# **UNITED STATES**

**SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C.  20549**

 

**FORM10-KSB**

** **

**ý****ANNUAL REPORT PURSUANTTO SECTION 13 OR 15(d) OF THESECURITIES EXCHANGE ACT OF 1934**

 

**For the fiscal year ended October 31, 2003**

 

**OR**

 

**o****TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OFTHESECURITIES EXCHANGE ACT OF 1934**

 

**For theTransition periodfrom             to             **

 

**Commission File Number:  0-11518**

 

**PPTVISION, INC.**

(Name of Small Business Issuer in its Charter)

 

| **MINNESOTA**                                                                     |   | **41-1413345**                        |
|-----------------------------------------------------------------------------------|--------|---------------------------------------|
| (State or other jurisdiction  of incorporation or organization)                   |   | (I.R.S. Employer  Identification No.) |
|                                                                              |   |                                  |
| **12988 Valley View Road  Eden Prairie, MN  55344**                          |
| (Address of principal executive offices, including zip code)                      |
|                                                                              |   |                                  |
| Registrant’s telephone number, including area code:  **(952) 996-9500** |
|                                                                              |   |                                  |
| Securities registered pursuant to Section 12(b) of the Act:  **None**        |
|                                                                              |   |                                  |
| Securities registered pursuant to Section 12(g) of the Act:                       |
| **(1) Common Stock $.10 par value (2) Preferred Stock  Purchase Rights**          |

 

Checkwhether the issuer (1) has filed all reports required to be filed by Section 13or 15(d) of the Exchange Act during the past 12 months (or for such shorterperiod that the registrant was required to file such reports) and (2) has beensubject to such filing requirements for the past 90 days.  YES    ý    NO    o

 

Checkif there is no disclosure of delinquent filers in response to Item 405 ofRegulation S-B contained in this form, and no disclosure will be contained, tothe best of registrant’s knowledge, in definitive proxy or informationstatements incorporated by reference in Part III of this Form 10-KSB or anyamendment to this Form 10-KSB.  ý

 

Theaggregate market value of the voting stock held by nonaffiliates of the issuer(based on the closing sale price of its stock as reported by the Nasdaq SmallCap Market) as of January 21, 2004 was approximately $8.5 million.

 

**DOCUMENTS INCORPORATED BY REFERENCE**

Portionof the Company’s Proxy Statement for its Annual Meeting of Shareholders will befiled within 120 days of October 31, 2003 and are incorporated by referenceinto Part III of this Form 10-KSB.

 

 

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**PART I**

 

ThisAnnual Report on Form 10-KSB contains forward-looking statements within themeaning of Section 27A of the Securities Act of 1933 and Section 21E of theSecurities Exchange Act of 1934, including statements regarding the Company’sexpectations, beliefs, intentions and strategies regarding the future.Forward-looking statements include, without limitation, statements regardingthe extent and timing of future revenues and expenses and customer demand. Allforward-looking statements included in this document are based on informationavailable to the Company as of the date hereof, and the Company assumes noobligation to update any such forward-looking statements.

 

TheCompany’s actual results are subject to risks and uncertainties and coulddiffer materially from those discussed in the forward-looking statements. Thesestatements are based upon the Company’s expectations regarding a number offactors, including the Company’s ability to obtain additional working capitalif necessary to support its operations, changes in worldwide general economicconditions, cyclicality of capital spending by customers, the Company’s abilityto keep pace with technological developments and evolving industry standards,worldwide competition, and the Company’s ability to protect its existingintellectual property from challenges from third parties. A detaileddescription of the factors that could cause future results to materially differfrom the Company’s recent results or those projected in the forward-lookingstatements are contained in the section of this Form 10-KSB entitled“Important Factors Regarding Forward-Looking Statements.”

 

**Item 1. DESCRIPTION OF BUSINESS**

 

**CORPORATE PROFILE**

 

PPTVISION, Inc. designs, manufactures, markets, and integrates 2D and 3D machinevision-based automated inspection systems for manufacturing applications.Machine vision-based inspection systems enable manufacturers to realizesignificant economic paybacks by increasing the quality of manufactured partsand improving the productivity of manufacturing processes. The Company’s 2Dmachine vision product line is sold on a global basis to end-users, systemintegrators, distributors and original equipment manufacturers (OEM’s)primarily in the electronic and semiconductor component, automotive, medicaldevice, and packaged goods industries. The Company’s *Speed*Scan 3DTM sensor, incorporating the Company’spatented high-speed Scanning Moiré InterferometryTM technology, issold to system integrators and original equipment manufacturers for specificapplications including inspection of leaded and bumped components in the semiconductorback-end manufacturing process, inspection of bumped semiconductor wafers,inspection of solder paste on circuit boards, inspection of surface-mountelectronic connectors, and inspection of components used in hard disk drives.

 

PPTVISION was incorporated under the laws of the State of Minnesota in 1981.

 

**WHAT IS MACHINE VISION?**

 

A machine vision system consists of computer software and hardwareworking together with cameras and lighting to capture images of products asthey are being manufactured. By capturing these images and comparing them toimages of standard or correct products, an effective machine vision system willprevent defective products from being shipped to consumers and enablemanufacturers to improve their processes and reduce costs. Commercial use ofmachine vision technology for manufacturing quality control began to emerge inthe early 1980s. However, machine vision systems at that time were complex toprogram and maintain, difficult to install, limited in performance and not cost-effective.Through advances in microprocessor and software technologies, these barriershave been removed, enabling machine vision to emerge as a powerful processcontrol technology that enables manufacturers to improve quality and increaseproductivity.

 

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**THE MACHINE VISION MARKET**

 

Themachine vision market is large and highly fragmented with over 200 machinevision suppliers around the world. Many are very small companies focusing onniche applications or niche technologies. A small handful of competitors suchas Cognex or Orbotech have emerged as large, global competitors. The AutomatedImaging Association (“AIA”) estimates that the North American market formachine vision systems in 2002 was approximately $1.24 billion, whichrepresented a 15% decrease from 2001. On a global basis, AIA estimated that the worldwide market for machinevision in 2002 was approximately $5.3 billion or down 4.2% from 2001. The AIAexpects the machine vision market to grow at approximately 11.5% per year overthe next 5 years. They project that the North American market revenues willreach $3.0 billion by 2007.  Demand formachine vision systems comes from end-user manufacturers who apply thesesystems as an integral part of their manufacturing process, original equipmentmanufacturers (“OEMs”) who incorporate machine vision systems into theirproducts, system integrators and machine builders.

 

Akey factor in the expansion of the machine vision market has been growth in thedemand for machine vision systems in the semiconductor and electronicsindustries. In general, the growth in demand for personal computers, cellularcommunications and other electronic devices, as well as the increase inelectronic components inside other products such as consumer appliances andautomobiles, are key elements of the level of demand for electronic andsemiconductor components. For example, VLSI Research, Inc., an independenttechnology research firm, projects that the demand for lead inspectionequipment will grow from $185 million in 2000 to $400 million in 2004. In aneffort to rapidly improve and increase manufacturing capability, while at thesame time introducing innovative new designs and improving quality,manufacturers of these components are increasingly turning to machine vision asa vital part of their manufacturing process. However, over the past 24 months,the manufacturing sectors of the economy in general, and the semiconductor andelectronics industries in particular, have experienced a significant decreasein demand for their products. As a result, these businesses have purchased lessequipment for use in their production processes, which has led to a significantdecrease in demand for vision inspection systems throughout the industry.

 

Thegrowth of the end-user machine vision market is also being driven by globalcompetitive trends, which have led manufacturers worldwide to redesignmanufacturing processes in order to reduce cost and increase productivity andquality. In order to meet today’s manufacturing quality requirements,statistical sampling methods are often insufficient and 100% inspection isrequired. To accomplish these objectives, manufacturers are increasinglyadopting machine vision solutions.

 

Manufacturersare demanding expanded capabilities from machine vision systems, includingfaster processing capabilities and greater ease of use. Manufacturers are alsodemanding more comprehensive services from machine vision providers, includingapplication engineering, technical support and training. Furthermore,manufacturers are seeking the ability to monitor trends, to better comprehendthe manufacturing process and to identify problems. In addition, manufacturersare being challenged to maintain high production levels that require rapid setup times, flexibility and seamless networking with the host manufacturingcontrol system to provide comprehensive diagnostic and process controlfeedback.

 

**BUSINESS STRATEGY**

 

TheCompany’s objective is to be a worldwide leader in the design, manufacture,marketing and integration of 2D and 3D machine vision-based automatedinspection systems for manufacturing applications. Through the successfulintegration of the Company’s five core competencies, including imageacquisition, image processing, application development software, optics andillumination, and vision system integration, the Company believes it will beable to meet its objective and successfully implement its strategy.

 

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**Key elements of the Company’s strategy include:**

 

•                    Providing Complete Solutions: The Companyfocuses on providing complete machine vision solutions to end-usermanufacturers, OEM’s, system integrators and machine builders. PPT VISION ispursuing what it believes to be the most fully vertically integrated businessmodel in the industry, including designing, manufacturing, marketing andintegrating complete machine vision solutions. The Company believes thisprovides it with a competitive advantage in delivering cost-effective, completevision solutions.

 

•                    Extending Technology Leadership in Speed andEase-of-Use: The Company is continuing to aggressively invest in nextgeneration software and hardware architectures that will expand its lead inspeed, ease-of-use and the ability to deliver cost-effective complete solutionsto its customers.

 

•                    Targeting Expanding Markets Through ContinuedDevelopment of Application-Specific Software Tools and Hardware Products: TheCompany’s application-specific software tools are a proven solution for a widevariety of inspection applications. In response to the worldwide expansion ofthe semiconductor and electronics industries, the Company is developingadditional software tools and hardware products for electronic component, electronicsand semiconductor applications.

 

•                    Providing a Superior Level of Value-AddedApplication Engineering Support: The Company delivers a high level ofvalue-added application engineering support to its end-user customers throughits own in-house applications engineering resources and through its network ofvalue-added system integrators and international distributors. Manufacturingend-users increasingly want to concentrate their engineering expertise on theproducts they manufacture, not on engineering machine vision systems. They areseeking complete machine vision solutions with associated applicationengineering support on an on-going basis.

 

•                    Increasing International Market Presence: TheCompany is aggressively focusing on increasing its market share in theworldwide machine vision market. The Company believes international marketsrepresent a significant opportunity and intends to capture a significant shareof this market through investment and expansion in its international salesdistribution and support infrastructure. In fiscal 2003, 52% of the Company’srevenues came from customers based outside of the United States.

 

**PRODUCTS**

 

TheCompany designs, manufactures, markets and integrates machine vision-basedautomated inspection systems for manufacturing applications such as electronicand mechanical assembly verification, verification of printed characters,packaging integrity, surface flaw detection, and gauging and measurement tasks.A machine vision system is a combination of cameras, lighting, and computerhardware and software working together to capture and analyze images of movingparts to determine if the parts match a defined standard. Machine vision-basedinspection systems enable manufacturers to realize significant economic paybacksby increasing the quality of manufactured parts and improving the productivityof manufacturing processes. The Company’s vision systems are sold throughoutthe Americas, Europe and Asia to a broad range of industry categories,including automotive, electronic and semiconductor components, consumer goods,medical devices, pharmaceuticals and plastics.

 

TheCompany’s machine vision systems are primarily targeted at providingmanufacturers with 100% inspection in high speed, discrete part manufacturingapplications. This typically replaces older off-line random sampling techniquesor human vision inspection techniques as a means of monitoring quality. TheCompany’s machine vision systems enable manufacturers to achieve zero defectproduction.

 

TheCompany’s family of machine vision systems, which include complete softwaretools for application development, provide significant performance advantagesthat meet manufacturers’ critical requirements. These requirements include highspeed, flexibility, ease-of-use, networkability and statistical

 

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feedback,all without sacrificing performance. All PPT VISION systems are supported bythe Company’s focus on providing its customers with complete solutions, notjust components, and a major commitment to providing its customers withvalue-added application engineering services.

 

TheCompany has developed products that have specific advantages in terms of speedand ease-of-use. Many of the Company’s machine vision systems are capable ofoperating at speeds over 10,000 parts per minute performing 100% inspection.This speed can be critical to successfully employing machine vision in manyapplications. PPT VISION also pioneered the use of an icon-based visualprogramming system  operating in theMicrosoft® WindowsTM environment. Users are able toprogram the Company’s systems by creating a flowchart of icons linked togetherrather than having to write a computer program in a programming language suchas C++ or using a complex menu-based system. This results in lower cost andless time for implementation.

 

**IMPACTTM  Machine Vision Micro-System**

 

In fiscal 2002, PPT introduced the IMPACT machine vision micro-systemand Inspection BuilderTM application programming software.  The IMPACT machine vision micro-systemoffers the high performance capability of a traditional PC based vision system,within a rugged, industrial design, typical of a real-time industrial controlsystem.  IMPACT represents the firstproduct into the machine vision market with all the power and flexibility of aPC based vision system, yet positioned into the low-cost machine visioncategory, and packaged with a real-time operating system and rugged industrialhardware.

 

Leveraging Ethernet technologies, IMPACT can be configured as a highperformance network of vision micro-systems that together form a completesolution for multiple points of inspection within a complex assembly orinspection line.

 

Inspection Builder software, which was designed specifically for theIMPACT machine vision micro-system, was designed from the ground up, using thelatest software development technologies. The end result is a software package that is easy-to-use and does notrequire users to utilize advanced programming techniques such as C++ or VisualBasic.

 

IMPACT is a sealed module with no moving parts, containing all theessential components of machine vision, into a single package.    This includes a high speed micro-processor(image processor), solid state memory, and real-time operating system inside,plus digital cameras, and Ethernet connectivity.  Inspection Builder software offers the possibility to delivercomplete custom application programs within an easy to use software model.  The IMPACT machine vision micro-systemoffers a breadth of software and performance capabilities that are notcurrently available in the market.

 

**Passport DSLTM and Scout DSLTM (DigitalSerial Link)**

 

TheCompany introduced its completely digital machine vision systems, the patentedPassport DSL and Scout DSL systems, in fiscal 1998. These products offer anintegrated network of cameras, lighting, image processors and hubs thattogether form a complete machine vision system.

 

ThePassport DSL and Scout DSL systems are completely digital, which results inmuch greater accuracy and repeatability than traditional analog systems. TheseDSL systems feature PPT’s Vision Program ManagerTM (VPM) software, apowerful, graphical programming interface that requires no programmingexpertise and operates in the Microsoft® WindowsTM environment.The Passport DSL and Scout DSL both incorporate a fully integratedPentium-based PC that can be easily added onto a factory network, allowing fora full range of control and monitoring capabilities and an easy way to importor export process information and images. The DSL systems support a network ofup to 16 asynchronously functioning cameras that capture non-interlaced videoimages at rates up to 4,000 full frames per minute. To complement the DSLproduct family, the Company has also developed the DSL5000, DSL5600, DSL6000and DSL7500 digital cameras.

 

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TheCompany has been working to enhance the price/performance capabilities of itscore 2D product line. In this regard, the Company has recently made severalenhancements to expand the applications for the Passport and Scout products.These include enhancements to the Company’s proprietary VPM Software as well asthe introduction of new high-resolution, remote head and low-cost digitalcameras.

 

**PassportTM 440, PassportTM 240, and ScoutTMMachine Vision Systems**

 

ThePassport 440 system is designed to operate with up to four asynchronouslyfunctioning cameras for multiple inspection views and complex imaging tasks.The Passport 240 system has all of the basic capabilities of the Passport 440in a two-camera model. Both systems are housed in industrially ruggedenclosures and are capable of operating at speeds over 10,000 inspections perminute. The Scout is a cost-effective machine vision system designed for industrialapplications that do not require rugged enclosures. It is packaged in anon-industrial style enclosure and is capable of running two cameras with speedand power similar to that of the Passport 440.

