**SECURITIES
AND EXCHANGE COMMISSION**
 **WASHINGTON,
D.C. 20549**
 
 **FORM
10-KSB**
 
 **[X]**
    **ANNUAL
      REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934**
 **For
the fiscal year ended December 31, 2004**
 
 OR
 
 **TRANSITION
      REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934**
 
 **Commission
file number: 0-23000**
 
 **TRESTLE
HOLDINGS, INC.**
 (Name of
Small Business Issuer in its charter)
 
 
 **DELAWARE**
      (State
      or Other Jurisdiction
      of
      Organization)
    **95-4217605**
      (IRS
      Employer Incorporation or
      Identification
      No.)**199
      TECHNOLOGY, # 105,**
      **IRVINE,
      CALIFORNIA**
      (Address
      of Principal Executive Offices)
    **92618**
      (Zip
      Code)
 
 
 Issuer's
Telephone Number, Including Area Code: **949-673-1907**
 
 Securities
registered under Section 12(b) of the Exchange Act: **NONE**
 
 Securities
registered under Section 12(g) of the Exchange Act:
 
 **COMMON
STOCK, NO PAR VALUE**
 (Title of
class)
 
 Check
whether the issuer: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or
for such shorter period that the issuer was required to file such reports), and
(2) has been subject to such filing requirements for past
90 days: Yes  [X]   No [ ]
 
 Check if
there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B contained in this form, and no disclosure will be contained,
to the best of issuer's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any
amendment to the Form 10-KSB:  [X]
 
 State
issuer's revenue for its most recent fiscal year: $4,807,000
 
 State the
aggregate market value of the voting and non-voting common equity held by
non-affiliates computed by reference to the price at which the stock was sold,
or the average bid and asked prices of such stock, as of March 23, 2005, is:
$24,096,000
 
 State the
number of shares outstanding of each of issuer's classes of common equity, as of
March 30, 2005: 8,238,035
 
 Transitional
Small Business Disclosure Format: Yes:  [ ]
   No:  [X]
 
 **Documents
Incorporated By Reference**
 The
following documents are incorporated by reference into this report: Portions of
the Company’s Definitive Proxy Statement to be filed in connection with our 2005
Annual Meeting of Stockholders subsequent to the date hereof are incorporated by
reference in Part III of this Form 10-KSB. Such Definitive Proxy Statement will
be filed with the Securities and Exchange Commission no later than 120 days
after the Registrant’s year end of December 31, 2004.
 
  **
  
 **FORWARD-LOOKING
STATEMENTS**
 
 This
report includes forward-looking statements with-in the meaning of
Section 27A of the Securities Act (the "Securities Act") and
Section 21E of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"). We have based these statements on our beliefs and assumptions,
based on information currently available to us. These forward-looking statements
are subject to risks and uncertainties. Forward-looking statements include the
information concerning our possible or assumed future results of operations, our
total market opportunity and our business plans and objectives set forth under
the sections entitled "Business" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
 
 Forward-looking
statements are not guarantees of performance. Our future results and
requirements may differ materially from those described in the forward-looking
statements. Many of the factors that will determine these results and
requirements are beyond our control. In addition to the risks and uncertainties
discussed in "Business" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations," investors should consider those discussed
under "Risk Factors" and, among others, the following:
 
 •  our
ability to successfully implement our business strategy,
 •  changing
customer preferences,
 •  the
impact of competition and changes to the competitive environment on our products
and services, and
 •  other
factors detailed from time to time in our filings with the Securities and
Exchange Commission.
 
 These
forward-looking statements speak only as of the date of this report. We do not
intend to update or revise any forward-looking statements to reflect changes in
our business anticipated results of our operations, strategy or planned capital
expenditures, or to reflect the occurrence of unanticipated events.
 
  **PART
I**
 
 **ITEM
1.    BUSINESS**
 
  Trestle
Holdings, Inc. ("Trestle Holdings" or "Company"), develops and sells
digital tissue imaging products and solutions for improved workflow, analysis
and data mining in support of pathology in clinical and biopharmaceutical
applications. Trestle also develops and sells telemedicine applications which
link disbursed users in the healthcare market. Our digital tissue imaging
products, MedMicro TM , and
DSM TM , provide
a digital platform to share, store, and analyze tissue images. Trestle's
MedReach TM product
provides healthcare organizations with a cost effective platform for remote
examination, diagnosis, and treatment of patients. Products currently under
development from our newly acquired InterScope TM technologies as well as our ePathNet.net TM service
platform will provide digital workflow applications and services, image
acquisition and digitization services, data warehousing services and data mining
applications and services for tissue informatics in support of drug safety, drug
discovery, and drug development in biopharmaceutical applications as well as
certain clinical applications.
 
 Our
customers include some of the world's leading pharmaceutical, research and
healthcare organizations. We have only sold a limited amount of our products to
customers and have not generated significant revenues to date. Our top customers
are by industry are:
 ·
    Pharmaceutical
      - Pfizer, GlaxoSmithKline, Sanofi-Aventis, Merck, Abbott Laboratories, and
      Boston Scientific.
 ·
    Clinical
      - Walter Reed Army Medical Center, Newark Beth Israel, University of
      Michigan, University of Maryland, University of Louisville, Columbia
      Presbyterian University, Ohio State University, University of California
      at San Francisco, Bostwick Laboratories and University of Southern
      California.
 ·
    Telemedicine
      - Hawaii Health Systems, MeduNet, St. Joseph’s Healthcare, Addus
      Healthcare, Scott & White Hospitals, and Louisiana Telemedicine
      Consortium.
  *- 2
-*
  
 **Digital
Tissue Imaging Products Summary**
 
 Trestle's
digital tissue imaging products are microscopy devices which employ the optical
components of a standard microscope, robotic automated slide handling
capabilities combined with proprietary imaging and communication software to
capture high magnification images in digital format. These devices are comprised
of both hardware and software, and can be used in conjunction with Trestle's
SL50 Slide Loader System or Integrated Grossing Station.
 
 Trestle's
digital tissue imaging products, marketed under the names MedMicro and, DSM are
used in clinical, pharmaceutical and research environments. When used
specifically for pathology, they enable pathologists to consult and collaborate
with each other remotely and may be referred to as telepathology products.
 
 The
annual market for bright field microscopes has been estimated to be $685MM in
2005 (Trimark Microscopy Markets, 2003). Management believes that a 10%
penetration rate for digital microscopy would represent an annual market
opportunity in excess of $70MM for the Company and its competitors.
 
 **MedMicro**
 
 MedMicro
is the Company's live digital tissue imaging product. In live digital tissue
imaging, images are captured and viewed in real time while the slide is on the
microscope. MedMicro allows multiple physicians and scientists to remotely view,
navigate, and share high fidelity microscope images at sub-micron resolution
over standard Internet connections in real-time. MedMicro is also available with
the following options:
 
 **SL50
Slide Loader System** **TM** **-** Trestle's
SL50 Slide Loader System allows remote, unattended access to up to 50 glass
slides randomly. This provides remote users with the ability to review multiple
slides without the need for an attendant at the MedMicro device location. By
automating the slide loading and unloading process, the pathologist has the
flexibility to work with a large, virtual catalog of slides at any time.
 
 **Integrated
Grossing Station** **TM** **-** Trestle's
Integrated Grossing Station connects to MedMicro and uses MedMicro's built in
annotation, image editing and image archiving functions. The Integrated Grossing
Station enables remote supervision, direction, and documentation of the
processing of frozen sections and other gross specimens.
 
 **DSM** ****
 
 Digital
Slide Module (“DSM”) is the Company's stored digital tissue imaging product. In
stored digital tissue imaging, images are captured and stored in whole slide
imaging format digital format for viewing at a later time without requiring the
original slide to be on the microscope. DSM performs high-speed, whole-glass
slide digitization. By creating whole slide digital images, DSM enables
pathologists to access entire tissue samples at sub-micron resolution in digital
format. DSM facilitates image analysis, data management, digital workflow and
data association for clinical and research applications.
 
 The
Company’s initial stored digital tissue imaging (whole slide imaging) product
was called MedScan. While achieving its target performance, MedScan was more
costly to manufacture than anticipated and as such was never fully
commercialized. We are exploring various alternatives to reduce the cost,
including outsourcing manufacturing and third party alternatives. In the
meantime, we have refocused our development effort towards a next generation,
lower cost technology that can leverage the existing hardware platform contained
in our MedMicro product called Digital Slide Manager or DSM. However, there can
be no assurances that we will be successful in developing this product at the
target price and level of performance that would be acceptable to the market
place.
 
  *- 3
-*
  
 **Telemedicine
Products Summary**
 
 Telemedicine
enables the remote delivery of patient care using integrated health information
systems and telecommunications technologies.
 
 **MedReach** ****
 
 MedReach
consists of proprietary software that integrates videoconferencing, clinical
devices, medical images and patient data. Unlike Trestle’s digital imaging
products, microscopes are generally not part of this product. MedReach allows
healthcare providers to remotely examine, diagnose, and treat patients and
enables improved service, increased patient traffic and improved patient access
to specialists. MedReach was first released commercially in 1998 and have been
installed in over 60 medical facilities. Although MedReach represented a
significant percent of Trestle’s historical revenues, the Company has focused
its marketing effort away from the telemedicine area in favor of its
telepathology products, which are experiencing stronger growth. As a result,
MedReach sales may decrease.
 
 **Future
Products and Services Summary**
 
 Future
products currently under development provide digital workflow applications and
services, image acquisition and digitization services, data warehousing services
and data mining applications and services for tissue informatics in support drug
safety, drug discovery, drug development in biopharmaceutical applications as
well as certain clinical applications.
 
 **InterScope**
 
 On March
11, 2005, the Company acquired substantially all of the assets of InterScope
Technologies, Inc. in exchange for 337,838 shares of Trestle common stock and
$177,000 in operating and capital expenses. Concurrently, the Company hired four
InterScope employees three of whom were technical personnel and one who was
management. As a result of this transaction we anticipate that both research and
development and selling, general and administrative expense will increase from
their current levels.
 
 
 InterScope
had been developing a family of database applications designed to manage a
digital workflow for anatomic pathology, quality control & peer review,
toxicology and educational and reference users. Trestle intends to commercialize
these applications in support of a newly created data mining and tissue
informatics offering. It is anticipated that such new product will be licensed
to end users as software applications as well as integrated into our ePathNet
service platform. However there can be no assurances that the Company will be
successful in integrating, completing or commercializing such
applications.
 
 **ePathNet.net** ****
  The
Company announced in November 2004 the introduction of a service platform under
the working name of ePathNet.net. The service platform provides image
acquisition and digitization services. We plan to expand the service platform
capabilities in the area of digital workflow; data warehousing; and data mining
for tissue informatics in support drug safety, drug discovery, drug development
in biopharmaceutical as well as certain clinical applications. However, there
can be no assurances that we will be successful in developing and expanding this
service platform product at a price and level of performance that would be
acceptable to the market place or profitable
  The
current ePathNet.net image acquisition service offers the digitization of
whole-glass slides and their remote viewing through the internet.
  ePathNet.net
is designed to address the efforts of clinical laboratories and drug-development
organizations to reduce the time and cost associated with processing and
analyzing tissue slides, normally viewed under a microscope. The Company’s
planned expansion of the ePathNet.net platform into data-mining functions is
expected to support digital archival functions to enhance workflow through such
features as rapid side-by-side comparison, search and retrieval of digital
archives and support for computer-assisted analysis in quantitative
histo-pathology as well as reporting and interfaces into Laboratory Information
Systems (“LIS”).
  With
ePathNet.net, pathologists will be able to send Trestle their prepared tissue
samples on glass slides, which will be converted to high-resolution digital
slides which can be manipulated and viewed using the system’s on-line virtual
microscopy functions. The digital slides can be stored on Trestle’s secure
servers and are accessible via the internet for search, review, downloading and
analysis. ePathNet.net offers users control over the digital slides they view
online, such as indexing, annotation, searching and image processing functions.
  *- 4
-*
  The
Company is exploring various service options for ePathNet.net, including
offering the service platform as an “onsite” service with equipment on the
premises of its customers or an “offsite” service, with the equipment outsourced
to the Company’s facility. Currently, the Company is restructuring its Los
Angeles facility to support its ePathNet.net services for current and
prospective customers.
 **Product
Distribution**
 
 The
Company sells its products either directly to end users or through exclusive
distributors depending on the application and the geographical location of the
customer. During the third quarter of fiscal 2004 we began implementing a new
distribution strategy to sign up qualified distributors to sell our products.
Initially, this strategy focused on markets outside of North America. In the
fourth fiscal quarter of 2004 we began actively establishing a distribution
network for North America. Generally, qualified distributors are already in the
business of either selling bright field microscopes or equipment for medical
analysis. Under the terms of the Company’s standard distribution agreements,
distributors are assigned exclusive territories or markets and, in turn, commit
to purchasing a minimum amount of Trestle products on either a quarterly or
monthly basis.
  ***Industry
Overview***
 
 **Digital
tissue imaging**
 
 Digital
tissue imaging is the process of creating virtual slides by building digital
images of physical tissue samples. Digital tissue imaging allows drug
developers, pathologists and researchers to be view and analyze tissue images
through a computer or over a standard Internet connection and can be stored for
later interpretation and archiving; and data mining in support of computer aided
quantitative histopathology.
 
 The
digital tissue imaging markets can be categorized by type of tissue (human or
animal) and use (diagnostic or research).
 
 **Human
Pathology**
 
 The
College of American Pathologists reports a total of 16,500 pathologists in the
United States, with approximately two-thirds or 11,000 practicing anatomic
pathology. These pathologists generally practice within one or more market
segments, including hospital based pathology labs, integrated health systems,
and commercial and academic research.
 
 Pathologists
focusing on human disease study the origin, course and indicators of disease.
Pathology divides into clinical pathology the analysis of fluids such as urine
and blood and Trestle's market, anatomic pathology the analysis of tissue.
Clinical pathology market is dominated by large national laboratories that use
large-scale automation and is generally a high volume, low margin business. The
technology for the automation of anatomic pathology has lagged that of clinical
pathology. As a result, anatomic pathology remains a less consolidated and
higher margin industry.
 
 **Animal
(Veterinary) Pathology**
 
 Animal
pathology includes testing in research and diagnostic treatment of both pets and
livestock. Animal pathology for treatment is mainly conducted by labs providing
services to veterinary practices. The majority of animal pathology is conducted
by pharmaceutical and biotechnology companies for drug development.
 
 The
dynamics of veterinary pathology for treatment resemble human diagnostic
pathology. Veterinary pathologists seek to improve access to diagnostic
specialists: and aim to improve management and archiving of data workflow and
tissue analysis.
 
 The
pharmaceutical and biotechnology industries develop and market products for the
treatment of disease and improvements in health. Potential drugs are eliminated
prior to testing on humans through high volume animal toxicity testing.
Companies seek to improve this process in order to eliminate toxic drugs early
and speed effective compounds to market. Companies also address potential
bottlenecks by streamlining the pathologist workflow and automating repetitive
tasks.
 
 The key
market segments in animal pathology are pharmaceutical toxicology groups,
academic and government research, contract research organizations (“CROs”), and
biotechnology firms.
  *- 5
-*
  **Pharmaceutical
Research**
 
 Pharmaceutical
companies are continually challenged by patent expirations, which eliminate
exclusivity of their and result in products financial performance. As a result,
they pour significant sums into research and development in search of the next
blockbuster drug. According to PhRMA, the industry trade association, U.S. based
pharmaceutical companies have increased R&D spending from $618MM in 1970 to
$32B in 2003, representing a 13.4% compound average growth rate. Worldwide
R&D spending by pharmaceutical and biotechnology companies is estimated to
have been nearly $80B in 2002, according to *Parexel’s
Pharmaceutical R&D Statistical Source Book* . The
compound average growth in worldwide R&D from 1997 to 2002 is estimated to
be 12.0%.
 
 New drug
development is both and expensive and time consuming process. According to the
Boston Consulting Group, the average research and development cost associated
with a successfully introduced drug in 1990 was nearly $500MM. This figure takes
into account the cost of research failures and interest costs. In a recent study
from the Tufts Center for the Study of Drug Development (CSDD), the cost of drug
development including the cost of capita was as much as $802MM. According to the
study, for every 5,000 compounds the industry screens, no more than 250 make it
to animal testing and only five reach human testing in clinical trials. Because
the complexity and number of trials per new drug application are growing, the
average U.S. development time is increasing. Also, the total drug development
time from synthesis to approval has increased markedly, from 8.1 years in the
1960s to nearly 15 years in the 1990s, with virtually all of the increase coming
from expanded pre-clinical work and longer clinical development in more complex
trials.
 
 In
toxicology studies related to drug discovery and development tissue samples are
placed on glass slides. Currently, most tissue samples have been reviewed by
pathologists using traditional bright field microscopes. These reviews occur
relying on expertise dispersed across global sites and are often outsourced to
third parties called Clinical Research Organizations (GLP). Furthermore, there
are few standardized quality control, common assessment measurement, and Good
Laboratory Practice (GLP) compliant devices supporting these reviews. Reports
are then generated manually and slides are reviewed by multiple pathologists for
peer review, quality control, and consultative second opinions. These studies
typically span various animal species and organ types requiring specialized
expertise, and include studies in Safety Pharmacology, Toxico- and
Pharmacokinetic, Single and Repeated Dose Studies, Toxicity, Local Tolerance
Studies, Genotoxicity Studies, Carcinogenicity Studies, Reproduction Toxicity
Studies and certain specialized studies for special purpose drugs (such as
pediatric). Each of these studies produces raw data in the form of tissue
samples. Studies fall broadly into two categories, pre-clinical and clinical.
During the pre-clinical phases (animal studies) the studies are investigating
short-term toxicity to determine if a drug is safe for clinical trials (non-GLP
studies). During the clinical phases, the studies typically focus on long-term
toxicity (GLP studies). It is estimated that each drug in pre-clinical animal
studies generates approximately 10,000 slides for peer review.
 
 The
complexity and breadth of trials are an expensive distraction for most
pharmaceutical manufacturers, which tend to emphasize core competencies in
research over the administration of development. This area is where CROs
alleviate much of the pain of the development process, leaving biopharma
companies and drug manufacturers to focus their R&D staff on discovery. With
the growing costs of drug development and the inherent risks associated therein,
pharmaceutical companies have increased the front end work in clinical trials to
increase the likelihood of approval on the back end. The average number of
clinical trials per new drug application (NDA) has increased measurably, growing
from 30 in the early 1980s to nearly 70 by the mid-1990s.
 
 In order
to successfully make it through the years of development and Phase I, II, and
III trials, more patients need to participate in trials before the process
reaches the NDA Phase. This condition, in turn, requires greater efficiencies
from drug manufacturers and contract research organizations. Furthermore, the
drug development process bears a striking resemblance to the health care
industry in general, given the highly manual and paper intensive nature of
Phases I, II, and III. The process takes on mammoth proportions when the company
submits an NDA. This filing often exceeds 100,000 pages and has increased
measurably from the late 1970s, when the typical filing had fewer than 40,000
pages.
 
 We
believe that faster development times, quicker decisions to terminate
unsuccessful compounds, and higher success rates, would enable drug firms to
reap substantial savings in the cost of new drug development. Tufts CSDD
recently reported that it costs $802MM, on average, to develop and win market
approval for a new drug in the United States. We believe that significant
savings could be realized by improving the efficiency of the drug development
process.
  *- 6
-*
 
 **Digital
Tissue Imaging Applications**
 
 Digital
tissue imaging products share common uses in both human and animal pathology,
including consultation, communication and collaboration, education and
publication, archiving and management, workflow, and analysis, as described
below.
 
