environments, multi-unit housing and other vending applications.

Financial institutions have delayed the transition from magnetic stripe cards to smart cards until they can justify the cost of smart card deployment for stored value systems. However, fraud associated with bank credit and debit cards continues to increase and the banking communities in most countries outside North America have deployed or are actively planning to deploy smart cards to combat the problem. Banks in Canada have now established target dates of 2009-2010 for full deployment of smart cards and some US banks have begun deployment with 2010 the established target for full deployment.

Our initial business strategy was to position our technology and systems to the banking industry. However, the long delays in deployment by the banking industry and our success in marketing proprietary systems have led to our focus on the proprietary systems market. We believe that bank industry deployment of smart card systems is still a few years away, and the incremental cost of adding Cash Card functionality to our Cash Card systems will be possible at reasonable costs. We cannot anticipate the overall effect that the scheduled roll out of cash cards by financial institutions will have on the overall demand for our products. We are continuing to pursue alternative marketing channels and systems to commercialize and market our products.

We believe that the declining costs of all elements of cash card systems will continue to create new market opportunities for us both with third party cards and also with our QI Cash proprietary cards and turnkey systems.

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5.E Off-balance sheet arrangements

We had no off-balance sheet arrangements that have or are likely to have a current or future effect on our financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.

5.F Tabular disclosure of contractual obligations

The following table lists, as of June 30, 2006, information with respect to our known contractual obligations.

	Payments due by period
Contractual Obligations	Total	Less than 1 year	1- 3 years	3 - 5 years	More than 5 years
Long-Term Debt Obligations	Nil	Nil	Nil	Nil	Nil
Capital (Finance) Lease Obligations	Nil	Nil	Nil	Nil	Nil
Operating Lease Obligations (1)	$127,030	$85,000	$42,030	Nil	Nil
Purchase Obligations	Nil	Nil	Nil	Nil	Nil
Other Long-Term Liabilities Reflected on our Balance Sheet under Canadian GAAP	Nil	Nil	Nil	Nil	Nil
Total	$127,030	$85,000	$42,030	Nil	Nil

(1) Operating lease obligations relate exclusively to the lease of office space.

5.G Safe Harbor

Certain statements contained in the foregoing Results of Operations and elsewhere in this Form 20-F constitute forward-looking statements. Such forward-looking statements involve a number of known and unknown risks, uncertainties and other factors which may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date the statements were made and readers are advised to consider such forward-looking statements in light of the risks set forth below.

Risk factors that could affect our future results are described under “Item 3.D, Key Information— Risk Factors” above.

Item 6 Directors, Senior Management and Employees

6.A Directors and senior management

The following table sets forth the name, position, age and municipality of residence of directors and senior management as of November 30, 2006:

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Name and Municipality of Residence	Business Activities Performed Outside the Company during the past five years	Position	Age
Steven R. Garman	President and Chief Executive Officer, QI Systems Inc. since June 30, 2003; Management Consultant with True Horizon Marketing Inc. since 2002; President and Chief Executive Officer, FS Holdings from 1998 to 2002.	President, Chief Executive Officer and Director	59
Robert I. McLean, Jr.	Chief Financial Officer and Chief Operating Officer since August 22, 2005; Executive Vice President of Business Development and Global Account Management for Teleplan International of the Netherlands from 2004 to 2005.	Chief Financial Officer and Chief Operating Officer and Director	49
Richard H. Murray	Sr. VP and GM Canadian Operations since September 2005; VP of Business Development July 2003 - September 2005; Director of Business Development 2001 - July 2003.	Sr. Vice President, General Manager of Canadian Operations and Director	59
Billy Gene Parker, Jr.	Owner and President, Mobil Contractor Inc., from 1985 to Present.	Director	51
William J. Reid	Software Development Project Manager for Edoc Systems Group Ltd. since 2002.	Director	34
Matthew G. Yugovich	Commercial Real Estate Developer.	Director	51
Alan D. Graves	President of Gemcore Communications Inc. since 1999; Senior Technical Consultant to QI since 1995.	Director	45

Members of our Board of Directors are elected by our shareholders. Unless the director's office is earlier vacated, each director elected will hold office until the conclusion of our next annual general meeting, or if no director is then elected, until a successor is elected.

Our Board of Directors meets periodically to review significant developments affecting us and to act on matters requiring Board approval. Although our Board of Directors delegates many matters to others, it reserves certain powers and functions to itself. The only standing committee of our Board of Directors is an Audit Committee. The Audit Committee of our Board of Directors currently consists of Matthew G. Yugovich, Alan D. Graves, William J. Reid and Steven R. Garman. See, “Item 6.C Board Practices,” below. This committee is directed to review the scope, cost and results of the independent audit of our books and records, the results of the annual audit with management and the internal auditors and the adequacy of our accounting, financial and operating controls; to recommend annually to our Board of Directors the selection of the independent auditors; to consider proposals made by our independent auditors; and to report to our Board of Directors, when so requested, on any accounting or financial matters.

None of our directors or executive officers is a party to any arrangement or understanding with any other person pursuant to which said individual was elected as a director or officer. None of our directors or executive officers has any family relationship with any of our other officers or directors.

The following sets out additional biographical information for each of the Issuer’s directors and officers:

Steven R. Garman, President, Chief Executive Officer and Director. Mr. Garman has over 35 years of business experience in the international corporate environment and a diversified management background including senior executive positions in varied industries such as health care services, high-tech medical devices, computer products, OEM manufacturing and sports and recreation. He has held multi-million dollar P & L responsibility with Olympus America, Inc., an international market leader in the camera and medical products industry (1979 to 1998); served as CEO and President of Fury Sports Holdings, Inc., a pre-IPO start-up engaged in sports facility management and sport skills training business (1998 to 2002); served as Managing General Partner for ProSource Holdings, Inc., a private investment group (1994 to 1996); served as a senior executive consultant with Drake Beam Morin (2002 to 2003); and been named a member of the boards of directors of multiple start-up corporations, including National Endoscope Systems, Inc., Advanced Compression Technologies, Inc., ProSource Industries, Inc., Aliment Plus, Inc., Oswego Software, Inc., Fury Sports Holdings, Inc., and True Horizon Marketing, Inc. Mr. Garman received his Bachelor of Science Degree in Business Management and Administration from Indiana University’s Kelley School of Business in 1969. He has held senior leadership positions with industry leader Olympus America, Inc. (Olympus Corporation, Tokyo, Japan), spending 20 years in Olympus’ Medical Products Division, where he managed pioneering projects from concept through full-scale national deployment. Mr. Garman has international experience working with corporate manufacturing and sales partners in the United States, Western and Central Europe, Great Britain, Japan, Canada and Australia. Prior to his service with Olympus, Mr. Garman worked for Johnson & Johnson and ARCO Medical Products (Atlantic Richfield Corporation). Mr. Garman has served as a director and as our President and Chief Executive Officer since June 20, 2003.

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Robert I. McLean, Jr, Chief Financial Officer and Chief Operating Officer. Mr. McLean was formerly Executive Vice President of Business Development and Global Account Management for Teleplan International of the Netherlands, a $300M publicly traded technology company. Prior to his appointment as Vice President of Teleplan, Mr. McLean served as Treasurer of Teleplan’s American operations. Preceding this assignment, Mr. McLean held the position of Senior Vice President of Finance and Chief Financial Officer with PC Service Source of Dallas, Texas, a large publicly traded independent computer parts distributor. Earlier in Mr. McLean´s career he was Vice President - Planning and Business Development of Computer City, Inc., a $2B subsidiary of Radio Shack, Inc., and Director of Planning and Analysis for Compucom Systems, Inc. Mr. McLean has also served as an auditor for PriceWaterhouseCoopers. Mr. McLean has a Bachelor of Science - Accounting degree from Drexel University and a Masters of Business Administration and Finance degree from the University of Miami.

Richard Murray, Senior Vice President and General Manager of Canadian Operation. Mr. Murray has devoted his career to applications of computer technology in engineering and business. Since 1984, Mr. Murray has focused on developing and marketing innovative products to integrate card payment in self-serve equipment.

Matthew G. Yugovich, Director. Mr. Yugovich has over 30 years of business management experience. During the past six years, Mr. Yugovich has served as the president of Great Western Adventure, Inc., a company engaged in the business of commercial real estate development.

Billy Gene Parker, Jr., Director.Mr. Parker has been in the general contracting business for 25 years. For the past 18 years, he has been President of Mobill Contractor Inc., a general contractor in the Houston, Texas, area.

William J. Reid, Director. Mr. Reid graduated from the University of British Columbia in 2000 with a Bachelor of Science degree in Forestry. After accumulating eight years of experience in forestry research (pre- and post-degree) with the British Columbia Ministry of Forests Research Branch, he completed the Application and Management of Information Technology program at the University of Victoria. Upon his completion of this program, Edoc Systems Group Ltd. hired him as a software developer in 2002. His current duties have expanded to Project Manager for a variety of software application projects, including a full-scale enterprise application spanning almost two years of development time, a cost tracking program that integrates with off-the-shelf accounting software and a custom data entry program designed on the .NET compact framework, which runs on a Personal Digital Assistant.

Alan D. Graves, Director. Mr. Graves graduated from the University of British Columbia in 1983 with a BASc in Electrical Engineering. He has gained extensive technical experience working as a hardware and software design engineer for several companies over the last 20 years. His experience has covered a full range of product development in the areas of industrial process control, digital audio electronics, 1.8Ghz wireless and cable repeaters for CDMA cell phone communications and, of course, vending and Smartcard payment systems. Since 1997 he has worked as an independent engineering consultant and manager for several companies, including us, Technical Solutions, a company engaged in manufacturing and development, and Velocity Software, a company engaged in hardware and software development and consulting services. For the last four years he has held the position of President of Gemcore Communications, Inc., a company that specializes in providing technical direction to other companies involved in developing products using the latest technologies.

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None of our directors and/or executive officers has been the subject of any order, judgment or decree of any governmental agency or administrator or of any court of competent jurisdiction, revoking or suspending for cause any license, permit or other authority of such person or of any business entity of which he is a director, manager and/or executive officer, to engage in the securities business or in the sale of a particular security or temporarily or permanently restraining or enjoining any such person or any business entity of which he is an officer, manager or director from engaging in or continuing any conduct, practice or employment in connection with the purchase or sale of securities, or convicting such person of any felony or misdemeanor involving a security or any aspect of the securities business or of theft or of any felony.

6.B Compensation

We do not compensate our directors for their services as directors in cash; however, we do grant stock options to directors, executive officers and employees, as more fully set forth below. Directors are entitled to reimbursement for reasonable travel and other out-of-pocket expenses incurred in connection with attendance at meetings of our Board of Directors. Our Board of Directors makes separate remuneration to any director undertaking services on our behalf other than services ordinarily required of a director. Other than as indicated below, no director received any compensation for his services as a director, including any committee participation or special assignments.

Executive compensation

During the fiscal year ended June 30, 2006, we had two named executive officers, namely Steven R. Garman, our President and Chief Executive Officer and Robert I. McLean Jr, our Chief Financial Officer.

The following table sets forth, for the periods indicated, the compensation of the named executive officers:

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SUMMARY COMPENSATION TABLE

Name and Principal Position	Year (1)	Annual Compensation			Long Term Compensation			All Other Compen-sation ($)
					Awards		Payouts
		Salary (US$)	Bonus (US$)	Other Annual Compen-sation ($)	Securities under Options/ SARs(2) Granted	Restricted Shares or Restricted Share Units ($)	LTIP Payouts ($)
Steven R. Garman	2006	210,000	26,000	Nil	Nil	Nil	Nil	Nil
President and	2005	157,000 (3)	Nil	Nil	168,000	Nil	Nil	Nil
CEO	2004	120,000 (3)	36,000 (4)	Nil	Nil	Nil	Nil	Nil
Steven R. Crowell	2006	Nil	Nil	Nil	Nil	Nil	Nil	Nil
former	2005	5,000	Nil	Nil	150,000	Nil	Nil	Nil
CFO (5)	2004	Nil	Nil	Nil	Nil	Nil	Nil	Nil
Robert I.	2006	130,532	Nil	Nil	Nil	60,750 (6)	Nil	Nil
McLean Jr.	2005	Nil	Nil	Nil	Nil	Nil	Nil	Nil
CFO/COO	2004	Nil	Nil	Nil	Nil	Nil	Nil	Nil

(1) Fiscal year ended June 30.

