##### Table of Contents









SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549


Form 10-K


|           |  |                                                                                             
|---------- |  | --------------------------------------------------------------------------------------------
|(Mark One) |  |                                                                                             
|þ          |  | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
    SECURITIES EXCHANGE ACT OF 1934    
|           |  | For the fiscal year ended December 31, 2004                                                 
|          
|OR        
|          
|o          |  | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
    SECURITIES EXCHANGE ACT OF 1934

Commission file number: 0-9463


MDI, INC.


(Exact name of registrant as specified in its charter)


|                                                                                    |  |                                         
|----------------------------------------------------------------------------------- |  | ----------------------------------------
|Delaware                                                                            |  | 75-2626358                              
|(State or other jurisdiction
    Of incorporation or organization)                  |  | (I.R.S. Employer
    Identification No.)
|                                                                                   
|9725 Datapoint Drive
    San Antonio, Texas(Address of principal executive offices) |  | 78229(Zip Code)                         

Registrants telephone number, including area code:


(210) 582-2664


Securities registered pursuant to Section 12(b) of the
Act:


NONE


Securities registered pursuant to Section 12(g) of the
Act:


COMMON STOCK, $.01 PAR VALUE


þ o


o


o þ




DOCUMENTS INCORPORATED BY REFERENCE












---










MDI, INC.


Form 10-K


TABLE OF CONTENTS


|                                                            |  |                                                                                                                      |    |  |    |  |  | 
|----------------------------------------------------------- |  | -------------------------------------------------------------------------------------------------------------------- | -- |  | -- |  |  | 
|PART I                                                     
|ITEM 1:                                                     |  | BUSINESS                                                                                                             |    |  | 2  | 
|ITEM 2:                                                     |  | PROPERTIES                                                                                                           |    |  | 5  | 
|ITEM 3:                                                     |  | LEGAL PROCEEDINGS                                                                                                    |    |  | 5  | 
|ITEM 4:                                                     |  | SUBMISSION OF MATTERS TO A VOTE OF SECURITY
    HOLDERS                                                              |    |  | 6  | 
|PART II                                                    
|ITEM 5:                                                     |  | MARKET FOR REGISTRANTS COMMON EQUITY,
    RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY
    SECURITIES |    |  | 6  | 
|ITEM 6:                                                     |  | SELECTED FINANCIAL DATA                                                                                              |    |  | 7  | 
|ITEM 7:                                                     |  | MANAGEMENTS DISCUSSION AND ANALYSIS
    OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS                            |    |  | 8  | 
|ITEM 7A:                                                    |  | QUANTITATIVE AND QUALITATIVE DISCLOSURES
    ABOUT MARKET RISK                                                       |    |  | 14 | 
|ITEM 8:                                                     |  | FINANCIAL STATEMENTS AND SUPPLEMENTAL
    DATA                                                                       |    |  | 15 | 
|ITEM 9:                                                     |  | CHANGES IN AND DISAGREEMENTS WITH
    ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE                             |    |  | 39 | 
|ITEM 9A:                                                    |  | CONTROLS AND PROCEDURES                                                                                              |    |  | 39 | 
|PART III                                                   
|ITEM 10:                                                    |  | DIRECTORS AND EXECUTIVE OFFICERS OF THE
    REGISTRANT                                                               |    |  | 39 | 
|ITEM 11:                                                    |  | EXECUTIVE COMPENSATION                                                                                               |    |  | 39 | 
|ITEM 12:                                                    |  | SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
    OWNERS AND MANAGEMENT                                                   |    |  | 39 | 
|ITEM 13:                                                    |  | CERTAIN RELATIONSHIPS AND RELATED
    TRANSACTIONS                                                                   |    |  | 39 | 
|ITEM 14:                                                    |  | PRINCIPAL ACCOUNTANT FEES AND SERVICES                                                                               |    |  | 39 | 
|PART IV                                                    
|ITEM 15:                                                    |  | EXHIBITS AND FINANCIAL STATEMENT
    SCHEDULES                                                                       |    |  | 40 | 
|SIGNATURES                                                  |  |                                                                                                                      | 41 | 
|Amendment to Certificate of Incorporation                  
|Amendment of the By-Laws                                   
|Agreement                                                  
|Certification of CEO Required by Rule 13a-14(a)            
|Certification of CFO Required by Rule 13a-14(a)            
|Joint Certification of CEO & CFO Required by Rule 13a-14(b)



Forward Looking Statements




1



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PART I







|        |         
|------- | --------
|ITEM 1. | BUSINESS

General








www.mdisecure.com




NASDAQ listing




2



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Businesses








Markets and Strategy




9 11




Products and Services




3



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Product Design and Development




Supplier Relationships




Competition






Employees






4



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Mace Asset Sale




MDI Switzerland Management Buyout




Honeywell Asset Sale











|        |           
|------- | ----------
|ITEM 2. | PROPERTIES










|        |                  
|------- | -----------------
|ITEM 3. | LEGAL PROCEEDINGS





5



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|        |                                                    
|------- | ---------------------------------------------------
|ITEM 4. | SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS






PART II







|        |                                                                                                                     
|------- | --------------------------------------------------------------------------------------------------------------------
|ITEM 5. | MARKET FOR REGISTRANTS COMMON EQUITY, RELATED
    STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY
    SECURITIES







|               |  |      |      |  |      |   |      |      |  |   |      |  |  |   |      | 
|-------------- |  | ---- | ---- |  | ---- | - | ---- | ---- |  | - | ---- |  |  | - | ---- | 
|               |  | 2004 |      |  | 2003 |  
|               |  |      |      |  |      |  
|               |  | High |      |  | Low  |   |      | High |  |   | Low  | 
|               |  |      |      |  |      |   |      |      |  |   |      | 
|Fourth Quarter |  | $    | 1.01 |  |      | $ | 0.76 |      |  | $ | 1.80 |  |  | $ | 1.23 | 
|Third Quarter  |  |      | 1.58 |  |      |   | 0.94 |      |  |   | 1.67 |  |  |   | 1.15 | 
|Second Quarter |  |      | 3.76 |  |      |   | 1.43 |      |  |   | 1.21 |  |  |   | 0.75 | 
|First Quarter  |  |      | 1.75 |  |      |   | 1.11 |      |  |   | 1.39 |  |  |   | 0.76 | 







6



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|        |                        
|------- | -----------------------
|ITEM 6. | SELECTED FINANCIAL DATA



|                                                                                       |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |         |        |   |   |         |         |  
|-------------------------------------------------------------------------------------- | ----------------------------------------- | ------------------------------------- | ------ | ------ | ------- | - | ------- | ------- | - | - | ------- | ------- | - | ------- | ------- | ------ | - | - | ------- | ------- | -
|                                                                                       |                                           | Years Ended December 31               |       
|                                                                                       |                                           |                                       |       
|                                                                                       |                                           | 2004(2)                               |        |        | 2003(2) |   |         | 2002(2) |   |   | 2001(2) |         |   | 2000(2) |        
|                                                                                       |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |        
|                                                                                       |                                           | (In thousands, except per share data) |       
|Income statement data:                                                                 |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |         |        |   |   |         |        
|Net sales                                                                              |                                           | $                                     | 14,245 |        |         | $ | 16,248  |         |   | $ | 19,558  |         |   | $       | 18,001  |        |   | $ | 18,001  |        
|Cost of sales                                                                          |                                           |                                       | 7,953  |        |         |   | 9,728   |         |   |   | 13,410  |         |   |         | 12,883  |        |   |   | 11,849  |        
|                                                                                       |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |        
|Gross profit                                                                           |                                           |                                       | 6,292  |        |         |   | 6,520   |         |   |   | 6,148   |         |   |         | 5,118   |        |   |   | 6,152   |        
|Selling, general and administrative expenses                                           |                                           |                                       | 13,869 |        |         |   | 14,507  |         |   |   | 15,619  |         |   |         | 9,316   |        |   |   | 12,905  |        
|Asset and goodwill impairment                                                          |                                           |                                       |       |        |         |   | 650     |         |   |   | 3,338   |         |   |         | 4,466   |        |   |   | 4,228   |        
|Depreciation and amortization(1)                                                       |                                           |                                       | 990    |        |         |   | 1,821   |         |   |   | 1,854   |         |   |         | 4,374   |        |   |   | 4,945   |        
|                                                                                       |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |        
|Total operating expenses                                                               |                                           |                                       | 14,859 |        |         |   | 16,978  |         |   |   | 20,811  |         |   |         | 18,156  |        |   |   | 22,078  |        
|                                                                                       |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |        
|Operating loss                                                                         |                                           |                                       | (8,567 | )      |         |   | (10,458 | )       |   |   | (14,663 | )       |   |         | (13,038 | )      |   |   | (15,926 | )      
|Other income (expense)                                                                 |                                           |                                       | (87    | )      |         |   | (148    | )       |   |   | (2,248  | )       |   |         | 5,422   |        |   |   | (4,152  | )      
|                                                                                       |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |        
|Income (loss) from continuing operations before income taxes and
    accounting change |                                           |                                       | (8,654 | )      |         |   | (10,606 | )       |   |   | (16,911 | )       |   |         | (7,616  | )      |   |   | (20,078 | )      
|Income taxes                                                                           |                                           |                                       |       |        |         |   |        |         |   |   |        |         |   |         | (104    | )      |   |   | 3,185   |        
|                                                                                       |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |        
|Income (loss) from continuing operations                                               |                                           |                                       | (8,654 | )      |         |   | (10,606 | )       |   |   | (16,911 | )       |   |         | (7,720  | )      |   |   | (16,893 | )      
|Income (loss) from discontinued operations                                             |                                           |                                       | (361   | )      |         |   | (783    | )       |   |   | (301    | )       |   |         | 6,259   |        |   |   | (40,794 | )      
|Gain (loss) on disposal of discontinued operations                                     |                                           |                                       | 1,204  |        |         |   |        |         |   |   | (12,106 | )       |   |         |        |        |   |   |        |        
|                                                                                       |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |        
|Net loss before accounting change                                                      |                                           |                                       | (7,811 | )      |         |   | (11,389 | )       |   |   | (29,318 | )       |   |         | (1,461  | )      |   |   | (57,687 | )      
|Cumulative effect of accounting change:                                                |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |         |        |   |   |         |        
|Continuing operations(1)                                                               |                                           |                                       |       |        |         |   |        |         |   |   | (14,762 | )       |   |         |        |        |   |   |        |        
|Discontinued operations(1)                                                             |                                           |                                       |       |        |         |   |        |         |   |   | (11,353 | )       |   |         |        |        |   |   |        |        
|                                                                                       |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |        
|Net loss                                                                               |                                           |                                       | (7,811 | )      |         |   | (11,389 | )       |   |   | (55,433 | )       |   |         | (1,461  | )      |   |   | (57,687 | )      
|Dividend requirements on preferred stock                                               |                                           |                                       | (34    | )      |         |   | (115    | )       |   |   | (117    | )       |   |         | (117    | )      |   |   | (117    | )      
|                                                                                       |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |        
|                                                                                       | Net loss allocable to common stockholders |                                       | $      | (7,845 | )       |   | $       | (11,504 | ) |   | $       | (55,550 | ) |         | $       | (1,578 | ) |   | $       | (57,804 | )
|                                                                                       |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |        
|Basic and Diluted loss per share:                                                      |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |         |        |   |   |         |        
|                                                                                       | Continuing operations                     |                                       | $      | (0.60  | )       |   | $       | (0.76   | ) |   | $       | (2.26   | ) |         | $       | (0.64  | ) |   | $       | (1.46   | )
|                                                                                       |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |        
|Net loss per share                                                                     |                                           | $                                     | (0.54  | )      |         | $ | (0.81   | )       |   | $ | (3.95   | )       |   | $       | (0.13   | )      |   | $ | (4.95   | )      
|                                                                                       |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |        
|Number of common shares used in computations:                                          |                                           |                                       | 14,486 |        |         |   | 14,121  |         |   |   | 14,047  |         |   |         | 12,183  |        |   |   | 11,686  |        
|Balance sheet data:                                                                    |                                           |                                       |        |        |         |   |         |         |   |   |         |         |   |         |         |        |   |   |         |        
|Working capital                                                                        |                                           | $                                     | 4,157  |        |         | $ | 9,286   |         |   | $ | 17,716  |         |   | $       | 27,813  |        |   | $ | 23,649  |        
|Total assets                                                                           |                                           |                                       | 12,205 |        |         |   | 25,836  |         |   |   | 50,616  |         |   |         | 122,317 |        |   |   | 143,497 |        
|Debt                                                                                   |                                           |                                       |       |        |         |   |        |         |   |   | 6,600   |         |   |         | 21,612  |        |   |   | 35,419  |        
|Stockholders equity                                                                   |                                           |                                       | 8,900  |        |         |   | 16,300  |         |   |   | 27,434  |         |   |         | 78,773  |        |   |   | 77,248  |        






|    |                                                                                                                                                                                                          
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | On January 1, 2002, the Company adopted Statement of
    Financial Accounting Standards No. 142, Goodwill and
    Intangible Assets. No amortization for goodwill was recorded
    in 2002, 2003 or 2004.