 **Consultation,
Communication and Collaboration**
 
 Pathologists
frequently consult with other pathologists and specialists in carrying out their
daily work. There are often delays in consulting due to the transportation of
slides or having to travel to distant locations in order to meet face-to-face.
Trestle's products allow sharing of images real time, eliminating the need for
slide transportation or travel. Pathologists and specialists are able to
simultaneously view and manipulate the slides and provide consultation in
real-time. In addition, communication is improved as multiple pathologists and
specialists can view and manipulate the same slide simultaneously.
 
 **Education
and Publication**
 
 Tissue
images are critical to pathology publications and instruction. Traditional
publications are limited to the inclusion of a snapshot of one location on the
slide or references to glass slide archives. Trestle's products allow whole
slides to be cited in publications and accessed in a digital format, improving
the availability of high quality samples and facilitating sample access.
 
 **Archiving
and Management**
 
 Viewing
and accessing multiple tissue samples is critical to anatomic pathology
workflow. Typically, tissue images are incomplete and stored in cumbersome
formats with no efficient links to associated data. Trestle's products under
development are designed to link a digital slide together with relevant data in
a flexible and easily accessible digital archive.
 
 **Workflow**
 
 Pathologists
work predominantly with traditional microscopes. Microscopes are both
ergonomically inefficient and make cross-referencing images and other data
difficult. Trestle's products under development will enable a pathologist to
view multiple diagnostic-quality images and associated information
simultaneously. Additionally, Trestle’s intended service offerings product, such
as ePathNet, could facilitate data mining of information designed to support
drug discovery, drug development and drug safety and quantitative assays in
support of quantitative histopathology.
 
 **Analysis**
 
 Analysis
of tissue samples is still predominantly done by humans rather than computers.
Limitations on automation have resulted from, among other things, the difficulty
of capturing data, the complexity of data and the pattern recognition required
for evaluation. Trestle's products and services facilitate the data capture
process, features recognition and data mining enabling further development of
digital analysis applications.
 
 **Telemedicine
Applications**
 
 Telemedicine
can be the use of communication equipment to link healthcare providers and
patients in different locations. In contrast to the more traditional ways of
providing medical care (e.g., face-to-face consultations or examinations),
telemedicine is a cost-effective alternative. Telemedicine offers increased cost
efficiency, reduced transportation expenses, improved patient access to
specialists, improved quality of care, and better communication among providers.
 
 Both the
healthcare and pharmaceutical markets share common requirements, including:
increased productivity; accelerated time to diagnosis; improved access to
information; and automation of repetitive tasks.
 
 Historically,
customers have been slow to adopt telemedicine in their daily work environment
due to limited telecommunications infrastructure and limited insurance
reimbursement and physician licensure. However, as telecommunications costs
decrease and access improves, and as reimbursement and regulatory policies
improve, adoption of remote medicine tools is increasing.
  *- 7
-*
  Key
market sectors in telemedicine include healthcare providers, biomedical and
pharmaceutical companies, employers, prisons, and assisted living institutions.
These market segments share the common goal of providing services via electronic
networks rather than through physical presence. These market segments also share
many of the goals of telemedicine, including:
 
 ·
    expansion
      of markets;
 
 ·
    generation
      of additional revenue;
 
 ·
    reduction
      of patient acquisition and retention costs; and
 
 ·
    reduction
      in staffing and operational costs.
 
 ***Products,
Services and Technology***
 
 **Digital
Tissue Imaging Products and Services**
 
 Digital
tissue imaging is used in pathology for capturing, storing, and distributing
digital images in two categories: live digital microscopy and stored virtual
microscopy. In live digital microscopy, digital images are captured and viewed
in real time while the slide is on the microscope. In stored virtual microscopy,
an image is digitally captured, processed and stored electronically for viewing
and analyzing at a later time. Thus, the original data source, the microscopic
slide, does not need to be on the image acquisition device in order to be
viewed.
 
 Live and
stored digital tissue imaging each have their strengths and weaknesses, with
each serving particular needs in the pathology workplace. With MedMicro,
MedScan, DSM, InterScope, and ePathNet.net, Trestle will have products and
services that will address both applications. Taken together, they provide the
foundation for a fully digital environment that combines live virtual microscopy
and stored virtual microscopy to deliver a comprehensive solution for digital
microscopy.
 
 In areas
of science and medicine other than pathology, transforming data from a physical
format (such as paper or tissue) to a computer-based format (such as text or
digital image) has not only enhanced existing methods of work, but also enabled
whole new working techniques and applications. The Company believes the field of
pathology will be no exception.
 
 MedMicro,
the Company's first digital microscopy product, provides live,
easily-manipulated, diagnostic quality images from a remote microscope. MedMicro
products consist of proprietary software combined with off-the-shelf automation
components, laboratory microscopes, digital cameras, and a standard personal
computer for operation. MedMicro customers may also upgrade their purchases with
multi-slide loaders and additional objective lenses.
  Additionally
the Company is planning to expand the service platform capabilities in the area
of digital workflow; data warehousing; and data mining for tissue informatics in
support drug safety, drug discovery, drug development in biopharmaceutical as
well as certain clinical applications.
  The
ePathNet.net offering will be positioned as a service platform and the Company
expects to continually upgrade the capabilities and features of this service
platform according to a multi-year development program. At this time the initial
capabilities of the ePathNet.net services focus on the digitization of
whole-glass slides and their remote viewing across the internet. Additionally,
digital tissue imaging devices for pathology are increasingly specialized and
optimized for specific applications. ePathNet.net offers customers a way to
select technologies to best fit their needs.
  The
Company is exploring various service options for ePathNet.net, including
offering the service platform as an “onsite” service with equipment on the
premises of its customers or an “offsite” service, with the equipment outsourced
to the Company’s facility. Currently, the Company is restructuring its Los
Angeles facility to support its ePathNet.net services for current and
prospective customers.
 
 The
Company plans to develop some of these new products and services using a
"best-of-breed" approach integrating or enhancing third party products and
selectively outsourcing hardware components.
  *- 8
-*
 
 **InterScope**
 
 On March
11, 2005, the Company acquired substantially all of the assets of InterScope
Technologies, Inc.
 InterScope
had been developing a family of database applications designed to manage a
digital workflow for anatomic pathology, quality control & peer review;
toxicology and educational and reference users. Trestle intends to commercialize
these applications in support of a newly created data mining and tissue
informatics offering. It is anticipated that such new product will be licensed
to end users as software applications as well as integrated into our
ePathNet.net service platform
 
 
 **Telemedicine
Products**
 
 The
Company's telemedicine product, MedReach, consists of proprietary software which
integrates videoconferencing, clinical devices, medical images and patient data.
MedReach enables healthcare organizations to remotely examine, diagnose and
treat patients and allows improved service and increased patient traffic with
minimal additional personnel or facilities.
 
 MedReach
provides secure remote access to clinical data based on object-oriented design
models. MedReach also enables compliance with healthcare-specific standards such
as Health Insurance Portability and Accountability Act of 1996 and Digital
tissue imaging and Communications in Medicine interfaces.
 
 MedReach
has been designed to meet workflow needs and legacy environments of healthcare
institutions. An implementation is customized to meet the needs of the specific
customers, and generally consists of the backbone WebServer software, hardware,
various media applications, and client workstations.
 
 ***Competition***
 
 The
digital tissue imaging and telemedicine markets are highly competitive, and many
of our competitors have greater resources and better name recognition than we
do. We primarily compete on product functionality, price and
service.
 
 Our
competitors in the digital tissue imaging market include, Aperio, Applied
Imaging, Apollo Telemedicine, Bacus Labs, BioImagen, Clarient, D-metrix, Medical
Solutions, Nikon, Olympus-SIS, and Zeiss.
 
 Our
competitors in the telemedicine market include, VitelNet, Polycom, Tandberg,
Televital, Health Hero Networks, Healthcare Vision, Second Opinion, Phillips and
Siemens.
 
 ***Regulatory
Issues***
 
 **Food
and Drug Administration**
 
 The
United States Food and Drug Administration (the "FDA") regulates design,
testing, manufacturing, labeling, distribution, marketing, sales and service of
image analysis products and services. Such products and services are marketed in
the U.S. according to premarket notifications to the FDA under
Section 510(k) of the Federal Food, Drug and Cosmetic Act. Unless an
exemption applies, each image analysis product that we wish to market in the
U.S. must first receive either 510(k) clearance or premarket approval from the
FDA.
 
 Certain
of Trestle's products can be considered medical devices and subject to
regulation by the United States Food and Drug Administration ("FDA"). The FDA
categorizes medical devices into three classes; these classes are referred to as
Class I, Class II, and Class III. Class I devices ("general
controls") are the lowest category and many are exempt from FDA pre-market
notification or approval requirements. MedMicro is registered with the FDA as
Class I Medical Device. The medical device components in MedReach have been
registered by the manufacturing companies as Class I. It is the Company’s
intention to obtain ISO 13485 certification for its products and services. ISO
13485 is the ISO quality standard for Medical Equipment and Services. Certain
next generation applications may require more detailed FDA approval processes.
  *- 9
-*
  Currently,
the Company is attempting to obtain the FDA 510(k) certification for its
InterScope product. The process for obtaining this certification includes a
study to validate the use of digital images for primary diagnostic purposes.
Based on the results of this study an application for certification will be
filed with the FDA. There can be no assurances that we will be successful in
obtaining acceptable results in the study. Additionally, should the study yield
acceptable results there can be no assurance that the FDA will grant the 510(k)
certification. Failure to obtain this certification may limit the use of this
product in the market. Additionally, delays in obtaining clearances or approvals
will adversely affect our ability to market and sell our image analysis products
and services and may subject us to significant regulatory fines or penalties,
which would result in a decline in revenue and profitability.
 
 ***Intellectual
Property***
 
 Trestle
has three issued and twelve pending patents on its products, including
SmartFocus TM , a
continuous focus system improving the capture of accurate, in-focus tissue
sample information at sub-micron resolution despite sample variations and
defects, and while maintaining high speed. We also rely on trade secrets and
proprietary know-how that we seek to protect, including with confidentiality
agreements.
 
 Our
success is heavily dependent upon the development and protection of proprietary
technology. We rely on patents, trade secrets, copyrights, know-how, trademarks,
license agreements and contractual provisions to establish our intellectual
property rights and protect our products and services. These legal means,
however, afford only limited protection and may not adequately protect our
rights. Litigation may be necessary in the future to enforce our intellectual
property rights, protect our trade secrets or determine the validity and scope
of the proprietary rights of others. Litigation could result in substantial
costs and diversion of resources and management attention.
 
 We cannot
assure you that competitors or other parties have not filed or in the future
will not file applications for, or have not received or in the future will not
receive, patents or obtain additional proprietary rights relating to products
and services or processes used or proposed to be used by us. In that case, our
competitive position could be harmed and we may be required to obtain licenses
to patents or proprietary rights of others.
 
 In
addition, the laws of some of the countries in which our products and services
are or may be sold may not protect our products and services and intellectual
property to the same extent as U.S. laws, if at all. We may be unable to protect
our rights in proprietary technology in these countries.
 
 ***Employees***
 
 The
Company currently has 27 full-time employees.
 
 **Factors
Which May Affect Future Results**
 
 In
connection with the "safe harbor" provisions of the Private Securities
Litigation Reform Act of 1995, the Company wishes to caution that the following
important factors, among others, in some cases have affected and in the future
could affect the Company's actual results and could cause such results to differ
materially from those expressed in forward-looking statements made by or on
behalf of the Company.
  ***Uncertainty
of Market Acceptance and Product Development.***
 
 The
market for our technology is relatively new. Our success will depend upon the
market acceptance of our various products and services. This may require in
certain instances a modification to the culture and behavior of customers to be
more accepting of technology and automation. Potential customers may be
reluctant or slow to adopt changes or new ways of performing processes. There
can be no assurance that our current or future products or services will gain
widespread acceptance or that we will generate sufficient revenues to allow us
to ever achieve profitability.
 
 In
addition, our products and services require continuing improvement and
development. Some of our products and services, whether in the market or in
development, may not succeed or may not succeed as intended. As a result, we may
need to change our product offerings, discontinue certain products and services
or pursue alternative product strategies. There can be no assurance that the
Company will be able to successfully improve its current products and services
or the Company will continue to develop or market some of its products and
services.
  *- 10
-*
 
 The
Company’s initial stored digital tissue imaging product was called MedScan.
While achieving its target performance, MedScan was more costly to manufacture
than anticipated and as such was never fully commercialized. We are exploring
various alternatives to reduce the cost, including outsourcing manufacturing and
third party alternatives. In the meantime, we have refocused our development
effort towards a next generation, lower cost technology that can leverage the
existing hardware platform contained in our MedMicro product called Digital
Slide Manager or DSM. However, there can be no assurances that we will be
successful in developing this product at the target price and level of
performance that would be acceptable to the market place.
 
 Our
ePathnet.net service is in its early stages. We have some capabilities but
intend to expand its service offerings. We might have to outsource some of our
development to third parties and this could introduce added costs and time.
There can be no guarantees that we will be able to deliver market requirements
on time or budget. If we are unsuccessful our business model may not be
viable.
 
 ***We
have a history of net losses and may never achieve or maintain
profitability.***
 
 We have a
history of incurring losses from operations. As of December 31, 2004, we had an
accumulated deficit of approximately $44,761,000, of which
approximately $37,635,000 was incurred prior to the acquisition of the
predecessors to Trestle. We
anticipate that our existing cash and cash equivalents will be sufficient to
fund our operations through at least December 2005. However, our independent
auditors have expressed that substantial doubt about the Company’s ability to
continue as a going concern. We anticipate that our operating expenses will
increase substantially in the foreseeable future as we increase our sales and
marketing activities, and continue to develop our technology, products and
services. These efforts may prove more expensive than we currently anticipate
and we may incur significant additional costs and expenses in connection with
our business development activities. Such costs and expenses could prevent us
from achieving or maintaining profitability in future periods. If we do achieve
profitability in any period, we may not be able to sustain or increase our
profitability on a quarterly or annual basis.
 
 ***Our
auditors have expressed a going concern opinion.***
 
 Primarily
as a result of our recurring losses and our lack of liquidity, the Company
received a report from our independent auditors that includes an explanatory
paragraph describing the substantial uncertainty as to our ability to continue
as a going concern.
 
 ***We
recently acquired the predecessor of Trestle and have limited operating
history.***
 
 We
acquired substantially all of the assets of Old Trestle. Prior to our
acquisition of Old Trestle's assets and our subsequent Pepin/Merhi film library
sale, we were involved in the production and distribution of filmed
entertainment. Evaluation of our business and prospects may be difficult because
of our limited operating history with Old Trestle's products. There can be no
assurance that we will be successful in developing and managing the operations
of Old Trestle's products. We face certain risks as a result of this
acquisition, including:
 
 ·
    risks
      of entering into industries and markets or developing and producing
      products where we have limited or no experience,
 
 ·
    the
      potential loss of key customers of Trestle,
 
 ·
    the
      potential loss of key personnel of Trestle, and
 
 ·
    exposure
      to unanticipated liabilities of Trestle.
 
 Even when
an acquired company has already developed and marketed products and services,
there can be no assurance that the products will continue to be successful, that
product and service enhancements will be made in a timely fashion or we will
have identified all possible issues that might arise with respect to the
acquired company or its products.
  *- 11
-*
  
 ***Due
to uncertainties in our business and our history of operating losses, the
capital on hand may not be sufficient to fund the company until we achieve
positive cash flow.***
 
 We have
expended and will continue to expend substantial amounts of money for research
and development, capital expenditures, working capital needs and manufacturing
and marketing of our products and services. Our future research and development
efforts, in particular, are expected to include development of additional
applications of our current products and services and additional product lines
including, digital backbone systems and image analysis systems, which will
require additional funds. Our recent capital raising activities may not be
sufficient to fund our spending.
 
 The exact
timing and amount of spending required cannot be accurately determined and will
depend on several factors, including:
 
 ·
    progress
      of our research and development efforts,
 
 ·
    competing
      technological and market developments,
 
 ·
    commercialization
      of products currently under development by us and our competitors, and
 
 ·
    market
      acceptance and demand for our products and services.
 
 We cannot
assure you that additional financing will be available if needed or on terms
acceptable to us. Any such financing may dilute the equity of existing
stockholders and/or increase our debt burden. If adequate and acceptable
financing is not available, we may have to delay development or
commercialization of certain of our products and services or eliminate some or
all of our development activities. We may also reduce our marketing or other
resources devoted to our products and services. Any of these options could
reduce our sales growth and result in continued net losses.
 
 ***If
we lose key personnel or are unable to hire additional qualified personnel, it
could impact our ability to grow our business.***
 
 We
believe our future success will depend in large part upon our ability to attract
and retain highly skilled technical, managerial, sales and marketing, finance
and operations personnel. We face intense competition for all such personnel,
and we may not be able to attract and retain these individuals. Our failure to
do so could delay product development, affect the quality of our products and
services, and/or prevent us from sustaining or growing our business. In
addition, employees may leave our company and subsequently compete against us.
Our key personnel include Maurizio Vecchione, our Chief Executive Officer, Barry
Hall, our President and Chief Financial Officer, Jack Zeineh, MD, our Chief
Scientific Officer, and Steve Barbee our Vice President of Sales and Marketing.
 
 We have
taken steps to retain our key employees, including the granting of stock options
and warrants that vest over time, and we have entered into employment agreements
with some of our key employees. The loss of key personnel, especially if without
advanced notice could harm our ability to maintain and build our business
operations. Furthermore, we have no key man life insurance on any of our key
employees.
 
 ***Potential
growth may place significant demands on our
personnel.***
 
 We
currently have limited management experience at the Company and administrative
resources. If we are successful in implementing our strategy, we may experience
a period of growth and expansion which could place significant additional
demands on our management and administrative resources. Our management team's
failure to manage this potential growth effectively could have a material
adverse effect on our business.
  *- 12
-*
  
 ***Undetected
errors or failures in our software could result in loss or delay in the market
acceptance for our product, lost sales or costly
litigation.***
 
 Because
our software products and services are complex, they may contain errors that can
be detected at any point in a product's lifecycle. While we continually test our
products and services for errors, errors in our products and services may be
found in the future even after our products and services have been commercially
introduced. Detection of any significant errors may result in, among other
things, loss of, or delay in, market acceptance and sales of our products and
services, diversion of development resources, injury to our reputation,
increased service and warranty costs or costly litigation. Because our products
support or rely on other systems and applications, any software errors or bugs
in these systems or applications may result in errors in the performance of our
software, and it may be difficult or impossible to determine where the error
resides. Product errors could harm our business and have a material adverse
effect on our results of operations. Additionally, problems in system security,
data corruption, access, connectivity and bandwidth may have a material adverse
effect on our operations.
 
 ***A
successful products liability claim could require us to pay substantial damages
and result in harm to our business reputation.***
 
 The
manufacture and sale of our products and services involve the risk of product
liability claims. We do not carry product liability insurance; however, the
Company is currently seeking obtain insurance to protect against such claims.
However, there can be no assurances that such coverage, if obtained, would be
adequate to provide for any claims that may arise against us. A successful claim
brought against us could require us to pay substantial damages and result in
harm to our business reputation, remove our products and services from the
market or otherwise adversely affect our business and operations. Even in the
event that claims are made unsuccessfully, our business may be adversely
affected by expenditure of personnel time and legal costs.
 
