UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

For the quarterly period ended

APRIL 30,JULY 31, 2003

OR

For the transition period from                                to                                

Commission file number 0-5449

COMARCO, INC.

(Exact name of registrant as specified in its charter)

2 Cromwell, Irvine, California 92618

(Address of principal executive offices and zip code)

(949) 599-7400

(Registrant’s telephone number, including area code)

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.

Yesþ        No¨

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

Yes¨        Noþ

The registrant had 7,024,3257,160,801 shares of common stock outstanding as of JuneSeptember 10, 2003.

COMARCO, INC. AND SUBSIDIARIES

QUARTERLY REPORT ON FORM 10-Q

FOR THE THREE AND SIX MONTHS ENDED APRIL 30,JULY 31, 2003

TABLE OF CONTENTS

PART I — FINANCIAL INFORMATION

ITEM 1.    FINANCIAL STATEMENTS

COMARCO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)

(In thousands)thousands, except share data)

The accompanying notes are an integral part of these condensed consolidated financial statements.

COMARCO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

(In thousands, except per share amounts)

The accompanying notes are an integral part of these condensed consolidated financial statements.

COMARCO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(In thousands)

The accompanying notes are an integral part of these condensed consolidated financial statements.

COMARCO, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

Comarco, Inc., through its subsidiary Comarco Wireless Technologies, Inc. (collectively, “Comarco” or the “Company”), is a leading provider of wireless field test solutionsapplications for the wireless industry. Comarco also designs and manufactures emergency call box systems and mobile power products for notebook computers, cellular telephones, PDAs, and other handheld devices. Comarco Wireless Technologies, Inc. (“CWT”) was incorporated in the state of Delaware in September 1993. During October 1999, the Company embarked on a plan to divest its non-wireless businesses, which included the defense and commercial staffing businesses. The divestiture plan was completed during November 2000. Accordingly, the Company’s continuing operations consist solely of the operations of CWT.

During the first quarter of fiscal 2003, the Comarco Board of Directors adopted a preferred stock rights plan. The plan is designed to ensure that Comarco’s shareholders receive fair and equal treatment in the event of any attempted takeover of Comarco, and to guard against partial tender offers, open market accumulations, and other tactics designed to gain control of Comarco without paying all of Comarco’s shareholders a fair price for their shares. Each preferred stock purchase right will entitle the holder to buy one one-one hundredth of a share of the Company’s Series A Participating Preferred Stock at an exercise price of $75. The rights will expire in 10 years.

Basis of Presentation:

The interim condensed consolidated financial statements of Comarco included herein have been prepared without audit in accordance with generally accepted accounting principles for interim information and with the instructions for Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. The Company believes that the disclosures are adequate to make the information presented not misleading when read in conjunction with the audited consolidated financial statements included in the Company’s annual report on Form 10-K for the year ended January 31, 2003. The financial information presented herein reflects all adjustments, consisting only of normal recurring accruals, which are, in the opinion of management, necessary for a fair presentation of the results for the interim periods presented. The results for the three and six months ended April 30,July 31, 2003 are not necessarily indicative of the results to be expected for the year ending January 31, 2004.

Stock-Based Compensation:

The Company grants stock options for a fixed number of shares to employees with an exercise price equal to the fair value of the shares at the date of grant. The Company accounts for stock option grants using the intrinsic value method in accordance with Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees” and FASB Interpretation No. 44 (“FIN 44”), “Accounting for Certain Transactions Involving Stock-Based Compensation, an Interpretation of APB Opinion No. 25” and related interpretations in accounting for its stock-based compensation plans. The Company has adopted the disclosure-only provisions of SFAS No. 123, “Accounting for Stock-Based Compensation.” Accordingly, no compensation expense ishas been recognized for the stock option grants. Had compensation cost for the Company’s stock option plans been determined based on the fair value at the grant date for awards during the quartersthree and six months ended April 30,July 31, 2003 and 2002 consistent with the provisions of SFAS No. 123, the Company’s Net Loss, Basic Loss Per Share, and Diluted Loss Per Share would have been reduced to the pro forma amounts as follows:follows (in thousands, except per share amounts):