 

***Speed*****Scan 3DTM Sensor**

 

The*Speed*Scan 3D Sensor is based onPPT’s patented Scanning Moiré InterferometryTM (SMITM) 3Dtechnology. Using a tri-linear CCD sensor and advanced optics, the *Speed*Scan 3D Sensor is capable ofreal-time calculation of 3D topography in a single pass. SMI is a unique,patented, real-time, technology for high speed, high accuracy 3D scanning. Itis an area-scanning technology that gathers height data at rates many timesfaster than conventional laser-based sensors. SMI is especially suitable for applicationsin the semiconductor and electronics industries, with specific applicationsthat include inspection of leaded and bumped components in the semiconductorback-end manufacturing process, IC coplanarity (BGA, mBGA, QFP, TSOP, and QFN),inspection of surface-mount electronic connectors, connector coplanarity,solder paste volume and inspection of components used in hard disk drives.

 

**MARKETS AND CUSTOMERS**

 

TheCompany sells its products to a broad range of industries, includingmanufacturers of electronic and semiconductor components, pharmaceuticals,medical devices, automotive components, consumer products and plastics. As ofOctober 31, 2003, the Company had sold more than 4,600 machine vision systemsto over 320 customers since inception.

 

In the past year, four customers each accounted for over 10% of netrevenues.  The largest of thesecustomers, Optima Tech Co. Ltd. and Tokyo Weld Co., Ltd  eachaccounted for 11.7% of net revenues.  In addition, Chrysler Corporation accounted for 10.8% of net revenuesand Simac Masic B.V. accounted for 10.6% of net revenues.   During fiscal 2002 no individual customersaccounted for ten percent of net revenues.  During fiscal 2001, Tokyo Weld, Co., Ltd. accounted for 22%of net revenues, and revenue from Simac Masic B.V. accounted for 11% of netrevenues. The loss of, or significant curtailment of purchases by, any of theCompany’s principal customers could have a material adverse effect on theCompany’s results of operations.

 

**SALES, MARKETING AND CUSTOMER SUPPORT**

 

TheCompany sells its products primarily on a direct basis in the United States toend-users, system integrators, distributors, machine builders and OEMs. Outsidethe United States, the Company sells primarily through a network ofdistributors covering Europe, Asia and South America. The Company markets itsproducts through appearances at industry trade shows, advertising in industrytrade journals, articles published in industry and technical journals, its ownwebsite and through direct-selling in specific vertical markets. In addition,the Company’s strong customer relationships serve as valuable references.

 

TheCompany focuses on delivering a high level of value-added applicationsengineering support to its end-user customers through its own in-houseapplications engineering resources. The Company also

 

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providesextensive training opportunities for its customers, either at the Company’sfacilities or on-site at the customer’s facilities.

 

Thefollowing table sets forth the percentage of the Company’s net revenues(including sales delivered through international distributors) by geographiclocation during the past three years:

** **
| **YEAR ENDED OCTOBER 31,** |   | **2003** |   | **2002** |   | **2001** |   |
|----------------------------|--------|----------|--------|----------|--------|----------|--------|
| United States              |   | 48       | %      | 63       | %      | 45       | %      |
|                       |   |     |   |     |   |     |   |
| Europe & Canada        |   | 22       | %      | 12       | %      | 13       | %      |
|                       |   |     |   |     |   |     |   |
| Asia-Pacific               |   | 29       | %      | 23       | %      | 40       | %      |
|                       |   |     |   |     |   |     |   |
| South America              |   | 1        | %      | 2        | %      | 2        | %      |

 

Substantiallyall of the Company’s export sales are negotiated, invoiced and paid in UnitedStates dollars. However, the Company will from time to time enter into exportsales negotiated, invoiced and paid in foreign currencies.

 

**BACKLOG**

 

TheCompany does not believe backlog is a key indicator of future revenues in theend-user machine vision market. PPT VISION products are typically shippedwithin 30 days after receipt of an order. The Company believes that maintainingas short a time as practical for delivery is a competitive advantage in theend-user machine vision market. Customers in the end-user machine vision marketdo not normally place orders for large multiples of units with scheduleddeliveries over many months. Rather, end-user machine vision addresses aspecific application or problem at a specific manufacturing site.

 

**RESEARCH AND PRODUCT DEVELOPMENT**

 

PPTVISION’s products are distinguished by the Company’s proprietary technology andits significant commitment to research and product development efforts. TheCompany’s research and product development efforts are focused on its five corecompetencies: image acquisition, imaging processing, application developmentsoftware, optics and illumination, and vision system integration. The Companybelieves that the integration of these core competencies is essential toachieving long term success in the machine vision market. The Company’s fivecore competencies can be described as follows:

 

ImageAcquisition. This refers to the means and methods by which an image iscaptured, stored, and then made available for subsequent processing anddisplay. Image acquisition combines the disciplines of photo-optics andelectrical engineering.

 

ImagingProcessing. This refers to the means and methods whereby an image is analyzedor enhanced to produce some desired information, measurements or results. Imageprocessing combines the disciplines of software engineering, mathematics,algorithm development and electrical engineering to implement efficientsolutions to computationally complex problems. Typical image processing tasksinclude real-time inspection, guidance, gauging and recognition.

 

ApplicationDevelopment Software. This refers to the means and methods whereby a machinevision system is configured and controlled. The development and support ofapplication development software requires expertise in the disciplines ofobject-oriented programming, graphical programming environments, man-machineinterfaces, device drivers and general software engineering.

 

Opticsand Illumination. This refers to the means and methods by which a scene isilluminated and optically presented to an input device such as a video camera.Special optics and illumination techniques are often used to reveal features inan image that would otherwise go undetected or to optimize an image

 

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forsubsequent processing. Optics and illumination draw on skills from thedisciplines of physics, mechanical engineering and electrical engineering.

 

VisionSystem Integration. This refers to the means and methods whereby a machinevision system is interfaced to and combined with other factory automationequipment for purposes of creating a complete solution for the customer. Thismay include the development of application specific solutions for certainvertical market applications along with mechanical fixturing for mountingcamera and lighting components, networking and programmable controllers forprocess control, and reject mechanisms for ejection of defective parts.

 

Variousconfigurations of the Company’s products include proprietary design workperformed by the Company’s employees in each of these five areas.

 

PPTVISION believes that continued and timely development of new products andenhancements to existing product characteristics are essential to maintainingits competitive position. The Company has committed and expects to continue tocommit substantial resources to its research and development effort, whichplays a significant role in maintaining and advancing its position as a leadingprovider of complete machine vision systems. The Company’s current research anddevelopment efforts are directed to increasing performance in imageacquisition, image processing and application development software, which couldproduce systems with greater speed and accuracy while also providing customerswith more expanded software tools. These efforts include the Company’straditional two-dimensional (2D) machine vision systems as well as three- andone-dimensional (3D and 1D) sensor products. Key software products underdevelopment will enable support for different hardware and user interfaces, aswell as increasing the development speed of application specific softwaretools. The Company also intends to expand its offerings of application-specificsoftware and hardware products for the industries it identifies as being poisedto exhibit significant growth in demand for machine vision solutions, whichincludes electronics and semiconductors.

 

Researchand development expenditures were $3.6 million, $4.6 million and $5.0 millionin the fiscal years ended October 31, 2003, 2002, and 2001, respectively.

 

**MANUFACTURING**

 

TheCompany assembles, configures and tests its products at its suburbanMinneapolis facility. The Company’s printed circuit boards are custom built byseveral manufacturers. Although most of the components used in the Company’smachine vision systems are available off-the-shelf, some components areavailable from only a single supplier or from a limited number of suppliers.The Company typically purchases inventory and builds products in response toquarterly sales forecasts, enabling it to ship products within 30 days afterreceipt of an order.

 

Muchof the Company’s product manufacturing, consisting primarily of circuit boardmanufacturing and assembly and machined parts production, is contracted withoutside vendors. Company personnel inspect incoming parts and perform finalassembly and testing of finished products. The Company believes that itsoutsourcing strategy enables it to focus its resources on the key corecompetency areas from which it derives its competitive advantages.

 

**COMPETITION**

 

Themachine vision industry is highly fragmented. Currently, no competitor holds asignificant aggregate market share percentage, although some dominateindividual niches within the overall machine vision industry. The Companybelieves that over the next several years, the industry will experience acontinuing trend toward consolidation. However, given the application-specificnature of the industry, the Company also believes that the machine visionindustry will continue to have a relatively large number of competitorsfocusing on specific niches.

 

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TheCompany believes the major competitive factors in the industry are performance,quality, support and price. Although the Company believes that its products areunique, competitors offer technologies and systems that are capable of certainof the functions performed by the Company’s products. The Company facescompetition from a number of companies in the machine vision market, some ofwhich have greater manufacturing and marketing capabilities and greaterfinancial, technological and personnel resources.

 

Althoughthe Company believes that its current products offer several advantages interms of speed and ease-of-use, and although the Company has attempted toprotect the proprietary nature of such products, it is possible that any of theCompany’s products could be duplicated by other companies in the same generalmarket. There can be no assurances that the Company would be able to competewith similar products produced by a competitor.

 

**PATENTS AND PROPRIETARY RIGHTS**

 

TheCompany relies on a combination of patent, copyright, trademark and tradesecret laws to establish its proprietary rights in its products. The Companyowns several issued and pending United States and international patents forvarious inventions used in machine-vision, automated inspection andillumination systems. The Company believes that the patents it owns may havebeen useful in protecting the Company’s proprietary products and may be usefulin protecting potential future products. The Company also believes its abilityto efficiently develop and sell high performance, cost-effective vision systemson a timely basis, whether patented or not, is crucial to the Company’s future success.The Company requires each of its employees to enter into standard agreementspursuant to which the employee agrees to keep confidential all proprietaryinformation of the Company and to assign to the Company all rights in anyproprietary information or technology made or contributed by the employeeduring his or her employment or made thereafter as a result of any inventionsconceived or work done during such employment. Despite these precautions, itmay be possible for a third party to copy or otherwise obtain and use theCompany’s products or technology without authorization or to develop similartechnology independently. In addition, effective patent, copyright, trademarkand trade secret protection may be unavailable or limited in certain foreign countries.

 

Anumber of users of machine-vision technology have received notice of allegedpatent infringement from, or have been sued by, the Lemelson Medical, Educationand Research Foundation Limited Partnership (“Lemelson Foundation”) allegingthat their use of machine-vision technology in their production processesinfringes certain patents issued to Jerome H. Lemelson. Certain of these usershave notified the Company that, in the event it is subsequently determined thattheir use of the Company’s products in their production processes infringes anyof Mr. Lemelson’s patents, they may seek indemnification from the Company fordamages or expenses resulting from this matter. The Company believes that ithas defenses to such indemnification claims. To date, the Company has receivedno actual claims for indemnification. The Company cannot predict the outcomesfrom the claims of alleged infringement made by the Lemelson Foundation or theeffect of such outcomes on the operating results of the Company.

 

TheCompany has obtained United States federal registration for a number of itstrademarks including its “PPT”, “PPT VISION”, “Passport”, “Scout”, and“SpeedScan 3D” trademarks. The Company has filed for federal registration ofadditional trademarks and intends to continue to do so in the future. Althoughno assurance can be given as to the strength or scope of the Company’strademarks, the Company believes that its trademarks have been and will beuseful in developing and protecting market recognition for its products.

 

**EMPLOYEES**

 

Asof January 15, 2004, the Company had 61 full-time employees, including 22employees in research and development, 20 in sales, marketing and applicationengineering, 13 in manufacturing and 6 in finance and administration. Althoughthe Company has been successful in attracting and retaining qualified technicalpersonnel to date, there can be no assurance that this success will continue.None of the Company’s employees are covered by collective bargaining agreementsor are members of a union. The 

 

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Companyhas never experienced a work stoppage and believes that its relations with itsemployees are excellent.

 

**IMPORTANT FACTORS REGARDING FORWARD-LOOKING STATEMENTS**

 

Variousforward-looking statements have been made in this Annual Report on Form 10-KSB.Forward-looking statements may also be made in the Company’s other reportsfiled under the Securities Exchange Act of 1934, in its press releases and inother documents. In addition, from time to time the Company, through itsmanagement, may make oral forward-looking statements.

 

Forward-lookingstatements are subject to risks and uncertainties, including those identifiedbelow, that could cause actual results to differ materially from such statements.The words “anticipate,” “believe,” “expect,” “intend,” “optimistic,” “will” orsimilar expressions are intended to identify forward-looking statements.Readers are cautioned not to place undue reliance on these forward-lookingstatements, which speak only as of the date on which they are made. The Companyundertakes no obligation to update publicly or revise any forward-lookingstatements.

 

Importantfactors that could cause actual results to differ materially from the Company’sforward-looking statements, as well as affect the Company’s ability to achieveits financial and other goals, include, but are not limited to, the following:

 

**RISK FACTORS**

 

**We have incurred losses in each of the last threeyears.  **TheCompany has incurred net losses and negative cash flows from operatingactivities in each of the past three years and has an accumulated deficit of$29.6 million at October 31, 2003. In 2003, our net loss was $4.1million.  In 2002, our net loss was $6.9 million. In 2001, our net loss was$4.8 million.  In addition, the Companyexpects to incur losses and negative cash flows for at least the next severalfiscal quarters.  The Company believesthat the amount of the losses will be substantially smaller than in recentfiscal years.

 

Duringfiscal year 2003, we raised approximately $1.1 million of additional capitalthrough the exercise of warrants that were issued in connection with our fiscal2002 Shareholder Rights Offering. As of October 31, 2003, we had workingcapital of $3.8 million and no long-term debt. The Company  believes it hassufficient cash and other sources of financing available to it to fund itsoperations, working capital and capital resource needs through the secondquarter of fiscal 2005. There can be no assurance, however, that additionalcapital will be available on acceptable terms or at all, and the failure toobtain additional capital as needed may have an adverse effect on the Company’sability to continue to take advantage of future opportunities or respond tocompetitive pressures or unanticipated requirements, which could adverselyaffect its business, financial position, results of operations and cash flows.

 

**We have encountered significantly increasedcompetition from lower-priced competitive products.**Several of our competitors have introducedlower-priced 2D vision inspection systems that present a significant challengeto us. Although these competitors’ products do not include all the features ofour PassportTM and ScoutTM product lines, they may providevision inspection solutions for some customers at attractive prices. Althoughwe have introduced our new lower-priced, IMPACT high-performance 2D inspectionsystem, we cannot guarantee that this system will successfully compete in thismarket.

 

**Our market is characterized by rapidly changingtechnology and new product development.**Our future success depends upon our abilityto keep pace with the evolving market for machine vision inspection systems. Weneed to continue enhancing our current products, developing and introducing newproducts, responding to changes in customer requirements and achieving marketacceptance. Our failure to anticipate or respond adequately to technologicaldevelopments and customer requirements, or any significant delays in productdevelopment or introduction, could have a material adverse effect on ourbusiness, results of operations, financial condition and liquidity. Even if wedo enhance our current products, develop new products, and remain responsive toour customers, we cannot assure that we will achieve market acceptance.

 

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**We are dependent upon a limited number of principalcustomers.**In two ofthe past three fiscal years, we have had one or more customers that haveaccounted for ten percent or more of our net revenues. During fiscal 2003, fourcustomers each accounted for approximately 10% of our net revenues.  While no customer accounted for ten percentor more of our net revenues in fiscal 2002, during the fiscal year endingOctober 31, 2001, revenue from Tokyo Weld, Co., Ltd. accounted for 22% of netrevenues and revenue from Simac Masic B.V. accounted for 11% of net revenues.We do not have in effect long-term agreements with these customers under whichthey agree to continue purchasing significant quantities of our products. Theloss of, or significant decrease in purchases by, any of our principalcustomers and subsequent failure to replace those customers could have a materialadverse effect on our results of operations.

 

**Our revenues are dependent in part on capital spendingin the electronics and semiconductor industries.**The electronics and semiconductor industriescombined have historically accounted for over 50% of all machine visionindustry sales. Capital spending on new manufacturing capacity by theseindustries has historically been very cyclical and is currently in the midst ofa very pronounced down cycle. We have historically received over 60% of ourrevenue flow from electronic component inspection applications. As such, ourrevenue results have been adversely affected over the past six quarters andthere can be no assurance as to when capital spending in these industries willbegin a cyclical upturn. While revenues have increased sequentially eachquarter from the quarter ended April 30, 2002 through the quarter ended October31, 2003, we can not be assured that this trend will continue.

