##### Table of Contents



SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15(d) of Securities Exchange Act of 1934

For Quarter Ended March 31, 2001

Commission File Number 1-4373

|                                                      
|------------------------------------------------------
|THREE-FIVE SYSTEMS, INC                               
|                                                      
|(Exact name of registrant as specified in its charter)

|                                                               |  |                                      
|-------------------------------------------------------------- |  | -------------------------------------
|Delaware                                                       |  | 86-0654102                           
|                                                               |  |                                      
|(State or other jurisdiction of
incorporation or organization) |  | I.R.S. Employer
Identification Number
|                                                              
|                                                              
|                                                              
|                                                              
|                                                               |  |                                      
|                                                              
|                                                              
|                                                              
|                                                              
|1600 North Desert Drive, Tempe, Arizona                        |  | 85281                                
|                                                               |  |                                      
|(Address of principal executive offices)                       |  | (Zip Code)                           

|                                                    
|----------------------------------------------------
|(602) 389-8600                                      
|                                                    
|(Registrants telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.

|    |  |   
|--- |  | --
|YES |  | NO

Indicate the number of shares outstanding of each of the issuers classes of
common stock, as of the latest practicable date.

|                                |  |                                  |            | 
|------------------------------- |  | -------------------------------- | ---------- | 
|CLASS                           |  | OUTSTANDING AS OF MARCH 31, 2001
|                               
|Common
Par value $.01 per share |  |                                  | 21,341,115 | 





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TABLE OF CONTENTS



|                                                                                              |                                                                                            |  |  |  |  |  |  | 
|--------------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------ |  |  |  |  |  |  | 
|PART I - FINANCIAL INFORMATION                                                               
|ITEM 1. FINANCIAL STATEMENTS                                                                 
|                                                                                              | Condensed Consolidated Balance Sheets-December 31, 2000 and March 31, 2001                
|                                                                                              | Condensed Consolidated Statements of Income-Three Months Ended March 31, 2000 and 2001    
|                                                                                              | Condensed Consolidated Statements of Cash Flows-Three Months Ended March 31, 2000 and 2001
|                                                                                              | Notes to Condensed Consolidated Financial Statements                                      
|ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK                            
|PART II.  OTHER INFORMATION                                                                  
|ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K                                                     
|SIGNATURES                                                                                   



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THREE-FIVE SYSTEMS, INC.
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED MARCH 31, 2001
TABLE OF CONTENTS

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|           |  | PART I FINANCIAL INFORMATION                                                                  
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|ITEM 1.    |  | FINANCIAL STATEMENTS:                                                                          
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|           |  | Condensed Consolidated Balance Sheets-
    December 31, 2000 and March 31, 2001                 |  | 1   
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|           |  | Condensed Consolidated Statements of Income-
    Three Months Ended March 31, 2000 and 2001     |  | 2   
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|           |  | Condensed Consolidated Statements of Cash Flows-
    Three Months Ended March 31, 2000 and 2001 |  | 3   
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|           |  | Notes to Condensed Consolidated Financial Statements                                            |  | 4   
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|ITEM 2.    |  | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS           |  | 6   
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|ITEM 3.    |  | QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK                                       |  | 11  
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|           |  | PART II OTHER INFORMATION                                                                     
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|ITEM 6.    |  | EXHIBITS AND REPORTS ON FORM 8-K                                                                |  | 11  
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|SIGNATURES |  |                                                                                                 |  | 12  

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THREE-FIVE SYSTEMS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands)

|                                   |                                      |                                      |                            |        |         |              |         |   |           |             |  | 
|---------------------------------- | ------------------------------------ | ------------------------------------ | -------------------------- | ------ | ------- | ------------ | ------- | - | --------- | ----------- |  | 
|                                   |                                      |                                      |                            |        |         | DECEMBER 31, |         |   | MARCH 31, |            
|                                   |                                      |                                      |                            |        |         | 2000         |         |   | 2001      |            
|                                   |                                      |                                      |                            |        |         |              |         |   |           |            
|                                   |                                      |                                      |                            |        |         |              |         |   |           | (unaudited) | 
|                                   |                                      |                                      |                            | ASSETS
|                                  
|                                  
|                                  
|                                  
|Current Assets:                   
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Cash and cash equivalents            |                            | $      | 98,876  |              |         | $ | 103,727   |            
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Short-term investments               |                            |        | 66,695  |              |         |   | 50,127    |            
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Accounts receivable, net             |                            |        | 23,635  |              |         |   | 26,799    |            
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Inventories                          |                            |        | 20,516  |              |         |   | 25,485    |            
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Deferred tax asset                   |                            |        | 4,346   |              |         |   | 4,346     |            
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Other current assets                 |                            |        | 1,778   |              |         |   | 2,405     |            
|                                   |                                      |                                      |                            |        |         |             
|                                   |                                      |                                      | Total current assets       |        |         | 215,846      |         |   |           | 212,889     | 
|                                  
|                                  
|                                  
|                                  
|Long-term Investments              |                                      |                                      | 4,534                      |        |         |              | 4,528   |  
|                                  
|                                  
|                                  
|                                  
|Property, Plant and Equipment, net |                                      |                                      | 43,254                     |        |         |              | 43,417  |  
|                                  
|                                  
|                                  
|                                  
|Other Assets                       |                                      |                                      | 4,209                      |        |         |              | 5,209   |  
|                                   |                                      |                                      |                            |        |         |             
|                                   |                                      | $                                    | 267,843                    |        |         | $            | 266,043 |  
|                                   |                                      |                                      |                            |        |         |             
|                                   | LIABILITIES AND STOCKHOLDERS EQUITY
|                                  
|                                  
|                                  
|                                  
|Current Liabilities:              
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Accounts payable                     |                            | $      | 11,404  |              |         | $ | 14,484    |            
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Accrued liabilities                  |                            |        | 7,005   |              |         |   | 3,774     |            
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Current taxes payable                |                            |        | 239     |              |         |   | 295       |            
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Term loan                            |                            |        | 2,706   |              |         |   | 2,706     |            
|                                   |                                      |                                      |                            |        |         |             
|                                   |                                      |                                      | Total current liabilities  |        |         | 21,354       |         |   |           | 21,259      | 
|                                   |                                      |                                      |                            |        |         |             
|Deferred Tax Liability             |                                      |                                      | 4,487                      |        |         |              | 4,487   |  
|                                   |                                      |                                      |                            |        |         |             
|Commitments and Contingencies     
|                                  
|                                  
|                                  
|                                  
|Stockholders Equity:             
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Common stock                         |                            |        | 217     |              |         |   | 217       |            
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Additional paid-in capital           |                            |        | 198,215 |              |         |   | 198,660   |            
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Retained earnings                    |                            |        | 48,430  |              |         |   | 48,672    |            
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Accumulated other comprehensive loss |                            |        | (234    | )            |         |   | (100      | )          
|                                  
|                                  
|                                  
|                                  
|                                   |                                      | Less  treasury stock, at cost       |                            |        | (4,626  | )            |         |   | (7,152    | )          
|                                   |                                      |                                      |                            |        |         |             
|                                  
|                                  
|                                  
|                                  
|                                   |                                      |                                      | Total stockholders equity |        |         | 242,002      |         |   |           | 240,297     | 
|                                   |                                      |                                      |                            |        |         |             
|                                   |                                      | $                                    | 267,843                    |        |         | $            | 266,043 |  
|                                   |                                      |                                      |                            |        |         |             

