##### Table of Contents



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SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549




FORM 10-Q

Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934


For Quarter Ended June 30, 2002

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 (X BOX) |  | NO (BOX)



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

|                         |  |                                
|------------------------ |  | -------------------------------
|CLASS                    |  | OUTSTANDING AS OF JUNE 30, 2002
|                         |  |                                
|                        
|Common                   |  | 21,534,062                     
|                        
|                        
|                        
|                        
|Par value $.01 per share |  |                                



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TABLE OF CONTENTS



|                               |                                                                                                |                                                      |  |  |  |  |  | 
|------------------------------ | ---------------------------------------------------------------------------------------------- | ---------------------------------------------------- |  |  |  |  |  | 
|PART I  FINANCIAL INFORMATION
|                               | ITEM 1. FINANCIAL STATEMENTS                                                                  
|                               |                                                                                                | CONDENSED CONSOLIDATED BALANCE SHEETS               
|                               |                                                                                                | CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS     
|                               |                                                                                                | CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS     
|                               |                                                                                                | 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 4.   SUBMISSIONS OF MATTERS TO A VOTE OF SECURITY HOLDERS                                
|                               | ITEM 5.  OTHER INFORMATION                                                                    
|SIGNATURES                    
|EX-99.1                       
|EX-99.2                       



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##### Table of Contents



THREE-FIVE SYSTEMS, INC.

QUARTERLY REPORT ON FORM 10-Q

FOR THE QUARTER ENDED JUNE 30, 2002

TABLE OF CONTENTS



|        |  |                                                                                       |  |                                                                                                           |    |      |    | 
|------- |  | ------------------------------------------------------------------------------------- |  | --------------------------------------------------------------------------------------------------------- | -- | ---- | -- | 
|        |  |                                                                                       |  | PART I  FINANCIAL INFORMATION                                                                            |    |      |    | 
|       
|       
|       
|       
|        |  |                                                                                       |  |                                                                                                           |    | Page
|        |  |                                                                                       |  |                                                                                                           |    |     
|ITEM 1. |  | FINANCIAL STATEMENTS:                                                                 |  |                                                                                                           |    |     
|       
|       
|       
|       
|        |  |                                                                                       |  | Condensed Consolidated Balance Sheets-
December 31, 2001 and June 30, 2002                                |    |      | 1  | 
|       
|       
|       
|       
|        |  |                                                                                       |  | Condensed Consolidated Statements of Operations-
Three Months and Six Months Ended June 30, 2001 and 2002 |    |      | 2  | 
|       
|       
|       
|       
|        |  |                                                                                       |  | Condensed Consolidated Statements of Cash Flows-
Six Months Ended June 30, 2001 and 2002                  |    |      | 3  | 
|       
|       
|       
|       
|        |  |                                                                                       |  | Notes to Condensed Consolidated Financial Statements                                                      |    |      | 4  | 
|       
|       
|       
|       
|ITEM 2. |  | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS |  |                                                                                                           | 9  |     
|       
|       
|       
|       
|ITEM 3. |  | QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK                             |  |                                                                                                           | 17 |     
|       
|       
|       
|       
|        |  |                                                                                       |  | PART II  OTHER INFORMATION                                                                               |    |      |    | 
|       
|       
|       
|       
|ITEM 4. |  | SUBMISSIONS OF MATTERS TO A VOTE OF SECURITY HOLDERS                                  |  |                                                                                                           | 17 |     
|       
|       
|       
|       
|ITEM 5. |  | OTHER INFORMATION                                                                     |  |                                                                                                           | 17 |     
|       
|       
|       
|       
|ITEM 6. |  | EXHIBITS AND REPORTS ON FORM 8-K                                                      |  |                                                                                                           | 18 |     
|       
|       
|       
|       
|        |  |                                                                                       |  | SIGNATURES                                                                                                |    |      | 18 | 





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##### Table of Contents









ITEM 1. FINANCIAL STATEMENTS




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

|                                             |                                      |           |                            |         |              |         |          |         |             |         | 
|-------------------------------------------- | ------------------------------------ | --------- | -------------------------- | ------- | ------------ | ------- | -------- | ------- | ----------- | ------- | 
|                                             |                                      |           |                            |         | DECEMBER 31, |         | JUNE 30,
|                                             |                                      |           |                            |         | 2001         |         | 2002    
|                                             |                                      |           |                            |         |              |         |         
|                                             |                                      |           |                            |         |              |         |          |         | (unaudited)
|ASSETS                                       |                                      |           |                            |         |              |         |          |        
|                                            
|                                            
|                                            
|                                            
|Current Assets:                              |                                      |           |                            |         |              |         |          |        
|                                            
|                                            
|                                            
|                                            
|                                             | Cash and cash equivalents            |           | $                          | 37,003  |              |         | $        | 25,916  |            
|                                            
|                                            
|                                            
|                                            
|                                             | Short-term investments               |           |                            | 110,016 |              |         |          | 97,484  |            
|                                            
|                                            
|                                            
|                                            
|                                             | Accounts receivable, net             |           |                            | 18,102  |              |         |          | 14,196  |            
|                                            
|                                            
|                                            
|                                            
|                                             | Inventories                          |           |                            | 15,629  |              |         |          | 12,235  |            
|                                            
|                                            
|                                            
|                                            
|                                             | Taxes receivable                     |           |                            | 3,960   |              |         |          | 4,320   |            
|                                            
|                                            
|                                            
|                                            
|                                             | Deferred tax asset                   |           |                            | 3,930   |              |         |          | 3,905   |            
|                                            
|                                            
|                                            
|                                            
|                                             | Assets held for sale                 |           |                            |        |              |         |          | 2,341   |            
|                                            
|                                            
|                                            
|                                            
|                                             | Other current assets                 |           |                            | 2,104   |              |         |          | 1,533   |            
|                                             |                                      |           |                            |         |              |         |          |        
|                                             |                                      |           | Total current assets       |         |              | 190,744 |          |         |             | 161,930 | 
|                                            
|                                            
|                                            
|                                            
|Long-term Investments                        |                                      |           | 9,034                      |         |              |         | 17,571   |        
|                                            
|                                            
|                                            
|                                            
|Property, Plant and Equipment, net           |                                      |           | 38,353                     |         |              |         | 30,733   |        
|                                            
|                                            
|                                            
|                                            
|Intangibles, net                             |                                      |           | 5,886                      |         |              |         | 9,842    |        
|                                            
|                                            
|                                            
|                                            
|Deferred Tax Asset, net                      |                                      |           | 219                        |         |              |         | 6,629    |        
|                                            
|                                            
|                                            
|                                            
|Other Assets, net                            |                                      |           | 1,652                      |         |              |         | 1,652    |        
|                                             |                                      |           |                            |         |              |         |          |        
|                                             |                                      | $         | 245,888                    |         |              | $       | 228,357  |        
|                                             |                                      |           |                            |         |              |         |          |        
|LIABILITIES AND STOCKHOLDERS EQUITY         |                                      |           |                            |         |              |         |          |        
|                                            
|                                            
|                                            
|                                            
|Current Liabilities:                         |                                      |           |                            |         |              |         |          |        
|                                            
|                                            
|                                            
|                                            
|                                             | Accounts payable                     |           | $                          | 14,785  |              |         | $        | 9,685   |            
|                                            
|                                            
|                                            
|                                            
|                                             | Accrued liabilities                  |           |                            | 4,130   |              |         |          | 2,871   |            
|                                            
|                                            
|                                            
|                                            
|                                             |                                      | Term loan |                            |         | 2,706        |         |          |         | 2,706       |        
|                                             |                                      |           |                            |         |              |         |          |        
|                                             |                                      |           | Total current liabilities  |         |              | 21,621  |          |         |             | 15,262  | 
|                                             |                                      |           |                            |         |              |         |          |        
|Minority Interest in Consolidated Subsidiary |                                      |           | 323                        |         |              |         |         |        
|                                             |                                      |           |                            |         |              |         |          |        
|Commitments and Contingencies                |                                      |           |                            |         |              |         |          |        
|                                            
|                                            
|                                            
|                                            
|Stockholders Equity:                        |                                      |           |                            |         |              |         |          |        
|                                            
|                                            
|                                            
|                                            
|                                             | Common stock                         |           |                            | 219     |              |         |          | 219     |            
|                                            
|                                            
|                                            
|                                            
|                                             | Additional paid-in capital           |           |                            | 200,395 |              |         |          | 200,658 |            
|                                            
|                                            
|                                            
|                                            
|                                             | Retained earnings                    |           |                            | 30,666  |              |         |          | 19,716  |            
|                                            
|                                            
|                                            
|                                            
|                                             | Stock subscription note receivable   |           |                            | (163    | )            |         |          | (169    | )          
|                                            
|                                            
|                                            
|                                            
|                                             | Accumulated other comprehensive loss |           |                            | (21     | )            |         |          | (177    | )          
|                                            
|                                            
|                                            
|                                            
|                                             | Less  treasury stock, at cost       |           |                            | (7,152  | )            |         |          | (7,152  | )          
|                                             |                                      |           |                            |         |              |         |          |        
|                                             |                                      |           | Total stockholders equity |         |              | 223,944 |          |         |             | 213,095 | 
|                                             |                                      |           |                            |         |              |         |          |        
|                                             |                                      | $         | 245,888                    |         |              | $       | 228,357  |        
|                                             |                                      |           |                            |         |              |         |          |        