 

**Our future success is dependent upon sales of our SMITMtechnology.**Overthe last five years, we have acquired patent rights for Scanning MoiréInterferometry (“SMI”) technology and incurred significant expenditures indeveloping this technology. Our SMI technology has been incorporated into our *Speed*Scan 3D sensors. In order to achieveprofitability, we need to achieve incremental revenues from this product line.There can be no assurance that we can do this.

 

**We rely heavily on our proprietary technology, much ofwhich is protected as trade secrets.**We rely heavily on our image acquisition and image processing hardwaredesigns, along with proprietary software technology. We have been issuedpatents, or obtained licenses to patents, in the past on certain technology andhave patents pending on new technologies. We currently rely most heavily onprotecting our proprietary information as trade secrets. We cannot ensure thatthe steps we take will be adequate to prevent misappropriation of ourtechnology by third parties. We also cannot be certain that the steps takenwill be adequate under the laws of some foreign countries, which may notprotect our proprietary rights to the same extent as do laws of the UnitedStates. In addition, the possibility exists that others may “reverse engineer”our products in order to determine their method of operation and then introducecompeting products. Further, many high technology markets, including segmentsof the machine vision industry, are characterized by the existence of a largenumber of patents and frequent litigation for financial gain based on patentswith broad, and often questionable, applications. As the number of our productsincreases, the markets in which our products are sold expand and thefunctionality of those products grows and overlaps with products offered bycompetitors. We have been sued for patent infringement in the past and may besubject to patent infringement claims in the future. In addition to beingexpensive and time consuming for us, protracted litigation to defend or toprosecute intellectual property could result in some customers deferring orlimiting their purchase of our product until resolution of the litigation.Although we do not believe that any of our products or proprietary rightsinfringe upon the valid rights of third parties, we cannot guarantee that infringementclaims will not be asserted against us in the future or that any such claimswill not require us to enter into royalty arrangements or result in costlylitigation.

 

**Our revenue fluctuates from year to year.**We have experienced annual fluctuations in operatingresults and anticipate that these fluctuations will continue. Thesefluctuations have been caused by various factors, including the order flow ofour principal customers, the timing and acceptance of new product introductionsand enhancements and the timing of product shipments. Future operating resultsmay fluctuate as a result of these and other factors, including our ability tocontinue to develop innovative products, the announcement or introduction ofnew products by our competitors, our product and customer mix, and the level ofcompetition and overall trends in the economy.

 

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**We are dependent on a limited number of outsidecontractors and suppliers for a substantial portion of our components andassembly needs.**Wecurrently contract with third party assembly houses for a substantial portionof our components and assembly needs. Although we inspect these componentsprior to final assembly, reliance on outside contractors reduces our control overquality and delivery schedules. The failure by one or more of thesesubcontractors to deliver quality components in a timely manner could have amaterial adverse effect on our results of operations. In addition, a number ofthe components integral to the functioning of our products are available fromonly a single supplier or from a limited number of suppliers. Any interruptionin or termination of supply of these components, material changes in thepurchase terms, or reductions in their quality or reliability, could have amaterial adverse effect on our business or results of operations.

 

**A significant portion of our revenue arises frominternational markets.**Inthe years ending October 31, 2003, 2002 and 2001, sales of our products tocustomers outside of the United States accounted for approximately 52%, 37% and55%, respectively, of our net revenues. We anticipate that internationalrevenue will continue to account for a significant portion of our net revenues.Our operating results are subject to the risks inherent in international sales,including various regulatory requirements, political and economic changes anddisruptions, transportation delays and difficulties in staffing and managingforeign sales operations and distributor relationships. In addition,fluctuations in exchange rates may render our products less price competitiverelative to local product offerings. There can be no assurance that thesefactors will not have a material adverse effect on our future internationalsales and, consequently, on our operating results.

 

**The costs to remain competitive may adversely affectour financial performance.**We compete with other vendors of machine vision systems, some of whichhave greater financial and other resources than we do. We cannot be sure thatwe will be able to compete successfully in the future. In addition, to remaincompetitive we may be required to incur significant costs to increase ourengineering research, development, marketing and customer service efforts.Competitive pressures may result in price erosion or other factors thatadversely affect our financial performance.

 

**We are dependent on key personnel.**Our success depends in large part upon thecontinued services of many of our highly-skilled personnel involved inmanagement, research and product development and sales. We must also be able toattract and retain additional highly-qualified employees. The loss of servicesof these key personnel could have a material adverse effect on us. We do nothave key-person life insurance on any of our employees.

 

**We may be unable to utilize our net operating loss ifwe fail to generate sufficient taxable income.**The utilization of  net operating loss carryforward is dependent upon our ability togenerate sufficient taxable income during the carryforward period. In fiscal2003, there was no tax provision due to the net loss for the period. At October31, 2003, we had available net operating loss and tax credit carryforwards forincome tax purposes of approximately $27.4 million and $1.2 millionrespectively. These carryforwards expire in the years ending October 31, 2004through October 31, 2023.

 

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**EXECUTIVE OFFICERS AND OTHER KEY MEMBERS OF MANAGEMENT**

 

Theexecutive officers of the Company are as follows:

** **
| **NAME**              |   | **AGE** |   | **POSITION**                   |   |
|-----------------------|--------|---------|--------|--------------------------------|--------|
| Joseph C. Christenson |   | 45      |   | President,  Director           |   |
| David L. Friske       |   | 59      |   | Vice  President, Manufacturing |   |
| Timothy C. Clayton    |   | 49      |   | Chief  Financial Officer       |   |

 

**Joseph C. Christenson**has been President of the Company sinceJanuary 1989 and a director since December 1987. Prior to being electedPresident of the Company, Mr. Christenson served in a series of positions ofincreasing responsibility since joining the Company in 1985. Mr. Christensonhas a Masters in Business Administration from the University of Michigan and aBachelor of Arts degree from St. Olaf College.

 

**David L. Friske**has been Vice President of Manufacturing ofthe Company since March 1999. From February 1984, Mr. Friske served as Directorof Manufacturing and Purchasing. Prior to joining the Company, Mr. Friske wasemployed by Medtronic, Inc.

 

**Timothy C. Clayton**was elected Chief Financial Officer of theCompany in November 2002. Mr. Clayton serves as a consultant to the Company andis a principal of the firm Emerging Capital, a financial consulting and mergerand acquisition advisory firm that he founded in September 2000. From November1997 until September 2000, Mr. Clayton was Executive Vice President, ChiefFinancial Officer and Treasurer of Building One Services Corp. Prior toBuilding One Services, Mr. Clayton was a partner with Price Waterhouse, LLP.

 

Mr.Christenson and Mr. Friske serve as full time employees of the Company.  Mr. Clayton devotes such time as isnecessary to fulfill his duties as Chief Financial Officer.

 

**Item 2. DESCRIPTION OF PROPERTIES**

 

TheCompany entered into a ten-year lease in May 1999 for approximately 59,000square feet of office and manufacturing space in Eden Prairie, Minnesota. Thelease commenced on June 1, 1999 at an initial monthly rate of approximately$51,000. The Company also leases space for its regional sales and supportoffices in Massachusetts and Michigan.

 

**Item 3. LEGAL PROCEEDINGS**

 

None

 

**Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS**

 

None

 

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**PART II**

 

**Item 5. MARKET FOR COMMON EQUITY, RELATED STOCKHOLDER MATTERSAND SMALL BUSINESS ISSUER PURCHASES OF EQUITY SECURITIES**

 

**PRICE RANGE OF COMMON STOCK**

 

TheCompany’s Common Stock trades on the Nasdaq Small Cap Market under the symbol“PPTV.” The following table sets forth the high and low closing sale prices ofthe Company’s Common Stock as reported by Nasdaq for the years listed below:

 

 
|                                    |   | **HIGH** |   | **LOW** |   |
|-----------------------------------------|--------|----------|--------|---------|--------|
| **FISCAL YEAR ENDED OCTOBER 31,  2003** |   |     |   |    |   |
| First Quarter                           |   | $        | 0.85   |    | $      | 0.45 |   |
| Second Quarter                          |   | 0.77     |   | 0.43    |   |
| Third Quarter                           |   | 0.80     |   | 0.51    |   |
| Fourth Quarter                          |   | 1.58     |   | 0.62    |   |
|                                    |   |     |   |    |   |
| **FISCAL YEAR ENDED OCTOBER 31,  2002** |   |     |   |    |   |
| First Quarter                           |   | $        | 1.64   |    | $      | 1.27 |   |
| Second Quarter                          |   | 1.48     |   | 0.96    |   |
| Third Quarter                           |   | 1.10     |   | 0.65    |   |
| Fourth Quarter                          |   | 1.04     |   | 0.60    |   |

 

**HOLDERS**

 

OnJanuary 9, 2004, there were approximately 600 holders of record of theCompany’s Common Stock. This figure does not reflect more than 1,300 beneficialstockholders whose shares are held in nominee names.

 

**DIVIDEND POLICY**

 

TheCompany has never declared or paid any cash dividends on its Common Stock. TheCompany currently intends to retain any earnings for use in its operations andexpansion of its business and therefore does not anticipate paying any cashdividends in the foreseeable future.

 

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**EQUITY COMPENSATION PLAN INFORMATION**

 

Thefollowing table below presents the Company’s Equity Compensation Planinformation as of October 31, 2003

 
|                                                    |   | **(a)**                                                                                             |   | **(b)**                                                                            |   | **(c)**                                                                                                                                                |      |
|---------------------------------------------------------|--------|-----------------------------------------------------------------------------------------------------|--------|------------------------------------------------------------------------------------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------|-----------|
| **Plan Category**                                       |   | **Number  of securities to  be issued upon exercise of  outstanding options,  warrants and rights** |   | **Weighted-average  exercise price of  outstanding options,  warrants and rights** |   | **Number  of securities  remaining available for  future issuance under  equity compensation  plans (excluding  securities reflected in  column (a))** |      |
| Equity compensation plans approved by security  holders |   | 1,002,750                                                                                           |   | $                                                                                  | 2.07   |                                                                                                                                                   | 1,197,250 |   |
|                                                         |        |                                                                                                     |        |                                                                                    |        |                                                                                                                                                        |           |  |

 

TheCompany has three equity compensation plans: its 1988 Stock Option Plan, its1997 Stock Option Plan and its 2000 Stock Option Plan.

 

**ISSUER PURCHASES**

TheCompany did not repurchase any equity securities during the quarter endedOctober 31, 2003.

 

**Item 6. MANAGEMENT’S DISCUSSION AND ANALYSIS OR PLAN OFOPERATIONS**

 

**CRITICAL ACCOUNTING POLICIES AND ESTIMATES**

 

Management’sdiscussion and analysis of its financial condition and results of operationsare based on the Company’s accompanying financial statements, which have beenprepared in accordance with accounting principles generally accepted in the UnitedStates of America. The preparation of these financial statements requiresmanagement to make certain estimates and assumptions that affect the reportedamounts of assets and liabilities as of the date of the financial statementsand the reported revenues and expenses during the reporting period. Managementbases its estimates on historical experience and various other assumptions thatare believed to be reasonable under the circumstances, the results of whichform the basis for making judgments about the carrying values of assets andliabilities. Actual results could differ from these estimates.

 

Managementbelieves the Company’s critical accounting policies and areas that require moresignificant judgments and estimates used in the preparation of its financialstatements to be:

 

•        revenue recognition;

 

•        estimating valuation allowances, specifically the allowance fordoubtful accounts and inventory; and

 

•        valuation and useful lives of long-lived and intangible assets.

 

TheCompany typically recognizes revenue on product sales upon shipment to the enduser customers if contractual obligations have been substantially met and titleand risk of loss have passed to the customer, which is generally the case forsales of 2D machine vision systems, spare parts, accessories and some 3Dmachine vision sensors and systems. Some 3D machine vision system sales,however, may include post-shipment obligations or contractual terms that canonly be satisfied after shipment, such as installation and meeting customer-specifiedperformance requirements at the customer’s site. In these cases, revenue is notrecognized until these obligations have been satisfied and there is objectiveevidence that the applicable contract terms have been met. The Company alsorecognizes revenue on products sold to distributors upon

 

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shipmentbecause contracts with distributors do not include post-shipment obligations orany right of return provisions and pricing is fixed at the time of sale.Revenue related to application engineering, product development and customertraining services is recognized when the services are performed.

 

Managementestimates the allowance for doubtful accounts by analyzing accounts receivablebalances by age and considering specific factors about each individualcustomer’s financial condition. When it is deemed probable that all or aportion of a customer’s account is uncollectible, a corresponding amount isadded to the allowance for doubtful accounts.

 

TheCompany’s inventory primarily consists of parts and other materials that areused in the manufacture of vision systems. The Company generally only builds systems based on customer orders andas a result maintains only a minor amount of finished goods inventory.  Management establishes valuation reserves forestimated excess and obsolete materials inventory based on the differencebetween the cost of the inventory and its estimated market value.  Market value is estimated based on a varietyof assumptions about future product demand and market conditions. In view ofthe rapid pace of technological change in the machine vision industry, theCompany generally considers inventory that has had no usage for one year to beobsolete. In addition, changes in the Company’s product offerings or those oftheir competitors, may also result in excess or obsolete inventory.  Accordingly, these factors will also beconsidered in the determination of the market value of inventory.

 

Infiscal 2002, the Company’s analysis of the net realizable value of itsinventories included consideration of a variety of factors, including existinginventory quantities, historical usage, expected future demand, the effect oftechnological advances and the impact of newly-introduced products. As a resultof these analyses, the Company recorded a provision of $500,000.

 

Actualresults could differ from these estimates under different assumptions. If thefinancial condition of one or more of our customers were to deteriorate, or ifactual product demand or market conditions are less favorable than anticipatedby management, additional reserves may be required.

 

TheCompany’s long-lived assets include properties and equipment and intangibleassets such as patents.  These assetsare evaluated for possible impairment whenever changes in facts orcircumstances indicate that the carrying amount of an asset may not berecoverable. Recoverability of assets to be held and used is measured by acomparison of the carrying amount of an asset to the undiscounted future netcash flows expected to be generated by the assets. If these assets areconsidered to be impaired, the impairment to be recognized is measured by theamount by which the carrying amount of the assets exceeds the fair value of theassets.  During fiscal 2003, the Companydecided to close its Microelectronics Systems Division (MSD) business unit anddiscontinue selling the PPT861TM vision system.  As a result of this decision, certain of thepatents that were directly related to this product were considered impaired andthe remaining asset value was expensed.

 

During fiscal 2003****theCompany implemented a restructuring plan designed to specificallyrefocus the Company on its traditional core competencies, improve theefficiency of its product development and marketing efforts, and significantlyreduce its operating cost structure.  The restructuring plan included theclosure of the Microelectronics Systems Division which primarily involved theelimination of the PPT861 inspection product. In addition PPT has consolidatedcertain product development and engineering functions, and implemented certainother cost reduction actions within the Company.  These actions reducedthe size of the workforce by 24% and reduced annual operating expenses byapproximately $1.8 million.  Operatingexpenses were approximately  $1.8million in the fourth quarter of fiscal 2003 as compared with operatingexpenses of over $2.3 million in the first quarter of fiscal 2003.