The accompanying notes are an integral part of these condensed consolidated balance sheets.

1



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##### Table of Contents









THREE-FIVE SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
(in thousands, except per share data)

|                                          |                                        |                         |        |                    |       |   |        |        |        |  
|----------------------------------------- | -------------------------------------- | ----------------------- | ------ | ------------------ | ----- | - | ------ | ------ | ------ | -
|                                          |                                        |                         |        | THREE MONTHS ENDED |      
|                                          |                                        |                         |        | MARCH 31,          |      
|                                          |                                        |                         |        |                    |      
|                                          |                                        |                         |        | 2000               |       |   | 2001   |       
|                                          |                                        |                         |        |                    |       |   |        |       
|                                         
|                                         
|                                         
|                                         
|                                         
|Net Sales                                 |                                        | $                       | 39,162 |                    |       | $ | 35,616 |       
|                                          |                                        |                         |        |                    |       |  
|Costs and Expenses:                      
|                                         
|                                         
|                                         
|                                         
|                                          | Cost of sales                          |                         |        | 29,360             |       |   |        | 31,243 |       
|                                         
|                                         
|                                         
|                                         
|                                          | Selling, general, and administrative   |                         |        | 2,262              |       |   |        | 2,491  |       
|                                         
|                                         
|                                         
|                                         
|                                          | Research, development, and engineering |                         |        | 2,763              |       |   |        | 3,661  |       
|                                          |                                        |                         |        |                    |       |  
|                                          |                                        |                         | 34,385 |                    |       |   | 37,395 |       
|                                          |                                        |                         |        |                    |       |  
|                                          |                                        | Operating income (loss) |        |                    | 4,777 |   |        |        | (1,779 | )
|                                         
|                                         
|                                         
|                                         
|Other Income (Expense):                  
|                                         
|                                         
|                                         
|                                         
|                                          | Interest, net                          |                         |        | 604                |       |   |        | 2,128  |       
|                                         
|                                         
|                                         
|                                         
|                                          | Other, net                             |                         |        | (24                | )     |   |        | 12     |       
|                                          |                                        |                         |        |                    |       |  
|Income before provision for income taxes  |                                        |                         | 5,357  |                    |       |   | 361    |       
|                                         
|                                         
|                                         
|                                         
|                                          | Provision for income taxes             |                         |        | 1,770              |       |   |        | 119    |       
|                                          |                                        |                         |        |                    |       |  
|Net income                                |                                        | $                       | 3,587  |                    |       | $ | 242    |       
|                                          |                                        |                         |        |                    |       |  
|Earnings per Common Share:               
|                                         
|                                         
|                                         
|                                         
|                                          | Basic                                  |                         | $      | 0.19               |       |   | $      | 0.01   |       
|                                          |                                        |                         |        |                    |       |  
|                                          | Diluted                                |                         | $      | 0.18               |       |   | $      | 0.01   |       
|                                          |                                        |                         |        |                    |       |  
|Weighted Average Number of Common Shares:
|                                         
|                                         
|                                         
|                                         
|                                          | Basic                                  |                         |        | 18,926             |       |   |        | 21,429 |       
|                                          |                                        |                         |        |                    |       |  
|                                          | Diluted                                |                         |        | 20,047             |       |   |        | 22,054 |       
|                                          |                                        |                         |        |                    |       |  

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

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THREE-FIVE SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(in thousands)