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 OPERATIONS
(unaudited)
(in thousands, except per share data)

|                                                              |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |        |         |  
|------------------------------------------------------------- | -------------------------------------- | -------------- | ------- | -------------- | ------- | -------------- | ------- | ------ | ------- | ---- | ------- | ------ | ------- | - | ------- | ------ | ------- | -
|                                                              |                                        |                |         | Three Months   |         | Six Months    
|                                                              |                                        |                |         | Ended June 30, |         | Ended June 30,
|                                                              |                                        |                |         |                |         |               
|                                                              |                                        |                |         | 2001           |         | 2002           |         | 2001   |         | 2002
|                                                              |                                        |                |         |                |         |                |         |        |         |     
|Net Sales                                                     |                                        | $              | 25,013  |                |         | $              | 24,087  |        |         | $    | 60,629  |        |         | $ | 47,197  |       
|                                                              |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|Costs and Expenses:                                           |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Cost of sales                          |                |         | 32,160         |         |                |         | 23,484 |         |      |         | 63,403 |         |   |         | 46,386 |        
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Selling, general, and administrative   |                |         | 2,922          |         |                |         | 2,812  |         |      |         | 5,413  |         |   |         | 5,937  |        
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Research, development, and engineering |                |         | 4,795          |         |                |         | 4,796  |         |      |         | 8,456  |         |   |         | 9,614  |        
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Loss on assets held for sale           |                |         |               |         |                |         | 4,545  |         |      |         |       |         |   |         | 4,545  |        
|                                                              |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|                                                              |                                        |                | 39,877  |                |         |                | 35,637  |        |         |      | 77,272  |        |         |   | 66,482  |       
|                                                              |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|                                                              |                                        | Operating loss |         |                | (14,864 | )              |         |        | (11,550 | )    |         |        | (16,643 | ) |         |        | (19,285 | )
|                                                              |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|Other Income (Expense):                                       |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Interest, net                          |                |         | 1,811          |         |                |         | 944    |         |      |         | 3,939  |         |   |         | 2,006  |        
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Loss on investment in start-up company |                |         | (3,820         | )       |                |         |       |         |      |         | (3,820 | )       |   |         |       |        
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Other, net                             |                |         | (64            | )       |                |         | (50    | )       |      |         | (52    | )       |   |         | 86     |        
|                                                              |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|                                                              |                                        |                | (2,073  | )              |         |                | 894     |        |         |      | 67      |        |         |   | 2,092   |       
|                                                             
|                                                             
|                                                             
|                                                             
|Minority Interest in Loss (Income) of
Consolidated Subsidiary |                                        |                |        |                |         |                | (21     | )      |         |      |        |        |         |   | 84      |       
|                                                              |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|Loss before Income Taxes                                      |                                        |                | (16,937 | )              |         |                | (10,677 | )      |         |      | (16,576 | )      |         |   | (17,109 | )     
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Benefit from income taxes              |                |         | (5,589         | )       |                |         | (4,037 | )       |      |         | (5,470 | )       |   |         | (6,159 | )      
|                                                              |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|Net Loss                                                      |                                        | $              | (11,348 | )              |         | $              | (6,640  | )      |         | $    | (11,106 | )      |         | $ | (10,950 | )     
|                                                              |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|Loss per Common Share:                                        |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Basic                                  |                | $       | (0.53          | )       |                | $       | (0.31  | )       |      | $       | (0.52  | )       |   | $       | (0.51  | )      
|                                                              |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|                                                              | Diluted                                |                | $       | (0.53          | )       |                | $       | (0.31  | )       |      | $       | (0.52  | )       |   | $       | (0.51  | )      
|                                                              |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|Weighted Average Number of Common Shares:                     |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Basic                                  |                |         | 21,342         |         |                |         | 21,522 |         |      |         | 21,385 |         |   |         | 21,515 |        
|                                                              |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       
|                                                              | Diluted                                |                |         | 21,342         |         |                |         | 21,522 |         |      |         | 21,385 |         |   |         | 21,515 |        
|                                                              |                                        |                |         |                |         |                |         |        |         |      |         |        |         |   |         |       

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

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##### Table of Contents






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

|                                               |                                                                             |                                                              |                                                      |                                       |          |                  |         |         |         |        |        |  
|---------------------------------------------- | --------------------------------------------------------------------------- | ------------------------------------------------------------ | ---------------------------------------------------- | ------------------------------------- | -------- | ---------------- | ------- | ------- | ------- | ------ | ------ | -
|                                               |                                                                             |                                                              |                                                      |                                       |          | Six Months Ended
|                                               |                                                                             |                                                              |                                                      |                                       |          | June 30,        
|                                               |                                                                             |                                                              |                                                      |                                       |          |                 
|                                               |                                                                             |                                                              |                                                      |                                       |          | 2001             |         | 2002   
|                                               |                                                                             |                                                              |                                                      |                                       |          |                  |         |        
|Cash Flows from Operating Activities:          |                                                                             |                                                              |                                                      |                                       |          |                  |         |        
|                                              
|                                              
|                                              
|                                              
|                                               | Net loss                                                                    |                                                              | $                                                    | (11,106                               | )        |                  | $       | (10,950 | )      
|                                              
|                                              
|                                              
|                                              
|                                               | Adjustments to reconcile net loss to net cash used in
operating activities: |                                                              |                                                      |                                       |          |                  |         |         |        
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             |                                                              | Depreciation and amortization                        |                                       |          | 2,855            |         |         |         | 3,383  |       
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             |                                                              | Stock compensation                                   |                                       |          |                 |         |         |         | 74     |       
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             |                                                              | Minority interest in consolidated subsidiary         |                                       |          |                 |         |         |         | (84    | )     
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             |                                                              | Provision for accounts receivable valuation reserves |                                       |          | 185              |         |         |         | 186    |       
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             |                                                              | Loss on disposal of assets                           |                                       |          | 1,289            |         |         |         | 4,545  |       
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             |                                                              | Loss on investment in start-up company               |                                       |          | 3,820            |         |         |         |       |       
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             |                                                              | Benefit from deferred taxes, net                     |                                       |          |                 |         |         |         | (6,359 | )     
|                                              
|                                              
|                                              
|                                              
|                                               | Change in assets and liabilities:                                           |                                                              |                                                      |                                       |          |                  |         |         |        
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             |                                                              | Decrease in accounts receivable                      |                                       |          | 448              |         |         |         | 3,720  |       
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             |                                                              | Decrease in inventories                              |                                       |          | 3,849            |         |         |         | 3,394  |       
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             |                                                              | Increase (decrease) in other assets                  |                                       |          | (216             | )       |         |         | 610    |       
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             |                                                              | Decrease in accounts payable and accrued liabilities |                                       |          | (3,436           | )       |         |         | (6,282 | )     
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             |                                                              | Increase in taxes receivable                         |                                       |          | (5,589           | )       |         |         | (360   | )     
|                                               |                                                                             |                                                              |                                                      |                                       |          |                  |         |        
|                                               |                                                                             |                                                              |                                                      | Net cash used in operating activities |          |                  | (7,901  | )       |         |        | (8,123 | )
|                                               |                                                                             |                                                              |                                                      |                                       |          |                  |         |        
|Cash Flows from Investing Activities:          |                                                                             |                                                              |                                                      |                                       |          |                  |         |        
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             | Purchase of property, plant, and equipment                   |                                                      |                                       | (4,470   | )                |         |         | (2,402  | )     
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             | Deposit received for assets held for sale                    |                                                      |                                       |         |                  |         |         | 600     |       
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             | Purchase of intangibles                                      |                                                      |                                       |         |                  |         |         | (4,803  | )     
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             | Purchase of investments                                      |                                                      |                                       | (151,325 | )                |         |         | (72,946 | )     
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             | Proceeds from maturities/sales of investments                |                                                      |                                       | 150,840  |                  |         |         | 76,630  |       
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             | Payments/interest on stock subscription note receivable      |                                                      |                                       |         |                  |         |         | (6      | )     
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             | Other investments                                            |                                                      |                                       | (1,000   | )                |         |         |        |       
|                                               |                                                                             |                                                              |                                                      |                                       |          |                  |         |        
|                                               |                                                                             |                                                              |                                                      | Net cash used in investing activities |          |                  | (5,955  | )       |         |        | (2,927 | )
|                                               |                                                                             |                                                              |                                                      |                                       |          |                  |         |        
|Cash Flows from Financing Activities:          |                                                                             |                                                              |                                                      |                                       |          |                  |         |        
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             | Stock options exercised                                      |                                                      |                                       | 42       |                  |         |         | 150     |       
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             | Distribution to minority interest holder                     |                                                      |                                       |         |                  |         |         | (239    | )     
|                                              
|                                              
|                                              
|                                              
|                                               |                                                                             | Purchase of treasury stock                                   |                                                      |                                       | (2,526   | )                |         |         |        |       
|                                               |                                                                             |                                                              |                                                      |                                       |          |                  |         |        
|                                               |                                                                             |                                                              |                                                      | Net cash used in financing activities |          |                  | (2,484  | )       |         |        | (89    | )
|                                               |                                                                             |                                                              |                                                      |                                       |          |                  |         |        
|                                               |                                                                             | Effect of exchange rate changes on cash and cash equivalents |                                                      |                                       | (85      | )                |         |         | 52      |       
|                                               |                                                                             |                                                              |                                                      |                                       |          |                  |         |        
|Net decrease in cash and cash equivalents      |                                                                             |                                                              | (16,425                                              | )                                     |          |                  | (11,087 | )      
|                                              
|                                              
|                                              
|                                              
|Cash and cash equivalents, beginning of period |                                                                             |                                                              | 45,645                                               |                                       |          |                  | 37,003  |        
|                                               |                                                                             |                                                              |                                                      |                                       |          |                  |         |        
|Cash and cash equivalents, end of period       |                                                                             | $                                                            | 29,220                                               |                                       |          | $                | 25,916  |        
|                                               |                                                                             |                                                              |                                                      |                                       |          |                  |         |        

