BUTLER NATIONAL CORPORATION AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1. The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q of Regulation S-X and do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. Therefore, these financial statements should be read in conjunction with the annual report on Form 10-K dated April 30, 2006. In our opinion, all adjustments (consisting of normal recurring accruals) necessary for a fair presentation have been included. Operating results for the three months ended July 31, 2006 are not indicative of the results of operations that may be expected for the year ending April 30, 2007.

Certain reclassifications within the condensed financial statement captions have been made to maintain consistency in presentation between years.

2. Advances for Indian Gaming Development: We are advancing funds for the establishment of Indian gaming. These funds have been capitalized in accordance with Statements of Financial Accounting Standards (SFAS) 67 "Accounting for Costs and Initial Rental Operations of Real Estate Projects." Such standard requires costs associated with the acquisition, development, and construction of real estate and real estate related projects to be capitalized as part of that project.

Our advances to the tribes for gaming developments are capitalized. These advances represent costs to be reimbursed upon approval of Indian gaming in several locations. We have agreements in place which require payments of advances to be made to us upon opening of Indian gaming facilities. Once gaming facilities have gained proper approvals, we plan to enter into a note receivable arrangement with the Tribe to secure reimbursement of advanced funds for that particular project. Reserves have been recorded for advances for the Indian gaming development costs when we are unable to determine whether reimbursement from the tribes will occur.

We have advanced and invested a total of $4,718,991 in Indian gaming developments. We have reserves of $2,912,440, at July 31, 2006 and April 30, 2006. We believe that our advances for Indian gaming developments will be totally reimbursed as casinos are opened. Due to the fact that all of the proposed casinos are involved in legal and governmental actions whose outcome is not certain nor is there any time frame for resolution we believe it is necessary to establish reserves against the advances. The reserve amount is an estimate of the value we would receive if a Tribal casino was not opened and we were forced to liquidate the assets that we have acquired with our advances. The assets were intended to be used with Tribal casinos and consist of the purchase of land improvements. The land purchases are located adjacent to residential developments. We believe that these tracts could be developed and sold for residential and commercial use to recover advances if the gaming enterprises do not open.

3. Earnings Per Share: Earnings per common share is based on the weighted average number of common shares outstanding during the year. Stock options have been considered in the dilutive earnings per share calculation.

4. Research and Development: We charge to operations research and development costs. The amount charged in the quarters ended July 31, 2006 and 2005 were approximately $498,631 and $421,524 respectively.

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

RESULTS OF OPERATIONS

Avionics: Sales were $204,595 for the three months ended July 31, 2006 compared to $797,524 in the comparable period of the preceding year, a decrease of 74.3%. Operating losses for the three months ended July 31, 2006 were $188,997 compared to an operating profit of $219,629 for the three months ended July 31, 2005. We expect this business segment to significantly increase in future years due to the addition of new fuel system protection devices like the TSD, GFI and other classic aviation defense products. During the first quarter of 2007 we focused our efforts on the build up of product for several customers.

Services - SCADA Systems and Monitoring Services: Revenue increased from $338,111 for the three months ended July 31, 2005 to $399,849 for the three months ended July 31, 2006, an increase of 18.3%. During the three months ended July 31, 2006 we maintained a relatively level volume of long-term contracts with municipalities. Revenue fluctuates due to the introduction of new products and services and the related installations of these products. Our contract with one of our largest customers has been renewed through fiscal 2008. We had an operating profit of $58,049 in Monitoring Services for the three months ended July 31, 2006, compared to $25,157 for the three months ended July 31, 2005.

Gaming: Revenues from management services related to gaming increased for the three months ended July 31, 2006. This increase is related to the approval of Class III casino gaming in Oklahoma.

Corporate / Professional Services: These services include the architectural services of BCS Design, Inc., arrangements for financing, and on site contract management of gaming establishments and engineering services. Flight and engineering services are also provided. Management consulting and professional fees were $69,762 for the three months ended July 31, 2006 and $114,232 for the three months ended July 31, 2005, a decrease of 39%.

Selling, General and Administrative (SG&A): Expenses were $821,146 or 27% of revenues for the three months ended July 31, 2006. Business overhead expenses were maintained at relatively the same level as last year.

