Optical Systems, Inc.

Rating: Speculative Buy

Market Data July 8, 2008

Symbol OPSY
Exchange OTCPK
Current Price $0.16
Price Target $0.50
Speculative
Rating Buy
Outstanding Shares 94.6 million
Market Cap. $15.1 million
Average Volume NA
Source: Yahoo Finance, Analyst estimates

Company Overview

Optical Systems Inc. (OPSY), through its wholly owned

subsidiary, Automotive Software Designers, Inc., provides front
office software for automotive dealerships nationwide. OPSY’s
“save-a-deal” software has been shown to significantly improve
dealer efficiency by automating workflow within a dealership,
eliminating manual forms and reducing the time needed to desk
and finance a deal. The Company further differentiates its
software from industry competitors’ products by providing
value-added services such as management consulting, network
support and business development call center services to clients.
At present, OPSY has 21 franchised automotive dealerships using
its front office software. In June 2008, the Company announced
the opening of a business development call center which will
further support its save-a-deal customers. Integrated with OPSY’s
sales information system the business development call center
will help auto dealers convert more leads into showroom sales by
promptly responding to customer enquiries.

The Company has installed its save-a-deal software at Frank Kent

Honda, one of the oldest and largest Honda dealers in Teas. This
and other dealer relationships are enhancing the Company’s
visibility and multiplying its sales opportunities. More recently,
OPSY announced a marketing partnership with Alphatrade.com,
a media and marketing company, where Alphatrade will assist
OPSY with digital marketing, media and networking. The
Company has raised $2.4 million in capital since its inception and
is contemplating a $2 million strategic financing arrangement
with potential partners. These funds would be used for
marketing purposes and expanding the Company’s customer
base.

In November 2007, the Company, formerly known as Optical

Systems Holdings, acquired 100% of the issued and outstanding
stock of Automotive Software Designers, Inc (ADS), which owned
the save-a-deal software. Prior to closing this deal, ADS’s owner
B.J. Grisaffi acquired a majority stake in OPSY. Mr. Grisaffi has
more than 30 years of automotive dealership and related
experience and currently serves as OPSY’s President, CEO and a
director. In addition, two prominent directors have been added
in 2008. Keith Orr, a legendary figure in the automotive industry
and CEO/co-owner of Orr Automotive, recently joined OPSY’s
board. So has William Mokry, an automotive industry veteran
who held executive management positions with two major U.S.
auto manufacturers. Mr. Mokry currently owns and manages a
multi-location sub-prime automobile sales and finance company.

Management believes the new business development call center

the Company opened last month significantly enhances the value
proposition OPSY offers customers since it frees dealership sales
professionals to focus on selling and closing car sales, rather than
chasing down leads. The save-a-deal business development call
center is unique in that it is staffed by trained vehicle sales
professionals and not the more typical low-skill call center
workers. Preliminary results suggest that save-a-deal dealerships
utilizing the services of the business development call center can
expect to more than double closing rates for their stores.

Investment Highlights

Auto dealerships seek competitive advantages through better

sales tools

The Company serves a competitive, highly fragmented

automotive dealership market consisting of some 21,800
franchised dealers nationwide and tens of thousands of
independent dealers. Intense competition for customers has given
car buyers strong bargaining power. As a result, industry profit
margins are under pressure. Unable to boost prices on most
vehicle models, dealers are focusing instead on maintaining
margins through greater efficiency. OPSY’s save-a-deal front
office software enables dealers to significantly improve efficiency
by automating workflow, eliminating paper forms and
streamlining deal financing.

Dealers desperate for sales follow-up tools

OPSY is addressing an unmet market need by developing call

centers that provide customer follow-up calls for save-a-deal
dealers. The ability to offer this highly profitable service is a
natural offshoot of the save-a-deal package since the system
requires the dealer’s sales associate to acquire a customer’s
information at the point of sale. Auto dealerships are in desperate
need of efficient, reliable sales follow-up tools and the Company’s
call centers are uniquely positioned to fill that need.