(2) Stock appreciation rights. We have not granted any SARs.

(3) During the years ended June 30, 2005 and 2004, US$141,000 and US$64,010, respectively, of the annual salary due to Mr. Garman was not paid by us and was recorded as a current liability due to Mr. Garman.

(4) Accrued in the fiscal year ended June 30, 2004, but unpaid as of June 30, 2005.

(5) Mr. Crowell was hired in November 2004 as our Chief Financial Officer. On December 17, 2004 he was appointed to the Board of Directors. On April 21, 2005, Mr. Crowell resigned as a director and resigned as Chief Financial Officer on July 1, 2005.

(6) Mr. McLean received 150,000 shares of restricted common stock of the Company as an incentive to join the Company.

Stock Options and Stock Appreciation Rights

During the year ended June 30, 2006, no stock options were granted.

During the year ended June 30, 2005, stock options for 368,000 shares of common stock were granted to the named executive officers. All the options were granted on December 31, 2004 and will expire December 31, 2009. The exercise price on the options is US$0.15. The options vest ratably over the ensuing four calendar quarters.

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No share options were granted to or repriced on behalf of the named executive officers during the financial year ended June 30, 2004. No share options were exercised by the named executive officers during the financial year ended June 30, 2004.

The following table shows, as to the individuals named in the Summary Compensation Table above, information concerning stock options granted during the twelve months ended June 30, 2006.

Name and named executive officer and Principal Position	Year (1)	Number of Options Issued	Exercise Price	Expiration Date	Vested at June 30, 2006
Steven R. Garman	2006	Nil	Nil	Nil	Nil
President &	2005	168,000	US$0.15	December 31, 2009	168,000
Chief Executive Officer	2004	Nil	Nil	Nil	Nil
Steven R. Crowell	2006	Nil	Nil	Nil	Nil
former	2005	150,000	US$0.15	December 31, 2009	(2)
Chief Financial Officer	2004	Nil	Nil	Nil	Nil
Robert I. McLean Jr.	2006	Nil	Nil	Nil	Nil
Chief Financial Officer/	2005	Nil	Nil	Nil	Nil
Chief Operating Officer	2004	Nil	Nil	Nil	Nil

(1) July 1 to June 30.

(2) Mr. Crowell was hired in November 2004 as our Chief Financial Officer. On December 17, 2004, he was appointed to the Board of Directors. On April 21, 2005, Mr. Crowell resigned as a director and resigned as Chief Financial Officer on July 1, 2005. Accordingly, under the terms of the Stock Option Plan, his 150,000 options became null and void upon his resignations.

Pension Plan

We do not have any pension plan arrangements in place.

Termination of Employment, Change in Responsibilities and Employment Contracts

We entered into a Services Agreement with True Horizon Marketing, Inc., a company controlled by Steven R. Garman, on June 20, 2003, for the provision of professional services, including services as our Chief Executive Officer and President. A fee of $10,000 per month was payable to True Horizon during the year ended June 30, 2004. Subsequent to June 30, 2004, the fee was revised to $15,000 per month for management services and True Horizon also received $1,000 for a monthly allowance towards office expenses. On January 1, 2005, the Services Agreement with True Horizon was terminated, and Mr. Garman became our employee with a monthly salary of $17,500.

On December 21, 2005, we entered into an Employment Agreement with Mr. Garman. Mr. Garman’s monthly salary under the Employment Agreement is $17,500. The base salary will increase by 10% when we attain audited annual revenues of $1,500,000, then by 20% when we attain audited annual revenues of $3,000,000 and finally by 30% when we attain audited annual revenues of $5,000,000. Mr. Garman could also receive bonuses of up to twice his annual salary if specified financing, revenue and profitability targets are achieved.

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In the event that Mr. Garman’s employment is terminated for any reason, other than just cause, following a change in our control, his Employment Agreement stipulates that he will receive two times his annual compensation paid in a lump sum. Under such circumstances, Mr. Garman would also have the right to exercise any options, rights or warrants within 90 days of his termination.

Further, if at the time of his termination, any amount is due and payable to him for services prior to April 1, 2005, Mr. Garman shall have the right to convert such amount into shares of our common stock at a rate of $0.12 per share.

On March 1, 2006, we entered into an Employment Agreement with Mr. McLean. Mr. McLean’s monthly salary under the Employment Agreement is $13,000. The base salary will increase by 10% when we attain audited annual revenues of $1,500,000, then by an additional 10% when we attain audited annual revenues of $5,000,000 and finally by an additional 10% when we attain audited annual revenues of $8,000,000. Mr. McLean could also receive annual bonuses of up to one and one-half times his annual salary if specified financing, revenue and profitability targets are achieved.

In the event that Mr. McLean’s employment is terminated for any reason, other than just cause, following a change in our control, his Employment Agreement stipulates that he will receive an amount equal to his annual compensation paid in a lump sum. Under such circumstances, Mr. McLean would also have the right to exercise any options, rights or warrants within 90 days of his termination.

Other than as disclosed above, there are no compensatory plans or arrangements, including payments to be received from us or our subsidiaries, with respect to our named executive officers.

The aggregate amount of compensation paid by us and our subsidiaries during the fiscal year ended June 30, 2006, to all officers and directors, as a group, for services in all capacities was $440,532.

No amounts have been set aside or accrued by us during fiscal 2006 to provide pension, retirement or similar benefits for our directors or executive officers pursuant to any plan provided for or contributed to by us.

Except as set out above and as discussed in “Stock Options and Stock Appreciation Rights,” we have no material bonus or profit sharing plans pursuant to which cash or non-cash compensation is or may be paid to our directors or executive officers.

Stock Options

As of June 30, 2006, there were options to purchase 1,050,000 shares of our common stock outstanding. The names and titles of our directors, executive officers, administrators, supervisors and management to whom outstanding stock options have been granted and the number of Common shares subject to such stock options, as at June 30, 2006, are set forth below.

Name	Number of Shares		Exercise Price Per Share		Expiry Date
Steven R. Garman		168,000	$	0.15		December 31, 2009
Billy Gene Parker Jr.		50,000	$	0.50		December 31, 2007
Billy Gene Parker Jr.		168,000	$	0.15		December 31, 2009
William Reid		33,000	$	0.15		December 31, 2009
Matthew Yugovich		50,000	$	0.50		December 31, 2007
Matthew Yugovich		142,000	$	0.15		December 31, 2009
Alan D. Graves		33,000	$	0.15		December 31, 2009
Alan D. Graves		96,000	$	0.50		December 31, 2007

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6.C Board practices

Set forth below are the names of our directors, their positions, the dates their current terms of office expire and the periods during which such persons have served as director:

Name	Position	Expiration of Term of Office	Period of Service
Steven R. Garman (1)	President, Chief Executive Officer and Director	(2)	Since June 2003
Richard Murray	Sr. Vice President, General Manager of Canadian Operations and Director	(2)	Since October 2005
Billy Gene Parker Jr	Director	(2)	Since November 2001
William J. Reid (1)	Director	(2)	Since June 2003
Matthew Yugovich (1)	Director	(2)	Since October 2002
Alan D. Graves (1)	Director	(2)	Since December 2002
Robert I. McLean Jr.	Chief Financial Officer and Chief Operating Officer and Director	(2)	Since August 2006

(1) Member of the Audit Committee.

(2) Term expires on the date of our next annual stockholders meeting.

There are no director’s service contracts which provide benefits upon the termination of employment.

Audit Committee

Set forth below are the names of the members of our Audit Committee:

· Matthew G. Yugovich

· Alan D. Graves

· Steven R. Garman

· William J. Reid

Our Audit Committee is directed to review the scope, cost and results of the independent audit of our books and records, the results of the annual audit with management and the internal auditors and the adequacy of our accounting, financing and operating controls; to recommend annually to our Board of Directors the selection of the independent auditors; to consider proposals made by our independent auditors; and to report to our Board of Directors, when so requested, on any accounting or financial matters.

Our Audit Committee Charter provides that the Audit Committee has two primary objectives: The first is to advise the board of directors in its oversight responsibilities regarding:

· the quality and integrity of our financial reports and information;

· our compliance with legal and regulatory requirements;

· the effectiveness of our internal controls for finance, accounting, internal audit, ethics and legal and regulatory compliance;

· the performance of our auditing, accounting and financial reporting functions;

· the fairness of related party agreements and arrangements between us and related parties; and

· the independent auditors' performance, qualifications and independence

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The second primary objective of the Audit Committee is to prepare the reports required to be included in the management information circular in accordance with applicable laws or the rules of applicable securities regulatory authorities.

The members of the Audit Committee were not remunerated for their participation in this committee in the fiscal year ended June 30, 2006. We do not anticipate remunerating members of the Audit Committee in the year ending June 30, 2007 by means of director’s fees, although we may grant certain stock option awards to members of the Audit Committee in the current fiscal year and/or in subsequent periods.

6.D Employees

We had the following number of employees at the end of each of the following fiscal years:

June 30, 2006	June 30, 2005	June 30, 2004
9 employees	8 employees	8 employees

We had 6 employees and 2 contractors located in Canada, and 3 employees and no contractors located in the United States at June 30, 2006. Three of our 10 employees and one contractor were involved in management and administrative functions; five employees and one contractor were engaged in research and development; and one employee was engaged in sales and marketing. All employees are full-time employees.Our contractors generally engage in software design, product assembly and prototype manufacturing. They are paid hourly and are called when work is available.

6.E Share ownership

The following table sets forth as of November 30, 2006 information regarding the beneficial ownership of our common stock by each director and each executive officer named in the Summary Compensation Table appearing herein.

	Beneficial Ownership (1)
Name	Number of Shares(2)	Percent of Total
Steven R. Garman (3)(4)(5)	822,832	1.83%
Robert I. McLean Jr.	200,000	*
Richard H. Murray (4)(6)	1,348,800	3.00%
Matthew G. Yugovich (3)(4)(7)(8)	1,040,212	2.32%
Billy Gene Parker, Jr. (4)(9)	573,272	1.18%
William J. Reid (3)(4)(10)	112,400	*
Alan D. Graves (3)(4)(11)	250,081	*

* Less than 1%.

(1) Beneficial ownership is determined in accordance with the rules and regulations of the U.S. Securities and Exchange Commission and generally includes voting or investment power with respect to securities. Options and warrants to purchase shares of common stock, which are currently exercisable or will become exercisable within 60 days of November 30, 2006 are deemed to be beneficially owned by the individual. Similarly, options and warrants to purchase shares of common stock, which are currently exercisable or will become exercisable within 60 days of November 30, 2006, are deemed to be outstanding for purposes of computing the percentage of the shares held by an individual but are not deemed outstanding for purposes of computing the percentage of any other person. Except as indicated otherwise in the footnotes below, and subject to community property laws where applicable, the persons named in the table above have sole voting and investment power with respect to all shares of common stock shown as beneficially owned by them.

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(2) 44,834,629 common shares were issued and outstanding as of November 20, 2006.

(3) Denotes a member of the audit committee.

(4) Includes with respect to each of the following individuals, the following number of shares subject to options that were vested as of or will vest within 60 days following November 30, 2006: Mr. Parker, 25,000; Mr. Yugovich, 142,000; Mr. Graves, 129,000; Mr. Reid, 33,000; Mr. Murray, 25,000; and Mr. Garman, 168,000.

(5) Includes 460,244 shares registered in the name of Mrs. Jane Garman, wife of Mr. Garman.

(6) Includes 150,000 shares subject to warrants held by Burrard Technologies Corp. that are exercisable as of or will be exercisable within 60 days following, November 30, 2006. Mr. Murray Currently serves as director for Burrard Technologies Corp.

(7) Includes 337,727 shares held by Mrs. Carol Yugovich, wife of Mr. Yugovich. Mr. Yugovich expressly disclaims all beneficial ownership of these shares.