COMARCO, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(UNAUDITED)

The fair value of options granted under the Company’s stock option plans during the six months ended July 31, 2003 and 2002 were estimated on the date of grant using the Black-Scholes option-pricing model utilizing the following weighted average assumptions:

Principles of Consolidation:

The condensed consolidated financial statements of the Company include the accounts of Comarco, Inc., CWT, and wholly owned subsidiaries primarily reported as discontinued operations. All material intercompany balances, transactions, and profits have been eliminated.

Use of Estimates:

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenue and expenses during the period reported. Actual results could differ from those estimates.

Certain accounting principles require subjective and complex judgments to be used in the preparation of financial statements. Accordingly, a different financial presentation could result depending on the judgments, estimates, or assumptions that are used. Such estimates and assumptions include, but are not specifically limited to, those required in the valuation of long-lived assets, allowance for doubtful accounts, and valuation allowances for deferred tax assets.

Reclassifications:

Certain prior period balances have been reclassified to conform to the current period presentation.

In June 2002, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 146, “Accounting for Exit or Disposal Activities.” SFAS No. 146 addresses the recognition, measurement, and reporting of costs associated with exit and disposal activities, including restructuring activities. SFAS No. 146 also addresses recognition of certain costs related to terminating a contract that is not a capital lease, costs to consolidate facilities or relocate employees and termination of benefits provided to employees that are involuntarily terminated under the terms of a one-time benefit arrangement that is not an ongoing benefit arrangement or an individual deferred compensation contract. SFAS No. 146 is effective for exit or disposal activities that are initiated after December 31, 2002. The Company adopted the provisions of SFAS No. 146 as of

COMARCO, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(UNAUDITED)

activities that are initiated after December 31, 2002. The Company adopted the provisions of SFAS No. 146 as of February 1, 2003, and such adoption hasdid not hadhave a material effect on the Company’s consolidated results of operations or financial position.

In October 2002, the Emerging Issues Task Force (“EITF”) issued EITF Issue No. 00-21, “Revenue Arrangements with Multiple Deliverables.” The EITF indicated that this guidance is effective for revenue arrangements entered into in fiscal periods beginning after June 15, 2003. The provisionsadoption of EITF Issue No. 00-21 aredid not expected to have a material effect on the Company’s consolidated results of operations or financial position because the Company’s qualifying arrangements are treated in a manner consistent with the stated provisions.

In November 2002, the FASB issued Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness to Others, an interpretation of FASB Statements No. 5, 57 and 107 and a rescission of FASB Interpretation No. 34.34 (“FIN No. 45”).” This InterpretationFIN No. 45 elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under guarantees issued. The InterpretationFIN No. 45 also clarifies that a guarantor is required to recognize, at inception of a guarantee, a liability for the fair value of the obligation undertaken. The initial recognition and measurement provisions of the InterpretationFIN No. 45 are applicable to guarantees issued or modified after December 31, 2002. The Company adopted the disclosure provisions of the InterpretationFIN No. 45 effective February 1, 2003. WhileSuch adoption did not have a material impact on the Company has various indemnity obligations included in contracts entered into in the normal courseCompany’s consolidated results of business, the obligations are primarily in the form of indemnities that could result in increases in future costs but do not represent significant commitmentsoperations or contingent liabilities of the indebtedness of others.financial position.

In December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure, an amendment of FASB Statement No. 123.” SFAS No. 148 amends SFAS No. 123, “Accounting for Stock-Based Compensation,” to provide alternative methods of transition for a voluntary change to the fair value method of accounting for stock-based employee compensation. In addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in both annual and interim financial statements. Certain of the disclosure modifications are required for fiscal years ending after December 15, 2002 and are included in the notes to the accompanying condensed consolidated financial statements.

