** **

**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**WASHINGTON,D.C. 20549**

** **

**FORM 10-Q/A**

**Amendment No. 2**

 

**x****                             ****QUARTERLY REPORT PURSUANT TOSECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the quarterly period ended September 30, 2005**

** **

**OR**

 

**o****                                ****TRANSITIONREPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the transitionperiod from                          to                       **

 

**CommissionFile No**. **001-31332**

 

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**LIQUIDMETAL TECHNOLOGIES, INC.**

(Exact name of Registrantas specified in its charter)

 

| **Delaware**                     |   | **33-0264467**      |
|----------------------------------|--------|---------------------|
| (State or other  jurisdiction of |   | (I.R.S. Employer    |
| incorporation or  organization)  |   | Identification No.) |

 

**25800 Commercentre Drive, Suite100**

**Lake Forest, California 92630**

(address of principalexecutive office, zip code)

 

Registrant’s telephonenumber, including area code: **(949) 206-8000**

 

----

 

Indicate by check mark whether the registrant (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject to suchfiling requirements for at least the past 90 days.

 

Yes x No o

 

Indicate by check mark whether the registrant is a large acceleratedfiler, or a non-accelerated filer. See definition of “accelerated filer andlarge accelerated filer” Rule 12b-2 of the Exchange Act.

 
| Large  accelerated filer o |   | Accelerated  filer x |   | Non-accelerated  filer o |   |
|----------------------------|--------|----------------------|--------|--------------------------|--------|

 

Indicateby check mark whether the registrant is a shell company (as defined in Rule12b-2 of the Exchange Act).

 

Yes o No x

 

#### **As of October 13, 2005, there were 42,164,121 shares ofthe registrant’s common stock, $.001 par value, outstanding.**

 

 

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** **

**LIQUIDMETAL TECHNOLOGIES, INC.AMENDMENT NO. 2 TO FORM 10-QFOR THE QUARTER ENDED****SEPTEMBER30, 2005**

 

**EXPLANATORY NOTE**

 

We are filing this AmendmentNo. 2 to our Quarterly Report on Form 10-Q for the quarter ended September 30,2005, as filed with the U.S. Securities and Exchange Commission (SEC) on December1, 2005, and as amended on March 16, 2006, in response to (1) a request by theSEC to make certain changes to the disclosure in Item 4 thereof;  and (2) to restate our financial statementsto properly account for the conversion feature of the senior convertible notesissued in March 2004 and August 2005(see Note 8 to the condensedconsolidated financial statements).

 

Other than the changesreferred to above, all other information included in the above describedForm 10-Q remains unchanged.  This amendment does not reflect eventsoccurring after the filing of such Form 10-Q and does not modify or updatethe disclosures therein in any way other than as required to reflect theamendment as described above and set forth below.

 

2

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**FORWARD-LOOKING INFORMATION**

 

Statements in this reportconcerning the future sales, expenses, profitability, financial resources,product mix, market demand, product development and other statements in thisreport concerning the future results of operations, financial condition andbusiness of Liquidmetal Technologies, Inc. are “forward-looking” statements asdefined in the Securities Act of 1933 and Securities Exchange Act of 1934.Investors are cautioned that the Company’s actual results in the future maydiffer materially from those projected in the forward-looking statements due torisks and uncertainties that exist in the Company’s operations and businessenvironment, including competition, need for increased acceptance of products,ability to continue to develop and extend our brand identity, ability toanticipate and adapt to a competitive market, ability to effectively managerapidly expanding operations, amount and timing of operating costs and capitalexpenditures relating to expansion of our business, operations andinfrastructure, ability to provide superior customer service, dependence uponkey personnel and the like. The Company’s most recent filings with theSecurities and Exchange Commission, including Form 10-K, contain additionalinformation concerning many of these risk factors, and copies of these filingsare available from the Company upon request and without charge.

 

3

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#### ** **

#### **TABLE OF CONTENTS**

#### ** **

| **PART I**                                                                                                     |       |
|----------------------------------------------------------------------------------------------------------------|------------|
|                                                                                                           |       |
| **Item 1 – Financial Statements**                                                                         | ** ** |
| Condensed  Consolidated Balance Sheets (unaudited)                                                             |       |
| Condensed  Consolidated Statements of Operations and Comprehensive Loss (unaudited)                            |       |
| Condensed  Consolidated Statements of Shareholders’ Equity (Deficiency) (unaudited)                       |       |
| Condensed  Consolidated Statements of Cash Flows (unaudited)                                                   |       |
| Notes  to Condensed Consolidated Financial Statements (unaudited)                                              |       |
|                                                                                                           |       |
| **Item 2 –  Management’s Discussion and Analysis of Financial Condition and Results of  Operations** | ** ** |
| ** **                                                                                                     | ** ** |
| **Item 3 –  Quantitative and Qualitative Disclosures about Market Risk**                                  | ** ** |
| ** **                                                                                                     | ** ** |
| **Item 4 – Controls  and Procedures**                                                                     | ** ** |
| ** **                                                                                                     | ** ** |
| **PART II – Other  Information**                                                                          | ** ** |
| ** **                                                                                                     | ** ** |
| **Item 1 – Legal  Proceedings**                                                                           | ** ** |
| ** **                                                                                                     | ** ** |
| **Item 2 – Unregistered Sales of Equity Securities and  Use of Proceeds**                                 | ** ** |
| ** **                                                                                                     | ** ** |
| **Item 6 – Exhibits**                                                                                     | ** ** |
| ** **                                                                                                     | ** ** |
| **Signatures**                                                                                                 | ** ** |
| ** **                                                                                                     | ** ** |
| **Certifications**                                                                                             | ** ** |

 

4

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### ** **

### **PART I**

### **FINANCIAL INFORMATION**

### ** **

**Item 1 – Financial Statements**

 

**LIQUIDMETAL TECHNOLOGIES, INC. AND SUBSIDIARIES**

**CONDENSED CONSOLIDATED BALANCE SHEETS**

**(inthousands, except share data)**

 
| ** **                                                                                                                                                                                   | ** ** | **(unaudited)**        | ** ** | ** **            | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                                                   | ** ** | **September 30,** | ** ** | **December 31,** | ** ** |
| ** **                                                                                                                                                                                   | ** ** | **2005**               | ** ** | **2004**              | ** ** |
| ** **                                                                                                                                                                                   | ** ** | **(Restated)**         | ** ** | **(Restated)**        | ** ** |
| **ASSETS**                                                                                                                                                                                   | ** ** | ** **             | ** ** | ** **            | ** ** |
| ** **                                                                                                                                                                                   | ** ** | ** **             | ** ** | ** **            | ** ** |
| Current assets:                                                                                                                                                                              |       |                   |       |                  |       |
|                                                                                                                                                                                         |       |                   |       |                  |       |
| Cash and cash  equivalents                                                                                                                                                                   |       | $                      | 933        |                  | $          | 742 |   |
| Restricted cash                                                                                                                                                                              |       | —                 |       | 754                   |       |
| Trade accounts  receivables, net of allowance for doubtful accounts of $82 and $108                                                                                                          |       | 2,193                  |       | 1,668                 |       |
| Inventories                                                                                                                                                                                  |       | 1,499                  |       | 2,353                 |       |
| Prepaid expenses  and other current assets                                                                                                                                                   |       | 1,363                  |       | 930                   |       |
| Total current assets                                                                                                                                                                         |       | 5,988                  |       | 6,447                 |       |
|                                                                                                                                                                                         |       |                   |       |                  |       |
| Property, plant  and equipment, net                                                                                                                                                          |       | 13,889                 |       | 16,434                |       |
| Idle equipment                                                                                                                                                                               |       | 190                    |       | 1,906                 |       |
| Long-term  inventory                                                                                                                                                                         |       | —                 |       | 1,810                 |       |
| Other  intangibles, net                                                                                                                                                                      |       | 1,151                  |       | 1,143                 |       |
| Other assets                                                                                                                                                                                 |       | 950                    |       | 768                   |       |
| Total assets                                                                                                                                                                                 |       | $                      | 22,168     |                  | $          | 28,508 |   |
|                                                                                                                                                                                         |       |                   |       |                  |       |
| **LIABILITIES  AND SHAREHOLDERS’ EQUITY**                                                                                                                                               |       |                   |       |                  |       |
|                                                                                                                                                                                         |       |                   |       |                  |       |
| Current  liabilities:                                                                                                                                                                        |       |                   |       |                  |       |
|                                                                                                                                                                                         |       |                   |       |                  |       |
| Accounts payable  and accrued expenses                                                                                                                                                       |       | $                      | 5,701      |                  | $          | 4,969 |   |
| Settlement  payable                                                                                                                                                                          |       | 3,234                  |       | 3,246                 |       |
| Deferred revenue                                                                                                                                                                             |       | 879                    |       | 900                   |       |
| Short-term debt                                                                                                                                                                              |       | 237                    |       | —                |       |
| Long-term debt,  current portion, net of debt discounts of $0 and $2,831                                                                                                                     |       | 1,204                  |       | 4,010                 |       |
| Warrant  liabilities                                                                                                                                                                         |       | 4,633                  |       | 550                   |       |
| Conversion feature  liabilities                                                                                                                                                              |       | 6,440                  |       | 6,650                 |       |
| Other  liabilities, current portion                                                                                                                                                          |       | 701                    |       | 1,032                 |       |
| Total current  liabilities                                                                                                                                                                   |       | 23,029                 |       | 21,357                |       |
|                                                                                                                                                                                         |       |                   |       |                  |       |
| Long-term debt,  net of current portion and debt discounts of $9,573 and $0                                                                                                                  |       | 4,403                  |       | 2,618                 |       |
| Other long-term  liabilities, net of current portion                                                                                                                                         |       | 431                    |       | 892                   |       |
| Total  liabilities                                                                                                                                                                           |       | 27,863                 |       | 24,317                |       |
|                                                                                                                                                                                         |       |                   |       |                  |       |
| Shareholders’  equity (deficiency):                                                                                                                                                     |       |                   |       |                  |       |
|                                                                                                                                                                                         |       |                   |       |                  |       |
| Preferred stock,  $0.001 par value; 10,000,000 shares authorized and none issued and outstanding  at September 30, 2005 and December 31, 2004                                                |       | —                 |       | —                |       |
| Common stock,  $0.001 par value; 100,000,000 shares authorized and 42,164,121 issued and  outstanding at September 30, 2005 and 41,609,652 issued and outstanding at December 31,  2004 |       | 42                     |       | 42                    |       |
| Additional  paid-in capital                                                                                                                                                                  |       | 130,849                |       | 129,650               |       |
| Accumulated  deficit                                                                                                                                                                         |       | (138,635               | )          | (127,472              | )          |
| Accumulated  other comprehensive income                                                                                                                                                      |       | 2,049                  |       | 1,971                 |       |
| Total  shareholders’ equity (deficiency)                                                                                                                                                |       | (5,695                 | )          | 4,191                 |       |
|                                                                                                                                                                                         |       |                   |       |                  |       |
| Total  liabilities and shareholders’ equity (deficiency)                                                                                                                                |       | $                      | 22,168     |                  | $          | 28,508 |   |

 

The accompanyingnotes are an integral part of the condensed consolidated financial statements.

 

5

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**LIQUIDMETAL TECHNOLOGIES, INC. AND SUBSIDIARIES**

### ** **

### **CONDENSEDCONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS**

**(in thousands, except per sharedata)**

**(unaudited)**

 
| ** **                                                  | ** ** | **For the Three**                   | ** ** | **For the Nine**                    | ** ** |
|-------------------------------------------------------------|------------|-----------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                  | ** ** | **Months Ended September 30,** | ** ** | **Months Ended September 30,** | ** ** |
| ** **                                                  | ** ** | **2005**                                      | ** ** | **2004**                                      | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                                  | ** ** | **(Restated)**                                | ** ** | **(Restated)**                                | ** ** | **(Restated)** | ** ** | **(Restated)** | ** ** |
|                                                        |       |                                          |       |                                          |       |   |   |   |   |
| Revenue                                                     |       | $                                             | 4,342      |                                          | $          | 4,615 |   | $ | 10,912 |   | $ | 14,958 |   |
| Cost of sales                                               |       | 3,756                                         |       | 3,241                                         |       | 10,553 |   | 9,273 |   |
|                                                        |       |                                          |       |                                          |       |   |   |   |   |
| Gross profit                                                |       | 586                                           |       | 1,374                                         |       | 359 |   | 5,685 |   |
|                                                        |       |                                          |       |                                          |       |   |   |   |   |
| Operating  expenses:                                        |       |                                          |       |                                          |       |   |   |   |   |
| Selling,  general, and administrative                       |       | 2,364                                         |       | 3,569                                         |       | 6,521 |   | 9,178 |   |
| Research and  development                                   |       | 196                                           |       | 374                                           |       | 806 |   | 1,060 |   |
| Impairment of  long lived assets                            |       | 833                                           |       | —                                        |       | 4,227 |   | — |   |
| Total expenses                                              |       | 3,393                                         |       | 3,943                                         |       | 11,554 |   | 10,238 |   |
|                                                        |       |                                          |       |                                          |       |   |   |   |   |
| Loss from  operations                                       |       | (2,807                                        | )          | (2,569                                        | )          | (11,195 | ) | (4,553 | ) |
|                                                        |       |                                          |       |                                          |       |   |   |   |   |
| Loss from  extinguishments of debt                          |       | (1,247                                        | )          | (2,941                                        | )          | (1,247 | ) | (2,941 | ) |
| Change in value  of warrants, gain (loss)                   |       | 1,112                                         |       | (434                                          | )          | 1,145 |   | 846 |   |
| Change in value  of conversion feature, gain (loss)         |       | 2,215                                         |       | (2,338                                        | )          | 4,497 |   | 3,276 |   |
| Other income                                                |       | —                                        |       | 302                                           |       | — |   | 302 |   |
| Interest expense                                            |       | (1,659                                        | )          | (3,283                                        | )          | (4,377 | ) | (5,934 | ) |
| Interest income                                             |       | 7                                             |       | —                                        |       | 14 |   | 34 |   |
| Loss from  continuing operations                            |       | (2,379                                        | )          | (11,263                                       | )          | (11,163 | ) | (8,970 | ) |
|                                                        |       |                                          |       |                                          |       |   |   |   |   |
| Loss from  discontinued equipment manufacturing operations, |       |                                          |       |                                          |       |   |   |   |   |
| net of tax                                                  |       | —                                        |       | —                                        |       | — |   | (749 | ) |
|                                                        |       |                                          |       |                                          |       |   |   |   |   |
| Net loss                                                    |       | (2,379                                        | )          | (11,263                                       | )          | (11,163 | ) | (9,719 | ) |
|                                                        |       |                                          |       |                                          |       |   |   |   |   |
| Other  comprehensive income (loss)                          |       |                                          |       |                                          |       |   |   |   |   |
| Foreign exchange  translation gain (loss)                   |       | (306                                          | )          | 68                                            |       | 77 |   | 490 |   |
| Comprehensive  loss                                         |       | $                                             | (2,685     | )                                             | $          | (11,195 | ) | $ | (11,086 | ) | $ | (9,229 | ) |
|                                                        |       |                                          |       |                                          |       |   |   |   |   |
| Net loss per  share basic and diluted:                      |       |                                          |       |                                          |       |   |   |   |   |
| Loss per share –  continuing operations                |       | $                                             | (0.06      | )                                             | $          | (0.27 | ) | $ | (0.27 | ) | $ | (0.21 | ) |
| Loss per share –  discontinued operations              |       | $                                             | —     |                                          | $          | — |   | $ | — |   | $ | (0.02 | ) |
| Loss per share  basic and diluted                           |       | $                                             | (0.06      | )                                             | $          | (0.27 | ) | $ | (0.27 | ) | $ | (0.23 | ) |
|                                                        |       |                                          |       |                                          |       |   |   |   |   |
| Number of  weighted average shares – basic and diluted |       | 41,933                                        |       | 41,610                                        |       | 41,717 |   | 41,610 |   |

 

The accompanyingnotes are an integral part of the condensed consolidated financial statements.