7



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##### Table of Contents





|    |                                                                                                                                                                                                                                                                                                                
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(2) | There were significant restructuring activities in each year
    presented. The following table summarizes the charges included
    in losses from continuing operations resulting from these
    activities (see Note 3 to the consolidated financial
    statements: Restructuring Activity), (in thousands):

|                                 |  |      |       |  |      |   |    |      |  |   |       |  |  |      |     |   |  |   |       | 
|-------------------------------- |  | ---- | ----- |  | ---- | - | -- | ---- |  | - | ----- |  |  | ---- | --- | - |  | - | ----- | 
|                                 |  | 2004 |       |  | 2003 |   |    | 2002 |  |   | 2001  |  |  | 2000 |    
|                                 |  |      |       |  |      |   |    |      |  |   |       |  |  |      |    
|Cost of sales                    |  | $    |      |  |      | $ |   |      |  | $ |      |  |  | $    |    |   |  | $ | 1,314 | 
|General and Administrative       |  |      | 1,243 |  |      |   | 96 |      |  |   | 4,293 |  |  |      | (47 | ) |  |   | 2,994 | 
|Asset impairment charges         |  |      |      |  |      |   |   |      |  |   | 2,973 |  |  |      |    |   |  |   | 4,228 | 
|Loss on disposal of fixed assets |  |      | 502   |  |      |   |   |      |  |   |      |  |  |      |    |   |  |   |      | 
|Loss on sale of investments      |  |      |      |  |      |   |   |      |  |   |      |  |  |      |    |   |  |   | 637   | 
|Other expenses                   |  |      |      |  |      |   |   |      |  |   |      |  |  |      |    |   |  |   | 600   | 
|                                 |  |      |       |  |      |   |    |      |  |   |       |  |  |      |    
|                                 |  | $    | 1,745 |  |      | $ | 96 |      |  | $ | 7,266 |  |  | $    | (47 | ) |  | $ | 9,773 | 
|                                 |  |      |       |  |      |   |    |      |  |   |       |  |  |      |    






|        |                                                                                          
|------- | -----------------------------------------------------------------------------------------
|ITEM 7. | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
    CONDITION AND RESULTS OF OPERATIONS

Overview










Application of Critical Accounting Policies and Estimates








| |                    
| | -------------------
| | Inventory Valuation



8



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| |                                
| | -------------------------------
| | Allowance for Doubtful Accounts





| |                  
| | -----------------
| | Warranty Reserves





| |         
| | --------
| | Goodwill





| |                  
| | -----------------
| | Long-lived Assets





| |                      
| | ---------------------
| | Deferred Income Taxes



9



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| |                                    
| | -----------------------------------
| | Fair Value of Financial Instruments







| |                  
| | -----------------
| | Reclassifications



Results of Operations






|                                                                                          |  |                          |       |                     |                 |  |          |      |  |  |        |    |  |      |        |    |  |  |        |   
|----------------------------------------------------------------------------------------- |  | ------------------------ | ----- | ------------------- | --------------- |  | -------- | ---- |  |  | ------ | -- |  | ---- | ------ | -- |  |  | ------ | --
|                                                                                          |  | Percentage of Net Sales  |       |                     |                
|                                                                                          |  |                          |       |                     | Percentage      | 
|                                                                                          |  |                          |       | Increase (Decrease) |                
|                                                                                          |  | Years Ended December 31, |       |                     | Between Periods | 
|                                                                                          |  |                          |       |                     |                 | 
|                                                                                          |  |                          |       | 2004 vs.            |                 |  | 2003 vs. |     
|                                                                                          |  | 2004                     |       |                     | 2003            |  |          | 2002 |  |  | 2003   |    |  | 2002 |       
|                                                                                          |  |                          |       |                     |                 |  |          |      |  |  |        |    |  |      |       
|Net Sales                                                                                 |  |                          | 100.0 | %                   |                 |  | 100.0    | %    |  |  | 100.0  | %  |  |      | (12.3  | )% |  |  | (16.9  | )%
|Cost of sales                                                                             |  |                          | 55.8  | %                   |                 |  | 59.9     | %    |  |  | 68.6   | %  |  |      | (18.3  | )% |  |  | (27.5  | )%
|Gross profit                                                                              |  |                          | 44.2  | %                   |                 |  | 40.1     | %    |  |  | 31.4   | %  |  |      | (3.5   | )% |  |  | 6.1    | % 
|Operating expenses:                                                                       |  |                          |       |                     |                 |  |          |      |  |  |        |    |  |      |        |    |  |  |        |   
|Selling, general and administrative                                                       |  |                          | 97.4  | %                   |                 |  | 89.3     | %    |  |  | 79.9   | %  |  |      | (4.4   | )% |  |  | (7.1   | )%
|Asset and goodwill impairment                                                             |  |                          | 0.0   | %                   |                 |  | 4.0      | %    |  |  | 17.1   | %  |  |      | (100.0 | )% |  |  | (80.5  | )%
|Depreciation and amortization                                                             |  |                          | 7.0   | %                   |                 |  | 11.2     | %    |  |  | 9.5    | %  |  |      | (45.6  | )% |  |  | (1.8   | )%
|Operating loss                                                                            |  |                          | (60.1 | )%                  |                 |  | (64.4    | )%   |  |  | (75.0  | )% |  |      | (18.1  | )% |  |  | (28.74 | )%
|Other income (expense)                                                                    |  |                          | (0.6  | )%                  |                 |  | (0.9     | )%   |  |  | (11.5  | )% |  |      | (41.5  | )% |  |  | (93.4  | )%
|Loss before taxes, discontinued operations and cumulative effect
    of accounting change |  |                          | (60.8 | )%                  |                 |  | (65.3    | )%   |  |  | (86.5  | )% |  |      | (18.4  | )% |  |  | (37.3  | )%
|Income taxes                                                                              |  |                          | 0.0   | %                   |                 |  | 0.0      | %    |  |  | 0.0    | %  |  |      | 0.0    | %  |  |  | 0.0    | % 
|Loss from continuing operations                                                           |  |                          | (60.8 | )%                  |                 |  | (65.3    | )%   |  |  | (86.5  | )% |  |      | (18.4  | )% |  |  | (37.3  | )%
|Income (Loss) from discontinued operations                                                |  |                          | 5.9   | %                   |                 |  | (4.8     | )%   |  |  | (63.4  | )% |  |      | 207.7  | %  |  |  | (93.7  | )%
|Cumulative effect of accounting change                                                    |  |                          | 0.0   | %                   |                 |  | 0.0      | %    |  |  | (133.5 | )% |  |      | 0.0    | %  |  |  | (100.0 | )%
|Net loss                                                                                  |  |                          | (54.8 | )%                  |                 |  | (70.1    | )%   |  |  | (283.4 | )% |  |      | (31.4  | )% |  |  | (79.5  | )%



| |                                                                          
| | -------------------------------------------------------------------------
| | Year Ended December 31, 2004 Compared to Year Ended
    December 31, 2003



10



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| |                                                                          
| | -------------------------------------------------------------------------
| | Year Ended December 31, 2003 Compared to Year Ended
    December 31, 2002







tm




11



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Financial condition, liquidity and capital resources








Contractual obligations and commitments




|                                         |  |       |       |  |      |   |     |      |  |   |      |  |  |      |     |  |      |   |     |  |  |   |     | 
|---------------------------------------- |  | ----- | ----- |  | ---- | - | --- | ---- |  | - | ---- |  |  | ---- | --- |  | ---- | - | --- |  |  | - | --- | 
|                                         |  | Total |       |  | 2005 |   |     | 2006 |  |   | 2007 |  |  | 2008 |     |  | 2009 |  
|                                         |  |       |       |  |      |   |     |      |  |   |      |  |  |      |     |  |      |  
|Contractual obligations and commitments: |  |       |       |  |      |   |     |      |  |   |      |  |  |      |     |  |      |   |     |  |  |   |     | 
|Operating leases                         |  | $     | 2,704 |  |      | $ | 592 |      |  | $ | 519  |  |  | $    | 536 |  |      | $ | 544 |  |  | $ | 513 | 
|Royalty obligations                      |  |       | 82    |  |      |   | 82  |      |  |   |     |  |  |      |    |  |      |   |    |  |  |   |    | 
|Severance obligations                    |  |       | 97    |  |      |   | 97  |      |  |   |     |  |  |      |    |  |      |   |    |  |  |   |    | 
|                                         |  |       |       |  |      |   |     |      |  |   |      |  |  |      |     |  |      |  
|                                         |  | $     | 2,883 |  |      | $ | 771 |      |  | $ | 519  |  |  | $    | 536 |  |      | $ | 544 |  |  | $ | 513 | 
|                                         |  |       |       |  |      |   |     |      |  |   |      |  |  |      |     |  |      |  



12



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Factors Affecting the Companys Future Results or the
Price of the Companys Stock.






| |                                                
| | -----------------------------------------------
| | The Company may not be profitable in the future





| |                                                                                                        
| | -------------------------------------------------------------------------------------------------------
| | Should the Company need additional capital, the Company
    may have difficulty in raising the capital.





| |                                                                               
| | ------------------------------------------------------------------------------
| | The Companys technologies may not be commercially
    accepted in the future.







| |   |                                                                       
| | - | ----------------------------------------------------------------------
| |  | rapid and sometimes disruptive technological developments;            
|
| |  | evolving industry standards;                                          
|
| |  | changes in customer requirements;                                     
|
| |  | limited ability to accurately forecast future customer
    orders; and
|
| |  | frequent new product introductions and enhancements.                  



| |                                                                                 
| | --------------------------------------------------------------------------------
| | The Company may not be able to attract, hire and retain
    qualified personnel.





| |                                                                                                                             
| | ----------------------------------------------------------------------------------------------------------------------------
| | The Common Stock may be de-listed from NASDAQ if the stock
    price does not meet NASDAQs continued listing
    standards.



13



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| |                                                                    
| | -------------------------------------------------------------------
| | Some of the Companys products are not as profitable
    as others.





| |                                                                                           
| | ------------------------------------------------------------------------------------------
| | Third parties may claim that the Company infringes their
    intellectual property rights.





| |   |                                                                                                                            
| | - | ---------------------------------------------------------------------------------------------------------------------------
| |  | be time consuming to defend;                                                                                               
|
| |  | result in costly litigation;                                                                                               
|
| |  | divert managements time and attention;                                                                                    
|
| |  | require the Company to enter into royalty and licensing
    agreements that the Company would not normally find acceptable;
|
| |  | require the Company to stop selling or to redesign
    products; and                                                       
|
| |  | require the Company to pay damages.                                                                                        






|         |                                                               
|-------- | --------------------------------------------------------------
|ITEM 7A. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
    RISK



Foreign Exchange




Interest Rates






14



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##### Table of Contents








|        |                                            
|------- | -------------------------------------------
|ITEM 8. | FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA




Report of Independent Registered Public Accounting Firm














| |                   
| | ------------------
| | Grant Thornton LLP





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MDI, INC. AND SUBSIDIARIES


(Formerly American Building Control, Inc.)