OPSY’s integrated software is supported by valued-added

services

The Company’s save-a-deal software combines sales prospecting,

CRM, deal desking and inventory management functionalities in
one integrated tool. OPSY also offers its dealer customers value-
added services such as management consulting, networking
solutions and business development call center support. The
Company’s feature-rich software and related services
differentiates OPSY’s product from the competition. Other
software vendors serving this niche market offer software limited
to only one particular application such as desking, inventory
management or Internet CRM.
Installed dealership base and new marketing partnership

The Company has installed its save-a-deal software at 21

dealerships nationwide and recently completed a software
installation at Frank Kent Honda, one of the oldest and largest
Honda dealerships in Texas. The Company plans to further boost
its brand visibility and sales prospects through a marketing
partnership with Alphatrade.com. This marketing company is
known for its ability to tailor its programs to target specific
demographics in a cost-effective manner. Brand awareness in the
automotive industry is essential to OPSY’s long-term success;
Alphatrade is designing a marketing program specifically tailored
to achieving this objective.

OPSY anticipates robust revenue growth and profitability in

2008

With all the development work on its principal software package

essentially completed, the Company’s 2008 R&D spending
requirements are minimal and OPSY is free to redirect its
resources towards marketing and sales. Management targets 50%
quarter-over-quarter growth over the next several quarters and
estimates 2008 revenues will fall in a $0.7 million range. High
gross margins on both software and business development call
center sales (i.e. 95% margins) enabled OPSY to turn profitable in
the first quarter of 2008 and we anticipate the Company will
report a modest net profit for full-year 2008.

Experienced management team directs OPSY’s growth

Company President/CEO, B.J. Grisaffi, has more than 30 years of
experience managing automobile dealerships. He, along with his
team, pioneered the save-a-deal program and led the
development of the software. Keith Orr, who recently joined the
Company as a director, is a legendary figure in the automotive
industry He was the CEO and majority owner of Orr Automotive
Group. and brings to OPSY substantial marketing, sales, product
development and dealership management experience. In July,
William Mokry, an automotive industry veteran who held
executive management positions with two major U.S. auto
manufacturers, was added to the board. Mr. Mokry currently
owns and manages a multi-location, sub-prime automobile sales
and finance company.
Automotive Dealership Market

Highly fragmented and competitive market

The vast majority of new car sales in the U.S. are generated by
some 21,800 franchised automotive dealerships nationwide which
have combined annual revenues of approximately $675 billion.
The industry is highly fragmented, with the top dealerships
accounting for less than 10% of industry revenues. However, the
automotive dealership industry has begun to consolidate in
recent years due to declining new vehicle sales, competition from
on-line sources, and other competitive challenges which have
resulted in pricing and margin pressure. Unable to raise vehicle
prices, car dealers are focusing instead on improving efficiencies
as a means for boosting profits. This scenario is creating demand
for integrated software products that can help improve front
office efficiency. Vendors of value-added software and services
such as Optical Systems, Inc. are uniquely well-positioned to
address the evolving needs of this niche market.

Exhibit 1: State-by-state breakdown of auto dealerships

 Alaska 38

Vermont Maine
Washington 383 97 144

Michigan
Montana 132 North Dakota Minnesota 759 New Hampshire 169
96 38 New York
Oregon 274 Wisconsin 1,112
Massachusetts 478
South Dakota 597
Idaho 123 117 Rhode Island 63
Pennsylvania
Wyoming 70 1,161 Connecticut 320
Iowa
369 Ohio Delaware 65
Nebraska 213
Indiana 958 West
Nevada 118 Illinois New Jersey 574
934
521 Virginia Virginia
169 551
Utah 153 D.C. 1
Colorado 284 Missouri Kentucky
Kansas 258 494 298 North Carolina
California Maryland 358
Tennessee 692
1,594 South
420
Carolina
Oklahoma 299 Arkansas
Arizona 256 267 Georgia 326
Alabama 603
New Mexico 140
Mississippi 345
242
Louisiana
Texas 1,346 337
Florida
Hawaii 66 948

