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SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-K

FOR ANNUAL AND TRANSITION REPORTS

PURSUANT TO SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2003 or

For the transition period from              to            

Commission file number 0-20270

SAFLINK CORPORATION

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (425) 278-1100

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

None

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

Common Stock, $.01 par value per share

(Title of Class)

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  ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  ¨

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934).  Yes  ¨  No  x

The aggregate market value of the registrant’s common stock held by non-affiliates was approximately $62,020,334, based upon the last sale price reported for the common stock of the registrant on the Nasdaq SmallCap Market on June 30, 2003, being the last trading day of the registrant’s most recently completed second fiscal quarter. Shares of common stock of the registrant held by each officer, director and holder of 5% or more of the outstanding common stock have been excluded from this calculation in that such persons may be deemed to be affiliates. Share ownership information of certain persons known by the registrant to own greater than 5% of the outstanding common stock for purposes of this calculation is based solely on information on Schedule 13D or 13G filed with the Securities and Exchange Commission and is as of June 30, 2003. The determination of affiliate status is not necessarily a conclusive determination for other purposes.

There were 31,332,453 shares of the registrant’s common stock outstanding as of March 19, 2004.

DOCUMENTS INCORPORATED BY REFERENCE

The information required by Part III of this Report, to the extent not set forth herein, is incorporated herein by reference from the registrant’s definitive proxy statement relating to the registrant’s 2004 annual meeting of stockholders.

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PART I

Certain statements in this Annual Report on Form 10-K constitute forward-looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995, that are not historical facts but rather reflect our current expectations concerning future results and events. Words such as “believe,” “expect,” “intend,” “plan,” “anticipate,” “likely,” “will,” “may,” “shall” and similar expressions are intended to identify such forward-looking statements. Such forward-looking statements involve known and unknown risks, uncertainties and other important factors that could cause the actual results, performance or achievements of our company (or entities in which we have interests), or industry results, to differ materially from historical results or 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 reflect management’s view only as of the date of this Annual Report on Form 10-K. These forward-looking statements include, without limitation, statements regarding our expectations and beliefs about the market and industry, our goals, plans, and expectations regarding our products and services and product development, our intentions and strategies regarding customers and customer relationships, our relationships with the software development community, our intent to continue to invest resources in research and development, our intent to develop relationships and strategic alliances, our beliefs regarding the future success of our products and services, our expectations and beliefs regarding competition, competitors, the basis of competition and our ability to compete, our beliefs regarding trademark and copyright protections, our beliefs and expectations regarding infringement claims, our beliefs regarding the development of industry standards, our expectations and beliefs regarding our ability to hire and retain personnel, our beliefs regarding period to period results of operations, our expectations regarding future growth and financial performance, our expectations regarding licensing arrangements and our revenue, our expectations and beliefs regarding revenue and revenue growth, our expectations regarding our strategies and long-term strategic relationships, our expectations regarding defects in products, our expectations regarding fluctuations in revenue and operating results, our beliefs and expectations regarding our existing facilities and the availability of additional space in the future, our intent to use all available funds for the development and the operation of our business and not to declare or pay any common stock cash dividends, our expectations regarding software development costs, our beliefs and expectations regarding our results of operations and financial position, our beliefs regarding estimates in valuing in-process research and development, our intentions and expectations regarding deferred tax assets, our beliefs and expectations regarding liquidity and capital resources and that cash flow from existing operations, existing cash, cash equivalents and short-term investments will be sufficient to meet our cash requirements for the foreseeable future, and our expectations regarding the impact of recent accounting pronouncements and revenue recognition matters. These statements are subject to risks and uncertainties that could cause actual results and events to differ materially from those anticipated. These risks and uncertainties include without limitation those identified in the section of this Annual Report on Form 10-K entitled “Risk Factors That May Affect Future Results” below. In addition, these forward looking statements are subject to risks and uncertainties associated with the possibility that the merger we announced on March 23, 2004, with SSP Solutions, Inc. may not close, the failure of the combined company to retain key employees, the failure of the combined company to manage the cost of integrating the businesses of SAFLINK and SSP-Solutions, successful integration of the acquired business, technology and employees and the realization of anticipated benefits of the transaction, risks associated with the rapidly evolving market for biometric solutions and our products and services, general economic conditions, the pace of spending and timing of economic recovery in the biometric and smart card industries, the combined company’s inability to sufficiently anticipate market needs and develop products and product enhancements that achieve market acceptance, higher than anticipated expenses the combined company may incur in future quarters. We undertake no obligation to publicly release the result of any revisions to these forward-looking statements, which may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events, conditions or circumstances.

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As used in this Annual Report on Form 10-K, unless the context otherwise requires, the terms “we,” “us,” “the Company,” and “SAFLINK” refer to SAFLINK Corporation, a Delaware corporation, and its subsidiaries.

Overview

SAFLINK Corporation offers software solutions that protect intellectual property, secure information assets, control access to physical facilities, and eliminate passwords. SAFLINK’s Secure Authentication Framework^™ (SAF^™) software provides Identity Assurance Management^™, allowing administrators to verify the identity of users and control their access to: computer networks; physical facilities; applications; event tracking systems; and time and attendance systems. We develop application software and resell hardware and device control software from leading manufacturers of biometric hardware devices. Our products may be used to protect business and personal assets and to replace passwords, keys, and personal identification numbers (PINs) in order to safeguard and simplify access to electronic systems, buildings, and secure areas. Biometric technologies automatically identify computer users by electronically capturing a specific biological or behavioral characteristic of that individual, such as a fingerprint, iris pattern, voiceprint or facial feature, creating a unique digital identifier from that characteristic and then comparing it against a previously created and stored digital identifier. Because this process relies on largely unalterable human characteristics, it is both highly secure and highly convenient for the individual seeking access.

The process of identity authentication typically requires that a person present for comparison one or more of the following factors:

Comparison of biological and behavioral characteristics has historically been the most reliable and accurate of the three factors, but has also been the most difficult and costly to implement given the complex nature of enterprise computer systems. However, recent advances in the development of integrated biometric software solutions, reduced cost of biometric devices, and the emergence of recognized industry standards to connect biometric components to applications have reduced the cost of implementing biometrics in commercial environments. We believe that government and private sector organizations will increasingly use this method of identity authentication because of the level of security and user convenience it provides and the reduced cost of password administration associated with such a security system.

Our software products are designed for large-scale and complex computer networks, facilities, and manufacturing automation systems, and allow users seeking access or performing transactions to be identified using various biometric technologies. Our products comply with recognized industry standards, which allow us to integrate a large variety of biometric technologies within a common application environment without costly development related to each technology. Our products also provide our customers with the flexibility to deploy a mixture of different biometric technologies within their network to meet specific user and environmental requirements while providing protection against technology obsolescence since new devices can be added to, or upgraded within, the system without replacing or modifying the underlying biometric network support infrastructure.

In December 1997, SAFLINK and the National Security Agency (NSA) jointly introduced and demonstrated the Human Authentication Application Programming Interface, or HA-API. HA-API was the first definition of a standard way to allow software developers and biometric technology suppliers to build their products using a uniform method for connecting many different biometric devices to computer systems. HA-API was developed by SAFLINK under a contract from the NSA and was subsequently released into the public

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domain as a proposed biometric interoperability standard. HA-API subsequently evolved into a standard called BioAPI. BioAPI was recognized by the American National Standards Institute (ANSI) in February 2002, and has been designated as ANSI/INCITS 358 BioAPI. This standard is now being considered for adoption by the International Organization for Standards (ISO) and ballot approval is expected to take place by the end of 2004 or early 2005. One of our employees serves as the elected Chair of the BioAPI Consortium that represents over 120 organizations that have collaborated to develop this new standard. We also support other related biometric standards efforts, including the Common Biometric Exchange File Format (CBEFF) specification and we intend to keep all of our products compliant with these standards as they continue to evolve.

We are positioning and promoting our Secure Authentication Facility, or SAF, brand in conjunction with selected biometric and other identification technologies currently available in the marketplace including those from:

Recent Developments

Merger Agreement with SSP-Litronic

On March 22, 2004, we entered into an agreement and plan of merger and reorganization with SSP Solutions, Inc., a Delaware corporation, dba SSP-Litronic (SSP-Litronic), and Spartan Acquisition Corporation, a Delaware corporation and wholly-owned subsidiary of SAFLINK, pursuant to which Spartan will merge with and into SSP-Litronic, with SSP-Litronic surviving as a wholly-owned subsidiary of SAFLINK. A copy of the merger agreement is attached to our current report on Form 8-K filed with the SEC on March 23, 2004, as Exhibit 2.1. In connection with the execution of the merger agreement, certain of our directors, executive officers and affiliates entered into stockholder agreements with SSP-Litronic in the form attached to our current report on Form 8-K filed with the SEC on March 23, 2004, as Exhibit 99.1, and certain of SSP-Litronic’s directors, executive officers and affiliates entered into stockholder agreements with us in the form attached to our current report on Form 8-K filed with the SEC on March 23, 2004, as Exhibit 99.2.

The merger is subject to the approval of each company’s stockholders, regulatory review, and other customary closing conditions. The transaction is intended to qualify as a tax-free transaction and is expected to close in the second or third quarter of 2004, depending on regulatory review.

Pursuant to the terms of the merger agreement, we will acquire all of the outstanding shares of SSP-Litronic in a stock-for-stock transaction where each share of SSP-Litronic common stock will be exchanged for 0.6 shares of our common stock. Given the current capital structures of both companies, it is anticipated that the security holders of SSP-Litronic would receive approximately 49% of the combined company’s outstanding fully-converted shares at closing and our security holders would continue to hold the remaining 51% of the combined company’s outstanding fully-converted shares at closing. The foregoing description of the merger does not purport to be complete and is qualified in its entirety by reference to the complete text of the merger agreement, which is filed as Exhibit 2.1 to our current report on Form 8-K filed with the SEC on March 23, 2004, and is

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incorporated herein by reference. Please refer to the exhibits referred to in Item 7 of that Form 8-K, and the joint press release issued by us and SSP-Litronic on March 22, 2004, attached as Exhibit 99.3 to our current report on Form 8-K filed with the SEC on March 23, 2004, announcing the signing of the merger agreement.