CONSOLIDATED BALANCE SHEETS


|                                     |                                                                                                                                                                                          |                             |                                            |          |        |        |       |          |        |        | 
|------------------------------------ | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | --------------------------- | ------------------------------------------ | -------- | ------ | ------ | ----- | -------- | ------ | ------ | 
|                                     |                                                                                                                                                                                          | December 31,                |                                           
|                                     |                                                                                                                                                                                          |                             |                                           
|                                     |                                                                                                                                                                                          | 2004                        |                                            |          | 2003   |       
|                                     |                                                                                                                                                                                          |                             |                                            |          |        |       
|                                     |                                                                                                                                                                                          | (In thousands, except share |                                           
|                                     |                                                                                                                                                                                          | and per share data)         |                                           
|ASSETS                              
|Current Assets:                      |                                                                                                                                                                                          |                             |                                            |          |        |        |       |         
|                                     | Cash and cash equivalents                                                                                                                                                                |                             | $                                          | 3,368    |        |        | $     | 6,307    |       
|                                     | Marketable securities                                                                                                                                                                    |                             |                                            |         |        |        |       | 1,499    |       
|                                     | Trade accounts receivable, net                                                                                                                                                           |                             |                                            | 3,249    |        |        |       | 1,877    |       
|                                     | Inventories                                                                                                                                                                              |                             |                                            | 742      |        |        |       | 1,686    |       
|                                     | Receivable from Honeywell International, Inc.                                                                                                                                            |                             |                                            |         |        |        |       | 1,800    |       
|                                     | Prepaid expenses and other current assets                                                                                                                                                |                             |                                            | 103      |        |        |       | 668      |       
|                                     | Assets of discontinued operations                                                                                                                                                        |                             |                                            |         |        |        |       | 5,795    |       
|                                     |                                                                                                                                                                                          |                             |                                            |          |        |       
|                                     |                                                                                                                                                                                          | Total current assets        |                                            | $        | 7,462  |        |       | $        | 19,632 |       
|Property and Equipment, net          |                                                                                                                                                                                          | $                           | 1,336                                      |          |        | $      | 2,643 |         
|Other Assets:                        |                                                                                                                                                                                          |                             |                                            |          |        |        |       |         
|                                     | Goodwill                                                                                                                                                                                 |                             |                                            | 2,792    |        |        |       | 2,792    |       
|                                     | Other intangible assets                                                                                                                                                                  |                             |                                            | 42       |        |        |       | 49       |       
|                                     | Other assets                                                                                                                                                                             |                             |                                            | 573      |        |        |       | 720      |       
|                                     |                                                                                                                                                                                          |                             |                                            |          |        |       
|                                     |                                                                                                                                                                                          | Total assets                |                                            | $        | 12,205 |        |       | $        | 25,836 |       
|                                     |                                                                                                                                                                                          |                             |                                            |          |        |       
|                                    
|LIABILITIES AND STOCKHOLDERS EQUITY
|Current Liabilities:                 |                                                                                                                                                                                          |                             |                                            |          |        |        |       |         
|                                     | Trade accounts payable                                                                                                                                                                   |                             | $                                          | 1,019    |        |        | $     | 1,296    |       
|                                     | Accrued expenses                                                                                                                                                                         |                             |                                            | 521      |        |        |       | 1,394    |       
|                                     | Deferred legal settlement                                                                                                                                                                |                             |                                            | 388      |        |        |       |         |       
|                                     | Accrued compensation                                                                                                                                                                     |                             |                                            | 971      |        |        |       | 1,396    |       
|                                     | Accrued royalties                                                                                                                                                                        |                             |                                            | 82       |        |        |       | 255      |       
|                                     | Other current liabilities                                                                                                                                                                |                             |                                            | 106      |        |        |       | 641      |       
|                                     | Deferred revenue                                                                                                                                                                         |                             |                                            | 218      |        |        |       | 494      |       
|                                     | Liabilities of discontinued operations                                                                                                                                                   |                             |                                            |         |        |        |       | 3,938    |       
|                                     |                                                                                                                                                                                          |                             |                                            |          |        |       
|                                     |                                                                                                                                                                                          | Total current liabilities   |                                            | $        | 3,305  |        |       | $        | 9,414  |       
|Long-Term Liabilities                |                                                                                                                                                                                          |                             |                                            |          |        |        |       |         
|                                     | Accrued royalties                                                                                                                                                                        |                             | $                                          |         |        |        | $     | 93       |       
|                                     | Severance obligations                                                                                                                                                                    |                             |                                            |         |        |        |       | 29       |       
|                                     |                                                                                                                                                                                          |                             |                                            |          |        |       
|                                     |                                                                                                                                                                                          | Total long-term liabilities |                                            | $        |       |        |       | $        | 122    |       
|Stockholders Equity:                |                                                                                                                                                                                          |                             |                                            |          |        |        |       |         
|                                     | Preferred stock, $5 par value, issuable in series;
    2,000,000 shares authorized; Series A, LIBOR+2%
    cumulative convertible; 195,351 shares authorized, issued
    and outstanding |                             | $                                          | 977      |        |        | $     | 977      |       
|                                     | Common stock, $.01 par value; 50,000,000 shares
    authorized; 18,105,953 and 17,644,953 shares issued at
    December 31, 2004 and December 31, 2003, respectively                     |                             |                                            | 181      |        |        |       | 176      |       
|                                     | Additional paid-in-capital                                                                                                                                                               |                             |                                            | 163,146  |        |        |       | 162,618  |       
|                                     | Accumulated deficit                                                                                                                                                                      |                             |                                            | (116,703 | )      |        |       | (108,858 | )     
|                                     | Accumulated other comprehensive income                                                                                                                                                   |                             |                                            |         |        |        |       | 88       |       
|                                     | Treasury stock, at cost (3,488,350 common shares at
    December 31, 2004 and 2003)                                                                                                      |                             |                                            | (38,701  | )      |        |       | (38,701  | )     
|                                     |                                                                                                                                                                                          |                             |                                            |          |        |       
|                                     |                                                                                                                                                                                          |                             | Total stockholders equity                 |          |        | 8,900  |       |          |        | 16,300 | 
|                                     |                                                                                                                                                                                          |                             |                                            |          |        |       
|                                     |                                                                                                                                                                                          |                             | Total liabilities and stockholders equity |          | $      | 12,205 |       |          | $      | 25,836 | 
|                                     |                                                                                                                                                                                          |                             |                                            |          |        |       



16



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MDI, INC. AND SUBSIDIARIES


(Formerly American Building Control, Inc.)





CONSOLIDATED STATEMENTS OF OPERATIONS


|                                                                                                 |                                                                      |                                                                      |        |        |            |   |         |        |            |   |         |         |            |  
|------------------------------------------------------------------------------------------------ | -------------------------------------------------------------------- | -------------------------------------------------------------------- | ------ | ------ | ---------- | - | ------- | ------ | ---------- | - | ------- | ------- | ---------- | -
|                                                                                                 |                                                                      | Twelve Months Ended December 31,                                     |       
|                                                                                                 |                                                                      |                                                                      |       
|                                                                                                 |                                                                      | 2004                                                                 |        |        | 2003       |   |         | 2002   |           
|                                                                                                 |                                                                      |                                                                      |        |        |            |   |         |        |           
|                                                                                                 |                                                                      | (In thousands, except share and per share data)                      |       
|Net sales                                                                                        |                                                                      | $                                                                    | 14,245 |        |            | $ | 16,248  |        |            | $ | 19,558  |        
|Cost of sales (exclusive of depreciation shown separately below)                                 |                                                                      |                                                                      | 7,953  |        |            |   | 9,728   |        |            |   | 13,410  |        
|                                                                                                 |                                                                      |                                                                      |        |        |            |   |         |        |           
|                                                                                                 |                                                                      | Gross profit                                                         |        |        | 6,292      |   |         |        | 6,520      |   |         |         | 6,148      |  
|Other operating costs:                                                                           |                                                                      |                                                                      |        |        |            |   |         |        |            |   |         |        
|                                                                                                 | Selling, general and administrative                                  |                                                                      |        | 13,869 |            |   |         | 14,507 |            |   |         | 15,619  |           
|                                                                                                 | Asset and goodwill impairment                                        |                                                                      |        |       |            |   |         | 650    |            |   |         | 3,338   |           
|                                                                                                 | Depreciation and amortization                                        |                                                                      |        | 990    |            |   |         | 1,821  |            |   |         | 1,854   |           
|                                                                                                 |                                                                      |                                                                      |        |        |            |   |         |        |           
|                                                                                                 |                                                                      |                                                                      | 14,859 |        |            |   | 16,978  |        |            |   | 20,811  |        
|                                                                                                 |                                                                      |                                                                      |        |        |            |   |         |        |           
|                                                                                                 |                                                                      | Operating loss                                                       |        | $      | (8,567     | ) |         | $      | (10,458    | ) |         | $       | (14,663    | )
|Other income (expense):                                                                          |                                                                      |                                                                      |        |        |            |   |         |        |            |   |         |        
|                                                                                                 | Interest expense                                                     |                                                                      |        | (1     | )          |   |         | (544   | )          |   |         | (2,854  | )         
|                                                                                                 | Interest income                                                      |                                                                      |        | 54     |            |   |         | 292    |            |   |         | 80      |           
|                                                                                                 | Loss on sale of fixed assets                                         |                                                                      |        | (502   | )          |   |         | (79    | )          |   |         |        |           
|                                                                                                 | Foreign exchange losses                                              |                                                                      |        |       |            |   |         | (40    | )          |   |         |        |           
|                                                                                                 | Other, net                                                           |                                                                      |        | 362    |            |   |         | 223    |            |   |         | 526     |           
|                                                                                                 |                                                                      |                                                                      |        |        |            |   |         |        |           
|                                                                                                 |                                                                      |                                                                      | (87    | )      |            |   | (148    | )      |            |   | (2,248  | )      
|                                                                                                 |                                                                      |                                                                      |        |        |            |   |         |        |           
|Loss before income taxes, discontinued operations and cumulative
    effect of accounting change |                                                                      | $                                                                    | (8,654 | )      |            | $ | (10,606 | )      |            | $ | (16,911 | )      
|Income taxes                                                                                     |                                                                      | $                                                                    |       |        |            | $ |        |        |            | $ |        |        
|                                                                                                 |                                                                      |                                                                      |        |        |            |   |         |        |           
|                                                                                                 |                                                                      | Loss from continuing operations                                      |        | $      | (8,654     | ) |         | $      | (10,606    | ) |         | $       | (16,911    | )
|                                                                                                 |                                                                      | Loss from discontinued operations                                    |        |        | (361       | ) |         |        | (783       | ) |         |         | (301       | )
|                                                                                                 |                                                                      | Gain (loss) on disposal of discontinued operations                   |        |        | 1,204      |   |         |        |           |   |         |         | (12,106    | )
|                                                                                                 |                                                                      |                                                                      |        |        |            |   |         |        |           
|                                                                                                 |                                                                      | Loss before cumulative effect of accounting change                   |        | $      | (7,811     | ) |         | $      | (11,389    | ) |         | $       | (29,318    | )
|Cumulative effect of accounting change:                                                          |                                                                      |                                                                      |        |        |            |   |         |        |            |   |         |        
|                                                                                                 | Cumulative effect of accounting change  continuing
    operations   |                                                                      |        |       |            |   |         |       |            |   |         | (14,762 | )         
|                                                                                                 | Cumulative effect of accounting change  discontinued
    operations |                                                                      |        |       |            |   |         |       |            |   |         | (11,353 | )         
|                                                                                                 |                                                                      |                                                                      |        |        |            |   |         |        |           
|                                                                                                 |                                                                      | Net loss                                                             |        | $      | (7,811     | ) |         | $      | (11,389    | ) |         | $       | (55,433    | )
|Dividend requirements on preferred stock                                                         |                                                                      |                                                                      | (34    | )      |            |   | (115    | )      |            |   | (117    | )      
|                                                                                                 |                                                                      |                                                                      |        |        |            |   |         |        |           
|                                                                                                 |                                                                      | Net loss allocable to common stockholders                            |        | $      | (7,845     | ) |         | $      | (11,504    | ) |         | $       | (55,550    | )
|                                                                                                 |                                                                      |                                                                      |        |        |            |   |         |        |           
|Basic and diluted earnings (loss) per share from:                                                |                                                                      |                                                                      |        |        |            |   |         |        |            |   |         |        
|                                                                                                 |                                                                      | Continuing operations                                                |        | $      | (0.60      | ) |         | $      | (0.76      | ) |         | $       | (1.21      | )
|                                                                                                 |                                                                      | Discontinued operations                                              |        |        | 0.06       |   |         |        | (0.05      | ) |         |         | (0.88      | )
|                                                                                                 |                                                                      | Cumulative effect of accounting change  continuing
    operations   |        |        |           |   |         |        |           |   |         |         | (1.05      | )
|                                                                                                 |                                                                      | Cumulative effect of accounting change  discontinued
    operations |        |        |           |   |         |        |           |   |         |         | (0.81      | )
|                                                                                                 |                                                                      |                                                                      |        |        |            |   |         |        |           
|                                                                                                 |                                                                      | Basic and diluted loss per share                                     |        | $      | (0.54      | ) |         | $      | (0.81      | ) |         | $       | (3.95      | )
|                                                                                                 |                                                                      |                                                                      |        |        |            |   |         |        |           
|                                                                                                 |                                                                      | Number of common shares used in computations:                        |        |        | 14,486,103 |   |         |        | 14,121,463 |   |         |         | 14,046,588 |  



17



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MDI, INC. AND SUBSIDIARIES


(Formerly American Building Control, Inc.)