In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities, an interpretation of ARB No. 51.51 (“FIN No. 46”).” This InterpretationFIN No. 46 addresses the consolidation by business enterprises of variable interest entities as defined in the Interpretation. The InterpretationFIN No. 46 applies immediately to variable interests in variable interest entities created after January 31, 2003, and to variable interests in variable interest entities obtained after January 31, 2003. The application of this Interpretation isFIN No. 46 did not expected to have a material effect on the Company’s consolidated results of operations or financial position. The Interpretation requires certain disclosures in financial statements issued after January 31, 2003 if it is reasonably possible that we will consolidate or disclose information about variable interest entities when the Interpretation becomes effective. The Company has no variable interest entities whichthat would require disclosure or consolidationsconsolidation under this Interpretation.FIN No. 46.

In April 2003, FASB issued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” SFAS No. 149 (1) clarifies under what circumstances a contract with an initial net investment meets the characteristic of a derivative discussed in paragraph 6(b) of Statement 133, (2) clarifies when a derivative contains a financing component, (3) amends the definition of an underlying to conform it to language used in FIN 45, and (4) amends certain other existing pronouncements, which will collectively result in more consistent reporting of contracts as either derivatives or hybrid instruments. SFAS No. 149 is effective for contracts and hedging relationships entered into or modified after June 30, 2003. The adoption of SFAS No. 149 did not have a material impact on the Company’s consolidated financial statements as the Company has not entered into any derivative or hedging transactions.

In May 2003, FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” SFAS No. 150 establishes standards for how an issuer classifies and

COMARCO, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(UNAUDITED)

measures certain financial instruments with characteristics of both debt and equity and requires an issuer to classify the following instruments as liabilities in its balance sheet:

SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003 and is effective for all other financial instruments as of the first interim period beginning after June 15, 2003. SFAS No. 150 is to be implemented by reporting the cumulative effect of a change in accounting principle. The Company does not expect the adoption of SFAS No. 150 will have a material impact on its consolidated financial statements.

During 1992, our Board of Directors authorized a stock repurchase program of up to 3.0 million shares of the Company’s common stock. From program inception through April 30,July 31, 2003, the Company has repurchased approximately 2.6 million shares for an average price of $8.22 per share. During the firstsecond quarter ended April 30,July 31, 2003, the Company repurchased 22,2003,640 shares of common stock in the open market for an average price of $7.65$7.32 per share.

In cooperation with the Consumer Products Safety Commission, on March 20, 2003, Comarco voluntarily initiated a product safety recall of certain of its ChargeSource AC power adapters. This product safety recall impacts

COMARCO, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(UNAUDITED)

approximately 125,000 units that were sold in fiscal 2003. Comarco and Targus Group International (“Targus”), the Company’s exclusive distributor of ChargeSource products, entered into an agreement to address the impact of the recall action. Under the terms of the agreement Comarco issued a $3.2 million credit to Targus in fiscal 2003 in consideration of a full release. Additionally, the Company accrued $554,000 in costs related to the recall action.

The following table presents a reconciliation of the use of the product recall accrual (in thousands):

The product recall liability is included in accrued liabilities in the accompanying condensed consolidated balance sheets. The Company believes that the balance remaining as of April 30,July 31, 2003 is adequate to cover additional product recall costs expected to be incurred.paid.

COMARCO, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(UNAUDITED)

Additionally, of the $3.2 million credit issued to Targus in the fourth quarter of fiscal 2003, returns totaling $1.3$1.9 million have been madereceived from Targus through April 30,July 31, 2003.