 ***Our
products and services could infringe on the intellectual property rights of
others, which may lead to costly litigation, lead to payment of substantial
damages or royalties and/or prevent us from manufacturing and selling our
current and future products and services.***
 
 If third
parties assert that our products and services or technologies infringe their
intellectual property rights, our reputation and ability to license or sell our
products and services could be harmed. Whether or not a claim has merit, it
could be time consuming and expensive for us and divert the attention of our
technical and management personnel from other work. In addition, these types of
claims could be costly to defend and result in our loss of significant
intellectual property rights.
 
 A
determination that we are infringing the proprietary rights of others could have
a material adverse effect on our products and services, revenues and income. In
the event of any infringement by us, we cannot assure you that we will be able
to successfully redesign our products and services or processes to avoid
infringement. Accordingly, an adverse determination in a judicial or
administrative proceeding or failure to obtain necessary licenses could prevent
us from manufacturing and selling our products and services and could require us
to pay substantial damages and/or royalties.
 
 The
Company receives various claims, from time to time, from entities that believe
their intellectual property might be infringed by the Company’s products and
services. While the Company is not currently engaged in any litigation there is
a potential risk of such litigation. To resolve such claims, the Company may
elect to partner with, license from or outsource some or all of its products and
services with entities who hold significant intellectual property, although
there are no guarantees that such agreements can be entered into.
 
 The
Company may decide to upgrade its products and services by changing suppliers of
certain key components, hardware or software. This could result in delays,
changes in cost structure, pricing and margin pressures. This could also cause
changes in manufacturing and distribution strategies. There can be no guarantees
that such changes, if they occur might not affect the Company in a negative
way.
  *- 13
-*
  
 ***Any
disruption or delay in the supply of components or custom subassemblies could
require us to redesign our products***  ***and
services or otherwise delay our ability to assemble our products, which could
cause our sales to decline and result in continued net
losses.***
 
 We
assemble our products and services from a combination of (i) commodity
technology components, such as computers and monitors, (ii) custom
subassemblies, (iii) third party hardware for scanning microscopy,
(iv) commodity operating systems, and (v) proprietary applications
software. While we typically use components and subassemblies that are available
from alternate sources, any unanticipated interruption of the supply of these
components or subassemblies could require us to redesign our products and
services or otherwise delay our ability to assemble our products and services,
which could cause our sales to decline and result in continued net losses.
 
 ***If
we fail to accurately forecast component and material requirements for our
products and services, we could incur additional costs and significant delays in
shipments, which could result in loss of customers.***
 
 We must
accurately predict both the demand for our products and services and the lead
times required to obtain the necessary components and materials. Lead times for
components and materials that we order vary significantly and depend on factors
including the specific supplier requirements, the size of the order, contract
terms and current market demand for components. If we overestimate our component
and material requirements, we may have excess inventory, which would increase
our costs, impair our available liquidity and could have a material adverse
effect on our business, operating results and financial condition. If we
underestimate our component and material requirements, we may have inadequate
inventory, which could interrupt and delay delivery of our products and services
to our customers. Any of these occurrences would negatively impact our net
sales, business and operating results and could have a material adverse effect
on our business, operating results and financial condition.
 
 ***Risks
Related To the Industry***
 
 ***If
we fail to successfully introduce new products and services, our future growth
may suffer. Certain products and services at an early stage of development are
the areas of future growth for Trestle and sustainability of
Trestle.***
 
 As part
of our strategy, we intend to develop and introduce a number of new products and
services, including digital backbone systems and image analysis systems. Such
products and services are currently in research and development, and we have
generated no revenues from such potential products and services and may never
generate revenues. A substantial portion of our resources have been and for the
foreseeable future will continue to be dedicated to our research programs and
the development of products and services. If we do not introduce these new
products and services on a timely basis, or if they are not well accepted by the
market, our business and the future growth of our business may suffer. There can
be no assurance that we will be able to develop a commercial product from these
projects. Our competitors may succeed in developing technologies or products and
services that are more effective than ours.
 
 ***If
we do not update and enhance our technologies, they will become obsolete or
noncompetitive. Our competitors may succeed in developing products and services,
and obtaining related regulatory approvals, faster than
us.***
 
 We
operate in a highly competitive industry and competition is likely to intensify.
Emerging technologies, extensive research and new product introductions
characterize the market for our products and services. We believe that our
future success will depend in large part upon our ability to conduct successful
research in our fields of expertise, to discover new technologies as a result of
that research, to develop products and services based on our technologies, and
to commercialize those products and services. If we fail to stay at the
forefront of technological development, we will be unable to compete
effectively.
 
 Certain
of our existing and potential competitors possess substantial financial and
technical resources and production and marketing capabilities greater than ours.
We cannot assure you that we will be able to compete effectively with existing
or potential competitors or that these competitors will not succeed in
developing technologies and products and services that would render our
technology and products and services obsolete and noncompetitive. Our position
in the market could be eroded rapidly by our competitors' product advances.
 
 In
addition, because our products and services are dependent upon other operating
systems, we will need to continue to respond to technological advances in these
operating systems.
  *- 14
-*
  
 ***Our
success depends, in part, on attracting customers who will embrace the new
technologies offered by our products and services.***
 
 It is
vital to our long-term growth that we establish customer awareness and persuade
the market to embrace the new technologies offered by our products and services.
This may require in certain instances a modification to the culture and behavior
of customers to be more accepting of technology and automation. Organizations
may be reluctant or slow to adopt changes or new ways of performing processes
and instead may prefer to resort to habitual behavior within the organization.
Our marketing plan must overcome this obstacle, invalidate deeply entrenched
assumptions and reluctance to behavioral change and induce customers to utilize
our products and services rather than the familiar options and processes they
currently use. If we fail to attract additional customers at this early stage,
our business and the future growth of our business may suffer.
 
 ***Our
success depends, in part, on our ability to protect our intellectual property
rights.***
 
 Our
success is heavily dependent upon the development and protection of proprietary
technology. We rely on patents, trade secrets, copyrights, know-how, trademarks,
license agreements and contractual provisions to establish our intellectual
property rights and protect our products and services. These legal means,
however, afford only limited protection and may not adequately protect our
rights. Litigation may be necessary in the future to enforce our intellectual
property rights, protect our trade secrets or determine the validity and scope
of the proprietary rights of others. Litigation could result in substantial
costs and diversion of resources and management attention.
 
 We cannot
assure you that competitors or other parties have not filed or in the future
will not file applications for, or have not received or in the future will not
receive, patents or obtain additional proprietary rights relating to products
and services or processes used or proposed to be used by us. In that case, our
competitive position could be harmed and we may be required to obtain licenses
to patents or proprietary rights of others.
 
 In
addition, the laws of some of the countries in which our products and services
are or may be sold may not protect our products and services and intellectual
property to the same extent as U.S. laws, if at all. We may be unable to protect
our rights in proprietary technology in these countries.
 
 ***We
depend on third-party licenses for our products and
services.***
 
 We rely
on certain software technology which we license from third parties and use in
our products and services to perform key functions and provide additional
functionality. Because our products and services incorporate software developed
and maintained by third parties, we are, to a certain extent, dependent upon
such third parties' ability to maintain or enhance their current products and
services, to develop new products and services on a timely and cost-effective
basis, and to respond to emerging industry standards and other technological
changes. Further, these third-party technology licenses may not always be
available to us on commercially reasonable terms or at all.
 
 If our
agreements with third-party vendors are not renewed or the third-party software
fails to address the needs of our software products and services, we would be
required to find alternative software products and services or technologies of
equal performance or functionality. We cannot assure that we would be able to
replace the functionality provided by third-party software if we lose the
license to this software, it becomes obsolete or incompatible with future
versions of our products and services or is otherwise not adequately maintained
or updated.
 
 ***Certain
of our customers rely on the availability of third-party reimbursement or
third-party funding for the purchase of our products and services. Failure of
sufficient reimbursement from third-party payors or sufficient funding could
cause our sales and the future potential growth of our business to
decline.***
 
 Hospitals
and other healthcare institutions in the U.S. that purchase our products and
services generally rely on third-party payors and other sources for
reimbursement of healthcare costs to reimburse all or part of the cost of the
procedures in which our products and services are used. If hospitals and other
healthcare institutions are unable to obtain adequate reimbursement from
third-party payors for the procedures in which our products and services or
products and services currently under development are intended to be used, our
sales and future growth of our business could be adversely affected. We cannot
estimate what amount of our product is eligible for reimbursement approval. In
addition, changes in the healthcare system may affect the reimbursability of
future products and services.
  *- 15
-*
  
 Market
acceptance of our products and services and products and services under
development in countries outside of the U.S. is also dependent on availability
of reimbursement within prevailing healthcare payment systems in those
countries. Reimbursement and healthcare payment systems in international markets
vary significantly by country, and include both government-sponsored healthcare
and private insurance. We cannot assure you that we will be able to obtain
international reimbursement approvals in a timely manner, if at all. Failure to
receive international reimbursement approvals could harm the market acceptance
of our products and services in the international markets in which such
approvals are sought.
 
 Other
consumers in industries such as pathology, pharmaceutical and biotechnology that
purchase our products and services generally rely on funding or grants from
governments and private foundations to fund the purchase of our products and
services. If such consumers are unable to obtain adequate funding sources for
the purchase of our products and services, our sales and future growth of our
business could be adversely affected.
 
 ***The
marketing and sale of our future products and services will require regulatory
approval and on-going certifications. Failure to obtain and maintain required
regulatory approvals and certifications could prevent or delay our ability to
market and sell our future products and services and may subject us to
significant regulatory fines or penalties.***
 
 The
United States Food and Drug Administration (the "FDA") regulates design,
testing, manufacturing, labeling, distribution, marketing, sales and service of
digital image analysis products and services. Such products and services are
marketed in the U.S. according to premarket notifications to the FDA under
Section 510(k) of the Federal Food, Drug and Cosmetic Act. Unless an
exemption applies, each digital image analysis product that we wish to market in
the U.S. must first receive either 510(k) clearance or premarket approval from
the FDA. The process of obtaining required regulatory approval or clearance can
be lengthy, expensive and uncertain. Moreover, regulatory clearance or approval,
if granted, may include significant limitations on the indicated uses for which
a product may be marketed.
 
 Currently,
the Company is attempting to obtain the FDA 510(k) certification for its
InterScope product. The process for obtaining this certification includes a
study to validate the use of digital images for primary diagnostic purposes.
Based on the results of this study an application for certification will be
filed with the FDA. There can be no assurances that we will be successful in
obtaining acceptable results in the study. Additionally, should the study yield
acceptable results there can be no assurance that the FDA will grant the 510(k)
certification. Failure to obtain this certification may limit the use of this
product in the market. Additionally, delays in obtaining clearances or approvals
will adversely affect our ability to market and sell our image analysis products
and services and may subject us to significant regulatory fines or penalties,
which would result in a decline in revenue and profitability.
 
 Failure
to comply with applicable requirements in the United States can result in fines,
recall or seizure of products and services, total or partial suspension of
production, withdrawal of existing product approvals or clearances, refusal to
approve or clear new applications or notices and criminal prosecution.
 
 Our image
analysis products and services are subject to similar regulation in other
countries. Sales of our image analysis products and services outside the United
States are subject to foreign regulatory requirements that vary from country to
country. The time required to obtain approvals from foreign countries may be
longer or shorter than that required for FDA approval, and requirements for
foreign licensing may differ from FDA requirements.
 
 ***Our
future products and services may require compliance with quality system
regulations which is difficult and costly.***
 
 In
connection with the development of new products and services, we may be required
to be in compliance with the quality regulation system, which include production
design controls, testing, quality control, storage and documentation procedures.
Compliance with quality system regulations is difficult and costly. We cannot
assure you that we will be able to comply with quality system regulation
requirements. If we do not achieve compliance, the FDA may deny marketing
clearance which would harm our business. In addition, we may not be found to be
compliant as a result of future changes in, or interpretations of, regulations
by the FDA or other regulatory agencies.
 
 The
Company is currently working on obtaining ISO 13485:2003 certification. This
certification is the international standard for a quality management system
where an organization needs to demonstrate its ability to provide medical
devices and related services that consistently meet customer requirements and
regulatory requirements applicable to medical devices and related services. The
Company believes that obtaining this certification will help promote its
products in the marketplace and allow it to further comply with the FDA’s CFR
820 which sets forth Good Manufacturing Practices.
  *- 16
-*
  
 ***Risks
Related to the Planned Registration of Common Stock***
 
 ***Any
future sale of a substantial number of shares of our common stock could depress
the trading price of our common stock, lower our value and make it more
difficult for us to raise capital.***
 
 Any sale
of a substantial number of shares of our common stock (or the prospect of sales)
may have the effect of depressing the trading price of our common stock. In
addition, these sales could lower our value and make it more difficult for us to
raise capital. Further, the timing of the sale of the shares of our common stock
may occur at a time when we would otherwise be able to obtain additional equity
capital on terms more favorable to us. The Company intends to register
substantially all of its outstanding common stock and options and warrants to
acquire common stock in the near future pursuant to a registration statement
that has been filed but has not yet become effective. Upon completion such a
registration the Company will have has outstanding approximately 8,238,035
shares of common stock), of which 8,238,035 are eligible for resale in the
public market, subject to applicable federal securities law restrictions, and
warrants and options to acquire an additional 5,619,739 shares of common stock,
all of which are eligible for resale in the public market, subject to vesting
and applicable federal securities law restrictions.
 
 ***Our
stock price is likely to be highly volatile because of several factors,
including a limited public float.***
 
 The
market price of our stock is likely to be highly volatile because there has been
a relatively thin trading market for our stock, which causes trades of small
blocks of stock to have a significant impact on our stock price. You may not be
able to resell our common stock following periods of volatility because of the
market's adverse reaction to volatility.
 
 Other
factors that could cause such volatility may include, among other things:
 
 ·
    actual
      or anticipated fluctuations in our operating results,
 
 ·
    announcements
      concerning our business or those of our competitors or customers,
 
 ·
    changes
      in financial estimates by securities analysts or our failure to perform as
      anticipated by the analysts,
 
 ·
    announcements
      of technological innovations,
 
 ·
    conditions
      or trends in the industry,
 
 ·
    introduction
      or withdrawal of products and services,
 
 ·
    variation
      in quarterly results due to the fact our revenues are generated by sales
      to a limited number of customers which may vary from period to period,
 
 ·
    litigation,
 
 ·
    patents
      or proprietary rights,
 
 ·
    departure
      of key personnel,
 
 ·
    failure
      to hire key personnel, and
 
 ·
    general
      market conditions.
 
 ***Because
our common stock is considered a "penny stock" any investment in our common
stock is considered to be a high-risk investment and is subject to restrictions
on marketability.***
 
 Our
common stock is currently traded on the Over-The-Counter Bulletin Board ("OTC
Bulletin Board") and is considered a "penny stock." The OTC Bulletin Board is
generally regarded as a less efficient trading market than the NASDAQ SmallCap
Market.
  *- 17
-*
  
 The SEC
has adopted rules that regulate broker-dealer practices in connection with
transactions in "penny stocks." Penny stocks generally are equity securities
with a price of less than $5.00 (other than securities registered on certain
national securities exchanges or quoted on the NASDAQ system, provided that
current price and volume information with respect to transactions in such
securities is provided by the exchange or system). The penny stock rules require
a broker-dealer, prior to a transaction in a penny stock not otherwise exempt
from those rules, to deliver a standardized risk disclosure document prepared by
the SEC, which specifies information about penny stocks and the nature and
significance of risks of the penny stock market. The broker-dealer also must
provide the customer with bid and offer quotations for the penny stock, the
compensation of the broker-dealer and any salesperson in the transaction, and
monthly account statements indicating the market value of each penny stock held
in the customer's account. In addition, the penny stock rules require that,
prior to a transaction in a penny stock not otherwise exempt from those rules,
the broker-dealer must make a special written determination that the penny stock
is a suitable investment for the purchaser and receive the purchaser's written
agreement to the transaction. These disclosure requirements may have the effect
of reducing the trading activity in the secondary market for our common stock.
 
 Since our
common stock is subject to the regulations applicable to penny stocks, the
market liquidity for our common stock could be adversely affected because the
regulations on penny stocks could limit the ability of broker-dealers to sell
our common stock and thus your ability to sell our common stock in the secondary
market. There is no assurance our common stock will be quoted on NASDAQ or the
NYSE or listed on any exchange, even if eligible.
 
 ***We
may experience volatility in the price of our common stock, which could
negatively affect your investment, and you may not be able to resell your shares
at or above the offering price.***
 
 The
offering price of our common stock may vary from the market price of our common
stock. The market price of our common stock may fluctuate significantly in
response to a number of factors, some of which are beyond our control,
including:
 
 ·
    a
      quarterly variations in operating results;
 
 ·
    changes
      in financial estimates by securities analysts;
 
 ·
    changes
      in market valuations of other similar companies;
 
 ·
    announcements
      by us or our competitors of new products and services or of significant
      technical innovations, contracts, acquisitions, strategic partnerships or
      joint ventures;
 
 ·
    additions
      or departures of key personnel;
 
 ·
    any
      deviations in net sales or in losses from levels expected by securities
      analysts; and
 
 ·
    future
      sales of common stock.
 
 In
addition, the stock market has recently experienced extreme volatility that has
often been unrelated to the performance of particular companies. These market
fluctuations may cause our stock price to fall regardless of our performance.
 
 ***We
have additional securities available for issuance, including preferred stock,
which if issued could adversely affect the rights of the holders of our common
stock.***
 
 Our
articles of incorporation authorize the issuance of 40,000,000 shares of common
stock and 5,000,000 shares of preferred stock (of which 30,000 shares designated
as Series A Convertible Preferred Stock and 30,000 shares designated as
Series B Convertible Preferred Stock). The common stock and the preferred
stock can be issued by, and the terms of the preferred stock, including dividend
rights, voting rights, liquidation preference and conversion rights can
generally be determined by, our board of directors without stockholder approval.
Any issuance of preferred stock could adversely affect the rights of the holders
of common stock by, among other things, establishing preferential dividends,
liquidation rights or voting powers. Accordingly, our stockholders will be
dependent upon the judgment of our management in connection with the future
issuance and sale of shares of our common stock and preferred stock, in the
event that buyers can be found therefore. Any future issuances of common stock
or preferred stock would further dilute the percentage ownership of our Company
held by the public stockholders. Furthermore, the issuance of preferred stock
could be used to discourage or prevent efforts to acquire control of our Company
through acquisition of shares of common stock.
  *- 18
-*
  **ITEM
2.    PROPERTIES**
 
 Our
executive offices consist of approximately 14,000 square feet of general office
space located at 11835 W. Olympic Blvd., Suite 550, Los Angeles, California
90064. We entered into a seven-year lease for such office space commencing in
December 1999, with a five-year option to renew. As of March 31, 2005, we have
subleased approximately 2,000 square feet of this office space. In addition,
pursuant to the agreements governing Mr. Doherty’s services as Chairman to the
Company, Mr. Doherty is entitled to use up to 3,500 square feet of office space,
at the Company's expense, in the Company’s Los Angeles office, in connection
with his services as Chairman and other activities. A portion of such space is
being used by Doherty & Company, LLC. We lease approximately 7,000 square
feet of office, production and warehouse space at 199 Technology Dr. Suite 105,
Irvine, California 92618 for our principal offices. In conjunction which the
acquisition of InterScope’s assets, as of March 1, 2005 the Company assumed the
InterScope’s lease of 2,100 square feet at 12300 Perry Highway, Suite 110,
Wexford, PA 15090. We recorded rent expense of $503,000 for our executive and
principal offices during the year ended December 31, 2004.
  **ITEM
3.    LEGAL PROCEEDINGS**
 
 The
Company is not currently involved in any material legal proceedings.
 