The new company will be led by a management team and board of directors selected from both companies. Richard P. Kiphart, formerly chairman of Memphis-based Concord EFS and a managing director of William Blair & Company, LLC investment banking firm will become chairman of the board of directors of the combined company. Glenn L. Argenbright, President and CEO of SAFLINK, will remain president and CEO of the combined company. Kris Shah, co-chairman and president of SSP-Litronic, will maintain his role as president of SSP-Litronic. Marvin Winkler, co-chairman and CEO of SSP-Litronic, will become the vice chairman of the board of directors and is expected to assist executive management with strategic initiatives. Other executive management positions and members of the board of directors will be designated prior to the closing of the transaction.

We intend to file a registration statement on Form S-4 in connection with the transaction, and we intend to mail a joint proxy statement/prospectus with SSP-Litronic to our respective stockholders in connection with the transaction. Our investors and security holders, as well as investors and security holders of SSP-Litronic, are urged to read the joint proxy statement/prospectus when it becomes available because it will contain important information about us, SSP-Litronic and the transaction. Investors and security holders may obtain a free copy of the joint proxy statement/prospectus (when it is available) at the SEC’s website at www.sec.gov. A free copy of the joint proxy statement/prospectus may also be obtained from us or from SSP-Litronic.

In addition to the registration statement on Form S-4 to be filed by us in connection with the transaction, and the joint proxy statement/prospectus to be mailed to our stockholders and to the stockholders of SSP-Litronic in connection with the transaction, SSP-Litronic files annual, quarterly and special reports, proxy and information statements, and other information with the SEC. We encourage you to read and copy any of these reports, statements and other information at the SEC’s web site at www.sec.gov., at SSP-Litronic’s website at www.sspsolutions.com.

Private Placement of Common Stock

On February 26, 2004, we raised approximately $9.2 million through a private placement of shares of our common stock. We sold a total of 3,080,000 shares of our common stock to a group of accredited institutional investors at a price of $3.00 per share. The placement agent for the financing was Burnham Hill Partners. The per share purchase price represented a discount of approximately 8.3% to the $3.27 per share closing sale price for shares of our common stock as reported on the Nasdaq SmallCap Market on February 25, 2004, the trading day prior to the closing of the financing. Investors also received warrants to purchase up to 1,232,000 additional shares of common stock. The warrants have a term of five years and an exercise price of $3.97 per share.

In connection with the financing, we have agreed to file a registration statement on Form S-3 with the Securities and Exchange Commission covering the resale of the shares of common stock issued in the financing and the shares of common stock underlying the warrants. We also granted a right of first refusal to investors to purchase their pro rata portion of securities issued by us to third parties for a period of 12 months following the closing of the financing, subject to certain excluded transactions.

Acquisition of Assets from Biometric Solutions Group

On December 29, 2003, we acquired certain assets and rights used in connection with the digital identity and biometric-enhanced physical access security business of Information Systems Support, Inc. (ISS) and Biometric Solutions Group, Inc. (BSG). We intend to integrate the acquired assets into our business operations and intend to continue the operation located in Charleston, South Carolina.

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We paid approximately $3.9 million for the acquired assets, which consisted of $500,000 in cash, 1,122,855 shares of our common stock, and $262,000 in direct acquisition fees. The value of the common stock we issued in connection with this transaction is based on the average closing price of our common stock as reported on the Nasdaq SmallCap Market for a period before and after the date of the acquisition. ISS and BSG have agreed not to sell the shares of common stock received in the transaction for a period of three years. We agreed to prepare and file with the Securities and Exchange Commission a registration statement covering the resale of the shares of common stock issued in connection with the transaction.

We determined the consideration for the acquisition through arms-length negotiation, and we paid the cash portion of the purchase price out of funds from our working capital. We had no material relationships with ISS or BSG, or any of their respective affiliates, directors or officers, or any associates of any such director or officer, prior to the acquisition transaction.

We acquired certain intellectual property, tangible assets and inventory in the transaction. In addition, we offered employment to certain employees of ISS in connection with the acquisition, including Robert L. Turbeville, Jr., a former senior vice president for ISS who now leads our physical access group. We did not acquire any known liabilities in the transaction.

At closing of the transaction, we placed approximately 46% of the purchase price, comprising 600,000 shares of our common stock, into an escrow for the purpose of securing the indemnification obligations of ISS and BSG under the purchase agreement. Subject to certain exceptions, 300,000 of the shares will remain in escrow for a period of one year from the closing date, and the balance of the shares will remain in escrow for a period of two years from the closing date, and in each case until all pending claims for indemnification, if any, have been resolved.

Available Information

We are headquartered at 777 108^th Ave NE Bellevue, WA 98004. We file reports with the Securities and Exchange Commission (SEC), including Annual Reports on Form 10-K, quarterly reports on Form 10-Q and other reports from time to time. The public may read and copy any materials we file with the SEC at the SEC’s public reference room at 450 Fifth Street, NW, Washington, DC 20549. The public may obtain information on the operation of the public reference room by calling the SEC at 1-800-SEC-0330. We are an electronic filer and the SEC maintains an Internet site at http://www.sec.gov that contains the reports, proxy and information statements, and other information filed electronically.

Our Internet site is http://www.saflink.com. We make available free of charge, on or through our website, our annual, quarterly and current reports, and any amendments to those reports, as soon as reasonably practicable after electronically filing such reports with the SEC. Information contained on our website is not part of this report.

Market Overview

As computer use migrates towards a networked environment, and our economy shifts towards information as a primary asset, individuals and organizations are becoming more concerned with protecting individual privacy and ensuring the security of information maintained on personal computers, the Internet, and corporate networks. Physical security for buildings and sensitive areas has also become a focal point in light of terrorism, workplace violence, and theft by employees of retail goods.

A number of technologies and strategies have been developed to address these concerns, including encryption methods, firewalls, intrusion detection tools, access permission systems, passwords, identification cards or tokens, magnetic stripe cards, digital certificates, and single sign-on applications. However, the

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effectiveness of each of these technologies and strategies is dependent upon the most critical and vulnerable component of the security process—positive personal identification and authentication of the individual seeking access. Since biometrics are based on the unique physical characteristic of each individual, they provide a superior means of identification.

With the growth of electronic commerce, access points to the Internet and corporate networks (which we sometimes refer to as enterprise networks) have increased significantly, and now include corporate desktops, home PCs, mobile laptops, and hand-held devices. Using passwords as the primary method of verifying the identity of remote users is subject to a number of security weaknesses. Passwords are frequently shared. Passwords are often written down and placed where others can see them. Common passwords like a user’s pet’s name or spouse’s name can be guessed. More complex passwords can be broken in minutes through sophisticated “dictionary” attacks based on tools that are easily available from Internet websites. Attempts to increase security by requiring complex passwords comprised of letters, numbers, and symbols are often met with significant resistance by employees. For large organizations, there is also a measurable cost of managing forgotten and expired passwords relating to administration overhead and lost employee productivity. Disgruntled or unethical employees also account for a large percentage of the increasing incidence of significant financial loss from unauthorized access to electronic data or files.

Traditional methods of controlling physical access to buildings and secure areas also have a number of disadvantages. PINs, magnetic stripe cards, and radio frequency badges, since they are based on something that is known or carried, can all be stolen, shared, and lost – each of which is a significant security vulnerability.

Time and attendance systems that utilize punch cards or time clocks are an additional concern for many organizations. The American Payroll Association estimates that between 7 and 12 percent of all time clock transactions are fraudulent, a result of “buddy punching” where an hourly employee is punched in (or out) by a coworker in order to increase his or her total number of hours worked. False overtime is often a significant expense for companies who pay a multiple of the standard hourly wage for overtime when employees deliberately extend their hours when not authorized to do so.

Organizations that perform computer-based electronic transactions, such as recording actions taken in a manufacturing process, the act of dispensing pharmaceuticals, or the process of approving electronic documents, need to have a simple and secure way of authenticating digital signatures. Biometrics can be a cost-effective means of providing positive proof of identity when auditing events or approving computer-based transactions. The resultant audit trail of events cannot be denied or repudiated by an individual if the events are inextricably linked to their unique biometric characteristics.

We believe that a sustainable market is developing for biometric technologies used in information security and data privacy applications. There are several factors that we believe will contribute to the growth of this industry:

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Quantifiable Business Benefits

In addition to replacing passwords with biometrics, our enterprise network security and physical access solutions provide a number of powerful benefits for customers regardless of the industry they occupy. At the highest level, our solutions are designed to ensure protection, security, and safety for a company’s computer network, facilities, and intellectual property. Specifically, these benefits include:

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Technical Features and Benefits

Our products also offer a number of technical features and benefits which help administrators, who are responsible for large-scale enterprise networks and facilities, easily deploy our products to their existing user bases and provide effective administration over the long term. Primary features include:

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Industry-Specific Value Proposition

While our products may not provide features or functionality that are different across industries, it is important that we position them differently to address the unique requirements and business drivers of vertical markets. There are a number of internal and external market drivers which are specific to individual industries. For this reason, we have focused our sales and marketing efforts on the following sectors:

Healthcare

One of the strongest market drivers in the healthcare industry is a broad series of government regulations, introduced by the Health Insurance Portability and Accountability Act of 1996 (HIPAA), designed to protect the privacy of patient data. These regulations specify that each healthcare organization must provide “irrefutable identification” of individuals accessing electronic patient information. Since biometric authentication is based on unique physical characteristics, it provides an effective solution to this problem—biometrics cannot be lost, borrowed or stolen. Multi-factor authentication is also a HIPAA requirement, which our products support through integration of unique user IDs, smart cards, tokens and RF badges.