(8) Includes 371,818 shares subject to warrants held by Mrs. Yugovich that were exercisable as of or will be exercisable within 60 days of November 30, 2006. Mr. Yugovich expressly disclaims all beneficial ownership of these warrants.

(9) Includes 116,636 shares subject to warrants held by Mr. Parker that were exercisable as of or will be exercisable within 60 days following November 30, 2006.

(10) Includes 41,800 shares held by Mrs. Dana Reid, wife of Mr. Reid.

(11) Includes 121,081 shares registered in the name of Gemcore Communications, Inc., a corporation for which Mr. Graves currently serves as director.

A summary of outstanding options granted to the above individuals to purchase our common shares as at November 30, 2006 is set forth below:

Name	Number of Shares		Exercise Price Per Share		Expiry Date
Steven R. Garman		168,000	$	0.15		December 31, 2009
Richard H. Murray		25,000	$	0.15		December 31, 2009
Billy Gene Parker Jr		50,000	$	0.50		December 31, 2007
Billy Gene Parker Jr		168,000	$	0.15		December 31, 2009
Matthew G. Yugovich		50,000	$	0.50		December 31, 2007
Matthew G. Yugovich		50,000	$	0.15		December 31, 2009
Matthew G. Yugovich		7,000	$	0.15		December 31, 2009
Alan D. Graves		33,000	$	0.15		December 31, 2009
Alan D. Graves		96,000	$	0.50		December 31, 2007
William J. Reid		33,000	$	0.15		December 31, 2009

Stock Option Plan

Our Incentive Stock Option Plan was drafted to comply with the rules set forth for such plans by the Toronto Stock Exchange (TSX). At no time may more than 5% of the outstanding issued shares be reserved with respect to any one individual. The Plan provides for the issuance of options to our directors, officers and employees and our subsidiaries to purchase our common shares. The stock options may be issued at the discretion of the Board of Directors and are exercisable for a period not exceeding five years. Stock Options granted to our employees and directors will vest in equal quarterly tranches, at the direction of the Board of Directors, subject to a minimum 18 month vesting period, in accordance with TSX policy, commencing from the date of grant of the Option. The exercise price may not be lower than the “discounted market price” being the last closing price of our shares on the day immediately preceding the date on which the directors grant and publicly announce the options, less the applicable discount from the market price in accordance with TSX policy, and will not otherwise be less than $0.10 per share. The Incentive Stock Option Plan provides that a person is entitled to have one or more stock options outstanding at a time.

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As at June 30, 2004, we had a total of 2,175,000 options approved for issuance. On December 10, 2004, our shareholders approved an amendment to our stock option plan, which increased the number of our common shares that have been allocated and reserved for use in our Incentive Stock Option Plan from 2,175,000 shares to 4,000,000 shares.

Effective July 1, 2006, we changed our jurisdiction of incorporation from the Province of British Columbia, Canada to the State of Delaware. In connection with our change of domicile, our Board of Directors determined that it was in our best interests and the best interests of our shareholders to discontinue the granting of options under our existing stock plan and to adopt a new 2005 Stock Plan that complied with U.S. federal and state tax and securities laws. Our Board of Directors adopted the Plan on November 4, 2005, and our stockholders approved the Plan on June 23, 2006. The Plan became effective on July 1, 2006, the date of our domestication. A total of 8,000,000 shares of our common stock have been reserved for issuance thereunder. A copy of our 2005 Stock Option Plan is contained in Amendment No.4 to our Form S-4 Registration Statement, filed with the Securities and Exchange Commission on May 24, 2006.

Equity Compensation Plan Information

The following table sets forth information related to our equity compensation plans as of November 30, 2006:

Plan Category	Number of securities to be issued upon exercise of outstanding options, warrants and rights	Weighted average exercise price of outstanding options, warrants and rights	Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column)
Equity Compensation Plans approved by security holders	1,050,000 options	US $0.28	6,950,000
Equity Compensation Plans not approved by Security Holders	Nil	Nil	Nil
Total	1,050,000 options		6,950,000

Item 7 Major Shareholders and Related Party Transactions

7.A Major shareholders

Share Ownership

The following table shows, as of November 30, 2006, the information known by us regarding shareholders that beneficially own more than 5% of our outstanding common shares:

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Name of Shareholder	Number of Shares		Percent
Scott Sabins		3,150,300		7.0	%
Dan Berry		4,048,000		9.0	%

As far as we know, we are not directly or indirectly owned or controlled by another corporation or by any government, and there are no arrangements that may result in a change of our control.

All of our shareholders have the same voting rights.

As of November 30, 2006, 44,834,629 common shares were held of record by 218 registered holders. Of those holders, 97 had registered addresses in the United States representing 94% of the shares outstanding and 116 had registered addresses in Canada representing 6% of the shares outstanding. We are aware that many of our common shares are held of record by brokers and other nominees. Accordingly, the above numbers are not necessarily representative of the actual number of persons who are beneficial owners of our common stock or the number of our common stock beneficially held by such persons.

We are not directly or indirectly owned or controlled by another corporation, any foreign government or by any other natural or legal person(s) severally or jointly.

There are no arrangements, known to us, the operation of which may at a subsequent date result in a change of control of our company.

7.B Related party transactions

During the period since the beginning of our preceding three financial years up to the date hereof, we entered into the following related party transactions:

On June 20, 2003 we entered into a Services Agreement with True Horizon Marketing Inc., a company controlled by Steven R. Garman, for the provision of his professional services including services as our Chief Executive Officer and President. The agreement is further described under “Termination of Employment, Change in Responsibilities and Employment Contracts,” above.

In October 2005, we completed a common shares-for-debt conversion plan. Pursuant to this plan, Gemcore Communications Inc., a company controlled by Alan D. Graves, one of our Directors, received 40,081 of our common shares at the price of $0.32 to settle debt of $12,748 (Cdn$16,774).

For the period from July 1, 2003 to June 30, 2004, we paid $214,143 in consulting fees to directors and officers and former directors and officers of our company. As at June 30, 2004 and 2003, amounts of $246,336 and $142,827, respectively, were due to these directors and officers in respect of these fees, and included in accounts payable.

During the year ended June 30, 2004, we issued 799,090 common shares at $0.22 per share for proceeds of $175,800; 40,000 common shares at $0.25 per share for proceeds of $10,000; and 390,000 common shares at $0.15 per share for proceeds of $58,500 pursuant to private placements to our directors.

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During the years ended June 30, 2005, 2004 and 2003, we incurred fees charged by our directors and our officers and their related companies. These transactions were in the normal course of operations and are measured at the exchange amount which was the amount established and agreed to by the related parties and are as follows:

	Years ended June 30,
	2006		2005		2004
	$		$		$
Administration		368,185		253,142		155,867
Development costs		-		56,610		58,276
Financing costs and interests		-		45,313		-
Sales and marketing		118,882		-		-
		487,067		355,065		214,143

In May 25, 2005, we entered into an Investors Relations agreement with an arms-length party, Hobson, Lorenze, Bowersock and Associates, which required us to irrevocably issue 3,000,000 of our common shares, valued at $435,000, to the investor relations firm as follows:

· 1,500,000 shares within 5 days of the  agreement date;

· 750,000 shares within 185 days of the agreement date; and

· 750,000 shares within 275 days of the agreement date.

For more information regarding this Investor Relations agreement, see “Share capital subscribed” ” in Note 7 of “Notes to Consolidated Financial Statements June 30, 2006.”

During the year ended June 30, 2005, we issued 170,454 common shares at $0.22 per share for proceeds of $37,500 pursuant to a private placement to our directors.For more information regarding this agreement, see “Share capital subscribed” in Note 7 of “Notes to Consolidated Financial Statements June 30, 2005.”

In December, 2005, we entered into an Employment Agreement with Steven R. Garman. See “Termination of Employment, Change in Responsibilities and Employment Contracts” above.

In March, 2006, we entered into an Employment Agreement with Robert I. McLean Jr. See “Termination of Employment, Change in Responsibilities and Employment Contracts” above.

During the year ended June 30, 2006, we issued 315,000 shares to a director pursuant to a private placement at $0.15 per share for proceeds of $11,000 and the settlement of $36,250 of amounts owing for 250,000 common shares delivered to an investor relations firm on our behalf. See Note 7 of “Notes to Consolidated Financial Statements June 30, 2006.”

During the year ended June 30, 2006, we issued 200,000 common shares valued at $72,750 to our officers as hiring incentives.

During the year ended June 30, 2006, we issued 26,000 shares to a director pursuant to the exercise of share purchase options for total proceeds of $3,900.

During the year ended June 30, 2006, we issued 445,454 common shares to one of our directors for total proceeds of $46,667 and the settlement of $56,970 of amounts owing to that director for unpaid management fees included in administration expense.

In the first quarter of 2006, we received $48,667 from the exercise of warrants to purchase 243,333 shares of our common stock at an exercise price of $0.20. In the second quarter 2006, we received an additional $158,000 from the exercise of warrants to purchase 789,999 of our common stock at an exercise price of $0.20.

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In October, 2006, we completed a private placement Subscription Agreement under which certain parties purchased an aggregate of 4,641,667 units for a purchase price of $0.15 per share and a debt settlement of $36,250 to one of our directors. For more information regarding this agreement, see Note 12 of “Notes to Consolidated Financial Statements June 30, 2006.”

7.C Interests of experts and counsel

Not applicable.

Item 8 Financial Information

8.A Consolidated statements and other financial information

Financial statements, audited by our independent auditor and accompanied by an audit report, comprised of:

· Consolidated Balance Sheets as at June 30, 2006 and 2005;

· Consolidated Statements of Operations and Deficit for the Years Ended June 30, 2006, 2005 and 2004;

· Consolidated Statements of Cash Flows for the Years Ended June 30, 2006, 2005 and 2004; and

· Consolidated Statement of Stockholder’s Deficiency for the Period July 1, 2003 to June 30, 2006; and

· Notes to Consolidated Financial Statements June 30, 2006.

are attached hereto and form a part hereof.

We are not involved and have not been involved in any legal or arbitration proceedings which may have, or have had in the recent past, significant effects on our financial position or profitability, including governmental proceedings pending or known to be contemplated.

We have not, during our last three completed fiscal years, declared or paid any dividends on our common shares and do not currently intend to pay dividends. Earnings, if any, will be retained to finance further the growth and development of our business.

8.B Significant changes

No significant changes have occurred since the date of our consolidated financial statement included in this Form 20-F. See “Item 5.D Trend Information.”

Item 9 The Offer and Listing

9.A Share capital

Not applicable.

9.B Plan of distribution

Not applicable.

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9.C Markets

Our common shares traded on the TSXV Venture Exchange (the “TSXV”) under the symbol QII.U until we voluntarily delisted from the TSXV on July 16, 2004. The TSXV was previously known as the Canadian Venture Exchange (the “CDNX”) prior to its acquisition by the Toronto Stock Exchange on May 29, 2001. The CDNX was the result of the merger of the Vancouver Stock Exchange and the Alberta Stock Exchange on November 29, 2001. Prior to the establishment of the CDNX, our common shares traded on the Vancouver Stock Exchange (the ‘VSE”). The VSE, CDNX and TSXV are collectively referred to herein as the “TSXV”. The following table sets out the price history of our common shares on TSXV and its relevant predecessors for the periods indicated:

TSXV Yearly Price History - Five most recent fiscal years
	Period	High	Low
Fiscal 2006	12 Month Period ended June 30, 2006	Nil	Nil
Fiscal 2005	12 Month Period ended June 30, 2005	Nil	Nil
Fiscal 2004	12 Month Period ended June 30, 2004	US$0.50	Cdn$0.09
Fiscal 2003	12 Month Period ended June 30, 2003	US$0.50	Cdn$0.06
Fiscal 2002	12 Month Period ended June 30, 2002	Cdn$0.90	Cdn$0.18
Fiscal 2001	12 Month Period ended June 30, 2001	Cdn$5.05	Cdn$0.80

TSXV Quarterly Price History - Two most recent fiscal years
	Period	High (US$)	Low (US$)
Fiscal 2006	Fourth Fiscal Quarter ended June 30, 2006	Nil	Nil
	Third Fiscal Quarter ended March 31, 2006	Nil	Nil
	Second Fiscal Quarter ended December 31, 2005	Nil	Nil
	First Fiscal Quarter ended September 30, 2005	Nil	Nil
Fiscal 2005	Fourth Fiscal Quarter ended June 30, 2005	Nil	Nil
	Third Fiscal Quarter ended March 31, 2005	Nil	Nil
	Second Fiscal Quarter ended December 31, 2004	Nil	Nil
	First Fiscal Quarter ended September 30, 2004	0.34	0.23
Fiscal 2004	Fourth Fiscal Quarter ended June 30, 2004	0.46	0.25
	Third Fiscal Quarter ended March 31, 2004	0.40	0.19
	Second Fiscal Quarter ended December 31, 2003	0.37	0.15
	First Fiscal Quarter ended September 30, 2003	0.50	0.09

TSXV Monthly Price History - Six most recent months prior to delisting
Period - 2004	High (US$)		Low (US$)
June		0.28		0.24
July -delisted on July 16, 2004		0.26		0.18
August		-		-
September		-		-
October		-		-
November		-		-
December		-		-

Our common shares began trading in U.S. dollars on July 30, 2001.