 **ITEM
4.    SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS**
 
 **BLANK**
  **PART
II**
 
 **ITEM
5.    MARKET FOR ISSUER'S COMMON EQUITY AND RELATED
SHAREHOLDER MATTERS**
 
 **Market
Prices**
 The
shares of our common stock have been listed and principally quoted on the OTC
Bulletin Board under the trading symbol “TLHO.OB” since October 6, 2003. Prior
to October 6, 2003, the Company’s common stock was traded on the OTC Bulletin
Board under the symbol “SLDE.OB” and prior to August 9, 2002, the Company’s
common stock was traded on the OTC Bulletin Board under the symbol
“SUNE.OB.”
  The
following table sets forth, for the fiscal quarters indicated, the high and low
sale price for our common stock, as reported on the OTC Bulletin Board.
  **Quarterly
      period**
    **High**
    **Low**Fiscal
      year ended December 31, 2002:First
      Quarter
    $1.10
    $0.80Second
      Quarter
    $1.20
    $0.70Third
      Quarter
    $1.00
    $0.70Fourth
      Quarter
    $0.72
    $0.45Fiscal
      year ended December 31, 2003:First
      Quarter
    $0.62
    $0.50Second
      Quarter
    $0.70
    $0.50Third
      Quarter
    $4.00
    $0.40Fourth
      Quarter
    $7.75
    $3.50Fiscal
      year ended December 31, 2004:First
      Quarter
    $5.50
    $4.00Second
      Quarter
    $4.05
    $2.40Third
      Quarter
    $3.50
    $1.50Fourth
      Quarter
    $2.15
    $1.25
 
 **Holders**
 As of
March 15, 2005, there were approximately 550 holders of record of the Company's
Common Stock.
  *- 19
-*
  **Dividends**
 We have
not paid any cash dividends on our common stock since our inception and do not
anticipate paying any cash dividends on our common stock in the foreseeable
future. We expect to retain our earnings, if any, to provide funds for the
expansion of our business. Future dividend policy will be determined
periodically by our board of directors based upon conditions then existing,
including our earnings and financial condition, capital requirements and other
relevant factors.
  **Equity
Compensation Plan Information**
 The
following table sets forth certain information regarding the Company’s equity
compensation plans as of December 31, 2004.
 
 **Number
      of securities to be issued upon exercise of outstanding options, warrants
      and rights**
      
      
      
      **(a)**
    **Weighted-average
      exercise price of outstanding options, warrants and rights**
      
      
      
      **(b)**
    **Number
      of securities remaining available for future issuance under equity
      compensation plans (excluding securities reflected in column (a))**
      
      
      
      **(c)**Equity
      compensation plans approved by security holders
    745,083
    $
      3.80
    66,917Equity
      compensation plans not approved by security holders
    3,580,472
    8.64
    0**Total**
    4,325,555
    $
      7.80
    66,917
  
 Our
current employee stock option plans (the “Plans”) provide for the grant of
non-statutory or incentive stock options to the Company’s employees, officers,
directors or consultants.
  The
Compensation Committee of our board of directors administers the Plans, selects
the individuals to whom options will be granted, determines the number of
options to be granted, and the term and exercise price of each option. Stock
options granted pursuant to the terms of the Plans generally cannot be granted
with an exercise price of less than 100% of the fair market value on the date of
the grant (110% for awards issued to a 10% or more stockholder). The term of the
options granted under the Plans cannot be greater than 10 years; 5 years for a
10% or more stockholder. Options vest at varying rates generally over five
years. An aggregate of 855,000 shares were reserved under the Plans, of which
66,917 shares were available for future grant at December 31, 2004.
 
 **ITEM
6.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS**
 
 **Overview**
 
 The
Company through its wholly owned subsidiary, Trestle Acquisition Corp.
("Trestle"), develops and sells digital tissue imaging and telemedicine
applications linking dispersed users and data primarily in the healthcare and
pharmaceutical markets. Trestle's digital tissue imaging products provide a
digital platform to share, store, and analyze tissue images. Trestle's
telemedicine product provides healthcare organizations with a cost effective
platform for remote examination, diagnosis, and treatment of patients.
 
 On
May 20, 2003, Trestle Holdings entered this line of business through its
purchase of substantially all of the assets of Trestle Corporation, a Delaware
corporation ("Old Trestle"), and certain assets of Med Diversified, Inc., a
Nevada corporation and parent corporation of Old Trestle ("Med"), and two of
Med's non-debtor subsidiaries.
  *- 20
-*
  
 On
August 29, 2003, a shareholder meeting was held where a plan was approved
to reorganize the Company. Under the reorganization plan, the remaining
entertainment assets of the Company were sold pursuant to terms entered into
April 10, 2003. See discussion of the divestiture in Note 3. In
addition, (1) a pro rata cash distribution of $2,000,000 was made to the
holders of the Company's preferred stock on or about October 3, 2003;
(2) Sunland Entertainment Co., Inc. ("Sunland") officially changed its
name to Trestle Holdings, Inc.; and (3) all issued and outstanding
shares of the Company's preferred stock were converted into 2,578,000 shares of
common stock, giving the Company 3,033,000 shares of common stock outstanding
immediately subsequent to the reorganization.
 
 On March
11, 2005, the Company acquired substantially all of the assets of InterScope
Technologies, Inc. in exchange for 337,838 shares of Trestle common stock and
$177,000 in operating and capital expenses. Concurrently, the Company hired four
InterScope employees three of whom were technical personnel and one who was
management. For the year ended December 31, 2004, InterScope Technologies
reported that they had revenues and net loss of approximately $554,000 and $1.8
million, respectively. As a result of this transaction we anticipate that both
research and development and selling, general and administrative expense will
increase from their current levels.
  **Critical
accounting policies and estimates**
  In
November 2004, the FASB issued SFAS No. 151,”Inventory Costs”. SFAS No. 151
amends the accounting for abnormal amounts of idle facility expense, freight,
handling costs, and wasted material (spoilage) under the guidance in ARB No. 43,
Chapter 4,"Inventory Pricing”. Paragraph 5 of ARB No. 43, Chapter 4, previously
stated that ". . . under some circumstances, items such as idle facility
expense, excessive spoilage, double freight, and rehandling costs may be so
abnormal as to require treatment as current period charges. . . ." This
Statement requires that those items be recognized as current-period charges
regardless of whether they meet the criterion of "so abnormal." In addition,
this Statement requires that allocation of fixed production overheads to the
costs of conversion be based on the normal capacity of the production
facilities. This statement is effective for inventory costs incurred during
fiscal years beginning after June 15, 2005. Management does not expect adoption
of SFAS No. 151 to have a material impact on the Company’s financial
statements.
  In
December 2004, the FASB issued SFAS No. 152,”Accounting for Real Estate
Time-Sharing Transactions”. The FASB issued this Statement as a result of the
guidance provided in AICPA Statement of Position (SOP) 04-2,”Accounting for Real
Estate Time-Sharing Transactions”. SOP 04-2 applies to all real estate
time-sharing transactions. Among other items, the SOP provides guidance on the
recording of credit losses and the treatment of selling costs, but does not
change the revenue recognition guidance in SFAS No. 66,”Accounting for Sales of
Real Estate”, for real estate time-sharing transactions. SFAS No. 152 amends
Statement No. 66 to reference the guidance provided in SOP 04-2. SFAS No. 152
also amends SFAS No. 67, “Accounting for Costs and Initial Rental Operations of
Real Estate Projects”, to state that SOP 04-2 provides the relevant guidance on
accounting for incidental operations and costs related to the sale of real
estate time-sharing transactions. SFAS No. 152 is effective for years beginning
after June 15, 2005, with restatements of previously issued financial statements
prohibited. This statement is not applicable to the Company.
  In
December 2004, the FASB issued SFAS No. 153,”Exchanges of Nonmonetary Assets,”
an amendment to Opinion No. 29,”Accounting for Nonmonetary Transactions”.
Statement No. 153 eliminates certain differences in the guidance in Opinion No.
29 as compared to the guidance contained in standards issued by the
International Accounting Standards Board. The amendment to Opinion No. 29
eliminates the fair value exception for nonmonetary exchanges of similar
productive assets and replaces it with a general exception for exchanges of
nonmonetary assets that do not have commercial substance. Such an exchange has
commercial substance if the future cash flows of the entity are expected to
change significantly as a result of the exchange. SFAS No. 153 is effective for
nonmonetary asset exchanges occurring in periods beginning after June 15, 2005.
Earlier application is permitted for nonmonetary asset exchanges occurring in
periods beginning after December 16, 2004. Management does not expect adoption
of SFAS No. 153 to have a material impact on the Company’s financial
statements.
  In
December 2004, the FASB issued SFAS No. 123(R),”Share-Based Payment”. SFAS
123(R) amends SFAS No. 123,”Accountung for Stock-Based Compensation”, and APB
Opinion 25,”Accounting for Stock Issued to Employees.” SFAS No.123(R) requires
that the cost of share-based payment transactions (including those with
employees and non-employees) be recognized in the financial statements. SFAS No.
123(R) applies to all share-based payment transactions in which an entity
acquires goods or services by issuing (or offering to issue) its shares, share
options, or other equity instruments (except for those held by an ESOP) or by
incurring liabilities (1) in amounts based (even in part) on the price of the
entity’s shares or other equity instruments, or (2) that require (or may
require) settlement by the issuance of an entity’s shares or other equity
instruments. This statement is effective (1) for public companies qualifying as
SEC small business issuers, as of the first interim period or fiscal year
beginning after December 15, 2005, or (2) for all other public companies, as of
the first interim period or fiscal year beginning after June 15, 2005, or (3)
for all nonpublic entities, as of the first fiscal year beginning after December
15, 2005. Management is currently assessing the effect of SFAS No. 123(R) on the
Company’s financial statement.
   *- 21
-*
  The SEC
recently issued Financial Reporting Release No. 60, "Cautionary Advice
Regarding Disclosure About Critical Accounting Policies" ("FRR60"), suggesting
companies provide additional disclosure and commentary on those accounting
policies considered most critical. FRR 60 considers an accounting policy to be
critical if it is important to the Company's financial condition and results of
operations, and requires significant judgment and estimates on the part of
management in its application. For a summary of the Company's significant
accounting policies, including the critical accounting policies discussed below,
see the accompanying notes to the consolidated financial statements in the
section entitled " *Financial
Statements* ".
 
 The
preparation of the Company's financial statements in conformity with accounting
principles generally accepted in the United States of America ("GAAP") requires
management to make estimates, judgments and assumptions that affect the reported
amounts of assets and liabilities, disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amount of
expenses during the reporting period. On an ongoing basis, the Company evaluates
its estimates which are based on historical experience and on various other
assumptions that are believed to be reasonable under the circumstances. The
result of these evaluations forms the basis for making judgments about the
carrying values of assets and liabilities and the reported amount of expenses
that are not readily apparent from other sources. Actual results may differ from
these estimates under different assumptions. The following accounting policies
require significant management judgments and estimates:
 
 The
Company recognizes revenue on product sales after shipment of the product to the
customer and formal acceptance by the customer has been received. Depending upon
the specific agreement with the customer, such acceptance normally occurs
subsequent to one or more of the following events: receipt of the product by the
customer, installation of the product by the Company and training of customer
personnel by the Company. For sales
to qualified distributors revenues are recognized upon transfer of title which
is generally upon shipment. Revenue
collected in advance of product shipment or formal acceptance by the customer is
reflected as deferred revenue. Revenue attributable to software maintenance and
support is deferred and recognized ratably over the term of the maintenance
agreement, generally one year.
 
 The
Company recognizes revenue on multiple element arrangements using the residual
method. Under the residual method, revenue is recognized when Company-specific
objective evidence of fair value exists for all of the undelivered elements in
the arrangement, but does not exist for one or more of the delivered elements in
the arrangement. At the outset of the arrangement with the customer, the Company
defers revenue for the fair value of the undelivered elements such as consulting
services and product maintenance, and recognizes the revenue for the remainder
of the arrangement fee attributable to the elements initially delivered when the
basic criteria in SOP 97-2 have been met. Revenue from consulting services is
recognized as the related services are performed.
 
 The
Company accounts for its business acquisitions under the purchase method of
accounting in accordance with SFAS 141, "Business Combinations." The total
cost of acquisitions is allocated to the underlying net assets, based on their
respective estimated fair values. The excess of the purchase price over the
estimated fair value of the tangible net assets acquired is recorded as
intangibles. Determining the fair value of assets acquired and liabilities
assumed requires management's judgment and often involves the use of significant
estimates and assumptions, including assumptions with respect to future cash
inflows and outflows, discount rates, asset lives, and market multiples, among
other items.
 
 The
Company assesses the potential impairment of long-lived assets and identifiable
intangibles under the guidance of SFAS 144, "Accounting for the Impairment
or Disposal of Long-Lived Assets." which states that a long-lived asset should
be tested for recoverability whenever events or changes in circumstances
indicate that the carrying amount of the long-lived asset exceeds its fair
value. An impairment loss is recognized only if the carrying amount of the
long-lived asset exceeds its fair value and is not recoverable.
 
 The
Company bases its estimates on historical experience and on various other
assumptions that are believed to be reasonable under the circumstances, the
results of which form the basis for making judgments about the carrying values
of assets and liabilities that are not readily apparent from other sources.
There can be no assurance that actual results will not differ from these
estimates.
  *- 22
-*
 
 **Fiscal
Year 2004 Compared to Fiscal Year 2003**
 
 **Results
From Operations**
 *Revenues*
 Revenues
were $4,807,000 and $1,961,000 for the years ended December 31, 2004 and 2003,
respectively. Revenues consisted of $4,346,000 and $1,477,000 of installation
revenues and $460,000 and $484,000 of software support revenues for the years
ended December 31, 2004 and 2003, respectively. The increase in revenue is due
to revenues generated by the Company’s acquired Trestle business as of May 20,
2003.
  *Cost
of Sales*
 Cost of
sales was $2,243,000 and $535,000 for the years ended December 31, 2004 and
2003, respectively. The increase in cost of sales is due to the increase in
revenues described above.
  *Research
and Development*
 Research
and development expenses were $1,847,000 and $1,228,000 for the years ended
December 31, 2004 and 2003, respectively. The increase in research and
development results from the acquisition of Trestle as of May 20, 2003. The
principal component of this expense is compensation expense paid to consultants
and employees of $1,322,000 and $973,000 for the years ended December 31, 2004
and 2003, respectively.
  *Selling,
General and Administrative Expenses*
 Selling,
general and administrative expenses were $5,905,000 and $3,909,000 for the years
ended December 31, 2004 and 2003, respectively, an increase of $1,996,000. The
increase in selling, general and administrative expenses is principally
attributed to an increase in expenses due to our addition of Trestle’s
personnel, consultants and our attorney fees as of the date of acquisition. The
total expense relating employees, consultants and our attorneys was
$4,417,000.
  *Interest
Income/(Expense)*
 Interest
income/(expense) was ($436,000) and $39,000 in the years ended December 31, 2004
and 2003, respectively. The increase is principally attributed to the interest
from the beneficial conversion feature of the convertible note.
  *Discontinued
Operations*
 Income
from discontinued operations was zero and $1,876,000 in the years ended December
31, 2004 and 2003, respectively. The decrease of $1,876,000 can be principally
attributed to the gain on sale of the PM Entertainment Library in
2003.
  **Liquidity
and Capital Resources**
 
 Net cash
used in operating activities was $3,812,000 and $4,582,000 in the years ended
December 31, 2004 and 2003, respectively. The decrease of $770,000 in cash used
by operating activities was primarily due to the reduction in prepaid expenses,
and an increase in accounts payable when comparing 2004 to 2003. These were
partially offset by higher operating losses in 2004 and cash provided by
discontinued operation in 2003. Prior to the Trestle Acquisition, we were a
licensor of filmed entertainment with few employees.
  Net cash
provided by/(used in) investing activities was ($78,000) and $2,969,000 in the
years ended December 31, 2004 and 2003, respectively. The decrease of $3,047,000
in cash provided by investing activities was primarily due to investing
activities in 2003 principally resulted from the purchase of substantially all
of the assets of Old Trestle and the sale of the PM Entertainment Library.
  Net cash
provided by/(used in) financing activities was $5,899,000 and zero in 2004 and
2003, respectively. The increase of $5,899,000 in cash provided by financing
activities was primarily due to the sale of common stock and warrants in
2004.
  During
the second and third quarters of the year ended December 31, 2004, we sold
2,237,000 units in a private placement resulting in net proceeds of $4,474,000.
Each unit consisted of one share of common stock and a warrant to purchase one
half share of common stock for $2.00 per share. In March 2004, the Company
raised $420,000 pursuant to a bridge financing agreement with Zaykowski
Partners, LP to meet its short-term operating cash needs. Under this agreement,
the company issued a convertible promissory note in the principal amount of
$420,000, which was secured by all the assets of the Company, and a warrant to
purchase 9,300 shares of common stock at $4.40 per share. In July 2004, the
Company converted the convertible note payable in the private placement for
$440,000.
  *- 23
-*
  
 Additionally,
during the fourth quarter of the year ended December 31, 2004, we sold 1,143,000
units in a private placement resulting in net proceeds of $2,000,000.
O n January
21, 2005, the Company completed this private placement. The placement was a unit
offering to institutional and accredited investors, with each unit consisting of
one share of the Company's common stock and a warrant to purchase 0.75 shares of
common stock. The units were priced at $1.75 and each warrant is exercisable for
shares at $1.75 per share. The Company sold an aggregate of 2,600,000 units
resulting in gross proceeds of $4,550,000 to the Company of which the $2,000,000
had been received by December 31, 2004. The Company has agreed to file a
registration statement for the purpose of registering for resale the shares of
common stock forming the units, including the common stock underlying the
warrants. The Company paid commissions of $19,600 to Scottsdale Capital and
$137,597 to T.R. Winston & Company as non-exclusive agents on the funding.
These payments were offset against funds received in the offering.
 
 The
Company has suffered recurring losses from operations and has an accumulated
deficit of $44,761,000 at December 31, 2004. Primarily
as a result of our recurring losses and our lack of liquidity, the Company has
received a report from our independent auditors that includes an explanatory
paragraph describing the uncertainty as to our ability to continue as a going
concern. Management
anticipates that our existing cash and cash equivalents will be sufficient to
fund our operations through at least December 2005. To
continue our operations, or if our current level of operations change, the
Company will be required to secure additional working capital, by way of equity
or debt financing, or otherwise, to sustain continuing operations. There can be
no assurance that the Company will be able to secure sufficient financing or on
terms acceptable to the Company. If we are unable to obtain adequate funds if
and when needed, we would be required to delay, limit or eliminate some or all
of our proposed operations. If additional funds are raised through the issuance
of equity securities, the percentage ownership of our current stockholders is
likely to or will be reduced. Please see the section below entitled "Risks
Related to Our Future Operations."
 