Manufacturing

In the pharmaceutical manufacturing business, FDA regulations (21 CFR Part 11) dictate that individuals who are completing electronic forms relating to the various steps in researching, testing, or manufacturing an FDA regulated product must record their identity through a digital signature for any specific action. On the manufacturing floor, employees have to authenticate as many as 300 times a shift. Not only is this cumbersome, but it takes time. Time, in the pharmaceutical manufacturing business, can be very costly—every day that a company is delayed going to market with a new product can cost the company millions of dollars in lost revenue. Our system also helps to prevent loss of intellectual property, which is a severe problem in manufacturing environments. A recent study by the American Society for Industrial Security (ASIS) estimates that the average manufacturing company loses $50 million in intellectual property per year due to theft. Since the utilization of biometrics can save time and provide audit trails and proof of identity, our value proposition here is very compelling.

Financial Services

Title V of the Financial Services Modernization Act of 1999 highlights the obligation of financial services institutions to protect the security and confidentiality of customer nonpublic personal information. Our products provide a valuable tool to help these institutions fulfill their obligations to protect information in their databases against unauthorized access. The elimination of passwords can provide banks a higher level of access protection while also providing financial savings by eliminating the management of multiple passwords. In the case of one of our Fortune 100 financial services clients, brokers are accessing as many as 30 applications in a given day, each with a unique username and password. By using biometric authentication and a single sign-on solution, these brokers can now substitute one fingerprint for multiple passwords and improve their productivity while reducing password management costs.

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Government

Due in part to the increased recognition of the need for infrastructure security following 9/11, government agencies have been looking for a way to positively verify an individual’s identity. The use of biometric identification is being considered on a number of federal projects as a component of a broader identity management solution, often in conjunction with a smart card.

Interoperability is also a strong requirement in the government sector, since government agencies are often large and must accommodate a variety of individual and environmental requirements. We believe our standards-based approach to supporting multiple biometrics in a common software infrastructure addresses these concerns.

Education

In educational environments, IT administrators face several challenges, including students “borrowing” passwords from other students to surf undesirable Internet sites, delays in starting computer training classes due to password-related problems, and a constantly rotating end-user base. Since a biometric identifier is based on a physical characteristic and cannot be shared, lost, or stolen, it provides a reliable solution to these problems for students needing to access their work assignments and grades over the network.

Products

Our software products support a wide variety of biometric technologies and cards to improve security of workstations, computer networks, facilities and physical access points. Instead of being asked for a password, users are prompted for a unique biometric characteristic using any one of a number of biometric technologies. We design software that will work with a variety of biometric devices, including fingerprint readers, iris cameras, facial recognition cameras and microphones using speaker verification technology. Our products can be divided into two groups: computer access products and physical access products.

Computer Access Products:

Our enterprise products that are designed to operate in the computer network environment of large organizations include:

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Physical Access Products:

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Marketing and Distribution

We use both direct and indirect sales and marketing to market our products and services. Our sales staff focuses on selling our products to end-user customers primarily within the sectors of healthcare, manufacturing

education, government, and financial services in North America. Our channel management staff trains and supports our indirect distribution channel partners, who resell our products worldwide.

We market our products to potential customers across a wide range of general business sectors primarily through:

Our relationships with distributors, resellers, original equipment manufacturer resellers and sales agents are generally formalized in written contracts that address the specific products that can be sold, applicable pricing discounts and the geographic territory within which our products can be sold. Our strategic alliances are generally with companies that have formal “partner” programs. These companies generally publicize our status as an alliance partner on their web sites and in other publications and forums. Alliance partnerships can provide us with specific benefits such as:

Our marketing goals include identifying potential distributors and resellers of our products, creating awareness of our product offerings, generating leads for follow-on sales and achieving greater order volume by disseminating our products through multiple direct and indirect distribution channels worldwide.

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Some of our reseller partners combine our enterprise software with their own biometric technology and sell the combined product through their own sales channels. We also have relationships with international distributors that carry our products and make them available to a broader audience of secondary distributors and resellers within their markets. As a result, we face a number of risks inherent in doing business in international markets, including unexpected changes in regulatory requirements, potentially adverse tax consequences and export controls relating to encryption technology.

Our software products are typically priced on the basis of the number of users that have enrolled their biometric information into the central server database or directory. As the number of users increases, the software license price per user decreases. Resellers purchase our products at a favorable discount for resale at a price that provides an attractive gross margin for the reseller. We believe that this pricing model is competitive and cost-effective for the end-user customer and is attractive to our resellers.

Computer Access Products:

We intend to focus on promoting our enterprise network security products to take advantage of the growing awareness of the importance of protecting enterprise network infrastructures from unauthorized access. We have a team of business development and sales professionals who are located in various regions of the country. They focus their marketing efforts on high profile end-user customers. They also identify, recruit, train and support a network of distributors and resellers. Typically, these resellers are already selling enterprise network products that are based on Citrix, Computer Associates, Microsoft or Novell products, which our products are designed to complement. Our network of resellers often provides a range of additional services to their customers, including network component sales, network consulting, security consulting, systems installation, technical services and network management services.

We also sell our products alongside the sales organizations of our strategic alliance partners. We believe that our products complement theirs and fill a customer need that would not otherwise be met. We strive to leverage the existing sales organizations and reseller networks of these companies to achieve sales of our products at minimum expense. We work closely with each of these strategic alliance partners to support these joint sales efforts.

We intend to offer our SAFsolution Workstation product through biometric technology resellers, PC manufacturers and volume distributors that want to package this product with biometric technology to create a bundled product for their customers. We intend to market SAFsolution Workstation through the direct and traditional reseller channels as a basic offering. We believe this will provide a set of biometric authentication functions that can be utilized “out of the box” as a first step to deploy biometric authentication within an enterprise setting to create a bundled product for the customer. SAFsolution Workstation provides a straightforward upgrade path to the enterprise versions of our products.

Physical Access Products:

We intend to offer our physical access solutions primarily through our team of business development and sales professionals located in various regions of the country. We believe many of our current customers or prospects for network security could also be potential users of our physical access products, creating legitimate cross-selling opportunities for our sales force. We also intend to generate physical access leads through the use of tradeshows and other marketing events.

Technology Partnerships and Licensed Technology

Fifteen technology partners currently supply us with fingerprint-based hardware devices and algorithm software, which are used to capture a fingerprint image. The software that we develop allows our customers to use this fingerprint hardware and algorithm software to gain secure access to computer networks and workstations. Our technology partners’ products are packaged with ours into a single product for sale to our

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customers. Most of the business relationships with these companies can be characterized as manufacturer-to- reseller agreements. Most of the fingerprint device suppliers that we support have established no-cost software licensing arrangements with us. We are authorized to sell fingerprint readers or software provided by the following companies:

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We also resell iris recognition, voice verification and facial feature recognition software from various companies with which we have licensing arrangements. We bundle our technology partners’ recognition software into our own software products for sale to end-users. These license agreements are with the following companies:

We are not dependent on any of these licensing arrangements. Additionally, the bulk of our business relates to fingerprint technology and those relationships are primarily based on no-cost licensing arrangements.

We buy iris recognition camera hardware from Panasonic Security and Digital Imaging Company for use with the Iridian Technologies licensed software.

We are able to provide our customers with a choice of technology by combining the appropriate biometric “snap-in” biometric service provider (BSP) software module with our API standards-based, application software product framework. The customer may purchase these standards-compliant BSP modules, and the related biometric device hardware, that will work with software from SAFLINK or third parties. Our strategy is to evaluate, qualify, and integrate select biometric technology available from new and current technology vendors. We are in various stages of qualification of additional potential technology partners.

Competition

The markets for our products and solutions are highly competitive and are characterized by rapid technological change. We expect competition to increase as other companies introduce products that are competitively priced, which may have increased performance or functionality or that incorporate technological advances that we have yet developed or implemented. Other companies that have developed software products that utilize biometric identification technology and are active in the United States include BNX, Inc., Digital Persona, Identix, Inc. and I/O Software, Inc. Our strategy is to differentiate our products in the marketplace by offering products that:

While we expect to continue to face competition from non-biometric technologies such as traditional passwords, token cards, smart cards, and digital certificates, we are moving aggressively to integrate these other factors of authentication into our products. For example, “digital certificates” provide a secure method of encrypting messages and accessing services. However, only a password or PIN often protects the sender’s

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certificate key. We currently offer SAF products that support smart cards, radio-frequency proximity badges and digital certificates, and we intend to continue to enhance and expand these offerings.

As a non-exclusive licensee of biometric technologies, we could also experience competition from other products and services incorporating the technology that we license. Some of our present and potential competitors have substantially greater financial, marketing and research resources than we do. In order to effectively compete in this environment, we must continually develop and market new and enhanced products at competitive prices, and have the resources to invest in significant research and development activities. We may not be able to make the technological advances necessary to compete successfully. New or existing competitors may develop new technologies or enhancements to existing products or introduce new products that will offer superior price or performance features, which could render our products obsolete.

We believe that the most important competitive factors for our products are the degree of security provided, ease of use, functionality, price, size and reliability. In addition to competition from companies developing and marketing other biometric security applications, we face competition from technologies relying on PINs, smart cards, tokens or passwords. In competing with these non-biometric products, we believe that the most important competitive issue is our ability to effectively communicate to our customers that we offer a choice of biometric technologies that work in combination with traditional authentication methods to provide our customers with the ability deploy the most appropriate authentication management solution that meets their unique requirements. We believe that the replacement of traditional computer passwords by our products is a very cost effective solution.

Patents and Trademarks

We hold five issued patents covering fingerprint imaging technology which we believe can be utilized to enhance and create strategic relationships with fingerprint technology companies, television set-top companies, and hand held computer companies that will promote or use SAF software products:

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We hold one issued software patent covering biometric software solutions which we believe covers certain components of our enterprise product offering:

In addition, we have published and unpublished pending applications for our SAF software. There is no assurance that we will be granted any pending patents, that any patent previously granted will prove enforceable, or that any competitive advantage will exist for us because of these patents or patent applications.