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The following table sets out the price history of our common shares on the OTCBB from May 23, 2002, being the date our common shares commenced trading, and for the following periods indicated (in US dollars):

OTCBB Yearly Price History -Three most recent fiscal years
	Period	High (US$)	Low (US$)
Fiscal 2006	12 Month Period ended June 30, 2006	0.70	0.18
Fiscal 2005	12 Month Period ended June 30, 2005	0.42	0.11
Fiscal 2004	12 Month Period ended June 30, 2004	0.48	0.11
Fiscal 2003	12 Month Period ended June 30, 2003	0.45	0.07

OTCBB Quarterly Price History - Two most recent fiscal years
	Period	High (US$)	Low (US$)
Fiscal 2006	Fourth Fiscal Quarter ended June 30, 2006	0.34	0.18
	Third Fiscal Quarter ended March 31, 2006	0.45	0.24
	Second Fiscal Quarter ended December 31, 2005	0.41	0.18
	First Fiscal Quarter ended September 30, 2005	0.70	0.24
Fiscal 2005	Fourth Fiscal Quarter ended June 30, 2005	0.42	0.17
	Third Fiscal Quarter ended March 31, 2005	0.25	0.12
	Second Fiscal Quarter ended December 31, 2004	0.20	0.11
	First Fiscal Quarter ended September 30, 2004	0.27	0.12
Fiscal 2004	Fourth Fiscal Quarter ended June 30, 2004	0.46	0.25
	Third Fiscal Quarter ended March 31, 2004	0.42	0.18
	Second Fiscal Quarter ended December 31, 2003	0.41	0.16
	First Fiscal Quarter ended September 30, 2003	0.48	0.11

OTCBB Monthly Price History - Six most recent months
Period - 2006	High (US$)		Low (US$)
November		0.082		0.065
October		0.160		0.070
September		0.170		0.100
August		0.220		0.150
July		0.270		0.175
June		0.250		0.180

Our common shares began trading on the Berlin Stock Exchange on March 23, 2000. During the year ended June 30, 2004 we requested to the Berlin Stock Exchange to cease all trading of our shares in that exchange.

9.D Selling shareholders

Not applicable.

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9.E Dilution

Not applicable.

9.F Expenses of the issue

Not applicable.

Item 10 Additional Information

10.A Share capital

Not applicable.

10.B Memorandum and articles of association

Effective July 1, 2006, the date of our change of jurisdiction from the Province of British Columbia, Canada to the State of Delaware, we are no longer governed by our former British Columbia Memorandum and Articles of Association. Instead, as a Delaware corporation, we now have a Certificate of Incorporation and Bylaws, both of which were attached as exhibits to our registration statement on Form S-8, filed with the Securities and Exchange Commission, on July 3, 2006 and incorporated by reference herein.

10.C Material contracts

Following are summaries of material contracts, other than those entered into in the ordinary course of business, we entered into for a period of no less than the two years preceding the date of this document:

Contract	Description
Convertible Subordinated Capital Note Agreement with Scott and Kymberly Sabins dated September 5, 2006	We were loaned $150,000 by the Sabins. The subordinated loan has a term of five years, bears interest at 10% per annum and is convertible into shares of our common stock at a price of $0.07 per share. In addition, for each share of common stock issued, a warrant to purchase additional shares of our common stock will be issued at an exercise price of $0.20 per share for two years from the date the loan is converted.
Secured Demand Loan Agreement with Danny Berry dated August 31, 2006	We were loaned $100,000 by Mr. Berry. This loan is secured by our inventory, equipment, trademarks, trade names, contract rights and leasehold interests and is non-interest bearing. The agreement provides that if the loan is not repaid within 90 days, interest will accrue at a monthly rate of 2.5% of the principal unpaid balance. As a funding fee for the loan, we issued the shareholder 250,000 shares of our common stock.
Unsecured Loan Agreement with Danny Berry dated August 9, 2006	We were loaned $50,000 by Mr. Berry. This loan is unsecured and non-interest bearing. The agreement provides that if the loan is not repaid within 60 days, interest will accrue at a monthly rate of 2% of the principal unpaid balance. As a funding fee for the loan, we issued the shareholder 30,000 shares of our common stock.
Form of Private Placement Subscription Agreement completed October, 2006	In October, 2006, we completed a private placement Subscription Agreement under which certain parties purchased an aggregate of 2,408,873 units for a purchase price of US $0.07 per unit.
Form of Private Placement Subscription Agreement completed October, 2005	In October, 2005, we completed a private placement Subscription Agreement under which certain parties purchased an aggregate of 6,820,500 units for a purchase price of US $0.10 per unit.
Form of Private Placement Subscription Agreement completed October, 2005	In October, 2005, we completed a private placement Subscription Agreement under which certain parties purchased an aggregate of 4,641,667 units for a purchase price of US $0.15 per share and a debt settlement of $36,250 to one of our directors.
Investor Relations Agreement completed May, 2005	In May, 2005, we entered into an Investors Relations agreement with an arms-length party under which we agreed to issue 3,000,000 of our common shares having a value of $435,000 to specified parties.

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10.D Exchange controls

Effective, July 1, 2006, we changed our jurisdiction of incorporation from the Province of British Columbia, Canada to the State of Delaware. Because we are no longer a “foreign private issuer,” as that term is defined in Rule 3b-4, promulgated under the Securities Exchange Act of 1934, as amended, we feel that this Item 10.D is no longer applicable to us. Disclosures required under this Item 10.D, as applicable to us during the fiscal year ended June 30, 2006, are contained in Item 10.D of our Form 20-F, filed with the Securities and Exchange Commission on December 30, 2005.

10.E Taxation

U.S. Federal Income Tax Consequences

Effective, July 1, 2006, we changed our jurisdiction of incorporation from the Province of British Columbia, Canada to the State of Delaware. Because we are no longer a “foreign private issuer,” as that term is defined in Rule 3b-4, promulgated under the Securities Exchange Act of 1934, as amended, we feel that this Item 10.E is no longer applicable to us. Disclosures required under this Item 10.E, as applicable to us during the fiscal year ended June 30, 2006, are contained in Item 10.E of our Form 20-F, filed with the Securities and Exchange Commission on December 30, 2005.

10.F Dividends and paying agents

Not applicable.

10.G Statement by experts

Not applicable.

10.H Documents on display

Copies of material contracts herein described may be examined at our head office located at 609 Cheek Sparger Road, Suite 300, Colleyville, Texas 76034 during normal business hours. The documents referred to in this report can also be read the Securities and Exchange Commission public reference facilities at Room 1024, 450 Fifth Street, N.W., Washington, D.C. 20549.

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10.I Subsidiary information

We have one active subsidiary, QI Systems International, Inc., a Texas corporation.

Item 11 Quantitative and Qualitative Disclosures About Market Risk

We do not believe we have any material exposure to interest or commodity risks. We do not own any derivative instruments, do not engage in any hedging transactions and do not have any outstanding long-term debt.

Item 12 Description of Securities Other Than Equity Securities

12.A Debt securities

Not applicable.

12.B Warrants and rights

Not applicable.

12.C Other securities

Not applicable.

12.D American depositary shares

Not applicable.

PART II

Item 13 Defaults, dividends arrearages and delinquencies.

Not applicable.

Item 14 Material modifications to the rights of security holders and use of proceeds

Effective July 1, 2006, we changed our jurisdiction of incorporation from the Province of British Columbia, Canada to the State of Delaware. At a special meeting of our stockholders, held on June 23, 2006, our stockholders approved our domestication and also approved our Delaware Certificate of Incorporation, our Bylaws and our 2005 Stock Plan. As a result of our domestication, a total of 42,095,756 shares of no par value common stock issued by us as a British Columbia corporation were converted into an equal number of shares of common stock, $.001 par value, issued by us as a Delaware corporation. Modifications to the rights of our stockholders resulting from our domestication are described in more detail in Amendment No.4 to our Registration Statement on Form S-4, file number 000-130594, filed with the Securities and Exchange Commission on May 24, 2006 at, “Particular Matters to be Acted Upon -- Proposal Number One -- Domestication to the State of Delaware -- Corporate Governance Differences.”

Item 15 Controls and Procedures

Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e)under the Securities Exchange Act of 1934, referred to below as the “Exchange Act”). Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by this report, our disclosure controls and procedures were effective in timely alerting them to the material information relating to us (or our consolidated subsidiaries) required to be included in the reports we file or submit under the Exchange Act.

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During the period covered by this annual report, there has been no change in our internal control over financial reporting (as defined in Rule 13a-15(f)under the Exchange Act) that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

Item 16

16.A Audit Committee Financial Expert

All of the members of the Audit Committee are financially literate and the Board has determined that Mr Steve Garman meets the requirements of an “audit committee financial expert” as defined by the SEC. Mr. Garman is not an “independent director” as defined in Rule 10A-3 of the Securities Exchange Act of 1934, as amended, or Section 121B of the American Stock Exchange Company Guide related to audit committee requirements for listed companies. Mr. Garman received his Bachelor of Science Degree in Business Management and Administration from Indiana University’s Kelley School of Business in 1969. Mr. Garman has over 35 years of business experience in the international corporate environment and a diversified management background including senior executive positions in varied industries such as health care services, high tech medical devices, computer products, OEM manufacturing, and sports and recreation. He has held multi-million dollar P & L responsibility with Olympus America, Inc.

16.B Code of Ethics

We developed, and our board subsequently adopted, a Code of Ethics to reflect SEC rules and other proposed regulations. The Code of Ethics governs the actions of and is applicable to all of our directors and officers and our subsidiary and its affiliates. The Code of Ethics deals with the following issues:

· compliance with all the laws and regulations identified in the Code of Ethics;

· corporate opportunities and conflicts of interest;

· the quality of the public disclosures;

· the protection and appropriate use of our properties;

· the protection of confidential information and property;

· fair behavior; and

· compliance with insider trading and corrupt practices legislation;

A copy of our Code of Ethics is filed as an exhibit to the 20-F for the year ended June 30, 2004, filed with the Securities and Exchange Commission on December 17, 2004. All interested investors may acquire a copy of our Code of Ethics free of charge by sending electronic mail to the attention of investor relations on our website at http://www.qisystems.ca. 

There were no waivers to the Code of Ethics in the fiscal year ended June 30, 2006.

16.C Principal Accountant Fees and Services

Amisano Hanson, Chartered Accountants, was our external auditor for the financial year ending June 30, 2006 and 2005 after being appointed on July 7, 2004.

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The following table charts the external auditors’ fees for each of the financial years ending June 30, 2006 and June 30, 2005 by category:

	Years ended June 30		Total (1)
	2006	2005
Audit Fees:	Cdn$32,361	Cdn$29,755	Cdn$62,116
Audit Related Fees (2)	Nil	Nil	Nil
Tax Fees (3)	Cdn$775	Cdn$795	Cdn$1,570
All Other Fees (4)	Cdn$1,744	Nil	Cdn$1,744
Total	Cdn$34,880	Cdn$30,550	Cdn$65,430

(1) Aggregate fees billed by the external auditor in each of the last two financial years.