|                                               |                                                                                             |                                                                 |                                                     |        |                    |        |         |         |        |        |  
|---------------------------------------------- | ------------------------------------------------------------------------------------------- | --------------------------------------------------------------- | --------------------------------------------------- | ------ | ------------------ | ------ | ------- | ------- | ------ | ------ | -
|                                               |                                                                                             |                                                                 |                                                     |        | THREE MONTHS ENDED |       
|                                               |                                                                                             |                                                                 |                                                     |        | MARCH 31,          |       
|                                               |                                                                                             |                                                                 |                                                     |        |                    |       
|                                               |                                                                                             |                                                                 |                                                     |        | 2000               |        |         | 2001    |       
|                                               |                                                                                             |                                                                 |                                                     |        |                    |        |         |         |       
|Cash Flows from Operating Activities:         
|                                              
|                                              
|                                              
|                                              
|                                               | Net income                                                                                  |                                                                 | $                                                   | 3,587  |                    |        | $       | 242     |       
|                                              
|                                              
|                                              
|                                              
|                                               | Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                                             | Depreciation and amortization                                   |                                                     |        | 1,590              |        |         |         | 1,433  |       
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                                             | Provision for accounts receivable valuation reserves            |                                                     |        | 57                 |        |         |         | 85     |       
|                                              
|                                              
|                                              
|                                              
|                                               | Changes in assets and liabilities:                                                         
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                                             | (Increase) decrease in accounts receivable                      |                                                     |        | 2,319              |        |         |         | (3,249 | )     
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                                             | (Increase) decrease in inventories                              |                                                     |        | (520               | )      |         |         | (4,969 | )     
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                                             | (Increase) decrease in other assets                             |                                                     |        | (788               | )      |         |         | (627   | )     
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                                             | Increase (decrease) in accounts payable and accrued liabilities |                                                     |        | (4,544             | )      |         |         | (151   | )     
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                                             | Increase (decrease) in taxes payable                            |                                                     |        | 1,100              |        |         |         | 56     |       
|                                               |                                                                                             |                                                                 |                                                     |        |                    |       
|                                               |                                                                                             |                                                                 | Net cash provided by (used in) operating activities |        |                    | 2,801  |         |         |        | (7,180 | )
|                                               |                                                                                             |                                                                 |                                                     |        |                    |       
|Cash Flows from Investing Activities:         
|                                              
|                                              
|                                              
|                                              
|                                               | Purchases of property, plant and equipment                                                  |                                                                 |                                                     | (3,205 | )                  |        |         | (1,596  | )     
|                                              
|                                              
|                                              
|                                              
|                                               | Purchase of investments                                                                     |                                                                 |                                                     |       |                    |        |         | (69,874 | )     
|                                              
|                                              
|                                              
|                                              
|                                               | Proceeds from maturities/sales of investments                                               |                                                                 |                                                     |       |                    |        |         | 86,566  |       
|                                              
|                                              
|                                              
|                                              
|                                               | Strategic investments                                                                       |                                                                 |                                                     | (500   | )                  |        |         | (1,000  | )     
|                                               |                                                                                             |                                                                 |                                                     |        |                    |       
|                                               |                                                                                             |                                                                 | Net cash provided by (used in) investing activities |        |                    | (3,705 | )       |         |        | 14,096 |  
|                                               |                                                                                             |                                                                 |                                                     |        |                    |       
|Cash Flows from Financing Activities:         
|                                              
|                                              
|                                              
|                                              
|                                               | Stock options exercised                                                                     |                                                                 |                                                     | 956    |                    |        |         | 445     |       
|                                              
|                                              
|                                              
|                                              
|                                               | Purchase of treasury stock                                                                  |                                                                 |                                                     |       |                    |        |         | (2,526  |       
|                                               |                                                                                             |                                                                 |                                                     |        |                    |       
|                                               |                                                                                             |                                                                 | Net cash provided by (used in) financing activities |        |                    | 956    |         |         |        | (2,081 | )
|                                               |                                                                                             |                                                                 |                                                     |        |                    |       
|                                               | Effect of exchange rate changes on cash and cash equivalents                                |                                                                 |                                                     | (2     | )                  |        |         | 16      |       
|                                               |                                                                                             |                                                                 |                                                     |        |                    |       
|Net increase in cash and cash equivalents      |                                                                                             |                                                                 | 50                                                  |        |                    |        | 4,851   |        
|                                              
|                                              
|                                              
|                                              
|Cash and cash equivalents, beginning of period |                                                                                             |                                                                 | 45,363                                              |        |                    |        | 98,876  |        
|                                               |                                                                                             |                                                                 |                                                     |        |                    |       
|Cash and cash equivalents, end of period       |                                                                                             | $                                                               | 45,413                                              |        |                    | $      | 103,727 |        
|                                               |                                                                                             |                                                                 |                                                     |        |                    |       

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

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##### Table of Contents



ITEM 1.(continued)







|       |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|------ |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|       |  | Three-Five Systems, Inc. and Subsidiaries (the Company) Notes to
Condensed Consolidated Financial Statements                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|      
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|Note A |  | The accompanying unaudited Condensed Consolidated Financial
Statements have been prepared in accordance with auditing standards
generally accepted in the United States for interim financial
information and the instructions to Form 10-Q. Accordingly, they
do not include all the information and footnotes required by
accounting principles generally accepted in the United States for
complete financial statements. In the opinion of management, all
adjustments (which include only normal recurring adjustments)
necessary to present fairly the financial position, results of
operations, and cash flows for all periods presented have been
made. The results of operations for the three-month period ended
March 31, 2001 are not necessarily indicative of the operating
results that may be expected for the entire year ending December
31, 2001. These financial statements should be read in conjunction
with the Companys December 31, 2000 financial statements and
accompanying notes thereto.
|      
|      
|      
|      
|      
|      
|      
|      
|      
|Note B |  | Basic earnings per common share are computed by dividing net income
by the weighted average number of shares of common stock
outstanding during the three-month period. Diluted earnings per
common share for the three month period are determined assuming
that outstanding options and warrants were exercised at the
beginning of the period or at the time of issuance, if later. Set
forth below are the disclosures for the three months ended March
31, 2000 and March 31, 2001.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                

|                                                  |                          |   |                                       |      |  |      |        |      | 
|------------------------------------------------- | ------------------------ | - | ------------------------------------- | ---- |  | ---- | ------ | ---- | 
|                                                  |                          |   | Three Months Ended                    |     
|                                                  |                          |   | March 31,                             |     
|                                                  |                          |   |                                       |     
|                                                  |                          |   | 2000                                  |      |  | 2001 |       
|                                                  |                          |   |                                       |      |  |      |       
|                                                  |                          |   | (unaudited)                           |     
|                                                  |                          |   | (in thousands, except per share data) |     
|Basic earnings per share:                        
|                                                 
|                                                 
|                                                 
|                                                 
|Income available to common
stockholders           |                          | $ | 3,587                                 |      |  | $    | 242    |     
|                                                  |                          |   |                                       |      |  |     
|Weighted average common shares                    |                          |   | 18,926                                |      |  |      | 21,429 |     
|                                                  |                          |   |                                       |      |  |     
|                                                  | Basic per share amount   |   | $                                     | 0.19 |  |      | $      | 0.01 | 
|                                                  |                          |   |                                       |      |  |     
|Diluted earnings per share:                      
|                                                 
|                                                 
|                                                 
|                                                 
|Income available to common
stockholders           |                          | $ | 3,587                                 |      |  | $    | 242    |     
|                                                  |                          |   |                                       |      |  |     
|Weighted average common shares                    |                          |   | 18,926                                |      |  |      | 21,429 |     
|                                                 
|                                                 
|                                                 
|                                                 
|Options and warrants assumed
exercised            |                          |   | 1,121                                 |      |  |      | 625    |     
|                                                  |                          |   |                                       |      |  |     
|Total common shares plus common
stock equivalents |                          |   | 20,047                                |      |  |      | 22,054 |     
|                                                  |                          |   |                                       |      |  |     
|                                                  | Diluted per share amount |   | $                                     | 0.18 |  |      | $      | 0.01 | 
|                                                  |                          |   |                                       |      |  |     