CONSOLIDATED STATEMENT OF STOCKHOLDERS EQUITY


|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       |  |           |  |  |   |         |   |  |   |         |       |  
|-------------------------------------- | -------------------------------------------------------- | --------------------------------- | ------- |  | ------------ | - | --- | ---------- |  | ----- | ----------- |  | ------------- | ----------- | --- | -------------- | ------- | - | ------- | ------ |  | - | -------- | - |  | ------ | ------ | ----- | ----- |  | --------- |  |  | - | ------- | - |  | - | ------- | ----- | -
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               | Accumulated |     |                |         |   |         |        | 
|                                       |                                                          |                                   |         |  |              |   |     |            |  | Other |             |  |               |             |    
|                                       |                                                          | Preferred Stock                   |         |  | Common Stock |   |     | Additional |  |       |             |  | Comprehensive |             |     | Treasury Stock |         |   |        
|                                       |                                                          |                                   |         |  |              |   |     | Paid-In    |  |       | Accumulated |  |               | Income      |     |                |         |   |         |       
|                                       |                                                          | Shares                            |         |  | Amount       |   |     | Shares     |  |       | Amount      |  |               | Capital     |     |                | Deficit |   |         | (Loss) |  |   | Shares   |   |  | Amount |        |       | Total | 
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       | 
|                                       |                                                          | (In thousands, except share data) |        
|Balance, January 1, 2002               |                                                          |                                   | 195,351 |  |              | $ | 977 |            |  |       | 17,494,238  |  |               | $           | 175 |                |         | $ | 162,269 |        |  | $ | (41,804  | ) |  | $      | (4,161 | )     |       |  | 3,470,150 |  |  | $ | (38,683 | ) |  | $ | 78,773  |      
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       | 
|Net loss                               |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   | (55,433  | ) |  |        |        |       |       |  |           |  |  |   |         |   |  |   | (55,433 | )    
|Other comprehensive loss:              |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       |  |           |  |  |   |         |   |  |   |         |      
|                                       | Foreign currency translation adjustment                  |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        | 2,032 |       |  |           |  |  |   |         |   |  |   |         | 2,032 |  
|                                       | Reclassification (Note 2)                                |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        | 2,179 |       |  |           |  |  |   |         |   |  |   |         | 2,179 |  
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       | 
|Total                                  |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       |  |           |  |  |   |         |   |  |   | (51,222 | )    
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       | 
|Preferred stock dividends              |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   | (117     | ) |  |        |        |       |       |  |           |  |  |   |         |   |  |   | (117    | )    
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       | 
|Balance, December 31, 2002             |                                                          |                                   | 195,351 |  |              | $ | 977 |            |  |       | 17,494,238  |  |               | $           | 175 |                |         | $ | 162,269 |        |  | $ | (97,354  | ) |  | $      | 50     |       |       |  | 3,470,150 |  |  | $ | (38,683 | ) |  | $ | 27,434  |      
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       | 
|Net loss                               |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   | (11,389  | ) |  |        |        |       |       |  |           |  |  |   |         |   |  |   | (11,389 | )    
|Other comprehensive loss:              |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       |  |           |  |  |   |         |   |  |   |         |      
|                                       | Foreign currency translation adjustment                  |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        | 74    |       |  |           |  |  |   |         |   |  |   |         | 74    |  
|                                       | Unrealized loss on investments held for sale, net of tax |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        | (36   | )     |  |           |  |  |   |         |   |  |   |         | (36   | )
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       | 
|Total                                  |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       |  |           |  |  |   |         |   |  |   | (11,351 | )    
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       | 
|Repurchase of treasury stock           |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       |  | 18,200    |  |  |   | (18     | ) |  |   | (18     | )    
|Exercise of stock options and warrants |                                                          |                                   |         |  |              |   |     |            |  |       | 150,715     |  |               |             | 1   |                |         |   | 145     |        |  |   |          |   |  |        |        |       |       |  |           |  |  |   |         |   |  |   | 146     |      
|Stock compensation expense             |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   | 204     |        |  |   |          |   |  |        |        |       |       |  |           |  |  |   |         |   |  |   | 204     |      
|Preferred stock dividends              |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   | (115     | ) |  |        |        |       |       |  |           |  |  |   |         |   |  |   | (115    | )    
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       | 
|Balance, December 31, 2003             |                                                          |                                   | 195,351 |  |              | $ | 977 |            |  |       | 17,644,953  |  |               | $           | 176 |                |         | $ | 162,618 |        |  | $ | (108,858 | ) |  | $      | 88     |       |       |  | 3,488,350 |  |  | $ | (38,701 | ) |  | $ | 16,300  |      
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       | 
|Net loss                               |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   | (7,811   | ) |  |        |        |       |       |  |           |  |  |   |         |   |  |   | (7,811  | )    
|Other comprehensive loss:              |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       |  |           |  |  |   |         |   |  |   |         |      
|                                       | Realized foreign currency translation adjustment         |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        | (124  | )     |  |           |  |  |   |         |   |  |   |         | (124  | )
|                                       | Realized loss on investments held for sale, net of tax   |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        | 36    |       |  |           |  |  |   |         |   |  |   |         | 36    |  
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       | 
|Total                                  |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       |  |           |  |  |   |         |   |  |   | (7,899  | )    
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       | 
|Exercise of stock options and warrants |                                                          |                                   |         |  |              |   |     |            |  |       | 461,000     |  |               |             | 5   |                |         |   | 528     |        |  |   |          |   |  |        |        |       |       |  |           |  |  |   |         |   |  |   | 533     |      
|Preferred stock dividends              |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   | (34      | ) |  |        |        |       |       |  |           |  |  |   |         |   |  |   | (34     | )    
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       | 
|Balance, December 31, 2004             |                                                          |                                   | 195,351 |  |              | $ | 977 |            |  |       | 18,105,953  |  |               | $           | 181 |                |         | $ | 163,146 |        |  | $ | (116,703 | ) |  | $      |       |       |       |  | 3,488,350 |  |  | $ | (38,701 | ) |  | $ | 8,900   |      
|                                       |                                                          |                                   |         |  |              |   |     |            |  |       |             |  |               |             |     |                |         |   |         |        |  |   |          |   |  |        |        |       |       | 



18



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MDI, INC. AND SUBSIDIARIES


(Formerly American Building Control, Inc.)





CONSOLIDATED STATEMENTS OF CASH FLOWS


|                                                                                              |                                                                |                          |         |        |      |   |         |        |   |   |         |         |  
|--------------------------------------------------------------------------------------------- | -------------------------------------------------------------- | ------------------------ | ------- | ------ | ---- | - | ------- | ------ | - | - | ------- | ------- | -
|                                                                                              |                                                                | Years Ended December 31, |        
|                                                                                              |                                                                |                          |        
|                                                                                              |                                                                | 2004                     |         |        | 2003 |   |         | 2002   |  
|                                                                                              |                                                                |                          |         |        |      |   |         |        |  
|                                                                                              |                                                                | (In thousands)           |        
|Operating Activities:                                                                         |                                                                |                          |         |        |      |   |         |        |   |   |         |        
|Net loss                                                                                      |                                                                | $                        | (7,811  | )      |      | $ | (11,389 | )      |   | $ | (55,433 | )      
|Adjustments to reconcile net loss to net cash provided by (used
    in) operating activities: |                                                                |                          |         |        |      |   |         |        |   |   |         |        
|                                                                                              | Cumulative effect of accounting change                         |                          |         |       |      |   |         |       |   |   |         | 26,115  |  
|                                                                                              | Loss on sale of fixed assets                                   |                          |         | 502    |      |   |         | 103    |   |   |         |        |  
|                                                                                              | Loss on sale of investments                                    |                          |         | 55     |      |   |         | 79     |   |   |         |        |  
|                                                                                              | Loss (gain) on sale of business                                |                          |         | (1,204 | )    |   |         |       |   |   |         | 5,636   |  
|                                                                                              | Stock based compensation                                       |                          |         |       |      |   |         | 349    |   |   |         |        |  
|                                                                                              | Write down of supply agreement and non-compete deferred income |                          |         | (408   | )    |   |         | (1,119 | ) |   |         |        |  
|                                                                                              | Realized foreign currency translation losses                   |                          |         | (86    | )    |   |         | 66     |   |   |         | 2,179   |  
|                                                                                              | Depreciation and amortization                                  |                          |         | 991    |      |   |         | 2,331  |   |   |         | 3,850   |  
|                                                                                              | Provision for losses on accounts receivable                    |                          |         | 211    |      |   |         | 330    |   |   |         | 74      |  
|                                                                                              | Deferred income taxes                                          |                          |         |       |      |   |         |       |   |   |         | 6,309   |  
|                                                                                              | Asset and goodwill impairment                                  |                          |         |       |      |   |         | 1,711  |   |   |         | 4,095   |  
|                                                                                              | Other non-cash expenses                                        |                          |         |       |      |   |         |       |   |   |         | 551     |  
|                                                                                              | Mark-to-market interest rate swap                              |                          |         | 52     |      |   |         | 188    |   |   |         | (46     | )
|Changes in operating assets and liabilities, net of dispositions:                             |                                                                |                          |         |        |      |   |         |        |   |   |         |        
|                                                                                              | Trade accounts receivable                                      |                          |         | (1,385 | )    |   |         | 1,213  |   |   |         | 841     |  
|                                                                                              | Inventories                                                    |                          |         | 1,841  |      |   |         | (442   | ) |   |         | 920     |  
|                                                                                              | Prepaid and other current assets                               |                          |         | 2,631  |      |   |         | 3,883  |   |   |         | 1,438   |  
|                                                                                              | Trade accounts payable                                         |                          |         | (1,641 | )    |   |         | (601   | ) |   |         | 1,412   |  
|                                                                                              | Accrued and other current liabilities                          |                          |         | (3,777 | )    |   |         | (5,174 | ) |   |         | 4,530   |  
|                                                                                              |                                                                |                          |         |        |      |   |         |        |  
|Net cash provided by (used in) operating activities                                           |                                                                |                          | (10,029 | )      |      |   | (8,472  | )      |   |   | 2,471   |        
|                                                                                              |                                                                |                          |         |        |      |   |         |        |  
|Investing Activities:                                                                         |                                                                |                          |         |        |      |   |         |        |   |   |         |        
|                                                                                              | Purchases of property and equipment                            |                          |         | (38    | )    |   |         | (1,083 | ) |   |         | (490    | )
|                                                                                              | Software development costs                                     |                          |         | (183   | )    |   |         | (182   | ) |   |         | (495    | )
|                                                                                              | Proceeds from the sale of property and equipment               |                          |         | 30     |      |   |         | 1,608  |   |   |         | 40      |  
|                                                                                              | Proceeds from sale of businesses                               |                          |         | 5,340  |      |   |         |       |   |   |         | 28,389  |  
|                                                                                              | Proceeds from redemption of marketable securities              |                          |         | 1,444  |      |   |         | 5,187  |   |   |         |        |  
|                                                                                              | Purchases of marketable securities                             |                          |         |       |      |   |         | (6,801 | ) |   |         |        |  
|                                                                                              | Earn out payments on prior acquisitions                        |                          |         |       |      |   |         | (223   | ) |   |         | (1,123  | )
|                                                                                              |                                                                |                          |         |        |      |   |         |        |  
|Net cash provided by (used in) investing activities                                           |                                                                |                          | 6,593   |        |      |   | (1,494  | )      |   |   | 26,321  |        
|                                                                                              |                                                                |                          |         |        |      |   |         |        |  
|Financing Activities:                                                                         |                                                                |                          |         |        |      |   |         |        |   |   |         |        
|                                                                                              | Net repayments on revolving line of credit                     |                          | $       |       |      |   | $       |       |   |   | $       | (15,012 | )
|                                                                                              | Repayments on other debt                                       |                          |         |       |      |   |         |       |   |   |         | (809    | )
|                                                                                              | Issuance of common stock                                       |                          |         | 533    |      |   |         |       |   |   |         |        |  
|                                                                                              | Purchase of treasury stock                                     |                          |         |       |      |   |         | (18    | ) |   |         |        |  
|                                                                                              | Payment of preferred stock dividends                           |                          |         | (34    | )    |   |         | (115   | ) |   |         | (117    | )
|                                                                                              |                                                                |                          |         |        |      |   |         |        |  
|Net cash provided by (used in) financing activities                                           |                                                                |                          | 499     |        |      |   | (133    | )      |   |   | (15,938 | )      
|                                                                                              |                                                                |                          |         |        |      |   |         |        |  
|Net increase (decrease) in cash and cash equivalents                                          |                                                                |                          | (2,937  | )      |      |   | (10,099 | )      |   |   | 12,854  |        
|                                                                                              | Effect of exchange rate changes on cash                        |                          |         | (2     | )    |   |         | (30    | ) |   |         | 282     |  
|Cash and cash equivalents, beginning of period                                                |                                                                | $                        | 6,307   |        |      | $ | 16,436  |        |   | $ | 3,300   |        
|                                                                                              |                                                                |                          |         |        |      |   |         |        |  
|Cash and cash equivalents, end of period                                                      |                                                                | $                        | 3,368   |        |      | $ | 6,307   |        |   | $ | 16,436  |        
|                                                                                              |                                                                |                          |         |        |      |   |         |        |  
|Supplemental cash flow information:                                                           |                                                                |                          |         |        |      |   |         |        |   |   |         |        
|Cash paid during the year for:                                                                |                                                                |                          |         |        |      |   |         |        |   |   |         |        
|                                                                                              | Interest                                                       |                          | $       |       |      |   | $       | 1      |   |   | $       | 1,869   |  
|                                                                                              |                                                                |                          |         |        |      |   |         |        |  
|                                                                                              | Income taxes                                                   |                          | $       |       |      |   | $       |       |   |   | $       | 46      |  
|                                                                                              |                                                                |                          |         |        |      |   |         |        |  