Source: NADA

Exhibit 2: Breakdown of U.S. auto dealerships, by volume of new-unit

sales

10,000
Number of dealerships

7,500

5,000

2,500

0
0-149 150-399 400-749 750+
1988 1998 2008
Source: NADA Industry Analysis Division

More vehicles on the road today than ever before

The number of vehicles operating in the United States grew to

more than 248 million in June, 2007. The number of vehicles on
the road increased 2% annually between 2000 and 2007.
Although new vehicles registrations have declined modestly in
recent years, the used car market remains robust, providing
automotive dealers with ample opportunities for increasing sales
volume In addition to selling cars, most dealers now generate
significant incremental profits from selling insurance and
financing services to their customers. The increasing complexity
of automotive dealership operations has created the need for
software tools that can streamline and automate several
processes.

Exhibit 3: Total Vehicles in operation by year

260

240
Millions

220

200

180
1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007

Source: The Polk Co. & NADA

Exhibit 4: Aftermarket income (As % of new- and used-vehicle
department gross profit)

30%

25%

20%

15%

10%

5%

0%
1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007
Finance and insurance Service contract and other

Source: NADA Industry Analysis Division

Margin gains targeted through efficiencies

Intense competition among automotive dealers has led to

declining industry profits. The profitability of new vehicles sales
has been adversely impacted by lower sales volume, large
inventories, generous consumer incentives and higher floor plan
and energy costs. In the last two years, net profits on new vehicle
sales have fallen below the breakeven level for most automotive
dealers. As a result, auto dealers must now rely on used car sales
to generate more of their profits. Although net profits on used car
sales have declined marginally in recent years, these sales remain
very attractive compared to new car sales. NADA (National
Automobile Dealers Association) claims that despite lower
profits, dealer gross margins have remained relatively stable; it is
only net margins that have declined. To improve net margins,
automotive dealers are seeking way to reduce overhead and
automate processes, installing software and other efficiency tools
that can provide a rapid return on investment.

Exhibit 5: New-vehicle department Exhibit 6: Used-vehicle department

net profit net profit

200 160

150
120

100
'000s $

'000s $
80
50

40
0

-50 0
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007

1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
Source: NADA Industry Analysis Division

Cluttered software competitive landscape

Many vendors have developed software with applications for

automotive dealerships; product offerings range from pure CRM-
related software to Internet-based applications and database
management services. This niche software market is characterized
by rapidly changing technology needs, continuous innovations
and a growing emphasis on ease of use. Factors that determine
the most successful software vendors are the size of the installed
customer base, hassle-free usage, strong branding and product
functionality.

OPSY offers the industry’s most complete end-to-end software

solutions for car sales and dealership front office operations. The
Company further differentiates its product with value-added
services such as management consulting, networking solutions
and business development call center services for save-a-deal
dealerships.
Exhibit 7: OPSY competitive advantage.

Optical Systems, Inc Software Solutions Management Network Solutions Call Center Solutions
Consulting

The Reynolds &

Software Solutions Professional Services IT Solutions
Reynolds Company

Automatic Data Business Outsourcing

Processing solutions

Dealerstrack
Software Solutions
Holdings Inc.

Cobalt Internet Advertising

and Marketing services

Source: Company Reports

Product Strategy

OPSY has developed a superior software solution that provides a

broad range of functionalities. The Company markets the
industry’s only integrated lead sourcing, Internet CRM, desking
and inventory management tool. In addition to feature-rich
software, OPSY supports its save-a-deal customers with business
development call center, management consulting and network
solution services. OPSY’s President/ CEO B.J. Grisaffi, and new
directors Keith Orr and William Mokry have extensive dealership
management backgrounds and have imparted their accumulated
wisdom in the Company’s feature-rich software.