(2) Fees billed for assurances and related services that are reasonably related to the performance of the audit or review of our financial statements and are not reported under “Audit Fees”.

(3) Aggregate fees billed for professional services rendered for tax compliance, tax advice, and tax planning.

(4) Aggregate fees for products and services provided other than the services reported under the three previous rows.

Pre-Approval Policies and Procedures

The Audit Committee is responsible for reviewing all financial statements prior to approval by the board, all other disclosures containing financial information and all management reports which accompany any financial statements. The Audit Committee is also responsible for all internal and external audit plans, any recommendation affecting our internal controls, the results of internal and external audit plans, any recommendation affecting our internal controls, the results of internal and external audits and any changes in accounting practices or policies. The Audit Committee reviews any accruals, provisions, estimates or related party transactions that have a significant impact on our financial statements and any litigation, claim or other contingency that could have a material effect upon our financial statements. In addition, the Audit Committee is responsible for assessing management's programs and policies relating to the adequacy and effectiveness of internal controls over our accounting and financial systems. The Audit Committee reviews and discusses with the Chief Executive Officer and Chief Financial Officer, the procedures undertaken in connection with their certifications for annual and quarterly filings in accordance with the requirements of applicable securities regulatory authorities. The Audit Committee is also responsible for considering the appointment and remuneration of external auditors. The Audit Committee reports directly to the board of directors.

Any services provided by our independent auditors that are not specifically included within the scope of the audit must be pre-approved by the audit committee prior to any engagement. The audit committee is permitted to approve certain fees for audit-related services, tax services and other services pursuant to a de minimus exception before the completion of the engagement. In the fiscal year ended June 30, 2006, none of the fees paid to Amisano Hanson, Chartered Accountants, were approved pursuant to the de minimus exception.

16.D Exemptions from the Listing Standards for Audit Committees.

Not Applicable

16.E Purchases of Equity Securities by the Issuer and Affiliated Purchasers.

None.

42

PART III

Item 17 Financial Statements

The Report and Consolidated Financial Statements for the years ended June 30, 2006, June 30, 2005 and June 30, 2004 are reported by Amisano Hanson, Chartered Accountants collectively referred to below as the Annual Statements. These Annual Statements were prepared in accordance with generally accepted accounting principles in Canada, which differ from general accepted accounting principles in the United States. See “Note 14 to the Consolidated Financial Statements June 30, 2006.”

The following financial statements and related schedules are included in this Item:

· Report of Independent Registered Public Accounting Firm

· Comments from Auditor for U.S. Readers of Canada-U.S. Reporting

· Consolidated Balance Sheets as at June 30, 2006 and 2005;

· Consolidated Statements of Operations and Deficit for the Years Ended June 30, 2006, 2005 and 2004;

· Consolidated Statements of Cash Flows for the Years Ended June 30, 2006, 2005 and 2004;

· Consolidated Statement of Stockholder’s Deficiency for the Period July 1, 2003 to June 30, 2006; and

· Notes to the Consolidated Financial Statements June 30, 2006.

The financial statements and the notes thereto as required under Item 17 are attached hereto and are found immediately following the text of this annual report.

Item 18 Financial Statements

Not Applicable.

Item 19 Exhibits

Exhibit No.	Exhibit Description
1.1	Certificate of Incorporation of QI Systems Inc., filed as an exhibit to Form 8-A of QI Systems Inc., filed with the Securities and Exchange Commission, on July 3, 2006 and incorporated by reference herein.
1.2	Bylaws of QI Systems Inc., filed as an exhibit to Form 8-A of QI Systems Inc., filed with the Securities and Exchange Commission on July 3, 2006 and incorporated by reference herein.
4.1	Advertising and Promotional Service Agreement dated March 25, 2005 between QI Systems Inc. and Hobson, Lorenze, Bowersock and Associates, filed as an exhibit to our Registration Statement on Form S-4 filed with the Securities and Exchange Commission on December 22, 2005 and incorporated by reference herein.
4.2	Memorandum of Understanding dated May 26, 2005 between Richard H. Murray, QI Systems Inc. and Matthew Yugovich, filed as an exhibit to our Registration Statement on Form S-4 filed with the Securities and Exchange Commission on December 22, 2005 and incorporated by reference herein.
4.3	Employment Agreement between QI Systems Inc. and QI Systems International, Inc. and Steven R. Garman dated December 21, 2005, filed as an exhibit to our Registration Statement on Form S-4 filed with the Securities and Exchange Commission on December 22, 2005 and incorporated by reference herein.

43

4.4	Employment Agreement between QI Systems Inc. and QI Systems International, Inc. and Robert I. McLean Jr. dated March 1, 2006, filed as an exhibit to the Amendment No. 3 to our Registration Statement on Form S-4 filed with the Securities and Exchange Commission on May 23, 2006 and incorporated by reference herein.
4.5	Form of Subscription Agreement filed as an exhibit to the current report on Form 8-K, filed with the Securities and Exchange Commission on October 4, 2006 and incorporated by reference herein.
4.6	Form of Share Purchase Warrant filed as an exhibit to the current report on Form 8-K, filed with the Securities and Exchange Commission on October 4, 2006 and incorporated by reference herein.
4.7	Loan Agreement, dated August 4, 2006, by and between QI Systems Inc. and Danny Berry, filed as an exhibit to our quarterly report on Form 10-QSB filed with the Securities and Exchange Commission on November 20, 2006 and incorporated by reference herein.
4.8	Loan Agreement, dated August 31, 2006, by and between QI Systems Inc. and Danny Berry, filed as an exhibit to our quarterly report on Form 10-QSB filed with the Securities and Exchange Commission on November 20, 2006 and incorporated by reference herein.
4.9	Convertible Subordinated Capital Note, dated September 5, 2006, by and between QI Systems Inc. and Scott and Kymberly Sabins, filed as an exhibit to our quarterly report on Form 10-QSB filed with the Securities and Exchange Commission on November 20, 2006 and incorporated by reference herein.
11	Code of Ethics, filed as an exhibit to our annual report on From 20-F for the year ended June 30, 2004, filed with the Securities and Exchange Commission on December 17, 2004 and incorporated by reference herein.
12.1	Certification of Principal Executive Officer required by Rule 13a-14(a).
12.2	Certification of Principal Financial Officer required by Rule 13a-14(a).
13.1	Section 906 of the Sarbanes-Oxley Act of 2002 Certification of Principal Executive Officer.
13.2	Section 906 of the Sarbanes-Oxley Act of 2002 Certification of Principal Financial Officer.

Signatures

The registrant hereby certifies that it meets all of the requirements for filing on Form 20-F and that it has duly caused and authorized the undersigned to sign this annual report on its behalf.

	QI SYSTEMS INC.
		/s/ Steven R. Garman
Date: December 14, 2006	By:	Steven R. Garman, President and Chief Executive Officer

44

QI SYSTEMS INC.

Richmond, B.C.

REPORT AND CONSOLIDATED FINANCIAL STATEMENTS

June 30, 2006 and 2005

(Expressed in US dollars)

F-1

A PARTNERSHIP OF INCORPORATED PROFESSIONALS	AMISANOHANSON
	CHARTEREDACCOUNTANTS

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Shareholders

QI Systems Inc.

We have audited the consolidated balance sheets of QI Systems Inc. as at June 30, 2006 and 2005 and the consolidated statements of operations, cash flows and stockholders’ deficiency for each of the years in the three year period ended June 30, 2006. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with Canadian generally accepted auditing standards and the standards of the Public Company Accounting Oversight Board (United States of America). Those standards require that we plan and perform an audit to obtain reasonable assurance whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation.

In our opinion, these consolidated financial statements present fairly, in all material respects, the financial position of the Company as at June 30, 2006 and 2005 and the results of its operations and its cash flows for each of the years in the three year period ended June 30, 2006 in accordance with Canadian generally accepted accounting principles.

Vancouver, Canada	“AMISANO HANSON”
September 22, 2006, except for Note 12, which is  as of October 3, 2006	Chartered Accountants

Comments by Auditor for US Readers on Canada-US Reporting Differences

In the United States, reporting standards for auditors require the addition of an explanatory paragraph (following the opinion paragraph) when there is substantial doubt about a Company’s ability to continue as a going concern. The accompanying consolidated financial statements have been prepared on the basis of accounting principles applicable to a going concern, which assumes the realization of assets and discharge of liabilities in the normal course of business. As discussed in Note 1 to the accompanying financial statements, the Company has accumulated substantial losses since its inception and expects to incur further losses in the development of its business. Its ability to continue as a going concern is dependent upon the ability of the Company to obtain the necessary financing to meet its obligations and repay its liabilities arising from normal business operations when they come due.

Our report to the shareholders dated September 22, 2006 is expressed in accordance with Canadian reporting standards which do not permit a reference to such events and conditions in the auditor's report when these are adequately disclosed in the consolidated financial statements.

Vancouver, Canada	“AMISANO HANSON”
September 22, 2006, except for Note 12, which is  as of October 3, 2006	Chartered Accountants

F-2

QI SYSTEMS INC.

CONSOLIDATED BALANCE SHEETS

As at June 30, 2006 and 2005

(Expressed in US Dollars)

	2006			Restated - Note 13 2005
	$			$
Assets
Current
Cash and cash equivalents		73,559			59,950
Receivables (net of allowance of $2,061; 2005: $Nil)		31,963			40,784
Share subscriptions receivable - Note 7		-			6,635
Prepaid expenses - Note 7		227,566			410,545
Inventory - Note 4		149,902			192,237
		482,990			710,151
Deposit		1,000			-
Equipment - Note 5		32,680			9,106
		516,670			719,257
Liabilities
Current
Payables and accruals - Notes 6 and 7		350,954			808,094
Shareholder loans - Note 6		2,575			21,392
Deposits received		20,059			16,578
Unearned revenue		10,734			-
		384,322			846,064
Shareholders’ Deficiency
Share capital - Notes 7 and 12		42,096			24,230
Share capital subscribed - Notes 7 and 12		-			692,333
Contributed surplus - Note 7		14,167,682			11,515,952
Deficit		(14,061,839	)		(12,272,406	)
Cumulative translation adjustment		(15,591	)		(86,916	)
		132,348			(126,807	)
		516,670			719,257

Nature and Continuance of Operations - Note 1

Commitments and Contingencies - Notes 7, 11 and 12

Subsequent Events - Notes 7 and 12

Approved by the Directors:
“Steve Garman”	Director	“Matthew Yugovich”	Director
Steve Garman		Matthew Yugovich

F-3

QI SYSTEMS INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

For the years ended June 30, 2006, 2005 and 2004

(Expressed in US Dollars)

	2006			Restated - Note 13 2005			2004
	$			$			$
Revenue		406,168			390,111			383,722
Cost of goods sold		239,933			216,652			75,320
		166,235			173,459			308,402
Expenses
Administration - Note 6		848,958			406,154			419,060
Amortization		5,360			3,375			4,697
Bad debt (recovery)		2,687			(131	)		13,887
Corporate finance		-			-			116,166
Development costs - Note 6		174,439			269,997			284,190
Financing costs and interest - Note 6 and 7		2,334			112,468			5,554
Investor relations - Note 7		502,964			42,313			240,606
Sales and marketing		162,235			221,683			207,782
Professional fees		253,123			65,102			59,500
Stock-based compensation - Note 7		58,342			111,536			203,169
		2,010,442			1,232,497			1,554,611
Operating loss		(1,844,207	)		(1,059,038	)		(1,246,209	)
Interest income		4,098			-			-
Gain on settlement of debt		50,676			22,472			62,314
Net loss		(1,789,433	)		(1,036,566	)		(1,183,895	)
Loss per share - basic and diluted - Note 10		(0.05	)		(0.04	)		(0.06	)

F-4

QI SYSTEMS INC.