 

6

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**LIQUIDMETAL TECHNOLOGIES, INC. AND SUBSIDIARIES**

 

**CONDENSED CONSOLIDATED STATEMENTS OFSHAREHOLDERS’ EQUITY (DEFICIENCY)**

###### **Forthe Nine Months Ended September 30, 2005**

**(inthousands, except per share data)**

 
| ** **                                                 | ** ** | ** ** | ** ** | ** ** | ** ** | ** **     | ** ** | ** **      | ** ** | **Accumulated**   | ** ** | ** ** | ** ** |
|------------------------------------------------------------|------------|------------|------------|------------|------------|----------------|------------|-----------------|------------|-------------------|------------|------------|------------|
| ** **                                                 | ** ** | ** ** | ** ** | ** ** | ** ** | **Additional** | ** ** | ** **      | ** ** | **Other**         | ** ** | ** ** | ** ** |
| ** **                                                 | ** ** | **Common** | ** ** | **Common** | ** ** | **Paid-in**    | ** ** | **Accumulated** | ** ** | **Comprehensive** | ** ** | ** ** | ** ** |
| ** **                                                 | ** ** | **Shares** | ** ** | **Stock**  | ** ** | **Capital**    | ** ** | **Deficit**     | ** ** | **Income**        | ** ** | **Total**  | ** ** |
| ** **                                                 | ** ** | ** ** | ** ** | ** ** | ** ** | **(Restated)** | ** ** | **(Restated)**  | ** ** | ** **        | ** ** | ** ** | ** ** |
|                                                       |       |       |       |       |       |           |       |            |       |              |       |       |       |
| **Balance,  December 31, 2004 (As Restated)**         |       | 41,609,652 |       | $          | 42         |           | $          | 129,650         |       | $                 | (127,472   | )          | $          | 1,971 |   | $ | 4,191 |   |
| Beneficial  conversion feature                             |       |       |       | —     |       | —         |       | —          |       | —            |       | —     |       |
| Conversion of  notes payable                               |       | 462,250    |       | —     |       | 982            |       | —          |       | —            |       | 982        |       |
| Common stock  issued as directors fees                     |       | 92,219     |       | —     |       | 175            |       | —          |       | —            |       | 175        |       |
| Stock based  compensation                                  |       | —     |       | —     |       | 41             |       | —          |       | —            |       | 41         |       |
| Redemption of  convertible notes payable                   |       | —     |       | —     |       | 1              |       | —          |       | —            |       | 1          |       |
| Foreign exchange  translation gain                         |       | —     |       | —     |       | —         |       | —          |       | 78                |       | 78         |       |
| Net loss                                                   |       | —     |       | —     |       | —         |       | (11,163         | )          | —            |       | (11,163    | )          |
| **Balance,  September 30, 2005 (unaudited) (As Restated)** |       | 42,164,121 |       | $          | 42         |           | $          | 132,849         |       | $                 | (138,635   | )          | $          | 2,049 |   | $ | (5,695 | ) |

 

The accompanyingnotes are an integral part of the condensed consolidated financial statements.

 

7

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**LIQUIDMETAL TECHNOLOGIES, INC. AND SUBSIDIARIES**

 

### **CONDENSEDCONSOLIDATED STATEMENTS OF CASH FLOWS**

**(inthousands, except per share data)**

**(unaudited)**

 
| ** **                                                                                    | ** ** | **For the Nine Months** | ** ** |
|-----------------------------------------------------------------------------------------------|------------|----------------------------------------|------------|
| ** **                                                                                    | ** ** | **Ended September 30,**      | ** ** |
| ** **                                                                                    | ** ** | **2005**                               | ** ** | **2004** | ** ** |
| ** **                                                                                    | ** ** | **(Restated)**                         | ** ** | **(Restated)** | ** ** |
| **Operating  activities:**                                                                    |       |                                   |       |   |   |
| Net loss                                                                                      |       | $                                      | (11,163    | ) | $ | (9,719 | ) |
|                                                                                          |       |                                   |       |   |   |
| Adjustments to  reconcile net loss from operations to net cash used for operating activities: |       |                                   |       |   |   |
| Impairment of  long lived assets                                                              |       | 4,227                                  |       | — |   |
| (Gain) loss on  disposal of asset                                                             |       | (14                                    | )          | 8 |   |
| Depreciation and  amortization                                                                |       | 2,516                                  |       | 2,585 |   |
| Loss on  extinguishments of debt                                                              |       | 1,247                                  |       | 2,941 |   |
| Amortization of  debt discount                                                                |       | 2,499                                  |       | 5,633 |   |
| Gain from change  in value of warrants                                                        |       | (1,145                                 | )          | (846 | ) |
| Gain from change  in value of conversion feature                                              |       | (4,497                                 | )          | (3,276 | ) |
| Stock-based  compensation                                                                     |       | 41                                     |       | 276 |   |
| Bad debt  (recovery) expense                                                                  |       | (21                                    | )          | 111 |   |
| Warranty expense                                                                              |       | 126                                    |       | 269 |   |
|                                                                                          |       |                                   |       |   |   |
| Changes in  operating assets and liabilities:                                                 |       |                                   |       |   |   |
| Accounts  receivable                                                                          |       | (504                                   | )          | 47 |   |
| Inventories                                                                                   |       | 178                                    |       | (1,950 | ) |
| Prepaid expenses  and other current assets                                                    |       | (404                                   | )          | (1,111 | ) |
| Other assets                                                                                  |       | (632                                   | )          | (1,958 | ) |
| Accounts payable  and accrued expenses                                                        |       | 752                                    |       | 2,356 |   |
| Deferred revenue                                                                              |       | (21                                    | )          | (597 | ) |
| Other  liabilities                                                                            |       | (142                                   | )          | (1,231 | ) |
| Net cash used  for continuing operations                                                      |       | (6,957                                 | )          | (6,281 | ) |
|                                                                                          |       |                                   |       |   |   |
| Net cash  provided by discontinued operations                                                 |       | —                                 |       | 822 |   |
| Net cash used  for operating activities                                                       |       | (6,957                                 | )          | (5,459 | ) |
|                                                                                          |       |                                   |       |   |   |
| **Investing  Activities:**                                                                    |       |                                   |       |   |   |
| Purchases of  property and equipment                                                          |       | (153                                   | )          | (73 | ) |
| Proceeds from  sale of property and equipment                                                 |       | 69                                     |       | 11 |   |
| Investment in  patents and trademarks                                                         |       | (92                                    | )          | (202 | ) |
| Net cash used  for investing activities                                                       |       | (176                                   | )          | (264 | ) |
|                                                                                          |       |                                   |       |   |   |
| **Financing  Activities:**                                                                    |       |                                   |       |   |   |
| Proceeds from  borrowings                                                                     |       | 16,180                                 |       | 9,924 |   |
| Repayment of  borrowings                                                                      |       | (9,850                                 | )          | (4,898 | ) |
| Repayment of  other liabilities                                                               |       | (100                                   | )          | (91 | ) |
| Proceeds from  restricted cash                                                                |       | 754                                    |       | (1,000 | ) |
| Net cash  provided by financing activities                                                    |       | 6,984                                  |       | 3,935 |   |
|                                                                                          |       |                                   |       |   |   |
| Effect of  foreign exchange translation                                                       |       | 340                                    |       | 57 |   |
| Net increase in  cash and cash equivalents                                                    |       | 191                                    |       | (1,731 | ) |
|                                                                                          |       |                                   |       |   |   |
| Cash and cash  equivalents at beginning of period                                             |       | 742                                    |       | 3,127 |   |
| Cash and cash  equivalents at end of period                                                   |       | $                                      | 933        |   | $ | 1,396 |   |
|                                                                                          |       |                                   |       |   |   |
| Supplemental  cash flow information:                                                          |       |                                   |       |   |   |
| Interest paid                                                                                 |       | $                                      | 1,400      |   | $ | 463 |   |
| Taxes paid                                                                                    |       | $                                      | —     |   | $ | — |   |
|                                                                                               |            |                                        |            |  |  |  |  |  |

 

The accompanyingnotes are an integral part of the condensed consolidated financial statements.

 

8

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During the nine monthsended September 30, 2004, the Company sold it’s 51% ownership interest inDongyang to the 49% minority shareholder, which resulted in a loss of $46 fromdisposal of discontinued operations as of September 30, 2004.

 

During the nine monthsended September 30, 2005, $462 of the Company’s 6% senior convertible notes dueJuly 2007 was converted into 462,250 of the Company’s common stock at aconversion price of $1.00 per share.

 

The accompanyingnotes are an integral part of the condensed consolidated financial statements

 

9

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### **LIQUIDMETAL TECHNOLOGIES AND SUBSIDIARIES**

 

### **NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**For the NineMonths Ended September 30, 2005 and 2004**

**(in thousands, except share data)**

**(unaudited)**

 

**1.             Basis of Presentation / Descriptionof Business**

 

The accompanying unaudited condensed consolidated financial statementshave been prepared in accordance with accounting principles generally acceptedin the United States of America (“generally accepted accounting principles”)for interim financial information and with the instructions to Form 10-Q. Accordingly,they do not include all of the information and notes required by generallyaccepted accounting principles for complete financial statements. In theopinion of management, all adjustments (consisting only of normal recurringaccruals) considered necessary for a fair presentation have been included. Inaddition, certain reclassifications have been made for consistent presentation.Operating results for the three and nine months ended September 30, 2005 arenot necessarily indicative of the results that may be expected for any futureperiods or the year ending December 31, 2005. The accompanying unauditedcondensed consolidated financial statements should be read in conjunction with theCompany’s Form 10-K filed with the Securities and Exchange Commission on March30, 2005.

 

Liquidmetal Technologies, Inc. (“Liquidmetal Technologies”) and its subsidiaries(collectively “the Company”) are in the business of developing, manufacturing,and marketing products made from amorphous alloys. Liquidmetal Technologiesmarkets and sells Liquidmetal® alloy industrial coatings and also manufactures,markets and sells products and components from bulk Liquidmetal alloys that canbe incorporated into the finished goods of its customers across a variety ofindustries. The Company also partners with third-party licensees anddistributors to develop and commercialize Liquidmetal alloy products.

 

The Company classifies operations into two reportable segments:Liquidmetal alloy industrial coatings and bulk Liquidmetal alloys. Liquidmetalalloy industrial coatings are used primarily as a protective coating forindustrial machinery and equipment, such as drill pipe used by the oil drillingindustry and boiler tubes used by coal-burning power plants. Bulk Liquidmetalalloys include potential market opportunities to manufacture and sell productsand components for electronic devices, medical devices, defense applications,and sporting goods. In addition, the bulk Liquidmetal alloys segment includestooling and prototype sampling, and the manufacture and sale of die castingequipment (see Note 7). In addition, such alloys are used to generate researchand development services revenue for developing uses related primarily todefense and medical applications as well as potential license fees, royalties,and other compensation from strategic partnering transactions.

 

Stock-based compensation

 

The Company appliesAccounting Principles Board (“APB”) Opinion No. 25 for options when theexercise price of options granted to employees is less than the fair value ofthe underlying stock on the date of grant. The Company applies Statement ofFinancial Accounting Standards (“SFAS”) No. 123 for options granted tonon-employees who perform services for the Company.

 

Had the Companydetermined compensation cost based on the fair value at the grant date forstock options consistent with the method of SFAS No. 123, the Company’sloss from continuing operations and basic and diluted loss per sharefrom continuing operations would have been as follows:

 

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##### ** **

| ** **                                       | ** **                                            | **For the Three**                   | ** ** | **For the Nine**                    | ** ** |
|--------------------------------------------------|-------------------------------------------------------|-----------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                       | ** **                                            | **Months Ended September 30,** | ** ** | **Months Ended September 30,** | ** ** |
| ** **                                       | ** **                                            | **2005**                                      | ** ** | **2004**                                      | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                       | ** **                                            | **(Restated)**                                | ** ** | **(Restated)**                                | ** ** | **(Restated)** | ** ** | **(Restated)** | ** ** |
|                                             |                                                  |                                          |       |                                          |       |   |   |   |   |
| Net loss from  continuing operations as reported |                                                  | $                                             | (2,379     | )                                             | $          | (11,263 | ) | $ | (11,163 | ) | $ | (8,970 | ) |
|                                             |                                                  |                                          |       |                                          |       |   |   |   |   |
| *Add:*                                           | stock-based  employee compensation expense included   |                                          |       |                                          |       |   |   |   |   |   |
|                                             | in reported net  loss, net of related tax effects     |                                          | 41         |                                          | —     |   | 41 |   | 276 |   |
|                                             |                                                  |                                          |       |                                          |       |   |   |   |   |
| *Deduct:*                                        | total  stock-based employee compensation expense      |                                          |       |                                          |       |   |   |   |   |   |
|                                             | determined under  the fair value based method for all |                                          |       |                                          |       |   |   |   |   |   |
|                                             | awards, net of  related tax effects                   |                                          | (695       | )                                             | (910       | ) | (2,237 | ) | (3,720 | ) |
|                                             |                                                  |                                          |       |                                          |       |   |   |   |   |
| Proforma net  loss from continuing operations:   |                                                  | $                                             | (3,033     | )                                             | $          | (12,173 | ) | $ | (13,359 | ) | $ | (12,414 | ) |
|                                             |                                                  |                                          |       |                                          |       |   |   |   |   |
| Basic and  diluted loss per share:               |                                                  |                                          |       |                                          |       |   |   |   |   |
| As reported                                      |                                                  | $                                             | (0.06      | )                                             | $          | (0.27 | ) | $ | (0.27 | ) | $ | (0.21 | ) |
| Proforma                                         |                                                  | $                                             | (0.07      | )                                             | $          | (0.29 | ) | $ | (0.32 | ) | $ | (0.30 | ) |

 

Thefair value of each option grant is estimated on the date of the grant using theBlack-Scholes option-pricing model with the following weighted-averageassumptions used for grants for the nine months ended September 30, 2005 and2004, respectively: expected volatility of approximately 100% for all periods;dividend yield of 0.0% for all periods; expected option life of approximately5 years; and a risk-free interest rate ranging from 2.9% to 4.2%.

 

**2.             Basis of Presentation and RecentAccounting Pronouncements**

 

Translation of Foreign Currency

 

The Company applies **FASB No. 52, Foreign Currency Translation**,for translating foreign currency into US dollars in ourconsolidation of the financial statements.  Upon consolidation of theCompany’s foreign subsidiaries into the Company’s consolidated financialstatements, any balances with the subsidiaries denominated in the foreigncurrency are translated at the exchange rate at year-end. The financialstatements of Liquidmetal Korea have been translated based upon Korean Won asthe functional currency. Liquidmetal Korea’s assets and liabilities weretranslated using the exchange rate at period end and income and expense itemswere translated at the average exchange rate for the reporting period. Theresulting translation adjustment was included in other comprehensive income(loss).

 

Reclassifications

 

Certain amounts from the prior year have been reclassified to conformto current year’s presentation.

 

Restatements

 

*SFAS 133 – Accounting for Derivative Instruments andHedging Activities*

 

As a part of the accompanying consolidatedfinancial and the notes thereto, the Company has restated certain previouslyissued financial statements due to an error related to the Company’s accountingfor embedded convertible feature of senior convertible notes issued in March2004 in accordance with Statement of Financial Accounting Standards No. 133, “Accountingfor Derivative Instruments and Hedging Activities”, (SFAS 133) (see Note 8).