The Company calculates net incomeearnings (loss) per share in accordance with SFAS No. 128, “Earnings Per Share.” Under SFAS No. 128, basic net incomeearnings (loss) per share is calculated by dividing net income (loss) by the weighted-average number of common shares outstanding during the reporting period. Diluted net incomeearnings (loss) per share reflects the effects of potentially dilutive securities. Since the Company incurred a net loss for the first quarterthree and six months ended April 30,July 31, 2003 and April 30,July 31, 2002, basic and diluted net loss per share were the same because 24,889the inclusion of potential common shares in the calculation would have been antidilutive.

Potential common shares of 24,339 and 58,789 dilutive securities, respectively, were not included because24,731 have been excluded from diluted weighted average common shares for the three and six months ended July 31, 2003, as the effect would have been antidilutive. Similarly, potential common shares of 39,300 and 49,463 have been excluded from diluted weighted average common shares for the three and six months ended July 31, 2002, as the effect would have been antidilutive.

The following tables presenttable presents reconciliations of the numerators and denominators of the basic and diluted loss per share computations for net loss. In the tables below, “Net Loss”“Loss” represents the numerator and “Shares” represents the denominator (in thousands, except per share amounts):

COMARCO, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(UNAUDITED)

Inventory consists of the following (in thousands):

COMARCO, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(UNAUDITED)

Inventories are net of write downs for excess and obsolete inventory of approximately $2.3 million and $2.6 million as of July 31, 2003 and January 31, 2003, respectively. The Company regularly reviews inventory quantities on hand and records a write down for excess and obsolete inventory based primarily on historical usage, forecasted product demand, and production requirements for the next twelve months.

SoftwareCapitalized software development costs consist of the following (in thousands):

CapitalizedAmortization of software development costs for the quartersthree months ended April 30,July 31, 2003 and 2002 totaled $0.8$0.7 million and $1.1$1.2 million, respectively. For the six months ended July 31, 2003 and 2002, amortization of software development costs totaled $1.2 million and $2.1 million, respectively. Amortization of software development costs for the quarters ended April 30, 2003 and 2002 totaled $478,000 and $906,000, respectively, and havehas been reported in cost of revenue in the accompanying condensed consolidated financial statements.

Additionally, during the first quarter of fiscal 2004, fully amortized software development costs totaling $3.2 million and the corresponding accumulated amortization were retired.

Goodwill and acquired intangible assets consist of the following (in thousands):

Amortization of definite liveddefinite-lived acquired intangible assets for the quartersthree months ended April 30,July 31, 2003 and 2002 totaled $38,000 and $88,000, respectively. Amortization of definite-lived acquired intangible assets for the six months ended July 31, 2003 and 2002 totaled $77,000 and $176,000, respectively. The Company ceased amortizing goodwill beginning February 1, 2002 upon adoption of SFAS No. 142.

The Company’s sales have historically been concentrated with a small number of customers. During the three months ended July 31, 2003 and 2002, sales to customers that accounted for 10 percent or more of revenues for the period totaled $2.0 million and $4.6 million, respectively. Sales to Targus accounted for approximately 11 percent and 34 percent of total revenue for the three months ended July 31, 2003 and 2002, respectively. During the three months ended July 31, 2003, two

COMARCO, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(UNAUDITED)

customers in addition to Targus accounted for approximately 10 percent and 14 percent of total revenue for the second quarter. For the three months ended July 31, 2002, one customer in addition to Targus accounted for approximately 12 percent of total revenue.

For the six months ended July 31, 2003 and 2002, sales to customers that accounted for 10 percent or more of revenue for the period totaled $2.2 million and $6.7 million, respectively. Sales to Targus accounted for approximately 18 percent and 38 percent of total revenues during those periods, respectively. For the six months ended July 31, 2003 and 2002, no other customer constituted more than 10 percent of revenue.

As of July 31, 2003, approximately 30 percent of total accounts receivable related to one customer that accounted for 10 percent or more of Comarco’s total revenue. The loss of, or reduction in, sales to any of these customers could have a material adverse effect on the Company’s business, results of operations, and financial position.

The Company has two reportable operating segments: wireless test solutions and wireless applications.