 

**RESULTS OF OPERATIONS**

 

**Comparison of Year Ended October 31, 2003 to Year EndedOctober 31, 2002**

 

**Net Revenues**increased17% to $8.8 million in fiscal 2003 from $7.5 million in fiscal 2002. Unit salesof the Company’s machine vision systems increased to 503 in fiscal 2003 from234 in fiscal 2002. Net

 

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revenues increased primarily due to a slight upturn in the level of purchasesof capital equipment in the manufacturing sector of the global economy and dueto an increased acceptance of the Company’s new IMPACT 2D vision system.  The Company sold over 200 IMPACT units infiscal 2003 as compared with very few units in fiscal 2002, the year in whichthe product was introduced.  Overall, 2Drevenues grew 28% in fiscal 2003 over fiscal 2002 strengthened by IMPACT salesand sales to a large OEM customer that had not purchased vision systems from ussince the economic downturn began in July of 2001.  Sales to customers outside the United States represented 52% ofnet revenues in fiscal 2003, compared to 37% in fiscal 2002. Average sellingprices in fiscal 2003 were 46% lower on a per unit basis when compared tofiscal 2002, due to the relative size of the 3D revenues in fiscal 2002.  The growth in our 2D business in fiscal 2003and especially with respect to the lower-priced IMPACT vision systemsdramatically drove down our average selling price as compared with the prioryear.  We expect the trend of loweraverage selling price to continue in the next fiscal year.

 

**Gross Profit**improved 57.2% to $4.8 million in fiscal 2003 from $3.0 million infiscal 2002. Gross profit as a percentage of net revenues for fiscal 2003increased to 54.5% compared to 40.6% in fiscal 2002. The increase in grossprofit and gross profit margin is primarily as a result of the growth in netrevenues and as a result of recording a provision for excess and obsoleteinventory of $500,000 and a loss related to an adverse purchase commitment of$215,000 in costs of goods sold in fiscal 2002.

 

**Selling Expenses**decreased 14.2% to $3.1 million in fiscal2003, compared to $3.6 million in fiscal 2002. This decrease is the result ofcost-control measures implemented during fiscal 2003. As a percentage of netrevenues, fiscal 2003 selling expenses decreased to 35.3%, compared with 48.3%in fiscal 2002. The percentage decrease reflects both the increase in revenuesas well as the cost reductions.

 

**General and Administrative Expenses **increased 8.0% to $1.9 million in fiscal 2003, compared to $1.8 millionin fiscal 2002. As a percentage of net revenues, general and administrativeexpenses decreased to 21.9% for fiscal 2003, compared to 23.8% for fiscal 2002.The increase in general and administrative expenses is due to the recognitionof  $185,000 of expenses as a result ofthe decision to close the MSD business unit.  These costs related to accounts receivable that were considered tobe uncollectible and patent assets that were believed to be impaired.

 

**Research and Development Expenses**decreased 20.7% to $3.6 million in fiscal2003, from $4.6 million in fiscal 2002. Research and development expenses as apercentage of net revenues for fiscal 2003 decreased to 41.5%, compared to61.3% for fiscal 2002. The decrease in research and development spendingreflects the Company’s effort to control operating costs in a weak economicenvironment, while still supporting an aggressive new product developmentagenda focused both on its 2D and 3D technology.

 

**Restructuring and other costs**representnon-recurring costs incurred in connection with the closure of the MSDoperations and the decision todiscontinue the development, sale and manufacture of the PPT861 productline.  The costs associated with thisdecision totaled $362,000 and include severance costs related to 5 positionsand equipment write downs.  In addition,this decision resulted in the reduction in the value of certain receivablesassociated with this product.  Theaccounts receivable write down of $77,000 has been included in general andadministrative expenses.

 

**Interest and Other Income**increased to $113,000 in fiscal 2003,compared to $60,000 in fiscal 2002. This increase is primarily the result ofthe recognition of non-refundable down payments from customers under purchasecommitment obligations.

 

**Income Taxes:**There was no tax provision or benefit forfiscal 2003 or 2002 due to the net losses in the periods.

 

**Comparison of Year Ended October 31, 2002 to Year EndedOctober 31, 2001**

 

**Net Revenues**decreased 43.6% to $7.5 million in fiscal 2002 from $13.3 million infiscal 2001. Unit sales of the Company’s machine vision systems decreased to234 in fiscal 2002 versus 688 in fiscal 2001. Net revenues decreased primarilydue to a significant downturn in the level of purchases of capital

 

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equipmentin the manufacturing sector of the global economy. This economic downturn wasparticularly pronounced in the Company’s core markets, including electronicsand automotive. Sales to customers outside the United States represented 37% ofnet revenues in fiscal 2002, compared to 55% in fiscal 2001. Average sellingprices in fiscal 2002 were 65% higher on a per unit basis when compared tofiscal 2001 due to a significant decrease in international sales, whichgenerally occur through distributors at lower average sales prices. In addition,in fiscal 2001 the Company  had sales to one customer that provided lowerunit pricing due to the significant volume purchased by that customer.

 

**Gross Profit**decreased 55.9% to $3.0 million in fiscal 2002 from $6.8 million infiscal 2001. Gross profit as a percentage of net revenues for fiscal 2002decreased to 40.6% compared to 50.7% in fiscal 2001. The decrease in grossprofit and gross profit margin is primarily as a result of the decrease in netrevenues, but also as a result of recording a provision for excess and obsoleteinventory of $500,000 and a loss related to a purchase commitment of $215,000in fiscal 2002.

 

**Selling Expenses**decreased 18.2% to $3.6 million in fiscal2002, compared to $4.4 million in fiscal 2001. This decrease is the result ofcost-control measures implemented at the end of fiscal 2001. As a percentage ofnet revenues, fiscal 2002 selling expenses increased to 48.3%, compared with33.1% in fiscal 2001. The percentage increase is due to lower fiscal 2002revenues.

 

**General and Administrative Expenses**decreased 18.2% to $1.8 million in fiscal2002, compared to $2.4 million in fiscal 2001. As a percentage of net revenues,general and administrative expenses increased to 23.8% for fiscal 2002,compared to 18.0% for fiscal 2001. The decrease in general and administrativeexpenses reflects the cost-cutting measures implemented by the Company infiscal 2001 to lower its cost structure primarily through reductions in thenumber of employees and by aggressively reducing discretionary spending. Theincrease in general and administrative expenses as a percentage of revenuesreflects the lower fiscal 2002 revenues.

 

**Research and Development Expenses**decreased 8.0% to $4.6 million in fiscal2002, from $5.0 million in fiscal 2001. Research and development expenses as apercentage of net revenues for fiscal 2002 increased to 61.3%, compared to37.6% for fiscal 2001. The decrease in research and development spendingreflects the Company’s effort to control operating costs in a weak economic environment,while still supporting an aggressive new product development agenda focusedboth on its 2D and 3D technology.

 

**Interest and Other Income**decreased to $60,000 in fiscal 2002, comparedto $177,000 in fiscal 2001. The decrease in interest income is due to thedecline in balances of cash, cash equivalents and investments.

 

**Income Taxes:**There was no tax provision or benefit forfiscal 2002 or 2001 due to the net losses in the periods.

 

**LIQUIDITY AND CAPITAL RESOURCES**

 

Dueto its continuing losses, the Company has been using its existing cash and cashequivalents to fund the shortfall in cash generated from its operatingactivities. In order to satisfy the Company’s anticipated working capital andcapital resources needs, the Company completed a Shareholder Rights Offeringduring fiscal 2002 and raised net proceeds of approximately $4.3 million. TheOffering resulted in the issuance of approximately 4.5 million shares of CommonStock and approximately 2.25 million warrants to purchase a share of Common Stockat $2.50 per share until September 30, 2003. In the third quarter of fiscal 2003 the Board of Directors decided tolower the exercise price of the warrants issued in connection with theShareholder Rights Offering to $0.70 per share.  Warrants to purchase 1.6 million shares of stock were exercisedby the expiration date of September 30, 2003. The net proceeds to the Company were approximately $1.1 million afterexpenses.  The issuance of the shares ofstock and warrants and the related receipt of cash have been reflected in theaccompanying financial statements.

 

TheCompany believes that cash generated from operations together with the cashprovided by the warrant exercises and other potential sources of financing willbe sufficient to provide the cash necessary to

 

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meetits operating, working capital and capital resource obligations through thesecond quarter of fiscal 2005. The Company believes that it may need to obtainadditional financing thereafter to fund the working capital needs of itsoperating plan which anticipates revenue growth.

 

Inaddition to the working capital of $3.8 million and no long-term debt, theCompany believes that a variety of financing alternatives are availableincluding external borrowing against accounts receivable and inventory,customer or vendor financing, the issuance of additional stock to the public orto strategic partners,  orcustomer-sponsored research and development projects.

 

TheCompany financed its operations during fiscal 2003 through existing cash andcash equivalents,  the cash generatedfrom the exercise of the warrants issued as part of the Shareholder RightsOffering and through customer advances. Net cash used in operating activitiesduring fiscal 2003 was $1.8 million which represented a 60% decrease from cashused in operations in fiscal 2002. Accounts receivable increased $275,000 primarily due to the growth innet revenues in fiscal 2003, partially offset by strong collections.Inventories decreased $832,000 during fiscal 2003 due to the shift to theIMPACT visions system which has a lower inventory content than previousproducts, the elimination of the PPT861 product, and the utilization ofexisting inventory items.  Accountspayable and accrued expenses decreased by $69,000. Deferred revenue increased$541,000 from the prior year end as a result of a January 2003 productdevelopment and OEM agreement with ISMECA that contained a significant advancepayment for products that would be shipped in the future.

 

Netcash used by investing activities was $190,000 in fiscal 2003, primarilyrelated to fixed asset additions. During fiscal 2002, fixed asset additionstotaled $255,000.  Fixed asset additionsin fiscal 2004 are expected to be slightly higher than in fiscal 2003.

 

Netcash provided by financing activities was $1.2 million for fiscal 2003,primarily from the exercise of the warrants that were issued in connection withthe Shareholder Rights Offering. In fiscal 2002 the Company generated $4.4 millionof cash primarily from the proceeds of the Shareholder Rights Offering.

 

TheCompany incurred a net loss of $4,123,000 for fiscal 2003, and has anaccumulated deficit of $29.6 million as of October 31, 2003. There can be noassurance that the Company will not incur additional losses, will generatepositive cash flow from its operations, or that the Company will attain orthereafter sustain profitability in any future period. To the extent theCompany continues to incur losses or grows in the future, its operating andinvesting activities may use cash and, consequently, may require the Company toobtain additional sources of financing in the future.

 

TheCompany does not have relationships with unconsolidated entities or financialpartnerships, such as entities often referred to as structured finance orspecial purpose entities, which would have been established for the purpose offacilitating off-balance-sheet financial arrangements. As such, the Company isnot materially exposed to any financing, liquidity, market or credit risk thatcould arise if we had engaged in such arrangements.

 

TheCompany entered into a ten-year lease in May 1999 for approximately 59,000square feet of office and manufacturing space in Eden Prairie, Minnesota. Thelease commenced on June 1, 1999 at an initial monthly rate of approximately$51,000. Annual rental and common area maintenance (CAM) payment obligationsare approximately $1.0 million in the aggregate.  The lease agreement also includes a provision whereby in July2005, the landlord can, at its option, require the Company to take 17,000square feet of additional space in the same building.

 

**RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS**

 

In June 2002, FASB issued Statement of Financial Accounting Standards(SFAS) No. 146, “Accounting for Costs Associated with Exit or DisposalActivities.”  SFAS No. 146 requires therecognition of a liability for a cost associated with an exit or disposalactivity when the liability is incurred versus the date the Company commits toan exit plan.  In addition, SFAS No. 146states the liability should

 

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be initially measured at fair value. The requirements of SFAS No. 146 are effective for exit or disposalactivities that are initiated after December 31, 2002.  The adoption of SFAS No. 146 did not have amaterial effect on the Company’s financial statements.

 

In December 2002, the FASB issued SFAS No. 148, “Accounting forStock-Based Compensation - Transition and Disclosure.”  SFAS No. 148 is an amendment to SFAS No. 123providing alternative methods of transition for a voluntary change to the fairvalue based method of accounting for stock-based employee compensation and alsoprovides required additional disclosures about the method of accounting forstock-based employee compensation.  Theamendments are effective for financial statements for fiscal years ending afterDecember 15, 2002 and for the interim periods beginning after December 15,2002.  The Company adopted the annualdisclosure provisions of SFAS No. 148. The Company chose not to adopt the voluntary change to the fair valuebased method of accounting for stock-based employee compensation, pursuant toSFAS No. 148, which, if adopted, could have a material effect on the Company’sfinancial statements.

 

In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement133 on Derivative Instruments and Hedging Activities,” effective for contractsentered into or modified after June 30, 2003. This amendment clarifies when a contract meets the characteristics of aderivative, clarifies when a derivative contains a financing component andamends certain other existing pronouncements. The adoption of  SFAS No. 149 didnot have a material effect on the Company’s financial statements.

 

In May 2003, the FASB issued SFAS No. 150, “Accounting for CertainFinancial Instruments with Characteristics of both Liabilities andEquity.”  SFAS No. 150 is effective forfinancial instruments entered into or modified after May 31, 2003, andotherwise is effective at the beginning of the first interim period beginningafter June 15, 2003.  SFAS No. 150requires the classification as a liability of any financial instruments with amandatory redemption feature, an obligation to repurchase equity shares, or a conditionalobligation based on the issuance of a variable number of its equityshares.  The Company does not have anyfinancial instruments as defined by SFAS No. 150.  The adoption of SFAS No. 150 did not have a material effect onthe Company’s financial statements.

 

InNovember 2002, the FASB issued FASB Interpretation No. 45, “Guarantor’sAccounting and Disclosure Requirements for Guarantees, Including IndirectGuarantees of Indebtedness of Others” (FIN 45).   FIN 45 clarifies the requirements for a guarantor’s accountingfor and disclosure of certain guarantees issued and outstanding.   The initial recognition and initialmeasurement provisions of FIN 45 were applicable to guarantees issued ormodified after December 31, 2002.  The disclosure requirements of FIN 45 are effective for financialstatements for periods ending after December 15, 2002.   The adoption of FIN 45 did not impact theCompany’s financial statements.

 

InJanuary 2003, the FASB issued FASB Interpretation No. 46, “Consolidation ofVariable Interest Entities” (FIN 46). FIN 46 states that companies that have exposure to the economic risksand potential rewards from another entity’s assets and activities have acontrolling financial interest in a variable interest entity and should consolidatethe entity, despite the absence of clear control through a voting equityinterest.  The consolidationrequirements apply to all variable interest entities created after January 31,2003.  For variable interest entitiesthat existed prior to February 1, 2003, the consolidation requirements areeffective for annual or interim periods beginning after December 15, 2004.  Disclosure of significant variable interestentities is required in all financial statements issued after January 31, 2003,regardless of when the variable interest was created.  The Company does not expect the adoption of FIN 46 to have amaterial impact on the Company’s financial statements.

 

**EFFECTS OF INFLATION**

 

TheCompany believes that the effect of inflation has not been material during eachof the years ended October 31, 2003, 2002 and 2001.

 

20

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**Quantitative and Qualitative Disclosures About Market Risk**

 

TheCompany believes it does not have material exposure to quantitative and qualitativemarket risks. The carrying amounts reflected in the balance sheets of cash andcash equivalents, investments, trade receivables and trade payables approximatefair value at October 31, 2003 due to the short maturities of theseinstruments.

 

**INTEREST RATE RISK**

 

TheCompany’s cash and cash equivalents represent investments purchased withoriginal maturities of three months or less. Given the short maturities and investment grade quality of the portfolioholdings at October 31, 2003,  a 100basis point rise in interest rates would not be expected to have a materialadverse impact on the fair value of the Company’s cash and cash equivalents. Asa result, the Company does not currently hedge these interest rate exposures.

 

**FOREIGN CURRENCY EXCHANGE RATE RISK**

 

Historically,the Company’s international sales, which are primarily in Europe, Canada, SouthAmerica, Japan and Southeast Asia, have been transacted in U.S. Dollars. TheCompany does have one customer where sales are denominated in Japanese Yen.  As of October 31, 2003 this customer’soutstanding balance represented approximately 10% of our year-end accountsreceivable.  This customer typicallypays within 60 days of billing.  TheCompany does not engage in foreign currency speculation.  At October 31, 2003, the Company had noforeign exchange contracts outstanding.