 

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*Impairment of Long-term Inventory*

 

Thecompany wrote-down $833 of primarily raw material inventory considered to belong term as the carrying value of the inventory held as an impairment charge. While we mayuse the excess raw materials beyond one year to fulfill future demand, we didnot foresee use of this inventory in the foreseeable future.

 

Recent Accounting Pronouncements

 

In March 2004, the Emerging Issues Task Force (“EITF”) reached aconsensus on recognition and measurement guidance previously discussed underEITF 03-01 The consensus clarifies the meaning of other-than-temporaryimpairment and its application to investments classified as eitheravailable-for-sale or held-to-maturity under FASB Statement No. 115, “Accountingfor Certain Investments in Debt and Equity Securities,” and other investmentsaccounted for under the cost method. The recognition and measurement guidancefor which the consensus was reached in March 2004 is to be applied toother-than-temporary impairment evaluations in reporting periods beginningafter June 15, 2004. In September 2004, the FASB issued a final FASB StaffPosition that delays the effective date for the measurement and recognitionguidance for all investments within the scope of EITF Issue No. 03-01; however,the disclosure requirements remain effective for annual periods ending afterJune 15, 2004. The Company does not believe that the adoption of this statementwill have a material effect on the Company’s results of operation and financialposition.

 

In December 2004, the FASB issued SFAS No. 123R, “Share-Based Payment”,which replaces SFAS No. 123. SFAS No. 123R requires public companies torecognize an expense for share-based payment arrangements including stockoptions and employee stock purchase plans. The statement eliminates a company’sability to account for share-based compensation transactions using APB 25, andgenerally requires instead that such transactions be accounted for using a fairvalue based method. SFAS No. 123R requires an entity to measure the cost ofemployee services received in exchange for an award of equity instruments basedon the fair value of the award on the date of grant, and to recognize the costover the period during which the employee is required to provide service inexchange for the award. In April 2005, the SEC amended the compliance dates forSFAS 123(R), to allow companies to implement the standard at the beginning oftheir next fiscal year, instead of the next reporting period beginning afterJune 15, 2005. SFAS No. 123R is effective for the Company in the quarter endingMarch 31, 2006. Upon adoption of SFAS 123R, companies are allowed to select oneof three alternative transition methods, each of which has different financialreporting implications. The Company is currently evaluating the transitionmethods, valuation methodologies and other assumptions for employee stockoptions in light of SFAS No. 123R. Current estimates of option values using theBlack-Scholes method may not be indicative of results from valuationmethodologies ultimately implemented by the Company upon adoption of SFAS No.123R. Although the Company has not yet fully quantified the impact thisstandard will have on its financial statements, it is likely that the adoptionof SFAS No. 123R will have a material impact on the Company’s financialposition and results of operations. Stock-based Compensation under Note 1included in these Condensed Consolidated Financial Statements provides the proforma net income and earnings per share as if the Company had used afair-value-based method similar to the methods required under SFAS 123(R) tomeasure the compensation expense for employee stock awards during the three andsix months ended June 30, 2005 and 2004.

 

On March 29, 2005, the SEC issued Staff Accounting Bulletin No. 107(SAB 107) regarding the Staff’s interpretation of SFAS 123(R). Thisinterpretation expresses the views of the staff regarding the interactionbetween SFAS 123(R) and certain SEC rules and regulations and provides thestaff’s views regarding the valuation of share-based payment arrangements forpublic companies. In particular, this SAB provides guidance related toshare-based payment transactions with nonemployees, the transition fromnonpublic to public entity status, valuation methods, the accounting forcertain redeemable financial instruments issued under share-based paymentarrangements, the classification of compensation expense, non-GAAP financialmeasures, first-time adoption of SFAS 123(R) in an interim period,capitalization of compensation cost related to share-based paymentarrangements, the accounting for income tax effects of share-based paymentarrangements upon adoption of SFAS 123(R), the modification of employee shareoptions prior to adoption of Statement 123(R) and disclosures inManagement’s Discussion and Analysis subsequent to adoption of SFAS 123(R). TheCompany will adopt SAB 107 in connection with its adoption of SFAS 123(R).

 

In May 2005, the FASB issued SFAS No. 154, “Accounting Changes andError Corrections – a replacement of APB Opinion No. 20 and FASB Statement No.3.”  SFAS No. 154 replaces APB Opinion No. 20, “Accounting Changes,” andFASB Statement No. 3, “Reporting Accounting Changes in Interim FinancialStatements” and changes the requirements for the

 

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accounting for and reporting of a change in accounting principle. This statement applies to all voluntary changes in accounting principle. It also applies to changes required by an accounting pronouncement in theunusual instance that the pronouncement does not include specific transitionprovisions.  When a pronouncement includes specific transition provisions,those provisions should be followed.  SFAS No. 154 is effective foraccounting changes and corrections of errors made in fiscal years beginningafter December 31, 2005.  The Company does not believe the adoption ofSFAS No. 154 will have a material effect on its consolidated financialposition, results of operations or cash flows.

 

In June 2005, the EITF reached a consensus on Issue No. 05-2 “TheMeaning of ‘Conventional Convertible Debt Instrument’ in EITF Issue No. 00-19, ‘Accountingfor Derivative Financial Instruments Indexed to, and Potentially Settled in, aCompany’s Own Stock.’“ Issuers of convertible debt are required by Statement133 to evaluate whether it is necessary to separate the “embedded” conversionfeature from the debt contract and account for the conversion feature as if itwere a separate derivative instrument. If the issuer determines that theembedded conversion feature would be classified in equity if it were afreestanding instrument, the conversion feature is not separated from the debtcontract. EITF 00-19’s criteria must be applied to determine whether aconversion feature qualifies for equity classification, but it exempts aconversion feature embedded in a “conventional convertible debt instrument”from some of the criteria. EITF 05-2 requires convertible instruments that maybe settled in a combination of cash or shares, e.g., those referred to as “InstrumentC” in EITF 90-19, and instruments that may be convertible into a variablenumber of shares are not “conventional.” As a result, nonconventional instruments would need to satisfy all requirementsof EITF 00-19 to support a conclusion that the conversion feature does notrequire accounting separate from that for the debt contract. The adoption ofthis Issue resulted in recognition of the beneficial conversion feature fromthe senior convertible notes issued in August 2005 as liabilities of $3,826 asof September 30, 2005 and a gain of $982 from the change in fair value ofbeneficial conversion feature liabilities for the year ended September 30, 2005(see Note 8).

 

In June 2005, the EITF reached a consensus on Issue 05-6, “Determiningthe Amortization Period for Leasehold Improvements,” which requires thatleasehold improvements acquired in a business combination or purchasedsubsequent to the inception of a lease be amortized over the lesser of theuseful life of the assets or a term that includes renewals that are reasonablyassured at the date of the business combination or purchase. EITF 05-6 iseffective for periods beginning after June 29, 2005. Earlier applicationis permitted in periods for which financial statements have not been issued.The adoption of this Issue did not have an impact on the Company’s financialstatements.

 

In September 2005, the EITF reached a consensus on Issue 05-7“Accounting for Modifications to Conversion Options Embedded in DebtInstruments and Related Issues,” which requires that a change in the fair valueof a conversion option brought about by modifying the debt agreement beincluded in analyzing in accordance with EITF 96-19 “Debtor’s Accounting for aModification or Exchange of Debt Instruments” whether a debt instrument isconsidered extinguished. Under EITF 96-19’s requirements, an issuer whomodifies a debt instrument must compare the present value of the original debtinstrument’s cash flows to the present value of the cash flows of the modifieddebt. If the present value of those cash flows varies by more than 10 percent,the modification is considered significant and extinguishments accounting isapplied to the original debt. If the change in the present value of the cashflows is less than 10 percent, the debt is considered to be modified and issubject to EITF 96-19’s modification accounting. EITF 05-7’s Consensus requiresthat in applying the 10 percent test the change in the fair value of the conversionoption be treated in the same manner as a current period cash flow. TheConsensus also requires that, if a modification does not result in anextinguishment, the change in fair value of the conversion option be accountedfor as an adjustment to interest expense over the remaining term of the debt.The issuer should not recognize a beneficial conversion feature or reassess anexisting beneficial conversion feature upon modification of the conversionoption of a debt instrument that does not result in an extinguishment. EITF05-7 is effective for modifications of debt instruments beginning in the firstinterim or annual reporting period beginning after December 15, 2005. TheCompany does not expect the adoption of the EITF to have material impact on theCompany’s financial statements.

 

In September 2005, the EITF reached a consensus on Issue No. 05-8, “IncomeTax Consequences of Issuing Convertible Debt with a Beneficial ConversionFeature.”  Under EITF 05-8, the issuance of convertibledebt with a beneficial conversion feature results in a temporary difference forpurposes of applying Statement 109. The deferred taxes recognized for thetemporary difference should be recorded as an adjustment to paid-in capital.EITF 98-5 “Accounting for Convertible Securities with BeneficialConversion Features or Contingently Adjustable Conversion Ratios” and EITF 00-27  “Application of Issue No. 98-5 to CertainConvertible Instruments” require thatthe nondetachable conversion feature of a convertible debt security be

 

13

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accounted for separately if it is a beneficialconversion feature. A beneficial conversion feature is recognized and measuredby allocating to additional paid-in capital a portion of the proceeds equal to theconversion feature’s intrinsic value. A discount on the convertible debt isrecognized for the amount that is allocated to additional paid-in capital. Thedebt discount is accreted from the date of issuance to the stated redemptiondate of the convertible instrument or through the earliest conversion date ifthe instrument does not have a stated redemption date. The U.S. Federal IncomeTax Code includes the entire amount of proceeds received at issuance as the taxbasis of the convertible debt security. The EITF 05-8 Consensus should beapplied retrospectively to all instruments with a beneficial conversion featureaccounted for under EITF 98-5 and EITF 00-27 for periods beginning afterDecember 15, 2005. The Company does not expect the adoption of the EITF to havematerial impact on the Company’s financial statements.

 

Other recent accounting pronouncements issued by the FASB (includingits Emerging Issues Task Force), the AICPA and the SEC did not or are notbelieved by management to have a material impact on the Company’s present orfuture consolidated financial statements.

 

**3.             Liquidity**

 

The Company hasexperienced losses from continuing operations during the last two fiscal yearsand has an accumulated deficit of $138,635 as of September 30, 2005. Cash usedfor continuing operations for the nine months ended September 30, 2005 was$6,957 and cash flow from continuing operations was negative through the 4thquarter of 2005. At September 30, 2005 working deficit was $17,041. As ofSeptember 30, 2005, the Company’s principal source of liquidity is $933 of cashand $2,193 of trade accounts receivable. Such conditions raise substantialdoubt that the Company will be able to continue as a going concern. Theseoperating results occurred while the Company was developing and continues todevelop and to commercialize and manufacture products from an entirely new andunique technology. These factors have placed a significant strain on thefinancial resources of the Company. The ability of the Company to overcome thesechallenges depends on its ability to correct its production inefficiencies,continue to reduce its operating costs, generate higher revenue, and achievepositive cash flow from continuing operations and profitability and continuedsources of debt and equity financing. The consolidated financial statements donot include any adjustments that might result from the outcome of theuncertainty.

 

The Company completed $3,250private placement of 10% convertible debt on June 13, 2005, and $9,878 privateplacement of 7% convertible debt on August 9, 2005 for $5,000 aggregate cashreceived, $4,280 of previously issued notes, and satisfaction of accruedinterest and fees of $598 from previously issued convertible notes (see Note 8).The Company also entered into a Factoring, Loan, and Security Agreement (“FactoringAgreement”) on April 21, 2005, which allows for borrowing up to $1,500, to meetworking capital needs of the Company (see Note 8). Borrowings made under theFactoring Agreement are secured by the Company’s trade receivables. Suchborrowings totaled $2,855, which was offset by $2,618 of repayments made asSeptember 30, 2005. The Company has $1,263 available for future borrowingsunder the Factoring Agreement as of September 30, 2005, which is contingent onapproval of eligible receivables by the financing company.

 

Capital requirements during thenext 12 months will depend on numerous factors, including the success ofexisting products, the development of new applications for Liquidmetal alloys,the resources devoted to develop and support Liquidmetal alloy products, andthe cost of successful implementation of Section 404 of the Sarbanes-Oxley Actof 2002. If the available funds and cash generated from operations areinsufficient to satisfy liquidity requirements, the Company will needadditional funds in the future to support working capital requirements and forother purposes, and will need to raise additional funds through public orprivate equity financing, bank debt financing, or from other sources. Adequatefunds may not be available when needed or may not be available on favorableterms. The Company expects to continue to devote limited capital to ourresearch and development activities, to further develop and strengthen ourmanufacturing capabilities, and for working capital and other general corporatepurposes.

 

Pursuant to Section 404 of the Sarbanes-Oxley Act of2002 (“SOX 404”), the SEC has adopted rules requiring public companies toinclude a report of management on the company’s internal controls overfinancial reporting in their annual reports on Form 10-K. In addition, thepublic accounting firm auditing a public company’s financial statements mustattest to and report on management’s assessment of the effectiveness of thecompany’s internal controls over financial reporting. Although theserequirements were first applicable to the Company’s annual report on Form 10-Kfor the fiscal year ended December 31, 2004, the Company did not comply withthese requirements for such fiscal year as described in the followingparagraphs.

 

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****The time********andresources committed to the restatement of prior periods’ financial statementsas aforementioned delayed our internal timetable with respect to ourdocumentation, assessment and evaluation of internal control over financialreporting. Due to the issues described in the foregoing paragraph, as well aslimitation on financial and internal resources, management’s assessment of theeffectiveness of our internal control over financial reporting had beensubstantially delayed, which in turn had delayed the Company’s independentregistered public accounting firm, Stonefield Josephson, Inc. in performing itsaudit of management’s assessment of the effectiveness of internal control overfinancial reporting pursuant to SOX 404. Therefore, the Company’s independentregistered public accounting firm issued a disclaimer of opinion with respectto the Company’s internal control over financial reporting as of December 31,2004, and such disclaimer was filed with the Company’s amended Form 10-K filedon May 10, 2005.****

 

****In addition,********whilemanagement has devoted as much financial and internal resources during 2005 tothe SOX 404 effort as possible for compliance as of fiscal year 2005, managementbelieves that there is significant work remaining to be done in a limitedamount of time. Thus, the Company will not be able to complete its assessmentof internal controls in accordance with SOX 404 requirements as of December 31,2005 (see “Item 4 – Controls and Procedures” on this quarterly report forfurther discussion on material deficiencies identified as of November 18, 2005).****

 

****The Company has been advised by the SEC that the filing ofa disclaimer does not comply with the SEC’s rules and regulations under Section404, and the SEC has further advised us that this noncompliance has resulted inthe Company being in violation of Section 13(a) under the Securities ExchangeAct of 1934. Section 13(a) establishes the general requirement that publiccompanies must file with the SEC, in accordance with such rules and regulationsas the SEC may prescribe, such information, documents, and reports as the SECmay from time to time require for the protection of investors, including Form10-Ks and 10-Qs.****

 

****In addition to the foregoing, although the Company’s commonstock was admitted to the OTC Bulletin Board for quotation on June 15, 2005,the SEC has further advised that, as a result of our noncompliance with Section404 for the 2005 fiscal year, it may not have been appropriate for the OTCBulletin Board to admit our common stock for quotation on June 15, 2005. Consequently,there is no assurance that the Company’s common stock will remain eligible forquotation on the OTC Bulletin Board.****

 

**4.             Inventories**

 

The Company maintainscertain of its raw material inventories in amounts in excess of our operatingcycle of one year due to the nature of our manufacturing process, productionlead time, and the recyclability of our raw material. These inventories were classifiedas long-term inventory as of December 31, 2004. The Company determined that itscurrent and projected raw material requirements are not sufficient enough towarrant the use of such raw materials in the foreseeable future. Accordingly,the Company reduced the carrying value of raw materials held by its subsidiary,Liquidmetal Korea, by the amounts considered to be excessive during the secondquarter of 2005. The write-down during the three and nine months endedSeptember 30, 2005 was $833 and$1,653, respectively, and is included in “Impairmentof long lived assets” in the accompanying Condensed Consolidated Statement ofOperations and Comprehensive Loss for the nine months ended September 30, 2005.The total amount of long term inventory was $0 and $1,810 as of September 30,2005 and December 31, 2004, respectively.