Wireless test solutions designs and manufactures hardware and software tools for use by wireless carriers, equipment vendors, and others. Radio frequency engineers, professional technicians, and others use these tools to design, deploy, and optimize wireless networks, and to verify the performance of the wireless networks once deployed.

Wireless applications designs and manufactures call box systems and mobile power products for notebook computers, cellular telephones, PDAs, and other handheld devices. Call box systems provide emergency communication over existing wireless networks. In addition to the call box products, the Company provides system installation and long-term maintenance services. Currently, approximately 14,000 CWT call boxes are installed, the majority of which are serviced and maintained under long-term agreements, which expire at various timesdates through February 2011.

Performance measurement and resource allocation for the reportable segments are based on many factors. The primary financial measures used are revenue and gross profit. The revenue, gross profit, gross margin, and total assets attributable to these segments are as follows (in thousands):

Revenue by geographic area consistedconsists of the following (in thousands):

COMARCO, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(UNAUDITED)

Purchase Commitments with Suppliers

We generally issue purchase orders to our suppliers with delivery dates from four to six weeks from the purchase order date. In addition, we regularly provide significant suppliers with rolling six-month forecasts of material and finished goods requirements for planning and long-lead time parts procurement purposes only. We are committed to accept delivery of materials pursuant to our purchase orders subject to various contract provisions which allow us to delay receipt of such order or allow us to cancel orders beyond certain agreed lead times. Such cancellations may or may not include cancellation costs payable by us. In the past, we have been required to take delivery of materials from our suppliers that were in excess of our requirements and we have previously recognized charges and expenses related to such excess material. If we are unable to adequately manage our suppliers and adjust such commitments for changes in demand, we may incur additional inventory expenses related to excess and obsolete inventory. Such expenses could have a material adverse effect on our business, results of operations, and financial position.

Legal Contingencies

Comarco was named as a defendant in two lawsuits filed by Mobility Electronics, Inc. (“Mobility”), and subsequently the Company filed two actions against Mobility and affiliates as further discussed below.

Mobility commenced proceedings for patent infringement against the Company and CWT with respect to CWT’s ChargeSource power supply products (the “Mobility Action”). The Company was first served with Mobility’s amended complaint on August 10, 2001. In addition to asserting that the Company and CWT have infringed a Mobility patent, the amended complaint seeks declaratory judgment that three of CWT’s power-supply related patents are either invalid or not infringed by power supplies produced or to be produced by Mobility. The Company and CWT moved for dismissal of the amended complaint in its entirety. The motion was denied, but the Court indicated that based on the results of discovery the Court may grant a renewed motion to dismiss the declaratory judgment claim. The Company and CWT believe that they have meritorious defenses with respect to Mobility’s patent and declaratory judgment causes of actions.

On June 21, 2002, CWT filed an action for patent infringement against the Xtend Micro Products, Inc. (“Xtend”) and its parent entity, iGo Corporation (“iGo”). CWT alleges that certain patents owned by CWT are infringed by Xtend’s PowerXtender^™ and AC Adapter power supply products as well as other power supply and power adapter products and related accessories. On July 15, 2002, Xtend and iGo answered the complaint denying the allegations in CWT’s complaint and asserting a number of affirmative defenses. Xtend and iGo have indicated in court filings that they will seek to have this case transferred to and consolidated with the Mobility Action because this case involves two of the patents involved in the Mobility Action, and Mobility and iGo have recently merged into a single corporate entity. CWT believes that its case against Xtend and iGo is meritorious and that CWT has valid grounds for opposing any motion to consolidate this case with the Mobility Action that may be filed by Xtend and/or iGo.

COMARCO, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(UNAUDITED)

On January 31, 2003, CWT filed an action for patent infringement against Mobility Electronics, Inc., Hipro Electronics Co. Ltd., and iGo Corporation with regard to a universal power adapter called “Juice.” Defendant Hipro manufactures Juice for Mobility, which in turn offers it for sale through its wholly owned subsidiary iGo Corporation. On February 27, 2003, Mobility and iGo answered the complaint while Hipro filed a motion to dismiss based on lack of personal jurisdiction and improper service.