Other Income (Expense): Other expenses increased from $93,252 in the three months ended July 31, 2005 to $119,930 for the three months ended July 31, 2006. The additional interest expense was a result of financing activities related to inventory and asset purchases.

We employed 88 at July 31, 2006 and 89 at July 31, 2005.

Earnings: Our net income for the prior three months period ended July 31, 2005 was $205,609. Our net income for the current three months ended July 31, 2006 was $43,975.

LIQUIDITY AND CAPITAL RESOURCES

We believe that our current banks will provide the necessary capital for our business operations. However, we continue to maintain contact with other banks that have an interest in funding our working capital needs to continue our growth in operations in fiscal 2007 and beyond.

We do not, as of July 31, 2006, have any material commitments for other capital expenditures other than the terms of the Indian gaming Management Agreements should any additional casinos materialize. We will need additional funds to complete our planned Indian gaming opportunities. We will use current cash available as well as additional funds, for the start up and construction of gaming facilities. We anticipate initially obtaining these funds from internally generated working capital and borrowings.

Analysis and Discussion of Cash Flow

During the quarter our cash position decreased by $361,628. The decrease in the cash flow was attributed to an increase in inventory and work in process of $256,935 and a reduction in accounts payables and other liabilities of $264,226, and other general use for operations of $97,191. Net increase in borrowings in the first three months was $173,787.

We believe all our inventory will be realized in the normal course of business. Lead-time for the components is dictated by the market place resulting in a build up of inventory to support sales and to avoid halting production because of material shortages.

Revenue Recognition

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements.

FORWARD LOOKING INFORMATION

The information set forth below includes "forward-looking" information as outlined in the Private Securities Litigation Reform Act of 1995. The Risk Factors listed under Item 1A of our Form 10K and the Cautionary Statements, filed by us as Exhibit 99 to our Form 10-K, are incorporated herein by reference and you are specifically referred to such Risk Factors and Cautionary Statements for a discussion of factors which could affect our operations and forward-looking statements contained herein.

Part I Item 3:

Quantitative and Qualitative Disclosures about Market Risk.
None

Part I Item 4

Controls and Procedures
We maintain a set of disclosure controls and procedures designed to ensure that information required to be disclosed in our filings under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms. Our principal executive and financial officers have evaluated our disclosure controls and procedures within 90 days prior to the filing of this Quarterly Report on Form 10-Q and have determined that such disclosure controls and procedures are effective.

PART II.
OTHER INFORMATION

Item 1

Legal Proceedings
None

Item 1A.

Risk Factors
None

Item 2

Unregistered Shares of Equity Securities and Use of Proceeds
None

Item 3

Defaults Upon Senior Securities
None

Item 4

Submission of Matters to Vote of Security Holders
None

Item 5

Other Information
None

Item 6

Exhibits and reports on Form 8-K.
(A) Exhibits.

Articles of Incorporation, as amended and restated are incorporated by reference to Exhibit 3.1 of our Form DEF 14A filed on December 26, 2001.

Bylaws, as amended, are incorporated by reference to Exhibit 3.2 of our Form DEF 14A filed on December 15, 2003.

31.1

Certificate of Chief Executive Officer

31.2

Certificate of Chief Financial Officer

Certifications of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted to Section 906 of the Sarbanes-Oxley Act of 2002.

32.2

Certifications of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted to
Section 906 of the Sarbanes-Oxley Act of 2002.

99

Exhibit Number 99
Cautionary Statements for Purposes of the "Safe Harbor" Provisions of the Private Securities Litigation Reform Act of 1995, are incorporated by reference to Exhibit 99 of the Form 10-K for the fiscal year ended April 30, 2006.

27.1

Financial Data Schedule (EDGAR version only). Filed herewith.
We agree to file with the Commission any agreement or instrument not filed as an exhibit upon the request of the Commission.

(B)

Reports on Form 8-K.

We reported on May 9, 2006 on Form 8-K under Item 8.01 and Item 9.01 that we issued a press release announcing that BCS Design, Inc., a wholly owned subsidiary of the company, would assist with the Junction City, Kansas housing development.

We reported on June 8, 2006 on Form 8-K under Item 8.01 and Item 9.01 that we issued a press release announcing that Avcon Industries, Inc., a wholly owned subsidiary of the company, has received FAA approval to install it's next generation RVSM equipment in Lear 35 and 36 model airplanes.