 

Inventories werecomprised of the following:

 
| ** **                 | ** ** | **September 30,** | ** ** | **December 31,** | ** ** |
|----------------------------|------------|------------------------|------------|-----------------------|------------|
| ** **                 | ** ** | **2005**               | ** ** | **2004**              | ** ** |
| ** **                 | ** ** | **(Restated)**         | ** ** | ** **            | ** ** |
|                       |       |                   |       |                  |       |
| Raw materials              |       | $                      | 373        |                  | $          | 1,688 |   |
| Work in process            |       | 735                    |       | 352                   |       |
| Finished goods             |       | 391                    |       | 313                   |       |
| Total current  inventories |       | 1,499                  |       | 2,353                 |       |
| Long-term  inventories     |       | —                 |       | 1,810                 |       |
| Total  inventories         |       | $                      | 1,499      |                  | $          | 4,163 |   |

 

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** **

**5.             Idle Equipment**

 

Idle equipment consistsof certain equipment held by the Company for use in expansion of bulk alloyparts manufacturing.  Due to excess manufacturing capacity, theCompany classified the equipment as idle equipment at December 31,2004.  While the equipment may be used internally to meet future capacityrequirements, considering our current revenue and foreseeable productionrequirements, the Company does not anticipate utilizing this equipmentinternally in the near future. For these reasons, during the quarter ended June30, 2005, the Company determined to write down the carrying value of the idleequipment held by its subsidiary, Liquidmetal Korea, to its net realizablevalue. The write-down amounted to $1,741 and is included in operating expensesas “Impairment of long lived assets” in the accompanying Condensed ConsolidatedStatement of Operations and Comprehensive Loss for the three and nine monthsended September 30, 2005. Total amount of idle equipment remaining was $190 and$1,906 as of September 30, 2005 and December 31, 2004, respectively.

 

**6.             Discontinued Operations**

 

*Dongyang*

 

OnJune 28, 2002, the Company acquired a 51% interest in Chusik HoesaDongyang Yudoro (“Dongyang”). In March 2004, the Company sold its 51% investment inDongyang to the 49% minority shareholder. The selling price of the Company’s51% interest in Dongyang was $80, which was equal to the Company’s net carryingvalue for the 51% ownership held. Further, the Company agreed to pay Dongyang$155 for the purchase of a receivable balance from Growell. The transaction resultedin net payable to Dongyang of $75 and a loss of $46 from transfer of theCompany’s interest in Donyang to the minority shareholder. The loss fromoperations for the nine months ended September, 2004 totaled $50 and isincluded in the loss from discontinued equipment manufacturing operations forthe period. The net payable balance of $75 is to be paid in quarterlyinstallments throughout 2004, with $25 to be paid subsequent to 2004. Theoutstanding amount payable to Dongyang is $11 and $25 as of September 30, 2005and December 31, 2004, respectively, and is included in accounts payable andaccrued liabilities.

 

Summarized operatingresults of Dongyang’s discontinued operations are as follows.

 
| ** **                                                             | ** ** | **For the Nine months  Ended September 30,** | ** ** | **For the Nine months  Ended September 30,** | ** ** |
|------------------------------------------------------------------------|------------|-----------------------------------------------------------------------|------------|-----------------------------------------------------------------------|------------|
| ** **                                                             | ** ** | **2005**                                                              | ** ** | **2004**                                                              | ** ** |
|                                                                   |       |                                                                  |       |                                                                  |       |
| Revenue                                                                |       | $                                                                     | —     |                                                                  | $          | 22 |   |
| Loss from  discontinued equipment manufacturing operations, net of tax |       | —                                                                |       | (96                                                                   | )          |
|                                                                        |            |                                                                       |            |                                                                       |            |  |  |

 

*Taesung*

 

OnJune 14, 2004, the Company entered into an Asset Purchase Agreement whereby allthe assets and liabilities of its Taesung equipment manufacturing division inKorea were sold to a third party for $345 which is payable by the third partyin four equal installments with the last installment being due on June 30, 2005.As of March 31, 2004, management determined that no impairment was anticipatedon the divestiture of its Taesung division. Ultimately, the sale resulted in aloss of approximately $184. The loss from operations for the three and nine months ended September30, 2004 totaled $0 and $653 and is included in the loss from discontinuedequipment manufacturing operations for the period.

 

Summarized operatingresults of Taesung’s operations are as follows:

 
| ** **                                                             | ** ** | **For the Nine months  Ended September 30,** | ** ** | **For the Nine months  Ended September 30,** | ** ** |
|------------------------------------------------------------------------|------------|-----------------------------------------------------------------------|------------|-----------------------------------------------------------------------|------------|
| ** **                                                             | ** ** | **2005**                                                              | ** ** | **2004**                                                              | ** ** |
|                                                                   |       |                                                                  |       |                                                                  |       |
| Revenue                                                                |       | $                                                                     | —     |                                                                  | $          | 172 |   |
| Loss from  discontinued equipment manufacturing operations, net of tax |       | —                                                                |       | (653                                                                  | )          |
|                                                                        |            |                                                                       |            |                                                                       |            |  |  |

 

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**7.             ProductWarranty**

 

Management estimatesproduct warranties as a percentage of bulk alloy product sales earned duringthe period. As of September 30, 2005, the Company used 5 percent of bulk alloyproduct sales as an estimate of warranties to be claimed. The percentage isbased on industry averages and historical information. During the three andnine months ended September 30, 2005, the Company recorded $50 and $126,respectively, of warranty expense. During the three and nine months endedSeptember 30, 2004, the Company recorded $131 and $269, respectively, ofwarranty expense. The product warranty accrual balance is included in accountspayable and accrued expenses.

 

**8.             NotesPayable**

 

Senior Convertible Note

 

On March 3, 2004, theCompany issued $9,924 of 6% senior convertible notes due 2007 (the “March Notes”)to investor groups in a transaction led by Michigan Venture Capital Co., Ltd, aSouth Korea-based institutional investment firm, and IndiGo Ventures LLC, a NewYork-based investment firm (the “Placement Agents”) that served as a financialadvisor to the Company for the transaction. The notes were collateralized bythe patents held by the Company and second priority mortgage interest in plantfacilities and certain equipment in South Korea. The notes were convertible atany time into common stock at a price of $3.00 per share. Investors in theprivate placement and the Placement Agents received warrants to purchase anaggregate amount of up to approximately 1.2 million shares of common stock,exercisable at $3.00 per share for varying periods but no later than 100 daysfollowing the effectiveness of a registration statement covering the resale ofshares issuable upon exercise of the warrants. The conversion and warrantexercise price are subject to price adjustments for anti-dilution purposes. Inaddition, the investors had the right to call for repayment of the notes priorto maturity at any time after the second anniversary of the closing of thetransaction.

 

Pursuant to Statement ofFinancial Accounting Standards No. 133, “Accounting for Derivative Instrumentsand Hedging Activities,” EITF 00-19, “Accounting for Derivative FinancialInstruments Indexed to, and Potentially Settled in, a Company’s Own Stock,”EITF 00-27, “Application of Issue No. 98-5 to Certain Convertible Instruments,”and EITF 05-2 “The Meaning of ‘Conventional Convertible Debt Instrument’ inEITF Issue No. 00-19,” the original fair value of the embedded conversionfeature of $7,595 have been recorded as conversion feature liabilities as thedebt is considered non-conventional convertible debt. The original fair valuewas computed using the Black-Scholes model under the following assumptions: (1)expected life of 3 years; (2) volatility of 82%; (3) risk free interest of2.15% and dividend rate of 0%. The fair value of the conversion feature on thedate of issuance has been recorded as debt discount to be amortized over thelife the debt.

 

Pursuant to EITF 00-19, “Accountingfor Derivative Financial Instruments Indexed to, and Potentially Settled in, aCompany’s Own Stock”, the original fair value of the 1.2 million warrantstotaled $1,302 has been recorded as warrant liabilities as theshares issuable under the warrants have not been registered. The original fairvalue was computedusing the Black-Scholes pricing model under the following assumptions: (1) expectedlife of 3 years; (2) volatility of 82%, (3) risk free interest of 0.95% anddividend rate of 0%.

 

In March 2004, the originalfair value of the embedded conversion feature of $7,595 and the original fair value of the 0.6million warrants issued to investors of $584 and the original fair valueof 0.6 million warrants issued to Placement Agents of $718 were recorded as discounts of theconvertible note. In addition, $581 direct costs incurred relating to issuanceof the convertible note were recorded as debt issuance cost in other assets.

 

During 2004, the Companyredeemed $4,465 of the outstanding note balance in cash. The redemptionresulted in a write down of debt issuance costs and debt discount of $3,571 tointerest expense and a reduction in conversion feature liabilities of$914 from cancellation of the embedded conversion feature of the redeemed notesto additional paid in capital during the year ended December 31, 2004. Further,500,000 of warrants originally issued to a financial advisor for thetransaction expired during June 2004 and 163,748 of unexercised warrantsoriginally issued to investors were cancelled as a result of the Company’sredemption of the note balances during the year ended December 31, 2004. The663,748 total expired and canceled warrants immediately prior to the expirationand cancellation resulted in a reduction of warrant liability of $7 and $279 toadditional paid in capital and change in value of warrants, respectively,during the year ended December 31, 2004.

 

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On August 19, 2004, theCompany completed a private exchange offer for its March Notes with theremaining holders after the redemption. Under terms of the exchange offer,approximately $5,459 in aggregate principal amount of the March Notes have beenexchanged for an aggregate of (i) $2,729 of 6% Senior Secured Notes Due 2007(the “Long-Term Notes”) and (ii) $2,730 of 10% Senior Secured Notes Due 2005(the “Short-Term Notes”), collectively referred to as “Exchange Notes”. TheExchange Notes are collateralized by certain patents owned by the Company andsecond priority mortgage interest in plant facilities and certain equipment atour South Korea plant. The Short-Term Notes have a maturity date of July 29,2005, and a conversion price of $2.00 per share (compared to a conversion priceof $3.00 per share under the March Notes). The Short-Term Notes have beenexchanged and redeemed subsequent to the close of the second quarter of 2005(see 2005 Senior Convertible Notes below). The Long-Term Notes have a maturitydate of July 29, 2007, and a conversion price of $1.00 per share. Theconversion prices of the July 2007 Notes and July 2005 Notes are subject toprice adjustments for anti-dilution purposes. Further, the exchange notes areconvertible into Common Stock, at the option of the Company, if at any timeafter the issuance of the notes, the closing per share price of the CommonStock exceeds $4.00 (as adjusted for stock splits, reverse splits, stockdividends, and recapitalizations) for 30 consecutive trading days, and furtherprovided that there has been effective registration during such period. Holdersof the Long-Term Notes also have the right to call for repayment of theLong-Term Notes prior to maturity at any time after the second anniversary ofthe closing of the exchange offer. The Long-Term Notes have been amendedsubsequent to the close of the second quarter of 2005 to provide for an AmendedRegistration Rights Agreement, and Amended and Restated Security Agreement (see2005 Senior Convertible Notes below).

 

A total of 563,151warrants to purchase our common stock at an exercise price of $3.00 pershare—all of which were previously issued in connection with the purchase ofthe March Notes—have been amended to provide for an extended expiration date ofMarch 1, 2006. The warrant exercise price is subject to price adjustment foranti-dilution purposes. As of September 30, 2005, the warrant price wasdetermined to be exercisable at $2.73.

 

The exchange offer wastreated as an extinguishment of the March Notes in accordance with EmergingIssues Task Force No. 96-19, “Debtors Accounting for a Modification or Exchangeof Debt Instruments.”  The exchangeresulted in a $2,941 loss from extinguishment of the March Notes, whichconsisted of write down of $352 of deferred issue costs in other assets, $670of debt discount, and an increase of $1,919 in conversion feature liability asa result of the change in carrying value of exchanged notes.

 

In connection with theprivate exchange offer, the Company issued $250 of private placement notes tocertain Placement Agents as issuance costs. Of the $250 notes issued, $125 waspaid in the form of long-term notes which is due in 2007 with interest rate of6% per annum (Long-Term Notes) and $125 was paid in the form of short-termnotes which is due in 2005 with interest rate of 10% per annum (Short-TermNotes). The Short-Term and Long-Term Notes are convertible into Common Stock at$2.00 and $1.00, respectively, and have the same terms as the Exchange Notesissued to the investors. Further, $143 of original fair value of the embeddedconversion feature of 250 notes issued to Placement Agents was recorded duringAugust 2004.

 

The Company wasobligated, pursuant to a Registration Rights Agreement, as amended by theExchange Notes, between the Company, the Placement Agents and the note holdersto file a registration statement with the Securities and Exchange Commission (“SEC”)to register the shares of Common Stock issuable upon conversion of the notespayable and the related warrants within 90 days following the effective closingdate of the exchange notes (July 29, 2004), and to use best efforts to causesuch registration statement to become effective within 60 days following theSEC’s first written comments on the registration statement. Further, if theCompany is not in compliance with the registration or listing requirements, theholders have rights to late registration payments equal to between 2 and 3percent of the purchase price paid for the unconverted notes for the first 30business days of late registration, and 1 and 3 percent for each 30 businessdays thereafter, but no more than 18 percent of the purchase price of theunconverted note balance. Late registration fee of $0 and $1,028 has beenrecorded as interest expense during the three and nine months ended September30, 2005, respectively.

 

Interest payments are duequarterly, and failure to make timely interest payments will result in increasein interest rate to 10% and 14% on the 6% and 10% senior convertible notes (“DefaultRates”). The Default Rates became effective on April 1, 2005 from non-paymentof a scheduled interest payment. As of September 30, 2005, the Company hascomplied with all scheduled interest payments.

 

On August 9, 2005, theShort-Term Notes, accrued interest and late registration fees were redeemed incash and exchanged for 7% Convertible Secured Promissory Notes due August2007  (see 2005 Senior Convertible Notesbelow).

 

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Subsequent to the closingof the 2005 Senior Convertible Notes in August 2005, $462 of the Long-TermNotes were converted into 462,250 of the Company’s common stock at a conversionprice of $1.00 per share as of September 30, 2005. The conversion resulted inreduction of conversion feature liabilities of $520 to additional paid incapital for the quarter ended September 30, 2005.

 

As of September 30, 2005,our gross outstanding loan balance of the Short-Term and Long-Term Notestotaled $0 and $2,392, respectively. As of December 31, 2004,our gross outstanding loan balance of the Short-Term and Long-Term Notestotaled $2,854 and $2,855, respectively. As of September 30, 2005 and December31, 2004, un-amortizeddiscounts for conversion feature and warrants totaled $1,411 and $2,831, and other asset debt issuance coststotaled $49 and $183, respectively. Interest expense for the amortization ofdebt issuance cost and discount on note was $594 and $1,554 for the three andnine months ended September 30, 2005, and $1,699 and $3,314 for the three andnine months ended September 30, 2004, respectively. As of September 30, 2005,the effective interest rate for the Long-Term Notes was 37%.