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

3



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##### Table of Contents






|       |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|------ |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|       |  | THREE-FIVE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
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|       |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|      
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|      
|      
|Note A |  | The accompanying unaudited Condensed Consolidated Financial
Statements have been prepared in accordance with accounting
principles 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 the
Company, all adjustments (which include only normal recurring
adjustments and to record a loss on assets held for sale) 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- and six-month periods ended
June 30, 2002 are not necessarily indicative of the operating
results that may be expected for the entire year ending December
31, 2002. These financial statements should be read in conjunction
with the Companys December 31, 2001 financial statements and
accompanying notes thereto.
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|       |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|      
|      
|      
|      
|Note B |  | Basic loss per common share is computed by dividing net loss by the
weighted average number of shares of common stock outstanding
during the three- and six-month periods ended June 30, 2001 and
2002. Diluted loss per common share is determined assuming that
outstanding dilutive options and warrants were exercised at the
beginning of the period or at the time of issuance, if later. No
outstanding options were assumed to be exercised for purposes of
calculating diluted loss per share for the three- and six-month
periods ended June 30, 2001 and June 30, 2002, as their effect was
anti-dilutive. Set forth below are the disclosures for the three-
and six-month periods ended June 30, 2001 and 2002.                                                                                                                                                                                                                                                                                                                                                      

|                        |                                                   |                          |         |                                       |       |                  |        |        |       |      |         |        |       |   |         |        |       |  
|----------------------- | ------------------------------------------------- | ------------------------ | ------- | ------------------------------------- | ----- | ---------------- | ------ | ------ | ----- | ---- | ------- | ------ | ----- | - | ------- | ------ | ----- | -
|                        |                                                   |                          |         | Three Months Ended                    |       | Six Months Ended
|                        |                                                   |                          |         | June 30,                              |       | June 30,        
|                        |                                                   |                          |         |                                       |       |                 
|                        |                                                   |                          |         | 2001                                  |       | 2002             |        | 2001   |       | 2002
|                        |                                                   |                          |         |                                       |       |                  |        |        |       |     
|                        |                                                   |                          |         | (in thousands, except per share data)
|Basic loss per share:   |                                                   |                          |         |                                       |       |                  |        |        |       |      |         |        |       |   |         |       
|                       
|                       
|                       
|                       
|Net loss                |                                                   | $                        | (11,348 | )                                     |       | $                | (6,640 | )      |       | $    | (11,106 | )      |       | $ | (10,950 | )     
|                        |                                                   |                          |         |                                       |       |                  |        |        |       |      |         |        |       |   |         |       
|                        | Weighted average common shares                    |                          |         | 21,342                                |       |                  |        | 21,522 |       |      |         | 21,385 |       |   |         | 21,515 |      
|                        |                                                   |                          |         |                                       |       |                  |        |        |       |      |         |        |       |   |         |       
|                        |                                                   | Basic per share amount   |         | $                                     | (0.53 | )                |        | $      | (0.31 | )    |         |        | (0.52 | ) |         | $      | (0.51 | )
|                        |                                                   |                          |         |                                       |       |                  |        |        |       |      |         |        |       |   |         |       
|Diluted loss per share: |                                                   |                          |         |                                       |       |                  |        |        |       |      |         |        |       |   |         |       
|                       
|                       
|                       
|                       
|Net loss                |                                                   | $                        | (11,348 | )                                     |       | $                | (6,640 | )      |       | $    | (11,106 | )      |       | $ | (10,950 | )     
|                        |                                                   |                          |         |                                       |       |                  |        |        |       |      |         |        |       |   |         |       
|                        | Weighted average common shares                    |                          |         | 21,342                                |       |                  |        | 21,522 |       |      |         | 21,385 |       |   |         | 21,515 |      
|                       
|                       
|                       
|                       
|                        | Options and warrants assumed exercised            |                          |         |                                      |       |                  |        |       |       |      |         |       |       |   |         |       |      
|                        |                                                   |                          |         |                                       |       |                  |        |        |       |      |         |        |       |   |         |       
|                        | Total common shares plus common
stock equivalents |                          |         | 21,342                                |       |                  |        | 21,522 |       |      |         | 21,385 |       |   |         | 21,515 |      
|                        |                                                   |                          |         |                                       |       |                  |        |        |       |      |         |        |       |   |         |       
|                        |                                                   | Diluted per share amount |         | $                                     | (0.53 | )                |        | $      | (0.31 | )    |         | $      | (0.52 | ) |         | $      | (0.51 | )
|                        |                                                   |                          |         |                                       |       |                  |        |        |       |      |         |        |       |   |         |       

|       |  |                                      
|------ |  | -------------------------------------
|Note C |  | Inventories consist of the following:

|                |  |                   |        |               |  |   |        | 
|--------------- |  | ----------------- | ------ | ------------- |  | - | ------ | 
|                |  | December 31, 2001 |        | June 30, 2002
|                |  |                   |        |              
|                |  | (in thousands)   
|Raw materials   |  | $                 | 11,535 |               |  | $ | 8,524  | 
|               
|               
|               
|               
|Work-in-process |  |                   | 964    |               |  |   | 1,091  | 
|               
|               
|               
|               
|Finished goods  |  |                   | 3,130  |               |  |   | 2,620  | 
|                |  |                   |        |               |  |   |        | 
|                |  | $                 | 15,629 |               |  | $ | 12,235 | 
|                |  |                   |        |               |  |   |        | 

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##### Table of Contents



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

|                              |  |                   |         |               |  |   |         |  
|----------------------------- |  | ----------------- | ------- | ------------- |  | - | ------- | -
|                              |  | December 31, 2001 |         | June 30, 2002
|                              |  |                   |         |              
|                              |  | (in thousands)   
|Building and improvements     |  | $                 | 16,476  |               |  | $ | 16,476  |  
|                             
|                             
|                             
|                             
|Furniture and equipment       |  |                   | 53,728  |               |  |   | 44,198  |  
|                              |  |                   |         |               |  |   |         |  
|                              |  |                   | 70,204  |               |  |   | 60,674  |  
|                             
|                             
|                             
|                             
|Less accumulated depreciation |  |                   | (31,851 | )             |  |   | (29,941 | )
|                              |  |                   |         |               |  |   |         |  
|                              |  | $                 | 38,353  |               |  | $ | 30,733  |  
|                              |  |                   |         |               |  |   |         |  

|       |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|------ |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|       |  | See Note N for the $4.5 million loss on assets held for sale during 2002.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
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|       |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
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|Note E |  | Intangibles                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
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|       |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|      
|      
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|      
|       |  | Intangibles consist of mask works, patents, licenses, and other intangible
assets related to our microdisplay operating segment. Intangibles are
recorded at cost and amortized using the straight-line method over the
estimated useful lives of the respective assets, which range from two to
five years. Our policy is to commence amortization of intangibles when
their related benefits begin to be realized. In January 2002, we
purchased the intellectual property of Zight Corporation, a private
company focused on microdisplays for personal display system applications,
for $2.0 million. In April 2002, we purchased the intellectual property
of Inviso, Inc. for $750,000. In each case, the intellectual property
purchased consisted of patents, patents pending, and patent disclosures.
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|       |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
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|       |  | Intangible assets consist of the following:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   

|                                    |  |                   |       |               |  |   |        |  
|----------------------------------- |  | ----------------- | ----- | ------------- |  | - | ------ | -
|Amortized Intangible Assets:        |  | December 31, 2001 |       | June 30, 2002
|                                    |  |                   |       |              
|                                    |  | (in thousands)   
|Mask works                          |  | $                 | 3,481 |               |  | $ | 5,351  |  
|                                   
|                                   
|                                   
|                                   
|Patents and other intangible assets |  |                   | 200   |               |  |   | 3,133  |  
|                                   
|                                   
|                                   
|                                   
|Licenses                            |  |                   | 2,954 |               |  |   | 2,954  |  
|                                    |  |                   |       |               |  |   |        |  
|                                    |  |                   | 6,635 |               |  |   | 11,438 |  
|                                   
|                                   
|                                   
|                                   
|Less accumulated amortization       |  |                   | (749  | )             |  |   | (1,596 | )
|                                    |  |                   |       |               |  |   |        |  
|                                    |  | $                 | 5,886 |               |  | $ | 9,842  |  
|                                    |  |                   |       |               |  |   |        |  

| |  |                                                                                                                                                                                                                                                                                                                                                                                                                      
| |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Intangible asset amortization expense for the three months ended June 30,
2002 was $424,000. Intangible asset amortization expense for the six
months ended June 30, 2002 was $847,000. There was no amortization
expense during the six month period ended June 30, 2001. Estimated future
amortization expense through 2006 related to intangible assets reported as
of June 30, 2002 is as follows (in thousands):

|            |  |        |       | 
|----------- |  | ------ | ----- | 
|Fiscal Year |  | Amount
|            |  |       
|2002        |  | $      | 1,694 | 
|           
|           
|           
|           
|2003        |  |        | 2,258 | 
|           
|           
|           
|           
|2004        |  |        | 2,230 | 
|           
|           
|           
|           
|2005        |  |        | 2,265 | 
|           
|           
|           
|           
|2006        |  |        | 1,544 | 

|       |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|------ |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note F |  | Segment information:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
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|       |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|      
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|       |  | We monitor and evaluate the financial performance of our operations by our
two product lines (operating segments): LCD and microdisplay. The LCD
operating segment consists of products that employ an LCD (Liquid Crystal
Display) to present information to the user. The microdisplay operating
segment consists of products that employ a Liquid Crystal on Silicon
(LCoS) display to present information to the user. The accounting
policies related to the operating segments are the same as those described
in Note 2, Summary of Significant Accounting Policies, in our financial
statements included in our Report on Form 10-K for the fiscal year ended
December 31, 2001. Non-specific operating segment expenses were allocated
based upon estimated usage. Interest income was split equally between the
LCD and microdisplay operating segments. The