 **Factors
That Might Affect Future Results**
 
 We have
experienced significant fluctuations in our quarterly operating results in the
past, and we expect to experience fluctuations in the future. Our customers, who
are primarily public and private clinical laboratories, research organizations
and hospitals, generally operate on annual budgets. Their spending practices,
business cycles and budgeting cycles affect our revenues. Factors that may have
an influence on our operating results in any particular quarter include: demand
for our products, seasonality of our sales, new product introductions by us or
our competitors, and the costs and time required for a transition to the new
products, timing of orders and shipments for capital equipment sales, our mix of
sales between our distributors and our direct sales force, competition
(including pricing pressures), timing and amount of research and development
expenses (including clinical trial-related expenditures), foreign currency
fluctuations, delays between our incurrence of expenses to develop new products
(including expenses related to marketing and service capabilities), and the
timing of sales and payments received for the new products and the uncertainty
of FDA or other domestic and international regulatory clearances or approvals.
 
 Due to
the factors noted above, our future earnings and stock price may be subject to
significant volatility, particularly on a quarterly basis. It is possible that
our future operating results will be below the expectations of public market
analysts and investors. If our operating results fall below market expectations,
the price of our common stock could decline significantly.
 
  **ITEM
7. FINANCIAL STATEMENTS**
 
 See the
Company’s audited financial statements in pages F-1 through F-19.
 
 **ITEM
8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE**
 
 Not
Applicable
 
  *- 24
-*
  **ITEM
8A.**  **CONTROLS
AND PROCEDURES**
 
 Within 90
days prior to the filing of this report, members of the Company’s management,
including the Company’s Chief Executive Officer, Maurizio Vecchione, and
President and Chief Financial Officer, Barry Hall, evaluated the effectiveness
of the design and operation of the Company’s disclosure controls and procedures
pursuant to Exchange Act Rule 13a-14. Based upon that evaluation, Mr. Vecchione
and Mr. Hall believe that, as of the date of the evaluation, the Company’s
disclosure controls and procedures are effective in making known to them
material information relating to the Company (including its consolidated
subsidiaries) required to be included in this report.
 
 Disclosure
controls and procedures, no matter how well designed and implemented, can
provide only reasonable assurance of achieving an entity’s disclosure
objectives. The likelihood of achieving such objectives is affected by
limitations inherent in disclosure controls and procedures. These include the
fact that human judgment in decision-making can be faulty and that breakdowns in
internal control can occur because of human failures such as simple errors or
mistakes or intentional circumvention of the established process.
 
 There
were no significant changes in the Company’s internal controls or in other
factors that could significantly affect these internal controls, known to Mr.
Vecchione or Mr. Hall, after the date of the most recent
evaluation.
 
  **PART
III**
 
 **ITEM
9.    DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL
PERSONS; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT.**
 
 Information
regarding our directors and executive officers is to be incorporated by
reference from the Company’s 2005 Proxy Statement, which is to be filed with the
Securities and Exchange Commission not later than April 30, 2005 (120 days after
the end of the fiscal year covered by this Form 10-KSB).
 
  **ITEM
10.    EXECUTIVE COMPENSATION**
 
 Information
regarding the compensation of our directors and executive officers is to be
incorporated by reference from the Company’s 2005 Proxy Statement, which is to
be filed with the Securities and Exchange Commission not later than April 30,
2005 (120 days after the end of the fiscal year covered by this Form
10-KSB).
 
  **ITEM
11.    SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT AND RELATED STOCKHOLDER MATTERS**
 
 Information
regarding the ownership of our common stock by certain persons is to be
incorporated by reference from the Company’s 2005 Proxy Statement, which is to
be filed with the Securities and Exchange Commission not later than April 30,
2005 (120 days after the end of the fiscal year covered by this Form
10-KSB).
 
 **ITEM
12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS**
 
 Information
regarding relationships or transactions between our affiliates and us is to be
incorporated by reference from the Company’s 2005 Proxy Statement, which is to
be filed with the Securities and Exchange Commission not later than April 30,
2005 (120 days after the end of the fiscal year covered by this Form
10-KSB).
 
  *- 25
-*
   **ITEM
13. EXHIBITS LIST AND REPORTS ON FORM 8-K**
  ExhibitNumber
    Description
      of Exhibit*2.1
    Third
      Amendment to Asset Purchase Agreement dated as of September 3, 2003,
      by and among the Company, Pepin/Merhi Entertainment, Inc. and Film Library
      Acquisition Corp.*2.2
    Asset
      Purchase Agreement dated as of April 16, 2003, by and among the Trestle
      Acquisition Corp., Med Diversified, Inc. and Trestle
      Corporation.*2.3
    Amendment
      No. 1 to Asset Purchase Agreement dated as of May 20, 2003, 2003, by and
      among the Trestle Acquisition Corp., Med Diversified, Inc. and Trestle
      Corporation.*2.4
    Asset
      Purchase Agreement dated as of April 10, 2003, by and among the Company,
      Pepin/Merhi Entertainment, Inc. and Film Library Acquisition
      Corp.*3.1(i)
    Second
      Amended and Restated Articles of Incorporation of the Company
      (incorporated herein by reference to Exhibit 3.1 of Company's
      Registration Statement No. 33-63363-LA)*3.2(i)
    First
      Amendment to Second Amended and Restated Articles of Incorporation of the
      Company (incorporated herein by reference to Exhibit 3.2 of Company's
      Registration Statement No. 33-63363-LA)*3.3(i)
    Certificate
      of Determination filed with the California Secretary of State of
      April 15, 1999 (incorporated by reference to Exhibit 3.1 of the
      Company's Form 8-K dated April 26, 1999)*3.4(ii)
    Second
      Restated and Amended Bylaws of the Company (incorporated herein by
      reference to Exhibit 3.3 of Company's Registration Statement
      No. 33-63363-LA)*3.5(ii)
    First
      Amendment to Second Restated and Amended Bylaws of the Company
      (incorporated herein by reference to Exhibit 3.4 of Company's
      Registration Statement No. 33-63363-LA)*4.1
    Form
      of Stock Certificate (incorporated herein by reference to Exhibit 4
      of Company's Registration Statement No. 33-63363-LA)*10.1
    1993
      Stock Option Plan and Stock Option Agreements (incorporated herein by
      reference to Exhibit 10.41 of Company's Registration Statement
      No. 33-63363-LA)*10.2
    Special
      Salary Reduction Stock Option Plan of 1993 and Stock Option Agreements
      (incorporated herein by reference to Exhibit 10.42 of Company's
      Registration Statement No. 33-63363-LA)*10.3
    Profit
      Sharing Plan and Trust Adoption Agreement (incorporated herein by
      reference to Exhibit 10.43 of Company's Registration Statement
      No. 33-63363-LA)*10.4
    1994
      Stock Option Plan (incorporated by reference to the Company's 1994
      definitive Proxy Statement)*10.5
    Sublease
      Agreement dated as of November 14, 1995 between the Company and
      Travelers Management, Inc., a California corporation (incorporated
      herein by reference to the Company's Annual Report on Form 10-KSB for
      the year ended December 31, 1995)*10.6
    Warrant
      Agreement with Michael Doherty dated January 16, 1997 (incorporated
      herein by reference to the Company's Annual Report on Form 10-KSB for
      the year ended December 31, 1996)*10.7
    The
      Harvey Entertainment Company 1997 Stock Option Plan (incorporated herein
      by reference to the Company's 1997 definitive Proxy Statement)*10.8
    Employment
      Agreement dated as of April 5, 1999 by and between the Company and
      Roger A. Burlage (incorporated by reference to Exhibit 10.5 of the
      Company's Form 8-K dated April 26, 1999)*10.9
    Warrant
      Agreement dated as of June 30, 1999 between the Company and Paul Guez
      (incorporated by reference to Exhibit 10.64 of the Company's
      Quarterly Report on Form 10-QSB for the quarter ended June 30,
      1999)*10.10
    Registration
      Rights Agreement dated as of June 30, 1999 by and between the Company
      and Paul Guez (incorporated by reference to Exhibit 10.65 of the
      Company's Quarterly Report on Form 10-QSB for the quarter ended
      June 30, 1999)
   *- 26
-*
  *10.11
    Lease
      Agreement dated September 22, 1999 between the Company and Douglas
      Emmett Realty Fund 1997, a California limited partnership (incorporated by
      reference to Exhibit 10.76 of the Company's Annual Report on
      Form 10-KSB for the year ended December 31, 1999)*10.12
    Employment
      Term Sheet dated as of May 20, 2003, by and between the Registrant and
      Jack Zeineh. (incorporated
      by reference to Exhibit 10.2 of the Company's Form 8-K dated
      June 3 31, 2003)*10.13
    Employment
      Term Sheet dated as of May 20, 2003, by and between the Registrant and
      Andrew Borsanyi. (incorporated
      by reference to Exhibit 10.1 of the Company's Form 8-K dated
      June 3, 2003)*10.14
    Warrant
      Agreement dated June 30, 2003, by and between the Company and W-Net, Inc.
      (incorporated
      by reference to Exhibit 10.4 of the Company's Quarterly Report on
      Form 10-QSB for the quarter ended June 30,
      2003)*10.15
    Warrant
      Agreement dated July 2, 2003, by and between the Company and Michael
      Doherty. (incorporated
      by reference to Exhibit 10.3 of the Company's Quarterly Report on
      Form 10-QSB for the quarter ended June 30,
      2003)*10.16
    Warrant
      Agreement dated September 26, 2003, by and between the Company and Michael
      Doherty. (incorporated
      by reference to Exhibit 10.2 of the Company's Quarterly Report on
      Form 10-QSB for the quarter ended September 30,
      2003)*10.17
    Warrant
      agreement between the Company and Andrew Borsanyi dated October 31, 2003.
      (incorporated by reference to Exhibit 99.1 of the Company's
      Form 8-K dated November 14, 2003)*10.18
    Consulting
      agreement between the Company and Andrew Borsanyi dated October 31, 2003.
      (incorporated by reference to Exhibit 99.1 of the Company's
      Form 8-K dated November 14, 2003)*10.19
    Warrant
      agreement between the Company and Crosby Haffner dated December 27, 2003.
      (incorporated by reference to Exhibit 99.1 of the Company's
      Form 8-K dated December 27, 2003)*10.20
    Consulting
      agreement between the Company and Crosby Haffner dated December 27, 2003.
      (incorporated by reference to Exhibit 99.1 of the Company's
      Form 8-K dated December 27, 2003)*10.21
    Security
      agreement between Company and Zaykowski Partners, LP dated March 3, 2004.
      (incorporated by reference to Exhibit 10.3 of the Company's Annual
      Report on Form 10-KSB for the year ended December 31,
      2003)*10.22
    Warrant
      agreement between Company and Zaykowski Partners, LP dated March 3, 2004.
      (incorporated by reference to Exhibit 10.1 of the Company's Annual
      Report on Form 10-KSB for the year ended December 31,
      2003)*10.23
    Convertible
      promissory note between the Company and Zaykowski Partners, LP dated March
      3, 2004. (incorporated by reference to Exhibit 10.2 of the Company's
      Annual Report on Form 10-KSB for the year ended December 31,
      2003)*10.24
    Consulting
      agreement between the Company and Synthetica dated May 18, 2004.
      (incorporated by reference to Exhibit 99.1 of the Company's
      Form 8-K dated May 19, 2004)*10.25
    Employment
      agreement between the Company and Maurizio Vecchione dated May 18, 2004.
      (incorporated by reference to Exhibit 99.2 of the Company's
      Form 8-K dated May 19, 2004)*10.26
    Option
      agreement between the Company and Maurizio Vecchione dated May 18, 2004.
      (incorporated by reference to Exhibit 99.3 of the Company's
      Form 8-K dated May 19, 2004)*10.27
    Employment
      agreement between the Company and Barry Hall dated May 18, 2004.
      (incorporated by reference to Exhibit 99.4 of the Company's
      Form 8-K dated May 19, 2004)*10.28
    Option
      agreement between the Company and Barry Hall dated May 18, 2004.
      (incorporated by reference to Exhibit 99.5 of the Company's
      Form 8-K dated May 19, 2004)*10.29
    Consulting
      agreement between the Company and Michael Doherty dated August 1, 2004.
      (incorporated by reference to Exhibit 99.1 of the Company's
      Form 8-K dated September 16, 2004)*10.30
    Consulting
      agreement between the Company and Doherty and Company, LLC dated September
      1, 2004. (incorporated by reference to Exhibit 99.2 of the Company's
      Form 8-K dated September 16, 2004)*10.31
    Warrant
      agreement for private placement dated (incorporated by reference to
      Exhibit 99.3 of the Company's Form 8-K dated January 24,
      2005)*10.32
    Amended
      unit purchase agreement for private placement (incorporated by reference
      to Exhibit 99.2 of the Company's Form 8-K dated January 24,
      2005)
 *- 27
-*
 *10.33
    Amended
      private placement memorandum dated (incorporated by reference to
      Exhibit 99.4 of the Company's Form 8-K dated January 24,
      2005)*10.34
    Asset
      purchase agreement between the Company and InterScope Technologies, Inc.
      (incorporated by reference to Exhibit 99.2 of the Company's
      Form 8-K dated January 24, 2005)*21
    List
      of subsidiaries of Company (incorporated herein by reference to
      Exhibit 22 of Company's Registration Statement No. 33-63363-LA)31.1
    Certification
      of Chief Executive Officer pursuant to Exchange Act Rule 13a-14 and 15d-14
      as adopted pursuant to section 302 of the Sarbanes-Oxley Act of
      2002.31.2
    Certification
      of President and Chief Financial Officer pursuant to Exchange Act Rule
      13a-14 and 15d-14 as adopted pursuant to section 302 of the Sarbanes-Oxley
      Act of 2002.32
    Certification
      of the Company’s Chief Executive Officer and Chief Financial Officer,
      pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 906 of
      the Sarbanes-Oxley Act of 2002.
 *  Previously
filed.
 
 **Reports
on Form 8-K**
 Date10/1/2004
    Press
      release announcing that it has commenced operations in Europe by retaining
      a Europe-based sales executive and inking a distribution agreement with
      Ireland-based SlidePath Ltd.10/1/2004
    On
      September 30, 2004, the Company held its previously announced conference
      call during which CEO Maurizio Vecchione and President and CFO Barry Hall
      discussed strategies and objectives to guide the company and its
      operations.10/18/2004
    Press
      release announcing that Dynacare Kasper Medical Laboratories, a
      full-service laboratory headquartered in Edmonton, Alberta, Canada, is
      deploying Trestle’s MedMicro solution to provide real-time telepathology
      and teleconsulting services to doctors and clinics around the
      province.10/29/2004
    Press
      release announcing that Trestle will work with Henry Ford Health System
      (HFHS) to implement and integrate digital-imaging solutions; the HFHS
      Pathology Laboratory will function as a test site for Trestle’s future
      products; and the two organizations will fund a Fellowship in the HFHS
      Pathology Department.
  11/10/2004
    Press
      release announcing that it will hold a teleconference to announce the
      results for the Company’s fiscal year 2004 third quarter ended
      September 30, 2004.11/15/2004
    Press
      release announcing reported financial results for the quarter ended
      September 30, 2004.11/16/2004
    On
      November 15, 2004, the Company held a conference call during which CEO
      Maurizio Vecchione and President and CFO Barry Hall discussed the results
      of operations for the third quarter 2004 and various other topics
      including operations and company strategy.11/24/2004
    Press
      release announcing a new digital pathology service
    platform.12/10/2004
    Press
      release announcing that West Parry Sound Health Centre (WPSHC), a network
      of healthcare facilities covering 70,000 people throughout Parry Sound,
      Muskoka and surrounding communities in Ontario, has deployed its first
      Trestle internet microscopy solution.12/14/2004
    Press
      release announcing that it has entered into a non-binding Letter of Intent
      to acquire the assets of InterScope Technologies, Inc. in exchange for
      Trestle stock.12/27/2004
    Press
      release announcing that is has entered into an exclusive distribution
      agreement with Japan’s Kurabo Industries Ltd.12/27/2004
    On
      December 27, 2004, the Company issued a press release announcing that it
      has closed the first tranche of its private placement to institutional and
      accredited investors.12/30/2004
    Press
      release announcing that the company has been selected as the primary
      technology partner for Hawaii Health Systems Corporation (HHSC), a
      public-benefit company, in a grant project to bring specialized medical
      service and distance learning statewide to rural, underserved communities
      in Hawaii.
   
 Singer
Lewak Greenbaum & Goldstein LLP , our
independent registered accounting firm, billed the Company $78,000 and $146,000
for audit fees during the years ended December 31, 2004 and 2003, respectively.
  *- 28
-*
  **Signatures**
 
 In
accordance with Section 13 or 15(d) of the Exchange Act, the Issuer has
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
 
 Trestle
      Holdings, Inc.Date:
      March 30, 2005
    
    
    By:
    /s/  
      MAURIZIO VECCHIONE
      -----------------------------------------------------------
      Name:
      Maurizio Vecchione
      *Title:
      Chief Executive Officer*
      *(Principal
      Executive Officer)*Date:
      March 30, 2005
    
    
    By:
    /s/  
      BARRY HALL
      -----------------------------------------------------------
      Name:
      Barry Hall
      *Title:
      President and Chief Financial Officer*
      *(Principal
      Financial and Accounting Officer)*
 
 In
accordance with the Exchange Act, this report has been signed below by the
following person on behalf of the registrant and in the capacities and on the
date indicated:
 
 **SIGNATURE**
    
    **TITLE**
    
    **DATE**/s/  
      MAURIZIO VECCHIONE
      ------------------------------------
      Maurizio
      Vecchione
    
    Chief
      Executive Officer
      (Principal
      Executive Officer)
    
    March
      30, 2005/s/  
      BARRY HALL
      ------------------------------------
      Barry
      Hall
    
    Chief
      Financial Officer
      (Principal
      Financial and Accounting Officer)
    
    March
      30, 2005/s/  
      MICHAEL BECICH
      ------------------------------------
      Michael
      Becich
    
    Director
    
    March
      30, 2005/s/  
      WILLIAM DALLAS
      ------------------------------------
      William
      Dallas
    
    Director
    
    March
      30, 2005/s/  
      MICHAEL DOHERTY
      ------------------------------------
      Michael
      S. Doherty
    
    Director
    
    March
      30, 2005/s/  
      GARY GRAY
      -------------------------------------
      Gary
      M. Gray
    
    Director
    
    March
      30, 2005/s/  
      ALLON GUEZ
      -------------------------------------
      Allon
      Guez
    
    Director
    
    March
      30, 2005/s/  
      CROSBY HAFFNER
      ------------------------------------
      Crosby
      Haffner
    
    Director
    
    March
      30, 2005/s/  
      MICHAEL HOPE
      ------------------------------------
      Michael
      Hope
    
    Director
    
    March
      30, 2005
    ****
 *- 29
-*
 **ITEM
7.    FINANCIAL STATEMENTS**
 
 **TRESTLE
HOLDINGS, INC. AND SUBSIDIARIES**
 
 **TABLE
OF CONTENTS**
 
  **PAGE**REPORT
      OF INDEPENDENT ACCOUNTANTS
    
    F-2CONSOLIDATED
      FINANCIAL STATEMENTS AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2004
      AND 2003Consolidated
      Balance Sheets
    
    F-3
      to F-4Consolidated
      Statements of Operations
    
    F-5Consolidated
      Statements of Stockholders' Equity
    
    F-6Consolidated
      Statements of Cash Flows
    
    F-7Notes
      to Consolidated Financial Statements
    
    F-8
      to F-19
 
 
 
 
 
 
 
 
 **
   **REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM**
****
****
****
To the
Board of Directors
Trestle
Holdings, Inc.
Irvine,
California

We have
audited the consolidated balance sheets of Trestle Holdings, Inc. and
subsidiaries as of December 31, 2004 and 2003, and the related consolidated
statements of operations, stockholders’ equity and cash flows for each of the
years then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.