 

Pursuant to EITF 00-19, “Accountingfor Derivative Financial Instruments Indexed to, and Potentially Settled in, aCompany’s Own Stock”, the original relative fair values of the warrants of$1,302 have been recorded as warrant liability as the Company has not yet filedthe registration statement. In addition, the Company is required to report avalue of the warrant as a fair value and record the fluctuation to the fairvalue of the warrant liability to current operations. The change in the fairvalue of the warrants resulted in a gain of $170 and $457 for the three andnine months ended September 30, 2005, respectively, and a loss of $434 and again of $412 for the three and nine months ended September 30, 2004,respectively. The fair value of warrants outstanding at September 30, 2005 of$93 was computed using the Black-Scholes model under the following assumptions:(1) expected life of 0.42 years; (2) volatility of 90%, (3) risk free interestof 3.93%and dividend rate of 0%.

 

Convertible Notes

 

On June 13, 2005, the Company completed a private placement (the “PrivatePlacement”) of 10% Convertible Unsecured Notes Due June 13, 2006 in theaggregate principal amount of $3,250 (the “Notes”), together with warrants topurchase up to an aggregate of 893,750 shares of the Company’s common stock(the “Warrants”).

 

The Notes issued by the Company in the Private Placement are unsecuredand was due on the earlier of June 13, 2006 or the consummation of afollow-on equity or debt offering or restructuring transaction pursuant towhich the Company receives gross proceeds of at least $4,000.  Prior tomaturity, the Notes are interest-only, with interest payments due quarterly, atthe rate of 10% per year.  The Notes can be prepaid by the Company at anytime without penalty.  If, within 120 days following the issue date of theNotes, the Company either fails to redeem the notes for the principal amountand accrued interest thereon or fails to close a “Qualified Financing,” thenthe Notes will thereafter be convertible at a conversion price equal to seventyfive percent (75%) of the closing price of the Company’s common stock on thefirst trading day immediately preceding the conversion date.  A “QualifiedFinancing “ is defined in the Notes as any debt or equity financing of theCompany resulting in aggregate gross proceeds to the Company of at least $5,000and in which the holders of at least sixty percent (60%) of the aggregateprincipal amount of the Company’s Long Term Notes due July 2007 either(i) agree that the equity or debt securities to be issued in suchfinancing shall be*pari passu* inorder of payment to the 2007 Notes held by them or (ii) exchange their2007 Notes for new securities in the financing transaction. On August 9, 2005,the Company successfully completed Qualified Financing, which resulted inexchange and redemption of the Convertible Notes (see 2005 Senior ConvertibleDebt). As a result, the Notes never became convertible.

 

As a part of the Private Placement, the Company issued warrants to thepurchasers of the Notes giving them the right to purchase up to an aggregate of812,500 shares of the Company’s common stock.  In addition, warrants topurchase 81,250 shares of the Company’s common stock were issued to theplacement agent in the transaction.  The warrants have an exercise priceof $2.00 per share, provided that upon the consummation of the first ensuingpublic or private equity or debt offering or restructuring transaction in whichthe Company receives gross proceeds of at least $3,250 (including withoutlimitation any restructuring of the Company’s previously issued 10% SeniorSecured Notes Due July 29, 2005), the exercise price will be automaticallyadjusted downward (but not upward) as of the closing date of such offering orrestructuring transaction so that it is equal to the lowest effective common stockpurchase price paid for any securities issued by the Company to the investorsin such offering or restructuring transaction.  The warrants will expireon June 13, 2010 and are subject to exercise price adjustments foranti-dilution purposes.

 

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The fair value of the 893,750 warrants totaled$1,160 and was computed using the Black-Scholes pricing model under thefollowing assumptions: (1) expected life of 5 years; (2) volatility of 118%,(3) risk free interest of 3.87% and dividend rate of 0%. In accordance withEmerging Issues Task Force No. 00-27, “Application of Issue No. 98-5 to CertainConvertible Instruments” the embedded beneficial conversion feature of the debtwas not recorded as the debt is considered contingently convertible at the timeof issuance, and as a result of the completion of the Qualified Financing thedebt subsequent to the close of the second quarter, the debt was determined tobe not convertible. In June 2005, the fair value of the 812,500 warrants issuedto investors of $1,055 was recorded as discounts of the convertible note. Inaddition $105 relating to the fair value of the 81,250 warrants issued to thePlacement Agents and $278 direct costs incurred relating to issuance of theconvertible note were recorded as debt issuance cost as a contra liabilityaccount in debt discount and other assets, respectively, and will be amortizedusing the effective interest rate method over the life of the loan.

 

On August 9, 2005, the Notes were redeemed in cashand exchanged for 7% Convertible Secured Promissory Notes due August 2007 (see2005 Senior Convertible Notes below). The exchange offer was treated as anextinguishment of the Notes in accordance with Emerging Issues Task Force No.96-19, “Debtors Accounting for a Modification or Exchange of DebtInstruments.”  The exchange resulted in a$1,247 loss from extinguishment of the Notes which consists of write down of$240 of deferred issue costs in other assets, $92 of contra liability deferredissuance costs, and $915 of debt discount as a result of the change in carryingvalue of exchanged notes.

 

Pursuant to EITF 00-19,“Accounting for Derivative Financial Instruments Indexed to, and PotentiallySettled in, a Company’s Own Stock”, the original fair values of the warrants of$1,160 have been recorded as other liability as the Company has not yet filedthe registration statement. In addition, the Company is required to report avalue of the warrant as a fair value and record the fluctuation to the fairvalue of the warrant liability to current operations. The change in the fairvalue of the warrants resulted in a net gain of $349 and $95 for the three andnine months ended September 30, 2005. The fair value of warrants outstanding atSeptember 30, 2005 of $1,065 was computed using the Black-Scholes model underthe following assumptions: (1) expected life of 4.70 years; (2) volatility of90%, (3) risk free interest of 4.18%and dividend rate of 0%.

 

2005 SeniorConvertible Debt

 

OnAugust 9, 2005, the Company completed a private placement (the “PrivatePlacement”) of $9,878 in principal amount of new 7% Convertible SecuredPromissory Notes due August 2007 (the “2005 Senior Notes”). The issuanceconsisted of $5,000 cash, exchange of $1,284 in principal amount of previouslyissued 10% Senior Secured Notes Due July 29, 2005 (the “July 2005 Notes”), theexchange of $2,996 in principal amount of previously issued 10% ConvertibleUnsecured Notes Due June 2006 (the “June 2006 Notes”), satisfaction of accruedinterest and late registration fees in the amount of $589 on the previouslyissued July 2005 Notes, and satisfaction of accrued interest of $9 previouslyissued June 2006 Notes. The 2005 Senior Notes were issued pursuant to aSecurities Purchase Agreement dated effective as of August 2, 2005 among theCompany, the purchasers of the 2005 Senior Notes, and the holders of previouslyissued July 2005 Notes and June 2006 Notes of the Company due June 2006.

 

Interestpayments are due quarterly, and failure to make timely interest payments willresult in an increase to the interest rates to 14% per annum on the 2005 SeniorNotes (“Default Rates”). As of September 30, 2005, the Company has made timelyinterest payments.

 

The2005 Senior Notes are convertible into shares of the Company’s common stock at$2.00 per share pursuant to an Amended and Restated Security Agreement. Theconvertible price of the 2005 Senior Notes is subject price adjustment foranti-dilution purposes. As of September 30, 2005, the convertible price of 2005Senior Notes remained unchanged at $2.00 per share.

 

Further,pursuant to Statement of Financial Accounting Standards No. 133, “Accountingfor Derivative Instruments and Hedging Activities,” EITF 00-19, “Accounting forDerivative Financial Instruments Indexed to, and Potentially Settled in, aCompany’s Own Stock,” EITF 00-27, “Application of Issue No. 98-5 to CertainConvertible Instruments,” and EITF 05-2 “The Meaning of ‘ConventionalConvertible Debt Instrument’ in EITF Issue No. 00-19,” the original fair valueof the embedded beneficial conversion feature of $4,808 have been recorded asbeneficial conversion feature liability as the debt is considerednonconventional convertible debt. The original fair value was computed usingthe Black-Scholes model under the following assumptions: (1) expected life of 2years; (2) volatility of 93%; (3) risk free interest of 4.06% and dividend rateof 0%. In addition, the Company is required to report a value of the beneficialconversion liability as a fair value and record the fluctuation

 

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tothe fair value of the beneficial conversion feature liability to currentoperations. The change in the fair value of the beneficial conversion featureliability resulted in a gain of $982 for the three and nine months September30, 2005. The fair value of the beneficial conversion features outstanding asof September 30, 2005 of 3,826 was computed using the Black-Scholes model underthe following assumptions: (1) 1.84 years; (2) volatility of 90%, (3) risk freeinterest of 4.18% and dividend rate of 0%.

 

The2005 Senior Notes are secured by substantially all assets of the Company and rank senior to all other obligations ofthe Company, other than the Company’s loan with Kookmin Bank of South Korea (orany refinancing of such loan), the 6% Senior Secured Notes DueJuly 29, 2007 (“July2007 Notes”), purchase money asset financing, trade creditors in the ordinarycourse of business, and any inventory or receivables-based credit facility thatthe Company may obtain in the future, provided that the amount of the creditfacility does not exceed 50% of eligible inventory and 80% of eligiblereceivables. The 2005 Senior Notes will automatically convert into common stockif the Company’s common stock has an average closing price of more than $5.00per share during 30 consecutive trading days.

 

TheCompany also issued warrants to the purchasers of the 2005 Senior Notes andplacement agents giving them the right to purchase up to 2,469,470 and 414,495shares of Company common stock, respectively, with an exercise price of $2.00per share, which is subject to price adjustment for anti-dilution purposes. Thewarrants will expire on August 2, 2010.

 

Pursuant to EITF 00-19,“Accounting for Derivative Financial Instruments Indexed to, and PotentiallySettled in, a Company’s Own Stock”, the original fair values of the warrants of$4,068 have been recorded as warrant liability as the Company has not yet filedthe registration statement, which was computed using the Black-Scholes pricingmodel under the following assumptions: (1) expected life of 5 years;(2) volatility of 93%; (3) risk free interest of 4.17% and dividend rate of 0%.In addition, theCompany is required to report a value of the warrant as a fair value and recordthe fluctuation to the fair value of the warrant liability to currentoperations. The change in the fair value of the warrants resulted in a net gainof $593 for the three and nine months ended September 30, 2005. The fair valueof warrants outstanding at September 30, 2005 of $3,475 was computed using theBlack-Scholes model under the following assumptions: (1) expected life of 4.84years; (2) volatility of 90%, (3) risk free interest of 4.18%and dividend rateof 0%.

 

In connection with thetransaction, the Company, all purchasers of the 2005 Senior Notes, and allholders of previously issued notes entered into a single Amended and RestatedRegistration Rights Agreement that replaces the prior registration rightsagreements entered into by the Company with the various noteholders. Under theAmended and Restated Registration Rights Agreement, the Company is required tofile a resale registration statement for the shares underlying the 2005 SeniorNotes, July 2007 Notes, and warrants within ninety (90) days of the closing ofthe 2005 Senior Notes. The Company is required to cause this registrationstatement to become effective within 60 days after the Company receives thefirst written comments on the registration statement from the SEC, or if theSEC notifies the Company that it will not review the registration statement,within five days after such notification. The Company will be subject tocertain monetary penalties, as set forth in the registration rights agreement,if the registration statement is not filed or does not become effective on atimely basis. Specifically, if the Company does not file theregistration statement on a timely basis, we will be obligated to pay a latefiling fee to the selling stockholders in the amount of 3% of the warrantexercise price on each of the warrants held by them plus 3% of the principalamount of the outstanding notes held by them. This fee will be payable for eachperiod of 30 business days that the filing of the registration statement ismade past the required filing date, and the payments will be due 10 businessdays following the end of each 30-day period. If the registration statement hasnot been declared effective by the required effective date, the Company will beobligated to pay a monthly late registration fee to the selling stockholders inthe amount of 2% of the aggregate warrant exercise prices and aggregate noteprincipal amounts for the first 30 business days after the required effectivedate, and 1% for each 30-business day period thereafter until the registrationstatement is declared effective. Notwithstanding the foregoing, the late filingfees and late registration fees will not exceed 18% of the aggregate warrantexercise prices and aggregate note principal amounts.

 

TheCompany received first written comments from the SEC in January 2006 on theregistration statement. However, the registration statement has not been madeeffective within the 60 day period called for by the registration rightsagreement and the Company may be subject to default notices by the holders ofthe convertible notes and warrants. As of the filing of this report, theCompany’s management is not aware of any outstanding default notices.

 

As of September 30, 2005,our gross outstanding loan balance of the 2005 Senior Notes totaled $9,878. As ofSeptember 30, 2005, unamortizeddiscounts for beneficial conversion feature and warrants totaled $6,133, and other asset debt issuance costs

 

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totaled $434, and contraliability debt issuance cost totaled $538. Interest expense for theamortization of debt issuance cost and discount on note was $622 and for thethree and nine months ended September 30, 2005. As of September 30, 2005, theeffective interest rate for the 2005 Senior Notes was 46%.

 

Factoring Agreement

 

The Company entered into a Factoring, Loan, and Security Agreement (the“Agreement”) with a financing company on April 21, 2005, which allows forborrowings of up to $1,500. The Agreement expires on April 21, 2006, andautomatically renews annually thereafter. All borrowings are secured byoutstanding receivables specifically assigned to the financing company.Assigned receivables are considered “Approved” or “Non-Approved” by thefinancing company. Advances are made on 80% of Approved receivables assignedand 30% of Non-Approved receivables assigned. Payments on assigned receivablesare received directly by the financing company, and applied to outstandingadvances. All outstanding advances and uncollected assigned receivables are subjectto fees and interest charges ranging from 0.65 percent to 2 percent plus primerate as published by the Wall Street Journal, with a minimum annual fee of $30.All receivables assigned and advances made are subject to return and recall bythe financing company, respectively. As such, the advances have been classifiedas short-term secured borrowings in accordance with SFAS 140 “Accounting forTransfer and Servicing of Financial Assets and Extinguishments of Liabilities.”  As of September 30, 2005, the Company hasborrowed $2,855 and repaid $2,618. The total outstanding advance made under theagreement is $237 as of September 30, 2005, which is presented as short-termdebt. The Company has $1,263 available for future borrowings under theAgreement as of September 30, 2005, which is contingent on approval of eligiblereceivables by the financing company.

 

Kookmin Note

 

On February 4, 2003, our Korean subsidiary received 6,500,000 in SouthKorean Won, or approximately $5,488, under a loan from Kookmin Bank of SouthKorea. The loan bears interest at an annual rate of 7.1%. In the event ofdelayed repayment, the interest increases to a maximum of 21%, depending on thelength of time the repayment is delayed. As of September 30, 2005, the interestrate was increased to 9.2% from delayed interest payments made. This loan iscollateralized by the plant facilities and certain equipment in South Korea.During the first eighteen months from the origination date, interest waspayable on a monthly basis. In October 2003, the Company paid $873 of principalat the request of Kookmin Bank due to the sale of machines that had been partof the collateral on the loan. Subsequent to October 31, 2003, Kookmin Bankrequested that the Company pay an additional $866 of principal by February 2004due to the Company’s current credit rating. The Company made two payments onthe requested additional loan pay down in November and December 2003 of $320and $205, respectively. The remaining payment of $341 was subsequently made inFebruary 2004. Beginning in September 2004, the Company is required to makeequal monthly installments of principal and interest to repay the remainingbalance of the loan over a 36-month period. Principal payments made to KookminBank totaled $841 for the nine months ended September 30, 2005, which includes$89 of foreign exchange translation loss. The outstanding loan balance totaled$2,910, of which $1,204 is included in current portion of long-term debt, as ofSeptember 30, 2005.