We also rely on unpatented know-how, trade secrets and continuing research and development. We may not have any protection from other parties who independently develop the same know-how and trade secrets. Protection of our proprietary products and services may be important to our business, and our failure or inability to maintain this type of protection could have a material adverse affect on our business, financial condition, results of operations and prospects. Moreover, while we do not believe that the production and sale of our proposed products or services infringe on rights of third parties, if we are incorrect in this regard, our failure to obtain needed licenses from these third parties could have a material adverse effect on our ability either to complete the development of certain products or services or to produce and market these products or services. Failure to obtain any of these types of licenses could adversely impact our business, condition (financial or otherwise), results of operations and prospects.

We license certain patents or other intellectual property (including biometric hardware or software products) from other companies. The competitive nature of our industry makes any patents and patent applications of our licensors important to us. There is no assurance that any of the patent applications of these licensors will be granted, that patents previously granted will prove enforceable, or that any of these patents or patent applications will lead to any competitive advantage for us.

We have registered certain service marks and trademarks with the United States Patent and Trademark Office. However, we have not registered certain other trademarks and trade names which we use with the United States Patent and Trademark Office nor in any foreign government trademark offices. With respect to unregistered trademarks, we generally accompany the use of these trademarks with our name to indicate the origin of the products to which they are applied, to distinguish them from the products of competitors and to build goodwill in these trademarks.

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Employees

As of March 19, 2004, we had 79 full-time employees. From time to time, we also utilize consultants for specific assignments. None of our employees are represented by a labor union and we have never experienced a work stoppage. We believe that our relationship with our employees is good.

We lease our current principal executive offices, consisting of approximately 9,569 square feet, in Bellevue, Washington, under a lease that expires in March of 2006. In February 2004, we signed a letter of intent to lease an additional 5,781 square feet adjacent to and on the same floor as our principal executive offices, which is coterminous with our existing Bellevue lease. We also lease approximately 8,100 square feet of office space, under a lease expiring in March of 2007, in Edmonton, Alberta, Canada. In Reston, Virginia we lease 1,645 square feet of office space, under a lease that expires in June 2004. In November 2003, we signed a lease for 6,083 square feet, in Reston, Virginia, commencing on or about April 1, 2004, that will replace the current Reston office lease and will expire 5 years from the commencement date. In connection with our asset purchase on December 29, 2003, we assumed a lease from Information Systems Support, Inc., consisting of 4,484 square feet in Charleston, South Carolina, which expires in February 2005. We believe that our facilities are adequate to satisfy our projected requirements for the foreseeable future, and that additional space will be available if needed.

On March 13, 2003, the receiver for Alex Jones, Ltd., an alleged creditor of Jotter Technologies, Inc., filed a civil complaint in United States District Court of Utah against Jotter Technologies and SAFLINK. The complaint alleged breach of contract and judgment on a promissory note against Jotter in connection with a promissory note executed by Jotter and delivered to Alex Jones, Ltd., and unjust enrichment, fraudulent conveyance and declaratory judgment against all parties in connection with our purchase of substantially all of the intellectual property and fixed assets of Jotter in December 2000. The complaint asked for relief from Jotter in the amount of $800,000 in principal and approximately $163,333 in interest on the promissory note, including attorneys’ fees and costs. In December 2003, Jotter Technologies paid the amount in dispute and an order dismissing the case with prejudice was entered by the Court on December 18, 2003.

No matters were submitted to a vote of our stockholders during the fourth quarter of the fiscal year ended December 31, 2003.

PART II

Prior to August 9, 2001, our common stock was listed on the Nasdaq SmallCap Market under the symbol “ESAF.” On August 9, 2001, our stock was delisted from the Nasdaq SmallCap Market. Our stock began trading on the Pink Sheets on August 10, 2001 and was quoted on the OTC Bulletin Board (OTCBB) through April 24, 2003. On April 25, 2003, our stock resumed trading on the Nasdaq SmallCap Market as we met all requirements for relisting.

On November 19, 2001, we effected a one-for-seven reverse stock split and changed our stock symbol to SFLK. As of March 19, 2004, there were 387 record holders of our common stock. This does not include the number of people whose stock is in nominee or street name accounts through brokers.

The last sale price of our common stock as reported on the Nasdaq SmallCap Market on March 19, 2004 was $3.15 per share. The following table sets forth the range of high and low close prices for our common stock

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as reported on the OTCBB (without retail markup or markdown and without commissions) for each full quarterly period from January 1, 2002, through April 24, 2003, and the range of high and low close prices for our common stock as quoted on the Nasdaq SmallCap Market from April 25, 2003, through December 31, 2003. The over-the-counter market figures shown below reflect inter-dealer prices, without retail markup, markdown or commission, and may not necessarily represent actual transactions.

We have never paid or declared cash dividends on our common stock, and we do not intend to pay or declare cash dividends on our common stock in the foreseeable future.

Recent Sales of Unregistered Securities

On February 26, 2004, we entered into a common stock purchase agreement with certain accredited institutional investors, pursuant to which we agreed to issue and sell an aggregate of 3,080,000 shares of common stock and warrants to purchase up to 1,232,000 shares of our common stock in a private placement, for an aggregate purchase price of approximately $9.2 million. We deemed the sale and issuance of these securities to be exempt from the registration requirements of the Securities Act of 1933 in reliance upon Regulation D and Section 4(2) of the Securities Act.

During the period from October through December of 2003, we issued 30,722 shares of common stock as a result of exercises of warrants to purchase common stock that we issued in connection with past financings. We deemed the sale and issuance of these securities to be exempt from the registration requirements of the Securities Act of 1933 in reliance upon Section 4(2) of the Securities Act.

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This Management’s Discussion and Analysis contains forward-looking statements. All statements other than statements of historical fact made in this Annual Report are forward-looking. Forward-looking statements reflect management’s current expectations and are subject to risks and uncertainties discussed below, and identified in the section of this Annual Report on Form 10-K entitled “Risk Factors That May Affect Future Results” that could cause actual results to differ materially from historical results or those anticipated.

Overview

Our primary source of revenue is the sale of our software products and consulting services combined with the resale of hardware products sourced or assembled from third parties. We offer software solutions that protect intellectual property, secure information assets, control access to physical facilities, and eliminate passwords. Our Secure Authentication Framework^™ (SAF^™) software provides Identity Assurance Management^™, allowing administrators to verify the identity of users and control their access to: computer networks; physical facilities; applications; event tracking systems; and time and attendance systems. We develop application software and resell hardware and device control software from leading manufacturers of biometric hardware devices. Our products may be used to protect business and personal assets and to replace passwords, keys, and personal identification numbers (PINs) in order to safeguard and simplify access to electronic systems, buildings, and secure areas. Biometric technologies automatically identify computer users by electronically capturing a specific biological or behavioral characteristic of that individual, such as a fingerprint, iris pattern, voiceprint or facial feature, creating a unique digital identifier from that characteristic and then comparing it against a previously created and stored digital identifier. Because this process relies on largely unalterable human characteristics, it is both highly secure and highly convenient for the individual seeking access.

Our software products are designed for large-scale and complex computer networks, facilities, and manufacturing automation systems, and allow users seeking access or performing transactions to be identified using various biometric technologies. Our products comply with recognized industry standards, which allow us to integrate a large variety of biometric technologies within a common application environment without costly development related to each technology. Our products also provide our customers with the flexibility to deploy a

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mixture of different biometric technologies within their network to meet specific user and environmental requirements while providing protection against technology obsolescence since new devices can be added to, or upgraded within, the system without replacing or modifying the underlying biometric network support infrastructure.

Our financial focus continues to be the growth of our top-line revenue while maintaining acceptable gross margins. We believe that our products and services are best sold through a consultative sales approach that requires experienced enterprise sales personnel to pursue and manage sales opportunities over several months, and possibly beyond a year in length. This past fiscal year, we made a concerted effort to expand our sales force and enterprise sales expertise in an effort to increase our top-line revenue results. We believe our current headcount in the area of sales and marketing is sufficient for us to attain meaningful top-line revenue growth in the future.

The primary challenge for management is to convert a significant sales pipeline into revenue. We believe that we have been successful in building and managing a relatively large sales pipeline of opportunities. However, we have not been as successful in converting this pipeline into revenue. Some of the primary challenges that can impact our success in this area include general market factors influencing purchasing of computer network and security solutions, a relatively long sales cycle associated with our types of solutions and services, and the relative immaturity of the biometrics market.

Our ability to translate the value proposition of our products and services into revenue will be a key factor in our ability to achieve financial and operational success. The biometrics market is relatively immature and new to numerous potential customers in the commercial or governmental sectors. This makes it even more important, compared to a more mature or established market, that we successfully identify the positive attributes of our solutions, and then translate those to the customers, so that they are motivated to purchase our products and services.

Among the key challenges to our business is whether we can establish sales and profitability success prior to the emergence of a dominant competitor in our targeted markets. Our goal has been to grow our market share while the biometric market matures. To be successful in this area, we will need to see our revenues significantly increase as the market matures, while we maintain an operating expense structure that grows modestly, if at all. We believe that sales of large enterprise deployments will be the first signs that we are beginning to achieve our goal of growth in market share.

On March 22, 2004, we entered into an agreement and plan of merger and reorganization with SSP Solutions, Inc., a Delaware corporation, dba SSP-Litronic (SSP-Litronic), and Spartan Acquisition Corporation, a Delaware corporation and wholly-owned subsidiary of SAFLINK. Pursuant to the terms of the merger agreement, we will acquire all of the outstanding shares of SSP-Litronic in a stock-for-stock transaction where each share of SSP-Litronic common stock will be exchanged for 0.6 share of our common stock. Given the current capital structures of both companies, it is anticipated that the security holders of SSP-Litronic would receive approximately 49% of the combined company’s outstanding fully-converted shares at closing and our security holders would continue to hold the remaining 51% of the combined company’s outstanding fully-converted shares at closing. The merger is subject to the approval of each company’s stockholders, regulatory review, and other customary closing conditions. We expect that the transaction will be completed in the second or third quarter of 2004, depending upon regulatory review.

Critical Accounting Policies and Estimates

Our discussion and analysis of financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses and related disclosure of commitments and contingencies. On an on-going basis, we evaluate our critical accounting policies and estimates. We base our

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estimates on historical experience and on various other 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.