Note C    Inventories consist of the following at:

|                |  |                |        |  |           |             |        | 
|--------------- |  | -------------- | ------ |  | --------- | ----------- | ------ | 
|                |  | December 31,   |        |  | March 31, |            
|                |  | 2000           |        |  | 2001      |            
|                |  |                |        |  |           |            
|                |  |                |        |  |           | (unaudited) |       
|                |  | (in thousands) |       
|               
|               
|               
|               
|               
|Raw materials   |  | $              | 15,898 |  |           | $           | 18,798 | 
|               
|               
|               
|               
|Work-in-process |  |                | 1,904  |  |           |             | 2,851  | 
|               
|               
|               
|               
|Finished goods  |  |                | 2,714  |  |           |             | 3,836  | 
|                |  |                |        |  |           |            
|                |  | $              | 20,516 |  |           | $           | 25,485 | 
|                |  |                |        |  |           |            

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##### Table of Contents



Note D    Property, plant, and equipment consist of the following at:

|                              |  |                |         |   |           |             |         |  
|----------------------------- |  | -------------- | ------- | - | --------- | ----------- | ------- | -
|                              |  | December 31,   |         |   | March 31, |            
|                              |  | 2000           |         |   | 2001      |            
|                              |  |                |         |   |           |            
|                              |  |                |         |   |           | (unaudited) |        
|                              |  | (in thousands) |        
|                             
|                             
|                             
|                             
|                             
|Building and improvements     |  | $              | 16,426  |   |           | $           | 16,426  |  
|                             
|                             
|                             
|                             
|Furniture and equipment       |  |                | 53,762  |   |           |             | 55,358  |  
|                              |  |                |         |   |           |            
|                              |  |                | 70,188  |   |           |             | 71,784  |  
|                             
|                             
|                             
|                             
|Less accumulated depreciation |  |                | (26,934 | ) |           |             | (28,367 | )
|                              |  |                |         |   |           |            
|                              |  | $              | 43,254  |   |           | $           | 43,417  |  
|                              |  |                |         |   |           |            

|       |  |                                                                                                                                                                                                                                                                                                                                                
|------ |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note E |  | Segment information:                                                                                                                                                                                                                                                                                                                           
|      
|      
|      
|      
|      
|      
|      
|      
|      
|       |  | Management monitors and evaluates the financial performance of the
Companys operations by its four operating segments located in
various parts of the world. These segments consist of three
manufacturing operations, located in the United States, China, and
the Philippines, and a sales and distribution operation in the United
Kingdom.
|      
|      
|      
|      
|      
|      
|      
|      
|      
|       |  | The following operating segment information includes financial
information (in thousands) for all four of the Companys operating
segments.                                                                                                                                                                                                    

|                                         |  |        |        |         |  |       |        |             |  |              |       |       |  |   |     |  |  |   |         |   |  |   |        | 
|---------------------------------------- |  | ------ | ------ | ------- |  | ----- | ------ | ----------- |  | ------------ | ----- | ----- |  | - | --- |  |  | - | ------- | - |  | - | ------ | 
|Three Months Ended                       |  | United |        | United 
|March 31, 2000                           |  | States |        | Kingdom |  | China |        | Philippines |  | Eliminations |       | Total
|                                         |  |        |        |         |  |       |        |             |  |              |       |      
|(unaudited)                             
|                                        
|                                        
|                                        
|                                        
|Net sales                                |  | $      | 15,597 |         |  | $     | 18,596 |             |  | $            | 4,969 |       |  | $ |    |  |  | $ |        |   |  | $ | 39,162 | 
|                                        
|                                        
|                                        
|                                        
|Intersegment sales                       |  |        | 19,063 |         |  |       |       |             |  |              | 4,723 |       |  |   | 699 |  |  |   | (24,485 | ) |  |   |       | 
|                                        
|                                        
|                                        
|                                        
|Income before provision
for income taxes |  |        | 1,499  |         |  |       | 1,485  |             |  |              | 2,413 |       |  |   | 14  |  |  |   | (54     | ) |  |   | 5,357  | 

|                                                               |  |        |        |         |  |       |        |             |  |              |       |       |  |   |       |  |  |   |         |   |  |   |        | 
|-------------------------------------------------------------- |  | ------ | ------ | ------- |  | ----- | ------ | ----------- |  | ------------ | ----- | ----- |  | - | ----- |  |  | - | ------- | - |  | - | ------ | 
|Three Months Ended                                             |  | United |        | United 
|March 31, 2001                                                 |  | States |        | Kingdom |  | China |        | Philippines |  | Eliminations |       | Total
|                                                               |  |        |        |         |  |       |        |             |  |              |       |      
|(unaudited)                                                   
|                                                              
|                                                              
|                                                              
|                                                              
|Net sales                                                      |  | $      | 8,965  |         |  | $     | 16,882 |             |  | $            | 9,769 |       |  | $ |      |  |  | $ |        |   |  | $ | 35,616 | 
|                                                              
|                                                              
|                                                              
|                                                              
|Intersegment sales                                             |  |        | 24,345 |         |  |       |       |             |  |              | 693   |       |  |   | 2,236 |  |  |   | (27,274 | ) |  |   |       | 
|                                                              
|                                                              
|                                                              
|                                                              
|Income (loss) before
provision for (benefit
from) income taxes |  |        | (1,144 | )       |  |       | 680    |             |  |              | 832   |       |  |   | 45    |  |  |   | (52     | ) |  |   | 361    | 