 

**Item 7. FINANCIAL STATEMENTS**

 

Thefinancial statements are listed in Item 13 of this Form 10-KSB.

 

**Item 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ONACCOUNTING AND FINANCIAL DISCLOSURE**

 

Ina Form 8-K dated July 1, 2003 the Company announced that it had changed itsindependent accountants**.**

 

**Item 8A. CONTROLS AND PROCEDURES**

 

**(a)****                                 ****Evaluation of DisclosureControls and Procedures.**

 

TheCompany’s Chief Executive Officer, Joseph Christenson, and Chief FinancialOfficer, Timothy Clayton, have reviewed the Company’s disclosure controls andprocedures as of the end of the period covered by this report. Based upon thisreview, these officers believe that the Company’s disclosure controls and proceduresare effective in ensuring that material information related to the Company ismade known to them by others within the Company.

 

**(b)****                                 ****Changes in Internal ControlsOver Financial Reporting.**

 

Therehave been no significant changes in internal control over financial reportingthat occurred during the fiscal period covered by this report that havematerially affected, or are reasonably likely to materially affect, theregistrant’s internal control over financial reporting.

 

21

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**PART III**

 

**Item 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROLPERSONS: COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT**

 

Informationrequired under this item with respect to directors is contained in the section“Election of Directors” in the Company’s Proxy Statement for the Annual Meetingof Shareholders (the “2004 Proxy Statement”), a definitive copy of which willbe filed within 120 days of October 31, 2003 and is incorporated herein byreference.  Information concerningexecutive officers is set forth in the Section entitled “Executive Officers ofthe Company” in the 2004 Proxy Statement and is incorporated herein byreference.

 

Informationconcerning compliance with Section 16(a) is contained in the section entitled“Compliance with Section 16(a) of the Securities Exchange Act of 1934,” and isincorporated herein by reference. Information concerning the Company’s Code of Ethics is included in theSection entitled “Other Information Regarding the Board of Directors,” and isincorporated herein by reference.

 

**Item 10. EXECUTIVE COMPENSATION**

 

Informationrequired under this item is contained in the section entitled “ExecutiveCompensation and Other Information,” in the Company’s 2004 Proxy Statement andis incorporated herein by reference.

 

**Item 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS ANDMANAGEMENT AND RELATED STOCKHOLDERS MATTERS**

 

Informationrequired under this item with respect to share ownership is contained in thesection entitled “Security Ownership of Principal Shareholders andManagement”  in the Company’s 2004 ProxyStatement and is incorporated herein by reference.

 

Informationrequired under this Item with respect to stock ownership under equitycompensation plans is contained in the section entitled “Equity CompensationPlan Information” in the Company’s 2004 Proxy Statement and is incorporatedherein by reference.

 

**Item 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS**

 

Informationrequired under this item is contained in the section entitled “CertainTransactions” in the Company’s 2004 Proxy Statement and is incorporated hereinby reference.

 

**Item 13. EXHIBITS AND REPORTS ON FORM 8-K**

 

**(a) Documents filed as Part of this Report**

 

(1)FINANCIAL STATEMENTS. The following financial statements of the Company arehereby included in this Form 10-KSB.

 
|   | Report of Independent  Auditors—Virchow, Krause & Company, LLP                      |
|--------|----------------------------------------------------------------------------------------------|
|   | Report of Independent  Auditors—PricewaterhouseCoopers, LLP                             |
|   | Statements  of Operations for the three years ended October 31, 2003, 2002 and 2001          |
|   | Balance Sheets as  of October 31, 2003 and 2002                                              |
|   | Statements  of Cash Flows for the Years ended October 31, 2003, 2002 and 2001                |
|   | Statements of  Shareholders’ Equity for the Years ended October 31, 2003, 2002 and 2001 |
|   | Notes to Financial  Statements                                                               |

 

22

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(2) LISTING OF EXHIBITS

 
| **Exhibit No.** |   | **Description**                                                                                                                                                                                                                                                                                                                                                          |
|-----------------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1             |   | Restated Articles of Incorporation of PPT Vision, Inc. (incorporated  by reference to Exhibit 3.1 of 2002 Form 10-KSB)                                                                                                                                                                                                                                                   |
|            |   |                                                                                                                                                                                                                                                                                                                                                                     |
| 3.2             |   | By-Laws of PPT Vision (incorporated by reference to Exhibit 3.2 of  1996 Form 10-K)                                                                                                                                                                                                                                                                                      |
|            |   |                                                                                                                                                                                                                                                                                                                                                                     |
| 4.1             |   | Preferred Stock Purchase Rights Agreement, as amended (incorporated  by reference to Exhibit 1 to June 17, 1999 Registration Statement on Form  8-A, as amended by Exhibit 1 to October 19, 1999 Amendment No. 1 to  Registration Statement on Form 8-A/A and as amended by amendment No. 1 to  March 11, 2002 Amendment No. 2 to Registration Statement on Form 8-A/A.) |
|            |   |                                                                                                                                                                                                                                                                                                                                                                     |
| 10.1            |   | Employment Agreement with Joseph C. Christenson dated as of May 7,  1984 (incorporated by reference from Exhibit 10.4 to May 15, 1996 Form S-2)                                                                                                                                                                                                                          |
|            |   |                                                                                                                                                                                                                                                                                                                                                                     |
| 10.2*           |   | PPT VISION, Inc. 1988 Stock Option Plan, as amended (incorporated by  reference to Exhibit 10.6 of 1997 Form 10-K)                                                                                                                                                                                                                                                       |
|            |   |                                                                                                                                                                                                                                                                                                                                                                     |
| 10.3*           |   | PPT VISION, Inc. 1997 Stock Option Plan (incorporated by reference to  Exhibit 10.7 of 1997 Form 10-K)                                                                                                                                                                                                                                                                   |
|            |   |                                                                                                                                                                                                                                                                                                                                                                     |
| 10.4*           |   | PPT VISION, Inc. 2000 Stock Option Plan (incorporated by reference to  Exhibit 10.5 of 2002 Form 10-KSB)                                                                                                                                                                                                                                                                 |
|            |   |                                                                                                                                                                                                                                                                                                                                                                     |
| 10.5            |   | Lease Agreement dated July 17, 1998 for facilities at Prairie  Crossroads Corporate Center, Eden Prairie, Minnesota (incorporated by  reference to Exhibit 10.7 of 1999 Form 10-K)                                                                                                                                                                                       |
|            |   |                                                                                                                                                                                                                                                                                                                                                                     |
| 10.6            |   | First Amendment of Lease dated October 16, 1999 for Facilities at the  Prairie Crossroads Corporate Center, Eden Prairie, Minnesota (incorporated by  reference to Exhibit 10.8 of 1999 Form 10-K)                                                                                                                                                                       |
|            |   |                                                                                                                                                                                                                                                                                                                                                                     |
| 21              |   | The Company has no subsidiaries                                                                                                                                                                                                                                                                                                                                          |
|            |   |                                                                                                                                                                                                                                                                                                                                                                     |
| 23.1            |   | Consent of Virchow, Krause & Company, LLP                                                                                                                                                                                                                                                                                                                            |
|            |   |                                                                                                                                                                                                                                                                                                                                                                     |
| 23.2            |   | Consent of PricewaterhouseCoopers LLP                                                                                                                                                                                                                                                                                                                                    |
|            |   |                                                                                                                                                                                                                                                                                                                                                                     |
| 31.1            |   | Certification of CEO Pursuant to Section 302 of the Sarbanes-Oxley  Act and Rules 13a-14 and 15d-14 of the Exchange Act.                                                                                                                                                                                                                                                 |
|            |   |                                                                                                                                                                                                                                                                                                                                                                     |
| 31.2            |   | Certification of CFO Pursuant to Section 302 of the Sarbanes-Oxley  Act and Rules 13a-14 and 15d-14 of the Exchange Act.                                                                                                                                                                                                                                                 |
|            |   |                                                                                                                                                                                                                                                                                                                                                                     |
| 32.1            |   | Certification of CEO and CFO Pursuant to Section 906 of the  Sarbanes-Oxley Act and 18 U.S.C. Section 1350.                                                                                                                                                                                                                                                              |

 

----

*Indicates compensatory plan

 

23

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**(b) Reports on Form 8-K**

 

The following reports on Form 8-K were filed or furnished during thequarter ended October 31, 2003:

 

(1) Form 8-K dated August 15, 2003 reporting under Item 12 the PPTVision, Inc. results of operations for the quarter ended July 31,2003.

 

(2) Form 8-K dated September 30, 2003, reporting under Item 5 thatholders of a total of 1,688,705 warrants exercised their warrants prior to thewarrant expiration date of September 30, 2003, resulting in gross proceeds of$1,182,000 to the Company.

 

(3) Form 8-K dated October 14, 2003, reporting under Item 5 thereceipt of an order for 40 IMPACT machine vision micro-systems.

 

## **Item14.  PRINCIPAL ACCOUNTANT FEES ANDSERVICES**

 

Not yet applicable.

 

24

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**SIGNATURES**

 

Pursuant to the requirements of Section 13 of the Securities ExchangeAct of 1934, the Registrant has duly caused this report to be signed on itsbehalf by the undersigned, thereunto duly authorized.

 
| **PPT VISION, INC.**          |
|-------------------------------|
|                          |   |
| Date : January  26, 2004 | **By:** | **/s/Joseph C. Christenson** |   |
|                          |   | Joseph C. Christenson |   |
|                          | (Principal Executive Officer) |

 

**Signatures and Power of Attorney**

 

Pursuant to the requirements of the Securities Exchange Act of 1934,this Report has been signed by the following persons on behalf of theRegistrant, in the capacities, and on the dates, indicated. Each person whosesignature appears below constitutes and appoints Joseph C. Christenson andTimothy C. Clayton as his true and lawful attorney-in-fact and agent, eachacting alone, with full power of substitution and resubstitution, for him andin his name, place, and stead, in any and all capacities, to sign any or allamendments to this Annual Report on Form 10-KSB and to file the same, with theexhibits thereto, and other documents in connection therewith, with theSecurities and Exchange Commission.

 
| Date: January 26, 2004 | **/s/ Joseph C. Christenson**       |   |
|------------------------|-------------------------------------|--------|
|                   | Joseph C. Christenson               |   |
|                   | President, Director                 |   |
|                   | (Principal Executive Officer)       |   |
|                   |                                |   |
| Date: January 26, 2004 | **/s/ Timothy C. Clayton**          |   |
|                   | Timothy C. Clayton                  |   |
|                   | Chief Financial Officer             |   |
|                   | (Principal Accounting Officer)      |   |
|                   |                                |   |
| Date: January 26, 2004 | **/s/ Robert W. Heller, Director**  |   |
|                   | Robert W. Heller, Director          |   |
|                   |                                |   |
| Date: January 26, 2004 | **/s/ David C. Malmberg, Director** |   |
|                   | David C. Malmberg, Director         |   |
|                   |                                |   |
| Date: January 26, 2004 | **/s/ Peter R. Peterson, Director** |   |
|                   | Peter R. Peterson, Director         |   |
|                   |                                |   |
| Date: January 26, 2004 | **/s/ Benno G. Sand, Director**     |   |
|                   | Benno G. Sand, Director             |   |

 

25

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**REPORTOF INDEPENDENT AUDITORS**

 

 

Shareholders, Audit Committeeand Board of DirectorsPPT VISION, Inc.Eden Prairie, Minnesota

 

We have audited theaccompanying balance sheet of PPT VISION, Inc. as of October 31, 2003 and therelated statements of operations, shareholders’ equity and cash flows for theyear then ended.  These financialstatements are the responsibility of the Company’s management.  Our responsibility is to express an opinionon these financial statements based on our audit.

 

We conducted our audit inaccordance with auditing standards generally accepted in the United States ofAmerica.  Those standards require thatwe plan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement.  An audit includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financialstatements.  An audit also includesassessing the accounting principles used and significant estimates made by managementas well as evaluating the overall financial statement presentation.  We believe that our audit provides areasonable basis for our opinion.

 

In our opinion, the financialstatements referred to above present fairly, in all material respects, the financialposition of PPT VISION, Inc. as of October 31, 2003 and the results of itsoperations and its cash flows for the year then ended in conformity withaccounting principles generally accepted in the United States of America.

 

 
|   | /s/ Virchow,  Krause & Company, LLP |
|--------|-----------------------------------------|

 

Minneapolis, Minnesota

December 2, 2003

 

26

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**REPORT OFINDEPENDENT AUDITORS**

 

**To theShareholders and Board of Directors of PPT VISION, Inc.**

 

In our opinion, theaccompanying balance sheet as of October 31, 2002 and the relatedstatements of operations, shareholders’ equity and cash flows for the yearsended October 31, 2002 and 2001 present fairly, in all material respects,the financial position of PPT VISION, Inc. at October 31, 2002, and the resultsof its operations and its cash flows for each of the two fiscal years in theperiod ended October 31, 2002 in conformity with accounting principlesgenerally accepted in the United States of America. These financial statementsare the responsibility of the Company’s management; our responsibility is toexpress an opinion on these financial statements based on our audits. Weconducted our audits of these statements in accordance with auditing standardsgenerally accepted in the United States of America, which require that we planand perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement. An audit includesexamining, on a test basis, evidence supporting the amounts and disclosures inthe financial statements, assessing the accounting principles used andsignificant estimates made by management, and evaluating the overall financialstatement presentation. We believe that our audits provide a reasonable basisfor our opinion.

 

The accompanying financialstatements have been prepared assuming that the Company will continue as agoing concern. As discussed in Note 3 to the 2002 financial statements, theCompany has sustained losses and negative cash flows from operating activitiesin recent years and may require additional capital to support futureoperations, which raises substantial doubt about the Company’s ability tocontinue as a going concern. Management’s plans in regard to these matters arealso described in Note 3 to the 2002 financial statements. The financialstatements do not include any adjustments that might result from the outcome ofthis uncertainty.

 
| **/**s**/**PricewaterhouseCoopers  LLP |   |
|----------------------------------------|--------|

 

**PricewaterhouseCoopersLLP**Minneapolis,MinnesotaDecember 6, 2002, except as to Note 3 to the 2002 financial statements which isas of January 9, 2003

 

27

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**STATEMENTS OF OPERATIONS**

 
| **YEAR  ENDED OCTOBER 31,**          |   | **2003**   |       | **2002**   |   | **2001**   |   |
|--------------------------------------|--------|------------|------------|------------|--------|------------|--------|
| Net revenues                         |   | $          | 8,765,000  |       | $      | 7,474,000  |   | $ | 13,326,000 |   |
| Cost of sales                        |   | 3,987,000  |       | 4,436,000  |   | 6,566,000  |   |
| Gross profit                         |   | 4,778,000  |       | 3,038,000  |   | 6,760,000  |   |
| Expenses:                            |   |       |       |       |   |       |   |
| Selling                              |   | 3,095,000  |       | 3,609,000  |   | 4,408,000  |   |
| General and administrative           |   | 1,923,000  |       | 1,781,000  |   | 2,409,000  |   |
| Research and development             |   | 3,634,000  |       | 4,583,000  |   | 4,963,000  |   |
| Restructuring charges                |   | 362,000    |       | —     |   | —     |   |
| Total expenses                       |   | 9,014,000  |       | 9,973,000  |   | 11,780,000 |   |
| Loss from operations                 |   | (4,236,000 | )          | (6,935,000 | )      | (5,020,000 | )      |
| Interest and other income            |   | 113,000    |       | 60,000     |   | 177,000    |   |
| Net loss                             |   | $          | (4,123,000 | )          | $      | (6,875,000 | )      | $ | (4,843,000 | ) |
| Net loss per share:                  |   |       |       |       |   |       |   |
| Basic                                |   | $          | (0.40      | )          | $      | (0.90      | )      | $ | (0.88 | ) |
| Diluted                              |   | $          | (0.40      | )          | $      | (0.90      | )      | $ | (0.88 | ) |
| Weighted average shares outstanding: |   |       |       |       |   |       |   |
| Basic                                |   | 10,253,975 |       | 7,631,000  |   | 5,492,000  |   |
| Diluted                              |   | 10,253,975 |       | 7,631,000  |   | 5,492,000  |   |

 

The accompanying notes are an integral part of thefinancial statements.