We believe our critical accounting policy is revenue recognition and it affects the more significant judgments and estimates used in the preparation of our consolidated financial statements. We derive revenue from license fees for software products, reselling of hardware and fees for services relating to the software products including maintenance services, technology and programming consulting services.

We recognize revenue in accordance with the provisions of Statement of Position 97-2, “Software Revenue Recognition” (SOP 97-2), as amended by SOP 98-9 and related interpretations, including Technical Practice Aids, which provide specific guidance and stipulate that revenue recognized from software arrangements is to be allocated to each element of the arrangement based on the relative fair values of the elements, such as software products, upgrades, enhancements, post contract customer support, installation or training. Under this guidance, the determination of fair value is based on objective evidence that is specific to the vendor. In multiple element arrangements in which fair value exists only for undelivered elements, the fair value of the undelivered elements is deferred and the residual arrangement fee is assigned to the delivered elements. If evidence of fair value for any of the undelivered elements does not exist, all revenue from the arrangement is deferred until such time that evidence of fair value does exist or until all elements of the arrangement are delivered.

Revenue from software license fees is recognized upon delivery, net of an allowance for estimated returns, provided persuasive evidence of an arrangement exists, collection is probable, the fee is fixed or determinable, and vendor-specific objective evidence exists to allocate the total fee to elements of the arrangement. If customers receive pilot or test versions of products, revenue from these arrangements is recognized upon customer acceptance of permanent license rights. If our software is sold through a reseller, revenue is recognized when the reseller delivers its product to the end-user or if there are non-refundable minimum guaranteed fees upon delivery to the reseller. We also act as a reseller of hardware. Such revenue is recognized upon delivery of the hardware, provided that all other conditions of the sale have been met.

Service revenue includes payments under support and upgrade contracts and fees from consulting. Support and upgrade revenue is recognized ratably over the term of the contract, which typically is twelve months. Consulting revenue is primarily related to installation, integration and training services performed on a time-and-materials or fixed-fee basis under separate service arrangements. Fees from consulting are recognized as services are performed. If a transaction includes both license and service elements, license fees are recognized separately upon delivery of this software, provided services do not include significant customization or modification of the software product, and the licenses are not subject to acceptance criteria.

Revenue results are difficult to predict, and any shortfall in revenue or delay in recognizing revenue could cause our operating results to vary significantly from quarter to quarter and could result in future operating losses.

Results of Operating Activities

We believe that period-to-period comparisons of our operating results may not be a meaningful basis to predict our future performance. You should consider our prospects in light of the risks, expenses and difficulties frequently encountered by companies in new and rapidly evolving markets. We may not be able to successfully address these risks and difficulties.

We incurred a net loss attributable to common stockholders of approximately $10.7 million for the year ended December 31, 2003, as compared to a net loss attributable to common stockholders of approximately $11.0 million for the year ended December 31, 2002. Excluding a preferred stock dividend of $4.7 million, related to

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our January 2002 special warrant offering, in which we lowered the exercise price of certain warrants from $1.75 to $1.00, the net loss for the year ended December 31, 2002 was $6.2 million. The increased net loss during 2003 was caused by a lack of significant revenue growth from 2002, while accompanied by increased operating expenses associated with additional headcount, primarily in sales and marketing and product development.

The following discussion presents certain changes in our revenue and operating expenses which have occurred between fiscal years 2003 and 2002, and between fiscal years 2002 and 2001, and should be read in conjunction with our consolidated financial statements, including the notes thereto, included elsewhere in this Form 10-K.

Year Ended December 31, 2003 Compared to Year Ended December 31, 2002

Revenue and Cost of Revenue

Revenue of $2.0 million for the year ended December 31, 2003, did not increase compared to revenue of $2.0 million for the year ended December 31, 2002. $787,000 in revenue came from product sales and $1.2 million from services. One customer—Eli Lilly & Company—accounted for 39% of our 2003 revenue. Product revenue declined by $388,000 in 2003, while service revenue increased by $397,000. The decrease in product revenue was primarily due to a $591,000 decrease in hardware revenue. Software revenue, however, increased by $203,000 during 2003, and partially offset the hardware revenue decline in the combined product revenue total. The service revenue increase in 2003 was mainly attributable to work performed on a development project in the manufacturing automation vertical market. This project, for a large pharmaceutical company, accounted for $783,000 in service revenue during 2003.

Cost of revenue consisted of software materials, third-party hardware, and services costs in 2003 and 2002. Our cost of revenue decreased from $1.1 million in 2002 to $778,000 in 2003. This decrease was primarily driven by a $113,000 reduction in software cost of revenue due to the termination of royalty expense associated with a licensing agreement. Hardware and service cost of revenue, as a percentage of hardware and service revenue in 2003 were consistent with prior year results. A more favorable mix of higher margin software compared to lower margin hardware in 2003 also contributed to the reduction of cost of revenue.

The cost of revenue, as a percentage of sales, may increase as a result of amortization of intangible assets acquired from BSG and ISS. This amortization will be $47,000 per quarter in the coming year. The cost of revenue could also be impacted by a shift in the software and hardware revenue mix. A higher software component in our product sales mix would decrease the cost of revenue as a percentage of sales, while a higher hardware component would increase the cost of revenue as a percentage of sales.

Operating Expenses

The following table provides a breakdown of the dollar and percentage changes in operating expenses from the prior year:

Operating expenses increased from $7.4 million in 2002 to $12.0 million in 2003. The increase was primarily due to a 90% increase in headcount from January 1, 2003, to December 31, 2003, which resulted in a

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$2.6 million increase in compensation and related benefits and a $347,000 increase in travel and entertainment costs. Advertising and promotion expense increased $505,000 due to increased trade show appearances and public relations efforts. Legal and professional service costs increased $540,000 primarily caused by increased recruitment expense related to the significant number of new hires and an increase in consulting fees during 2003.

We expect operating expenses to increase modestly in 2004 as a result of our acquisition of the assets from BSG and ISS, however we cannot predict the potential impact of the proposed merger with SSP-Litronic at this time.

Product Development

Product development expenses consist primarily of salaries, benefits, supplies and equipment for software developers, product management and quality assurance personnel, as well as legal fees associated with our intellectual property. Product development expenses increased from $1.8 million in 2002 to $2.5 million in 2003. The increase in product development costs was primarily due to increased compensation and related benefits of $438,000, increased general and other expenses of $170,000, and increased professional service expense of $105,000, which related to intellectual property legal fees and recruitment expense. Product development headcount increased by 17 employees, or 71%, in 2003, which was the main cause of the 40% increase in 2003 product development expense when compared to 2002. The increase in compensation and related benefits for this period was reduced significantly, $303,000, by the allocation of those expenses to cost of services because of labor incurred by product development personnel on revenue-producing projects.

With the exception of potential cost impacts from the proposed merger with SSP-Litrionic, we expect that our product development expenses will remain relatively constant in the near term, unless we secure significant consulting sales contracts or increase our product revenues substantially, in which case personnel may be required to execute such contracts or expend the capabilities of our product offerings.

Sales and Marketing

Sales and marketing expenses consist primarily of salaries and commissions earned by sales and marketing personnel, trade show and promotional expenses, and travel and entertainment costs. Sales and marketing expenses increased from $1.9 million in 2002 to $5.4 million in 2003. The increase in sales and marketing costs was primarily due to increases in compensation and related benefit costs of $1.8 million, travel and entertainment expenses of $343,000, advertising and promotion expenses of $604,000, professional services and recruiting fees of $669,000, and other occupancy and general expense increases of $124,000. This substantial increase in expense during 2003 was caused by the build-out of a direct regional sales team that included salespeople and sales engineers. Sales and marketing headcount increased by 16 employees, or 146%, in 2003. In an effort to generate leads for the newly formed sales team, trade show and marketing expenses increased. Travel and entertainment expenses increased, as well, due to the increased number of sales personnel.

With the exception of potential cost impacts from the proposed merger with SSP-Litrionic, we do not anticipate adding any additional headcount to sales and marketing in the near term. Therefore, we do not expect to see additional recruiting expenses in this area, and compensation (excluding commissions) and travel and entertainment costs should remain relatively consistent with recent results. Commissions are a variable cost that will fluctuate with revenue and could substantially impact the operating expense results of sales and marketing.

General and Administrative

General and administrative expenses consist primarily of salaries, benefits and related costs for our executive, finance, human resource, information technology and administrative personnel, professional services fees and allowances for bad debt. General and administrative expenses increased from $3.8 million in 2002 to $4.1 million in 2003. The increase in general and administrative costs was primarily due to increases in personnel

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costs of $379,000, occupancy costs of $82,000, and general supplies, equipment and insurance expense increases of $231,000. These increases were partially offset by decreases in legal and professional services costs of $330,000. Headcount increased in general and administrative from 7 to 12 during 2003, a 71% increase, primarily to support the 90% overall headcount growth company-wide.

With the exception of potential cost impacts from the proposed merger with SSP-Litrionic, we do not anticipate adding any significant headcount or other costs to the general and administrative area. Thus, our expenses should remain relatively consistent with recent results.

Interest Expense

Interest expense primarily consists of interest expense associated with debt obligations and credit facilities. Interest expense decreased from $44,000 in 2002 to $14,000 in 2003. We had no debt obligations in 2003, other than the financing of certain insurance policies for a nine-month term.

Other Income, Net

Other income, net consists of earnings on our cash, cash equivalent and short-term investment balances, augmented by gains and offset by any miscellaneous charges. Other income, net decreased from $310,000 in 2002 to $65,000 in 2003. The decrease was primarily due to a non-recurring gain in 2002 of $292,000 resulting from a favorable settlement on an accounts payable obligation which was expensed in prior years over several operating and non-operating expense categories. Excluding that gain in 2002, other income rose in 2003 due to increased interest income on larger cash reserves when compared to 2002.