Save-a-deal software

The Company’s save-a-deal software offers customers the

following:

-Document and source all sales prospects from the Internet,

telephone, walk-in traffic and appointments;

- Facilitate, control and monitor follow-up with the CRM tool;

- Control and monitor the sales process with a customized desk

dealing tool;

-Control new and used vehicle inventories with inventory

management tools.

Exhibit 8: Products and services

Optical Systems Inc. Products and Services

Products Services

Save-A-Deal Software Business

Development Center
Solutions

Deal Deskings Sales Department Finance Inventory

One Piece Department Menu Management Management
Consulting

Save-A-Deal Internet CRM Drivers License DMS Integration Network Solutions

Reports Capabilities Scanner
Source: Company Reports

The Company also provides management consulting to

dealerships on a weekly basis, drawing on the experience of
personnel who have held positions such as General Manager,
Sales Manager and Finance and Insurance Manager. Recognizing
the industry’s desperate need for customer follow-up calls, OPSY
has integrated its save-a-deal software with a business
development call center that will enable automotive dealers to
convert more leads into showroom sales.

The Company also provides network services that help

automotive dealers solve their complex IT problems. Few
dealerships have the in-house technical expertise to address
network issues.

Business Strategy

The Company’s business strategy encompasses every aspect of

its operations from product development and positioning to
marketing, brand building and funding strategies.

Call center solution enhances customer acquisition and

retention

OPSY is enhancing its value proposition to automotive

dealerships by leveraging the customer leads gathered through
the front office software with business development call centers
which convert leads into showroom sales. Preliminary results
indicate that dealers using the support services of the business
development call center can expect to more than double closing
rates for their stores. The call center frees dealership sales
personnel from mundane, low value tasks such as handling
incoming preliminary sales inquiries, making outbound follow
up calls to customers and qualified prospects, and
calling\emailing prospective Internet leads. The Company staffs
its call center with trained vehicle sales personnel instead of the
inexperienced, low skill workers typically associated with call
center operations.

Management consulting services and network services further

enhance offerings

OPSY makes management consulting services available to its auto

dealer customers and also uses its contacts with senior network
engineers to assist customers in solve complex network issues.

Plans shift from R&D to revenue generation

With product development essentially complete, OPSY is shifting

its focus from research and development to product sales and
marketing. Management targets growth averaging 50% per
quarter over the next several quarters and shifting its marketing
plan into high gear with Alphatrade’s help.

Creating brand awareness

The Company recognizes that brand awareness within the
automotive marketplace is essential for its longer-term success.
Accordingly, OPSY is partnering with marketing guru
Alphatrade to create and roll out a highly targeted and effective
marketing campaign.

Plans to raise funds via an equity private placement

The Company currently has 21 franchised dealers using its save-

a-deal software and is discussing a strategic financing
arrangement with potential partners which could raise $2.0
million in additional capital and fund further expansion of its
marketing efforts and customer base.

Exhibit 9: Business Strategy

Creating
brand
awareness

Raising funds Call center services

via private for customer
Business acquisition and
placement
retention,
Strategy

Shift from
R&D to
revenue
generation.

Source: Beacon Equity Research

Competitive Analysis

OPSY’s closest direct competitor, DealerTrack Holdings,

generates annual sales approaching $250 million. DealerTrack
Holdings and other competitors are described below:

DealerTrack Holdings Inc

DealerTrack Holdings provides on-demand software and data

solutions for U.S. automotive dealerships. The company utilizes
the Internet to link automotive dealers with banks, finance
companies, credit unions and other financing sources, and also
other service and information providers, such as the major credit
reporting agencies. As of December 31, 2007, DealerTrack
Holdings had more than 22,000 automotive dealers
(approximately 90% of all franchised dealers) in its network and
over 450 financing sources as well as other service and
information providers. The company is headquartered in Lake
Success, New York and primarily operates in the U.S. and
Canada.

Automatic Data Processing

Automatic Data Processing, Inc. provides computerized

transaction processing, data communication and information
services. ADP also provides payroll processing (including full
departmental outsourcing) and human resource administration
services in Canada and Europe. It also offers wage and tax
collection, and remittance services in Canada. ADP was
incorporated in 1961, and is headquartered in Roseland, New
Jersey. It operates primarily in the U.S. and has 46,000 employees.