We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provided a
reasonable basis for our opinion.

In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of Trestle Holdings, Inc. and
subsidiaries as of December 31, 2004 and 2003, and the results of their
operations and their cash flows for the years then ended, in conformity with
U.S. generally accepted accounting principles.

The
accompanying financial statements have been prepared assuming that the Company
will continue as a going concern. As discussed in Note 1 to the financial
statements, the Company has suffered recurring losses from operations and has an
accumulated deficit. This raises substantial doubt about the Company's ability
to continue as a going concern. Management's plans in regard to these matters
are also described in Note 1. The financial statements do not include any
adjustments that might result from the outcome of this uncertainty.



SINGER
LEWAK GREENBAUM & GOLDSTEIN, LLP

Los
Angeles, California
March 26,
2005
 
 
 
  *F-2*
  **TRESTLE
HOLDINGS, INC. AND SUBSIDIARIES**
 
 **CONSOLIDATED
BALANCE SHEETS**
 
 **Years
      Ended December 31,****2004**
    
    **2003****ASSETS**CURRENT
      ASSETSCash
      and cash equivalents
    
    $
    2,371,000
    
    $
    363,000Accounts
      receivable, net of allowance for doubtful accounts of $59,000 and $6,000
      in 2004 and 2003, respectively
    
    
    979,000
    
    
    505,000Inventory
    
    
    550,000
    
    
    223,000Prepaid
      expenses and other assets
    
    
    85,000
    
    
    573,000TOTAL
      CURRENT ASSETS
    
    
    3,985,000
    
    
    1,664,000Other
      assets
    
    
    315,000
    
    
    535,000Fixed
      assets, net of accumulated depreciation of $342,000 and $1,170,000 in 2004
      and 2003, respectively
    
    
    117,000
    
    
    165,000Goodwill
    
    
    1,514,000
    
    
    1,514,000Intangible
      assets, net of accumulated amortization of $395,000 and $158,000 in 2004
      and 2003, respectively
    
    
    335,000
    
    
    584,000TOTAL
      ASSETS
    
    $
    6,266,000
    
    $
    4,462,000
 
 
 See
accompanying notes to consolidated financial statements.
 
 (Continued)
  *F-3*
  
 **TRESTLE
HOLDINGS, INC. AND SUBSIDIARIES**
 
 **CONSOLIDATED
BALANCE SHEETS**
 
 **Years
      Ended December 31,****2004**
    
    **2003****LIABILITIES
      AND STOCKHOLDERS' EQUITY**CURRENT
      LIABILITIES:Accounts
      payable and accrued expenses
    
    $
    1,084,000
    
    $
    1,068,000Deferred
      revenue
    
    
    377,000
    
    
    554,000TOTAL
      CURRENT LIABILITIES
    
    
    1,461,000
    
    
    1,622,000COMMITMENTS
      AND CONTINGENCIESSTOCKHOLDERS'
      EQUITY:Preferred
      stock, $10 par value, 4,675,000 shares authorized, zero and zero shares
      issued and outstanding at December 31, 2004 and 2003,
      respectively
    
    
    —
    
    
    —Series B
      Convertible Preferred Stock, $1,000 stated value, 250,000 shares
      authorized, zero and zero shares issued and outstanding at
      December 31, 2004 and 2003, respectively, liquidation preference of
      zero and zero at December 31, 2004 and 2003, respectively
    
    
    —
    
    
    —Common
      stock, $.001 par value, 40,000,000 shares authorized, 6,443,000 and
      3,033,000 issued and outstanding at December 31, 2004 and 2003,
      respectively
    
    
    6,000
    
    
    3,000Additional
      paid in capital
    
    
    49,613,000
    
    
    43,019,000Deferred
      stock compensation
    
    
    (53,000
    )
    
    (486,000
    )Accumulated
      deficit
    
    
    (44,761,000
    )
    
    (39,696,000
    )Total
      stockholders' equity
    
    
    4,805,000
    
    
    2,840,000TOTAL
      LIABILITIES AND STOCKHOLDERS' EQUITY
    
    $
    6,266,000
    
    $
    4,462,000
 
 See
accompanying notes to consolidated financial statements.
 ****
  *F-4*
 TRESTLE HOLDINGS, INC. AND SUBSIDIARIES   **CONSOLIDATED
STATEMENTS OF OPERATIONS**
 **Years
      Ended December 31,****2004**
    
    **2003**REVENUESProduct
    
    $
    4,347,000
    
    $
    1,477,000Software
      support
    
    
    460,000
    
    
    484,000Total
      revenues
    
    
    4,807,000
    
    
    1,961,000COST
      OF SALES
    
    
    2,243,000
    
    
    535,000GROSS
      PROFIT
    
    
    2,564,000
    
    
    1,426,000OPERATING
      EXPENSESResearch
      and development
    
    
    1,847,000
    
    
    1,228,000Selling,
      general and administrative expenses
    
    
    5,905,000
    
    
    3,909,000Total
      operating expenses
    
    
    7,752,000
    
    
    5,137,000LOSS
      FROM OPERATIONS
    
    
    (5,188,000
    )
    
    (3,711,000
    )Interest
      income and other, net
    
    
    123,000
    
    
    39,000LOSS
      FROM CONTINUING OPERATIONS
    
    
    (5,065,000
    )
    
    (3,672,000
    )Net
      income from discontinued operations
    
    
    —
    
    
    232,000Gain
      on sale of discontinued operations
    
    
    —
    
    
    1,644,000Total
      gain from discontinued operations
    
    
    —
    
    
    1,876,000NET
      LOSS
    
    
    (5,065,000
    )
    
    (1,796,000
    )Preferred
      stock dividends
    
    
    —
    
    
    (827,000
    )NET
      LOSS APPLICABLE TO COMMON STOCKHOLDERS
    
    $
    (5,065,000
    )
    $
    (2,623,000
    )LOSS
      PER SHARE OF COMMON STOCK BEFORE DISCONTINUED OPERATIONS—Basic and diluted
    
    $
    (1.24
    )
    $
    (2.78
    )Discontinued
      operations
    
    
    —
    
    
    1.42Preferred stock dividends
    
    
    —
    
    
    (0.63
    )NET
      LOSS PER SHARE OF COMMON STOCK—Basic and diluted
    
    $
    (1.24
    )
    $
    (1.99
    )WEIGHTED
      AVERAGE SHARES OUTSTANDING—Basic and diluted
    
    
    4,087,000
    
    
    1,317,000
 
 See
accompanying notes to consolidated financial statements.
 ****
  *F-5*
 TRESTLE HOLDINGS, INC. AND SUBSIDIARIES   **CONSOLIDATED
STATEMENTS OF STOCKHOLDERS' EQUITY**
 **YEARS
ENDED DECEMBER 31, 2004 AND 2003**
 
 
 
 **Series
      B Preferred**
    
    **Common
      Stock****Shares**
    
    **Amount**
    
    **Shares**
    
    **Amount**
    
    **Additional**
      **Paid
      in**
      **Capital**
    
    **Deferred
      Stock Compensation**
    
    **Accumulated
      Deficit**
    
    **Total**BALANCE,
      DECEMBER 31, 2002
    
    12,235
    
    
    12,235,000
    
    455,000
    
    
    0
    
    26,459,000
    
    0
    
    (37,073,000
    )
    
    1,621,000Stock
      dividends declared
    
    583
    
    
    583,000
    
    
    
    
    
    
    
    
    
    
    (827,000
    )
    
    (244,000)Corporate
      reorganization
    
    (12,818
    )
    
    (12,818,000
    )
    2,578,000
    
    
    3,000
    
    15,386,000
    
    
    
    
    
    
    2,571,000Issuance
      of warrants and options
    
    
    
    
    
    
    
    
    
    
    
    1,174,000
    
    (486,000)
    
    
    
    
    688,000Net
      loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,796,000)
    
    
    (1,796,000)BALANCE,
      DECEMBER 31, 2003
    
    0
    
    $
    0
    
    3,033,000
    
    $
    3,000
    $
    43,019,000
    
    (486,000)
    $
    (39,696,000
    )
    $
    2,840,000Issuance
      of warrants and options
    
    
    
    
    
    
    
    
    
    
    
    275,000
    
    433,000
    
    
    
    
    708,000Exercise
      of options
    
    
    
    
    
    
    30,000
    
    
    
    
    19,000
    
    
    
    
    
    
    19,000Beneficial
      conversion feature on convertible note payable
    
    
    
    
    
    
    
    
    
    
    
    403,000
    
    
    
    
    
    
    403,000Offering
      costs
    
    
    
    
    
    
    
    
    
    
    
    (574,000
    )
    
    
    
    
    
    (574,000)Issuance
      of common stock on conversion of convertible note payable
    
    
    
    
    
    
    220,000
    
    
    
    
    440,000
    
    
    
    
    
    
    440,000Issuance
      of common stock for cash
    
    
    
    
    
    
    3,160,000
    
    
    3,000
    
    6,031,000
    
    
    
    
    
    
    6,034,000Net
      loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (5,065,000)
    
    
    (5,065,000)BALANCE,
      DECEMBER 31, 2004
    
    0
    
    $
    0
    
    6,443,000
    
    $
    6,000
    $
    49,613,000
    
    (53,000)
    $
    (44,761,000
    )
    $
    4,805,000
 
 See
accompanying notes to consolidated financial statements.
 
 
  *F-6*
  **TRESTLE
HOLDINGS, INC. AND SUBSIDIARIES**
 **CONSOLIDATED
STATEMENTS OF CASH FLOWS**
 
 **Years
      Ended December 31,****2004**
    
    **2003**CASH
      FLOWS FROM OPERATING ACTIVITIES:Loss
      before discontinued operations
    
    $
    (5,065,000
      )
    
    $
    (3,672,000)Adjustments
      to reconcile loss before discontinued operations to net cash provided
      by/(used in) operating activities:Depreciation
      and amortization
    
    
    375,000
    
    
    222,000Provision
      for doubtful accounts
    
    
    85,000
    
    
    —Deferred
      stock compensation
    
    
    691,000
    
    
    688,000Interest
      on fixed conversion features
    
    
    440,000
    
    
    —Changes
      in operating assets and liabilities, net of effects from
      acquisition/disposition of business:Accounts
      receivable
    
    
    (559,000)
    
    
    (447,000)Inventory
    
    
    (327,000)
    
    
    8,000Prepaid
      expenses and other assets
    
    
    709,000
    
    
    (294,000)Income
      taxes receivable
    
    
    
    
    
    7,000Accounts
      payable and accrued expenses
    
    
    16,000
    
    
    (1,714,000)Deferred
      revenue
    
    
    (177,000)
    
    
    (479,000)Net
      cash (used in) continuing operations
    
    
    (3,812,000)
    
    
    (5,681,000)Net
      cash provided by discontinued operations
    
    
    
    
    
    1,099,000Net
      cash (used in) operating activities
    
    
    (3,812,000)
    
    
    (4,582,000)CASH
      FLOWS FROM INVESTING ACTIVITIES:Additions
      to fixed assets
    
    
    (78,000)
    
    
    (77,000)Cash
      paid for acquisition of Trestle
    
    
    —
    
    
    (1,175,000)Net
      proceeds from divesture of discontinued operations
    
    
    —
    
    
    4,221,000Net
      cash (used in)/provided by investing activities
    
    
    (78,000)
    
    
    2,969,000CASH
      FLOWS FROM FINANCING ACTIVITIES:Net
      proceeds from exercise of common stock options
    
    
    19,000
    
    
    —Offering
      costs on issuance of common stock
    
    
    (574,000)
    
    
    —Net
      proceeds from issuance of common stock
    
    
    6,034,000
    
    
    —Net
      proceeds from issuance of convertible note payable
    
    
    420,000
    
    
    —Net
      cash provided by financing activities
    
    
    5,899,000
    
    
    —NET
      INCREASE/(DECREASE) IN CASH
    
    
    2,009,000
    
    
    (1,613,000)CASH,
      Beginning of period
    
    
    363,000
    
    
    1,976,000CASH,
      End of period
    
    $
    2,371,000
    
    $
    363,000
 
 **Years
      Ended December 31,****2004**
    
    **2003****SUPPLEMENTAL
      DISCLOSURE OF CASH FLOW INFORMATION:**Cash
      received/(paid) during the period for:Interest
    
    $
    29,000
    
    $
    39,000Income
      taxes
    
    $
    —
    
    $
    75,000
 
 **NON-CASH
FINANCING ACTIVITY:**
 
 See Note
2 for disclosure of non-cash financing activities.
 
 See
accompanying notes to consolidated financial statements
  *F-7*
  **TRESTLE
HOLDINGS, INC. AND SUBSIDIARIES**
 **NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS**
 **YEARS
ENDED DECEMBER 31, 2004 AND 2003**
 
 **NOTE
1.    SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**
 
 ***Current
Operations and Background*** — Trestle
Holdings (Delaware), Inc. ("Trestle Holdings" or "Company"), through its
wholly owned subsidiary, Trestle Acquisition Corp. ("Trestle"), develops and
sells digital tissue imaging and telemedicine applications linking dispersed
users and data primarily in the healthcare and pharmaceutical markets. Trestle's
digital tissue imaging products provide a digital platform to share, store, and
analyze tissue images. Trestle's telemedicine product provides healthcare
organizations with a cost effective platform for remote examination, diagnosis,
and treatment of patients.
 
 On
May 20, 2003, Trestle Holdings entered this line of business through its
purchase of substantially all of the assets of Trestle Corporation, a Delaware
corporation ("Old Trestle"), and certain assets of Med Diversified, Inc., a
Nevada corporation and parent corporation of Old Trestle ("Med"), and two of
Med's non-debtor subsidiaries.
 
 On
August 29, 2003, a shareholder meeting was held where a plan was approved
to reorganize the Company. Under the reorganization plan, the remaining
entertainment assets of the Company were sold pursuant to terms entered into
April 10, 2003. See discussion of the divestiture in Note 3. In
addition, (1) a pro rata cash distribution of $2,000,000 was made to the
holders of the Company's preferred stock on or about October 3, 2003;
(2) Sunland Entertainment Co., Inc. ("Sunland") officially changed its
name to Trestle Holdings, Inc.; and (3) all issued and outstanding
shares of the Company's preferred stock were converted into 2,578,000 shares of
common stock, giving the Company 3,033,000 shares of common stock outstanding
immediately subsequent to the reorganization.
 
 On March
11, 2005, the Company acquired substantially all of the assets of InterScope
Technologies, Inc. in exchange for 337,838 shares of Trestle common stock and
$177,000 in operating and capital expenses.
  ***Going
Concern*** ** **—** The
accompanying financial statements have been prepared assuming that the Company
will continue as a going concern. The Company has suffered recurring losses from
operations since its inception and has an accumulated deficit of **$44,761,000** at
December 31, 2004.
 
 The
consolidated financial statements do not include any adjustments relating to the
recoverability and classification of recorded asset amounts or amounts and
classifications of liabilities that might be necessary should the Company be
unable to continue its existence. The recovery of the Company’s assets is
dependent upon continued operations of the Company.
 
 In
addition, the Company's recovery is dependent upon future events, the outcome of
which is undetermined. The Company intends to continue to attempt to raise
additional capital, but there can be no certainty that such efforts will be
successful.
 
 ***Basis
of Presentation and Principles of Consolidation*** — The
consolidated financial statements reflect the financial position, results of
operations and cash flows of the Company and its wholly owned subsidiaries. All
significant intercompany accounts and transactions have been eliminated on
consolidation.
 
 ***Use
of Estimates*** —The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period. These
estimates are sensitve to change and therefore actual results could differ from
those estimates.
 
 ***Cash
and Cash Equivalents*** — The
Company considers investments with original maturities of 90 days or less
to be cash equivalents.
 
 ***Accounts
Receivable -*** The
Company extends credit to its customers. Collateral is generally not required.
Credit losses are provided for in the financial statements based on management’s
evaluation of historical and current industry trends. Although the Company
expects to fully collect amounts due, actual collections may differ from
estimated amounts.
 
 ***Inventory*** -
Inventory is valued at the lower of cost or market. Cost is determined using
standard costs, which approximates first-in, first-out method
assumption.
  *F-8*
  
 ***Fixed
Assets*** — Fixed
assets are stated at cost and are depreciated using the straight-line method
over their estimated useful lives, ranging from one to five years. Leasehold
improvements are amortized over the shorter of the lease term or the estimated
life of the improvement.
 
 ***Intangible
Assets*** *—* In
accordance with Statement of Financial Accounting Standards (“SFAS”)
No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets”,
the Company evaluates long-lived assets, including intangible assets other than
goodwill, for impairment when indicators of impairment are present and the
undiscounted cash flows estimated to be generated by those assets are less then
the assets’ carrying amounts. Factors considered important which could trigger
an impairment review include, but are not limited to, significant
underperformance relative to expected historical or projected future operating
results, significant changes in the manner of use of the assets or the strategy
for the Company’s overall business and significant negative industry or economic
trends. If such assets are identified to be impaired, the impairment to be
recognized is the amount by which the carrying value of the asset exceeds the
fair value of the asset.
 
 ***Goodwill
and Other Indefinite Lived Intangibles*** — ** In
accordance with SFAS No. 141, “Business Combinations” and SFAS
No. 142, *“Goodwill
and Other Intangible Assets”* ,
goodwill and other indefinite lived intangibles are not amortized, but are
tested annually or on an interim basis if events or circumstances indicate that
the fair value of the asset has decreased below its carrying value. No
impairment losses were recorded for the years ending December 31, 2004 and
2003.
 
 ***Revenue
Recognition*** — The
Company recognizes revenues associated with the Trestle business on product
sales after shipment of the product to the customer and formal acceptance by the
customer has been received. Depending upon the specific agreement with the
customer, such acceptance normally occurs subsequent to one or more of the
following events: receipt of the product by the customer, installation of the
product by the Company and/or training of customer personnel by the Company. For
sales to qualified distributors revenues are recognized upon transfer of title
which is generally upon shipment. Revenue collected in advance of product
shipment or formal acceptance by the customer is reflected as deferred revenue.
Revenue attributable to software maintenance and support is deferred and
recognized ratably over the term of the maintenance agreement, generally one
year.
 
 The
Company recognizes revenue on multiple element arrangements using the residual
method. Under the residual method, revenue is recognized when Company-specific
objective evidence of fair value exists for all of the undelivered elements in
the arrangement, but does not exist for one or more of the delivered elements in
the arrangement. At the outset of the arrangement with the customer, the Company
defers revenue for the fair value of the undelivered elements such as consulting
services and product maintenance, and recognizes the revenue for the remainder
of the arrangement fee attributable to the elements initially delivered when the
basic criteria in SOP 97-2 have been met. Revenue from consulting services is
recognized as the related services are performed.
 
 ***Research
and Development*** — The
Company charges research and development expenses to operations as
incurred.
 
 ***Income
Taxes*** —The
Company records income taxes in accordance with the provisions of SFAS
No. 109, "Accounting for Income Taxes." The standard requires, among other
provisions, an asset and liability approach to recognize deferred tax
liabilities and assets for the expected future tax consequences of temporary
differences between the financial statement carrying amounts and tax basis of
assets and liabilities. Valuation allowances are provided if, based upon the
weight of available evidence, it is more likely than not that some or all of the
deferred tax assets will not be realized.
 