 

28

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**BALANCESHEETS**

 
| **OCTOBER 31,**                                                                                                                              |   | **2003**    |      | **2002**    |   |
|---------------------------------------------------------------------------------------------------------------------------------------------------|--------|-------------|-----------|-------------|--------|
| ASSETS                                                                                                                                            |   |        |      |        |   |
| Current assets                                                                                                                                    |   |        |      |        |   |
| Cash and cash equivalents                                                                                                                         |   | $           | 2,086,000 |        | $      | 2,932,000 |   |
|                                                                                                                                              |   |        |      |        |   |
| Accounts receivable, net                                                                                                                          |   | 2,118,000   |      | 1,843,000   |   |
| Inventories                                                                                                                                       |   | 1,021,000   |      | 1,853,000   |   |
| Other current assets                                                                                                                              |   | 319,000     |      | 294,000     |   |
| Total current assets                                                                                                                              |   | 5,544,000   |      | 6,922,000   |   |
| Property and equipment, net                                                                                                                       |   | 708,000     |      | 1,417,000   |   |
| Intangible assets, net                                                                                                                            |   | 2,141,000   |      | 2,545,000   |   |
| Other assets, net                                                                                                                                 |   | 53,000      |      | 53,000      |   |
| Total assets                                                                                                                                      |   | $           | 8,446,000 |        | $      | 10,937,000 |   |
|                                                                                                                                              |   |        |      |        |   |
| LIABILITIES AND SHAREHOLDERS’ EQUITY                                                                                                         |   |        |      |        |   |
| Current liabilities                                                                                                                               |   |        |      |        |   |
| Accounts payable                                                                                                                                  |   | $           | 699,000   |        | $      | 676,000 |   |
| Accrued expenses                                                                                                                                  |   | 502,000     |      | 593,000     |   |
| Deferred revenue                                                                                                                                  |   | 565,000     |      | 24,000      |   |
| Total current liabilities                                                                                                                         |   | 1,766,000   |      | 1,293,000   |   |
|                                                                                                                                              |   |        |      |        |   |
| Commitments and contingencies                                                                                                                     |   |        |      |        |   |
| Shareholders’ equity                                                                                                                         |   |        |      |        |   |
| Preferred stock $.10 par value; authorized  10,000,000 shares, none issued and outstanding                                                        |   |        |      |        |   |
| Common stock $.10 par value; authorized  20,000,000 and 10,000,000 shares; issued and outstanding 11,802,801 and  10,067,950 shares, respectively |   | 1,180,000   |      | 1,007,000   |   |
| Capital in excess of par value                                                                                                                    |   | 35,080,000  |      | 34,094,000  |   |
| Accumulated deficit                                                                                                                               |   | (29,580,000 | )         | (25,457,000 | )      |
|                                                                                                                                              |   |        |      |        |   |
| Total shareholders’ equity                                                                                                                   |   | 6,680,000   |      | 9,644,000   |   |
| Total liabilities and shareholders’ equity                                                                                                   |   | $           | 8,446,000 |        | $      | 10,937,000 |   |

 

The accompanying notes are an integral part of the financial statements

 

29

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**STATEMENTSOF CASH FLOWS**

 
| **YEAR ENDED OCTOBER 31,**                                                  |   | **2003**   |       | **2002**   |   | **2001**   |   |
|----------------------------------------------------------------------------------|--------|------------|------------|------------|--------|------------|--------|
| Net loss                                                                         |   | $          | (4,123,000 | )          | $      | (6,875,000 | )      | $ | (4,843,000 | ) |
| Adjustment to reconcile net loss  to net cash used in operating activities: |   |       |       |       |   |       |   |
| Depreciation and amortization                                                    |   | 1,163,000  |       | 1,336,000  |   | 1,404,000  |   |
| Stock based compensation                                                         |   | 8,000      |       | 20,000     |   | —     |   |
| Provision for excess and obsolete  inventories                                   |   | —     |       | 500,000    |   | —     |   |
| Loss on disposal of assets                                                       |   | 141,000    |       | —     |   | 2,000      |   |
| Gain (loss) on sales of investments                                              |   | —     |       | (12,000    | )      | 74,000     |   |
| Change in assets and liabilities:                                                |   |       |       |       |   |       |   |
| Accounts receivable, net                                                         |   | (275,000   | )          | 332,000    |   | 3,027,000  |   |
| Inventories                                                                      |   | 832,000    |       | 239,000    |   | 298,000    |   |
| Other assets                                                                     |   | (25,000    | )          | (66,000    | )      | 97,000     |   |
| Restricted cash                                                                  |   | —     |       | —     |   | 400,000    |   |
| Accounts payable                                                                 |   | 23,000     |       | 182,000    |   | (1,059,000 | )      |
| Accrued expenses                                                                 |   | (92,000    | )          | 115,000    |   | (227,000   | )      |
| Deferred revenue                                                                 |   | 541,000    |       | (262,000   | )      | 3,000      |   |
| Total adjustments                                                                |   | 2,316,000  |       | 2,384,000  |   | 4,019,000  |   |
| Net cash used in operating activities                                            |   | (1,807,000 | )          | (4,491,000 | )      | (824,000   | )      |
| Cash flows from investing activities:                                            |   |       |       |       |   |       |   |
| Purchase of property and equipment                                               |   | (161,000   | )          | (255,000   | )      | (676,000   | )      |
| Purchase of investments                                                          |   | —     |       | —     |   | —     |   |
| Sales and maturities of investments                                              |   | —     |       | 502,000    |   | 2,506,000  |   |
| Net investment in other long-term assets                                         |   | (29,000    | )          | (42,000    | )      | (77,000    | )      |
| Net cash provided by (used in) investing  activities                             |   | (190,000   | )          | 205,000    |   | 1,753,000  |   |
| Cash flows from financing activities:                                            |   |       |       |       |   |       |   |
| Proceeds from issuance of common stock, net  of offering costs                   |   | 1,151,000  |       | 4,413,000  |   | 58,000     |   |
| Net cash provided by financing activities                                        |   | 1,151,000  |       | 4,413,000  |   | 58,000     |   |
| Net increase (decrease) in cash and cash  equivalents                            |   | (846,000   | )          | 127,000    |   | 987,000    |   |
| Cash and cash equivalents at beginning of  year                                  |   | 2,932,000  |       | 2,805,000  |   | 1,818,000  |   |
| Cash and cash equivalents at end of year                                         |   | $          | 2,086,000  |       | $      | 2,932,000  |   | $ | 2,805,000 |   |
|                                                                             |   |       |       |       |   |       |   |
| Supplemental disclosure of cash flow  information:                               |   |       |       |       |   |       |   |
| Cash paid during the year for:                                                   |   |       |       |       |   |       |   |
| Income tax                                                                       |   | $          | —     |       | $      | —     |   | $ | — |   |
| Interest                                                                         |   | $          | —     |       | $      | —     |   | $ | — |   |

 

The accompanying notes are an integral part of the financialstatements.

 

30

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**STATEMENTSOF SHAREHOLDERS’ EQUITY**

 
|                                                                   |   | **COMMON  SHARES** |   | **STOCK  AMOUNT** |      | **CAPITAL  IN  EXCESS OF  PAR VALUE** |   | **ACCUMULATED  OTHER  COMPREHENSIVE  INCOME** |   | **ACCUMULATED  (DEFICIT)** |   | **TOTAL  SHAREHOLDERS’  EQUITY** |        |
|------------------------------------------------------------------------|--------|--------------------|--------|-------------------|-----------|---------------------------------------|--------|-----------------------------------------------|--------|----------------------------|--------|---------------------------------------|-------------|
| October 31, 2000                                                  |   | 5,479,782          |   | $                 | 548,000   |                                  | $      | 30,062,000                                    |   | —                     |   | $                                     | (13,739,000 | ) | $ | 16,871,000 |   |
|                                                                   |   |               |   |              |      |                                  |   |                                          |   |                       |   |                                  |        |
| Stock issued through the employee stock purchase  plan                 |   | 32,336             |   | 3,000             |      | 55,000                                |   |                                          |   |                       |   | 58,000                                |        |
|                                                                   |   |               |   |              |      |                                  |   |                                          |   |                       |   |                                  |        |
| Comprehensive loss:                                                    |   |               |   |              |      |                                  |   |                                          |   |                       |   |                                  |        |
| Net loss                                                               |   |               |   |              |      |                                  |   |                                          |   | (4,843,000                 | )      | (4,843,000                            | )           |
| Change in unrealized gain (loss) on investments                        |   |               |   |              |      |                                  |   | 12,000                                        |   |                       |   | 12,000                                |        |
| Total comprehensive loss                                               |   |               |   |              |      |                                  |   |                                          |   |                       |   | (4,831,000                            | )           |
| October 31, 2001                                                  |   | 5,512,118          |   | 551,000           |      | 30,117,000                            |   | 12,000                                        |   | (18,582,000                | )      | 12,098,000                            |        |
| Stock based compensation                                               |   |               |   |              |      | 20,000                                |   |                                          |   |                       |   | 20,000                                |        |
| Stock issued through the employee stock purchase  plan                 |   | 71,971             |   | 7,000             |      | 48,000                                |   |                                          |   |                       |   | 55,000                                |        |
| Stock issued in Shareholder Rights Offering, net of  offering costs    |   | 4,483,861          |   | 449,000           |      | 3,909,000                             |   |                                          |   |                       |   | 4,358,000                             |        |
| Comprehensive loss:                                                    |   |               |   |              |      |                                  |   |                                          |   |                       |   |                                  |        |
| Net loss                                                               |   |               |   |              |      |                                  |   |                                          |   | (6,875,000                 | )      | (6,875,000                            | )           |
| Change in unrealized gain (loss) on investments                        |   |               |   |              |      |                                  |   | (12,000                                       | )      |                       |   | (12,000                               | )           |
| Total comprehensive loss                                               |   |               |   |              |      |                                  |   |                                          |   |                       |   | (6,887,000                            | )           |
|                                                                   |   |               |   |              |      |                                  |   |                                          |   |                       |   |                                  |        |
| October, 31, 2002                                                      |   | 10,067,950         |   | 1,007,000         |      | 34,094,000                            |   | —                                        |   | (25,457,000                | )      | 9,644,000                             |        |
| Stock based compensation                                               |   |               |   |              |      | 8,000                                 |   |                                          |   |                       |   | 8,000                                 |        |
| Stock issued through the employee stock purchase  plan                 |   | 46,141             |   | 4,000             |      | 25,000                                |   |                                          |   |                       |   | 29,000                                |        |
| Stock issued through the exercise of warrants, net  of cost of $60,000 |   | 1,688,710          |   | 169,000           |      | 953,000                               |   |                                          |   |                       |   | 1,122,000                             |        |
| Net loss and comprehensive loss                                        |   |               |   |              |      |                                  |   |                                          |   | (4,123,000                 | )      | (4,123,000                            | )           |
| October 31, 2003                                                  |   | 11,802,801         |   | $                 | 1,180,000 |                                  | $      | 35,080,000                                    |   | $                          | — |                                  | $           | (29,580,000 | ) | $ | 6,680,000 |   |
|                                                                        |        |                    |        |                   |           |                                       |        |                                               |        |                            |        |                                       |             |  |  |  |  |  |

 

The accompanying notes are an integral partof the financial statements.

 

31

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**NOTES TO FINANCIAL STATEMENTS**

**OCTOBER 31, 2003, 2002 and 2001**

 

**NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTINGPOLICIES**

 

**NATURE OF OPERATIONS**

 

PPT VISION, Inc. designs, manufactures, markets, and integrates 2D and3D machine vision-based automated inspection systems for manufacturingapplications. Machine vision-based inspection systems enable manufacturers toincrease the quality of manufactured parts and improve the productivity ofmanufacturing processes. The Company’s 2D machine vision product line is soldon a global basis to end-users, system integrators, distributors and originalequipment manufacturers (OEM’s) primarily in the electronic and semiconductorcomponent, automotive, medical device, and packaged goods industries. TheCompany’s SpeedScan 3DTM sensor, incorporating the Company’s patentedhigh-speed Scanning Moiré InterferometryTM technology is sold tooriginal equipment manufacturers for specific applications targeted atinspection of leaded and bumped components in the semiconductor back-end manufacturingprocess, inspection of surface-mount electronic connectors, and inspection ofcomponents used in hard disk drives.

 

**USE OF ESTIMATES**

 

The preparation of financial statements in conformity with accountingprinciples generally accepted in the United States of America requiresmanagement to make estimates and assumptions that affect the reported amountsof assets and liabilities and disclosure of contingent assets and liabilitiesat the date of the financial statements and the reported amounts of revenuesand expenses during the reporting period. Actual results could differ from those estimates.

 

**REVENUE RECOGNITION**

 

The Company typically recognizes revenue on product sales upon shipmentto end-user customers if contractual obligations have been substantially metand title and risk of loss have passed to the customer, which is generally thecase for sales of 2D machine vision systems, spare parts, accessories and some3D machine vision sensors and systems. Some 3D machine vision system sales, however,may include post-shipment obligations or contractual terms that can only besatisfied after shipment, such as installation and meeting customer-specifiedperformance requirements at the customer’s site. In these cases, revenue is notrecognized until these obligations have been satisfied and there is objectiveevidence that the applicable contract terms have been met. In situations whereequipment is shipped but revenue and the related receivable are not recognized,the cost of the equipment is included in inventories on our balance sheet.

 

The Company also recognizes revenue on products sold to distributorsupon shipment because contracts with distributors do not include post shipmentobligations or any right of return provisions and pricing is fixed at the timeof sale. Revenue related to application engineering, product development andcustomer training services is recognized when the services are performed.

 

**CASH AND CASH EQUIVALENTS**

 

For purposes of reporting cash flows, cash and cash equivalents includecash on hand and investments with original maturities of three months or less.

 

**ACCOUNTS RECEIVABLE**

 

The Company reviews customers’ credit history before extendingunsecured credit and establishes an allowance for doubtful accounts based uponfactors surrounding the credit risk of specific customers and otherinformation. Invoices are due net 30 days. Accounts receivable over 60 days are considered past due.  The Company does not accrue interest on pastdue accounts receivable. The Company writes off accounts 

 

32

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receivable when they are deemeduncollectible. Accounts receivable are shown net of an allowance for doubtfulaccounts of $163,000 and $133,000 at October 31, 2003 and 2002,respectively.

 

**INVENTORIES**

 

Inventories are stated at the lower of cost or market, with costsdetermined on a first-in, first-out (“FIFO”) basis.

 

**PROPERTY AND EQUIPMENT**

 

Property and equipment consist of furniture, fixtures and equipment andare stated at cost net of accumulated depreciation. Depreciation is computedfor book purposes on a straight-line basis over the estimated useful life ofthe asset ranging from two to ten years and for tax purposes over five and tenyears using accelerated and straight-line methods.  When assets are retired or disposed of, the cost and relatedaccumulated depreciation are removed from the accounts, and gains or losses arerecognized in the same period. Maintenance and repairs are expensed as incurred; significantimprovements are capitalized.

 

**INTANGIBLE ASSETS**

 

Intangible assets include patents and trademarks and are amortizedusing the straight-line method over their respective estimated useful lives of5 to 10 years.

 

**IMPAIRMENT OF LONG-LIVED ASSETS**

 

The Company reviews its long-lived assets for impairment wheneverevents or changes in circumstances indicate that the carrying amount of anasset may not be recoverable. Recoverability of assets to be held and used ismeasured by a comparison of the carrying amount of an asset to undiscountedfuture net cash flows expected to be generated by the assets. If these assetsare considered to be impaired, the impairment to be recognized is measured bythe amount by which the carrying amount of the assets exceeds the fair value ofthe assets.

 

**DEFERRED REVENUE**

 

Deferred revenue results from amounts collected from customers inadvance of shipment of systems or in advance of performing engineeringservices.

