ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

As used throughout this Report, "we," "our," "the Company" "USI" and similar words refers to Universal Security Instruments, Inc.

Forward-Looking Statements

This Quarterly Report on Form 10-Q contains certain forward-looking statements reflecting our current expectations with respect to our operations, performance, financial condition, and other developments. These forward-looking statements may generally be identified by the use of the words "may", "will", "believes", "should", "expects", "anticipates", "estimates", and similar expressions. These statements are necessarily estimates reflecting management's best judgment based upon current information and involve a number of risks and uncertainties. We caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made, and readers are advised that various factors could affect our financial performance and could cause our actual results for future periods to differ materially from those anticipated or projected. While it is impossible to identify all such factors, such factors include, but are not limited to, those risks identified in our periodic reports filed with the Securities and Exchange Commission, including our most recent Annual Report on Form 10-K.

overview

We are in the business of marketing and distributing safety and security products which are primarily manufactured through our 50%-owned Hong Kong Joint Venture. Our financial statements detail our sales and other operational results only, and report the financial results of the Hong Kong Joint Venture using the equity method. Accordingly, the following discussion and analysis of the three month periods ended June 30, 2012 and 2011 relate to the operational results of the Company. A discussion and analysis of the Hong Kong Joint Venture's operational results for these periods is presented below under the heading "Joint Venture."

The Company has developed new products based on new smoke and gas detection technologies, with what the Company believes are improved sensing technology and product features. The Company has applied for patents for these new products.

Results of Operations

Three Months Ended June 30, 2012 and 2011

Sales. Net sales for the three months ended June 30, 2012 were $3,059,352 compared to $3,201,302 for the comparable three months in the prior fiscal year, a decrease of $141,950 (4.43%). The primary reason for the decrease in net sales volumes is the timing of orders received from customers.

Gross Profit Margin.Gross profit margin is calculated as net sales less cost of goods sold expressed as a percentage of net sales. Our gross profit margin was 32.0% and 27.3% of sales for the quarters ended June 30, 2012 and 2011, respectively. The increase in gross profit margin was primarily due to higher margins realized on sales of our next generation of products.

Expenses. Research and development expenses decreased from the comparable three months in the prior year, primarily due to the timing of expense incurred with testing facilities working on new products.

Selling, general and administrative expenses increased by $258,529 from the comparable three months in the prior year. The increase in the dollar amount of these expenses was principally due to increased expenditures associated with advertising and promotion of our next generation of products of approximately $202,000. As a percentage of net sales, these expenses increased to 44.5% for the three month period ended June 30, 2012 from 34.4% for the 2011 period. The increase in costs as a percentage was primarily due to those items discussed above.

Interest Expense and Income. Interest income was $9,647 for the quarter ended June 30, 2012, compared to net interest income of $5,174 for the quarter ended June 30, 2011. The increase in interest income, net of interest expense, is due to a decrease in interest expense paid to our factor.

Income Taxes.During the quarter ended June 30, 2012, the Company generated a net income tax benefit of $181,734. For the corresponding 2011 period, the Company generated net income tax benefit of $127,428 The provision for income taxes for the quarter ended June 30, 2012, as compared to the same quarter in the prior year, is determined principally by the loss from operations and the amount and timing of the unrealized earnings of and the payment of dividends by the Hong Kong Joint Venture. The income tax benefit for the three months ended June 30, 2012 and 2011 is derived from the estimated taxes resulting from the sum of taxable results from operations plus dividends received from the Hong Kong Joint Venture, less the benefit derived, if any, from the utilization of net operating losses available.

Net Income.We reported a net loss of $362,588 for the quarter ended June 30, 2012, compared to net income of $581 for the corresponding quarter of the prior fiscal year, a $363,169 decrease. The reason for the decrease in net income is principally due to reduced earnings of the Joint Venture and increased expenditures for advertising and promotion of our next generation of new products.