On March 4,Effective July 12, 2003, CWT filed a Motion for Preliminary Injunction seekingall the parties to enjoin Mobility, Hipro, and iGo from making, using, selling or offering for sale the “Juice” product. The Court has set a June 11, 2003 hearing date for both CWT’s Motion for Preliminary Injunction and Hipro’s Motion to Dismiss. The parties participated inall three actions entered into a settlement conference before a United States Magistrate Judge on May 20, 2003 without reaching a settlement.

agreement. All three actions are being dismissed. Under the terms of the settlement agreement, the Company was not required to make any payment. Mobility and CWT believes that its case against Mobility, Hipro,cross-licensed certain patent rights related to powering electronic devices, including certain patent rights relating to automatic programmability and iGo Corp is meritorious. As described above, this action has been consolidated for purposes of discovery with the Mobility Arizona Action.combination AC/DC capability.

Los Angeles County Service Authority for Freeway Emergencies (“LASAFE”) filed an action against CWT on June 10, 2002, relating to two contracts between LASAFE and CWT concerning call box systems manufactured by CWT, upgraded by CWT to comply with the Americans with Disabilities Act (“ADA”), and maintained by CWT until its contractual obligations to provide maintenance expired. On August 2, 2002, LASAFE filed a first amended complaint. The complaint includes eight counts. In the first five counts LASAFE alleges CWT breached its contractual obligations and implied warranties by failing to properly maintain and repair the call box systems and failing to provide certain deliverables to LASAFE. In the last three counts LASAFE alleges that a patent owned by CWT should be assigned to LASAFE, and CWT should compensate LASAFE because an LASAFE employee is the true inventor of the invention claimed in the patent. The complaint seeks an unspecified amount of actual and punitive damages, ownership of the patent, an order that CWT specifically perform its obligations under the contracts, recovery of attorneys fees, and an audit to determine the number of allegedly infringing call boxes.

COMARCO, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(UNAUDITED)

On August 16, 2002, CWT filed an answer and a motion to dismiss the first five counts founded in state contract and warranty law on the grounds that the Federal District Court lacks jurisdiction over the state law claims, which was subsequently granted. The Court has set a scheduling order and has set a trial date of February 3, 2004. CWT believes that it has meritorious defenses with respect to all of LASAFE’s claims.

On November 7, 2002, LASAFE filed a complaint in state court alleging the five causes of action that were dismissed in the federal court action referenced in the above paragraph.action. Specifically, LASAFE alleges that CWT breached its contractual obligations and implied warranties by failing to properly maintain and repair the call box systems and failing to provide certain deliverables to LASAFE, and seeks over $1 million in damages. On January 9, 2003, CWT filed its answer and a cross-complaint asserting causes of action for breach of contract and breach of the implied covenant of good faith and fair dealing based on LASAFE’s failure to pay CWT all monies due under a contract with LASAFE and LASAFE’s conduct during the course of the contract.

On June 3, 2003, the parties mediated the disputes involved in the federal and the state actions and reached a tentative settlement agreement. The LASAFE board approved such a settlement, the parties are currently working on drafting the formal settlement agreement, and the federal and state cases have been stayed. The estimated cost of the proposed settlement has been recorded as cost of revenue and did not yet respondedhave a material impact on the Company’s consolidated results of operations and financial position. No additional costs are expected to CWT’s cross-complaint.be incurred.