Operating Expenses Analysis by Functional Activity

The following table provides an analysis of the 2003 over 2002 change in total operating expenses by functional category:

Year Ended December 31, 2002 Compared to Year Ended December 31, 2001

Revenue and Cost of Revenue

Revenue of $2.0 million for the year ended December 31, 2002, increased $1.6 million from revenue of $402,000 for the year ended December 31, 2001. The increase was primarily due to a one-time large enterprise sale totaling $933,000 delivered in December of 2002 as well as an ongoing revenue stream from services performed on the Department of Defense’s Common Access Card (CAC) program performed throughout the year. $1.2 million in revenue came from product sales and $831,000 from services.

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Three customers—Freddie Mac, Bearing Point (for the Department of Defense’s CAC program) and Kaiser Permanente—accounted for 46%, 24%, and 11% of our 2002 revenue, respectively.

Cost of revenue consists of software materials, computer hardware, and services costs in 2002 and 2001. Cost of revenue in 2001 also included amortization of intangibles and impairment of intangible assets. The cost of revenue decreased from $4.0 million in 2001 to $1.1 million in 2002. The decrease was primarily due to certain charges recorded in 2001 that did not recur in 2002. Such charges included nine months of amortization of purchased technology totaling $955,000, and an impairment loss of $2.8 million, related to the acquisition of substantially all of the assets of Jotter Technologies in December 2000.

Operating Expenses

Operating expenses decreased significantly in 2002 to $7.4 million from $10.1 million in 2001. Excluding amortization of intangibles and one-time charges related to impairments and restructuring activities related to events occurring in 2001, operating expenses for the year ended December 31, 2002 decreased $410,000 as compared to the year ended December 31, 2001.

The following table provides a breakdown of the dollar and percentage changes from prior year in operating expenses:

Product Development

Product development expenses consist primarily of salaries, benefits and equipment for software developers and quality assurance personnel. Product development expenses decreased from $2.6 million in 2001 to $1.8 million in 2002. The decrease in product development costs was primarily due to decreased personnel costs of $530,000, decreased professional service expenses of $160,000 and other occupancy and general expenses of $110,000 due to lower headcount. We reduced our staffing levels by 13 staff members in product development during June of 2001, which lowered personnel costs for the remainder of 2001 and 2002.

Amortization of Intangible Assets

Amortization of intangible assets reflects the amortization of certain identifiable intangible assets resulting from the acquisition of Jotter in December of 2000 and other licensed technology acquired from Anovea, Inc. We incurred amortization expenses on intangible assets in the amount of $374,000 during 2001 and no amortization expense in 2002 related to the operating expenses. As of December 31, 2002, we had no unamortized intangible assets.

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Impairment Loss on Intangible Assets

In 2001, we performed an impairment assessment of intangible assets recorded in connection with the Jotter acquisition. The assessment was performed primarily due to the fluctuations and declines in our stock price, the continuous decline in the technology sector and the belief that this trend may continue for an indefinite period, and finally, a decision by management of the Company to limit further integration and development of the Jotter technology into our current and anticipated product offering due to resource limitations. We determined that the carrying value of certain intangible assets was not recoverable and recognized an impairment loss on intangible assets during the quarter ended September 30, 2001, of $3.9 million relating to the remaining net carrying value of certain intangible assets acquired. The impairment loss on intangible assets was comprised of $2.8 million of developed product technology included under the title of impairment loss on intangible assets in the cost of revenue section of the accompanying statements of operations. Additionally, we charged $535,000 of assembled workforce, $460,000 of sales channel customer relationships and $132,000 related to development and distribution agreements under the caption impairment loss on intangible assets in the operating expenses section of the accompanying statements of operations. There was no similar expense in 2002.

Sales and Marketing

Sales and marketing expenses consist primarily of salaries and commissions earned by sales and marketing personnel, promotional expenses and travel and entertainment costs. Sales and marketing expenses increased from $929,000 in 2001 to $1.9 million in 2002. The increase in sales and marketing costs was primarily due to increases in personnel costs of $287,000, travel and entertainment expenses of $88,000, advertising and promotion expenses of $235,000, trade show costs of $190,000, and other occupancy, professional service and general expense increases of $168,000.

Restructuring and Relocation

Restructuring and relocation expenses consist of costs resulting from the termination or relocation of employees and other expenses associated with a corporate restructuring program aimed at streamlining our underlying cost structure. During 2001, there were no relocation costs. The 2001 expense of $786,000 was primarily comprised of $304,000 in severance packages to certain employees, $139,000 in lease termination costs and the write off of $328,000 in leasehold improvements and other furniture and equipment in conjunction with the restructuring. There were no restructuring or relocation costs incurred during 2002.

General and Administrative

General and administrative expenses consist primarily of salaries, benefits and related costs for our executive, finance, human resource and administrative personnel, professional services fees and allowances for bad debt. General and administrative expenses decreased from $4.3 million in 2001 to $3.8 million in 2002. The primary reason for the decrease in general and administrative costs was due to a non-recurring accrual recorded in 2001. In 2001, we recorded an accrued expense of $450,000 related to a 1999 lawsuit filed by International Interest Group, Inc., and only $90,000 of additional expense when the lawsuit was settled in August of 2002.

Included in general and administrative costs in 2002 were $570,000 in non-cash professional services costs that represented the amortization of stock compensation under several financial advisory agreements. This increase in expense was mostly offset by the reduction of cash expenses for legal and other professional service costs during 2002.

Interest Expense

Interest expense consists of interest expense and bank fees associated with debt obligations and credit facilities. Interest expense decreased significantly from $783,000 in 2001 to $44,000 in 2002. Our debt as of December 31, 2001, was either converted to equity or paid off in the first quarter of 2002, thus interest expense on those debt obligations and credit facilities ceased which led to the reduction in interest expense in 2002.

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Other Income, Net

Other income, net consists of earnings on our cash and cash equivalent and short-term investment balances, augmented by gains and offset by any miscellaneous charges. Other income, net decreased from $386,000 in 2001 to $310,000 in 2002. In 2002, there was a non-recurring gain of $292,000 resulting from a favorable settlement on an accounts payable obligation that was expensed in prior years over several operating and non-operating expense categories. In 2001, there was a $360,000 gain from debt restructuring.

Operating Expense Analysis by Functional Activity

The following table provides an analysis of the 2002 over 2001 change in total operating expense by functional category:

From a functional operating expense category perspective, excluding amortization of intangibles and one-time charges related to impairments and restructuring activities in connection with events occurring in 2001, the decrease was primarily due to lower personnel, legal and professional service costs, partially offset by an increase in advertising and promotion expenses.

Liquidity and Capital Resources

Our operations have never generated any significant revenue or net income. We have accumulated net losses of approximately $96.0 million from our inception through December 31, 2003, and we have continued to accumulate net losses since December 31, 2003. Historically, we have funded our operations primarily through the issuance of equity securities to investors. We financed our operations during fiscal 2003 primarily from our existing working capital at December 31, 2002, and the net proceeds of warrants exercised in January and February of 2003. As of December 31, 2003, our principal source of liquidity consisted of $6.7 million of working capital. As of December 31, 2003, we had cash and cash equivalents of $7.1 million compared to $7.4 million as of December 31, 2002. In February 2004, we issued 3,080,000 shares of our common stock and warrants to purchase up to 1,232,000 shares of our common stock in a private placement. We received net proceeds of $8.7 million and intend to use the proceeds for working capital and general corporate purposes. We invest our cash in excess of current operating requirements in a money market fund with a commercial bank.

We used cash of $10.6 million for operating activities in 2003 which was $4.1 million more than the amount used in operations during 2002. The increase in the use of cash was primarily due to increased headcount. Cash

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used in investing activities increased $1.0 million in 2003, from $74,000 in 2002 to $1.1 million. This increase was primarily due to the build-out of our information technology infrastructure and providing equipment and software to our product development team. Net cash provided by financing activities decreased to $11.4 million in 2003, compared to $14.0 million in 2002. There were no private financings in 2003, compared to two in 2002 which provided net cash proceeds of $9.0 million during that year. Proceeds from stock option and warrant exercises increased by $5.0 million to $11.4 million in 2003, compared to $6.4 million in 2002.

Our proposed merger with SSP-Litronic is subject to the satisfaction of certain closing conditions, including approval by each company’s stockholders, regulatory approval and other specified conditions. If the transaction does not close by a certain date because we failed to satisfy certain conditions in the merger agreement or upon the occurrence of other specified events, we may be required to reimburse SSP-Litronic’s transactional expenses or to pay SSP-Litronic a termination fee in the amount of $2,000,000.

As a result of the financing in February 2004, we believe we have sufficient funds to complete the transaction with SSP-Litronic and to continue our operations beyond the first quarter of 2005, assuming no significant and unexpected uses of cash. However, we currently do not have a credit line or other borrowing facility to fund our operations. Further, the acquisition of SSP-Litronic, as contemplated by the merger agreement, will likely result in significant charges to earnings for merger and related expenses (whether or not our efforts are successful), and, if completed, would result in the issuance to the security holders of SSP-Litronic of our equity securities representing 49% of the combined company’s outstanding fully-converted shares. If we are unable to generate sufficient cash flow from operations, we will need to seek additional funds through the issuance of additional equity securities or other sources of financing. In addition, if we are required to pay SSP-Litronic a termination fee, we may need to seek additional funds. We may not be able to secure such additional financing on favorable terms, or at all. The issuance of a large number of additional equity securities could cause substantial dilution to existing stockholders and could cause a decrease in the market price for shares of our common stock, which could impair our ability to raise capital in the future through the issuance of equity securities. If we are unable to obtain necessary additional financing, we may be required to reduce the scope of or to cease our operations.

We currently occupy our headquarters in Bellevue, Washington under a lease that expires in March 2006, and are required to pay taxes, insurance, and maintenance as well as monthly rental payments. In addition, we lease office space in Edmonton, Alberta, Canada for our product development team that expires in March 2007. Further, we lease office space for our government sales team and Integrated Solutions Group in Reston, Virginia, which expires in June 2004, but is being replaced by a new lease that expires in 2009. In connection with our asset purchase in December 2003, we assumed a lease for our Physical Access Group, in Charleston, South Carolina, that expires in February 2005.