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##### Table of Contents



| |  |                                                                                                                                                                       
| |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
|
|
|
| |  | worldwide average tax rate was used for both segments. The following
includes financial information, for our two operating segments (in
thousands, except share data):

|                                 |  |     |        |              |  |       |        |   |  |   |         |  
|-------------------------------- |  | --- | ------ | ------------ |  | ----- | ------ | - |  | - | ------- | -
|Three Months Ended June 30, 2001 |  | LCD |        | Microdisplay |  | Total
|                                 |  |     |        |              |  |      
|Net sales                        |  | $   | 24,245 |              |  | $     | 768    |   |  | $ | 25,013  |  
|                                
|                                
|                                
|                                
|Other income (loss)              |  |     | 874    |              |  |       | (2,947 | ) |  |   | (2,073  | )
|                                
|                                
|                                
|                                
|Benefit from income taxes        |  |     | (3,089 | )            |  |       | (2,500 | ) |  |   | (5,589  | )
|                                
|                                
|                                
|                                
|Net loss                         |  |     | (6,271 | )            |  |       | (5,077 | ) |  |   | (11,348 | )
|                                
|                                
|                                
|                                
|Loss per share                   |  |     | (0.29  | )            |  |       | (0.24  | ) |  |   | (0.53   | )

|                                 |  |     |        |              |  |       |        |   |  |   |        |  
|-------------------------------- |  | --- | ------ | ------------ |  | ----- | ------ | - |  | - | ------ | -
|Three Months Ended June 30, 2002 |  | LCD |        | Microdisplay |  | Total
|                                 |  |     |        |              |  |      
|Net sales                        |  | $   | 23,862 |              |  | $     | 225    |   |  | $ | 24,087 |  
|                                
|                                
|                                
|                                
|Other income                     |  |     | 447    |              |  |       | 447    |   |  |   | 894    |  
|                                
|                                
|                                
|                                
|Benefit from income taxes        |  |     | (1,744 | )            |  |       | (2,293 | ) |  |   | (4,037 | )
|                                
|                                
|                                
|                                
|Net loss                         |  |     | (3,042 | )            |  |       | (3,598 | ) |  |   | (6,640 | )
|                                
|                                
|                                
|                                
|Loss per share                   |  |     | (0.14  | )            |  |       | (0.17  | ) |  |   | (0.31  | )

|                                       |  |     |        |              |  |       |        |   |  |   |         |  
|-------------------------------------- |  | --- | ------ | ------------ |  | ----- | ------ | - |  | - | ------- | -
|Six Months Ended June 30, 2001         |  | LCD |        | Microdisplay |  | Total
|                                       |  |     |        |              |  |      
|Net sales                              |  | $   | 59,302 |              |  | $     | 1,327  |   |  | $ | 60,629  |  
|                                      
|                                      
|                                      
|                                      
|Other income (loss)                    |  |     | 1,944  |              |  |       | (1,877 | ) |  |   | 67      |  
|                                      
|                                      
|                                      
|                                      
|Benefit from income taxes income
taxes |  |     | (2,415 | )            |  |       | (3,055 | ) |  |   | (5,470  | )
|                                      
|                                      
|                                      
|                                      
|Net loss                               |  |     | (4,903 | )            |  |       | (6,203 | ) |  |   | (11,106 | )
|                                      
|                                      
|                                      
|                                      
|Loss per share                         |  |     | (0.23  | )            |  |       | (0.29  | ) |  |   | (0.52   | )

|                               |  |     |        |              |  |       |        |   |  |   |         |  
|------------------------------ |  | --- | ------ | ------------ |  | ----- | ------ | - |  | - | ------- | -
|Six Months Ended June 30, 2002 |  | LCD |        | Microdisplay |  | Total
|                               |  |     |        |              |  |      
|Net sales                      |  | $   | 46,746 |              |  | $     | 451    |   |  | $ | 47,197  |  
|                              
|                              
|                              
|                              
|Other income                   |  |     | 1,045  |              |  |       | 1,047  |   |  |   | 2,092   |  
|                              
|                              
|                              
|                              
|Benefit from income taxes      |  |     | (1,971 | )            |  |       | (4,188 | ) |  |   | (6,159  | )
|                              
|                              
|                              
|                              
|Net loss                       |  |     | (3,505 | )            |  |       | (7,445 | ) |  |   | (10,950 | )
|                              
|                              
|                              
|                              
|Loss per share                 |  |     | (0.16  | )            |  |       | (0.35  | ) |  |   | (0.51   | )

| |  |                                                                                                                                                                                                                                    
| |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | We also track net sales data by geographic location. Net sales by
geographic area are determined based upon the location of the end
customer. The following includes financial information for our geographic
areas (in thousands):

|                                 |  |         |       |       |  |         |        |       |  |   |       |  |  |   |        | 
|-------------------------------- |  | ------- | ----- | ----- |  | ------- | ------ | ----- |  | - | ----- |  |  | - | ------ | 
|                                 |  | North   |       |       |  |         |        | Other |  |   |       | 
|Three Months Ended June 30, 2001 |  | America |       | China |  | Foreign |        | Total
|                                 |  |         |       |       |  |         |        |      
|Net sales                        |  | $       | 6,490 |       |  | $       | 11,382 |       |  | $ | 7,141 |  |  | $ | 25,013 | 

|                                 |  |         |       |       |  |         |        |       |  |   |       |  |  |   |        | 
|-------------------------------- |  | ------- | ----- | ----- |  | ------- | ------ | ----- |  | - | ----- |  |  | - | ------ | 
|                                 |  | North   |       |       |  |         |        | Other |  |   |       | 
|Three Months Ended June 30, 2002 |  | America |       | China |  | Foreign |        | Total
|                                 |  |         |       |       |  |         |        |      
|Net sales                        |  | $       | 1,685 |       |  | $       | 13,638 |       |  | $ | 8,764 |  |  | $ | 24,087 | 

|                               |  |         |        |       |  |         |        |       |  |   |        |  |  |   |        | 
|------------------------------ |  | ------- | ------ | ----- |  | ------- | ------ | ----- |  | - | ------ |  |  | - | ------ | 
|                               |  | North   |        |       |  |         |        | Other |  |   |        | 
|Six Months Ended June 30, 2001 |  | America |        | China |  | Foreign |        | Total
|                               |  |         |        |       |  |         |        |      
|Net sales                      |  | $       | 12,687 |       |  | $       | 23,286 |       |  | $ | 24,656 |  |  | $ | 60,629 | 

|                               |  |         |       |       |  |         |        |       |  |   |        |  |  |   |        | 
|------------------------------ |  | ------- | ----- | ----- |  | ------- | ------ | ----- |  | - | ------ |  |  | - | ------ | 
|                               |  | North   |       |       |  |         |        | Other |  |   |        | 
|Six Months Ended June 30, 2002 |  | America |       | China |  | Foreign |        | Total
|                               |  |         |       |       |  |         |        |      
|Net sales                      |  | $       | 4,189 |       |  | $       | 23,375 |       |  | $ | 19,633 |  |  | $ | 47,197 | 

6



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##### Table of Contents



|       |  |                                                   
|------ |  | --------------------------------------------------
|Note G |  | Comprehensive loss for the periods was as follows:

|                                   |                                                    |   |                    |      |                  |   |        |    |      |   |         |     |   |   |         |      |  
|---------------------------------- | -------------------------------------------------- | - | ------------------ | ---- | ---------------- | - | ------ | -- | ---- | - | ------- | --- | - | - | ------- | ---- | -
|                                   |                                                    |   | Three Months Ended |      | Six Months Ended
|                                   |                                                    |   | June 30,           |      | June 30         
|                                   |                                                    |   |                    |      |                 
|                                   |                                                    |   | 2001               |      | 2002             |   | 2001   |    | 2002
|                                   |                                                    |   |                    |      |                  |   |        |    |     
|                                   |                                                    |   | (in thousands)    
|Net loss                           |                                                    | $ | (11,348            | )    |                  | $ | (6,640 | )  |      | $ | (11,106 | )   |   | $ | (10,950 | )   
|                                  
|                                  
|                                  
|                                  
|Other comprehensive income (loss): |                                                    |   |                    |      |                  |   |        |    |      |   |         |     |   |   |         |     
|                                  
|                                  
|                                  
|                                  
|                                   | Cumulative foreign currency
translation adjustment |   |                    | (101 | )                |   |        | 36 |      |   |         | (85 | ) |   |         | 52   |  
|                                  
|                                  
|                                  
|                                  
|                                   | Unrealized gain (loss) on
securities, net of tax   |   |                    | 134  |                  |   |        | 89 |      |   |         | 252 |   |   |         | (208 | )
|                                   |                                                    |   |                    |      |                  |   |        |    |      |   |         |     |   |   |         |     
|Comprehensive loss                 |                                                    | $ | (11,315            | )    |                  | $ | (6,515 | )  |      | $ | (10,939 | )   |   | $ | (11,106 | )   
|                                   |                                                    |   |                    |      |                  |   |        |    |      |   |         |     |   |   |         |     

|       |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|------ |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note H |  | Debt                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|      
|      
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|       |  | In February 2002, we renewed our credit facility with Comerica Bank. That
credit facility is a $15.0 million unsecured revolving line of credit that
matures in January 2003. No borrowings were outstanding under that credit
facility on June 30, 2002. Advances under the facility may be made as
prime 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. In May 2002, our Beijing
subsidiary renewed its credit facility with the Bank of China. As of June
30, 2002, our Beijing subsidiary had an outstanding $2.7 million term loan
due April 30, 2003 to the Bank of China, which was secured by a $3.0
million stand-by letter of credit issued by Comerica Bank.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
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|Note I |  | Commitments and Contingencies:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
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|       |  | In 1991, we received a notice of potential liability at the
Barkhamsted-New Hartford Landfill Site (the Landfill) in Barkhamsted,
Connecticut from the U.S. Environmental Protection Agency (EPA).
Fifty-seven other entities received similar letters. In January 1992, we
received a 104(e) questionnaire from the EPA, which was completed and
submitted during 1992. We received verbal notification that we had no
further liability in the matter. According to the EPA, groundwater
contamination at the site, which includes volatile and semi-volatile
organic compounds and low concentrations of metals, constitutes a
low-level threat. As a result of previous actions at the site,
groundwater is the only medium requiring additional cleanup. All source
material and principal threats have been addressed through the landfill
capping and related activity completed in 1999. On February 28, 2002, we
received notification from the EPA that the EPA believes we are an
involved party and indicated that the EPA was seeking to negotiate an
agreement with the involved parties to fund the EPAs chosen remedy of
monitored natural attenuation of the groundwater. The EPA indicated that
further notification would be made in the next 60 days, which notification
will include the names of any other involved parties. We received
notification and have become a member of the Potential Responsible Party
(PRP) group noticed by the EPA. We are currently evaluating our potential
liability at the site in meetings with this PRP group. The Landfill is a
semi-active waste disposal area consisting of 97.84 acres located in
Barkhamsted and New Hartford, Connecticut. The Landfill is owned and
operated by the Administrative Board of Regional Refuse Disposal and began
operating as a landfill in 1974. Industrial wastes were received by the
Landfill until 1993, and the Landfill was closed in 1995. The EPA has
conducted a Remedial Investigation/Feasibility Study and issued a Proposed
Plan to clean up the site. In our opinion, any ultimate settlement
liability related to the Landfill will not be material to our financial
position or results of operations.
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|       |  | We have guaranteed up to $472,000 of the debt of a start-up company,
VoiceViewer Technology, Inc., a private company developing microdisplay
products. We will be required to pay this guarantee to the lender if the
start-up company defaults on its debt obligations.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
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|       |  | We are also involved in certain administrative proceedings arising in the
normal course of business. In our opinion, the ultimate settlement of
these administrative proceedings will not materially impact our financial
position or results of operations.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               