Note F    Comprehensive income (loss) for the periods was as follows:

|                                   |                                            |   |                    |    |   |      |     |     | 
|---------------------------------- | ------------------------------------------ | - | ------------------ | -- | - | ---- | --- | --- | 
|                                   |                                            |   | Three Months Ended |   
|                                   |                                            |   | March 31,          |   
|                                   |                                            |   |                    |   
|                                   |                                            |   | 2000               |    |   | 2001 |    
|                                   |                                            |   |                    |    |   |      |    
|                                   |                                            |   | (unaudited)        |   
|                                   |                                            |   | (in thousands)     |   
|                                  
|                                  
|                                  
|                                  
|                                  
|Net income                         |                                            | $ | 3,587              |    |   | $    | 242 |    
|                                  
|                                  
|                                  
|                                  
|Other comprehensive income (loss):
|                                  
|                                  
|                                  
|                                  
|                                   | Foreign currency translation adjustment    |   |                    | (2 | ) |      |     | 16  | 
|                                  
|                                  
|                                  
|                                  
|                                   | Unrealized gains on securities, net of tax |   |                    |   |   |      |     | 118 | 
|                                   |                                            |   |                    |    |   |     
|Comprehensive income (loss)        |                                            | $ | 3,585              |    |   | $    | 376 |    
|                                   |                                            |   |                    |    |   |     

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Note G    Commitments and Contingencies:

The Company is involved in certain administrative proceedings arising in
the normal course of business. In the opinion of management, the ultimate
settlement of these administrative proceedings will not materially impact its
financial position or results of operations.

Note H    Benefit Plans

On February 12, 2001, the Board of Directors increased the number of
shares of the Companys common stock available for issuance under the 1997
Stock Option Plan by 500,000 to 1,150,000 shares.

Note I    Recently Issued Accounting Standards

In June 1998, the FASB issued SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities. In June 1999, the FASB issued SFAS No. 137,
Accounting for Derivative Instruments and Hedging Activities- Deferral of the
Effective Date of FASB No. 133. In June 2000, the FASB issued SFAS No. 138,
Accounting for Certain Derivative Instruments and Certain Hedging Activities,
an amendment of SFAS No. 133.SFAS No. 133, as amended, establishes accounting
and reporting standards requiring that every derivative instrument (including
certain derivative instruments embedded in other contracts) be recorded in the
balance sheet as either an asset or liability measured at its fair value. SFAS
No. 133 requires that changes in the derivative instruments fair value be
recognized currently in earnings unless specific hedge accounting criteria are
met. Special accounting for qualifying hedges allows a derivative instruments
gains and losses to offset related results on the hedged item in the income
statement, to the extent effective, and requires that a company must formally
document, designate, and assess the effectiveness of transactions that receive
hedge accounting. SFAS No. 133, as amended, is effective for fiscal years
beginning after June 15, 2000. SFAS No. 133 cannot be applied retroactively.
The Company adopted SFAS No. 133 on January 1, 2001. The adoption of SFAS No.
133 was not material to the accompanying financial statements.







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

FORWARD-LOOKING STATEMENTS AND FACTORS THAT MAY AFFECT RESULTS

Except for the historical information contained herein, this Report
contains forward-looking statements, including those relating to revenue
concentration, margins, pricing pressures, quarterly fluctuations, the impact
of our China facility, material shortages, research, development, and
engineering expense, and liquidity and anticipated cash needs that involve
risks and uncertainties that could cause actual results to differ materially.

We caution that these statements are qualified by various factors that may
affect future results, including the following: changes in the market for our
products and the success of our customers products, the failure of key
technologies to deliver commercially acceptable performance, our dependence on
one large customer, the absence of long-term purchase commitments, and our
lengthy development periods and product acceptance cycles. This Report should
be read in conjunction with our Report on Form 10-K for the fiscal year ended
December 31, 2000 and our Registration Statement on Form S-3 (Registration No.
333-35788) as declared effective by the Securities and Exchange Commission on
May 25, 2000.

Overview

We offer advanced design and manufacturing services to original equipment
manufacturers, commonly referred to as OEMs. We specialize in custom display
modules utilizing liquid crystal display, or LCD, components and technology.
Our LCD modules have varying levels of integration. At a minimum, each module
includes an LCD, a custom LCD driver, and a flexible connector. We also
provide value-added services, which increase our competitiveness, by assembling
additional components onto the module based upon the specific needs of the

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customer. These additional components include such items as keypads,
microphones, speakers, light guides, and optics.

We currently sell substantially all of our LCD modules to major OEMs. We
derived more than 80% of our net sales in 1999 and 2000 from the mobile handset
market. When we win a design program, our customer typically pays all or a
portion of our nonrecurring engineering expenses to defray the costs of custom
design, as well as the costs of nonrecurring tooling for custom components.
The typical design program life cycle of a custom-designed LCD module is three
to twelve months and includes technical design, prototyping, pilot
manufacturing, and high-volume manufacturing. We typically seek large volume
programs from major OEMs. The minimum production quantity for an LCD module
typically approximates 100,000 units per year, although the production rate for
some programs has been as high as 100,000 units per week. The selling price of
our LCD modules usually ranges between $5 and $20 per unit. We recognize
revenue when persuasive evidence of an arrangement exists, delivery has
occurred, the fee is fixed or determinable, and collectability is probable.
Generally, all of these conditions are met at the time we ship products to
customers.

We experienced substantial growth from 1993 through 1995, primarily as a
result of sales to OEMs in the wireless communications industry, which grew
substantially during that period. During that period, our primary customer was
Motorola. In 1996, our net sales declined, primarily as a result of the
phase-out by Motorola of a significant family of programs. In 1997, our net
sales returned to pre-1996 levels primarily as a result of several new programs
and customers. Motorola accounted for 34.6% of our net sales in 1997, 63.6% in
1998, 86.1% in 1999, and 86.9% in 2000.

During the past several years, we have experienced seasonal quarterly
fluctuations in our net sales as our OEM customers developed retail products
with shorter product life cycles and phased out older programs early in the
year following holiday sales. As a result, sales usually peak in the fourth
quarter of a calendar year and are lower in the following quarter. This
pattern did not occur in 2000 as a result of supply interruptions in the fourth
quarter and reduced expectations in the mobile handset market.

Several factors impact our gross margins, including manufacturing
efficiencies, product mix, product differentiation, product uniqueness,
inventory management, and volume pricing. Currently, significant pricing
pressure exists in the LCD module market, especially in higher volume programs
in the wireless communications industry. Accordingly, as the production levels
of some of our new higher volume programs have increased, the lower standard
gross margins on those programs have impacted, and will continue to impact, our
overall margins.