The following table reflects our contractual commitments for operating leases and minimum royalty payments as of December 31, 2003 (in thousands):

Recently Issued Accounting Pronouncements

In December 2003, the SEC issued Staff Accounting Bulletin (SAB) No. 104, “Revenue Recognition,” which revises or rescinds certain sections of SAB No. 101, “Revenue Recognition,” in order to make this interpretive guidance consistent with current authoritative accounting and auditing guidance and SEC rules and regulations. The changes noted in SAB No. 104 did not have a material effect on our financial position or results of operations.

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Factors That May Affect Future Results

This Annual Report on Form 10-K contains forward-looking statements that involve risks and uncertainties. Our business, operating results, financial performance, and share price may be materially adversely affected by a

number of factors, including but not limited to the following risk factors, any one of which could cause actual results to vary materially from anticipated results or from those expressed in any forward-looking statements made by us in this Annual Report on Form 10-K or in other reports, press releases or other statements issued from time to time. Additional factors that may cause such a difference are set forth elsewhere in this Annual Report on Form 10-K.

In addition to other information contained in this Annual Report on Form 10-K, the following factors, among others, sometimes have affected, and in the future could affect our actual results and could cause future results to differ materially from those in any forward looking statements made by us or on our behalf. Factors that could cause future results to differ from expectations include, but are not limited to the following:

We have accumulated significant losses since we started doing business and may not be able to generate significant revenue or any net income in the future, which would negatively impact our ability to run our business.

We have accumulated net losses of approximately $96.0 million from our inception through December 31, 2003. We have continued to accumulate losses after December 31, 2003, to date and we may be unable to generate significant revenue or any net income in the future. We have funded our operations primarily through the issuance of equity securities to investors and may not be able to generate a positive cash flow in the future. If we are unable to generate sufficient cash flow from operations, we will need to seek additional funds through the issuance of additional equity securities or other sources of financing. We may not be able to secure such additional financing on favorable terms, or at all. If we are unable to obtain necessary additional financing, we may be required to reduce the scope of or cease our operations.

A significant number of shares of our common stock are or will be eligible for sale in the open market, which could drive down the market price for our common stock and make it difficult for us to raise capital.

As of March 19, 2004, 31,332,453 shares of our common stock were outstanding, and there were approximately 15.2 million shares of our common stock issuable upon exercise or conversion of outstanding options, warrants and preferred stock. We have issued options and warrants to acquire shares of common stock to our employees and certain other persons at various prices, some of which have exercise prices below the current market price for our common stock. Of these options and warrants, approximately 6.2 million have exercise prices below the recent market price of $3.15 (as of March 19, 2004). As of March 19, 2004, options to acquire 5.4 million shares of our common stock were outstanding and our existing stock option plan had approximately 2.3 million shares available for issuance.

The issuance of a large number of additional shares of our common stock upon the exercise or conversion of outstanding stock options, warrants or preferred stock could cause substantial dilution to existing stockholders and could decrease the market price of our common stock due to the sale of a large number of shares of our common stock in the market, or the perception that these sales could occur. These sales, or the perception of possible sales, could also impair our ability to raise capital in the future.

As of March 19, 2004, 15,166 shares of our Series E preferred stock were outstanding. These shares of preferred stock are convertible into approximately 2.2 million shares of our common stock. On June 5, 2004, all outstanding shares of our Series E preferred stock will automatically convert into shares of common stock, and the Series E preferred stock will cease to exist. The conversion of our Series E preferred stock will cause dilution to our existing common stockholders.

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Because they own approximately 50% of our company, three investors could significantly influence our affairs which may preclude other stockholders from being able to influence stockholder votes.

Three of our investors beneficially own in excess of 50% of our outstanding common stock. Given this substantial ownership, if they decided to act together, they would be able to significantly influence the vote on

those corporate matters to be decided by our stockholders. In addition, as of March 19, 2004, these investors beneficially own warrants to purchase an additional 15,386 shares of our common stock. If these investors exercised their warrants in full, they would own approximately 50% of our outstanding common stock. Such concentrated ownership may decrease the value of our common stock and could significantly influence our affairs, which may preclude other stockholders from being able to influence stockholder votes.

If the biometrics market does not experience significant growth or if our products do not achieve broad acceptance in this market, our ability to generate significant revenue in the future would be limited and our business would suffer.

All of our product revenue and a portion of our service revenue is derived from the sale of biometric products and services. Biometric solutions have not gained widespread commercial acceptance. We cannot accurately predict the future growth rate of this market, if any, or the ultimate size of the biometric technology market. The expansion of the market for our products and services depends on a number of factors such as:

Even if biometric solutions gain wide market acceptance, our products and services may not adequately address market requirements and may not gain wide market acceptance. If biometric solutions or our products and services do not gain wide market acceptance our business and our financial results will suffer.

Any acquisition we make, including our acquisition of assets from Information Systems Support, Inc. (ISS) and Biometric Solutions Group (BSG) and the completion of our merger with SSP-Litronic, could disrupt our business and harm our financial condition.

In our acquisition of assets from ISS and BSG, and in any future acquisitions or business combinations, we are subject to numerous risks and uncertainties, including:

After acquiring the assets from ISS and BSG, we hired all of the personnel who supported the physical access operations. Our continued operation of this business involves numerous risks and uncertainties, including:

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On March 22, 2004, we entered into an agreement and plan of merger and reorganization with SSP-Litronic pursuant to which SSP-Litronic will become a wholly-owned subsidiary of SAFLINK. We are subject to numerous risks and uncertainties with respect to the proposed merger, including:

We may not be able to successfully complete the integration of the business, products or technologies or personnel acquired in the asset purchase from ISS and BSG, or that we might acquire in the future, and any failure to do so could disrupt our business and seriously harm our financial condition.

If we are unable to obtain government authorization regarding exports of our products, or if export laws limit or otherwise restrict our business, we could be prohibited from shipping our products to certain countries which could cause our business and financial condition to suffer.

We must comply with U.S. laws regulating the export of our products in order to ship internationally. In some cases, authorization from the U.S. Government may be needed in order to export our products. The export regimes applicable to our business are subject to frequent changes, as are the governing policies. We cannot assure that such authorizations to export will be available to us or for our products in the future. If we cannot obtain required government approvals under these regulations, we may not be able to sell products abroad or make products available for sale internationally.

If third parties, on whom we partly depend for our product distribution, do not promote our products, our ability to generate revenue may be limited and our business and financial condition could suffer.

We utilize third parties such as resellers, distributors and other technology manufacturers to augment our full-time sales staff in promoting sales of our products. If these third parties do not actively promote our products, our ability to generate revenue may be limited. We cannot control the amount and timing of resources that these third parties devote to marketing activities on our behalf. Some of these business relationships are

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formalized in agreements that can be terminated with little or no notice, which may further decrease the willingness of such third parties to act on our behalf. We also may not be able to negotiate acceptable distribution relationships in the future and cannot predict whether current or future distribution relationships will be successful.

We have depended on a limited number of customers for a substantial percentage of our sales, and due to the non-recurring nature of these sales our revenue in any quarter may not be indicative of future sales.

One customer (Eli Lilly & Company) accounted for 39% of our 2003 revenue. Three customers accounted for approximately 46% (Freddie Mac), 24% (Bearing Point—for the Department of Defense’s CAC program), and 11% (Kaiser Permanente) of our 2002 revenue, respectively. As a result of this concentration of sales to a limited number of customers, our sales have experienced wide fluctuations, and may continue to experience wide fluctuations in the future. These sales are not recurring sales, and quarterly and annual sales levels could fluctuate and sales in any period may not be indicative of sales in future periods.

We may be unable to keep up with rapid technological change in the software and biometric industry which could lead to an increase in our costs, a loss of customers or a delay in market acceptance of our products.

Software design and the biometric technology industry are characterized by rapid development and technological improvements. Because of these changes, our success will depend in part on our ability to keep pace with a changing marketplace, integrate new technology into our software and introduce new products and product enhancements to address the changing needs of the marketplace. Various technical problems and resource constraints may impede the development, production, distribution and marketing of our products and services. In addition, laws, rules, regulations or industry standards may be adopted in response to these technological changes, which in turn, could materially and adversely affect how we do business.

Our future success will also depend upon our ability to develop and introduce a variety of new products and services and enhancements to these new products and services, to address the changing and sophisticated needs of the marketplace. Frequently, technical development programs in the biometric industry require assessments to be made of the future directions of technology and technology markets generally, which are inherently risky and difficult to predict. Delays in introducing new products, services and enhancements, the failure to choose correctly among technical alternatives or the failure to offer innovative products and services at competitive prices may cause customers to forego purchases of our products and services and purchase those of our competitors.

Continued participation by us in the market for governmental agencies may require the investment of our resources in upgrading our products and technology for us to compete and to meet regulatory and statutory standards. We may not have adequate resources available to us or may not adequately keep pace with appropriate requirements to effectively compete in the marketplace.

Provisions in our Certificate of Incorporation and our Certificate of Designation, Preferences and Rights of the Series E preferred stock may prevent or adversely impact the value of a takeover of our company even if a takeover would be beneficial to stockholders.

Our Certificate of Incorporation authorizes our board of directors to issue up to 1,000,000 shares of preferred stock, the issuance of which could adversely affect our common stockholders. We can issue shares of preferred stock without stockholder approval and upon terms and conditions, and having those types of rights, privileges and preferences, as the board of directors determines. Specifically, the issuance of preferred stock may make it more difficult for a third party to acquire, or may discourage a third party from acquiring, voting control of our company even if the acquisition would benefit stockholders.

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If we are unable to maintain our Nasdaq SmallCap Market listing, your ability to trade shares of our common stock could suffer.