 

**9.     StockCompensation Plan**

 

During the three and ninemonths ended September 30, 2005, under the Company’s 2002 Equity Incentive Planwhich provides for the grant of stock options to officers, employees,consultants and directors, the Company granted options to purchase 0 and 791,165common shares of the Company for an average exercise price of $0 and $2.16,respectively, which equaled the fair market value on the date of grant

 

During the three and ninemonths ended September 30, 2005, under the Company’s 2002 Non-employee DirectorStock Option Plan which provides for the grant of stock options to non-employeedirectors, the Company granted 20,000 and 200,000 common shares of the Companyfor an average exercise price of $1.87 and $2.28, respectively, under thisplan. Further, all options granted under this plan had exercise prices thatwere equal to the fair market value on the date of grant.

 

In September 2005, the non-employee directors of ourcompany were given the opportunity to receive shares of stock under the plan inlieu of past-due director and committee fees that were due to them for periodsthrough September 30, 2005. Such shares were issuable to such directors at anaverage price of $1.89 per share. As of September 30, 2005, a total of 92,219shares were issued to non-employee directors in lieu of these past-due fees.

 

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The Company canceled 31,517 and275,701 options during the three and nine months ended September 30, 2005,respectively, for terminated employees and directors.

 

**10.          SegmentReporting and Geographic Information**

 

SFAS No. 131,*Disclosures aboutSegments of an Enterprise and Related Information,*requirescompanies to provide certain information about their operating segments. InApril 2002, the Company began classifying operations into two reportablesegments: Liquidmetal alloy industrial coatings and bulk Liquidmetal alloys.The Liquidmetal alloy industrial coatings are used primarily as a protectivecoating for industrial machinery and equipment, such as drill pipe used by theoil drilling industry and boiler tubes used by coal burning power plants. BulkLiquidmetal alloys include market opportunities to manufacture and sell casingcomponents for electronic devices, medical devices, sporting goods, tooling, prototypesampling, defense applications and metal processing equipment. Primarily, theexpenses incurred by the bulk Liquidmetal alloy segment are research anddevelopment costs and selling expenses associated with identifying anddeveloping market opportunities. Bulk Liquidmetal alloys products can bedistinguished from Liquidmetal alloy coatings in that the bulk Liquidmetalalloy can have significant thickness, up to approximately one inch, whichallows for their use in a wider variety of applications other than a thinprotective coating applied to machinery and equipment. Revenue and expensesassociated with research and development services and product licensingarrangements are included in the bulk Liquidmetal alloy segment. The accountingpolicies of the reportable segments are the same as those described in Note 3to the consolidated financial statements included in the Company’s Form 10-Kfiled with the Securities and Exchange Commission on March 30, 2005.

 

Summarized financial information concerning the Company’s reportablesegments is shown in the following tables:

 
| ** **                                                            | ** ** | ** **   | ** ** | **Segment**         | ** ** | ** ** | ** ** |
|-----------------------------------------------------------------------|------------|--------------|------------|---------------------|------------|------------|------------|
| ** **                                                            | ** ** | **Coatings** | ** ** | **Bulk Alloy** | ** ** | **Totals** | ** ** |
|                                                                  |       |         |       |                |       |       |       |
| Three months ended September 30, 2005:                                |       |         |       |                |       |       |       |
| Revenue to external customers                                         |       | $            | 1,549      |                | $          | 2,793      |       | $ | 4,342 |   |
| Gross profit (loss)                                                   |       | 635          |       | (49                 | )          | 586        |       |
| Income (loss) before interest expense and  discontinued operations    |       | 420          |       | (1,429              | )          | (1,009     | )          |
| Total identifiable assets at end of period                            |       | 772          |       | 16,414              |       | 17,186     |       |
|                                                                  |       |         |       |                |       |       |       |
| Three months ended September 30, 2004:                                |       |         |       |                |       |       |       |
| Revenue to external customers                                         |       | $            | 988        |                | $          | 3,627      |       | $ | 4,615 |   |
| Gross profit                                                          |       | 466          |       | 908                 |       | 1,374      |       |
| Income before interest expense,  discontinued operations, and general |       | 264          |       | 129                 |       | 393        |       |
| Total identifiable assets at end of period                            |       | 814          |       | 23,202              |       | 24,016     |       |
|                                                                  |       |         |       |                |       |       |       |
| Nine months ended September 30, 2005:                                 |       |         |       |                |       |       |       |
| Revenue to external customers                                         |       | $            | 3,930      |                | $          | 6,982      |       | $ | 10,912 |   |
| Gross profit                                                          |       | 1,691        |       | (1,332              | )          | 359        |       |
| Income (loss) before interest expense and  discontinued operations    |       | 1,182        |       | (7,270              | )          | (6,088     | )          |
| Total identifiable assets at end of period                            |       | 772          |       | 16,414              |       | 17,186     |       |
|                                                                  |       |         |       |                |       |       |       |
| Nine months ended September 30, 2004:                                 |       |         |       |                |       |       |       |
| Revenue to external customers                                         |       | $            | 2,710      |                | $          | 12,248     |       | $ | 14,958 |   |
| Gross profit                                                          |       | 1,260        |       | 4,425               |       | 5,685      |       |
| Income before interest expense and discontinued  operations           |       | 804          |       | 2,237               |       | 3,041      |       |
| Total identifiable assets at end of period                            |       | 814          |       | 23,202              |       | 24,016     |       |

 

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Reconciling information between reportable segments and the Company’sconsolidated totals is shown in the following table:

 
| ** **                                                                                                    | ** ** | **For the Three**                   | ** ** | **For the Nine**                    | ** ** |
|---------------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                                                                    | ** ** | **Months Ended September 30,** | ** ** | **Months Ended September 30,** | ** ** |
| ** **                                                                                                    | ** ** | **2005**                                      | ** ** | **2004**                                      | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                                                                                    | ** ** | **(Restated)**                                | ** ** | **(Restated)**                                | ** ** | **(Restated)** | ** ** | **(Restated)** | ** ** |
|                                                                                                          |       |                                          |       |                                          |       |   |   |   |   |
| Total operating income (loss) before  minority interest, interest expense and discontinued operations         |       | $                                             | (1,009     | )                                             | $          | 393 |   | $ | (6,088 | ) | $ | 3,041 |   |
| General and administrative expenses not  allocated to segments                                                |       | (1,798                                        | )          | (2,962                                        | )          | (5,107 | ) | (7,594 | ) |
| Consolidated loss before interest, other  income, income taxes, minority interest and discontinued operations |       | (2,807                                        | )          | (2,569                                        | )          | (11,195 | ) | (4,553 | ) |
| Loss from extinguishments of debt                                                                             |       | (1,247                                        | )          | (2,941                                        | )          | (1,247 | ) | (2,941 | ) |
| Change in value of warrants, gain (loss)                                                                      |       | 1,112                                         |       | (434                                          | )          | 1,145 |   | 846 |   |
| Change in value of conversion feature gain  (loss)                                                            |       | 2,215                                         |       | 2,338                                         |       | 4,497 |   | 3,276 |   |
| Other income                                                                                                  |       | —                                        |       | 302                                           |       | — |   | 302 |   |
| Interest expense                                                                                              |       | (1,659                                        | )          | (3,283                                        | )          | (4,377 | ) | (5,934 | ) |
| Interest income                                                                                               |       | 7                                             |       | —                                        |       | 14 |   | 34 |   |
| Loss from discontinued operations, net                                                                        |       | —                                        |       | —                                        |       | — |   | (749 | ) |
| Consolidated net loss                                                                                         |       | $                                             | (2,379     | )                                             | $          | (11,263 | ) | $ | (11,163 | ) | $ | (9,719 | ) |

 

Excluded general and administrative expenses are attributable to theCompany’s corporate headquarters. These expenses primarily include corporatesalaries, consulting, professional fees and facility costs. Research anddevelopment expenses are included in the operating costs of the segment thatperformed the research and development.

 

Revenues from sales tocompanies in the United States were $2,234 and $1,215 during the three months endedSeptember 30, 2005 and 2004, respectively. The revenue related to the UnitedStates of America was earned under defense-related research and developmentcontracts and sales of coatings products.

 

As of September 30, 2005,two customers represented 32%, or $706, of the total outstanding trade accountsreceivable. As of December 31, 2004, two customers represented 30%, or $497, ofthe total outstanding trade accounts receivable. One customer represented 11%,or $1,199, of total sales for the nine months ended September 30, 2005. Fourcustomers represented 60%, or $9,036, of total sales for the nine months endedof September 30, 2004.

 

During the three monthsended September 30, 2005, the Company had revenues from companies outsideof the United States of $2,108 of which $1,665 represented sales to companieslocated in South Korea. During the three months ended September 30, 2004, theCompany had revenue from sales to companies outside of the United States of$3,400 of which $2,895 represented sales to companies located in South Korea.The revenue related to sales to companies outside of the United States was frombulk alloy products including equipment sales.

 

Long-lived assets include net property, plant, and equipment, and netintangible assets. The Company had long-lived assets of $1,742 and $1,594located in the United States at September 30, 2005 and December 31, 2004,respectively. The Company had long-lived assets of $13,298 and $15,422 locatedin South Korea at September 30, 2005 and December 31, 2004, respectively.

 

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Reconciling information between reportable segments and the Company’sconsolidated totals is shown in the following table:

** **
| ** **                                | ** ** | **September 30,** | ** ** |
|-------------------------------------------|------------|------------------------|------------|
| ** **                                | ** ** | **2005**               | ** ** |
|                                      |       |                   |       |
| Total segment assets                      |       | $                      | 17,186     |   |
| Cash and cash equivalents                 |       | 933                    |       |
| Prepaid expenses and other current assets |       | 1,363                  |       |
| Other property, plant and equipment, net  |       | 585                    |       |
| Intangibles, net                          |       | 1,151                  |       |
| Other assets                              |       | 950                    |       |
| Total consolidated assets                 |       | $                      | 22,168     |   |

 

Assets excluded from segment assets include assets attributable to theCompany’s corporate headquarters. The largest asset represents the Company’sintangible assets, consisting primarily of the Company’s patents andtrademarks.

 

**11.          Income (Loss) Per Common Share**

 

Basicearnings per share (“EPS”) is computed by dividing earnings (loss) attributableto common shareholders by the weighted average number of common sharesoutstanding for the periods. Diluted EPS reflects the potential dilution ofsecurities that could share in the earnings. Common stock equivalents consistof 13,077,001 and 8,526,068 equity instruments and 11,672,051 and 4,844,903senior equity convertible debt instruments at September 30, 2005 and 2004,respectively, and have not been included in the EPS calculation at September30, 2005 and 2004 as the amounts are anti-dilutive.

 

**12.          Commitments and Contingencies**

 

In September 2004, as part of asecurity agreement to finance a certain insurance policy, the Company usedcertificates of deposits with maturities of less than one year as collateral.The $754 held in certificates of deposits is presented as restricted cash atDecember 31, 2004. During the quarter ended March 31, 2005, the certificate ofdeposits was liquidated and the proceeds were used to paydown the balance ofthe financing on the insurance policy.

 

In August 2004, the Companyentered into a consulting agreement whereby the Company was to receive servicesfrom a third party to improve the Company’s bulk alloy manufacturing process.The service is to be provided from August 2004 through October 2005. The totalamount of service fees is $172, of which $9 was included in trade accountspayable as of September 30, 2005. As of December 31, 2004, the total amount ofoutstanding balance included in trade accounts payable was $15.

 

The Company is from time totime a party to certain legal proceedings arising in the ordinary course ofbusiness. Although outcomes cannot be predicted with certainty, the Companydoes not believe that any legal proceeding to which it is a party will have amaterial adverse effect on the Company’s financial position, results ofoperations, and cash flows.

 

The Company and certain of its present and formerofficers and directors were named as defendants in nine purported class actioncomplaints filed in the United States District Courts for the Middle Districtof Florida, Tampa Division, and the Central District of California, SouthernDivision, alleging violations of Sections 11 and 15 of the Securities Act of1933 and Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 andRule 10b-5 promulgated thereunder. In August 2004, four complaints wereconsolidated in the United States District Court for the Middle District ofFlorida under the caption *Primavera Investors v.Liquidmetal Technologies, Inc., et al.*, Case No.8:04-CV-919-T-23EAJ. John Lee, Chris Cowley, Dwight Mamanteo, Scott Purcell andMark Rabold were appointed co-lead plaintiffs (the “Lead Plaintiffs”). InSeptember 2004, the five complaints filed in the Central District of Californiawere transferred to the Middle District of Florida for consolidation with the *Primavera Investors* action. The Lead Plaintiffs served theirConsolidated Amended Class Action Complaint on January 12, 2005. The AmendedComplaint alleges that the Prospectus issued in connection with the Company’sinitial public offering in May 2002 contained material misrepresentations andomissions regarding the Company’s historical financial condition and regardinga personal stock transaction by the Company’s chief executive officer. The LeadPlaintiffs further generally allege that during the proposed Class Period ofMay 21, 2002, through May 13, 2004, the defendants engaged in improper revenuerecognition with respect to certain of the Company’s business transactions,failed to maintain adequate internal controls, and knowingly disclosedunrealistic but

 

25

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favorable information about market demand for andcommercial viability of the Company’s products to artificially inflate thevalue of the Company’s stock. The Amended Complaint seeks unspecifiedcompensatory damages and other relief. The Company, along with otherdefendants, filed a Motion to Dismiss Plaintiffs’ Consolidated Amended ClassAction Complaint on March 28, 2005. The Lead Plaintiffs served their Memorandumin Opposition to Defendants’ Motion to Dismiss Consolidated Amended ClassAction Complaint on June 3, 2005. The Company cannot predict when the courtwill rule on the Motion to Dismiss. The Company intends to vigorously defendagainst the class action. The Company cannot currently predict the impact orresolution of this litigation or reasonably estimate a range of possible loss,which could be material. The resolution of this lawsuit may harm our businessand have a material adverse impact on our financial condition.

 

In addition to the above, certain present and formerofficers and directors of Liquidmetal Technologies, as well as LiquidmetalTechnologies as a nominal defendant, have been named in three shareholderderivative actions. Two shareholder derivative complaints were filed inCalifornia state court styled *Brian Clair, Derivativelyon Behalf of Liquidmetal Technologies, Inc. v. John Kang, et al.*,Case No. 04CC00551, and *Joseph Durgin, Derivativelyon Behalf of Liquidmetal Technologies, Inc. v. John Kang, et al.*,Case No. 04CC00553, both commenced in the Superior Court of Orange County,California. A third shareholder derivative complaint was filed in Floridafederal court styled *Robert Story v. John Kang,et al.*, Case No. 8:04-CV-1587-T-23TBM, commenced in the MiddleDistrict of Florida, Tampa Division. These shareholder derivative lawsuitsallege that the defendants breached various fiduciary duties and otherwiseviolated state law based primarily upon the same underlying facts andcircumstances as alleged in the federal shareholder class action. Theplaintiffs seek unspecified compensatory damages, restitution and disgorgementof profits, equitable and/or injunctive relief as permitted by law and otherrelief.