We vertically integrate our manufacturing facilities. In Arizona, we own
and operate the largest high-volume LCD production line in North America. We
generally use the Arizona facility for the manufacture of more technologically
complex and custom high-volume LCDs. We also purchase LCDs from Asian and
European sources to provide us an alternate source and to ensure available
capacity. In order to take advantage of lower labor costs, we ship our LCDs to
our facilities in Manila, the Philippines, or Beijing, China, for assembly into
modules.

In Manila, we assemble LCDs into modules and perform certain back-end LCD
processing operations. We conduct our operations in Manila through a
third-party subcontract manufacturer. The subcontractor supplies direct labor
and incidental services required to manufacture our products. All indirect
manufacturing employees, primarily technicians, supervisors, and engineers, are
our employees. In July 2000, we exercised our right to terminate the
subcontract agreement with the third-party subcontractor, but have in place a
new sub-assembly agreement for that factory, which we signed just after the end
of the first quarter of 2001. In May 2000, we signed a lease for a
build-to-suit factory in Manila. The term of the lease for this second factory
in Manila is 125 months starting upon the completion of the factory, which
occurred in January 2001. At this second factory, we will employ our own
employees and will not be employing the services of the third-party
subcontractor.

In 1998, we opened a temporary manufacturing facility in Beijing and
commenced construction of a permanent Beijing facility. The permanent facility
was substantially completed in early July 1999, and we began production in that
new manufacturing facility late in the third quarter of 1999. All production
in Beijing beginning in the fourth quarter of 1999 was conducted at our new
permanent facility. We own our Beijing facility through a wholly owned foreign
subsidiary. We employ our own employees in Beijing and do not employ the
services of a third-party subcontractor.

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Selling, general, and administrative expense consists principally of
administrative and selling costs, salaries, commissions, and benefits to
personnel and related facility costs. We make substantially all of our sales
directly to OEMs, and our sales force consists of a small number of direct
technical sales persons. As a result, there is no material cost of
distribution in our selling, general, and administrative expense. Selling,
general, and administrative expense has increased as we have expanded our
business and increased our diversification efforts. In addition, we have
recently incurred substantial marketing and administrative expenses in
connection with our LCoSmicrodisplay business.

Research, development, and engineering expense consists principally of
salaries and benefits to scientists, design engineers, and other technical
personnel, related facility costs, process development costs, and various
expenses for projects, including new product development. Research,
development, and engineering expense continues to increase as we develop new
display products and technologies, especially LCoSmicrodisplays, while we
continue with our in-house process development efforts related to the
high-volume LCD manufacturing line located in Arizona.

Since 1997, we have been working on the development of LCoSmicrodisplays.
In 1997, we entered into a strategic alliance with National Semiconductor
Corporation for the development of LCoSmicrodisplay products. Under that
alliance, National focused on the silicon technologies needed for
microdisplays, and we focused on the liquid crystal technologies. In 1999,
National decided to close its microdisplay business unit. In connection with
that closing, in July 1999, we purchased certain assets and licensed silicon
technologies from National relating to LCoSmicrodisplays. We paid
approximately $3.0 million in cash and issued warrants to purchase 140,000
shares of our common stock in the transaction, which valued the transaction at
approximately $3.6 million. No additional payments are required under the
licenses. We also hired several key technical employees of National to assist
in the implementation of the acquired technologies.

In April 1998, we entered into a strategic relationship with Inviso, Inc.,
formerly Siliscape, Inc., a privately held company with numerous patents and
proprietary technology related to microdisplay development. We acquired a
minority equity interest in Inviso for approximately $3.3 million. In March
2000, we acquired an additional interest in Inviso for $500,000, raising our
total minority equity interest to $3.8 million. As part of this strategic
relationship, we provide proprietary manufacturing capabilities and liquid
crystal expertise, and Inviso provides patented and proprietary technologies
and components for the joint development of microdisplay products.

In August 1999, we licensed the microdisplay technology of S-Vision
Corporation, which had recently ceased operations. This license is an
irrevocable, royalty free, fully paid-up, worldwide license to manufacture and
package certain microdisplay products and patented optical engines.

In October 1999, we entered into an agreement with Tecdis S.p.A., a
European-based LCD company, to form an ASIC design center in Chatillon, Italy.
The ASIC design center will be known as Dora and will focus on the design of
ASICs necessary to drive the LCDs we and Tecdis design for our respective
customers. STMicroelectronics is also participating in Dora and has agreed to
manufacture the ASICs designed by Dora.

In August 2000, our wholly owned subsidiary, Three-Five Systems (Beijing)
Co., Ltd., entered into a strategic agreement with Heibei Jiya Electronics,
Co., Ltd. (Jiya), a Chinese-based manufacturer of LCD glass. Under the terms
of the agreement, Jiya will provide LCD glass to us and reserve a significant
amount of LCD glass manufacturing capacity for us. In exchange, we will assist
Jiya in further developing its LCD glass manufacturing processes. At the
conclusion of 18 months, we have the option to extend the agreement or to
acquire a majority interest in Jiya.

In March 2001, we invested $1 million in Silicon Bandwidth, Inc., a
privately held company providing unique semiconductor and optoelectronic
interconnect solutions based upon multiple, patented, proprietary technologies.
We are working closely with Silicon Bandwidth to design unique, cost-effective,
re-configurable packaging platforms for LCoS microdisplays.

These acquisitions, investments, and licenses will result in increased
research, development, and engineering expense as we expand our LCoS
microdisplay development efforts in preparation for the commercial introduction
of LCoSmicrodisplay products. We are also considering licensing other
technologies from other

8



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companies that could be optimized on our LCD
manufacturing line as well as entering into further alliances. We
expect to continue to devote substantial resources to research and
development, especially on our LCoSmicrodisplay technology and related
products. As a result, the actual dollar amount of our research, development,
and engineering expense will continue to increase.

Three months ended March 31, 2001 compared to three months ended March 31, 2000

Net Sales.Net sales decreased 9.0% to $35.6 million in the first quarter
of 2001 from $39.1 million in the first quarter of 2000. The revenue decrease
was primarily the result of the decreased selling prices for the display
modules we ship to mobile handset OEMs.