In April 2003, our common stock was approved for relisting on the Nasdaq SmallCap Market. For our common stock to remain listed on the Nasdaq SmallCap Market, we must meet the minimum listing requirements for continued listing, including, among other requirements, minimum bid price and market value of public float requirements. If we fail to continue to meet the minimum listing requirements, we may be delisted from the Nasdaq SmallCap Market. If our common stock is delisted from the Nasdaq SmallCap Market, transactions in our common stock would likely be conducted only in the over-the counter market, or potentially on regional exchanges, which could negatively impact on the trading volume and price of our common stock, and investors may find it more difficult to purchase or dispose of, or to obtain accurate quotations as to the market value of, our common stock. In addition, if our common stock were not listed on the Nasdaq National Market or the Nasdaq SmallCap Market and the trading price of our common stock fell below $1.00 per share, trading in our common stock would also be subject to the requirements of certain rules which require additional disclosures by broker-dealers in connection with any trades involving a stock defined as a “penny stock.” In such event, the additional burdens imposed on broker-dealers to effect transactions in our common stock could further limit the market liquidity of our common stock and the ability of investors to trade our common stock.

Our financial and operating results often vary significantly from quarter to quarter and may be negatively affected by a number of factors.

Our financial and operating results have fluctuated in the past and could fluctuate in the future from quarter to quarter because of the following reasons:

Particularly important is our need to invest in planned technical development programs to maintain and enhance our competitiveness, and to develop and launch new products and services. Improving the manageability and likelihood of success of such programs requires the development of budgets, plans and schedules for the execution of these programs and the adherence to such budgets, plans and schedules. The majority of such program costs are payroll and related staff expenses, and secondarily materials, subcontractors and promotional expenses. These costs are very difficult to adjust in response to short-term fluctuations in our revenue, compounding the difficulty of achieving profitability.

The lengthy and variable sales cycle of some of our products makes it difficult to predict operating results.

Certain of our products have a lengthy sales cycle while the customer completes an in-depth evaluation of our products and receives approvals for purchase. In addition, new product introduction often centers around key

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trade shows and failure to deliver a product prior to such an event can seriously delay introduction of a product. As a result of our lengthy sales cycles, we may incur substantial expense before we earn associated revenues because a significant portion of our operating expenses is relatively fixed and based on expected revenues. The lengthy sales cycles of our products make forecasting the volume and timing of orders difficult. In addition, the delays inherent in lengthy sales cycles raise additional risks that customers may cancel or change their minds. If customer cancellations or product delays occur, this could result in the loss of anticipated sales without allowing us sufficient time to reduce our inventory and operating expenses.

We derive a substantial portion of our revenue from government contracts, which are often non-standard, involve competitive bidding, may be subject to cancellation without penalty and may produce volatility in earnings and revenue.

Our performance in any one reporting period is not necessarily indicative of sales trends or future operating or earnings performance because of our reliance on a small number of large customers, a substantial portion of which are government agencies. Government contracts frequently include provisions that are not standard in private commercial transactions. For example, government contracts may include bonding requirements and provisions permitting the purchasing agency to cancel the contract without penalty in certain circumstances. As public agencies, our prospective customers are also subject to public agency contract requirements that vary from jurisdiction to jurisdiction. Some of these requirements may be onerous or impossible to satisfy.

Failure by us to maintain the proprietary nature of our technology and intellectual property could have a material adverse effect on our business, operating results, financial condition and stock price and on our ability to compete effectively.

We principally rely upon patent, trademark, copyright, trade secret and contract law to establish and protect our proprietary rights. There is a risk that claims allowed on any patents or trademarks we hold may not be broad enough to protect our technology. In addition, our patents or trademarks may be challenged, invalidated or circumvented and we cannot be certain that the rights granted thereunder will provide competitive advantages to us. Moreover, any current or future issued or licensed patents, or trademarks, or existing or future trade secrets or know-how may not afford sufficient protection against competitors with similar technologies or processes, and the possibility exists that certain of our already issued patents or trademarks may infringe upon third party patents or trademarks or be designed around by others. In addition, there is a risk that others may independently develop proprietary technologies and processes, which are the same as, substantially equivalent or superior to ours, or become available in the market at a lower price. There is a risk that we have infringed or in the future will infringe patents or trademarks owned by others, that we will need to acquire licenses under patents or trademarks belonging to others for technology potentially useful or necessary to us, and that licenses will not be available to us on acceptable terms, if at all.

We may have to litigate to enforce our patents or trademarks or to determine the scope and validity of other parties’ proprietary rights. Litigation could be very costly and divert management’s attention. An adverse outcome in any litigation could have a severe negative impact on our financial results and stock price. We also rely on trade secrets and proprietary know-how, which we seek to protect by confidentiality agreements with our employees, consultants, service providers and third parties. There is a risk that these agreements may be breached, and that the remedies available to us may not be adequate. In addition, our trade secrets and proprietary know-how may otherwise become known to or be independently discovered by others.

If we fail to adequately manage the size of our business, it could have a severe negative impact on our financial results or stock price.

Our management believes that, to be successful, we must appropriately manage the size of our business. This may mean reducing costs and overhead in certain economic periods, and selectively growing in periods of economic expansion. In addition, we will be required to implement operational, financial and management

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information procedures and controls that are efficient and appropriate for the size and scope of our operations. The management skills and systems currently in place may not be adequate and we may not be able to manage any significant reductions or growth effectively.

If we fail to attract and retain qualified senior executive and key technical personnel, our business will not be able to expand.

We are dependent on the continued availability of the services of our employees, many of whom are individually key to our future success, and the availability of new employees to implement our business plans. Although our compensation programs are intended to attract and retain the employees required for us to be successful, there can be no assurance that we will be able to retain the services of all of the key employees or a sufficient number to execute our plans, nor can there be any assurances that we will be able to continue to attract new employees as required.

Our personnel may voluntarily terminate their relationship with us at any time, and competition for qualified personnel, especially engineers, is intense. The process of locating additional personnel with the combination of skills and attributes required to carry out our strategy could be lengthy, costly and disruptive.

If we lose the services of key personnel, or fail to replace the services of key personnel who depart, we could experience a severe negative impact on our financial results and stock price. In addition, there is intense competition for highly qualified engineering and marketing personnel in the locations where we principally operate. The loss of the services of any key engineering, marketing or other personnel or our failure to attract, integrate, motivate and retain additional key employees could have a material adverse effect on our business and financial results and stock price.

Our exposure to market rate risk for changes in interest rates relates primarily to money market funds included in our investment portfolio. Investments in fixed rate earning instruments carry a degree of interest rate risk as their fair market value may be adversely impacted due to a rise in interest rates. As a result, our future investment income may fall short of expectations due to changes in interest rates. We do not use any hedging transactions or any financial instruments for trading purposes and we are not a party to any leveraged derivatives.

We have certain foreign operations whose expenses are incurred in its local currency. As exchange rates vary, transaction gains or losses will be incurred and may vary from expectations and adversely impact overall profitability. If in 2004, the US dollar uniformly changes in strength by 10% relative to the currency of the foreign operations, our operating results would likely not be significantly affected.

See Index to Financial Statements.

None.

(a) Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we evaluated the effectiveness of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended. Based on that evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this annual report.

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

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PART III

Information concerning our directors and officers is included in the definitive proxy statement for our 2004 annual meeting of stockholders, which is incorporated herein by reference.

Information concerning our executives’ compensation is included in the definitive proxy statement for our 2004 annual meeting of stockholders, which is incorporated herein by reference.

Information required to be disclosed hereunder is included in the definitive proxy statement for our 2004 annual meeting of stockholders, which is incorporated herein by reference.

Information required to be disclosed hereunder is included in the definitive proxy statement for our 2004 annual meeting of stockholders, which is incorporated herein by reference.

Information required to be disclosed hereunder is included in the definitive proxy statement for our 2004 annual meeting of stockholders, which is incorporated herein by reference.

PART IV

The financial statements filed as a part of this report are listed in the “Index to Financial Statements.”

All schedules have been omitted because they are either not applicable, not material or the required information has been given in the financial statements or related notes.

On November 3, 2003, we furnished a current report on Form 8-K regarding an announcement of our financial results for the quarter ended September 30, 2003.

On December 31, 2003, we filed a current report on Form 8-K regarding our acquisition of certain assets and rights used in connection with the digital identity and biometric-enhanced physical access security business of Information Systems Support, Inc. and Biometric Solutions Group, Inc.

On March 2, 2004, we filed a current report on Form 8-K regarding our private placement of an aggregate of 3,080,000 shares of our common stock, and warrants to purchase up to 1,232,000 shares of our common stock for an aggregate purchase price of approximately $9.2 million.

On March 15, 2004, we amended our 8-K, which was originally filed on December 31, 2003, to provide the financial information required by Item 7 of Form 8-K.

On March 22, 2004, we furnished a current report on Form 8-K regarding our announcement of our financial results for the quarter and fiscal year ended December 31, 2003.

On March 23, 2004, we filed a current report on Form 8-K regarding our execution of a merger agreement with SSP Solutions, Inc.

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

Date: March 30, 2004

KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Glenn L. Argenbright his true and lawful attorney-in-fact and agent, with full power of substitution and resubstitution for him and in his name, place and stead, in any and all capacities, to sign any and all amendments to this Annual Report on Form 10-K, and all documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorney-in-fact and agent, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises, as fully to all intents and purposes as he might or could do in person, hereby ratifying and confirming all that said attorney-in-fact and agent, or his substitute or substitutes, may lawfully do or cause to be done by virtue hereof.

Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, this report has been signed below by the following persons on behalf of registrant and in the capacities and on the dates indicated.

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INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

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INDEPENDENT AUDITORS’ REPORT

The Board of Directors and Stockholders

SAFLINK Corporation:

We have audited the consolidated balance sheets of SAFLINK Corporation and subsidiary as of December 31, 2003 and 2002 and the related consolidated statements of operations, stockholders’ equity (deficit) and comprehensive income (loss), and cash flows for each of the years in the three-year period ended December 31, 2003. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on the results of our audits.

We conducted our audits in accordance with auditing standards generally accepted in the United States of America. These standards require that we plan and perform the audit to obtain reasonable assurance about 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. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of SAFLINK Corporation and subsidiary as of December 31, 2003 and 2002, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2003 in conformity with accounting principles generally accepted in the United States of America.

/s/    KPMG LLP

Seattle, Washington

February 6, 2004, except as to Note 13, which is

as of March 22, 2004

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SAFLINK CORPORATION

CONSOLIDATED BALANCE SHEETS

(In thousands, except per share data)