In February 2003, Steven C. Dixon filed suit against Circuit City Stores, Inc.; Belkin Corporation; Targus, Inc.; and Tecnozone Enterprises, LLC. The Court has set a trial date of April 5, 2004. CWT believescomplaint alleged that it has meritorious defensespower supply products supplied to LASAFE’s claimsCircuit City for resale by Belkin, Targus, and believes that LASAFE will have significant difficulties proving causationTecnozone infringed United States Patent No. 6,064,177 (the ‘177 patent). ChargeSource power supply products supplied to Targus by Comarco Wireless Technologies, Inc. were among the products at issue. In June 2003, this case was settled and damages on its claims for breach of implied warranties.dismissed with prejudice. No additional costs related to this matter are expected be incurred.

The Company is from time to time involved in various legal proceedings incidental to the conduct of our business. We believe that the outcome of all other such pending legal proceedings will not in the aggregate have a material adverse effect on our results of operations and financial condition and operating results.position.

ITEM 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis should be read in conjunction with the condensed consolidated financial statements and notes thereto included elsewhere in this quarterly report on Form 10-Q. This report contains forward-looking statements. These statements relate to future events or our future financial performance. In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “potential” or “continue,” the negative of such terms, or other comparable terminology. These statements are only predictions. Actual events or results may differ materially. Important factors which may cause actual results to differ materially from the forward-looking statements are described in the section entitled “Risk Factors” in Part I, Item 1 of the our report on Form 10-K for the year ended January 31, 2003, and other risks identified from time to time in our filings with the Securities and Exchange Commission, press releases, and other communications.

Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance, or achievements. Moreover, neither any other person nor we assume responsibility for the accuracy and completeness of the forward-looking statements. We undertake no obligation to revise or update publicly any forward-looking statements for any reason.

Overview

Comarco, Inc., through its subsidiary Comarco Wireless Technologies, Inc. (collectively, “Comarco,” or the “Company”), is a leading provider of field test applications for the wireless industry. Comarco also designs and manufactures emergency call box systems and mobile power products for notebook computers, cellular telephones, PDAs, and other handheld devices. During October 1999, we embarked on a plan to divest our non-wireless businesses, which included the defense and commercial staffing businesses. The divestiture plan was completed during November 2000. Accordingly, our continuingOur operations consist solely of the operations of Comarco Wireless Technologies, Inc. (“CWT”).

Results of Operations – Continuing Operations

We have two reportable operating segments: wireless test solutions and wireless applications.

Wireless Test Solutions

Our wireless test solutions business designs and manufactures hardware and software tools for use by wireless carriers, equipment vendors, and others. Radio frequency engineers, professional technicians, and others use these field test applications to design, deploy, and optimize wireless networks, and to verify the performance of the wireless networks once deployed. The downturn in the wireless industry has reduced overall demand for our wireless test solutions products, and continues to make it difficult for us to forecast our wireless test solutions operations for fiscal 2004.

During the first half of fiscal 2004, we completed the development of our Seven.Five hardware and various related software applications, and have begun shipping products to customers in Europe, North America and Latin America. Seven.Five is a mobile test platform that is adaptable to many test applications. It provides wireless infrastructure analysis, benchmarking and optimization for 2G, 2.5G and 3G network deployments. We expect to complete the development of additional Seven.Five software applications during the second half of fiscal 2004.

The Seven.Five family consists of the following members:

Wireless Applications

Our wireless applications business designs and manufactures emergency call box systems and mobile power products for notebook computers, cellular telephones, PDAs, and other handheld devices. Our call box products provide emergency communication over existing wireless networks. In addition to the call box products, we provide system installation and long-term maintenance services. Currently, we have approximately 14,000 call boxes installed, the majority of which are serviced and maintained under long-term agreements.agreements, which expire at various dates through February 2011.

Approximately 75 percent of our call box revenue is derived from agencies of California’s state and local governments. The State of California is currently experiencing financial and political challenges. We believe these challenges have created uncertainty with respect to the spending patterns of our California based customers. As a result, projects and the related contracts to upgrade and expand certain call box systems have been delayed. While we currently believe that these projects will move ahead, we are unable to forecast the timing of such events in the near-term.