CONSOLIDATED STATEMENT OF CASH FLOWS

For the years ended June 30, 2006, 2005 and 2004

(Expressed in US Dollars)

	2006			Restated - Note 13 2005			2004
	$			$			$
Cash Flows related to Operating Activities
Net loss for the year		(1,789,433	)		(1,036,566	)		(1,183,895	)
Adjustments to reconcile net loss used in Operations
Stock-based compensation		58,342			111,536			203,169
Investor relations expense		423,454			42,313			-
Wages and benefits		72,750			-			-
Finance fee		-			45,313			-
Gain on settlement of debt		(50,676	)		(22,472	)		(62,314	)
Amortization		5,360			3,375			4,697
Changes in non-cash working capital items
Receivables		15,456			(9,906	)		5,327
Prepaid expenses		6,540			(6,675	)		7,778
Inventory		42,335			26,352			(30,255	)
Payables and accruals		(282,263	)		191,540			115,866
Deposits received		3,481			299			16,279
Unearned revenue		10,734			-			-
		(1,483,920	)		(654,891	)		(923,348	)
Cash Flows related to Investing Activity
Investment in capital assets		(28,934	)		-			-
Cash Flows related to Financing Activities
Proceeds from (repayment of) shareholder loans		(15,707	)		4,267			(90,559	)
Proceeds from share issuances, net of issue costs		1,476,245			397,865			970,450
Proceeds from share capital subscribed		-			248,270			-
		1,460,538			650,402			879,891
Effect of foreign currency translation on cash		65,925			52,281			64,465
Net increase (decrease) in cash		13,609			47,792			21,008
Cash (cash deficiency), beginning		59,950			12,158			(8,850	)
Cash and cash equivalents, ending		73,559			59,950			12,158

F-5

QI SYSTEMS INC.

CONSOLIDATED STATEMENT OF CASH FLOWS (Continued)

For the years ended June 30, 2006, 2005 and 2004

(Expressed in US Dollars)

	2006		Restated - Note 13 2005			2004
	$		$			$
Cash and cash equivalents are comprised as follows:
Cash		54,461		59,950			12,158
Term deposits		19,098		-			-
		73,559		59,950			12,158
Supplementary cash flow information:
Cash paid for:
Interest		-		(909	)		(1,849	)

Non-cash Transactions - Note 15

F-6

QI SYSTEMS INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (DEFICIENCY)

for the period July 1, 2004 to June 30, 2006

(Stated in US Dollars)

					Share					(Restated - Note 13)			Cumulative			Stockholders’
	Common Shares				Capital			Contributed		Accumulated			Translation			Equity
	Number		Par Value*		Subscribed			Surplus*		Deficit			Adjustment			(Deficiency)
Balance, June 30, 2003		16,363,501	$	16,364	$	-		$	9,403,322	$	(10,051,945	)	$	(57,707	)	$	(689,966	)
Issued for cash pursuant to private placements		4,866,120		4,866		-			975,084		-			-			979,950
Subscriptions received		-		-		87,300			-		-			-			87,300
Exercise of warrants for cash		20,000		20		-			7,980		-			-			8,000
Issued in settlement for debt		1,176,977		1,177		-			412,164		-			-			413,341
Stock-based compensation		-		-		-			203,169		-			-			203,169
Foreign currency translation adjustment		-		-		-			-		-			(3,515	)		(3,515	)
Net loss		-		-		-			-		(1,183,895	)		-			(1,183,895	)
Balance, June 30, 2004		22,426,598		22,427		87,300			11,001,719		(11,235,840	)		(61,222	)		(185,616	)
Issued for cash pursuant to private placements		1,760,455		1,760		(87,300	)		385,540		-			-			300,000
Subscriptions received		-		-		714,363			-		-			-			714,363
Share issue costs		-		-		(22,030	)		-		-			-			(22,030	)
Exercise of warrants for cash		43,000		43		-			17,157		-			-			17,200
Stock-based compensation		-		-		-			111,536		-			-			111,536
Foreign currency translation adjustment		-		-		-			-		-			(25,694	)		(25,694	)
Net loss		-		-		-			-		(1,036,566	)		-			(1,036,566	)
Balance, June 30, 2005, as restated - Note 13		24,230,053		24,230		692,333			11,515,952		(12,272,406	)		(86,916	)		(126,807	)

…/cont’d

F-7

Continued

QI SYSTEMS INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (DEFICIENCY)

for the period July 1, 2004 to June 30, 2006

(Stated in US Dollars)

							Share						(Restated - Note 13)			Cumulative			Stockholders’
	Common Shares						Capital			Contributed			Accumulated			Translation			Equity
	Number			Par Value*			Subscribed			Surplus*			Deficit			Adjustment			(Deficiency)
Balance, June 30, 2005, as restated - Note 13		24,230,053			24,230			692,333			11,515,952			(12,272,406	)		(86,916	)		(126,807	)
Issued pursuant to private placements
for cash		12,620,500			12,620			(270,300	)		1,609,430			-			-			1,351,750
for settlement of debts		241,667			242			-			36,008			-			-			36,250
Issued pursuant to a debt settlement agreement		100,000			100			-			30,900			-			-			31,000
Issued for services		4,292,500			4,293			(444,063	)		758,520			-			-			318,750
Share issue costs		150,000			150			22,030			(95,854	)		-			-			(73,674	)
Stock-based compensation		-			-			-			58,047			-			-			58,047
Exercise of options for cash		32,250			32			-			4,806			-			-			4,838
Exercise of warrants
for cash		966,665			967			-			192,366			-			-			193,333
for settlement of debts		212,121			212			-			56,757			-			-			56,969
Escrow shares cancelled		(750,000	)		(750	)		-			750			-			-			-
Foreign currency translation adjustment		-			-			-			-			-			71,325			71,325
Net loss		-			-			-			-			(1,789,433	)		-			(1,789,433	)
Balance, June 30, 2006		42,095,756		$	42,096		$	-		$	14,167,682		$	(14,061,839	)	$	(15,591	)	$	132,348

*The par value of common shares has been retroactively restated to reflect a change from no par value to a par value of $0.001 effective July 1, 2006.

F-8

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

for the years ended June 30, 2006 and 2005

(Expressed in US Dollars)

Note 1 Nature and Continuance of Operations

QI Systems Inc. (“QI” or “the Company”) was incorporated in 1978 under the British Columbia Company Act and effective July 1, 2006, the Company changed its jurisdiction of incorporation to the State of Delaware, USA. The Company manufactures designs and sells readers that allow the use of cash-card payment systems for self-serve applications such as vending, gaming, laundromat machines, transit fare collection systems and newspaper vending machines.

These consolidated financial statements have been prepared in accordance with generally accepted accounting principles applicable to a going concern, which assumes that the Company will be able to meet its obligations and continue its operations for its next fiscal year. Realization values may be substantially different from carrying values as shown and these financial statements do not give effect to adjustments that would be necessary to the carrying values and classification of assets and liabilities should the Company be unable to continue as a going concern. At June 30, 2006, the Company had not yet achieved profitable operations, has working capital of $98,688 which may not be sufficient to sustain operations over the next twelve months and expects to incur further losses in the development of its business, all of which casts substantial doubt about the Company’s ability to continue as a going concern. The Company’s ability to continue as a going concern is dependent upon its ability to generate future profitable operations and/or to obtain the necessary financing to meet its obligations and repay its liabilities arising from normal business operations when they come due. Management has no formal plan in place to address this concern but considers that the Company will be able to obtain additional funds by equity financing and/or related party advances, however there is no assurance of additional funding being available.

Note 2 Significant Accounting Policies

These consolidated financial statements have been prepared in accordance with generally accepted accounting principles in Canada and are stated in United States dollars and, except as described in Note 14, conform in all material respects with accounting principles generally accepted in the United States of America. Because a precise determination of many assets and liabilities is dependent upon future events, the preparation of financial statements for a period necessarily involves the use of estimates which have been made using careful judgement. Actual results may differ from these estimates.

The consolidated financial statements have, in management’s opinion, been properly prepared within the framework of the significant accounting policies summarized below:

F-9

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 2 Significant Accounting Policies (continued)

Principles of Consolidation

These consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries Magnatron Inc. (inactive), incorporated under the laws of the State of Nevada and QI Systems International Inc., incorporated under the laws of the State of Texas. All inter-company transactions have been eliminated.

Cash and Cash Equivalents

Cash and cash equivalents is comprised of cash and short-term deposits with original maturities of three months or less.

Amortization of Equipment

Equipment is carried at cost less accumulated amortization. Amortization is calculated using the declining balance method at the following annual rates:

Furniture and fixtures	- 20%
Computer equipment	- 30%

In the year of acquisition amortization is provided for at one-half the annual rate.

Inventories and Cost of Goods Sold

The Company records inventories at the lower of cost, calculated on a weighted average basis, and estimated net realizable value.

Cost of goods sold comprises materials, direct labour and direct overhead expenditures incurred in the production process.

Revenue Recognition

Revenues are derived primarily from equipment sales and non-recurring engineering fees. Revenue is recognized upon delivery of equipment and completion of non-recurring engineering work and collection is reasonably assured. Service, installation and contract revenue is recognized upon completion and acceptance and collection is reasonably assured. Revenue received in advance of being earned is recorded as unearned revenue.

Development Costs

Development costs include on-going research and development of the modular payment systems. Development costs are expensed as incurred unless they meet the criteria for deferral under Canadian generally accepted accounting principles.

F-10

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 2 Significant Accounting Policies (continued)

Earnings (loss) per share

The Company uses the treasury stock method to compute the dilutive effect of options, warrants and similar instruments. Under this method the dilutive effect on earnings per share is recognized on the use of the proceeds that could be obtained upon exercise of options, warrants and similar instruments. It assumes that the proceeds would be used to purchase common shares at the average market price during the year.

Basic earnings (loss) per share is calculated using the weighted-average number of shares outstanding during the year. For the years ended June 30, 2006, 2005 and 2004, the inclusion of the Company’s stock options and warrants in the computation of diluted loss per share would have an anti-dilutive effect on loss per share and therefore are excluded from the computation.

Foreign Currency Translation

The Company’s functional currency is Canadian dollars (“CDN dollars”). Monetary items denominated in a foreign currency other than CDN dollars are translated into CDN dollars at exchange rates prevailing at the balance sheet date and non-monetary items are translated at exchange rates prevailing when the assets were acquired or obligations incurred. Foreign currency denominated revenue and expense items are translated at exchange rates prevailing at the transaction date. Gains or losses arising from the translations are included in operations.

The Company’s reporting currency is United States dollars (“US dollars”) and CDN dollar amounts are translated using the current rate method. Assets and liabilities are translated at exchange rates prevailing at the balance sheet date and revenue expense items at actual or average exchange rates for the year. Translation adjustments arising from changes in exchange rates are accounted for as a separate component of shareholders’ equity as the cumulative translation adjustment.

Income Taxes

The Company records income taxes in accordance with the Canadian Institute of Chartered Accountants’ recommendations for accounting for income taxes. Under these recommendations current income taxes recognize the estimated income taxes payable for the current period. Future income tax assets and liabilities are recognized for temporary differences between the tax basis and the accounting basis of assets and liabilities, as well as for the benefits of losses available to be carried forward to future years for tax purposes that are more likely-than-not to be realized.

F-11

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 2 Significant Accounting Policies (continued)

Stock-based Compensation Plans

The Company has a stock-based compensation plan, which is described in Note 7. Effective for the year ending June 30, 2004, the Company adopted, on a prospective basis, the fair value method of accounting for stock options granted to employees, consultants and directors. Compensation expense is recognized over the options’ vesting period.

The Company recognizes an expense for the fair value of options granted. Upon exercise of stock options, consideration paid by the option holder, together with the amount previously recognized in contributed surplus, is recorded as an increase to share capital. The Company uses the Black-Scholes option pricing model to value stock options granted. The Black-Scholes model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. The model requires management to make estimates, which are subjective and may not be representative of actual results. Changes in assumptions can materially affect estimates of fair values.

Warrants

Consideration received on the exercise of warrants or purchase of stock is credited to share capital.

Detachable warrants are allocated a portion of the proceeds from debt or share issues based on fair values and included in additional paid-in capital warrants until the warrants are exercised or expired.