 

**RESEARCH AND DEVELOPMENT**

 

Expenditures for research and development are expensed as incurred.

 

**INCOME TAXES**

 

The Company accounts for income taxes using the asset and liabilityapproach, which requires the recognition of deferred tax assets and liabilitiesfor tax consequences of temporary differences between the financial statementincome tax reporting bases of assets and liabilities based on currently enactedrates and laws. These temporary differences include depreciation, allowance fordoubtful accounts, inventory valuation adjustments, accrued expenses and netoperating losses. Deferred taxes are reduced by a valuation allowance to theextent that realization of the related deferred tax asset is not assured.

 

**STOCK-BASED COMPENSATION**

 

The Company uses the intrinsic value method prescribed by AccountingPrinciples Board Opinion No. 25, “Accounting for Stock Issued to Employees,”and related interpretations in accounting for employee stock options.  Under the intrinsic value method,compensation expense is recorded only to the extent that the market price ofthe common stock exceeds the exercise price of the stock option on the date ofgrant.

 

33

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In December 2002, the FASB issued SFAS No. 148, “Accounting forStock-Based Compensation - Transition and Disclosure.”  SFAS No. 148 is anamendment to SFAS No. 123 providing alternative methods of transition for avoluntary change to the fair value based method of accounting for stock-basedemployee compensation and also provides requires additional disclosures aboutthe method of accounting for stock-based employee compensation.   The amendments are effective for financialstatements for fiscal years ending after December 31, 2002 and for theinterim periods beginning after December 15, 2002.  The Company adopted the annual disclosureprovision of SFAS No. 148 during the year ended October 31, 2003.  The Company chose to not adopt the voluntarychange to the fair value based method of accounting for stock-based employeecompensation, pursuant to SFAS No. 148.

 

The Company has adopted the disclosure-only provisions of SFAS No. 148,Accounting for Stock-Based Compensation. Accordingly, no compensation cost has been recognized with respect tostock options.  Had compensation cost forstock options been determined based on the fair value methodology prescribed bySFAS 123, the Company’s net loss and net loss per share would have been reducedto the pro forma amounts indicated below:

 

| **FISCAL  YEAR ENDED  OCTOBER 31,** |   |      |   | **2003** |       | **2002** |   | **2001**   |   |
|------------------------------------------|--------|-----------|--------|----------|------------|----------|--------|------------|--------|
| Net loss                                 |   | Reported  |   | $        | (4,123,000 | )        | $      | (6,875,000 | )      | $ | (4,843,000 | ) |
|                                     |   | Pro forma |   | $        | (4,387,000 | )        | $      | (7,219,000 | )      | $ | (5,303,000 | ) |
| Basic and diluted loss per share         |   | Reported  |   | $        | (0.40      | )        | $      | (0.90      | )      | $ | (0.88 | ) |
|                                     |   | Pro forma |   | $        | (0.43      | )        | $      | (0.95      | )      | $ | (0.97 | ) |
|                                     |   |      |   |     |       |     |   |       |   |   |   |   |
| Stock based compensation - as reported   |   |      |   | $        | 8,000      |     | $      | 20,000     |   | $ | — |   |
|                                     |   |      |   |     |       |     |   |       |   |   |   |   |
| Stock based compensation - pro forma     |   |      |   | $        | 264,000    |     | $      | 344,000    |   | $ | 460,000 |   |

 

The pro forma amounts may not be representative of the effects onreported net loss for future years.  Theper share, weighted-average fair value of each option granted is calculatedusing the Black-Scholes option-pricing model with the followingweighted-average assumptions used for grants in the following years:

 
| **FISCAL YEAR ENDED OCTOBER 31,** |   | **2003** |   | **2002** |   | **2001** |   |
|----------------------------------------|--------|----------|--------|----------|--------|----------|--------|
| Risk free interest rates               |   | 4.0      | %      | 4.0      | %      | 4.2      | %      |
| Expected lives                         |   | 7 Years  |   | 6 Years  |   | 6 Years  |   |
| Expected volatility                    |   | 180      | %      | 115      | %      | 85       | %      |
| Expected dividends                     |   | 0        | %      | 0        | %      | 0        | %      |

 

**FAIR VALUE OF FINANCIAL INSTRUMENTS**

 

The Company’s financial instruments consist of cash and cashequivalents, investments, short-term trade receivables and payables for whichcurrent carrying amounts approximate fair market value.

 

**RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS**

 

In June 2002, FASB issued Statement of Financial AccountingStandards (SFAS) No. 146, “Accounting for Costs Associated with Exit orDisposal Activities.”  SFAS No. 146requires the recognition of a liability for a cost associated with an exit ordisposal activity when the liability is incurred versus the date the Companycommits to an exit plan.  In addition,SFAS No. 146 states the liability should be initially measured at fairvalue.  The requirements of SFAS No. 146are effective for exit or disposal activities that are initiated afterDecember 31, 2002.  The adoption ofSFAS No. 146 did not have a material effect on the Company’s financialstatements.

 

34

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In April 2003, the FASB issued SFAS No. 149, “Amendment ofStatement 133 on Derivative Instruments and Hedging Activities,” effective forcontracts entered into or modified after June 30, 2003.  This amendment clarifies when a contractmeets the characteristics of a derivative, clarifies when a derivative containsa financing component and amends certain other existing pronouncements.  The adoption of SFAS No. 149 did not have amaterial effect on the Company’s financial statements.

 

In May 2003, the FASB issued SFAS No. 150, “Accounting for CertainFinancial Instruments with Characteristics of both Liabilities andEquity.”  SFAS No. 150 is effective forfinancial instruments entered into or modified after May 31, 2003, andotherwise is effective at the beginning of the first interim period beginningafter June 15, 2003.  SFAS No. 150requires the classification as a liability of any financial instruments with amandatory redemption feature, an obligation to repurchase equity shares, or aconditional obligation based on the issuance of a variable number of its equityshares.  The Company does not have anyfinancial instruments as defined by SFAS No. 150.  The adoption of SFAS No. 150 did not have a material effect theCompany’s financial statements.

 

In November 2002, the FASB issued FASB Interpretation No. 45,“Guarantor’s Accounting and Disclosure Requirements for Guarantees, IncludingIndirect Guarantees of Indebtedness of Others” (FIN 45).   FIN 45 clarifies the requirements for aguarantor’s accounting for and disclosure of certain guarantees issued andoutstanding.   The initialrecognition and initial measurement provisions of FIN 45 are applicable toguarantees issued or modified after December 31, 2002.  Thedisclosure requirements of FIN 45 are effective for financial statements forperiods ending after December 15, 2002.   The adoption of FIN 45 did not impact the Company’s financialstatements.

 

In January 2003, the FASB issued FASB Interpretation No. 46,“Consolidation of Variable Interest Entities” (FIN 46).  FIN 46 states that companies that haveexposure to the economic risks and potential rewards from another entity’sassets and activities have a controlling financial interest in a variableinterest entity and should consolidate the entity, despite the absence of clearcontrol through a voting equity interest. The consolidation requirements apply to all variable interest entitiescreated after January 31, 2003. For variable interest entities that existed prior to February 1,2003, the consolidation requirements are effective for annual or interimperiods beginning after December 15, 2004.  Disclosure of significant variable interest entities is requiredin all financial statements issued after January 31, 2003, regardless ofwhen the variable interest was created. The Company does not expect the adoption of FIN 46 to have a materialimpact on the Company’s financial statements.

 

**NOTE 2: LIQUIDITY AND CAPITAL RESOURCES**

 

The Company has incurred net losses and negative cash flows fromoperating activities in each of the past three years and has an accumulateddeficit of $29.6 million at October 31, 2003. During fiscal years 2003 and2002, the Company raised approximately $1.1 million and $4.3 million,respectively, through its Shareholder Rights Offering and subsequent exerciseof warrants to provide for these capital needs and as of  October 31,2003, the Company had $2.1 million of cash, $3.8 million of workingcapital and no long-term debt.

 

The Company believes that cash generated from operations together withthe cash provided by the warrant exercises and other potential sources offinancing will be sufficient to provide the cash necessary to meet itsoperating, working capital and capital resource obligations through the secondquarter of fiscal 2005. The other sources of financing that are availableinclude sales of its common or preferred stock, external borrowing, customer orvendor financing, customer sponsored research and development projects orinvestments by strategic partners.

 

**NOTE 3: INVENTORIES**

 

As of October 31, inventories consist of the following:

 

35

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|                             |   | **2003** |      | **2002** |   |
|----------------------------------|--------|----------|-----------|----------|--------|
| Manufactured and purchased parts |   | $        | 728,000   |     | $      | 1,338,000 |   |
| Work-in-process                  |   | 202,000  |      | 450,000  |   |
| Finished goods                   |   | 91,000   |      | 65,000   |   |
| Totals                           |   | $        | 1,021,000 |     | $      | 1,853,000 |   |

 

In view of therapid pace of technological change in the machine vision industry, the Companyperiodically reviews the carrying value of its inventories for excess orobsolete inventories. In fiscal 2002, the Company’s analysis of the netrealizable value of its inventories included consideration of a variety offactors including existing inventory quantities, historical usage, expectedfuture demand, the effect of technological advances and the impact of newlyintroduced products. As a result of its analysis, the Company recorded aprovision for excess and obsolete inventories of $500,000.

 

**NOTE 4: PROPERTY AND EQUIPMENT**

 

At October 31, furniture, fixtures and equipment consisted of thefollowing:

 
|                          |   | **2003**   |      | **2002**   |   |
|-------------------------------|--------|------------|-----------|------------|--------|
| Equipment                     |   | $          | 4,264,000 |       | $      | 6,949,000 |   |
| Furniture and fixtures        |   | 568,000    |      | 972,000    |   |
|                          |   | 4,832,000  |      | 7,921,000  |   |
| Less accumulated depreciation |   | (4,124,000 | )         | (6,504,000 | )      |
| Totals fixed assets           |   | $          | 708,000   |       | $      | 1,417,000 |   |

 

Depreciation expense was $730,000, $954,000 and $1,024,000 for theyears ended October 31, 2003, 2002 and 2001, respectively.  During fiscal 2003, the Company wrote-offfully depreciated properties that were no longer in use.

 

**NOTE 5: INTANGIBLE ASSETS**

 

Intangible assets at October 31, 2003 and October 31, 2002,consisted of the following:

 
|                          |   | **2003**   |      | **2002**   |   |
|-------------------------------|--------|------------|-----------|------------|--------|
| Patent and trademark          |   | $          | 3,681,000 |       | $      | 3,652,000 |   |
| Less accumulated amortization |   | (1,540,000 | )         | (1,107,000 | )      |
| Totals intangible assets      |   | $          | 2,141,000 |       | $      | 2,545,000 |   |

 

Patent and trademark costs are amortized over five to ten years. Thepatent and trademark balance includes $3,041,000 representing the cost toacquire United States Patent No. 5,646,733 (“Scanning Phase Measurement Methodand System for an Object at a Vision Station”), which was purchased from athird party company in fiscal year 1998. The Company commenced amortizingPatent No. 5,646,733 in June 2000 in conjunction with the shipment of productionproduct utilizing the underlying technology. As of October 31, 2003 theCompany has recorded $1.0 million of amortization expense related to Patent No.5,656,733.  Amortization expense was$433,000, $382,000, and $380,000 for the years ended October 31, 2003,2002, and 2001, respectively. Amortization expense is estimated to approximate $350,000 in each of thenext five fiscal years.

 

**NOTE 6: OTHER ASSETS**

 

Other assets at October 31, 2003 and October 31, 2002,represent an investment of $53,000 in the common stock of Electro-Sensors, Inc.a related party shareholder of the Company. The Company’s 

 

36

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percentage ownership is lessthan 1% of Electro-Sensors, Inc. outstanding common stock. There are no commitmentsor obligations associated with this investment.

 

**NOTE 7: ACCRUED EXPENSES**

 

Accrued expenses at October 31, include:

 
|                                             |   | **2003** |    | **2002** |   |
|--------------------------------------------------|--------|----------|---------|----------|--------|
| Employee stock purchase plan payroll  deductions |   | 46,000   |    | 84,000   |   |
| Accrued compensation                             |   | 78,000   |    | 74,000   |   |
| Sales and use taxes payable                      |   | 26,000   |    | 26,000   |   |
| Severance and office closure costs               |   | —   |    | 66,000   |   |
| Purchase commitments                             |   | 60,000   |    | 215,000  |   |
| Accrued rent and other                           |   | 292,000  |    | 128,000  |   |
| Totals                                           |   | $        | 502,000 |     | $      | 593,000 |   |
|                                                  |        |          |         |          |        |  |  |

 

**NOTE 8: OPERATING LEASES**

 

The Company leases facilities and equipment under non-cancelableoperating lease agreements. Rent expense was $702,000, $810,000, and $762,000in 2003, 2002, and 2001 respectively. Minimum future rental payments due undernon-cancelable operating lease agreements are as follows (amounts excluderequired payments for common area maintenance expenses):

 

| 2004       |   | 700,000 |      |
|------------|--------|---------|-----------|
| 2005       |   | 749,000 |      |
| 2006       |   | 806,000 |      |
| 2007       |   | 795,000 |      |
| 2007       |   | 795,000 |      |
| Thereafter |   | 279,000 |      |
| Total      |   | $       | 4,124,000 |   |
|            |        |         |           |  |

 

**NOTE 9: RESTRUCTURING AND OTHER COSTS**

 

During fiscal 2003, PPT implemented a restructuring plan designed tospecifically focus the Company on its traditional core competencies, improvethe efficiency of its product development and marketing efforts, andsignificantly reduce the Company’s operating cost structure.  Therestructuring plan included the closure of the Microelectronics Systems groupwhich primarily involves the elimination of the PPT861TM inspectionproduct. In addition PPT has consolidated certain product development andengineering functions, and implemented certain other cost reduction actionswithin the Company.

 

The costs associated with the decision to discontinue the development,sale and manufacture of the PPT861 product line totaled $591,000 and includeseverance costs related to 5 positions, inventory and equipment write downs andreductions in the value of certain receivables associated with this division.The amounts related to inventory adjustments are included in cost of goods soldand approximate $249,000.  The accounts receivable write down of $77,000has been included in general and administrative expenses. In addition,severance costs related to the reorganization of our research and developmentactivities and the elimination of 2 positions, totaled $97,000. An analysis ofthe restructuring costs recorded is as follows:

 
| Severance             |   | $       | 226,000 |   |
|-----------------------|--------|---------|---------|--------|
| Equipment write-downs |   | 136,000 |    |
| Total                 |   | $       | 362,000 |   |

 

37

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All payments related to the severance costs were completed prior to theend of the fiscal year and there was no liability balance remaining at October 31, 2003.

 

**NOTE 10: INCOME TAXES**

 

The provision for income taxes differs from the statutory U.S. federaltax rate of 34% applied to net loss before income taxes for the years ended October 31,as follows:

 
|                                                 |   | **2003**  |       | **2002**  |   | **2001**   |   |
|------------------------------------------------------|--------|-----------|------------|-----------|--------|------------|--------|
| Expected tax benefit at statutory rate               |   | $         | (1,400,000 | )         | $      | (2,338,000 | )      | $ | (1,643,000 | ) |
| State income tax benefit, net of federal  tax effect |   | (225,000  | )          | (272,000  | )      | (191,000   | )      |
| Tax credits and other                                |   | (25,000   | )          | (10,000   | )      | (80,000    | )      |
| Expiring loss carryforwards                          |   | 320,000   |       |      |   |       |   |
| Increase in valuation allowance                      |   | 1,330,000 |       | 2,620,000 |   | 1,914,000  |   |
| Total income tax expense (benefit)                   |   | $         | —     |      | $      | —     |   | $ | — |   |

 

Deferred tax assets are comprised of the following at October 31:

 
| **OCTOBER 31,**                                  |   | **2003**    |    | **2002**    |   |
|-------------------------------------------------------|--------|-------------|---------|-------------|--------|
| Depreciation and amortization                         |   | $           | 250,000 |        | $      | 207,000 |   |
| Net operating loss carryforwards                      |   | 9,744,000   |    | 8,303,000   |   |
| Income tax credits                                    |   | 1,288,000   |    | 1,263,000   |   |
| Inventory allowances                                  |   | 102,000     |    | 209,000     |   |
| Other                                                 |   | —      |    | 72,000      |   |
| Total deferred tax assets before valuation  allowance |   | 11,384,000  |    | 10,054,000  |   |
| Less valuation allowance                              |   | (11,384,000 | )       | (10,054,000 | )      |
| Net deferred tax asset                                |   | $           | —  |        | $      | — |   |

 

At October 31, 2003, the Company has available federal netoperating loss, state net operating loss and tax credit carryforwards forincome tax purposes of approximately $27.4 million, $7.4 million and $1.2million, respectively. These carryforwards expire in the years endingOctober 31, 2004 through October 31, 2023.  The amount of the federal net operating loss carryforwards thatexpire in the next five fiscal years are $920,000, $739,000, $50,000 $152,000,and $0, respectively.  Approximately$25,000 of the tax credit carryforwards expire in each of the next five fiscalyears.