Cost of Sales.Cost of sales increased to 87.7% of net sales in the first
quarter of 2001 from 75.0% in the first quarter of 2000. Our percentage of cost
of sales in the first quarter of 2001 was impacted primarily by reduced selling
prices for our display modules. In addition, we were also impacted by yield
issues, operating inefficiencies and under-absorption issues related to
decreased production levels. Offsetting some of these operational and
absorption issues was a favorable settlement of a contested United Kingdom
customs tax matter in the amount of $2.4 million.

Selling, General, and Administrative Expense.Selling, general, and
administrative expense increased 8.7% to $2.5 million in the first quarter of
2001 from $2.3 million in the first quarter of 2000. SG&A expense was 7.0% of
net sales in the first quarter of 2001 compared to 5.8% in the first quarter of
2000. The increase in SG&A expense was the result of a variety of factors,
including increased legal fees relating to intellectual property filings.

Research, Development, and Engineering Expense.Research, development,
and engineering expense increased 32.1% to $3.7 million in the first quarter of
2001 from $2.8 million in the first quarter of 2000. RD&E expense was 10.3% of
net sales in the first quarter of 2001 compared to 7.1% in the first quarter of
2000. RD&E expense overall increased as the result of the development of new
display products and technologies, primarily LCoSmicrodisplays. As we begin
to ramp up our production of LCoS microdisplays, many of the production
start-up expenses are included in RD&E expense.

Other Income (Expense), Net.Other income was $2.1 million in the first
quarter of 2001 compared to $580,000 in the first quarter of 2000. The
difference was a result of increased interest income and reduced interest
expense. Increased interest income was a result of our increased cash and
investment balances. Those increased cash and investment balances were
primarily as a result of our equity offering in May 2000.

Provision for Income Taxes.We recorded a provision for income taxes of
$119,000 in the first quarter of 2001 compared to $1.8 million for the first
quarter of 2000. This change resulted from having lower income in the first
quarter of 2001 compared to the same period in 2000. The tax rate was 33.0%
for the first quarter of 2001. We expect our worldwide tax rate in 2001 to be
approximately 33.0%.

Net Income.Net income was $242,000, or $0.01 per diluted share, in the
first quarter of 2001 compared to $3.6 million, or $0.18 per diluted share, in
the first quarter of 2000.

Quarterly Results of Operations

The following table presents unaudited consolidated statement of
operations data for each of the five quarters in the period ended March 31,
2001. We believe that all necessary adjustments have been included to present
fairly the quarterly information when read in conjunction with the Consolidated
Financial Statements. The operating results for any quarter are not
necessarily indicative of the results for any subsequent quarter.

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|                                                               |                                        |   |                |        |  |         |        |        |          |   |        |         |  |   |         |        |  |   |        |        | 
|-------------------------------------------------------------- | -------------------------------------- | - | -------------- | ------ |  | ------- | ------ | ------ | -------- | - | ------ | ------- |  | - | ------- | ------ |  | - | ------ | ------ | 
|                                                               |                                        |   | Quarters Ended |       
|                                                               |                                        |   |                |       
|                                                               |                                        |   | (unaudited)    |       
|                                                               |                                        |   | (in thousands) |       
|                                                              
|                                                               |                                        |   | Mar 31,        |        |  | Jun 30, |        |        | Sept 30, |   |        | Dec 31, |  |   | Mar 31, |       
|                                                               |                                        |   | 2000           |        |  | 2001    |       
|                                                               |                                        |   |                |        |  |         |       
|                                                              
|                                                              
|                                                              
|                                                              
|                                                              
|Net sales                                                      |                                        | $ | 39,162         |        |  | $       | 44,926 |        |          | $ | 40,231 |         |  | $ | 36,365  |        |  | $ | 35,616 |       
|                                                               |                                        |   |                |        |  |         |        |        |          |   |        |         |  |   |        
|Cost and expenses:                                            
|                                                              
|                                                              
|                                                              
|                                                              
|                                                               | Cost of sales                          |   |                | 29,360 |  |         |        | 34,157 |          |   |        | 31,115  |  |   |         | 30,092 |  |   |        | 31,243 | 
|                                                              
|                                                              
|                                                              
|                                                              
|                                                               | Selling, general, and administrative   |   |                | 2,262  |  |         |        | 2,418  |          |   |        | 2,453   |  |   |         | 2,368  |  |   |        | 2,491  | 
|                                                              
|                                                              
|                                                              
|                                                              
|                                                               | Research, development, and engineering |   |                | 2,763  |  |         |        | 2,989  |          |   |        | 3,734   |  |   |         | 3,809  |  |   |        | 3,661  | 
|                                                               |                                        |   |                |        |  |         |        |        |          |   |        |         |  |   |        
|                                                               |                                        |   | 34,385         |        |  |         | 39,564 |        |          |   | 37,302 |         |  |   | 36,269  |        |  |   | 37,395 |       
|                                                               |                                        |   |                |        |  |         |        |        |          |   |        |         |  |   |        
|Operating income (loss)                                        |                                        |   | 4,777          |        |  |         | 5,362  |        |          |   | 2,929  |         |  |   | 96      |        |  |   | (1,779 | )     
|                                                              
|                                                              
|                                                              
|                                                              
|Other income (expense), net                                    |                                        |   | 580            |        |  |         | 1,165  |        |          |   | 2,736  |         |  |   | 2,703   |        |  |   | 2,140  |       
|                                                               |                                        |   |                |        |  |         |        |        |          |   |        |         |  |   |        
|Income (loss) before provision for (benefit
from) income taxes |                                        |   | 5,357          |        |  |         | 6,527  |        |          |   | 5,665  |         |  |   | 2,799   |        |  |   | 361    |       
|                                                              
|                                                              
|                                                              
|                                                              
|Provision for (benefit from) income taxes                      |                                        |   | 1,770          |        |  |         | 2,158  |        |          |   | 1,320  |         |  |   | 266     |        |  |   | 119    |       
|                                                               |                                        |   |                |        |  |         |        |        |          |   |        |         |  |   |        
|Net income (loss)                                              |                                        | $ | 3,587          |        |  | $       | 4,369  |        |          | $ | 4,345  |         |  | $ | 2,533   |        |  | $ | 242    |       
|                                                               |                                        |   |                |        |  |         |        |        |          |   |        |         |  |   |        

Business Outlook

Weak and uncertain demand in the cellular handset industry and continued
issues with handset inventories has led to cancellations, delays, and push-outs
for existing and new customers programs and, consequently, limited visibility
for us with regard to revenue expectations for the remainder of the year. In
addition, the pressure on display prices has intensified, and we are
experiencing accelerated reductions of our LCD module selling prices. Based on
these unsettled conditions and pricing pressures, we expect revenue in the
second quarter of 2001 to be in the range of $20 to $30 million and to report a
loss in that second quarter in the range of $.25 to $.35 per share.