Note 3 Financial Instruments

The fair value of the Company's cash, receivables, payables and accruals, shareholder loans and deposits approximates their carrying amount due to the relatively short periods to maturity of the instruments.

The Company provides credit to its clients in the normal course of operations. It carries out, on a continuing basis, credit checks on its clients and maintains provisions for contingent losses. For other debts, the Company estimates, on a continuing basis, the probable losses and provides a provision for losses based on the estimated realizable value.

The Company is exposed to fluctuations in foreign currencies through receivables and payables to be settled in Canadian dollars. The Company monitors this exposure, but had no hedge positions at June 30, 2006 or 2005. At June 30, 2006 the Company held net monetary liabilities of $118,183 (2005: $501,395) denominated in Canadian dollars.

F-12

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 4 Inventory

	2006		2005
	$		$
Raw materials		92,055		125,516
Finished goods		57,847		66,721
		149,902		192,237

Note 5 Equipment

	2006						2005
			Accumulated						Accumulated
	Cost		Amortization		Net		Cost		Amortization		Net
	$		$		$		$		$		$
Furniture  and fixtures		34,563		21,135		13,428		22,268		19,315		2,953
Computer equipment		90,688		71,436		19,252		74,049		67,896		6,153
		125,251		92,571		32,680		96,317		87,211		9,106

Note 6 Related Party Transactions and Balances - Notes 7, 11 and 12

During the years ended June 30, 2006, 2005 and 2004, the Company incurred fees charged by directors and officers of the Company and their related companies. These transactions are in the normal course of operations and are measured at the exchange amount which was the amount established and agreed to by the related parties and are as follows:

	Years ended June 30,
	2006		2005		2004
	$		$		$
Administration		368,185		253,142		155,867
Development costs		-		56,610		58,276
Financing costs and interests		-		45,313		-
Sales and marketing		118,882		-		-
		487,067		355,065		214,143

F-13

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 6 Related Party Transactions and Balances - Notes 7, 11 and 12 (continued)

As at June 30, 2006, included in payables and accruals was $66,765 (2005: $372,514) due to directors and officers of the Company and former directors and officers of the Company relating to the above expenses. Included in shareholder loans is $Nil (2005: $2,494) due to a director of the Company. These loans are unsecured, non-interest bearing and have no specific repayment terms.

During the year ended June 30, 2006, the Company issued 315,000 shares to a director of the Company pursuant to a private placement at $0.15 per share for proceeds of $11,000 and the settlement of $36,250 of amounts owing for 250,000 common shares delivered to an investor relations firm on behalf of the Company (Note 7).

During the year ended June 30, 2006, the Company issued 200,000 common shares valued at $72,750 to officers of the Company as hiring incentives.

During the year ended June 30, 2006, the Company issued 26,000 shares to a director of the Company pursuant to the exercise of share purchase options for total proceeds of $3,900.

During the year ended June 30, 2006, the Company issued 445,454 common shares to directors of the Company for total proceeds of $46,667 and the settlement of $56,970 of amounts owing to a director of the Company for unpaid management fees included in administration expense.

During the year ended June 30, 2005, the Company issued 170,454 common shares at $0.22 per share for proceeds of $37,500 pursuant to a private placement to directors of the Company.

Note 7 Share Capital and Contributed Surplus - Notes 6 and 12

Authorized:

100,000,000 common shares, par value $0.001

Effective July 1, 2006, the Company amended its authorized share capital from 200,000,000 common shares without par value to 100,000,000 common shares with $0.001 par value. The par value of common shares has been retroactively restated to reflect the change from no par value to a par value of $0.001.

F-14

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 7 Share Capital and Contributed Surplus - Notes 6 and 12 (continued)

Shares Issued:

During the year ended June 30, 2006 the Company:

· Completed a private placement of 6,820,500 units at $0.10 per unit for gross proceeds of $682,050. Each unit was comprised of one common share and one share purchase warrant. Each warrant entitles the holder to purchase one common share at $0.25 per share. The warrants expire on August 31, 2006. In connection with this placement the Company paid commission of $68,205 in cash and issued 150,000 common shares.

· Completed a private placement of 4,641,667 units at $0.15 per unit for gross proceeds of $660,000 and a debt settlement of $36,250 owing to a director of the Company (Note 6). Each unit is comprised of one common share and one share purchase warrant. Each warrant entitles the holder to purchase one common share at $0.30 per share. The warrants expire on August 31, 2007. In connection with the private placement the Company incurred share issuance costs of $10,000.

· Issued 3,000,000 common shares of the Company, valued at $435,000, pursuant to an Investors Relations agreement with an arms-length party.

Pursuant to this agreement, two directors of the Company loaned the Company 750,000 free trading shares which were delivered to the investor relations firm on behalf of the Company for the following consideration:

· Debt of $36,250 (included in accounts payable and accruals at June 30, 2005) for 250,000 common shares delivered to the investor relations firm by a director of the Company. This debt was settled by a private placement at $0.15 per unit (Note 6); and

· 500,000 common shares issued in return for 500,000 common shares delivered to the investor relations firm by a director and officer of the Company. In addition, the Company issued a further 312,500 common shares, valued at $45,313, to this officer as a financing fee.

· Completed a private placement of 1,400,000 units at $0.20 per share for gross proceeds of $280,000. Each unit is comprised of one common share and one share purchase warrant. Each warrant entitles the holder to purchase one common share at $0.40 per share. The warrants expire on June 20, 2008.

F-15

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 7 Share Capital and Contributed Surplus - Note 12 (continued)

· Issued 1,030,000 common shares, valued at $246,000 for investor relations services to two new arms-length investor relations firms. The value of the shares was recorded as a prepaid expense and the expense for those services is being recognized over the term of the related contracts, expiring at various dated to December 22, 2006. In this regard, at June 30, 2006 the Company has expensed $19,110 as investor relations fees.

· Issued 200,000 common shares valued at $72,750 to employees of the Company as hiring incentives which were expensed when the shares were issued.

· Issued 966,665 common shares pursuant to the exercise of share purchase warrants at $0.20 per share for total proceeds of $193,333. In addition, a director and officer of the Company exercised 66,667 warrants at $0.20 and 145,454 warrants at $0.30 for a total of $56,970 which was applied to past due amounts owed to the officer. The remaining 633,333 share purchase warrants exercisable at $0.20 per share expired unexercised.

· Issued 32,250 common shares pursuant to employee and director stock options at $0.15 for total proceeds of $4,838.

· Settled an outstanding payable balance for cash and 100,000 shares valued at $0.31 per share or $31,000.

During the year ended June 30, 2005 the Company:

· Issued 396,819 common shares for proceeds of $87,300 pursuant to a private placement completed on April 1, 2004. The shares had been accounted for as share capital subscribed at June 30, 2004.

· Completed a private placement for proceeds of $300,000. The placement consisted of 1,363,636 units at $0.22 per unit; each unit is comprised of one common share and one share purchase warrant. Each warrant entitles the holder to purchase one common share at $0.30 per share prior to November 17, 2006.

During the year ended June 30, 2004, the Company:

· Completed a private placement for proceeds of $250,000. The placement consisted of 1,666,665 units at $0.15 per unit; each unit comprised of one common share and one share purchase warrant. Each warrant entitles the holder to purchase one common share at $0.20 per share prior to October 27, 2005.

· Issued 1,176,977 common shares to settle debt of $413,341 at an average price of $0.35 per share.

F-16

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 7 Share Capital and Contributed Surplus - Note 12 (continued)

· Completed a private placement for proceeds of $217,250. The placement consisted of 869,000 units at $0.25 per unit; each unit is comprised of one common share and one share purchase warrant. Each warrant entitles the holder to purchase one common share at $0.35 prior to November 17, 2005.

· Completed a private placement for proceeds of $512,700. The placement consisted of 2,727,273 units at $0.22 per unit; each unit is comprised of one common share and one share purchase warrant. Each warrant entitles the holder to purchase one common share at 40.30 per share prior to April 1, 2006.

Commitments:

Share capital subscribed:

As at June 30, 2005, proceeds of $120,300 representing 1,203,000 shares at $0.10 per share had been received by the Company as subscription for a private placement to be completed during the year ended June 30, 2006. The Company paid $12,030 in share issuance costs related to these subscriptions.

As at June 30, 2005, proceeds of $150,000 representing 1,000,000 shares at $0.15 per share had been received by the Company as subscription for a private placement to be completed during the year ended June 30, 2006. The Company paid $10,000 in share issuance costs related to this private placement.

As at June 30, 2005, the Company had share subscriptions receivable of $6,635 with respect to 30,160 common shares issued to a director of the Company at $0.22 per share pursuant to a private placement. This subscription was paid during the year ended June 30, 2006.

As at June 30, 2005, the Company had recorded the commitment of 3,000,000 common shares valued at $435,000 pursuant to an investor relations agreement and 312,500 common shares valued at $45,313 to be issued as a financing fee in connection with this agreement. All of these shares were issued during the year ended June 30, 2006.

F-17

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 7 Share Capital and Contributed Surplus - Note 12 (continued)

Commitments: (continued)

Warrants

Share purchase warrants outstanding to acquire an equal number of common shares as of June 30, 2006 are as follows:

Number of	Exercise		Expiry
Warrants	Price		Date
6,820,500	$	0.25		August 31, 2006	(1)
1,363,636	$	0.30		November 17, 2006
4,641,667	$	0.30		September 01, 2007
1,400,000	$	0.40		June 20, 2008
14,225,803

(1) Subsequent to June 30, 2006, the Company extended the warrant exercise period to expire on October 30, 2006.

During the year ended June 30, 2006, 633,333 warrants with an exercise price of $0.20 per share expired; 2,581,819 warrants with an exercise price of $0.30 per share expired; and 869,000 warrants with an exercise price of $0.35 per share expired.

Escrow Shares

As at June 30, 2005, issued share capital included 750,000 shares held in escrow subject to release at the direction of the British Columbia Securities Commission. During the year ended June 30, 2006, these shares were cancelled in accordance with the share escrow agreement.

Stock Options

The Company issues stock options as approved by the board of directors to employees, consultants and directors. Options are issued at the average trading price of the 10 days preceding the grant date as a minimum and may be granted for periods of up to five years. The vesting schedule for each grant is determined by the board of directors. As at June 30, 2006 the total number of options approved for issue is 4,000,000, of which no more than 1,085,000 options may be granted to insiders.

F-18

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 7 Share Capital and Contributed Surplus - Note 12 (continued)

Commitments: (continued)

Stock Options (continued)

A summary of the status of the Company's stock option plan as of June 30, 2006 and 2005, and changes during the years ending on those dates, is presented below:

	2006							2005
	Number			Weighted Average				Number			Weighted Average
	of			Exercise Price				Of			Exercise Price
	Options			US$		CDN$		Options			US$		CDN$
Outstanding,  beginning of  year		1,780,500			0.43		0.53		1,298,000			0.83		1.11
Granted		-			-		-		879,500			0.15		0.18
Exercised		(32,250	)		0.15		0.18		-			-		-
Expired		(167,000	)		1.79		2.00		-			-		-
Forfeited		(531,250	)		0.38		0.43		(397,000	)		1.25		1.54
Outstanding,  end of year		1,050,000			0.28		0.31		1,780,500			0.43		0.53

Options Outstanding							Options Exercisable
Exercise Price			Number Outstanding at June 30,		Weighted Average Remaining Contractual Life		Number Exercisable at June 30,
US$	CDN$		2006		(Years)		2006
0.15		0.17		666,000		3.51		666,000
0.50		0.56		384,000		1.50		384,000
				1,050,000		2.77		1,050,000

The options expire December 31, 2007 as to 384,000 options at $0.15 per share and December 31, 2009 as to 666,000 options at $0.50 per share.

F-19

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 7 Share Capital and Contributed Surplus - Note 12 (continued)

Commitments: (continued)

Stock Options (continued)

During the year ended June 30, 2006 the Company recognized the stock option benefit of $58,342 (2005: $111,536; 2004: $203,169) for the vesting of stock options, which were estimated using the Black Scholes Option Pricing Model using the following assumptions:

	2005			2004
Risk free rate		3.8	%		4.06% - 4.20	%
Dividend yield		0	%		0	%
Expected volatility		115	%		69% - 703	%
Weighted average expected stock option life		5 years			2 - 5 years

Note 8 Segmented Information

The Company operates in one business segment: the development, manufacture and installation of unattended smartcard applications.