 

The utilization of the net operating loss and tax credit carryforwardsis dependent upon the Company’s ability to generate sufficient taxable incomeduring the carryforward period. Because of the uncertainty of futurerealization, a valuation allowance equal to the deferred tax asset has beenrecorded.

 

**NOTE 11: SHAREHOLDERS’ EQUITY**

 

**SHAREHOLDER RIGHTS OFFERING**

 

In order to satisfy the Company’s anticipated working capital andcapital resources needs, the Company initiated and completed a ShareholderRights Offering (“Offering”) during fiscal 2002.  In the Offering, the Board of Directors authorized the sale of5.5 million units at $1 per unit to existing shareholders. Each unit consistedof one share of common stock and a warrant to purchase one-half share of commonstock. As a result of the Offering, the Company issued approximately 4,484,000shares of common stock and approximately 2,242,000 warrants to purchase a shareof common stock at $2.50 per share. The net proceeds to the Company wereapproximately $4.3 million after Offering expenses.   In the third quarter of fiscal 2003 the Board of Directorsdecided to lower the exercise price of the warrants issued in connection withthe Shareholder Rights Offering to $0.70 per share.  Warrants to purchase 1.6 million 

 

38

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shares of stock were exercisedby the expiration date of September 30, 2003.  The net proceeds to the Company were approximately $1.1 millionafter expenses.  The issuance of theshares of stock and warrants and the related receipt of cash have beenreflected in the accompanying financial statements.

 

**STOCK OPTION PLANS**

 

Under the Company’s 2000 Stock Option Plan, 1988 Stock Option Plan and1997 Stock Option Plan the Company may issue options to purchase up to 2,200,000shares of common stock to employees and directors. Options are granted at thefair market value on the date of grant. The granting of options and theirvesting is within the discretion of the Company’s Board of Directors.

 

A summary of stock options issued and outstanding under these plans isas follows:

 
|                             |   | **NUMBER  OF SHARES** |   | **WEIGHTED  AVG.  OPTION PRICE** |   |
|----------------------------------|--------|-----------------------|--------|----------------------------------|--------|
| Balance at October 31, 2000 |   | 788,300               |   | $                                | 5.25   |   |
| Granted                          |   | 144,900               |   | $                                | 2.38   |   |
|                             |   |                  |   |                             |   |
| Forfeited                        |   | (193,432              | )      | $                                | 4.33   |   |
| Balance at October 31, 2001 |   | 739,768               |   | $                                | 4.97   |   |
| Granted                          |   | 373,850               |   | $                                | 1.10   |   |
| Cancelled                        |   | (211,650              | )      | $                                | 6.88   |   |
| Forfeited                        |   | (59,584               | )      | $                                | 6.23   |   |
| Balance at October 31, 2002 |   | 842,384               |   | $                                | 2.86   |   |
| Granted                          |   | 388,700               |   | $                                | 0.68   |   |
| Cancelled                        |   | (228,334              | )      | $                                | 2.53   |   |
|                             |   |                  |   |                             |   |
| Balance at October 31, 2003 |   | 1,002,750             |   | $                                | 2.07   |   |

 

In fiscal year 2002, pursuant to an option exchange program approved bythe Company’s Board of Directors, the Company allowed employees to cancel anyor all of their current stock options which were issued pursuant to the 1988 or1997 plans and which had exercise prices of $5 per share or greater in exchangefor a grant of the same number of stock options cancelled in six months and oneday from the date of cancellation at exercise prices equal to the fair value ofthe Company’s common stock on the date of grant. Under this program, 211,650stock options were voluntarily cancelled at a weighted average option price of$6.88 and 211,650 stock options were subsequently granted at an option price of$0.90. This option exchange resulted in variable accounting for 25,000 of thestock options granted under the program. Variable accounting will continueuntil all stock options subject to variable accounting are exercised, cancelledor forfeited.  As of October 31,2003, 18,000 stock options remain under variable accounting treatment. TheCompany recorded $8,000 of expense related to this variable accountingtreatment during fiscal 2003.  There wasno expense in fiscal 2002.

 

The estimated weighted average grant-date fair value of stock optionsgranted is as follows: 2003—$0.67, 2002— $0.94, and 2001 - $1.76.

 

The following table summarizes stock options outstanding andexercisable at October 31, 2003.

 

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|                      |   | **OUTSTANDING** |   | **EXERCISABLE**                                  |   |
|---------------------------|--------|-----------------|--------|--------------------------------------------------|--------|
| **Exercise  Price Range** |   | **Options**     |   | **Weighted  Avg.  Contractual  Life  Remaining** |   | **Weighted  Avg.  Exercise Price** |   | **Options** |   | **Weighted  Avg.  Exercise Price** |   |
| $ 0.65 - $ 0.75           |   | 341,000         |   | 6.24                                             |   | $ | .68 |   | 5,000 |   | $ | 0.65 |   |
| $ 0.85 - $ 1.41           |   | 293,350         |   | 5.46                                             |   | $ | 1.09 |   | 184,809 |   | $ | 1.14 |   |
| $ 2.13 - $ 3.34           |   | 53,750          |   | 4.40                                             |   | $ | 2.62 |   | 35,835 |   | $ | 2.61 |   |
| $ 3.56 - $ 3.88           |   | 193,250         |   | 3.03                                             |   | $ | 3.73 |   | 193,250 |   | $ | 3.73 |   |
| $ 4.43 - $ 8.70           |   | 121,400         |   | 3.00                                             |   | $ | 5.46 |   | 100,400 |   | $ | 5.55 |   |
|                      |   | 1,002,750       |   | 4.90                                             |   | $ | 2.07 |   | 519,294 |   | $ | 3.12 |   |

 

As of October 31, 2003 there were warrants outstanding to purchase25,000 shares of the Company’s common stock with an exercise price of $12.00and an expiration date of September 30, 2004. In May 2002, inconnection with the Company’s Shareholder Rights Offering, the Company issuedwarrants to purchase 2,242,000 shares of the Company’s common stock at a priceof $2.50 per share.  In fiscal 2003 theCompany lowered the exercise price of the warrants to $0.70 per share.  Shareholders exercised warrants to purchase1.6 million  shares inSeptember 2003.  All remainingwarrants related to the Shareholder Rights Offering expired onSeptember 30, 2003.

 

**EMPLOYEE STOCK PURCHASE PLAN**

 

In March 2000, shareholders approved the adoption of the 2000Employee Stock Purchase Plan (the “2000 Plan”) to replace the 1995 EmployeeStock Purchase Plan (the “1995 Plan”) which by its terms expired during 2000.The 2000 Plan provides for the purchase of up to 150,000 shares of common stockduring a five-year annual offering period beginning June 1, 2000. Infiscal 2003, shareholders approved an amendment to the Plan to increase thenumber of shares authorized from 150,000 to 300,000 shares. Under the terms ofthe 2000 Plan, eligible employees may purchase common stock annually at 85% ofthe lesser of (1) the fair market value on the first day of the annual offeringperiod or (2) the fair market value on the last day of each annual offeringperiod. The 1995 Plan had similar provisions.

 

The purchase period for fiscal 2001 ended on May 31, 2001 and employeespurchased 32,336 shares at $1.81 per share. The purchase period for fiscal 2002ended on May 31, 2002 and employees purchased 71,971 shares at $0.76 pershare.   The purchase period for fiscal2003 ended on May 31, 2003 and employees purchased 46,141 shares at$0.63 per share.

 

**NOTE 12: EMPLOYEE SAVINGS PLAN**

 

The Company provides a supplementary retirement savings plan which isstructured in accordance with Section 401(k) of the Internal Revenue Code.Employees eligible for the Plan may contribute from one to fifteen percent oftheir monthly earnings on a pre-tax basis, subject to annual contributionlimitations. The Company currently makes matching contributions of one dollarfor each dollar contributed by each Plan participant up to a maximum of $500annually.

 

The Company’s contributions under this program were approximately$36,000, $39,000, and $188,000 for the years ended October 31, 2003, 2002,and 2001, respectively.  In fiscal 2002the Company funded its contributions through accumulated forfeitures ofunvested Company contributions and therefore there was no expense recorded infiscal  2002.  In fiscal 2003, $21,000 of contributions were funded fromaccumulated forfeitures and $15,000 was expensed by the Company.

 

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**NOTE 13: SHAREHOLDER RIGHTS PLAN**

 

On June 2, 1999, the Company adopted a Shareholder Rights Plan(the “Rights Plan”) designed to deter coercive or unfair takeover tactics andto prevent a person or a group from gaining control of the Company withoutoffering a fair price to all shareholders. Under the terms of the Rights Plan,a dividend distribution of one Preferred Stock Purchase Right (“Right”) foreach outstanding share of the Company’s common stock was made to holders of recordon June 22, 1999. These Rights entitle the holder to purchase oneone-hundredth of a share of the Company’s Series A Junior ParticipatingPreferred Stock (“Preferred Stock”) at an exercise price of $28. The Rightsbecome exercisable (a) 10 days after a public announcement that a person orgroup has acquired shares representing 20% or more of the outstanding shares ofcommon stock, or (b) 10 business days following commencement of a tender orexchange offer for 20% or more of such outstanding shares of common stock. TheCompany can redeem the Rights for $0.001 per Right at any time prior to theirbecoming exercisable. The Rights expire on June 2, 2009, unless redeemedearlier by the Company. Under certain circumstances, if a person or groupacquires 20% or more of the Company’s common stock, the Rights permitshareholders other than the acquirer to purchase common stock having a marketvalue of twice the exercise price of the Rights. In addition, in the event ofcertain business combinations, the Rights permit shareholders to purchase thecommon stock of an acquirer at a 50% discount. Rights held by the acquirer willbecome null and void in both cases.

 

In October 1999, the Company’s Board of Directors amended theterms of the Rights Plan to enable Mr. P.R. Peterson, a member of the Board ofDirectors of the Company, to purchase up to 30% of the common stock of theCompany without being deemed an “Acquiring Person” within the meaning of theRights Agreement. In March, 2002, the Company amended the terms of the RightsPlan to exclude Mr. Peterson completely from the definition of AcquiringPerson, regardless of his share ownership.

 

**NOTE 14: NET LOSS PER SHARE**

 

Basic net loss per share is computed using only weighted average commonshares outstanding. Diluted earnings per share gives effect to all dilutivepotential common shares outstanding during the fiscal reporting periods.

 
|                                                |   | **2003**   |       | **2002**  |   | **2001**   |   |
|-----------------------------------------------------|--------|------------|------------|-----------|--------|------------|--------|
| Net loss                                            |   | $          | (4,123,000 | )         | $      | (6,875,000 | )      | (4,843,000 | ) |
| Weighted average shares outstanding – basic    |   | 10,253,975 |       | 7,631,000 |   | 5,492,000  |   |
| Dilutive effect of stock options                    |   | —     |       | —    |   | —     |   |
| Weighted average shares outstanding –  diluted |   | 10,253,975 |       | 7,631,000 |   | 5,492,000  |   |
| Basic net loss per share                            |   | $          | (0.40      | )         | $      | (0.90      | )      | $ | (0.88 | ) |
| Diluted net loss per share                          |   | $          | (0.40      | )         | $      | (0.90      | )      | $ | (0.88 | ) |

 

For the years ended October 31, 2003, 2002 and 2001, options topurchase 1,003,000, 842,000 and 740,000, shares of the Company’s common stockrespectively, and warrants to purchase 25,000, 2,267,000 and 25,000 shares of the Company’s common stock respectively,were not included in the calculation of diluted earnings per share. As theCompany had a net loss, the inclusion of the aforementioned shares would havebeen anti-dilutive.

 

**NOTE 15: CUSTOMER AND GEOGRAPHIC INFORMATION**

 

**SIGNIFICANT CUSTOMER INFORMATION**

 

During fiscal 2003 revenue from four customers accounted for 12%, 12%,11% and 11% of net revenues, respectively. During 2001, revenue from one customer accounted for 22% of net revenuesand revenue from one other customer accounted for 11% of net revenues.  No individual customers accounted for 10% ofnet revenues in fiscal 2002.

 

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At October 31, 2003 three customer accounted for 12%, 11% and 10%of total accounts receivable.  At October 31,2002, one customer accounted for 14% of total accounts receivable.

 

**CUSTOMER GEOGRAPHIC DATA**

 

United States and export sales by geographic region as a percentage ofnet revenues at October 31 are as follows:

 
|                |   | **2003** |   | **2002** |   | **2001** |   |
|---------------------|--------|----------|--------|----------|--------|----------|--------|
| United States       |   | 48       | %      | 63       | %      | 45       | %      |
| Europe & Canada |   | 22       | %      | 12       | %      | 13       | %      |
| Asia-Pacific        |   | 29       | %      | 23       | %      | 40       | %      |
| South America       |   | 1        | %      | 2        | %      | 2        | %      |

 

**NOTE 16: QUARTERLY FINANCIALINFORMATION–UNAUDITED–in thousands**

 
|        |   | **Net  Revenues** |   | **Gross  Profit** |   | **Net Loss** |   | **Basic and  Diluted  Net Loss Per Share** |   |
|-------------|--------|-------------------|--------|-------------------|--------|--------------|--------|--------------------------------------------|--------|
| **Quarter** |   | **2003**          |   | **2002**          |   | **%Change**  |   | **2003**                                   |   | **2002** |   | **%Change** |   | **2003** |   | **2002** |   | **%Change** |   | **2003** |   | **2002** |   | **%Change** |   |
| **First**   |   | $                 | 2,124  |              | $      | 1,656        |   | 28                                         | %      | $ | 1,177 |   | $ | 720 |   | 63 | % | $ | (1,187 | ) | $ | (1,580 | ) | 25 | % | $ | (0.12 | ) | $ | (0.29 | ) | 59 | % |
| **Second**  |   | 2,237             |   | 1,607             |   | 39           | %      | 956                                        |   | 802 |   | 19 | % | (1,770 | ) | (1,612 | ) | (10 | )% | (0.17 | ) | (0.29 | ) | 41 | % |
| **Third**   |   | 2,019             |   | 2,027             |   | 0            | %      | 1,114                                      |   | 1,019 |   | 9 | % | (951 | ) | (1,492 | ) | 36 | % | (0.09 | ) | (0.16 | ) | 44 | % |
| **Fourth**  |   | 2,385             |   | 2,184             |   | 9            | %      | 1,531                                      |   | 497 |   | 209 | % | (215 | ) | (2,191 | ) | 90 | % | (0.02 | ) | (0.16 | ) | 90 | % |
|        |   |              |   |              |   |         |   |                                       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| **Total**   |   | $                 | 8,765  |              | $      | 7,474        |   | 17                                         | %      | $ | 4,778 |   | $ | 3,038 |   | 57 | % | $ | (4,123 | ) | $ | (6,875 | ) | 40 | % | $ | (0.40 | ) | $ | (0.90 | ) | 56 | % |

 

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