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MDI, Inc. and Subsidiaries





Notes to Consolidated Financial Statements




|        |                                                                        
|------- | -----------------------------------------------------------------------
|Note 1: | Nature of Operations and Summary of Significant Accounting
    Policies



| |                            
| | ---------------------------
| | Principles of Consolidation





| |                      
| | ---------------------
| | Basis of Presentation





| |                     
| | --------------------
| | Nature of Operations







| |                 
| | ----------------
| | Use of Estimates





| |                                    
| | -----------------------------------
| | Fair Value of Financial Instruments





| |                          
| | -------------------------
| | Cash and Cash Equivalents



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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)




| |                          
| | -------------------------
| | Trade Accounts Receivable





| |            
| | -----------
| | Inventories





|                   |  |      |      |   |      |   |     |      |  |   |     |  
|------------------ |  | ---- | ---- | - | ---- | - | --- | ---- |  | - | --- | -
|                   |  | 2004 |      |   | 2003 |   |     | 2002 | 
|                   |  |      |      |   |      |   |     |      | 
|Beginning balance  |  | $    | 372  |   |      | $ | 182 |      |  | $ | 100 |  
|Charged to expense |  |      | 45   |   |      |   | 203 |      |  |   | 95  |  
|Usage              |  |      | (126 | ) |      |   | (13 | )    |  |   | (14 | )
|                   |  |      |      |   |      |   |     |      | 
|Closing balance    |  | $    | 291  |   |      | $ | 372 |      |  | $ | 182 |  
|                   |  |      |      |   |      |   |     |      | 



| |                       
| | ----------------------
| | Property and Equipment





| |                                              
| | ---------------------------------------------
| | Engineering and Software Development Expenses





| |                      
| | ---------------------
| | Internal Use Software



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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)




| |                                
| | -------------------------------
| | Impairment of Long-Lived Assets





| |         
| | --------
| | Goodwill

Goodwill and Intangible
Assets. st




| |             
| | ------------
| | Income Taxes





| |                    
| | -------------------
| | Revenue Recognition





| |                  
| | -----------------
| | Warranty Reserves



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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)




|                   |  |      |    |   |      |   |    |      |  |   |      |  
|------------------ |  | ---- | -- | - | ---- | - | -- | ---- |  | - | ---- | -
|                   |  | 2004 |    |   | 2003 |   |    | 2002 | 
|                   |  |      |    |   |      |   |    |      | 
|Beginning balance  |  | $    | 72 |   |      | $ | 69 |      |  | $ | 211  |  
|Charged to expense |  |      | 14 |   |      |   | 5  |      |  |   | 8    |  
|Usage              |  |      | (6 | ) |      |   | (2 | )    |  |   | (150 | )
|                   |  |      |    |   |      |   |    |      | 
|Closing balance    |  | $    | 80 |   |      | $ | 72 |      |  | $ | 69   |  
|                   |  |      |    |   |      |   |    |      | 



| |                                                                         
| | ------------------------------------------------------------------------
| | Comprehensive Income (Loss) and Accumulated Other
    Comprehensive Loss





| |            
| | -----------
| | Advertising





| |                   
| | ------------------
| | Earnings Per Share





| |                      
| | ---------------------
| | Marketable Securities







| |                         
| | ------------------------
| | Stock-Based Compensation

Accounting for Stock-Based
Compensation Accounting for Stock Based Compensation 
Transition and Disclosure.




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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)






|                                                                                                                    |                                                                                         |      |   |         |      |  |   |         |   |  |   |         |  
|------------------------------------------------------------------------------------------------------------------- | --------------------------------------------------------------------------------------- | ---- | - | ------- | ---- |  | - | ------- | - |  | - | ------- | -
|                                                                                                                    |                                                                                         | 2004 |   |         | 2003 |  |   | 2002    |  
|                                                                                                                    |                                                                                         |      |   |         |      |  |   |         |  
|Loss from continuing operations before cumulative effect of
    accounting change allocable to common stockholders: |                                                                                         |      |   |         |      |  |   |         |   |  |   |        
|                                                                                                                    | As reported                                                                             |      | $ | (8,687  | )    |  | $ | (10,721 | ) |  | $ | (17,028 | )
|                                                                                                                    | Deduct: Total stock-based compensation under fair value based
    method for all awards |      |   | (1,456  | )    |  |   | (297    | ) |  |   | (2,541  | )
|                                                                                                                    |                                                                                         |      |   |         |      |  |   |         |  
|                                                                                                                    | Pro forma                                                                               |      | $ | (10,143 | )    |  | $ | (11,018 | ) |  | $ | (19,569 | )
|Basic and diluted loss per share from continuing operations
    before cumulative effect of accounting change:      |                                                                                         |      |   |         |      |  |   |         |   |  |   |        
|                                                                                                                    | As reported                                                                             |      | $ | (0.60   | )    |  | $ | (0.76   | ) |  | $ | (1.21   | )
|                                                                                                                    | Pro forma                                                                               |      | $ | (0.70   | )    |  | $ | (0.78   | ) |  | $ | (1.39   | )







| |                                 
| | --------------------------------
| | Recent Accounting Pronouncements





|        |                        
|------- | -----------------------
|Note 2: | Discontinued Operations



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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)










|                                        |                        |      |      |   |      |   |       |      |  
|--------------------------------------- | ---------------------- | ---- | ---- | - | ---- | - | ----- | ---- | -
|                                        |                        | 2004 |      |   | 2002 |  
|                                        |                        |      |      |   |      |  
|Gross proceeds                          |                        | $    | 5.6  |   |      | $ | 36.0  |     
|Less adjustments:                       |                        |      |      |   |      |   |       |     
|                                        | Deferred income        |      |      |  |      |   |       | (2.3 | )
|                                        | Lectroalarm settlement |      |      |  |      |   |       | (2.2 | )
|                                        |                        |      |      |   |      |  
|Net proceeds received                   |                        | $    | 5.6  |   |      | $ | 31.5  |     
|Net asset value for sold businesses     |                        |      | (3.4 | ) |      |   | (32.2 | )   
|Goodwill                                |                        |      | (0.7 | ) |      |   | (5.1  | )   
|Realized foreign currency translation   |                        |      |     |   |      |   | (2.1  | )   
|Professional fees and transaction costs |                        |      | (0.3 | ) |      |   | (4.2  | )   
|                                        |                        |      |      |   |      |  
|Net gain (loss) on sale of business     |                        | $    | 1.2  |   |      | $ | (12.1 | )   
|                                        |                        |      |      |   |      |  





|                                    |              |                                       |        |       |         |   |      |              |  |   |        |       | 
|----------------------------------- | ------------ | ------------------------------------- | ------ | ----- | ------- | - | ---- | ------------ |  | - | ------ | ----- | 
|                                    |              | Twelve Months Ended December 31, 2004 |       
|                                    |              |                                       |       
|                                    |              |                                       |        | Total |        
|                                    |              | DSG                                   |        |       | PSG     |   |      | Discontinued | 
|                                    |              | Segment                               |        |       | Segment |   |      | Operations   | 
|                                    |              |                                       |        |       |         |   |      |              | 
|Net Sales                           |              | $                                     | 10,444 |       |         | $ | 661  |              |  | $ | 11,105 |      
|                                    | Gross Profit |                                       |        | 2,337 |         |   |      | 269          |  |   |        | 2,606 | 
|Operating income (loss):            |              |                                       | 169    |       |         |   | (687 | )            |  |   | (518   | )    
|Income from discontinued operations |              |                                       | 170    |       |         |   | (531 | )            |  |   | (361   | )    

25



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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)


|                                                                            |              |                                       |        |       |         |   |        |              |  |   |        |       | 
|--------------------------------------------------------------------------- | ------------ | ------------------------------------- | ------ | ----- | ------- | - | ------ | ------------ |  | - | ------ | ----- | 
|                                                                            |              | Twelve Months Ended December 31, 2003 |       
|                                                                            |              |                                       |       
|                                                                            |              |                                       |        | Total |        
|                                                                            |              | DSG                                   |        |       | PSG     |   |        | Discontinued | 
|                                                                            |              | Segment                               |        |       | Segment |   |        | Operations   | 
|                                                                            |              |                                       |        |       |         |   |        |              | 
|Net Sales                                                                   |              | $                                     | 21,473 |       |         | $ | 2,221  |              |  | $ | 23,694 |      
|                                                                            | Gross Profit |                                       |        | 4,681 |         |   |        | 612          |  |   |        | 5,293 | 
|Operating income (loss):                                                    |              |                                       | 959    |       |         |   | (3,975 | )            |  |   | (3,016 | )    
|Income (loss) from discontinued operations net of tax benefit of
    $(123) |              |                                       | 951    |       |         |   | (1,734 | )            |  |   | (783   | )    

|                                                                          |              |                                       |        |       |         |   |        |              |  |   |         |        | 
|------------------------------------------------------------------------- | ------------ | ------------------------------------- | ------ | ----- | ------- | - | ------ | ------------ |  | - | ------- | ------ | 
|                                                                          |              | Twelve Months Ended December 31, 2002 |       
|                                                                          |              |                                       |       
|                                                                          |              |                                       |        | Total |        
|                                                                          |              | DSG                                   |        |       | PSG     |   |        | Discontinued | 
|                                                                          |              | Segment                               |        |       | Segment |   |        | Operations   | 
|                                                                          |              |                                       |        |       |         |   |        |              | 
|Net Sales                                                                 |              | $                                     | 23,638 |       |         | $ | 97,798 |              |  | $ | 121,436 |       
|                                                                          | Gross Profit |                                       |        | 5,835 |         |   |        | 34,144       |  |   |         | 39,979 | 
|Operating income (loss):                                                  |              |                                       | (1,660 | )     |         |   | 1,893  |              |  |   | 233     |       
|Income (loss) from discontinued operations net of tax expense of
    $327 |              |                                       | (1,652 | )     |         |   | 1,351  |              |  |   | (301    | )     



|        |                       
|------- | ----------------------
|Note 3: | Restructuring Activity



|                                           |  |               |       |  |          |   |       |            |  |   |         |   |  |               |        |   |  |   |     | 
|------------------------------------------ |  | ------------- | ----- |  | -------- | - | ----- | ---------- |  | - | ------- | - |  | ------------- | ------ | - |  | - | --- | 
|                                           |  | Accrued as of |       |  | 2004     |   |       | Non-Cash   |  |   | Amount  |   |  | Accrued as of |       
|                                           |  | December 31,  |       |  | Charge   |   |       | Asset      |  |   | Paid in |   |  | December 31,  |       
|                                           |  | 2003          |       |  | (Credit) |   |       | Write Down |  |   | Cash    |   |  | 2004          |       
|                                           |  |               |       |  |          |   |       |            |  |   |         |   |  |               |       
|United Kingdom lease                       |  | $             | 330   |  |          | $ |      |            |  | $ |        |   |  | $             | (330   | ) |  | $ |    | 
|Severance                                  |  |               | 700   |  |          |   | 948   |            |  |   |        |   |  |               | (1,551 | ) |  |   | 97  | 
|Relocation costs                           |  |               |      |  |          |   | 295   |            |  |   |        |   |  |               | (162   | ) |  |   | 133 | 
|Lewisville headquarters disposal of assets |  |               |      |  |          |   | 502   |            |  |   | (502    | ) |  |               |       |   |  |   |    | 
|                                           |  |               |       |  |          |   |       |            |  |   |         |   |  |               |       
|                                           |  | $             | 1,030 |  |          | $ | 1,745 |            |  | $ | (502    | ) |  | $             | (2,043 | ) |  | $ | 230 | 
|                                           |  |               |       |  |          |   |       |            |  |   |         |   |  |               |       

|                             |  |               |       |  |          |   |      |            |  |         |   |  |               |   |        |   |  |   |       | 
|---------------------------- |  | ------------- | ----- |  | -------- | - | ---- | ---------- |  | ------- | - |  | ------------- | - | ------ | - |  | - | ----- | 
|                             |  | Accrued as of |       |  | 2003     |   |      | Non-Cash   |  | Amount  |   |  | Accrued as of |  
|                             |  | December 31,  |       |  | Charge   |   |      | Asset      |  | Paid in |   |  | December 31,  |  
|                             |  | 2002          |       |  | (Credit) |   |      | Write Down |  | Cash    |   |  | 2003          |  
|                             |  |               |       |  |          |   |      |            |  |         |   |  |               |  
|Ohio plant closure severance |  | $             | 175   |  |          | $ | (66  | )          |  | $       |  |  |               | $ | (109   | ) |  | $ |      | 
|United Kingdom lease         |  |               | 600   |  |          |   | (90  | )          |  |         |  |  |               |   | (180   | ) |  |   | 330   | 
|Zurich lease                 |  |               | 228   |  |          |   | (148 | )          |  |         |  |  |               |   | (80    | ) |  |   |      | 
|Severance                    |  |               | 1,249 |  |          |   | 400  |            |  |         |  |  |               |   | (949   | ) |  |   | 700   | 
|                             |  |               |       |  |          |   |      |            |  |         |   |  |               |   |       
|                             |  | $             | 2,252 |  |          | $ | 96   |            |  | $       |  |  |               | $ | (1,318 | ) |  | $ | 1,030 | 
|                             |  |               |       |  |          |   |      |            |  |         |   |  |               |   |       