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|Note J |  | Recently Issued Accounting Standards                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
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|       |  | In June 2001, the FASB issued SFAS No. 141, Business Combinations, and
SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141
requires companies to apply the purchase method of accounting for all
business combinations initiated after June 30, 2001 and prohibits the use
of the pooling-of-interest method. SFAS No. 142 changes the method by
which companies may recognize intangible assets in purchase business
combinations and generally requires identifiable intangible assets to be
recognized separately from goodwill. In addition, it eliminates the
amortization of all existing and newly acquired goodwill on a prospective
basis and requires companies to assess goodwill for impairment, at least
annually, based on the fair value of the reporting unit. We adopted SFAS
Nos. 141 and 142 on January 1, 2002, and there was no material impact on
our financial position or results of operations.                                                                                                                                                                                                                                                                                                                                                                   
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|       |  | In August 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. SFAS No. 144 supersedes
SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of, and the accounting and reporting
provisions of APB Opinion No. 30, Reporting the Results of Operations 
Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and
Transactions. SFAS No. 144 modifies the method in which companies
account for certain asset impairment losses. We adopted SFAS No. 144 on
January 1, 2002, and there was no material impact on our financial
position or results of operations.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
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|Note K |  | Reclassifications                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
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|       |  | Certain amounts in the statements of cash flows for the six-month period
ended June 30, 2001 have been reclassified to conform with the 2002
presentation.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
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|Note L |  | Benefit Plans                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
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|       |  | On May 3, 2002, the stockholders approved an amendment to increase
the number of our shares of common stock available for issuance
under the 1998 Stock Option Plan from 1,100,000 to 1,600,000
shares.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
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|Note M |  | Joint Venture                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
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|       |  | In the second quarter of 2002, we agreed with DuPont Displays to liquidate
our joint venture, Three-D OLED L.L.C., and enter into a non-equity based
Strategic Manufacturing and Supply Agreement. Under that agreement, the
parties will continue to work together in a fashion similar to the
venture, but the relationship will be nonexclusive. Thus, we will have
the right to purchase the glass panel output of a planned high-volume
manufacturing plant located in Taiwan, announced by DuPont and RiTdisplay
Technology Corporation. In
addition, we will utilize other OLED glass panel sources. Upon the
request of DuPont Displays, we will also manufacture OLED display modules
for them at our display module assembly facilities in Beijing and Manila.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
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|Note N |  | Loss on Sale of Assets                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
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|       |  | During the second quarter of 2001, we announced our strategic decision to
move our front-end manufacturing LCD line from Arizona to Asia. The
front-end LCD line was operated in Arizona through the third quarter of
2001 and was then shut down. We now purchase all of our LCDs from third
parties, although we sometimes purchase partially completed LCDs and
complete the back-end operations on those LCDs in Manila, as described
below. During the second quarter of 2002, we signed a Cooperative
Agreement with a Chinese company in which we agreed to sell our front-end
LCD line and establish a supply agreement. The sale of the front-end LCD
line will likely occur in the fourth quarter of 2002. Under the terms of
the Cooperative Agreement, we will receive $3 million in cash, favorable
LCD glass pricing, and flexible yet assured manufacturing capacity from
this strategic partner. In the second quarter of 2002, as a result of
signing the Cooperative Agreement, we realized a one-time charge of $4.5
million for the loss on assets held for sale. This charge was reported as
a separate line item in operating expense. We received $600,000 of the
sales price in June 2002, which has been recorded as a reduction in the
carrying value of the assets held for sale.

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Note OSubsequent Event



| |  | In July 2002, we invested $5.0 million in ColorLink, Inc. ColorLink has a
leading position worldwide in the development and manufacture of color
management technologies for LCoS microdisplays. ColorLinks products
consist of color management components and system architectures that are
critical for digital projection systems that use high-resolution
microdisplays. Those projection systems include color monitors,
high-definition televisions and multi-media projectors. This investment
furthers our efforts to accelerate as much as possible the establishment
of the necessary infrastructure for LCoS microdisplays.
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ITEM 2.  MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

FORWARD-LOOKING STATEMENTS AND FACTORS THAT MAY AFFECT RESULTS

In addition to the historical information contained herein, this Report
contains forward-looking statements, including those relating to revenue,
earnings margins, pricing pressures, quarterly fluctuations, the impact of
moving our Arizona LCD line, material shortages, research, development, and
engineering expense, selling, general, and administrative 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 Special Considerations in Item 1 of our
Report on Form 10-K for the fiscal year ended December 31, 2001. Therefore,
this Report should be read in conjunction with that Form 10-K.

Overview

We offer advanced design and manufacturing services to original equipment
manufacturers, commonly referred to as OEMs. We have two business segments.
In one segment, referred to as the LCD business, 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 customer. These additional components may include such items as
keypads, microphones, speakers, light guides, and optics. In our second
business segment, referred to as the Microdisplay business, we are pursuing the
commercialization of liquid crystal on silicon (LCoS)microdisplays following
several years of extensive research and development activities. We believe
that the initial markets for our LCoSmicrodisplay products will be in front
projectors, large screen television sets, and personal display system
applications. We plan to offer a range of LCoSproduct solutions with
different levels of integration from individual imagers to optical light
engines for sale to OEMs that manufacture monitors and televisions.

Substantially all of our sales are in our LCD business segment. We
currently sell substantially all of our LCD modules to major OEMs. We derived
more than 80% of our net sales in 1999, 2000, 2001, and the first half of 2002
from the mobile handset market. When we win a design program, our customers
sometimes pay all or a portion of our nonrecurring engineering expenses to
defray the costs of custom design, as well as all or a portion of the costs of
nonrecurring tooling for custom components. The typical design program life
cycle of a custom-designed LCD module is three to 15 months and includes
technical design, prototyping, pilot manufacturing, and high-volume
manufacturing. Until 2001, our strategy was to seek large-volume programs
from major OEMs. In that situation, the minimum production quantity for an LCD
module typically approximates 100,000 units per year, although the production
rate for some programs has been higher than 100,000 units per week. Recently,
we have re-focused our strategy on lower-volume programs with potentially
higher gross margins. We have re-focused our strategy because some OEMs with
high-volume programs have begun to expect to purchase LCD modules for less than
industry costs. The selling price of our LCD modules usually ranges between $3
and $50 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. These conditions are met at the time we ship
products to customers.

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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 in
the wireless communications industry 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. We experienced
substantial growth again in 1999 and 2000, but our sales substantially declined
in 2001 as a result of the world-wide economic slowdown. Motorola and its
subcontractors accounted for 34.6% of our net sales in 1997, 63.6% in 1998,
86.1% in 1999, 86.9% in 2000, and 85.4% in 2001. In the first half of 2002,
Motorola and its subcontractors accounted for 87.2% of our net sales. As a
result of our change in strategy, discussed above, none of our design wins in
2001 and 2002 thus far have been with the handset group at Motorola.
Consequently, we expect total Motorola business to begin to decline over the
next several quarters as older programs end.

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. Therefore, as compared with the fourth quarter
of a calendar year, sales are usually lower in the following quarter.

Several factors impact our gross margins, including manufacturing
efficiencies, product mix, product differentiation, product uniqueness,
inventory management, and volume pricing. In addition, significant pricing
pressure exists in the LCD module market. Accordingly, those factors have
impacted, and can be expected to continue to impact, our overall margins.

In the past, we have used our own front-end LCD production line in Tempe,
Arizona for the manufacture of more technologically complex and custom
high-volume LCDs. We also purchased LCDs from third parties to provide us an
alternate source and to ensure available capacity. In order to take advantage
of lower labor costs, we have traditionally shipped LCDs to our facilities in
Manila, the Philippines, or Beijing, China, for assembly into modules.

During the second quarter of 2001, we announced our strategic decision to
move our front-end manufacturing LCD line from Arizona to Asia. The front-end
LCD line was operated in Arizona through the third quarter of 2001 and was then
shut down. We now purchase all of our LCDs from third parties, although we
sometimes purchase partially completed LCDs and complete the back-end
operations on those LCDs in Manila, as described below. During the second
quarter of 2002, we signed a Cooperative Agreement with a Chinese company in
which we agreed to sell our front-end LCD line and establish a supply
agreement. The sale of the front-end LCD line will likely occur in the fourth
quarter of 2002. Under the terms of the Cooperative Agreement, we will receive
$3 million in cash, favorable LCD glass pricing, and flexible yet assured
manufacturing capacity from this strategic partner. In the second quarter of
2002, as a result of signing the Cooperative Agreement, we realized a one-time
charge of $4.5 million for the loss on assets held for sale. This charge was
reported as a separate line item in operating expense. We received $600,000 of
the sales price in June 2002, which has been recorded as a reduction in the
carrying value of the assets held for sale.

In Tempe, Arizona, we continue to manufacture all of our LCoS
microdisplays on our high-volume liquid crystal on silicon manufacturing line.
In addition, all testing and assembly into LCoSmodules is done in Tempe.

In Manila, we assemble LCDs into modules and perform certain back-end LCD
processing operations. We now conduct all of our operations in Manila at our
own factory, where we employ our own employees and do not employ the services
of a third-party subcontractor. Until April 2002, our back-end LCD processing
operations were conducted in Manila through a third-party subcontract
manufacturer. Since that date, however, the Manila back-end LCD processing is
performed in our own facility.

In Beijing, we also assemble LCDs into modules. We conduct our LCD
module operations in Beijing through a wholly owned foreign subsidiary at a
facility we own. We also employ all of our own employees in Beijing.

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. In addition,
we have recently incurred substantial marketing and administrative expenses in
connection with our LCoSmicrodisplay business.

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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.

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 Semiconductor focused on the silicon technologies needed for
microdisplays, and we focused on the liquid crystal technologies. In 1999,
National Semiconductor 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 Semiconductor relating to LCoS
microdisplays. 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 Semiconductor to assist in the implementation of the acquired
technologies.