The wireless applications business also includes the ChargeSource family of mobile power products. Our currentDuring the second quarter of fiscal 2004, our offering of ChargeSource products consistwas expanded with the release of a 70-wattthe 120-watt universal AC powerAC/DC adapter our second-generation mobile power system.and the 120-watt universal DC adapter. By simply changing the compact SmartTips connected to the end of the charging cable, the

universal AC power adapter isthese products are capable of charging and powering multiple target devices, including most notebook computers, cellular telephones, PDAs, and other handheld devices. During the third quarter of fiscal 2002, the ChargeSource product offering was expanded with the introduction of the 70-watt universal DC power adapter. This universal DC power adapter allows traveling professionals to use all their existing ChargeSource SmartTips on the road or in the air. This device connects to the in-seat power outlet available on most major airlines or the cigarette lighter plug found in automobiles. Targus Group International (“Targus”) currently distributes both of these products.

Until recently, most current notebook computers required no more than 70 watts of power to operate. However, the personal computer industry is currently transitioning to notebook computers with increasing power requirements. As the power requirement increases, so does the size of the original equipment of the manufacturer (“OEM”) AC charger sold with the notebook computer. To address this industry wide trend, we have developed a family of ChargeSource products that are compatible with all legacy and current and future notebook computers.computers, as well as those notebook computers expected to be available during the next 18 months. These

new ChargeSource products are able to deliver up to 120 watts of power in a very small form factor. The new ChargeSource family of products which are expectedconsists of the following:

Our new 120-watt ChargeSource products, as well as the universal battery are compatible with existing Smart Tips and are backwards compatible with the 70-Watt adapters.adapters, which we continue to manufacture and sell based on the requirements of the retailers. Targus Group International (“Targus”) currently distributes our available products.

In cooperation with the Consumer Products Safety Commission, on March 20, 2003, Comarco voluntarily initiated a product safety recall of its legacy ChargeSource 70-watt AC power adapters. This product safety recall impacts approximately 125,000 units that were sold in fiscal 2003. Comarco and Targus entered into an agreement to address the impact of the recall action. Under the terms of the agreement Comarco issued a $3.2 million credit to Targus in fiscal 2003 in consideration of a full release. Additionally, the Company accrued $554,000 in costs related to the recall action.

Of the $3.2 million credit issued to Targus in the fourth quarter of fiscal 2003, returns totaling $1.3$1.9 million have been madereceived from Targus through April 30,July 31, 2003. Additionally, of the Company accrued $554,000 in costs accrued related to the recall the Company has paid $39,000action in related costs through April 30, 2003.cost of revenue. The Company believes that the balance remaining as of April 30,July 31, 2003 of $305,000, is adequate to cover additional product recall costs expected to be incurred.

The following table sets forth certain items as a percentage of revenue from our condensed consolidated statements of operations for the three and six months ended April 30,July 31, 2003 and 2002. The table and discussion that follows provides information which management believes is relevant to an assessment and understanding of our condensed consolidated results of operations and financial condition. The discussion should be read in conjunction with the condensed consolidated financial statements and accompanying notes thereto included elsewhere herein.

(continued) 

		Three Months Ended July 31,						Six Months Ended July 31,
		2003			2002			2003			2002
Selling, general and administrative costs		62.2			23.9			48.0			26.6
Asset impairment charge		—			84.0			—			47.3
Engineering and support costs		25.9			13.0			24.8			15.3
Operating loss		(66.1	)		(93.0	)		(41.8	)		(57.8	)
Other income, net		1.1			0.9			1.4			1.1
Minority interest		0.5			0.7			0.4			0.4
Loss before income taxes		(64.5	)		(91.4	)		(40.0	)		(56.3	)
Income tax benefit		(23.7	)		(24.2	)		(14.4	)		(15.4	)
Net loss before cumulative effect of change in accounting principle		(40.8	)%		(67.2	)%		(25.6	)%		(40.9	)%