26



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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)


|                                       |  |               |   |          |  |   |            |  |  |         |        |   |               |   |        |   |  |   |       | 
|-------------------------------------- |  | ------------- | - | -------- |  | - | ---------- |  |  | ------- | ------ | - | ------------- | - | ------ | - |  | - | ----- | 
|                                       |  | Accrued as of |   | 2002     |  |   | Non-Cash   |  |  | Amount  |        |   | Accrued as of |  
|                                       |  | December 31,  |   | Charge   |  |   | Asset      |  |  | Paid in |        |   | December 31,  |  
|                                       |  | 2001          |   | (Credit) |  |   | Write Down |  |  | Cash    |        |   | 2002          |  
|                                       |  |               |   |          |  |   |            |  |  |         |        |   |               |  
|SAP impairment                         |  | $             |  |          |  | $ | 2,718      |  |  | $       | (2,718 | ) |               | $ |       |   |  | $ |      | 
|Technology license non-cash impairment |  |               |  |          |  |   | 255        |  |  |         | (255   | ) |               |   |       |   |  |   |      | 
|Ohio plant closure non-cash impairment |  |               |  |          |  |   | 95         |  |  |         | (95    | ) |               |   |       |   |  |   |      | 
|Ohio plant closure severance           |  |               |  |          |  |   | 570        |  |  |         |       |   |               |   | (395   | ) |  |   | 175   | 
|United Kingdom lease                   |  |               |  |          |  |   | 600        |  |  |         |       |   |               |   |       |   |  |   | 600   | 
|Zurich lease                           |  |               |  |          |  |   | 228        |  |  |         |       |   |               |   |       |   |  |   | 228   | 
|Severance                              |  |               |  |          |  |   | 2,800      |  |  |         |       |   |               |   | (1,551 | ) |  |   | 1,249 | 
|                                       |  |               |   |          |  |   |            |  |  |         |        |   |               |   |       
|                                       |  | $             |  |          |  | $ | 7,266      |  |  | $       | (3,068 | ) |               | $ | (1,946 | ) |  | $ | 2,252 | 
|                                       |  |               |   |          |  |   |            |  |  |         |        |   |               |   |       



|                             |  |      |       |  |      |   |    |      |  |   |       | 
|---------------------------- |  | ---- | ----- |  | ---- | - | -- | ---- |  | - | ----- | 
|                             |  | 2004 |       |  | 2003 |   |    | 2002 | 
|                             |  |      |       |  |      |   |    |      | 
|Cost of sales                |  | $    |      |  |      | $ |   |      |  | $ |      | 
|General and administrative   |  |      | 1,243 |  |      |   | 96 |      |  |   | 4,293 | 
|Asset impairment charges     |  |      |      |  |      |   |   |      |  |   | 2,973 | 
|Loss on sale of fixed assets |  |      | 502   |  |      |   |   |      |  |   |      | 
|                             |  |      |       |  |      |   |    |      | 
|                             |  | $    | 1,745 |  |      | $ | 96 |      |  | $ | 7,266 | 
|                             |  |      |       |  |      |   |    |      | 



| |                                  
| | ---------------------------------
| | 2004 Relocation and consolidation





| |                                   
| | ----------------------------------
| | Executive and Management Severance



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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)
















| |                     
| | --------------------
| | United Kingdom Lease





| |               
| | --------------
| | SAP Impairment



28



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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)






| |                              
| | -----------------------------
| | Technology License Impairment





| |                          
| | -------------------------
| | Closure of the Ohio Plant





| |             
| | ------------
| | Zurich Lease





| |                                        
| | ---------------------------------------
| | Fourth Quarter 2000 Restructuring Costs



|                                               |  |              |     |  |          |   |      |         |  |   |              |   |  |   |   | 
|---------------------------------------------- |  | ------------ | --- |  | -------- | - | ---- | ------- |  | - | ------------ | - |  | - | - | 
|                                               |  | Accrued      |     |  | 2002     |   |      | Amount  |  |   | Accrued     
|                                               |  | December 31, |     |  | Charge   |   |      | Paid in |  |   | December 31,
|                                               |  | 2001         |     |  | (Credit) |   |      | Cash    |  |   | 2002        
|                                               |  |              |     |  |          |   |      |         |  |   |             
|Employee severance and termination benefits    |  | $            | 177 |  |          | $ | (116 | )       |  | $ | (61          | ) |  | $ |  | 
|Leased facilities and other terminations costs |  |              | 473 |  |          |   | (167 | )       |  |   | (306         | ) |  |   |  | 
|                                               |  |              |     |  |          |   |      |         |  |   |              |  
|                                               |  | $            | 650 |  |          | $ | (283 | )       |  | $ | (367         | ) |  | $ |  | 
|                                               |  |              |     |  |          |   |      |         |  |   |              |  



|                           |  |      |      |  
|-------------------------- |  | ---- | ---- | -
|                           |  | 2002 |     
|                           |  |      |     
|Cost of sales              |  | $    |     |  
|General and administrative |  |      | (283 | )
|Asset impairment charges   |  |      |     |  
|Foreign exchange losses    |  |      |     |  
|                           |  |      |     
|                           |  | $    | (283 | )
|                           |  |      |     

29



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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)




|        |                          
|------- | -------------------------
|Note 4: | Trade Accounts Receivable



|                                      |  |              |       |   |      |   |       |  
|------------------------------------- |  | ------------ | ----- | - | ---- | - | ----- | -
|                                      |  | Year Ended   |      
|                                      |  | December 31, |      
|                                      |  |              |      
|                                      |  | 2004         |       |   | 2003 |  
|                                      |  |              |       |   |      |  
|Gross trade accounts receivable       |  | $            | 3,523 |   |      | $ | 2,046 |  
|Less: allowance for doubtful accounts |  |              | (183  | ) |      |   | (169  | )
|Less: allowance for returns           |  |              | (91   | ) |      |   |      |  
|                                      |  |              |       |   |      |  
|                                      |  | $            | 3,249 |   |      | $ | 1,877 |  
|                                      |  |              |       |   |      |  



|                             |  |            |     |  |            |   |     |            |            |   |        |   |  |   |     | 
|---------------------------- |  | ---------- | --- |  | ---------- | - | --- | ---------- | ---------- | - | ------ | - |  | - | --- | 
|                             |  | Balance at |     |  |            |   |     |            | Balance at |  
|                             |  | Beginning  |     |  | Charged to |   |     | Deductions |            |   | End of |  
|                             |  | of Period  |     |  | Operations |   |     | from A/R   |            |   | Period |  
|                             |  |            |     |  |            |   |     |            |            |   |        |  
|Year ended December 31, 2004 |  | $          | 169 |  |            | $ | 114 |            |            | $ | (9     | ) |  | $ | 274 | 
|Year ended December 31, 2003 |  |            | 69  |  |            |   | 104 |            |            |   | (4     | ) |  |   | 169 | 
|Year ended December 31, 2002 |  |            | 21  |  |            |   | 52  |            |            |   | (4     | ) |  |   | 69  | 



|        |                       
|------- | ----------------------
|Note 5: | Property and Equipment



|                         |  |              |             |              |      |   |        |      |  |   |        |  
|------------------------ |  | ------------ | ----------- | ------------ | ---- | - | ------ | ---- |  | - | ------ | -
|                         |  |              |             | December 31, |     
|                         |  |              |             |              |     
|                         |  | Useful Lives |             |              | 2004 |   |        | 2003 | 
|                         |  |              |             |              |      |   |        |      | 
|Machinery and equipment  |  |              | 3-7 years   |              |      | $ | 525    |      |  | $ | 3,814  |  
|Furniture and fixtures   |  |              | 3-7 years   |              |      |   | 261    |      |  |   | 1,443  |  
|Software                 |  |              | 3-8 years   |              |      |   | 3,681  |      |  |   | 3,696  |  
|Buildings and land       |  |              | 20-30 years |              |      |   | 68     |      |  |   | 1,000  |  
|                         |  |              |             |              |      |   |        |      | 
|                         |  |              |             |              |      |   | 4,535  |      |  |   | 9,953  |  
|Accumulated depreciation |  |              |             |              |      |   | (3,199 | )    |  |   | (7,310 | )
|                         |  |              |             |              |      |   |        |      | 
|                         |  |              |             |              |      | $ | 1,336  |      |  | $ | 2,643  |  
|                         |  |              |             |              |      |   |        |      | 



|        |             
|------- | ------------
|Note 6: | Income Taxes



| |                                                                                
| | -------------------------------------------------------------------------------
| | The provision (benefit) for taxes consists of the following (in
    thousands):

|        |          |              |   |      |  |      |   |   |  |   |   |   | 
|------- | -------- | ------------ | - | ---- |  | ---- | - | - |  | - | - | - | 
|        |          | Year Ended  
|        |          | December 31,
|        |          |             
|        |          | 2004         |   | 2003 |  | 2002
|        |          |              |   |      |  |     
|Federal |          |              |   |      |  |      |   |   |  |   |   |  
|        | Current  |              | $ |     |  |      | $ |  |  |   | $ |  | 
|        | Deferred |              |   |     |  |      |   |  |  |   |   |  | 
|State   |          |              |  |      |  |      |  |   |  |   |  |  
|Foreign |          |              |  |      |  |      |  |   |  |   |  |  
|        |          |              |   |      |  |      |   |   | 
|        |          | $            |  |      |  | $    |  |   |  | $ |  |  
|        |          |              |   |      |  |      |   |   | 

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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)




|              |  |                         |        |   |      |   |         |      |  |   |         |  
|------------- |  | ----------------------- | ------ | - | ---- | - | ------- | ---- |  | - | ------- | -
|              |  | Year Ended December 31, |       
|              |  |                         |       
|              |  | 2004                    |        |   | 2003 |   |         | 2002 | 
|              |  |                         |        |   |      |   |         |      | 
|United States |  | $                       | (8,654 | ) |      | $ | (7,292  | )    |  | $ | (16,308 | )
|Foreign       |  |                         |       |   |      |   | (3,314  | )    |  |   | (603    | )
|              |  |                         |        |   |      |   |         |      | 
|              |  | $                       | (8,654 | ) |      | $ | (10,606 | )    |  | $ | (16,911 | )
|              |  |                         |        |   |      |   |         |      | 



|                                     |  |                         |        |    |      |  |       |      |  |  |       |   
|------------------------------------ |  | ----------------------- | ------ | -- | ---- |  | ----- | ---- |  |  | ----- | --
|                                     |  | Year Ended December 31, |       
|                                     |  |                         |       
|                                     |  | 2004                    |        |    | 2003 |  |       | 2002 | 
|                                     |  |                         |        |    |      |  |       |      | 
|U.S. Federal statutory rate          |  |                         | (34.0  | )% |      |  | (34.0 | )%   |  |  | (34.0 | )%
|State tax effect                     |  |                         | (3.0   | )  |      |  | (3.3  | )    |  |  | (4.8  | ) 
|Goodwill amortization and impairment |  |                         |       |    |      |  |      |      |  |  |      |   
|Other non-deductible expenses        |  |                         | 0.3    |    |      |  | 0.3   |      |  |  | 0.3   |   
|Adjust prior year receivable         |  |                         |       |    |      |  |      |      |  |  | (2.3  | ) 
|Change in valuation allowance        |  |                         | 162.0  |    |      |  | 46.4  |      |  |  | 44.6  |   
|Deferred Tax Asset not benefited     |  |                         | (132.2 | )  |      |  |      |      |  |  |      |   
|Other, net                           |  |                         | 6.9    |    |      |  | (9.1  | )    |  |  | (3.8  | ) 
|                                     |  |                         |        |    |      |  |       |      | 
|                                     |  |                         | 0.0    | %  |      |  | 0.0   | %    |  |  | 0.0   | % 
|                                     |  |                         |        |    |      |  |       |      | 





|                               |                                      |              |         |        |      |   |         |        |  
|------------------------------ | ------------------------------------ | ------------ | ------- | ------ | ---- | - | ------- | ------ | -
|                               |                                      | December 31, |        
|                               |                                      |              |        
|                               |                                      | 2004         |         |        | 2003 |  
|                               |                                      |              |         |        |      |  
|Deferred tax assets:           |                                      |              |         |        |      |   |         |       
|                               | Inventories                          |              | $       | 116    |      |   | $       | 480    |  
|                               | Accounts receivable                  |              |         | 93     |      |   |         | 215    |  
|                               | Accrued expenses                     |              |         | 439    |      |   |         | 539    |  
|                               | Net operating loss carry forwards    |              |         | 26,979 |      |   |         | 21,661 |  
|                               | Goodwill amortization and impairment |              |         |       |      |   |         | 4,401  |  
|                               | Foreign deferred tax assets          |              |         |       |      |   |         | 11,543 |  
|                               | Other, net                           |              |         | 220    |      |   |         | 1,074  |  
|                               |                                      |              |         |        |      |  
|Gross deferred tax assets      |                                      | $            | 27,847  |        |      | $ | 39,913  |       
|Deferred tax liabilities:      |                                      |              |         |        |      |   |         |       
|                               | Property and equipment               |              |         | (66    | )    |   |         | (160   | )
|                               | Goodwill amortization and impairment |              |         | (601   | )    |   |         |       |  
|                               |                                      |              |         |        |      |  
|Gross deferred tax liabilities |                                      | $            | (667    | )      |      | $ | (160    | )     
|Valuation allowance            |                                      |              | (27,180 | )      |      |   | (39,753 | )     
|                               |                                      |              |         |        |      |  
|Net deferred tax asset         |                                      | $            |        |        |      | $ |        |       
|                               |                                      |              |         |        |      |  