Reynolds and Reynolds Company

Reynolds and Reynolds Company is an integrated solutions

provider to automotive retailers. The company provides a range
of services such as information technology, software solutions
and professional services to the automotive segment. It also offers
products and services for original equipment manufacturers. It is
a private company operating primarily in the U.S. and Canada
and employing about 4,300 people.

Cobalt Group

Cobalt Group provides Internet advertising and marketing

services such as lead management, inventory marketing, image
marketing advanced vehicle search, pre-owned marketing and
Spanish-language marketing to automobile dealers and
manufacturers. The company's services enable auto
manufacturers and dealers to build brands through marketing
and Internet advertising. Privately-owned Cobalt works with
more than 27 manufacturers and 12,000 franchised dealers across
the U.S.

Financial Analysis
Financial Record

OPSY had sales totaling $60,491 in 2007. The Company became

active in November 2007 when it acquired Automotive Software
Designers, Inc. For the quarter ending March 2008, the Company
posted revenues of $134,680.

Operating expenses totaled $157,013 in 2007, with payroll and

related costs accounting for about 59.0% of the total and
administrative expenses and selling & marketing expenses
constituting 24.6% and 14.3%, respectively. The Company plans
to increase sales and marketing expenditures in 2008 as its focus
shifts from research and development to revenue generation.

OPSY recorded a net loss of $109,522 in 2007. Net income turned

positive in the first quarter of 2008 as a result of revenue growth
that allowed for improved absorption of overhead costs.

Exhibit 10: Selected income statement data

First quarter Year ended
ended March December 31,
31, 2008* 2007
Revenue $134,680 $60,491
Total Operating $127,190
Expenses $157,013
Operating Income $7,940 (109,522)
Net Income / (Loss) $7,940 ($109,522)
EBITDA ($10,546) ($106,047)
Source: Company Reports, Pink Sheets
Liquidity and capital requirements

As of March 31, 2008, the Company had cash and equivalents of

$124,475 and no long-term liabilities. However, OPSY had a
working capital deficit (excluding cash) of approximately $11,484.
The Company will likely need to raise additional external
financing to fund its 2008/09 business plan and is contemplating
a $2 million strategic financing arrangement.

Exhibit 11: Selected balance sheet data

March 31,
2008
Cash & cash equivalents $124,475
Net working capital ( ($11,484)
excluding cash)
Total assets $ 714,137
Total long term liabilities N/A
Total current liabilities $90,211
Stock holders’ Equity ( $633,868
deficit )
Source: Company 10-Q, Pink Sheets
Revenue Outlook

With development work on its software product essential

completed, OPSY is switching its focus to revenue generation.
The Company is already off to a strong start in 2008, recording
first quarter sales of $134,680 and a modest first quarter net profit.
Management is targeting 50% quarter-over-quarter sales growth
for the next several quarters. We expect OPSY to generate 2008
revenues in a $0.7-0.9 million range, which will consist of $0.2-0.4
million in business development call center sales and around $0.5
million in software sales.
The Company’s principal competitor, DealerTrack Holdings,
produces annual revenues in a $250 million range supplying a
limited software product to around 90% of the nation’s franchise
auto dealers. Simply capturing 10% of that market creates a $25
million market opportunity for OPSY. Going forward, we
anticipate growth in OPSY’s revenues to around $3.5 million in
2009 and $7 million in 2010, with sales rising to $17.5 million by
2012. Recurring revenues from the business development call
centers provides a powerful tool for leverage software sales.
Reflecting its high gross margins and lean operating structure, we
expect OPSY to remain solidly profitable for full-year 2008 and
beyond.