Liquidity and Capital Resources

At March 31, 2001, we had cash, cash equivalents and short-term
investments of $153.9 million compared to cash, cash equivalents and short-term
investments of $165.6 million at December 31, 2000. This decrease was due
primarily to our operating cash outflow and our stock buyback program.

In the quarter ended March 31, 2001, we had $7.2 million in net cash
outflow from operations compared to $2.8 million in net cash flow provided by
operations in the quarter ended March 31, 2000. This net cash outflow is
primarily because of increased receivables, increased inventories, and lower
net income. Specifically, inventory turns decreased from 9.3 in the first
quarter of 2000 to 6.6 in the first quarter of 2001and accounts receivable DSOs
(Day Sales Outstanding) increased to 68 days in the first quarter of 2001 from
43 days in the first quarter of 2000. Inventory turns decreased because of
program push-outs and accounts receivable; DSOs increased because our largest
OEM customer has extended the terms on existing invoices. Depreciation expense
decreased to $1.4 million for the first quarter of 2001 compared to $1.6
million for the first quarter of 2000. This decrease primarily relates to
decreased starts on our LCD line and assets becoming fully depreciated.

Our working capital was $191.6 million at March 31, 2001 and $194.5
million at December 31, 2000. Our current ratio was 10.0-to-1 at March 31,
2001 as compared to 10.1-to-1 at December 31, 2000. Our working capital and
current ratio have remained relatively unchanged from December 2000.

Under our $30 million stock buy-back program announced in December 2000,
we purchased almost 150,000 shares of our common stock for a total of $2.5
million in the first quarter of 2001. Since the start of the buy-back program,
we have purchased just over 390,000 shares for $7.2 million.

In January 2001, we amended and revised our credit facility with Imperial
Bank to reduce it to $15.0 million. There are no other participating lenders
on that facility. Advances under the facility may be made as prime

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rate
advances, which accrue interest payable monthly at the banks prime lending
rate, or as LIBOR rate advances,
which bear interest at 150 basis points in excess of the LIBOR base rate.
Our Three-Five Systems Limited subsidiary has established an annually renewable
credit facility with a United Kingdom bank in order to fund its working capital
requirements. The credit facility, which expires January 15, 2002, provides
$350,000 of borrowing capacity secured by accounts receivable of Three-Five
Systems Limited. No borrowings are outstanding under this facility. As of
March 31, 2001, our Beijing subsidiary had an outstanding $2.7 million term
loan due May 4, 2001 to the Bank of China, which was secured by a $3.0 million
stand-by letter of credit issued by Imperial Bank.

Capital expenditures during the quarter ended March 31, 2001 were
approximately $1.6 million. These capital expenditures primarily consisted of
equipment for our operations in Manila, Beijing, and Arizona, including
manufacturing equipment for LCoSmicrodisplays.

We believe that our existing balances of cash and cash equivalents,
short-term investments, anticipated cash flows from operations, and available
credit lines will provide adequate sources to fund our operations and planned
expenditures through 2001. We may have to expand our loan commitments or
pursue alternate methods of financing or raise capital, however, should we
encounter additional cash requirements. For example, accounts receivable and
inventory could rise faster than anticipated. In addition, we will continue to
seek other alliances or acquisitions and additional relationships with regard
to the strategic development of various new technologies, especially LCoS
microdisplays, which may also require us to make additional capital
investments. We cannot provide assurance that adequate additional loan
commitments or alternative methods of financing will be available or, if
available, that they will be on terms acceptable to us.

Impact of Recently Issued Standards.

In June 1998, the FASB issued SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities. In June 1999, the FASB issued SFAS No. 137,
Accounting for Derivative Instruments and Hedging Activities Deferral of the
Effective Date of FASB No. 133. In June 2000, the FASB issued SFAS No. 138,
Accounting for Certain Derivative Instruments and Certain Hedging Activities,
an amendment of SFAS No. 133. SFAS No. 133, as amended, establishes accounting
and reporting standards requiring that every derivative instrument (including
certain derivative instruments embedded in other contracts) be recorded in the
balance sheet as either an asset or liability measured at its fair value. SFAS
No. 133 requires that changes in the derivative instruments fair value be
recognized currently in earnings unless specific hedge accounting criteria are
met. Special accounting for qualifying hedges allows a derivative instruments
gains and losses to offset related results on the hedged item in the income
statement, to the extent effective, and requires that a company must formally
document, designate, and assess the effectiveness of transactions that receive
hedge accounting. SFAS No. 133, as amended, is effective for fiscal years
beginning after June 15, 2000. SFAS No. 133 cannot be applied retroactively.
We adopted SFAS No. 133 on January 1, 2001. The adoption of SFAS No. 133 was
not material to the accompanying financial statements.







ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK.

There are no material changes in reported market risks since the Companys
most recent filing on Form 10-K for the year ended December 31, 2000.







PART II. OTHER INFORMATION







ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K



| |                                                                                                  
| | -------------------------------------------------------------------------------------------------
| | (a) None.                                                                                        
|
| | (b) Reports on Form 8-K: Report on Form 8-K on March 19, 2001
furnishing an Item 9 FD disclosure.

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.

|                      |  |  |                    |  |  |                                                                                                        
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|                      |  |  |                    |  |  | THREE-FIVE SYSTEMS, INC.
(Registrant)                                                                  
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|Dated: April 19, 2001 |  |  | By:                |  |  | /s/ Jeffrey D. Buchanan                                                                                
|                      |  |  |                    |  |  |                                                                                                        
|                      |  |  | Name:
        Its: |  |  | Jeffrey D. Buchanan
Executive Vice President Finance, Administration
and Legal; Chief Financial Officer

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