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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)






|        |         
|------- | --------
|Note 7: | Goodwill



|                                        |                                                     |     |        |         |     |   |     |       |   |   |        |         |  
|--------------------------------------- | --------------------------------------------------- | --- | ------ | ------- | --- | - | --- | ----- | - | - | ------ | ------- | -
|                                        |                                                     | PSG |        |         | DSG |   |     | Total |  
|                                        |                                                     |     |        |         |     |   |     |       |  
|Net carrying value at December 31, 2001 |                                                     | $   | 19,098 |         |     | $ | 729 |       |   | $ | 19,827 |        
|                                        | Earn out payment on prior acquisitions              |     |        | 887     |     |   |     |      |   |   |        | 887     |  
|                                        | Cumulative effect of accounting change              |     |        | (14,762 | )   |   |     |      |   |   |        | (14,762 | )
|                                        | Impairment losses                                   |     |        | (620    | )   |   |     |      |   |   |        | (620    | )
|                                        |                                                     |     |        |         |     |   |     |       |  
|Net carrying value at December 31, 2002 |                                                     | $   | 4,603  |         |     | $ | 729 |       |   | $ | 5,332  |        
|                                        | Settlement of earn out payment on prior acquisition |     |        | (100    | )   |   |     |      |   |   |        | (100    | )
|                                        | Impairment losses                                   |     |        | (1,711  | )   |   |     |      |   |   |        | (1,711  | )
|                                        |                                                     |     |        |         |     |   |     |       |  
|Net carrying value at December 31, 2003 |                                                     | $   | 2,792  |         |     | $ | 729 |       |   | $ | 3,521  |        
|                                        | Sale of business                                    |     |        |        |     |   |     | (729  | ) |   |        | (729    | )
|                                        |                                                     |     |        |         |     |   |     |       |  
|Net carrying value at December 31, 2004 |                                                     | $   | 2,792  |         |     | $ |    |       |   | $ | 2,792  |        
|                                        |                                                     |     |        |         |     |   |     |       |  











32



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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)








|        |                        
|------- | -----------------------
|Note 8: | Other Intangible Assets



|                                          |  |              |      |                   |          |   |    |              |  |     |          |   |  |   |    | 
|----------------------------------------- |  | ------------ | ---- | ----------------- | -------- | - | -- | ------------ |  | --- | -------- | - |  | - | -- | 
|                                          |  |              |      | December 31, 2004 |         
|                                          |  | Weighted     |      |                   |          |  
|                                          |  | Average      |      |                   | Gross    |   |    |              |  | Net |         
|                                          |  | Amortization |      |                   | Carrying |   |    | Accumulated  |  |     | Carrying |  
|                                          |  | (Years)      |      |                   | Value    |   |    | Amortization |  |     | Value    |  
|                                          |  |              |      |                   |          |   |    |              |  |     |          |  
|Intangible assets subject to amortization |  |              |      |                   |          |   |    |              |  |     |          |   |  |   |    | 
|Patents and trademarks                    |  |              | 17.1 |                   |          | $ | 98 |              |  | $   | (56      | ) |  | $ | 42 | 
|                                          |  |              |      |                   |          |   |    |              |  |     |          |  
|                                          |  |              |      |                   |          | $ | 98 |              |  | $   | (56      | ) |  | $ | 42 | 
|                                          |  |              |      |                   |          |   |    |              |  |     |          |  

|                                          |  |              |      |                   |          |   |     |              |  |     |          |   |  |   |    | 
|----------------------------------------- |  | ------------ | ---- | ----------------- | -------- | - | --- | ------------ |  | --- | -------- | - |  | - | -- | 
|                                          |  |              |      | December 31, 2003 |         
|                                          |  | Weighted     |      |                   |          |  
|                                          |  | Average      |      |                   | Gross    |   |     |              |  | Net |         
|                                          |  | Amortization |      |                   | Carrying |   |     | Accumulated  |  |     | Carrying |  
|                                          |  | (Years)      |      |                   | Value    |   |     | Amortization |  |     | Value    |  
|                                          |  |              |      |                   |          |   |     |              |  |     |          |  
|Intangible assets subject to amortization |  |              |      |                   |          |   |     |              |  |     |          |   |  |   |    | 
|Patents and trademarks                    |  |              | 17.1 |                   |          | $ | 98  |              |  | $   | (49      | ) |  | $ | 49 | 
|Loan origination and sale leaseback fees  |  |              | 3.0  |                   |          |   | 549 |              |  |     | (549     | ) |  |   |   | 
|                                          |  |              |      |                   |          |   |     |              |  |     |          |  
|                                          |  |              |      |                   |          | $ | 647 |              |  | $   | (598     | ) |  | $ | 49 | 
|                                          |  |              |      |                   |          |   |     |              |  |     |          |  





|                          |       |                   |   |    | 
|------------------------- | ----- | ----------------- | - | -- | 
|Years Ending December 31, |       | Amortization Exp. |  
|                          |       |                   |  
|2005                      |       | $                 | 7 |   
|2006                      |       |                   | 7 |   
|2007                      |       |                   | 7 |   
|2008                      |       |                   | 7 |   
|2009                      |       |                   | 7 |   
|Thereafter                |       |                   | 7 |   
|                          |       |                   |  
|                          | Total |                   | $ | 42 | 
|                          |       |                   |  



|        |              
|------- | -------------
|Note 9: | Royalty Claim



33



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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)






|         |                       
|-------- | ----------------------
|Note 10: | Financing Arrangements



| |               
| | --------------
| | Line of Credit









| |                   
| | ------------------
| | Interest Rate Swap





|         |                              
|-------- | -----------------------------
|Note 11: | Commitments and Contingencies



| |                 
| | ----------------
| | Operating Leases



|                          |       |   |     |       | 
|------------------------- | ----- | - | --- | ----- | 
|Years Ending December 31, |       |  
|                          |       |  
|2005                      |       | $ | 592 |      
|2006                      |       |   | 519 |      
|2007                      |       |   | 536 |      
|2008                      |       |   | 544 |      
|2009                      |       |   | 513 |      
|Thereafter                |       |   |    |      
|                          |       |   |    
|                          | Total |   | $   | 2,704 | 
|                          |       |   |    



|                          |  |   |     | 
|------------------------- |  | - | --- | 
|Years Ending December 31, |  |  
|                          |  |  
|2004                      |  | $ | 653 | 
|2003                      |  | $ | 710 | 
|2002                      |  | $ | 604 | 

34



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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)




| |           
| | ----------
| | Litigation





|         |                     
|-------- | --------------------
|Note 12: | Stockholders Equity



| |                
| | ---------------
| | Preferred Stock









| |         
| | --------
| | Warrants





35



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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)






| |            
| | -----------
| | Stock Grant





| |                   
| | ------------------
| | Stock Option Grant





|         |                         
|-------- | ------------------------
|Note 13: | Stock-Based Compensation



| |                          
| | -------------------------
| | 2002 Stock Incentive Plan





| |                                 
| | --------------------------------
| | 1997 Incentive Stock Option Plan





| |                    
| | -------------------
| | Stock Option Grants



36



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MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)




|                                   |           |        |           |            |       |   |      |        |          |  |           |            |   |          |      |      |       |  |           |          |   |   |      |      | 
|---------------------------------- | --------- | ------ | --------- | ---------- | ----- | - | ---- | ------ | -------- |  | --------- | ---------- | - | -------- | ---- | ---- | ----- |  | --------- | -------- | - | - | ---- | ---- | 
|                                   |           | 2004   |           |            | 2003  |   |      | 2002   |         
|                                   |           |        |           |            |       |   |      |        |         
|                                   |           |        |           | Weighted   |       |   |      |        | Weighted |  |           |            |   | Weighted |     
|                                   |           |        |           | Average    |       |   |      |        | Average  |  |           |            |   | Average  |     
|                                   |           |        |           | Exercise   |       |   |      |        | Exercise |  |           |            |   | Exercise |     
|                                   |           | Shares |           |            | Price |   |      | Shares |          |  | Price     |            |   | Shares   |      |      | Price | 
|                                   |           |        |           |            |       |   |      |        |          |  |           |            |   |          |      |      |       | 
|Outstanding at beginning of year   |           |        | 1,562,015 |            |       | $ | 1.52 |        |          |  | 1,642,541 |            |   | $        | 3.35 |      |       |  | 1,136,486 |          |   | $ | 4.69 |     
|                                   | Granted   |        |           | 1,976,500  |       |   |      | 1.32   |          |  |           | 1,154,000  |   |          |      | 1.12 |       |  |           | 867,915  |   |   |      | 1.34 | 
|                                   | Exercised |        |           | (461,000   | )     |   |      | 1.16   |          |  |           | (8,215     | ) |          |      | 1.10 |       |  |           |         |   |   |      |     | 
|                                   | Forfeited |        |           | (1,006,142 | )     |   |      | 1.77   |          |  |           | (1,226,311 | ) |          |      | 3.59 |       |  |           | (361,860 | ) |   |      | 2.73 | 
|                                   |           |        |           |            |       |   |      |        |          |  |           |            |   |          |      |      |       | 
|Outstanding at end of year         |           |        | 2,071,373 |            |       | $ | 1.30 |        |          |  | 1,562,015 |            |   | $        | 1.52 |      |       |  | 1,642,541 |          |   | $ | 3.35 |     
|Options exercisable at end of year |           |        | 1,529,706 |            |       | $ | 1.29 |        |          |  | 588,015   |            |   | $        | 2.18 |      |       |  | 1,642,541 |          |   | $ | 3.35 |     



|                         |  |                     |           |          |                     |  |           |          |  |          |             |  |          |          |           |  |  |   |      | 
|------------------------ |  | ------------------- | --------- | -------- | ------------------- |  | --------- | -------- |  | -------- | ----------- |  | -------- | -------- | --------- |  |  | - | ---- | 
|                         |  | Options Outstanding |           |          | Options Exercisable | 
|                         |  |                     |           |          |                     | 
|                         |  |                     |           | Weighted |                     |  | Weighted  |          |  | Weighted |             |  | Weighted |         
|                         |  |                     |           | Average  |                     |  | Average   |          |  | Average  |             |  | Average  |         
|                         |  | Number              |           |          | Remaining           |  |           | Exercise |  |          | Number      |  |          | Exercise |          
|Range of Exercise Prices |  | Outstanding         |           |          | Contractual Life    |  |           | Price    |  |          | Exercisable |  |          | Price    |          
|                         |  |                     |           |          |                     |  |           |          |  |          |             |  |          |          |          
|$0.88 to $ 1.05          |  |                     | 528,500   |          |                     |  | 8.5 years |          |  | $        | 0.94        |  |          |          | 528,500   |  |  | $ | 0.94 | 
|$1.06 to $ 1.30          |  |                     | 184,333   |          |                     |  | 8.8 years |          |  |          | 1.23        |  |          |          | 69,333    |  |  |   | 1.24 | 
|$1.31 to $ 1.35          |  |                     | 871,000   |          |                     |  | 9.0 years |          |  |          | 1.31        |  |          |          | 519,333   |  |  |   | 1.31 | 
|$1.36 to $ 1.50          |  |                     | 338,900   |          |                     |  | 9.5 years |          |  |          | 1.44        |  |          |          | 338,900   |  |  |   | 1.44 | 
|$1.51 to $ 1.60          |  |                     | 135,000   |          |                     |  | 8.5 years |          |  |          | 1.59        |  |          |          | 60,000    |  |  |   | 1.57 | 
|$6.19 to $17.13          |  |                     | 13,640    |          |                     |  | 4.2 years |          |  |          | 8.91        |  |          |          | 13,640    |  |  |   | 8.91 | 
|                         |  |                     |           |          |                     |  |           |          |  |          |             |  |          |          |          
|                         |  |                     | 2,071,373 |          |                     |  | 8.9 years |          |  | $        | 1.30        |  |          |          | 1,529,706 |  |  | $ | 1.29 | 
|                         |  |                     |           |          |                     |  |           |          |  |          |             |  |          |          |          



|         |                       
|-------- | ----------------------
|Note 14: | Concentration of Risks