 

The two shareholder derivative complaints inCalifornia state court have been consolidated. Plaintiffs served a ConsolidatedShareholder Derivative Complaint on October 12, 2004. The defendants served aDemurrer to the Consolidated Shareholder Derivative Complaint on November 22,2004, seeking dismissal of that complaint. At a hearing on February 10, 2005,the court sustained the demurrer, dismissing the Consolidated ShareholderDerivative Complaint but giving the plaintiffs 45 days within which to amendthe complaint. Plaintiffs filed their Consolidated Amended ShareholderDerivative Complaint on March 28, 2005. The Company, along with otherdefendants, filed a corrected demurrer on May 17, 2005, again seeking dismissalof the amended complaint. At a hearing on July 7, 2005, the Court againsustained the demurrer, dismissing the Consolidated Amended ShareholderDerivative Complaint but giving the plaintiffs 40 days within which to furtheramend the complaint. On August 16, 2005, the plaintiffs filed a ConsolidatedSecond Amended Shareholder Derivative Complaint. The Company, along with theother defendants, filed a demurrer on September 15, 2005, again seekingdismissal of the second amended complaint. A hearing on that demurrer was held onOctober 19, 2005, but was continued pending resolution of a dispute regardingthe Company’s participation in discovery in the California derivative actionbefore the Motion to Dismiss the class action is resolved. On October 28, 2005,the presiding judge in the class action resolved the discovery dispute bydenying the Company’s Motion to Stay Discovery in Related State Action, and theCompany is now required to produce discovery materials in the Californiaderivative action. Once those discovery materials are produced to and reviewedby the plaintiffs’ counsel in the California derivative action, the judge willreconvene the hearing to determine whether the pending demurrer should besustained without leave to amend.

 

In the Florida derivative action, the Plaintifffiled a First Amended Shareholder Derivative Complaint on November 22, 2004.The Company’s Motion to Dismiss, which was filed on December 20, 2004, is fullybriefed. The Company cannot predict when the court will rule on the Motion toDismiss. The Company intends to vigorously defend against the derivativeactions. The Company cannot currently predict the impact or resolution of thislitigation or reasonably estimate a range of possible loss, which could bematerial. The resolution of these lawsuits may harm our business and have amaterial adverse impact on our financial condition.

 

As of September 30, 2005, theCompany has accrued $835 as receivables from insurance companies from excesslegal costs incurred to defend against the class action and derivativelawsuits. The amount is included in prepaid expenses and other current assets.

 

In March 1996, the Companyentered into a distribution agreement whereby it granted to a third partyexclusive rights to market and sell golf products incorporating LiquidmetalTechnology to certain Japanese sporting equipment companies. The third partypaid the Company a $1.0 million distribution fee as part of this agreement, ofwhich a portion was refundable according to a formula based on the gross profitearned by the third party. On March 28, 2003, the distribution agreement wasterminated and the Company entered into a new agreement to pay to the samethird party a commission on the net sales price of all Liquidmetal

 

26

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golf equipment that is shippedby the Company or its affiliates to Japanese golf companies for sale in theJapanese end-market. This commission will apply to golf equipment shipped bythe Company or its affiliates during the period beginning on March 28, 2003 andending on March 28, 2006. If, by March 28, 2006, the Company has not paid $350in commission payments, the balance between commission paid and $350 will bepaid by April 30, 2006, thereby guaranteeing the third party a $350 minimumpayment during the term of the agreement. The Company will recognize theunearned distribution fee of $830 as revenue proportionately with the paymentof commissions under the new agreement. As of September 30, 2005 and December31, 2004, the unearned distribution fee remained unchanged at $830.

 

Under terms of the January 2004settlement of the dispute over certain sales transactions from 2003 and 2002between Liquidmetal Korea and Growell Metal Co., Ltd., a South Korean metalsprocessing company (“Growell”), Liquidmetal Korea agreed to pay Growell $4,895to purchase Growell’s investment in alloy inventories, proprietary alloyingequipment purchased from Liquidmetal Korea, and supporting equipment purchasedfrom other suppliers. Also as part of the settlement, Growell satisfied in fulla balance of $2,058 owed to Liquidmetal Korea for the die casting machinesGrowell purchased from Liquidmetal Korea in the first quarter of 2003 as partof a license agreement to manufacture Liquidmetal alloy parts for the SouthKorean automotive industry. The remaining settlement payable of $2,837 andtrade accounts payable of $14 were to be paid to Growell (in cash or stock atthe Company’s discretion) by December 31, 2004. As of December 31, 2004, thesettlement payable of $3,246, net of foreign exchange translation loss, was notpaid to Growell due to Growell’s breach of warranty on equipment repurchased byLiquidmetal Korea. In January 2005, Growell was acquired by a third party. Asof September 30, 2005, the outstanding settlement payable to the third party of$3,234, net of foreign exchange translation gain, was not paid, and the Companyis currently in negotiations to settle this balance with the third party.

 

**13.          RelatedParty Transactions**

 

InJune 2003, the Company entered into an exclusive, ten-year license agreementwith LLPG, Inc. (“LLPG”), a corporation headed by a former director of theCompany. Under the terms of the agreement, LLPG has the right to commercializeLiquidmetal alloys, particularly precious-metal based compositions, in jewelryand high-end luxury product markets. The Company, in turn, will receive royaltypayments over the life of the contract on all Liquidmetal products produced andsold by LLPG. In conjunction with its technology licensing contract, LLPG purchasedtwo proprietary Liquidmetal alloy melting machines and three proprietaryLiquidmetal alloy casting machines for a total purchase price of $2,000. AtDecember 31, 2003, the Company had a remaining receivable balance of $500 duefrom LLPG, which was subsequently paid in full in March 2004.

 

We are a party to a consulting agreement withChitnis Consulting, Inc., which is owned 100% by Shekhar Chitnis, a formerdirector and executive officer of our company. Under this agreement, we haveengaged Chitnis Consulting to provide consulting services on an as-needed basisthrough December 31, 2005. During the three and nine months ended September 30,2005, we incurred $14 and $39, in consulting fees from Chitnis Consulting,respectively. During the three and nine months ended September 30, 2004, weincurred $13 and $38, in consulting fees from Chitnis Consulting, respectively.

 

We are a party to a consultingagreement with William Johnson, a board member. Under this agreement, Mr.Johnson provides consulting services on an as-needed basis through 2004 as itrelates to marketing and development Liquidmetal alloy. The agreement currentlycontinues on a month-to-month basis. During the three and nine months endedSeptember 30, 2005, we incurred $15 and $25 in consulting fees from Mr.Johnson, respectively. During the three and nine months ended September 30,2004, we incurred $40 and $54 in consulting fees from Mr. Johnson,respectively.

 

In November 2004, we entered intoan agreement with John Kang, our Chairman , in which Mr. Kang agreed thatcertain stock transactions by him in 2002 involving our common stock shouldhave resulted in a liability under Section 16(b) of the Securities Exchange Actof 1934, as amended (“Section 16(b)”). These transactions include Mr. Kang’sprivate sale of 285,715 shares of his personal Liquidmetal Technologies commonstock to Growell Metal Co., Ltd. in February 2002, prior to our initial publicoffering. They also include Mr. Kang’s subsequent indirect purchase anddisposition of Liquidmetal Technologies common stock in order to satisfy apersonal agreement Mr. Kang made to Growell Metal in February 2002 regardingthe guaranteed minimum value of the stock purchased by Growell Metal inFebruary 2002 (the purchases and dispositions incident to this agreementoccurred in August and November 2002, respectively). Lastly, the transactionsinclude open-market purchases of an aggregate of 89,300 shares of our commonstock made by Mr. Kang in August 2002.

 

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The Audit Committee ofour Board of Directors conducted an independent inquiry into theabove-described transactions with the aid of independent legal counsel and, asa result of such inquiry, the Audit Committee concluded that the transactions shouldhave resulted in a liability to the Company under Section 16(b) in the amountof $302. Mr. Kang has acknowledged this liability, and in an agreementnegotiated between Mr. Kang and the Audit Committee and approved by the fullBoard, Mr. Kang will pay this liability through periodic installments in 2005and 2006. As a result, the Company accrued for the $302 receivable in otherassets and other income as of December 31, 2004. The above-describedtransactions involving Growell Metal was reported on a new Form 4filed by Mr. Kang on November 15, 2004, and the open-market purchases werepreviously reported on a timely basis in August 2002. As of September 30, 2005,the outstanding amount of the receivable was $235, which is included in otherassets. Mr. Kang has paid $0 and $67 for the three and nine months ended ofSeptember 30, 2005. The Company has agreed to defer Mr. Kang’s payment scheduleuntil 2006 as Mr. Kang has agreed accept reduced compensation for the remainderof 2005. The remaining outstanding balance of $235 will be due before the endof 2006.

 

During the period endedSeptember 30, 2005, the Company executed a $198 promissory note with CK Cho,member of our Board of Directors, for working capital purposes. The note wasdue and paid in full as of June 30, 2005. The note has an annual rate ofinterest of 6% resulting in the Company paying approximately $2 in interest.Mr. Cho also is a Chief Executive Officer of Winvest Venture PartnersInc., who holds $500 of Senior Convertible Notes as of June 30, 2005 (see Note8). Further, during the three months ended September 30, 2005, Mr. Cho advancedapproximately $387 to cover short-term liquidity needs. The advances were madewithout interest and were repaid as of September 30, 2005.

 

**14.          Subsequent Events**

 

In connection with thesenior convertible debt funded in August 2005, the Company, all purchasers ofthe senior notes, and all holders of previously issued convertible notesentered into a single Amended and Restated Registration Rights Agreement thatreplaces the prior registration rights agreements entered into by the Companywith the various noteholders (see Note 8). Under the Amended and RestatedRegistration Rights Agreement, the Company is required to file a resaleregistration statement for the shares underlying the convertible notes andwarrants within 90 days of the closing of the August 2005 senior convertibledebt. The Company is required to cause this registration statement to becomeeffective within 60 days after the Company receives the first written commentson the registration statement from the SEC, or if the SEC notifies the Companythat it will not review the registration statement, within five days after suchnotification. If the Company is not in compliance with the registration filingrequirements, the holders of the convertible notes and warrants have rights tolate registration filing payments equal to 3 percent of a) warrant exerciseprice multiplied by the number of outstanding warrants; plus b) the outstandingprinciple balance for each 30 business days of late registration, but on morethan 18% of a) warrant exercise price multiplied by the number of outstandingwarrants; plus b) the outstanding principle balance.

 

OnDecember 6, 2005, the Company received a letter from a representative of theholders of the August 2007 Notes demanding the payment of a late filing fee byus for the period following October 31, 2005, but under the terms of theamended and restated registration rights agreement, the Company does notbelieve that it is obligated to pay any late filing fees unless and until the

Companyfails to file the registration statement by December 13, 2005, which is thelast day of the first 30-business day period following October 31, 2005. Theletter also stated that the letter was serving as a notice of default under theSenior Notes as a result of our failure to file a registration statement byOctober 31, 2005, although under the terms of the Senior Notes, the Company hasthirty days after delivery of the letter in which to cure such default. OnDecember 9, 2005 the Company filed the registration statement, which was withinthe 30-day period and has cured the default notice.

 

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** **

**Item2. Management’s Discussion and Analysis of Financial Condition and Results ofOperations**

** **

*This management’s discussion and analysis should be read in conjunctionwith the condensed consolidated financial statements and notes includedelsewhere in this report on Form 10-Q.*

 

*This management’s discussion and analysis, as well as other sections ofthis report on Form 10-Q, may contain “forward-looking statements” thatinvolve risks and uncertainties, including statements regarding our plans,future events, objectives, expectations, forecasts, or assumptions. Anystatement that is not a statement of historical fact is a forward-lookingstatement, and in some cases, words such as “believe,” “estimate,” “ project,”“expect,” “intend,” “may,” “anticipate,” “plans,” “seeks,” and similarexpressions identify forward-looking statements. These statements involve risksand uncertainties that could cause actual outcomes and results to differmaterially from the anticipated outcomes or results, and undue reliance shouldnot be placed on these statements. These risks and uncertainties include, butare not limited to, the matters discussed under the caption “Factors AffectingFuture Results” in our Annual Report on Form 10-K for the fiscal year endedDecember 31, 2004 and other risks and uncertainties discussed in filings madewith the Securities and Exchange Commission (including risks described insubsequent reports on Form 10-Q, Form 10-K, Form 8-K, and otherfilings). Liquidmetal Technologies disclaims any intention or obligation toupdate or revise any forward-looking statements, whether as a result of newinformation, future events, or otherwise.*

 

**Overview**

 

We are a materials technology company thatdevelops and commercializes products made from amorphous alloys. OurLiquidmetal® family of alloys consists of a variety of coatings, powders, bulkalloys, and composites that utilize the advantages offered by amorphous alloytechnology. We develop, manufacture, and sell products and components from bulkamorphous alloys that are incorporated into the finished goods of ourcustomers, and we also market and sell amorphous alloy industrial coatings. Wealso partner with third-party licensees and distributors to develop andcommercialize Liquidmetal alloy products. We have the exclusive right todevelop, manufacture, and sell what we believe are the only commercially viablebulk amorphous alloys.

 

Amorphousalloys are unique materials that are distinguished by their ability to retain arandom atomic structure when they solidify, in contrast to the crystallineatomic structure that forms in ordinary metals and alloys when they solidify.Liquidmetal alloys possess a combination of performance, processing, and costadvantages that we believe makes them preferable to other materials in avariety of applications. The amorphous atomic structure of our alloys enablesthem to overcome certain performance limitations caused by inherent weaknessesin crystalline atomic structures, thus facilitating performance and processingcharacteristics superior in many ways to those of their crystallinecounterparts. For example, our zirconium-titanium Liquidmetal alloys areapproximately 250% stronger than commonly used titanium alloys, such asTi-6Al-4V, but they have processing characteristics similar in many respects toplastics. We believe these advantages could result in Liquidmetal alloyssupplanting other incumbent materials in a wide variety of applications.Moreover, we believe these advantages will enable the introduction of entirelynew products and applications that are not possible or commercially viable withother materials.

 

Ourrevenues are derived from two principal operating segments: Liquidmetal alloyindustrial coatings and bulk Liquidmetal alloy products. Liquidmetal alloyindustrial coatings are used primarily as a protective coating for industrialmachinery and equipment, such as drill pipe used by the oil drilling industryand boiler tubes used in coal-burning power plants. The historical operatinginformation for fiscal year 2001 is based substantially on sales of Liquidmetalalloy coatings. In the second half of 2002, we began producing bulk Liquidmetalalloy components and products for incorporation into our customers’ finishedgoods. Bulk Liquidmetal alloy segment revenue includes sales of parts orcomponents of electronic devices, medical products, and sports and leisuregoods; tooling and prototype parts (including demonstration parts and testsamples) for customers with products in development, product licensing andarrangements, and research and development revenue relating primarily todefense and medical applications. We expect that these sources of revenue willcontinue to significantly change the character of our revenue mix.

 

The cost of sales for our Liquidmetal coatingssegment consists primarily of the costs of outsourcing our manufacturing tothird parties. Consistent with our expectations, our cost of sales has beenincreasing over historical results as we further build our bulk Liquidmetalalloy business. Although we plan to continue outsourcing the manufacturing ofour coatings, we will internally manufacture many products derived from ourbulk Liquidmetal alloys.

 

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Selling, general, and administrative expensescurrently consist primarily of salaries and related benefits, severance costs,travel, consulting and professional fees, depreciation and amortization,insurance, office and administrative expenses, and other expenses related toour operations.

 

Research and development expenses representsalaries, related benefits expense, stock-based compensation, depreciation ofresearch equipment, consulting and contract services, expenses incurred for thedesign and testing of new processing methods, expenses for the development ofsample and prototype products, and other expenses related to the research anddevelopment of Liquidmetal alloys. Costs associated with research anddevelopment activities are expensed as incurred. We plan to enhance ourcompetitive position by improving our existing technologies and developingadvances in amorphous alloy technologies. We believe that our research anddevelopment efforts will focus on the discovery of new alloy compositions, thedevelopment of improved processing technology, and the identification of newapplications for our alloys.

 

On August 4, 2004, the Company established aplant in the city of Weihai in Shandong province of China under WeihaiLiquidmetal Company Limited, which is 100 percent owned by Liquidmetal Korea,to facilitate our bulk alloy manufacturing business. Weihai Liquidmetal isconsolidated into Liquidmetal Technologies with all intercompany transactionseliminated.