 ***Stock-Based
Compensation—*** We
account for stock-based employee compensation arrangements in accordance with
the provisions of Accounting Principles Board (“APB”) Opinion No. 25, *“Accounting
for Stock Issued to Employees,”* as
amended by SFAS No. 148 “Accounting for Stock-based Compensation—Transition and
Disclosure” using the intrinsic value method. Under APB No. 25, compensation
expense is based on the difference, if any, between the fair value of our stock
and the exercise price on the date of the grant, if the exercise price is less
than the fair value of the stock.
 
 We
account for equity instruments issued to non-employees in accordance with the
provisions SFAS No. 123 “Accounting for Stock-based Compensation” and Emerging
Issues Task Force (“EITF”) Issue No. 96-18, *“Accounting
for Equity Instruments That Are Issued to Other Than Employees for Acquiring or
in Conjunction With Selling Goods and Services.”*
  *F-9*
  
 The
Company recorded no compensation expense for the year ended December 31, 2004
related to the stock option grants. The following table illustrates what the
Company’s loss would have been if the Black-Scholes option-pricing method had
been used to calculate employee compensation expense. **
 
 **Years
      Ended December 31,****2004**
    
    **2003**Net
      LossAs
      reported
    
    
    
    
    $
    (5,065,000
    )
    $
    (2,623,000
    )Total
      stock-based employee compensation expense determined under fair value
      based method for all awards, net of related tax effects
    
    
    
    
    
    (591,000
    )
    
    (199,000
    )Pro
      forma
    
    
    
    
    $
    (5,656,000
    )
    $
    (2,822,000
    )Loss
      per shareBasic
      and diluted EPS as reported
    
    
    
    
    $
    (1.24
    )
    $
    (1.99
    )Pro
      forma basic and diluted EPS
    
    
    
    
    $
    (1.38
    )
    $
    (2.14
    )
 
 The fair
value of option grants is estimated on the date of grant utilizing the
Black-Scholes option-pricing model with the following weighted average
assumptions for grants during the year ended December 31, 2004: expected life of
option 6.40 years, expected volatility of 131%, risk free interest rate of 4.65%
based upon the date of grant and a 0% dividend yield. The fair value, at date of
grant, using these assumptions range from $1.09 to $2.61, and the weighted
average was $1.51.
 
 ***Net
Income (Loss) Per Share*** — The
Company computes net loss per share in accordance with SFAS No. 128, “Earnings
per Share,” and Securities and Exchange Commission Staff Accounting Bulletin No.
98 (“SAB 98”). Under the provisions of SFAS No. 128 and SAB 98, basic and
diluted net loss per share is computed by dividing the net loss available to
common stockholders for the period by the weighted average number of shares of
common stock outstanding during the period.  Common equivalent shares
related to stock options, warrants and convertible preferred stock have been
excluded from the computation, for the years ended December 31, 2004 and 2003
because their effect is anti-dilutive.
 
 ***Concentration
of Credit Risk*** —
Financial instruments that potentially subject the Company to a concentration of
credit risk consist of cash and accounts receivable. The Company maintains its
cash with high credit quality financial institutions; at times, such balances
with any one financial institution may exceed FDIC insured limits. Concentration
of credit risk associated with accounts receivable is significant due to the
limited number of customers, as well as their dispersion across geographic
areas. The Company performs ongoing credit evaluations of its customers and
generally requires partial deposits. Although the Company has a diversified
customer base, a substantial portion of its debtors' ability to honor their
contracts is dependent upon financial conditions in the healthcare
industry.
 
 ***Financial
Instruments*** —The
Company's financial instruments consist of cash, accounts receivable, accounts
payable, notes payable and accrued expenses. The carrying values of cash and
cash equivalents, accounts receivable, accounts payable, accrued expenses and
notes payable are representative of their fair values due to their short-term
maturities.
 
  ***Recently
Issued Accounting Pronouncements*** ** — In
November 2004, the FASB issued SFAS No. 151,”Inventory Costs”. SFAS No. 151
amends the accounting for abnormal amounts of idle facility expense, freight,
handling costs, and wasted material (spoilage) under the guidance in ARB No. 43,
Chapter 4,"Inventory Pricing”. Paragraph 5 of ARB No. 43, Chapter 4, previously
stated that ". . . under some circumstances, items such as idle facility
expense, excessive spoilage, double freight, and rehandling costs may be so
abnormal as to require treatment as current period charges. . . ." This
Statement requires that those items be recognized as current-period charges
regardless of whether they meet the criterion of "so abnormal." In addition,
this Statement requires that allocation of fixed production overheads to the
costs of conversion be based on the normal capacity of the production
facilities. This statement is effective for inventory costs incurred during
fiscal years beginning after June 15, 2005. Management does not expect adoption
of SFAS No. 151 to have a material impact on the Company’s financial
statements.
   *F-10*
   In
December 2004, the FASB issued SFAS No. 152,”Accounting for Real Estate
Time-Sharing Transactions”. The FASB issued this Statement as a result of the
guidance provided in AICPA Statement of Position (SOP) 04-2,”Accounting for Real
Estate Time-Sharing Transactions”. SOP 04-2 applies to all real estate
time-sharing transactions. Among other items, the SOP provides guidance on the
recording of credit losses and the treatment of selling costs, but does not
change the revenue recognition guidance in SFAS No. 66,”Accounting for Sales of
Real Estate”, for real estate time-sharing transactions. SFAS No. 152 amends
Statement No. 66 to reference the guidance provided in SOP 04-2. SFAS No. 152
also amends SFAS No. 67, “Accounting for Costs and Initial Rental Operations of
Real Estate Projects”, to state that SOP 04-2 provides the relevant guidance on
accounting for incidental operations and costs related to the sale of real
estate time-sharing transactions. SFAS No. 152 is effective for years beginning
after June 15, 2005, with restatements of previously issued financial statements
prohibited. This statement is not applicable to the Company.
   In
December 2004, the FASB issued SFAS No. 153,”Exchanges of Nonmonetary Assets,”
an amendment to Opinion No. 29,”Accounting for Nonmonetary Transactions”.
Statement No. 153 eliminates certain differences in the guidance in Opinion No.
29 as compared to the guidance contained in standards issued by the
International Accounting Standards Board. The amendment to Opinion No. 29
eliminates the fair value exception for nonmonetary exchanges of similar
productive assets and replaces it with a general exception for exchanges of
nonmonetary assets that do not have commercial substance. Such an exchange has
commercial substance if the future cash flows of the entity are expected to
change significantly as a result of the exchange. SFAS No. 153 is effective for
nonmonetary asset exchanges occurring in periods beginning after June 15, 2005.
Earlier application is permitted for nonmonetary asset exchanges occuring in
periods beginning after December 16, 2004. Management does not expect adoption
of SFAS No. 153 to have a material impact on the Company’s financial
statements.
   In
December 2004, the FASB issued SFAS No. 123(R),”Share-Based Payment”. SFAS
123(R) amends SFAS No. 123,”Accountung for Stock-Based Compensation”, and APB
Opinion 25,”Accounting for Stock Issued to Employees.” SFAS No.123(R) requires
that the cost of share-based payment transactions (including those with
employees and non-employees) be recognized in the financial statements. SFAS No.
123(R) applies to all share-based payment transactions in which an entity
acquires goods or services by issuing (or offering to issue) its shares, share
options, or other equity instruments (except for those held by an ESOP) or by
incurring liabilities (1) in amounts based (even in part) on the price of the
entity’s shares or other equity instruments, or (2) that require (or may
require) settlement by the issuance of an entity’s shares or other equity
instruments. This statement is effective for the Company as of the first interim
period or fiscal year beginning after December 15, 2005. Management is currently
assessing the effect of SFAS No. 123(R) on the Company’s financial
statement.
  
 **NOTE
2 - ACQUISITION OF TRESTLE**
 
 On May
20, 2003, the Company, by and through its wholly-owned subsidiary, Trestle
Acquisition Corp., purchased substantially all of the assets of Old Trestle and
certain assets of Med and two of Med’s non-debtor subsidiaries (together with
Old Trestle and Med, the “Sellers”). Old Trestle’s business was historically in
the telepathology and telemedicine industries. Under the terms of the
acquisition, we, through our wholly-owned subsidiary, paid the Sellers
$1,250,000 in cash, $100,000 of which was previously deposited in escrow as an
earnest money deposit, and assumed certain liabilities of Old Trestle.
Additionally, as additional compensation for their respective consulting
services, we issued to a director, and one of our former Co-Presidents, warrants
to purchase a number of shares of our Common Stock equal to 2.5% and 1%,
respectively, of our issued and outstanding Common Stock each at an exercise
price of $1.00 per share. These warrants are subject to anti-dilution provisions
relating to the Corporate Reorganization. This former Co-President also received
a lump sum payment of $50,000 on the close of this transaction. In addition, the
Company entered into employment agreements with Old Trestle’s President and its
Chief Science Officer each for terms of three years at a salary of $200,000 per
year. Under these employment agreements the executives are entitled to bonuses
under certain performance criteria and were granted stock options equal to five
percent of the fully diluted outstanding shares of the Company’s common stock on
the date of grant. On October 31, 2003, Old Trestle’s President entered into a
consulting agreement under which he resigned from his position as President and
received 50,000 warrants and monthly consulting fee totaling $200,000 paid in
twelve equal monthly installments over twelve months. During the second quarter
the remaining amount of $173,666.66 owed to Old Trestle’s President was fully
discharged with a payment of $90,000.
 
 The total
purchase price as allocated to assets and liabilities was based upon estimated
fair market values obtained through an independent valuation. This allocation
included the recording of approximately $730,000 to identifiable intangible
assets (including $330,000 to purchased technology to be amortized over 3 years,
$150,000 to trademarks to be amortized over 3 years, and $250,000 to customer
list to be amortized over 3 years) and $1,514,000 to goodwill.
 
  *F-11*
  A
condensed, audited balance sheet reflecting the acquired assets and liabilities
assumed as of the date of acquisition of the net assets of Old Trestle was as
follows:
 
 Cash
    
    $
    123,000Accounts
      receivable
    
    51,000Inventory
    
    224,000Prepaids
      and other
    
    39,000Fixed
      assets
    
    78,000Total
      assets
    
    $
    515,000Accounts
      payable
    
    $
    181,000Accrued
      expenses
    
    227,000Deferred
      revenue
    
    1,032,000Total
      liabilities
    
    $
    1,440,000
 
 The
following summarized unaudited pro forma consolidated results of operations
reflect the effect of the Old Trestle acquisition as if it had occurred at the
beginning of the period presented. The unaudited pro forma consolidated results
of operations presented below are not necessarily indicative of operating
results which would have been achieved had the acquisition been consummated as
of the beginning of the periods presented and should not be construed as
representative of future operations:
 
 **Year
      ended December 31,******
    ****
    **2004**
    ****
    ****
    **2003**Revenues
    
    $
    4,807,000
    
    $
    5,799,000Cost
      of Sales
    
    
    2,243,000
    
    
    2,180,000Gross
      Profit
    
    
    2,564,000
    
    
    3,619,000Operating
      Expenses
    
    
    7,629,000
    
    
    7,355,000Operating
      Loss
    
    $
    5,065,000
    
    $
    3,736,000
  
 **NOTE
3 - DISCONTINUED OPERATIONS**
 
 On
September 4, 2003, the Company closed the previously reported sale of its
remaining entertainment assets to Echo Bridge, LLC, formerly known as Film
Library Acquisition Corp., (the “Purchaser”), in exchange for the assumption of
certain related liabilities of the Company by the Purchaser and a purchase price
of approximately $4,750,000. Of this amount, $750,000 was deposited in escrow
for a period of two years following the closing of the transaction, subject to
potential claims by the Purchaser against us for breaches of representations and
warranties contained in the agreement. Subsequently, the parties agreed to
release the escrow. The Company received $250,000 of the $750,000 escrow amount.
The purchase price was determined by arms-length negotiation, and the Company
recognized a gain on the sale of $1,644,000 during the year ended December 31,
2003. Included in the income from discontinued operations for the years ended
December 31, 2004 and 2003, are revenues of zero and $1,839,000, respectively,
and income from discontinued operations of zero and $232,000, respectively.
 
 
 **NOTE
4 - INVENTORY**
 
 Inventories
are stated at the lower of cost (first-in, first-out) or market and consist of
the following at December 31, 2004 and 2003:
 
 **Years
      Ended December 31,******
    ****
    ****
    ****
    **2004**
    ****
    **2003**Work-in-process
    
    
    
    
    $
    438,000
    
    $
    170,000Finished
      goods
    
    
    
    
    
    168,000
    
    
    119,000Reserve
      for obsolescence
    
    
    
    
    
    (56,000
    )
    
    (66,000
    )Total
    
    
    
    
    $
    550,000
    
    $
    223,000
 
  *F-12*
  **NOTE
5 - FIXED ASSETS**
 
 Depreciation
expense was $131,000 and $64,000 in the years ended December 31, 2004 and 2003,
respectively. Fixed assets are comprised of the following at December 31, 2004
and 2003.
 
 **Years
      Ended December 31,******
    ****
    ****
    ****
    **2004**
    ****
    **2003**Furniture,
      fixtures and equipment
    
    
    
    
    $
    231,000
    
    $
    858,000Leasehold
      improvements
    
    
    
    
    
    228,000
    
    
    477,000Less
      accumulated depreciation
    
    
    
    
    
    459,000
      (342,000
    )
    $
    1,335,000
      (1,170,000
    )Total
    
    
    
    
    $
    117,000
    
    
    165,000
 
 
 **NOTE
6 - INTANGIBLE ASSETS**
 
 Amortization
expense was $243,000 and $158,000 in the years ended December 31, 2004 and 2003,
respectively. Intangible assets are comprised of the following at December 31,
2004 and 2003.
 
 **Years
      Ended December 31,******
    ****
    ****
    ****
    **2003**
    ****
    **2002**Intangible
      assets
    
    
    
    $
    730,000
    
    $
    742,000Less
      accumulated amortization
    
    
    
    
    (395,000
    )
    
    (158,000
    )Net
      intangible assets
    
    
    
    $
    395,000
    
    $
    584,000
 
 The
estimated amortization on these intangible assets for the years ended December
31, 2005, 2006 and 2007 will be $243,000, $152,000 and zero.
 
 **NOTE
7 - INCOME TAX**
 
 The
income tax (benefit) expense for the years ended December 31, 2004 and 2003
consist of the following:
 
 **Years
      Ended December 31,**
    ********
    ****
    ****
    ****
    ****
    **2004**
    ****
    **2003**Current
    
    
    
    
    
    
    $
    10,000
    
    $
    —Deferred
    
    
    
    
    
    
    
    (920,000
    )
    
    611,000Valuation
      allowance
    
    
    
    
    
    
    
    920,000
    
    
    (611,000
    )Provision
      for income taxes
    
    
    
    
    
    
    $
    10,000
    
    $
    —
 
 Income
tax (benefit) expense computed at the statutory federal income tax rate of 34%
and the provision for income tax (benefit) expense in the financial statements
for the years ended December 31, 2004 and 2003 differ as follows:
 
 **Years
      Ended December 31,**
    ****
    ********
    ****
    ****
    ****
    ****
    **2004**
    ****
    **2003**Provision
      computed at the statutory rate
    
    
    
    
    
    
    $
    920,000
    
    $
    (611,000
    )Change
      in valuation allowance
    
    
    
    
    
    
    
    (920,000
    )
    
    611,000Income
      tax provision (benefit)
    
    
    
    
    
    
    $
    —
    
    $
    —
 
 
  *F-13*
  The
following are the components of the Company's deferred tax assets and
(liabilities) at December 31, 2004 and 2003:
 
 **Years
      Ended December 31,**
    ****
    ********
    ****
    ****
    **2004**
    ****
    **2003**Federal
      net operating loss carryforward
    
    
    
    $
    8,433,000
    
    $
    7,815,000State
      net operating loss carryforward
    
    
    
    
    714,000
    
    
    1,370,000Accounts
      receivable
    
    
    
    
    20,000
    
    
    152,000Charitable
      contributions
    
    
    
    
    3,000
    
    
    —Depreciation
    
    
    
    
    110,000
    
    
    —Equity
      based charges
    
    
    
    
    800,000
    
    
    725,000Capital
      loss carryforward
    
    
    
    
    1,356,000
    
    
    2,328,000Accrued
      Vacation
    
    
    
    
    41,000
    
    
    —Goodwill
    
    
    
    
    66,000
    
    
    —Total
      deferred tax asset
    
    
    
    
    11,543,000
    
    
    12,390,000Goodwill
    
    
    
    
    (85,000
    )
    
    (12,000
    )Deferred
      state taxes
    
    
    
    
    (498,000
    )
    
    (498,000
    )Total
      deferred tax liability
    
    
    
    
    (583,000
    )
    
    (510,000
    )Net
      deferred tax asset
    
    
    
    
    10,960,000
    
    
    11,880,000Valuation
      allowance
    
    
    
    $
    (10,960,000
    )
    $
    (11,880,000
    )Net
      deferred tax asset/(liability)
    
    
    
    $
    —
    
    $
    —
 
 At
December 31, 2004, the Company has a net operating loss carryforward of
approximately $24,800,000 and $8,900,000 for federal and state income tax
purposes, respectively. These net operating loss carryforwards begin to expire
in 2018 and 2004, respectively. The net operating losses can be carried forward
to offset future taxable income, if any. Realization of the above carryforwards
may be subject to utilization limitations, which may inhibit the Company's
ability to use these carryforwards in the future.
 
 **NOTE
8 - PREFERRED STOCK**
 
 On
September 4, 2003, the Company restructured the Company’s capital structure.
Under the restructuring, (1) a cash distribution of $2,000,000 was made to the
holders' of the Company's Preferred Stock; (2) Sunland officially changed its
name to Trestle Holdings, Inc.; and (3) all issued and outstanding shares of the
Company's preferred stock including the Series A that was classified as a
liability at December 31, 2002 were converted into 2,578,000 shares of common
stock, giving the Company 3,033,000 shares of common stock outstanding
immediately subsequent to the reorganization.
 
 In
April 1993, the Company authorized 300,000 shares of convertible preferred
stock and in April and September 1999 designated 30,000 shares as
Series A Preferred Stock. As part of a refinancing that occurred in 1999,
the Company issued 19,049 shares of Series A Preferred Stock.
 
 The
Company recorded a deduction for the beneficial conversion feature associated
with the issuance of Series A Preferred Stock based on the fair value of
the underlying common stock at the date of issuance. The deduction was recorded
ratably over a six-month period from April 1999 to October 1999,
during which Series A Preferred Stock could not be converted into the
Company's common stock.
 
 The
Series A Preferred Stock is presented as a liability in accordance SFAS No.
150, on the Company's balance sheet, and is not included in stockholders'
equity, since, under certain circumstances beyond the control of the Company,
the holders of Series A Preferred Stock may redeem the shares in
consideration for cash. In order to increase stockholders' equity, in
May 2000, the Company allowed holders of Series A Preferred Stock to
exchange a portion of their shares for an equivalent number of shares of
Series B Convertible Preferred Stock. As described more fully in
Note 9, Series B Preferred Stock has substantially similar
characteristics to those of Series A Preferred Stock, but is classified as
permanent equity. In May 2000, 8,460 shares of Series A Preferred
Stock were exchanged for an equivalent number of Series B Preferred shares.
In May 2001, approximately 7,500 shares of Series A Convertible Preferred
Stock were exchanged for Series B Convertible Preferred Stock. In
July 2001, the Company purchased 550 shares of Series A Preferred
Stock from an affiliate of a company owned by a preferred shareholder, who is
also a director of the Company.
  *F-14*
  The
Series A Preferred Stock has the following characteristics:
 
 *Voting:* The
holders of Series A Preferred Stock are entitled to elect two directors to
the Company's Board of Directors and are entitled to the number of votes equal
to the number of shares of common stock into which the Series A Preferred
Stock is then convertible. On all other matters, including the election of the
other Company directors, holders of the Series A Preferred Stock vote (on
an as-converted basis) together with common stockholders and holders of
Series B Preferred Stock (voting in an as-converted basis) as one class.
 