37



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##### Table of Contents



MDI, Inc. and Subsidiaries


Notes to Consolidated Financial
Statements  (Continued)




|         |                           
|-------- | --------------------------
|Note 15: | Related Party Transactions







|         |                                        
|-------- | ---------------------------------------
|Note 16: | Quarterly Operating Results (unaudited)

|                             |  |         |        |   |         |   |        |         |  |   |         |   |  |   |        |  
|---------------------------- |  | ------- | ------ | - | ------- | - | ------ | ------- |  | - | ------- | - |  | - | ------ | -
|                             |  | First   |        |   | Second  |   |        | Third   |  |   | Fourth  |  
|                             |  | Quarter |        |   | Quarter |   |        | Quarter |  |   | Quarter |  
|                             |  |         |        |   |         |   |        |         |  |   |         |  
|2004:                        |  |         |        |   |         |   |        |         |  |   |         |   |  |   |        |  
|Net sales                    |  | $       | 3,459  |   |         | $ | 3,265  |         |  | $ | 4,575   |   |  | $ | 2,946  |  
|Gross profit                 |  |         | 1,352  |   |         |   | 1,481  |         |  |   | 2,352   |   |  |   | 1,107  |  
|Net loss                     |  |         | (2,792 | ) |         |   | (2,408 | )       |  |   | (809    | ) |  |   | (1,836 | )
|Net loss per share, basic:   |  | $       | (0.19  | ) |         | $ | (0.17  | )       |  | $ | (0.06   | ) |  | $ | (0.12  | )
|                             |  |         |        |   |         |   |        |         |  |   |         |  
|Net loss per share, diluted: |  | $       | (0.19  | ) |         | $ | (0.17  | )       |  | $ | (0.06   | ) |  | $ | (0.12  | )
|                             |  |         |        |   |         |   |        |         |  |   |         |  

|                             |  |         |        |   |         |   |        |         |  |   |         |   |  |   |        |  
|---------------------------- |  | ------- | ------ | - | ------- | - | ------ | ------- |  | - | ------- | - |  | - | ------ | -
|                             |  | First   |        |   | Second  |   |        | Third   |  |   | Fourth  |  
|                             |  | Quarter |        |   | Quarter |   |        | Quarter |  |   | Quarter |  
|                             |  |         |        |   |         |   |        |         |  |   |         |  
|2003:                        |  |         |        |   |         |   |        |         |  |   |         |   |  |   |        |  
|Net sales                    |  | $       | 3,846  |   |         | $ | 3,996  |         |  | $ | 5,345   |   |  | $ | 3,059  |  
|Gross profit                 |  |         | 1,548  |   |         |   | 1,353  |         |  |   | 2,505   |   |  |   | 1,114  |  
|Net loss                     |  |         | (2,661 | ) |         |   | (4,322 | )       |  |   | (1,110  | ) |  |   | (3,411 | )
|Net loss per share, basic:   |  | $       | (0.19  | ) |         | $ | (0.31  | )       |  | $ | (0.08   | ) |  | $ | (0.23  | )
|                             |  |         |        |   |         |   |        |         |  |   |         |  
|Net loss per share, diluted: |  | $       | (0.19  | ) |         | $ | (0.31  | )       |  | $ | (0.08   | ) |  | $ | (0.23  | )
|                             |  |         |        |   |         |   |        |         |  |   |         |  

38



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##### Table of Contents








|        |                                                                                         
|------- | ----------------------------------------------------------------------------------------
|ITEM 9. | CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
    ACCOUNTING AND FINANCIAL DISCLOSURE








|         |                        
|-------- | -----------------------
|ITEM 9A. | CONTROLS AND PROCEDURES








PART III







|         |                                               
|-------- | ----------------------------------------------
|ITEM 10. | DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT








|         |                       
|-------- | ----------------------
|ITEM 11. | EXECUTIVE COMPENSATION








|         |                                                                                                   
|-------- | --------------------------------------------------------------------------------------------------
|ITEM 12. | SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
    MANAGEMENT AND RELATED STOCKHOLDER MATTERS








|         |                                                
|-------- | -----------------------------------------------
|ITEM 13. | CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.








|         |                                       
|-------- | --------------------------------------
|ITEM 14. | PRINCIPAL ACCOUNTING FEES AND SERVICES



39



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##### Table of Contents






PART IV







|         |                                           
|-------- | ------------------------------------------
|ITEM 15. | EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

Financial Statements




|                                                                                                        |  |  |  | 
|------------------------------------------------------------------------------------------------------- |  |  |  | 
|Report of Independent Registered Public Accounting Firm                                                 |  |  |  | 
|Consolidated Balance Sheets as of December 31, 2004 and 2003                                            |  |  |  | 
|Consolidated Statements of Operations for the years ended
    December 31, 2004, 2003 and 2002          |  |  |  | 
|Consolidated Statement of Stockholders Equity for the
    years ended December 31, 2004, 2003 and 2002 |  |  |  | 
|Consolidated Statements of Cash Flows for the years ended
    December 31, 2004, 2003 and 2002          |  |  |  | 
|Notes to Consolidated Financial Statements                                                              |  |  |  | 

Financial Statement Schedules




Reports on Form 8-K


|            |            |  |             |                                                                                                                                                                                                                                                                                                                                                  
|----------- | ---------- |  | ----------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Filing Date |            |  | Description
|            |            |  |            
|            | 11/16/2004 |  |             | On November 16, 2004, a report was filed furnishing the
    Registrants third quarter 2004 earnings. This report also
    indicated the Companys receipt of a NASDAQ letter
    informing the Company its stock price had fallen below the
    $1.00 per share continued listing requirement and it was
    given 180 days to cure the default.
|           
|            | 10/26/2004 |  |             | On October 26, 2004, a report was filed announcing the
    Settlement and Release Agreement and Addendum to Purchase
    Agreement between the Registrant, Honeywell International, Inc.
    and David M. Blackshear.                                                                                                                            

40



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##### Table of Contents






SIGNATURES






| |          
| | ---------
| | MDI, INC.



| |     |                      
| | --- | ---------------------
| | By: | /s/ J. Collier Sparks

| |                        
| | -----------------------
| |                        
| | J. Collier Sparks      
| | Chief Executive Officer





|                                           |  |                                                                                                               |  |                       |  | 
|------------------------------------------ |  | ------------------------------------------------------------------------------------------------------------- |  | --------------------- |  | 
|                                          
|/s/ Carlo R. LoiCarlo
    R. Loi           |  | Chairman of the Board                                                                                         |  | Dated: March 30, 2005
|                                          
|/s/ J. Collier SparksJ.
    Collier Sparks |  | Chief Executive Officer (Principal Executive Officer)                                                         |  | Dated: March 30, 2005
|                                          
|/s/ Jon D. GreenwoodJon
    D. Greenwood   |  | Chief Financial Officer, Senior Vice-President and Treasurer
    (Principal Financial and Accounting Officer) |  | Dated: March 30, 2005
|                                          
|/s/ James PowerJames
    Power             |  | Director                                                                                                      |  | Dated: March 30, 2005
|                                          
|/s/ Lance BorvanskyLance
    Borvansky     |  | Director                                                                                                      |  | Dated: March 30, 2005
|                                          
|/s/ John C. MacaulayJohn
    C. Macaulay   |  | Director                                                                                                      |  | Dated: March 30, 2005

41



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##### Table of Contents






INDEX TO EXHIBITS


|        |    |             |  |                                                                                                                                                                                                                                           
|------- | -- | ----------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |            
|No.     |    | Description
|        |    |            
|        | 3  | .1          |  | Certificate of Incorporation of the Company, as amended to
    December 20, 2002 (filed as Exhibit 3.4 to the
    Companys Form 10-K for the year ended
    December 31, 2002)                                                           
|        | 3  | .2          |  | Amendment to the Certificate of Incorporation of the Company
    dated September 22, 2004.(*)                                                                                                                                             
|       
|        | 3  | .3          |  | By-Laws of the Company, as amended to June 7, 2002 (filed
    as Exhibit 3.7 to the Companys Form 10-K for the
    year ended December 31, 2002)                                                                                         
|       
|        | 3  | .4          |  | Amendment of the By-Laws of the Company, dated April 22,
    2004.(*)                                                                                                                                                                     
|       
|        | 4  | .1          |  | Form of certificate representing shares of the Common Stock
    (filed as Exhibit 4.1 to the Companys Registration
    Statement on Form S-2, (Registration No. 333-02891))                                                              
|       
|        | 10 | .1          |  | Amended and Restated Ultrak, Inc. 1988 Non-Qualified Stock
    Option Plan, as of June 1, 2001 (filed as
    Exhibit 10.43 to the Companys Form 10-K for the year
    ended December 31, 2001)(+)                                        
|       
|        | 10 | .2          |  | Amendment No. 1 to the Amended and Restated Ultrak, Inc.
    1988 Non-Qualified Stock Option Plan effective as of
    December 4, 2001 (filed as Exhibit 10.47 to the
    Companys Form 10-K for the year ended December 31,
    2001)(+)
|       
|        | 10 | .3          |  | Ultrak, Inc. 1997 Incentive Stock Option Plan (filed as
    Exhibit 10.1 to the Companys Form 10-Q for the
    quarter ended March 31, 1997)(+)                                                                                          
|       
|        | 10 | .4          |  | Ultrak, Inc. 2002 Stock Incentive Plan (filed as Exhibit B
    to the Companys definitive proxy statement for the 2002
    annual meeting of stockholders)(+)                                                                            
|       
|        | 10 | .5          |  | Agreement, dated January 19, 2004, between the Company and
    Karen S. Austin. (filed as Exhibit 10.10 to the
    Companys Form 10-K for the year ended
    December 31, 2003)(+)                                                       
|       
|        | 10 | .6          |  | Agreement, dated January 19, 2004, between the Company and
    Wendy Diddell. (filed as Exhibit 10.12 to the
    Companys Form 10-K for the year ended
    December 31, 2003)(+)                                                         
|       
|        | 10 | .7          |  | Full and Final Release of Claims, dated as of January 1,
    2004, between the Company and George Broady. (filed as
    Exhibit 10.14 to the Companys Form 10-K for the year
    ended December 31, 2003)(+)                             
|       
|        | 10 | .8          |  | Agreement, dated February 2, 2004, between the Company and
    John Cannon. (filed as Exhibit 10.15 to the Companys
    Form 10-K for the year ended December 31, 2003)(+)                                                               
|       
|        | 10 | .9          |  | Warrant Agreement, dated January 14, 2002, between the
    Company and George K. Broady (filed as Exhibit 10.50 to the
    Companys Form 10-K for the year ended December 31,
    2001)                                                  
|       
|        | 10 | .10         |  | CCTV Products Supply Agreement, dated December 20, 2002,
    between the Company and Pittway (filed as Exhibit 10.36 to
    the Companys Form 10-K for the year ended
    December 31, 2002)                                             
|       
|        | 10 | .11         |  | Employment Agreement dated December 18, 2003, between Danny
    Mills and the Company. (filed as Exhibit 10.29 to the
    Companys Form 10-K for the year ended December 31,
    2003)(+)                                                
|       
|        | 10 | .12         |  | Agreement, dated July 9, 2004, between the Company and
    Danny Mills.(*)(+)                                                                                                                                                             
|       
|        | 14 | .1          |  | Code of Ethics (filed as Exhibit 14.1 to the Companys
    Form 10-K for the year ended December 31, 2003)                                                                                                                                
|       
|        | 21 | .1          |  | Subsidiaries of the Company (filed as Exhibit 21.1 to the
    Companys Form 10-K for the year ended December 31,
    2002)                                                                                                               
|       
|        | 31 | .1          |  | Certification of Chief Executive Officer required by
    Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange
    Act of 1934, as amended (the Exchange Act).(*)                                                                 
|       
|        | 31 | .2          |  | Certification of Chief Financial Officer required by
    Rule 13a-14(a) or Rule 15d-14(a) of the Exchange Act.(*)                                                                                                                         
|       
|        | 32 | .1          |  | Joint Certification of Chief Executive Officer and Chief
    Financial Officer required by Rule 13a-14(b) or Rule
    15d-14(b) of the Exchange Act and Section 1350 of
    Chapter 63 of Title 18 of the United States Code.(*)          

42



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##### Table of Contents



|        |    |    |             |                                                                                                                                                                                   
|------- | -- | -- | ----------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |    |            
|No.     |    |    | Description
|        |    |    |            
|       
|        | 99 | .1 |             | Audit Committee Charter revised by the Audit Committee as of
    January 27, 2004. (filed as Exhibit 99.1 to the
    Companys Form 10-K for the year ended December 31,
    2003)
|        | 99 | .2 |             | Nominating Committee Charter adopted by the Board on
    March 8, 2004. (filed as Exhibit 99.2 to the
    Companys Form 10-K for the year ended December 31,
    2003)           






|    |                                                                                                                                           
|--- | ------------------------------------------------------------------------------------------------------------------------------------------
|(*) | Exhibits marked with an (*) are filed with this Form 10-K.
    All others are incorporated by reference from the indicated SEC
    filing.



|    |                                                                       
|--- | ----------------------------------------------------------------------
|(+) | Indicates management contract or compensatory plan or
    arrangement.

43