Valuation Analysis

OPSY’s competitors were recently trading at Price/Sales

multiples averaging around 2.6 times revenues and forward
Price/Sales multiples averaging about 2.5 times revenues.
Because of its higher projected revenue growth and recurring
revenues from call center operations, we believe OPSY shares
warrant a premium multiple relative to DealerTrack Holdings.
We value OPSY shares at a 3.0 times forward Price/Sales
multiple.

Exhibit 12: Peer group

 Marke PE P/S
Ticke Shar t Cap.
Company r e
Name Symb Price ($ 200 200 200 200 20
Millio 2007
ol 8 9 7 8 09
n)
DealerTra
ck
Holdings $14.7 35. 12.
Inc TRAK 4 628 21.7 4 0 2.3 2.5 2.4
Automatic
Data
Processin $42.6 19. 17.
g Inc ADP 4 2,213 19.4 1 7 2.5 2.6 2.5
27. 14.
Peer Avg 20.5 2.4 2.6 2.5
2 9
Optical
OPS
Systems, $0.16 15.1
Y
Inc
Source: Reuters (Share price as on July 9, 2008)

By multiplying our $17.5 million 2012 revenue estimate by a 3.0

times forward Price/sales multiple, we derive a $52.5 million
market capitalization target for OPSY shares. We assume 10%
share dilution resulting from the proposed strategic financing and
divide the market capitalization target by 105 million fully
diluted shares outstanding to derive our $0.50 price target.
Accordingly, we are initiating coverage of Optical Systems, Inc.
with a Speculative Buy rating and a $0.50 price target. With its
feature-rich software and value-added call center services, we
think OPSY is well-positioned to rapidly garner share in the
automotive dealer software market. We caution investors,
however, that OPSY must confront and overcome many obstacles
in achieving its market penetration goals. Some of the principal
risks faced by the Company are discussed below.

Risk Factors

Reliance on automotive industry

The Company’s software and services address the specific needs

of automotive dealerships. At present, OPSY is entirely
dependent on automotive dealers for product sales. The U.S.
economic slowdown has created a difficult sales environment for
automotive dealer and high crude oil prices are adversely
impacting sales of gas-guzzling vehicle models.

Technology risks

The Company also faces risks related to technology innovation.

Its product may become outdated and the possibility exists that a
competitor may introduce more feature-rich software. OPSY’s
ability to adapt to changing technology and the evolving needs of
its market niche will determine the Company’s future growth.

Brand loyalty

DealerTrack Holdings has relationships with nearly 90% of

automotive dealerships. Although OPSY offers a more feature
rich product as well as valued-added services, customers may be
hesitant to switch vendors and brand loyalty to DealerTrack
Holdings may limit OPSY’s ability to garner market share.

Lack of financing

The Company has a working capital deficit and will likely need to
raise additional third party financing to implement its 2008/09
business plan. A $2.0 million strategic financing is contemplated;
however, there is no guarantee that OPSY will be able to raise the
necessary capital. An equity sale dilutes the ownership interests
of existing shareholders while debt financing increases the
Company’s finance risk and debt servicing requirements.
Management

B. J. Grisaffi, Chairman, President and Chief Executive Officer

B. J. Grisaffi has more than 30 years experience managing

automobile dealerships. He and his team pioneered the save-a-
deal program, introducing the only integrated automotive
dealership front office software available in the market today.
Mr. Grisaffi was the owner of Automotive Software Designers
and acquired a majority stake in OPSY before the two companies
were merged. He currently serves as President, CEO and a
director of the merged business.

Keith Orr, Director

Keith Orr is a legendary figure in the automotive industry. He

was the CEO and majority owner of Orr Automotive Group. Mr.
Orr’s experience encompasses senior roles in marketing, sales,
product development and dealership management. Mr. Orr holds
a Bachelor’s degree in Business Management from the University
of Texas at Arlington.

William Mokry, Director

Mr. Mokry joined OPSY’s board of directors in July 2008. This

automotive industry veteran has held senior executive positions
with two major U.S. auto manufacturers as well as ownership
intererts in retail dealerships. He currently owns and manages a
multi-location, , sub-prime auto sales and finance company.