 *Dividends:* The
holders of the convertible preferred stock were entitled to receive dividends
equal to $70 per share per annum paid quarterly.
 
 *Liquidation
Preference:* In
the event of any liquidation, dissolution or winding up of the affairs of the
Company, the holders of the Company's outstanding Series A Preferred Stock
shall receive for each share an amount equal to the sum of $1,000 per share,
respectively, payable in preference and priority to any payments made to the
holders of the then outstanding common stock.
 
 Liquidation
is deemed to include the Company's sale of all or substantially all of its
assets or the acquisition of the Company by another entity by means of merger or
consolidation resulting from the transfer of 50% or more of the Company's voting
power.
 
 Additionally,
the Company may redeem, at its liquidation amount, Series A Preferred Stock
five years following the date the shares were issued.
 
 *Conversion:* Each
share of Series A Preferred Stock, at the option of the holder, was
convertible at any time into a number of shares of common stock as determined by
dividing the Original Issue Price of Series A Preferred Stock by the
Conversion Price, as defined, in effect at the time.
 
 In
May 2000, the Company designated 30,000 shares of authorized Preferred
Stock as Series B Preferred Stock. The Company issued 8,460 shares of
Series B Preferred Stock in exchange for an equivalent number of shares of
Series A Preferred Stock.
 
 The
Series B Preferred Stock has substantially similar characteristics to those
of Series A Preferred Stock. The liquidation provisions of Series B
Preferred Stock differ from those of Series A Preferred Stock in that a
liquidation event is not deemed to include the Company's sale of all or
substantially all of its assets or the acquisition of the Company by another
entity by means of merger or consolidation resulting from the transfer of 50% or
more of the Company's voting power. At December 31, 2002, the Series B
Preferred Stock was convertible into 181,000 shares of the Company's common
stock.
 
 **NOTE
9 - STOCKHOLDERS' EQUITY**
 
 **Warrants**
 During
the year ended December 31, 2004, the Company issued 2,123,000 warrants to
management, investors and consultants.  The weighted average exercise price
of the grants during the year ending December 31, 2004 was $1.98. The vesting
periods on these grants range from immediate to 3 years, and the lives range
from 4 to 10 years.  To account for such grants to non-employees, we
recorded deferred stock compensation of $258,000, and recognized compensation
expense of $691,000 for the year ended December 31, 2004. Compensation expense
is recognized ratably over the term of the related services
provided.
 
 During
the year ended December 31, 2003, the Company issued 821,520 warrants to
management, board members and consultants.  The weighted average exercise
price of the grants during the year ending December 31, 2003 was $1.28. The
vesting periods on these grants range from immediate to 3 years, and the lives
range from 4 to 10 years.  To account for such grants to non-employees, we
recorded deferred stock compensation of $1,066,000, and recognized compensation
expense of $580,000 for the year ended December 31, 2003.
 
 As
partial consideration for entering into a revolving credit facility during the
year ended December 31, 2000, the Company granted warrants to a bank to purchase
12,600 shares of common stock at $67.50 per share, of which 12,600 were
outstanding at December 31, 2004. These warrants, which had a fair value of
$320,000 at the date of grant, are fully vested and expire ten years from their
issuance date. The Company recorded the fair value of these warrants as deferred
financing costs to be expensed on a straight-line basis over the terms of the
related revolving credit facility.
  *F-15*
  
 As part
of the 1999 Refinancing, the Company granted warrants to purchase 134,462 shares
of common stock at prices ranging between $90 to $120 per share, of which 95,821
were outstanding at December 31, 2004. The warrants had a fair value of
$2,360,000 at the date of grant, are fully vested and expire six to eight years
from their issuance date.
 
 As a
result of the refinancing that took place in 1999, the Company granted warrants,
not covered by the employee stock purchase plans, to purchase 134,462 shares of
common stock to certain employees, officers and directors of which 127,212 were
outstanding at December 31, 2004. These warrants vest either on the grant date
or over three years from the grant date. The options are exercisable at prices
ranging from $90 to $120 per share and expire six to eight years from their
issuance date.
 
 **NOTE
10 - COMMITMENTS AND CONTINGENCIES**
 
 ***Leases*** —The
Company leases office space and office equipment under operating leases expiring
through 2007. Future minimum lease payments due under non-cancelable operating
leases at December 31, 2004 are as follows:
 **Years
      Ended December 31,**2005
    $
    492,0002006
    
    508,0002007
    
    2,000Total
      minimum lease payments
    $
    1,002,000
 Rent expense
charged to operations for the years ended December 31, 2004 and 2003 was
$770,000 and $859,000. Rent income from sublease arrangements for the years
ended December 31, 2004 and 2003 was $322,000 and $464,000. The Company does not
expect significant income from sublease arrangements in the future.
 
 ***Litigation*** — The
Company is party to legal proceedings, which are routine and incidental to the
business. The Company believes these proceedings are without merit and the
results of such litigation will not have a material adverse effect on the
Company's financial condition or results of operations. However, there can be no
assurances that such litigation may not arise in the future.
 
 ***Employment
Agreements*** —  The
Company entered into an employment agreement with Maurizio Vecchione, the
Company’s Chief Executive Officer, effective as of July of 2004, pursuant to
which he is entitled to receive a base salary of $200,000 per year. Mr.
Vecchione is also entitled to a guaranteed bonus payable $6,250 per month and an
annual incentive bonus of up to $200,000 upon achieving revenue and earnings
before interest, depreciation, taxes and depreciation targets ranging between
90% and 150% of budgeted levels. Mr. Vecchione is also entitled to four weeks
paid vacation per year and to have his benefits reimbursed. The agreement
expires, if not earlier terminated, on December 31, 2006. The Company agreed to
appoint Mr. Vecchione to the board of directors and to use its best efforts to
cause him to be re-elected during the term of his employment agreement. Mr.
Vecchione is entitled to receive one year’s salary and guaranteed bonus if he is
terminated or resigns within six months of a change of control of the Company.
Mr. Vecchione also received non-plan options to acquire 250,000 shares of common
stock at an exercise price of $2.50. The option vests 1/30 th per
month commencing July 31, 2004, or, to the extent not vested, upon a change of
control. The option expires the earlier of the eighth anniversary of the date of
grant or five years after fully vesting.
 
 The
Company entered into an employment agreement with Barry Hall, the Company’s
President and Chief Financial Officer, effective as of July of 2004, pursuant to
which he is entitled to receive a base salary of $150,000 per year. Mr. Hall is
also entitled to a guaranteed bonus payable $4,166 per month and an annual
incentive bonus of up to $150,000 upon achieving revenue and earnings before
interest, depreciation, taxes and depreciation targets ranging between 90% and
150% of budgeted levels. Mr. Hall is also entitled to four weeks paid vacation
per year and to participate in the employee benefit plan. The agreement expires,
if not earlier terminated, on December 31, 2006. Mr. Hall is entitled to receive
one year’s salary and guaranteed bonus if he is terminated or resigns within six
months of a change of control of the Company. Mr. Hall also received non-plan
options to acquire 150,000 shares of common stock at an exercise price of $2.50.
The option vests 1/30 th per
month commencing July 31, 2004, or, to the extent not vested, upon a change of
control. The option expires the earlier of the eighth anniversary of the date of
grant or five years after fully vesting.
 
  *F-16*
  As
discussed in Note 2, the Company entered into employment agreements with Old
Trestle’s President and its Chief Science Officer each for terms of three years
at a salary of $200,000 per year. In addition, under these employment agreements
the executives are entitled to bonuses under certain performance criteria and
were granted stock options equal to five percent of the fully diluted
outstanding shares of the Company’s common stock on the date of grant. The
President resigned his employment with the Company effective October 31, 2003,
and was given a 12 month consulting agreement and 50,000 warrants exercisable at
$0.51 per share. During the second quarter the remaining amount of $173,666.66
owed to Old Trestle’s President was fully discharged with a payment of
$90,000.
 
 The
Company entered into an employment agreement with Roger A. Burlage, dated
April 7, 1999 which provides that he would serve as the Company's Chairman
and Chief Executive for a term of four years. Mr. Burlage was entitled to
an annual salary of $500,000, with minimum annual increases of 7.5%.
Mr. Burlage was also eligible to receive a discretionary bonus as
determined by the Board. As part of the agreement, Mr. Burlage was granted
warrants to purchase 40,000 shares of the Company's Common Stock at exercise
prices ranging from $90.00 to $120.00 per share, and was to receive up to an
additional 20,000 warrants at his election under certain circumstances within
one year of the effective date of his employment agreement which did not occur.
One half of the original warrants vested upon Mr. Burlage signing the
agreement and the balance vest over a three-year period, with 25% vesting on the
first anniversary, and 12.5% vesting on each of the second and third
anniversaries of the agreement. Mr. Burlage was also entitled to be
reimbursed for up to $7,500 per year for country club dues, and to receive all
other benefits generally available to the Company's other officers, including
participation in stock incentive, retirement, medical, dental and accidental
benefit plans, life and disability insurance and vacation. If Mr. Burlage's
position was eliminated as a result of a merger or consolidation of the Company,
Mr. Burlage would be entitled to terminate his employment within three
months of such event and to receive all salary, benefits and emoluments in
effect as such date through the remainder of his four-year term. In January of
2003, Mr. Burlage notified the Board of Directors that he intended to resign
from his position at the expiration of his contract in April of 2003. On January
15, 2003, the Board of Directors authorized the creation of the Office of the
President to provide for a smooth transition during the remainder of Mr.
Burlage’s employment term. Mr. Burlage’s employment agreement ended in April
2003.
 
 **NOTE
11 - STOCK OPTION PLANS**
 
 ***Stock
Option Plans*** — The
Company's employee stock option plans (the "Plans") provide for the grant of
non-statutory or incentive stock options to the Company's employees, officers,
directors or consultants.
 
 The
Compensation Committee of the Company’s Board of Directors administers the
Plans, selects the individuals to whom options will be granted, determines the
number of options to be granted, and the term and exercise price of each option.
Stock options granted pursuant to the terms of the Plans generally cannot be
granted with an exercise price of less than 100% of the fair market value on the
date of the grant. The term of the options granted under the Plans cannot be
greater than 10 years. Options vest at varying rates generally over three
to five years. An aggregate of 855,000 shares were reserved under the Plans, of
which 67,000 shares were available for future grant at December 31, 2004.
 
 The
following table summarizes activity in the Company's stock option plans during
the years ended December 31, 2004, December 31, 2003 and 2002:
 
 **Number
      of**
      **Shares**
    
    **Weighted
      Average Price Per Share**Balance
      at December 31, 2002
    
    163,000
    $
    101.02Granted
    
    643,000
    
    1.74Expired
    
    (150,000
    )
    102.31Canceled
    
    (263,000
    )
    0.54Balance
      at December 31, 2003
    
    393,000
    $
    3.48Granted
    
    382,000
    
    3.81Exercised
    
    (30,000)
    
    0.62Balance
      at December 31, 2004
    
    745,000
    $
    3.80
 
 
  *F-17*
  The
following summarizes pricing and term information for options issued to
employees and directors which are outstanding as of December 31, 2004:
 
 **Options
      Outstanding**
    
    **Options
      Exercisable****Range
      of Exercise Prices**
    
    **Number
      Outstanding at December 31, 2004**
    
    **Weighted
      Average Remaining Contractual**
      **Life**
    
    **Weighted
      Average Exercise Price**
    
    **Number
      Exercisable at December 31, 2004**
    
    **Weighted
      Average Exercise Price**$
    0.50
      - 1.00
    
    290,000
    
    8.67
    
    $
    0.62
    
    202,000
    
    $
    0.621.01
      - 10.00
    
    442,000
    
    9.00
    
    
    3.97
    
    287,000
    
    
    3.9645.00
      - 50.00
    
    1,000
    
    5.42
    
    
    45.00
    
    1,000
    
    
    45.0065.00
      - 72.50
    
    11,000
    
    4.80
    
    
    67.45
    
    11,000
    
    
    67.45105.00
    
    1,000
    
    3.42
    
    
    105.00
    
    1,000
    
    
    105.00$
    0.50 - 105.00
    
    745,000
    
    8.80
    
    $
    3.80
    
    502,000
    
    $
    4.29
 
 ***Non-Plan
Stock Options*** — During
the year ended December 31, 2004, the Company's issued 400,000 non-plan stock
options with a strike price of $2.50 to Maurizio Vecchione and Barry Hall. See
Note 10 Employment Agreements for further details.
 
 **NOTE
12 - EARNINGS PER SHARE**
 
 The
following table sets forth common stock equivalents (potential common stock) for
the years ended December 31, 2004 and 2003 that are not included in the loss per
share calculation above because their effect would be anti-dilutive for the
periods indicated:
 
 **Year
      Ended December 31,****2004**
    
    **2003**Weighted
      average common stock equivalents:Plan
      Stock Options
    
    
    
    
    745,000
    
    393,000Non-Plan
      Stock Options
    
    
    
    
    400,000
    
    0Warrants
    
    
    
    
    3,181,000
    
    1,057,000
 
 **NOTE
13 - CONCENTRATION OF CREDIT RISK**
 
 Although
we are directly affected by the economic well being of significant customers
listed in the following paragraph, we do not believe that significant credit
risk exists at December 31, 2004. We perform ongoing evaluations of our
customers and require letters of credit or other collateral arrangements as
appropriate. Accordingly, trade receivable credit losses have not been
significant.
 
 The
Company had two customers that accounted for 10% and 8% of the Company’s
revenues for the year ended December 31, 2004. As of December 31, 2004, the
accounts receivable for these customers as a percentage of the Company’s total
accounts receivable was 42% and 16% of respectively.
 
 **NOTE
14 - RELATED PARTIES**
 
 Other
than as listed below, we have not been a party to any significant transactions,
proposed transactions, or series of transactions, and in which, to our
knowledge, any of our directors, officers, five percent beneficial security
holder, or any member of the immediate family of the foregoing persons has had
or will have a direct or indirect material interest.
 
 During
the year ended December 31, 2004 and 2003, our Company incurred consulting
fees and tax return preparation expenses in the amount of $69,000 and $184,000,
respectively. The consulting fees and tax return preparation expenses were
charged by Kellogg & Andelson, a Southern California based public
accounting firm. Gary Freeman, our former Chief Financial Officer, is currently
a Vice President and director of Kellogg & Andelson.
 
  *F-18*
  Pursuant
to a consulting agreement with our company, our Company paid consulting fees in
the amount of $170,000 from November 1, 2003 to July 15, 2004 to
Crosby Haffner, who then served as the Company’s Interim President. As
compensation for his services as the Company's Interim President, we granted to
Mr. Haffner 115,000 warrants with exercise prices between $2.60 and $5.40
per share.
 
 As a
result of the close of the acquisition of the assets of Old Trestle, as
additional compensation for their respective consulting services, we granted to
Michael Doherty, our Chairman, and David Weiner, one of our Co-Presidents at the
time of the close of that transaction, warrants to purchase a number of shares
of our common stock equal to 2.5% and 1%, respectively, of our issued and
outstanding common stock on a fully diluted basis, as may be adjusted from time
to time based on their respective anti-dilution provisions, each at an exercise
price of $1.00 per share. Those warrants become exercisable on May 20,
2004. Mr. Weiner also received a lump sum payment of $50,000 on the close
of that transaction.
 
 Additionally,
on September 26, 2003, we granted to Michael Doherty, our Chairman,
warrants to purchase 406,714 shares of our common stock at an exercise price of
$0.62 per share. Fifty percent of those warrants become exercisable on
May 5, 2004 and the remainder will vest in equal monthly installments on
the last day of each month over the following 12 months. On August 19,
2004, the Company granted Mr. Doherty a bonus of $150,000 in recognition
for his services. During September 2004, the Company entered into an
agreement to retain Mr. Doherty's services as Chairman and to pay
Mr. Doherty $10,000 per month for ten months starting August 1, 2004.
 
 Certain
employees and directors of the Company are affiliated with Doherty &
Company, LLC. Michael Doherty, the Chairman of the Company, is the president and
controlling member of Doherty & Company, LLC. Crosby Haffner, a director of
the Company and formerly the Company’s Interim President, is a Managing Director
of Doherty & Company, LLC. Brandon Rockow, a full time employee of the
Company who provides support for the Company’s financing, industry research,
mergers and acquisitions, and investor relations activities, also maintains his
securities license at and consults on specific projects to Doherty &
Company, LLC. Tina Maddela, a part time employee of the Company who provides
assistance to Roger Burlage, the Company’s former Chairman and Chief Executive
Officer, pursuant to Mr. Burlage's employment contract with the Company, is also
a part time employee of Doherty & Company, LLC.
 
 Effective
September 1, 2004 the Company entered into an agreement to pay Doherty &
Company, LLC $10,000 per month for financial advisory services requested from
time to time by the Company. Pursuant to this agreement Doherty & Company,
LLC provides the Company with various financial advisory services, including but
not limited to consulting with respect to proposed financings, advising the
Company on potential mergers and acquisitions, and providing the Company with
investor relations services. This agreement may be terminated at any time by
either party. Prior to this agreement, the Company reimbursed Doherty &
Company, LLC $11,250 for overhead incurred in providing administrative services
to the Company in connection with the private placement transaction completed by
the Company in July 2004. In addition, pursuant to the agreements governing Mr.
Doherty’s services as Chairman to the Company, Mr. Doherty is entitled to use up
to 3,500 square feet of office space, at the Company's expense, in the Company’s
Los Angeles office, in connection with his services as Chairman and other
activities. A portion of such space is being used by Doherty & Company,
LLC.
 
 Maurizio
Vecchione and Barry Hall are principals in Synthetica, Ltd which provided
consulting services to the company from May 15, 2004 to July15, 2004.
During that time Synthetica was paid $35,913 in fees and expenses reimbursement.
 
 **NOTE
16 - SUBSEQUENT EVENT**
 
 On
January 21, 2005, the Company completed its private placement. The placement was
a unit offering to institutional and accredited investors, with each unit
consisting of one share of the Company's common stock and a warrant to purchase
0.75 shares of common stock. The units were priced at $1.75 and each warrant is
exercisable for whole shares only at $1.75 per share. In two closings, the
Company sold an aggregate of 2,600,000 units resulting in gross proceeds of
$4,550,000 to the Company. The units sold by the Company have not been
registered under the Securities Act of 1933 and may not be offered or sold in
the United States absent such registration or an available exemption from
registration. The Company has agreed to file a resale registration statement for
purpose of registering for resale the shares of common stock forming the units,
including the common stock underlying the warrants, not later than January 31,
2005. The funding was over subscribed and the Board of Directors approved the
increase in the amount of funding. The investors who invested earlier consented
to the increase. The Company paid commission of $19,600 to Scottsdale Capital
and $137,597 to T.R. Winston & Company as non-exclusive agents on the
funding.
 
 
 On March
11, 2005, the Company acquired substantially all of the assets of InterScope
Technologies, Inc. in exchange for 337,838 shares of Trestle common stock and
$177,000 in operating and capital expenses.


*F-19*