In April 1998, we entered into a strategic relationship with Inviso, 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 provided
proprietary manufacturing capabilities and liquid crystal expertise, and Inviso
provided patented and proprietary technologies and components for the joint
development of microdisplay products. In the second quarter of 2001, we wrote
off our investment of $3.8 million in Inviso because we determined that our
investment was impaired, as that term is defined under generally accepted
accounting principles. Subsequent to our write-off, Inviso was unable to raise
funds to operate its business and has since ceased operations. In the second
quarter of 2002, we purchased all of the intellectual property of Inviso for
$750,000.

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 agreed to provide LCD glass to us and reserve a
significant amount of LCD glass manufacturing capacity for us. In exchange, we
agreed to assist Jiya in further developing its LCD glass manufacturing
processes. At the end of the agreement term in February 2002, we had the
option to extend the agreement or to acquire a majority interest in Jiya. We
elected not to extend the agreement or acquire a majority interest.

In 2001, we invested $1.25 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,
reconfigurable packaging platforms for LCoSmicrodisplays.

During the second quarter of 2001, we formed a new company, Three-D OLED
L.L.C., with DuPont Displays, a business unit of DuPont Corporation. We owned
51% of this new venture, and DuPont Displays owned 49%. The companies pledged
$3.0 million to the venture. Our share of that obligation was slightly over
$1.5 million. This venture was formed to design, assemble, and market OLED
(Organic Light Emitting Diode) display modules to OEMs worldwide with the focus
on glass substrate, passive matrix OLED displays. In the second quarter of
2002, we agreed with DuPont Displays to liquidate our joint venture with
Three-D OLED L.L.C. and enter into a non-equity based Strategic Manufacturing
and Supply Agreement. Under that agreement, the parties will continue to work
together in a fashion similar to the venture, but the relationship will be
nonexclusive. Thus, we will have the right to purchase the glass panel output
of a planned high-volume manufacturing plant located in Taiwan, announced by
DuPont and RiTdisplay Technology Corporation. In addition, we will utilize
other OLED glass panel sources. Upon the request of DuPont Displays, we will
also manufacture OLED display modules for them at our display module assembly
facilities in Beijing and Manila.

In January 2002, we purchased the intellectual property of Zight
Corporation, a private company focused on microdisplays for personal display
system applications. In addition, we purchased certain key assets of Zight at
a creditors auction and we hired seven key technical persons formerly employed
by Zight. The total cost of the acquisition was approximately $2.6 million.

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In July 2002, we invested $5.0 million in ColorLink, Inc. ColorLink has a
leading position worldwide in the development and manufacture of color
management technologies for LCoS microdisplays. ColorLinks products consist
of color management components and system architectures that are critical for
digital projection systems that use high-resolution microdisplays. Those
projection systems include color monitors, high-definition televisions and
multi-media projectors. This investment furthers our efforts to accelerate as
much as possible the establishment of the necessary infrastructure for LCoS
microdisplays.

Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of
operations are based upon our financial statements, which have been prepared in
accordance with generally accepted accounting principles (GAAP) in the United
States. During preparation of these financial statements, we are required to
make estimates and judgements that affect the reported amounts of assets,
liabilities, revenue and expenses, and related disclosure of contingent assets
and liabilities. On an on-going basis, we evaluate our estimates, including
those related to product returns, bad debts, inventories, investments, fixed
assets, intangible assets, income taxes, pensions and other post-retirement
benefits, contingencies, and litigation. We base our estimates on historical
experience and on various other assumptions that we believe are reasonable
under the circumstances. The results form the basis for making judgements about
the carrying values of assets and liabilities that are not readily apparent
from other sources. Actual results may differ from these estimates under
different assumptions or conditions.

We believe the following critical accounting policies affect our more
significant judgements and estimates used in the preparation of our financial
statements.

We recognize sales when persuasive evidence of a sale exists; that is, a
product is shipped under an agreement with a customer, risk of loss and title
have passed to the customer, the fee is fixed or determinable, and collection
of the resulting receivable is reasonably assured. Non-recurring engineering
and non-recurring tooling revenues are recognized as expenses are incurred.

We maintain an allowance for doubtful accounts for estimated losses
resulting from the inability of our customers to make required payments. We
determine the adequacy of this allowance by regularly evaluating individual
customer receivables and considering a customers financial condition, credit
history, and current economic conditions. If the financial condition of our
customers were to deteriorate, additional allowances may be required.

We write down our inventory for estimated obsolescence or unmarketable
inventory equal to the difference between the cost of inventory and the
estimated market value based upon assumptions about future demand and market
conditions. If actual market conditions are less favorable than those projected
by us, additional inventory write-downs may be required.

We estimate our actual current tax exposure together with the temporary
differences that have resulted from the differing treatment of items dictated
by GAAP versus U.S. tax laws. These temporary differences result in deferred
tax assets and liabilities. Net operating loss carry forwards and other credit
carry forwards also result in deferred tax assets. On an on-going basis, we
then assess the likelihood that our deferred tax assets will be recovered from
future taxable income. If we were to believe that the recovery were not more
likely than not, we would establish a valuation allowance against the deferred
tax asset and charge the amount as an income tax expense in the period in which
such a determination was made.

Results of Operations

Three months ended June 30, 2002 compared to three months ended June 30, 2001

Net Sales.Our net sales decreased 3.6% to $24.1 million in the three
months ended June 30, 2002 from $25.0 million in the three months ended June
30, 2001. This decrease was primarily a result of the reduced selling prices
of our LCD modules. We actually shipped 13% more modules in the second quarter
of 2002 versus the second quarter of 2001. We derived more than 80% of our net
sales from the mobile handset market. Since the second half of 2000, weak and
uncertain demand in the mobile handset industry and continued issues with
handset inventories has led to

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cancellations, delays and push-outs for existing and new customers
programs. In addition, pricing pressures in the LCD module industry have led
to a reduction in average selling prices.

Cost of Sales.Cost of sales decreased to 97.5% of net sales in the three
months ended June 30, 2002 from 128.6% in the three months ended June 30, 2001.
The higher percentage in 2001 was a result of sudden, intense pricing
pressure and operating inefficiencies caused by a rapid reduction in production
volumes. In addition, in 2001 we had a $2.4 million charge relating to the
write-off of our inventory. The inventory write-off occurred because of
cancellations by customers of various end-of-life programs. Since the second
quarter of 2001, we have focused on continued cost reductions to increase our
operating efficiencies and lower our breakeven levels.

Selling, General, and Administrative Expense.Selling, general, and
administrative expense, or SG&A, was $2.8 million in the three months ended
June 30, 2002, which is roughly equivalent to the $2.9 million incurred in the
three months ended June 30, 2001.

Research, Development, and Engineering Expense.Research, development,
and engineering, or RD&E, expense was $4.8 million in the three months ended
June 30, 2002, which is equivalent to the $4.8 million incurred in the three
months ended June 30, 2001. Over 80% of the RD&E expense related to the
result of the development of LCoSmicrodisplays, and the largest component of
the expense for LCoSmicrodisplays was production start-up expenses.

Loss on Assets Held for Sale.During the second quarter of 2002, we
signed a Cooperative Agreement with a Chinese company in which we agreed to
sell our front-end manufacturing LCD line and establish a supply agreement.
The sale of the front-end LCD line will likely occur in the fourth quarter of
2002. Under the terms of the Cooperative Agreement, we will receive $3 million
in cash, favorable LCD glass pricing, and flexible yet assured manufacturing
capacity from this strategic partner. In the second quarter of 2002, as a
result of signing the Cooperative Agreement, we realized a one-time charge of
$4.5 million for the loss on assets held for sale. This charge was reported as
a separate line item in operating expense.

Other Income (Expense), Net.Other income in the three months ended June
30, 2002 was $894,000 compared to other expense of $2.1 million in the three
months ended June 30, 2001. The principal reason for the difference is that we
had a write-off of our investment in Inviso, Inc. of $3.8 million in the
quarter ended June 30, 2001. In addition, the interest income earned in the
second quarter of 2001 was $1.8 million compared to $944,000 in the second
quarter of 2002. The primary reason for the reduced interest income was a
substantial reduction in the market interest rate combined with a reduction in
our average cash balances and liquid investments.

Benefit from Income Taxes.We had a benefit from income taxes of $4.0
million in the three months ended June 30, 2002 compared to a benefit from
income taxes of $5.6 million in the three months ended June 30, 2001. The tax
benefit rate was 37.8% in the three months ended June 30, 2002 compared to
33.0% in the three months ended June 30, 2001. The increased tax benefit rate
was the result of a higher estimated annual loss in higher tax rate
jurisdictions and because of the allocation of our loss between various
countries.

Net Loss.Our net loss was $6.6 million, or $0.31 per diluted share, in
the three months ended June 30, 2002 compared to a net loss of $11.3 million,
or $0.53 per diluted share, in the three months ended June 30, 2001. As
discussed above, we had a one-time charge relating to the write-down of the
front-end LCD line in the second quarter of 2002. In addition, we had several
special charges in the second quarter of 2001, including the write-off of our
investment in Inviso, Inc. of $3.8 million, the write-off of certain inventory
of $2.4 million, and the write-off of an ERP system implementation of $1.3
million. Excluding all special charges, our net loss for the three months
ended June 30, 2002 was $3.8 million, or $0.18 per diluted share, and our net
loss for the three months ended June 30, 2001 was approximately $6.3 million,
or $0.29 per diluted share.

We reported a net loss of approximately $3.6 million, or $0.17 per share,
in the second quarter of 2002 in the LCoSmicrodisplay business segment
compared to a net loss of approximately $5.1 million, or $0.24 per share, in
the second quarter of 2001. For the LCD business segment, we reported a net
loss of approximately $3.0 million, or $0.14 per share, during the second
quarter of 2002 compared to a net loss of approximately $6.3 million, or $0.29
per share, during the second quarter of 2001.

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Six months ended June 30, 2002 compared to six months ended June 30, 2001.

Net Sales.Net sales decreased 22.1% to $47.2 million in the six months
ended June 30, 2002 from $60.6 million in the six months ended June 30, 2001.
This decrease was primarily a result of the downturn of the economy in general
as well as a downturn in the mobile handset market. We derived more than 80%
of our net sales from the mobile handset market. The number of LCD module units
shipped in the first half of 2002 was 6.6% less than the number of units
shipped in the first half of 2001. In addition, pricing pressures in the LCD
module industry have led to a reduction in average selling prices.