Revenues by country are as follows:

	2006		2005		2004
	$		$		$
Canada		289,386		273,194		267,970
United States		116,782		116,917		115,752
		406,168		390,111		383,722

As at June 30, 2006, the net book value of capital assets are located in Canada and the United States are $7,180 and $25,500, respectively. As at June 30, 2005, all capital assets were located in Canada.

During the year ended June 30, 2006, one customer accounted for 63% of revenues.

During the year ended June 30, 2005, one customer accounted for 60% of revenues.

During the year ended June 30, 2004, one customer accounted for 63% of revenues.

F-20

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 9 Income Taxes

The Company has accumulated non-capital losses in Canada totalling approximately $8,582,000 and non-capital losses in the United States totalling $1,044,000 for income tax purposes, which may be deducted in the calculation of taxable income in future years. The losses expire as follows:

	Canada $		United States $
2007		1,122,000		-
2008		1,086,000		-
2009		1,367,000		-
2010		1,269,000		-
2011		922,000		-
2014		1,077,000		-
2015		823,000		-
2016		916,000		-
2025		-		162,000
2026				882,000
		8,582,000		1,044,000

In addition, the Company has incurred scientific research and experimental development expenditures (SR&ED) of approximately $2,200,000 for income tax purposes which may be carried forward indefinitely and deducted in the calculation of taxable income in future years.

The Company has also accumulated non-refundable investment tax credits of approximately $528,000 which may be applied against taxes payable in future years, and which expire at various dates commencing 2006.

These amounts are subject to review and revision by tax authorities and the potential tax benefit which may result from future application of the losses, SR&ED expenditures, non-refundable investment tax credits, and capital cost allowance is not reflected in these financial statements. The Company’s future tax assets and liabilities at enacted corporation tax rates are as follows:

F-21

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 9 Income Taxes (continued)

	2006			2005			2004
Canadian federal and provincial tax rates		34.12	%		35.62	%		35.62	%
Unites States rate		15.00	%		15.00	%		-
Income tax recovery based on statutory rates:
Losses carried forward	$	3,085,000		$	2,523,000		$	2,427,000
Scientific research and experimental development expenditures		762,000			797,000			767,000
Investment tax credit		528,000			514,000			468,000
Temporary differences related to  equipment		57,000			-			-
Valuation allowance for future  income tax assets		(4,432,000	)		(3,834,000	)		(3,662,000	)
	$	-		$	-		$	-

Management considers it more-likely-than-not that the amounts will not be utilized and, accordingly, a full valuation allowance has been applied.

Note 10 Loss per share

Loss per share is calculated using the weighted average number of common shares outstanding during the year of 37,236,666 shares (2005: 23,674,454 shares; 2004: 19,445,139 shares). Fully diluted per share amounts are not presented as the effect of outstanding options and warrants is anti-dilutive.

Note 11 Commitments and Contingencies - Notes 6

Obligations under the operating leases on office premises are:

	$
2007		85,000
2008		25,618
2009		16,412
		127,030

F-22

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 11 Commitments and Contingencies - Notes 6 (continued)

The Company signed an employment agreement dated December 19, 2005 with the president of the Company whereby the president will receive a salary of $17,500 per month plus $1,000 per month in benefits. In addition, the president is entitled to receive bonuses not to exceed 200% of his salary based on the achievement of certain financial targets. The term of the contract is indefinite.

The Company signed an employment agreement dated March 1, 2006 with an officer of the Company whereby the officer will receive a salary of $13,000 per month plus benefits. In addition, the officer is entitled to receive bonuses not to exceed 150% of his salary based on the achievement of certain financial targets. The term of the contract is indefinite.

A notice of claim has been filed in the Provincial Court of British Columbia against the Company whereby the claimant is claiming $25,000 in damages plus costs from misrepresentation. Management of the Company feels the claim is without merit and is unlikely to succeed.

Note 12 Subsequent Events - Note 7

By a loan agreement dated August 9, 2006, the Company was loaned $50,000 by a shareholder of the Company. This loan is unsecured and non-interest bearing. The agreement provides that if the loan is not repaid within 60 days, interest will accrue at a monthly rate of 2% of the principal unpaid balance. As a funding fee for the loan, the Company issued the shareholder 30,000 shares of the Company's common stock.

By an agreement dated August 31, 2006, the Company was loaned $100,000 by the above noted shareholder. This loan is secured and non-interest bearing. The loan is secured by the Company’s inventory, equipment, trademarks, trade names, contract rights and leasehold interests. The agreement provides that if the loan is not repaid within 90 days, interest will accrue at a monthly rate of 2.5% of the principal unpaid balance. As a funding fee for the loan, the Company issued the shareholder 250,000 shares of the Company's common stock.

By an agreement dated September 5, 2006, the Company was loaned $150,000 by a shareholder of the Company. The subordinated loan has a term of five years, bears interest at 10% per annum and is convertible into common stock of the Company at $0.07 per share. In addition, for each share of common stock issued, a warrant to purchase additional shares of common stock of the Company will be issued at an exercise price of $0.20 per share for two years from the date the loan is converted.

F-23

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 12 Subsequent Events - Note 7 (continued)

In August 2006, a director of the Company exercised 50,000 share purchase options at $0.15 per share for options outstanding at June 30, 2006 for total proceeds of $7,500.

On October 3, 2006 the Company completed a private placement of 2,408,873 units at $0.07 per unit for total proceeds of $168,621. Each unit is comprised of one common share and one share purchase warrant. Each warrant entitles the holder to purchase one common share at $0.20 per share until October 3, 2008.

Note 13 Prior Year’s Restatement

The financial statements for the year ended June 30, 2005 have been restated to reflect an adjustment to the amount recognized for stock based compensation for the vesting of options. Accordingly, stock based compensation expense, deficit and contributed surplus increased by $54,387 for the year ended June 30, 2005. The amount of the restatement did not change the amount reported for basic and diluted loss per share.

Note 14 Differences Between Generally Accepted Accounting Principles in Canada and the United States

These consolidated financial statements have been prepared in accordance with generally accepted accounting principles in Canada (Canadian GAAP) which differ in certain measurement respects with accounting principles generally accepted in the United States (US GAAP).

Had the Company followed US GAAP, the consolidated statement of shareholder's equity (deficiency) under US GAAP would have been reported as follows, after giving effect to the cumulative change in stock based compensation discussed below:

F-24

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 14 Differences Between Generally Accepted Accounting Principles in Canada and the United States (continued)

				Restated -
				Note 13
	2006			2005			2004
	$			$			$
Share Capital
Common shares		42,096			24,230			22,427
Additional paid-in capital		14,626,015			12,666,618			11,604,019
Deferred compensation expenses		-			-			(56,667	)
		14,668,111			12,690,848			11,569,779
Accumulated other comprehensive loss		(15,591	)		(86,916	)		(61,222	)
Accumulated Deficit
Balance, beginning of year		(12,718,653	)		(11,682,087	)		(10,499,235	)
Loss for the year		(1,789,433	)		(1,036,566	)		(1,183,895	)
		(14,508,056	)		(12,718,653	)		(11,683,130	)
		(144,434	)		(114,721	)		(174,573	)

Had the Company followed US GAAP, the consolidated statements of operations would be the same as under Canadian GAAP after giving effect to the change in stock-based compensation discussed below.

Had the Company followed US GAAP, it would have reported consolidated statements of comprehensive loss within the financial statements as follows:

				Restated -
				Note 13
	2006			2005			2004
	$			$			$
Loss for the year under Canadian and  US GAAP		(1,789,433	)		(1,036,566	)		(1,183,895	)
Foreign currency translation adjustment		71,325			(25,694	)		(3,515	)
Comprehensive loss under US GAAP		(1,718,108	)		(1,062,260	)		(1,187,410	)
Loss per common share - basic and diluted
Canadian GAAP		(0.05	)		(0.04	)		(0.06	)
US GAAP		(0.05	)		(0.04	)		(0.06	)

F-25

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 14 Differences Between Generally Accepted Accounting Principles in Canada and the United States (continued)

Had the Company followed US GAAP, it would have reported consolidated statements of cash flows within the financial statements as follows:

				Restated -
				Note 13
	2006			2005			2004
	$			$			$
Cash flows from operating activities
Net loss for the year under US GAAP		(1,789,433	)		(1,036,566	)		(1,183,895	)
Items not affecting cash
Stock-based compensation		58,342			111,536			203,169
Investor relations expense		423,454			42,313			-
Wages and benefits		72,750			-			-
Finance fee		-			45,313			-
Gain on settlement of debt		(50,676	)		(22,472	)		(62,314	)
Amortization		5,360			3,375			4,697
Changes in non-cash working capital
Receivables		15,456			(9,906	)		5,327
Prepaid expenses		6,540			(6,675	)		7,778
Inventory		42,335			26,352			(30,255	)
Payable and accruals		(282,263	)		191,540			115,866
Deposits received		3,481			299			16,279
Unearned revenue		10,734			-			-
Operating activities under US GAAP		(1,483,920	)		(654,891	)		(923,348	)

Stock-based Compensation

Under Canadian GAAP, effective for fiscal years beginning on or after January 1, 2002, all public companies were required to adopt recommendations of the Canadian Institute of Chartered Accountants regarding accounting for Canadian stock-based compensation. Under these requirements, all stock-based payments to non-employees and direct awards of stock to employees need to be accounted for using a fair value based method of accounting. However, the new standard allowed the Company to continue its existing policy of not recording compensation cost on the grant of stock options to employees with the addition of pro forma information. The Company elected to apply the pro forma disclosure provisions of the new standard to awards granted to employees on or after July 1, 2002 for both US and Canadian GAAP. For the year ended June 30, 2004, however, the Company elected to follow the fair value method of accounting for stock options granted to employees for both US and Canadian GAAP. This will result in a charge to income in respect of the fair value of such options.

F-26

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 14 Differences Between Generally Accepted Accounting Principles in Canada and the United States (continued)

Stock-based Compensation (continued)

For fiscal years prior to June 30, 2003 under US GAAP, the Company used the intrinsic value method as described in APB 25, "Accounting for Stock Issued to Employees", to recognize compensation cost on options granted to directors and employees. Under this method, the difference between the market price of the stock on the date of the grant and the exercise price of the stock options is expensed as compensation cost over the period from the date of the grant to the date the option is first exercisable. For options issued to consultants, the Company adopted the fair value method of accounting for stock-based compensation. This requires the options to be valued on the date of grant using the Black-Scholes option pricing method as prescribed by FAS 123. Under Canadian GAAP, prior to June 30, 2002 the Company did not record this stock-based compensation.

Comprehensive Income

US GAAP requires disclosure of comprehensive income which, for the Company, is net income (loss) under US GAAP plus the change in unrealized foreign exchange gains (losses) shown as cumulative translation adjustments under US GAAP.

The concept of comprehensive income is not required to be disclosed under Canadian GAAP.

New Accounting Standards

Management does not believe that any recently issued, but not yet effective, accounting standards if currently adopted could have a material effect on the accompanying financial statements.

Note 15 Non-cash Transactions

Investing and financing activities that do not have an impact on current cash flows are excluded from the statements of cash flows.

During the year ended June 30, 2006, the company issued 1,030,000 shares valued at $246,000 for investor relation services.

During the year ended June 30, 2006 the Company issued 200,000 shares valued at $72,750 as compensation to its employees.

F-27

QI SYSTEMS INC.

Notes to the Consolidated Financial Statements

June 30, 2006 and 2005

(Expressed in US Dollars)

Note 15 Non-cash Transactions (continued)

During the year ended June 30, 2006, the Company issued 553,788 common shares of the Company as settlement of accounts payable totalling $124,220.

During the year ended June 30, 2005, the share capital subscribed includes $444,063 as consideration for investor relation services.

During the year ended June 30, 2004, the Company issued common shares of the Company as settlement of accounts payable totalling $413,341.

These transactions have been excluded from the statements of cash flows.

F-28