Financial Condition and Liquidity

The Company has a Factoring Agreement with CIT Group, Inc. (CIT) which supplies both short-term borrowings and letters of credit to finance foreign inventory purchases. The maximum amount available under the Factoring Agreement is currently $1,000,000. Based on specified percentages of our accounts receivable and inventory and letter of credit commitments, as of June 30, 2012 we had a borrowing availability of $1,000,000 under the Factoring Agreement. We had no borrowings on the debt portion of the agreement as of June 30, 2012. The interest rate under the Factoring Agreement on the uncollected factored accounts receivable and any additional borrowings is equal to the prime rate of interest charged by our lender. At June 30, 2012, the prime rate was 3.25%. Borrowings are collateralized by all of our accounts receivable and inventory. The Company does not anticipate any changes in its ability to maintain its short-term or long-term liquidity.

Our factored accounts receivable as of the end of our last fiscal year was $1,719,731, and was $1,896,144 as of June 30, 2012. Our prepaid expenses as of the end of our last fiscal year were $599,876, and were $532,538 as of June 30, 2012.

Operating activities used cash of $317,961 for the three months ended June 30, 2012. This was primarily due to an increase in inventories and prepaid expenses of $170,472, an increase in accounts receivable and amounts due from factor of $53,802, offset by an increase in accounts payable and accrued expenses of $360,529 and the loss of the Joint Venture of $14,052. For the same period last year, operating activities used cash of $1,473,853, primarily as a result of increases in inventory and prepaid expenses and a decrease in accounts payable and accrued expenses.

Investing activities used cash of $8,704 during the three months ended June 30, 2012, as a result of the purchase of assets. For the same period last year, investing activities used cash of $1,125, primarily related to the purchase of assets held for investment.

Financing activities used cash in the current fiscal period for the repurchase of the Company's common stock.

We believe that funds available under the Factoring Agreement, distributions from the Joint Venture, and our line of credit facilities provide us with sufficient resources to meet our requirements for liquidity and working capital.

Joint Venture

Net Sales. Net sales of the Joint Venture for the three months ended June 30, 2012 were $5,398,549, compared to $6,196,059, for the comparable period in the prior fiscal year. The decrease in net sales by the Joint Venture for the three month period was due to lower volumes of sales of smoke alarm products to non-affiliated customers in Europe.

Gross Margins.Gross margins of the Joint Venture for the three month period ended June 30, 2012 decreased to 24.7% from 25.7% for the 2011 corresponding period. The lower gross margins for the 2012 period was due to product mix of the Joint Venture's sales; since gross margins depend on sales volume of various products, with varying margins, lower sales of higher margin products and increased sales of lower margin products affect the overall gross margins.

Expenses.Selling, general and administrative expenses were $1,186,151, for the three month period ended June 30, 2012, compared to $1,030,078 in the prior year's respective periods. As a percentage of sales, expenses were 22.0% for the three month period ended June 30, 2011, compared to 16.6% for the three month period ended June 30, 2011. The increase in selling, general and administrative expenses, as a percent of sales, was primarily due to fixed costs that do not change in the same proportion as the reduction in sales.

Interest Income and Expense. Net interest income on assets held for investment was $112,893 and $100,586 for the three month period ended June 30, 2012 and 2011, respectively.

Net Income. For the reasons stated above, net income for the three months ended June 30, 2012 was $166,819, compared to net income of $666,827, in the comparable period last year.

Liquidity.Cash needs of the Joint Venture are currently met by funds generated from operations. During the three months ended June 30, 2012, working capital decreased by $356,828 from $10,492,507 on March 31, 2012 to $10,135,679 on June 30, 2012.

Critical Accounting Policies

Management's discussion and analysis of our consolidated financial statements and results of operations are based on our Condensed Consolidated Financial Statements included as part of this document. The preparation of these consolidated financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosures of contingent assets and liabilities. On an ongoing basis, we evaluate these estimates, including those related to bad debts, inventories, income taxes, and contingencies and litigation. We base these estimates on historical experiences, future projections and on various other assumptions that are believed 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 available from other sources. Actual results may differ from these estimates under different assumptions or conditions.