Cost of Sales.Cost of sales decreased to 98.3% of net sales in the six
months ended June 30, 2002 from 104.6% in the six months ended June 30, 2001.
The higher percentage in 2001 was a result of sudden, intense pricing pressure
and operating inefficiencies caused by a rapid reduction in production volumes.
In addition, in the second quarter of 2001, we had a $2.4 million charge
relating to the write-off of our inventory. The inventory write-off occurred
because of cancellations by customers of various end-of-life programs. Since
the second quarter of 2001, we have focused on continued cost reductions to
increase our operating efficiencies and lower our breakeven levels.

Selling, General, and Administrative Expense.Selling, general, and
administrative expense increased 9.3% to $5.9 million in the six months ended
June 30, 2002 from $5.4 million in the six months ended June 30, 2001. The
increase in SG&A expense was a result of a variety of factors, including
increased legal fees and allowances for doubtful accounts.

Research, Development, and Engineering Expense.Research, development,
and engineering expense increased 12.9% to $9.6 million in the six months ended
June 30, 2002 from $8.5 million in the six months ended June 30, 2001. RD&E
expense overall increased almost exclusively as a result of the efforts to
bring LCoSmicrodisplays into production.

Loss on Assets Held for Sale.During the second quarter of 2002, we
signed a Cooperative Agreement with a Chinese company in which we agreed to
sell our front-end manufacturing LCD line and establish a supply agreement.
The sale of the front-end LCD line will likely occur in the fourth quarter of
2002. Under the terms of the Cooperative Agreement, we will receive $3 million
in cash, favorable LCD glass pricing, and flexible yet assured manufacturing
capacity from this strategic partner. In the second quarter of 2002, as a
result of signing the Cooperative Agreement, we realized a one-time charge of
$4.5 million for the loss on assets held for sale. This charge was reported as
a separate line item in operating expense.

Other Income (Expense), Net.Other income in the six months ended June
30, 2002 was $2.1 million compared to other income of $67,000 in the six months
ended June 30, 2001. The principal reason for the difference was the write-off
of our investment in Inviso, Inc. of $3.8 million in the quarter ended June 30,
2001. In addition, the interest income earned in the first half of 2001 was
$3.9 million as compared to $2.0 million in the first half of 2002. The primary
reason for the reduced interest income was a substantial reduction in the
market interest rate combined with a reduction in our average cash balances and
liquid investments.

Benefit from Income Taxes.We had a benefit from income taxes of $6.1
million for the six months ended June 30, 2002 compared to a benefit from
income taxes of $5.5 million for the six months ended June 30, 2001. The tax
benefit rate was 36% in the six months ended June 30, 2002 compared to a tax
benefit rate of 33% in the six months ended June 30, 2001. The increased tax
benefit rate was the result of a higher estimated annual loss in higher tax
rate jurisdictions and because of the allocation of our loss between various
countries.

Net Loss.Our net loss was $11.0 million, or $0.51 per diluted share, in
the six months ended June 30, 2002 compared to a net loss of $11.1 million, or
$0.52 per diluted share, in the six months ended June 30, 2001. We reported a
net loss of approximately $7.4 million, or $0.35 per share, in the six months
ended June 30, 2002 in the LCoSmicrodisplay business segment compared to a net
loss of approximately $6.2 million, or $0.29 per share, in the six months ended
June 30, 2001. For the LCD business segment, we reported a net loss of $3.5
million, or $0.16 per share, during the six months ended June 30, 2002 compared
to a net loss of $4.9 million, or $0.23 per share, during the six months ended
June 30, 2001.

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Quarterly Results of Operations

The following table presents unaudited consolidated statement of
operations data for each of the five quarters in the period ended June 30,
2002. We believe that all necessary adjustments have been included to present
fairly the quarterly information when read in conjunction with the Condensed
Consolidated Financial Statements. The operating results for any quarter are
not necessarily indicative of the results for any subsequent quarter.

|                                                              |                                        |   |                |        |         |   |         |        |                |   |         |        |  |   |        |        |  |   |         |        | 
|------------------------------------------------------------- | -------------------------------------- | - | -------------- | ------ | ------- | - | ------- | ------ | -------------- | - | ------- | ------ |  | - | ------ | ------ |  | - | ------- | ------ | 
|                                                              |                                        |   | Quarters Ended
|                                                              |                                        |   |               
|                                                              |                                        |   |                |        |         |   |         |        | (in thousands) |   |         |        |  |   |       
|                                                              |                                        |   | Jun 30,        |        | Sep 30, |   | Dec 31, |        | Mar 31,        |   | Jun 30,
|                                                              |                                        |   |                |        | 2001    |   |         |        | 2002          
|                                                              |                                        |   |                |        |        
|Net sales                                                     |                                        | $ | 25,013         |        |         | $ | 26,594  |        |                | $ | 31,913  |        |  | $ | 23,110 |        |  | $ | 24,087  |       
|                                                              |                                        |   |                |        |         |   |         |        |                |   |         |        |  |   |        |        |  |   |         |       
|                                                             
|                                                             
|                                                             
|                                                             
|Cost and expenses:                                            |                                        |   |                |        |         |   |         |        |                |   |         |        |  |   |        |        |  |   |         |       
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Cost of sales                          |   |                | 32,160 |         |   |         | 27,453 |                |   |         | 30,658 |  |   |        | 22,902 |  |   |         | 23,484 | 
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Selling, general, and administrative   |   |                | 2,922  |         |   |         | 2,444  |                |   |         | 2,273  |  |   |        | 3,125  |  |   |         | 2,812  | 
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Research, development, and engineering |   |                | 4,795  |         |   |         | 4,224  |                |   |         | 4,938  |  |   |        | 4,818  |  |   |         | 4,796  | 
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Loss on sale of assets                 |   |                |       |         |   |         |       |                |   |         |       |  |   |        |       |  |   |         | 4,545  | 
|                                                              |                                        |   |                |        |         |   |         |        |                |   |         |        |  |   |        |        |  |   |         |       
|                                                              |                                        |   | 39,877         |        |         |   | 34,121  |        |                |   | 37,869  |        |  |   | 30,845 |        |  |   | 35,637  |       
|                                                              |                                        |   |                |        |         |   |         |        |                |   |         |        |  |   |        |        |  |   |         |       
|Operating loss                                                |                                        |   | (14,864        | )      |         |   | (7,527  | )      |                |   | (5,956  | )      |  |   | (7,735 | )      |  |   | (11,550 | )     
|                                                             
|                                                             
|                                                             
|                                                             
|Other income (expense), net                                   |                                        |   | (2,073         | )      |         |   | 1,497   |        |                |   | 1,886   |        |  |   | 1,198  |        |  |   | 894     |       
|                                                             
|                                                             
|                                                             
|                                                             
|Minority interest in loss (income) of
consolidated subsidiary |                                        |   |               |        |         |   | 62      |        |                |   | 105     |        |  |   | 105    |        |  |   | (21     | )     
|                                                              |                                        |   |                |        |         |   |         |        |                |   |         |        |  |   |        |        |  |   |         |       
|Loss before income taxes                                      |                                        |   | (16,937        | )      |         |   | (5,968  | )      |                |   | (3,965  | )      |  |   | (6,432 | )      |  |   | (10,677 | )     
|                                                             
|                                                             
|                                                             
|                                                             
|Benefit from income taxes                                     |                                        |   | (5,589         | )      |         |   | (1,972  | )      |                |   | (1,303  | )      |  |   | (2,122 | )      |  |   | (4,037  | )     
|                                                              |                                        |   |                |        |         |   |         |        |                |   |         |        |  |   |        |        |  |   |         |       
|Net loss                                                      |                                        | $ | (11,348        | )      |         | $ | (3,996  | )      |                | $ | (2,662  | )      |  | $ | (4,310 | )      |  | $ | (6,640  | )     
|                                                              |                                        |   |                |        |         |   |         |        |                |   |         |        |  |   |        |        |  |   |         |       

Liquidity and Capital Resources

At June 30, 2002, we had cash, cash equivalents, and liquid investments of
$141.0 million compared to $156.1 million at December 31, 2001. This decrease
was due primarily from our operating cash outflow, the acquisition of the
intellectual property and certain other assets of Zight Corporation, the
acquisition of the intellectual property of Inviso, Inc., and the purchase of
tooling, production, and test upgrades to our microdisplay equipment in Tempe.

In the quarter ended June 30, 2002, we had approximately $2.5 million in
net cash outflow from operations compared to $721,000 in net cash outflow from
operations in the quarter ended June 30, 2001. The net cash outflow was
primarily related to the loss reported for the quarter and was mitigated by the
$2.1 million reduction in inventory balances during the second quarter.

Depreciation and amortization expense was $1.7 million for the second
quarter of 2002 compared to $1.4 million for the second quarter of 2001.
Inventory turns were 7.3 in the second quarter of 2002 compared to 7.8 in the
second quarter of 2001. Accounts receivable DSOs (Day Sales Outstanding) were
64 days in the second quarter of 2002 compared to 65 days in the second quarter
of 2001.

In the first six months of 2002, we had $8.1 million in net cash outflow
from operations compared to $7.9 million in net cash outflow from operations
during the same period in 2001.

Our working capital was $146.7 million at June 30, 2002 compared with
$169.1 million at December 31, 2001. Our current ratio increased to 10.6-to-1
at June 30, 2002 from 8.8-to-1 at December 31, 2001. Our working capital
decreased as a result of our cash outflow. Our current ratio increased as a
result of the decrease in our current liabilities.

In February 2002, we renewed our credit facility with Comerica Bank. That
credit facility is a $15.0 million unsecured revolving line of credit that
matures in January 2003. No borrowings were outstanding under that credit
facility on June 30, 2002. Advances under the facility may be made as prime
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. In May 2002, our Beijing subsidiary
renewed its credit facility with the Bank of China. As of June 30, 2002, our
Beijing subsidiary had an outstanding $2.7 million term loan due April 30, 2003
to the Bank of China, which was secured by a $3.0 million standby letter of
credit issued by Comerica Bank.

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Purchases of intangibles and property, plant, and equipment during the
second quarter of 2002 were approximately $2.4 million. Of this amount, $1.5
million was associated with the acquisition of intangibles and intellectual
property relating to microdisplays, including $750,000 for the acquisition of
the intellectual property from Inviso, Inc.

The following tables list our contractual obligations and commercial
commitments:

|                                   |  |               |        |             |  |                        |       |           |  |                  |       |  |  |   |       |  |  |   |        | 
|---------------------------------- |  | ------------- | ------ | ----------- |  | ---------------------- | ----- | --------- |  | ---------------- | ----- |  |  | - | ----- |  |  | - | ------ | 
|                                   |  |               |        |             |  | Payments due by Period
|                                   |  |               |        |             |  |                       
|Contractual Obligations            |  | Total Amounts |        | Less        |  |                        |       |           |  |                  |       |  |  |   |       | 
|(in thousands)                     |  | Committed     |        | than 1 Year |  | 1-3 Years              |       | 4-5 Years |  | 6 Years and Over
|                                   |  |               |        |             |  |                        |       |           |  |                 
|Term Loan                          |  | $             | 2,706  |             |  | $                      | 2,706 |           |  | $                |      |  |  | $ |      |  |  | $ |       | 
|                                  
|                                  
|                                  
|                                  
|Operating Leases                   |  |               | 15,338 |             |  |                        | 1,015 |           |  |                  | 2,027 |  |  |   | 2,174 |  |  |   | 10,122 | 
|                                   |  |               |        |             |  |                        |       |           |  |                  |       |  |  |   |       |  |  |   |        | 
|Total Contractual Cash Obligations |  | $             | 18,044 |             |  | $                      | 3,721 |           |  | $                | 2,027 |  |  | $ | 2,174 |  |  | $ | 10,122 | 
|                                   |  |               |        |             |  |                        |       |           |  |                  |       |  |  |   |       |  |  |   |        | 

|                             |  |               |     |             |  |                                            |    |           |  |                  |     |  |  |   |     |  |  |  |   | 
|---------------------------- |  | ------------- | --- | ----------- |  | ------------------------------------------ | -- | --------- |  | ---------------- | --- |  |  | - | --- |  |  |  | - | 
|                             |  |               |     |             |  | Amount of Commitment Expiration Per Period
|                             |  |               |     |             |  |                                           
|Other Commercial Commitments |  | Total Amounts |     | Less        |  |                                            |    |           |  |                  |     |  |  |   |     | 
|(in thousands)               |  | Committed     |     | than 1 Year |  | 1-3 Years                                  |    | 4-5 Years |  | 6 Years and Over
|                             |  |               |     |             |  |                                            |    |           |  |                 
|Guarantee                    |  | $             | 472 |             |  | $                                          | 89 |           |  | $                | 197 |  |  | $ | 186 |  |  |  |  | 

The operating leases include a lease for our factory in Manila and our
ground lease in Tempe, Arizona. These leases are described in detail in Note 7
of the Notes to our Consolidated Financial Statements for 2001 included in our
Form 10-K. The guarantee relates to our guarantee in connection with a Small
Business Administration loan to VoiceViewer Technology, Inc., a private company
developing microdisplay products. The $3.0 million standby letter of credit
issued by Comerica has not been included in the Other Commercial Commitments
table because it only exists to secure the term loan obligation of $2.7
million, which is already included in the table for Contractual Obligations. We
have no other long-term debt, capital lease obligations, unconditional purchase
obligations, or other long-term obligations, and we do not have any other
commercial commitments. We have no off-balance sheet arrangements.

We believe that our existing balances of cash, cash equivalents, and
investments will provide adequate sources to fund our operations and planned
expenditures through 2002, as well as to meet our contractual obligations.
Specifically, we have $141.0 million in cash, cash equivalents, and short- and
long-term investments. Our capital expenditures for the remainder of 2002 are
expected to be less than $2.5 million, and we expect operating cash outflow to
be minimal relative to our cash reserves. We continue to seek other alliances
or acquisitions and additional relationships with regard to the strategic
development of various new technologies, especially LCoSmicrodisplays, that
may also require us to make additional capital investments. In such a case, we
may need to expand our loan commitments or pursue alternate methods of
financing or raise capital. 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 2001, the FASB issued SFAS No. 141, Business Combinations, and
SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 requires
companies to apply the purchase method of accounting for all business
combinations initiated after June 30, 2001 and prohibits the use of the
pooling-of-interest method. SFAS No. 142 changes the method by which companies
may recognize intangible assets in purchase business combinations and generally
requires identifiable intangible assets to be recognized separately from
goodwill. In addition, it eliminates the amortization of all existing and
newly acquired goodwill on a prospective basis and requires companies to assess
goodwill for impairment, at least annually, based on the fair value of the
reporting unit. We adopted SFAS Nos. 141 and 142 on January 1, 2002, and there
was no material impact on our financial position or results of operations.

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In August 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. SFAS No. 144 supersedes SFAS No.
121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to Be Disposed Of, and the accounting and reporting provisions of APB
Opinion No. 30, Reporting the Results of Operations  Reporting the Effects of
Disposal of a Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions. SFAS No. 144 modifies the
method in which companies account for certain asset impairment losses. We
adopted SFAS No. 144 on January 1, 2002 and there was no material impact on our
financial position or results of operations.




ITEM 3.   QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

There are no material changes in reported market risks since our most
recent filing on Form 10-K for the year ended December 31, 2001.




PART II. OTHER INFORMATION




ITEM 4.   SUBMISSIONS OF MATTERS TO A VOTE OF SECURITY HOLDERS

Our Annual Meeting of Stockholders was held on May 3, 2002. All of the
nominees were elected to our Board of Directors as set forth in the Proxy
Statement as follows:

|                    |  |                |            |               |  |  |         | 
|------------------- |  | -------------- | ---------- | ------------- |  |  | ------- | 
|Nominees            |  | Votes in Favor |            | Votes Against
|                    |  |                |            |              
|David C. Malmberg   |  |                | 16,928,256 |               |  |  | 243,226 | 
|                   
|                   
|                   
|                   
|Jack L. Saltich     |  |                | 16,913,073 |               |  |  | 258,409 | 
|                   
|                   
|                   
|                   
|Jeffrey D. Buchanan |  |                | 16,937,737 |               |  |  | 238,745 | 
|                   
|                   
|                   
|                   
|Thomas H. Werner    |  |                | 16,928,041 |               |  |  | 243,441 | 
|                   
|                   
|                   
|                   
|Kenneth M. Julien   |  |                | 16,880,677 |               |  |  | 290,805 | 
|                   
|                   
|                   
|                   
|David P. Chavoustie |  |                | 16,914,667 |               |  |  | 256,815 | 
|                   
|                   
|                   
|                   
|Murray A. Goldman   |  |                | 16,911,489 |               |  |  | 259,993 | 

The following items were also voted upon and approved by the stockholders:

(a)  To approve the Amendment to the 1998 Stock Option Plan.

|               |  |         |         |         |  |  |        | 
|-------------- |  | ------- | ------- | ------- |  |  | ------ | 
|Votes in Favor |  | Opposed |         | Abstain
|               |  |         |         |        
|16,292,583     |  |         | 787,938 |         |  |  | 90,916 | 

(b)  To ratify the appointment of Arthur Andersen LLP as our independent
auditors for the fiscal year ending December 31, 2002.

|               |  |         |           |         |  |  |         | 
|-------------- |  | ------- | --------- | ------- |  |  | ------- | 
|Votes in Favor |  | Opposed |           | Abstain
|               |  |         |           |        
|14,776,407     |  |         | 2,251,348 |         |  |  | 143,727 | 




ITEM 5.  OTHER INFORMATION

Our Insider Trading Policy permits our directors, officers, and other key
personnel to establish purchase and sale programs in accordance with Rule
10b5-1 adopted by the Securities and Exchange Commission. The rule permits
employees to adopt written plans at a time before becoming aware of material
nonpublic information and to sell shares according to a plan on a regular basis
(for example, weekly or monthly), regardless of any subsequent nonpublic
information they receive. In our view, Rule 10b5-1 plans are beneficial
because systematic, pre-planned sales that take place over an extended period
should have a less disruptive influence on the price of our stock. We also
believe plans of this type are beneficial because they inform the marketplace
about the nature of the trading activities of our directors and officers. In
the absence of such information, the market could mistakenly attribute
transactions as reflecting a lack of confidence in our company or an indication
of an impending event involving our company. We recognize that our directors
and officers may have reasons totally apart from the company in determining to
effect transactions in our common stock. These reasons could include the
purchase of a home, tax and estate planning, the payment of college tuition,
the establishment of a trust, the balancing of assets, or other personal
reasons. The establishment of any trading

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plan involving our company requires the pre-clearance by our Chief Executive
Officer or Chief Financial Officer. An individual adopting a trading plan must
comply with all requirements of Rule 10b5-1, including the requirement that the
individual not possess any material nonpublic information regarding our company
at the time of the establishment of the plan. In addition, sales under a
trading plan may be made no earlier than 30 days after the plan establishment
date.

Currently, no officers have adopted trading plans.

ITEM 6.   EXHIBITS AND REPORTS ON FORM 8-K

|    |  |          
|--- |  | ---------
|(a) |  | Exhibits:

|    |  |                                                                                                                                                                   
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    |  | Exhibit 99.1  Certification of President/CEO, pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.          
|   
|   
|   
|   
|    |  |                                                                                                                                                                   
|   
|   
|   
|   
|    |  | Exhibit 99.2  Certification of Chief Financial Officer,
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
|   
|   
|   
|   
|(b) |  | Reports on Form 8-K:                                                                                                                                              



| | (1) |  | Report on Form 8-K dated April 23, 2002, furnishing an
Item 9 FD disclosure.     
| | --- |  | ---------------------------------------------------------------------------------
|
| | (2) |  | Report on Form 8-K dated May 13, 2002, reporting change
in certifying accountant.




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.

|                      |  |                                                                                 
|--------------------- |  | --------------------------------------------------------------------------------
|                      |  | THREE-FIVE SYSTEMS, INC.
(Registrant)                                           
|                     
|                     
|                     
|                     
|                      |  |                                                                                 
|                     
|                     
|                     
|                     
|Dated: August 2, 2002 |  | By: /s/ Jeffrey D. Buchanan                                                     
|                      |  |                                                                                 
|                      |  | Name: Jeffrey D. Buchanan
Its: Executive Vice President; Chief Financial Officer

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