We believe the following critical accounting policies affect management's more significant judgments and estimates used in the preparation of its consolidated financial statements. For a detailed discussion on the application on these and other accounting policies, see Note A to the consolidated financial statements included in Item 8 of the Form 10-K for the year ended March 31, 2012. Certain of our accounting policies require the application of significant judgment by management in selecting the appropriate assumptions for calculating financial estimates. By their nature, these judgments are subject to an inherent degree of uncertainty and actual results could differ from these estimates. These judgments are based on our historical experience, terms of existing contracts, current economic trends in the industry, information provided by our customers, and information available from outside sources, as appropriate. Our critical accounting policies include:

Revenue Recognition.We recognize sales upon shipment of products net of applicable provisions for any discounts or allowances. The shipping date from our warehouse is the appropriate point of revenue recognition since upon shipment we have substantially completed our obligations which entitle us to receive the benefits represented by the revenues, and the shipping date provides a consistent point within our control to measure revenue. Customers may not return, exchange or refuse acceptance of goods without our approval. We have established allowances to cover anticipated doubtful accounts based upon historical experience.

Inventories.Inventories are valued at the lower of cost or market. Cost is determined on the first-in first-out method. We have recorded a reserve for obsolescence or unmarketable inventory equal to the difference between the cost of inventory and the estimated market value based upon assumptions about future demand and market conditions. Management reviews and updates the reserve quarterly.

Income Taxes. The Company recognizes a liability or asset for the deferred tax consequences of temporary differences between the tax basis of assets or liabilities and their reported amounts in the financial statements. These temporary differences will result in taxable or deductible amounts in future years when the reported amounts of the assets or liabilities are recovered or settled. The deferred tax assets are reviewed periodically for recoverability and valuation allowances are provided, whenever it is more likely than not that a deferred tax asset will not be realized. The Company follows the financial pronouncement that gives guidance related to the financial statement of recognition and measurement of a tax position taken or expected to be taken in a tax return and requires that we recognize in our financial statements the impact of a tax position, if that position is more likely than not to be sustained upon an examination, based on the technical merits of the position. Interest and penalties related to income tax matters are recorded as income tax expenses.

Financing Receivables.Management considers amounts due from the Company's factor to be "financing receivables". Trade accounts receivable, other receivables, and receivables from our Hong Kong Joint Venture are not considered by management to be financing receivables.

The Company sells the majority of its short-term receivables arising in the ordinary course of business to our factor. At the time a receivable is sold to our factor the credit risk associated with the credit worthiness of the debtor is assumed by the factor. The Company continues to bear any credit risk associated with delivery or warranty issues related to the products sold.

Management assesses the credit risk of both its trade accounts receivable and its financing receivables based on the specific identification of accounts that have exceeded credit terms. An allowance for uncollectible receivables is provided based on that assessment. Changes in the allowance account from one accounting period to the next are charged to operations in the period the change is determined. Amounts ultimately determined to be uncollectible are eliminated from the receivable accounts and from the allowance account in the period that the receivables' status is determined to be uncollectible.

Based on the nature of the factoring agreement and prior experience, no allowance for uncollectible financing receivables has been provided. At June 30, 2012, an allowance of $75,000 has been provided for uncollectible trade accounts receivable.

Contingencies.From time to time, we are subject to lawsuits and other claims, related to patents and other matters. Management is required to assess the likelihood of any adverse judgments or outcomes to these matters, as well as potential ranges of probable losses. A determination of the amount of reserves required, if any, for these contingencies is based on a careful analysis of each individual issue with the assistance of outside legal counsel. It is the opinion of management, based on advice of legal counsel, that the ultimate outcome of these matters will not have a material adverse effect on the Company's financial statements.

Warranties.We generally provide warranties from one to ten years to the non-commercial end user on all products sold. The manufacturers of our products provide us with a one-year warranty on all products we purchase for resale. Claims for warranty replacement of products beyond the one-year warranty period covered by the manufacturers are immaterial and we do not record estimated warranty expense or a contingent liability for warranty claims.

recent accounting pronouncements not yet adopted

Changes to accounting principles generally accepted in the United Stated of America (U.S. GAAP) are established by the Financial Accounting Standards Board (FASB) in the form of accounting standards updated (ASU's) to the FASB's Accounting Standards Codification.

We consider the applicability and impact of all ASU's. Recently issued ASU's were evaluated and determined to be either not applicable or are not expected to have a material impact on our consolidated financial statements.