 

The following discussion and analysis of ourfinancial condition and results of operations focuses on the historical resultsof our continuing operations.

 

Wehave amended our third quarter financial statements originally filed on form10-Q on December 1, 2005, in this Form 10-Q to properly account for the beneficialconversion feature of the senior convertible notes issued in August 2005.Accounting for this feature resulted in a gain of $1.0 million from the changein value of beneficial conversion feature and an increase to interest expenseof $0.1 million from additional amortization of debt discounts related to therevaluation of the beneficial conversion feature of the senior convertible debtissued in August 2005. In addition, the company wrote-down $0.8 million ofprimarily raw material inventory considered to be long term as the carryingvalue of the inventory held as an impairment charge. While we may use the excessraw materials beyond one year to fulfill future demand, we did not foresee useof this inventory in the foreseeable future.

 

**CriticalAccounting Policies and Estimates**

** **

The preparation of condensed consolidatedfinancial statements in conformity with accounting principles generallyaccepted in the United States requires us to make estimates and assumptionsthat affect reported amounts of assets and liabilities and disclosure ofcontingent assets and liabilities at the date of the financial statements andthe reported amounts of revenues and expenses during the reporting period.These estimates and assumptions are based on historical experience and variousother factors that are believed to be reasonable under the circumstances. Actualresults could differ materially from these estimates under differentassumptions or conditions.

 

We believe that thefollowing accounting policies are the most critical to our condensedconsolidated financial statements since these policies require significantjudgment or involve complex estimates that are important to the portrayal ofour financial condition and operating results:

 
| ** ** | • | Exchange rate fluctuations                                             |
|------------|--------|------------------------------------------------------------------------|
|       | • | Warranty accrual                                                       |
|       | • | Allowance for doubtful  accounts                                       |
|       | • | Inventories at lower of  cost or net realizable value                  |
|       | • | Deferred tax assets                                                    |
|       | • | Valuation of derivatives of  warrants and embedded conversion features |

 

Our Annual Report on Form10-K for the yearended December 31, 2004 contains further discussions on our critical accountingpolicies and estimates.

 

**Resultsof Operations**

 

Comparison of the threemonths ended September 30, 2005 and 2004

 

*Revenue*. Revenue decreased $0.3 million to$4.3 million for the three months ended September 30, 2005 from$4.6 million for the three months ended September 30, 2004. The decreaseconsisted of a decrease of $0.8 million from the sales and prototyping

 

30

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of parts manufactured from bulkLiquidmetal alloys to consumer electronics customers as a result of decreaseddemand for conventional hinge components used in certain cellular phone models,which is offset by an increase of $0.6 million from sales of our coatingsproducts.

 

*Cost of Sales*. Cost of sales increased to $3.8million, or 87% of revenue, for the three months ended September 30, 2005 from$3.2 million, or 70% of revenue, for the three months ended September 30,2004. The increase was a result of decreases in bulk Liquidmetal alloybusiness. Cost of sales as a percentage of revenue has increased as a result oflower business volumes generated from our bulk Liquidmetal alloys. Significantportions of our manufacturing costs continue to remain fixed. We believe thathigher manufacturing volumes and greater mix of higher-margin products in thefuture will cause the gross profit to improve over time. The cost tomanufacture parts from our bulk Liquidmetal alloys is variable and differsbased on the unique design of each product. However, the cost of sales for theproducts sold by the coatings business segment is generally consistent becausethe Liquidmetal coatings products are produced by third parties and soldwholesale to various industries.

 

*Selling, General, and Administrative Expenses*.Selling, general, and administrative expenses decreased to $2.4 million,or 54% of revenue, for the three months ended September 30, 2005 from$3.6 million, or 77% of revenue, for the three months ended September 30,2004. This decrease was primarily a result of decrease professional services by$0.8 million, decrease in insurance costs of $0.4 million, decrease in productwarranty costs of $0.1 million, and decrease in depreciation and travelexpenses of $0.1 million, offset by an increase in wages and compensation of$0.3 million primarily from severance costs. These and other decreases inselling, general and administrative expenses represent the Company’s efforts tomanage costs and focus on our core business while continuing to build ourcorporate infrastructure required to prepare for and support the anticipatedgrowth of our bulk Liquidmetal alloy business.

 

*Research and Development Expenses*. Researchand development expenses decreased to $0.2 million, or 5% of revenue, forthe three months ended September 30, 2005 from $0.4 million, or 8% ofrevenue, for the three months ended September 30, 2004. The Company continuesto perform research and development of new Liquidmetal alloys and relatedprocessing capabilities, develop new manufacturing techniques, and contractwith consultants to advance the development of Liquidmetal alloys. The decreasewas primarily due to decreases in salaries, wages and the related costs of$0.1 million and decreases in other miscellaneous expenses of $0.1million.

 

*Impairment of Long Lived Assets*. Impairment oflong lived assets increased to $0.8 million, or 19% of revenue, for the threemonths ended September 30, 2005 from $0 for the three months ended September31, 2004. Impairment expense represents primarily write-down of $0.8 million ofraw materials considered to be long term inventory. While we may use the excessraw materials beyond one year to fulfill future customer order, we havedetermined that our current capacity was not significant enough to warrantholding this inventory as a long term asset. As such, we have reduced thecarrying values of the excess raw material equipment.

 

*Loss from Extinguishments of Debt.*Loss fromextinguishments of debt decreased to $1.2 million, or 29% of revenue, for thethree months ended September 30, 2005 from $2.9 million, or 63% of revenue, forthe three months ended September 30, 2004. The $1.2 million loss fromextinguishments of debt was recognized from the exchange of our 6% ConvertibleNotes due 2006 in August 2005. The $1.7 million loss from extinguishments ofdebt was recognized during the three months ended September 30, 2004 fromexchange of our 6% Senior Convertible Notes due March 2007 in August 2004.

 

*Change in Value of Warrants.*Change in valueof warrants increased to net gain of $1.1 million, or 26% of revenue, duringthe three months ended September 30, 2005 from a net loss of $0.4 million, or9% of revenue, during the three months ended September 30, 2004. The increasewas from the change in value of warrants issued from the senior convertibledebt funded in March 2004 and exchanged in August 2004, convertible debt fundedin June 2005, and senior convertible debt funded in August 2005 primarily as aresult of fluctuations in our stock price.

 

*Change in Value of Conversion Feature.*Changein value of our conversion feature liability from our senior convertible debtresulted in a change in value of conversion feature gain of $2.2 million, or51% of revenue, and a loss of $2.3 million, or 51% of revenue, during the threemonths ended September 30, 2005 and 2004, respectively, primarily due tofluctuations in our stock price.

 

*Interest Expense*. Interest expense was $1.7million, or 38% of revenue, for the three months ended September 30, 2005 andwas $3.3 million, or 71% of revenue, for the three months ended September 30,2004. During each of the three months ended September 30, 2005 and 2004, theinterest expense was primarily due to the interest accrued on the Kookmin Bankloan funded

 

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on February 4, 2003, seniorconvertible debt funded on March 3, 2004 and exchanged in August 2004,convertible debt funded on June 13, 2005, and senior convertible debt funded onAugust 9, 2005, as well as amortization of debt issuance costs and discount onthe convertible debt. The decrease was primarily due to acceleration ofamortization of debt issuance costs and discount on debt during the threemonths ended September 30, 2004 from principal payments made.

 

*Interest Income.*Interest income was $7thousand for the three months ended September 30, 2005 from interest earned oncash deposits. There was no interest income earned for the three months endedSeptember 30, 2004.

 

Comparison of the ninemonths ended September 30, 2005 and 2004

 

*Revenue*. Revenue decreased $4.1 million to$10.9 million for the nine months ended September 30, 2005 from$15.0 million for the nine months ended September 30, 2004. The decreaseincluded a $2.6 million decrease from restatement of revenues from 2003 to 2004as a part of our 2003 financial statement restatement which resulted inone-time recognition of revenues during the first quarter of 2004, a decreaseof $1.7 million from the sales and prototyping of parts manufactured from bulkLiquidmetal alloys to consumer electronics customers as a result of decreaseddemand for conventional hinge components used in certain cellular phone models,and a decrease of $1.0 million from decreased activity from research anddevelopment services related primarily to defense, leisure, and luxury goodsapplications, offset by an increase of $1.2 million from sale of our coatingsproducts.

 

*Cost of Sales*. Cost of sales increased to$10.6 million, or 97% of revenue, for the nine months ended September 30, 2005from $9.3 million, or 62% of revenue, for the nine months ended September30, 2004. The increase was a result of decreases in bulk Liquidmetal alloybusiness. Cost of sales as a percentage of revenue has increased as a result oflower business volumes generated from our bulk Liquidmetal alloys. Significantportion of our manufacturing costs continue to remain fixed. We believe thathigher manufacturing volumes and greater mix of higher-margin products in thefuture will cause the gross profit to improve over time. The cost tomanufacture parts from our bulk Liquidmetal alloys is variable and differsbased on the unique design of each product. However, the cost of sales for theproducts sold by the coatings business segment is generally consistent becausethe Liquidmetal coatings products are produced by third parties and soldwholesale to various industries.

 

*Selling, General, and Administrative Expenses*.Selling, general, and administrative expenses decreased to $6.5 million,or 60% of revenue, for the nine months ended September 30, 2005 from$9.2 million, or 61% of revenue, for the nine months ended September 30,2004. This decrease was primarily a result of decrease in professional andcontracted services of $1.9 million, decrease in advertising and promotionsexpense of $0.2 million, decrease in bad debt expenses of $0.1 million,decrease in product warrant expense of 0.1 million, decrease in insurance costsof $0.1 million, decrease in amortization and depreciation costs of $0.1million, and decrease in travel costs of $0.1 million. These and otherdecreases in selling, general and administrative expenses represent theCompany’s efforts to manage costs and focus on our core business whilecontinuing to build our corporate infrastructure required to prepare for andsupport the anticipated growth of our bulk Liquidmetal alloy business.

 

*Research and Development Expenses*. Researchand development expenses decreased to $0.8 million, or 7% of revenue, forthe nine months ended September 30, 2005 from $1.1 million, or 7% ofrevenue, for the nine months ended September 30, 2004. The Company continues toperform research and development of new Liquidmetal alloys and relatedprocessing capabilities, develop new manufacturing techniques, and contractwith consultants to advance the development of Liquidmetal alloys. The decreasewas primarily due to decrease in laboratory and prototype supplies used by$0.1 million and decrease in wages and related expenses by $0.1 million.

 

*Impairment of Long Lived Assets*. Impairment oflong lived assets increased to $4.0 million, or 39% of revenue, for the ninemonths ended September 30, 2005 from $0 for the nine months ended September 30,2004. Impairment expense represents write-down of $2.5 million of raw materialsconsidered to be long term inventory and $1.7 million of idle equipment. Whilewe may use the excess raw materials beyond one year to fulfill future customerorder, we have determined that our current capacity was not significant enoughto warrant holding this inventory as a long term asset. Further, while we haveactively marketed the idle equipment for ultimate sale since early 2004, wewere unable to sell this equipment. In addition, while the equipment may beused internally to meet future capacity requirements, considering our currentrevenue, we do not anticipate utilizing this equipment internally in the nearfuture. As such, we have reduced the carrying values of the excess raw materialand idle equipment.

 

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*Loss from Extinguishments of Debt.*Loss fromextinguishments of debt decreased to $1.2 million, or 11% of revenue, for thenine months ended September 30, 2005 from $2.9 million, or 20% of revenue, forthe nine months ended September 30, 2004. The $1.2 million loss fromextinguishments of debt was recognized from the exchange of our 6% ConvertibleNotes due 2006 in August 2005. The $1.7 million loss from extinguishments ofdebt was recognized during the three months ended September 30, 2004 fromexchange of our 6% Senior Convertible Notes due March 2007 in August 2004.

 

*Change in Value of Warrants.*Change in valueof warrants increased to net gain of $1.1 million, or 10% of revenue, duringthe nine months ended September 30, 2005 from a net gain of $0.8 million, or 6%of revenue, during the nine months ended September 30, 2004. The increase wasfrom the change in value of warrants issued from the senior convertible debtfunded in March 2004 and exchanged in August 2004, convertible debt funded inJune 2005, and senior convertible debt funded in August 2005 primarily as aresult of fluctuations in our stock price.

 

*Change in Value of Conversion Feature.*Changein value of our conversion feature liability from our convertible debt resultedin a change in value of conversion feature of $4.5 million, or 41% of revenue,and $3.3 million, or 22% of revenue,  duringthe nine months ended September 30, 2005 and 2004, respectively, primarily dueto fluctuations in our stock price.

 

*Interest Expense*. Interest expense was $4.4million, or 40% of revenue, for the nine months ended September 30, 2005 andwas $5.9 million, or 40% of revenue, for the nine months ended September 30,2004. During each of the nine months ended September 30, 2005 and 2004, theinterest expense was primarily due to the interest accrued on the Kookmin Bankloan funded on February 4, 2003, senior convertible debt funded on March 3,2004 and exchanged in August 2004, convertible debt funded on June 13, 2005,and senior convertible debt funded in August 9, 2005, as well as amortizationof debt issuance costs and discount on the convertible debt. As of September30, 2005, $0.1 million of interest expense was accrued from default interestrates applied to the senior convertible notes effective April 1, 2005 from nonpayment of quarterly scheduled interest payments and $1.0 million of lateregistration penalty fee of our senior convertible debt was accrued as interestexpense.

 

*Interest Income.*Interest income was $14thousand for the nine months ended September 30, 2005, and $34 thousand for thenine months ended September 30, 2004 from interest earned on cash deposits.

 

**Liquidityand Capital Resources**

** **

Our cash used foroperating activities was $7.0 million for the nine months ended September30, 2005 and $5.5 million, which includes cash used in our discontinuedequipment manufacturing business of $0.8 million, for the nine months endedSeptember 30, 2004. Our working deficit increased from $14.9 million atDecember 31, 2004 to $17.0 million at September 30, 2005. The Company’s workingdeficit increase of $2.1 million was primarily attributable to increase in cashand cash equivalents of $0.2 million, increase in trade accounts receivable of$0.5 million, increase in prepaid and other current assets of $0.4 million,decrease in current portion of long term debt of $2.8 million, decrease inconversion feature liabilities of $0.2 million, decrease in current portion ofother liabilities of $0.3 million, offset by decrease in restricted cash of$0.8 million, decrease in inventories of $0.9 million, increase in accountspayable and accrued liability of $0.7 million, increase in short-term debt of$0.2 million, and increase in warrant liabilities of $4.0 million.

 

Our cash used ininvesting activities was $0.2 million for the nine months ended September 30,2005 for the acquisition of property and equipment and investments in patentsand trademarks.

 

Our cash provided byfinancing activities was $7.0 million for the nine months ended September 30,2005, which consists of $0.8 million in proceeds from restricted cash and $3.25million and $9.9 million in proceeds from convertible debt funded in June 2005and senior convertible debt funded in August 2005, respectively, $0.2 millionin proceeds from borrowings from our short term debt executed in March 2005,$2.9 million in proceeds from factoring agreement executed in April 2005,offset by $10.0 million on repayment of borrowings. The proceeds from theconvertible and senior convertible debt funded in June 2005 and August 2005,respectively have been used to meet working capital requirements.

 

We anticipate that our capitalexpenditures will be approximately less than $0.5 million for the full year2005 for the acquisition of furniture, fixtures, and other business equipment.This amount is subject to change, however, depending upon the nature and theamount of the product orders that we actually receive from customers.

 

Our capital requirements duringthe next twelve months will depend on numerous factors, including thesuccess of existing products either in manufacturing or development, thedevelopment of new applications for Liquidmetal alloys, the resources we devoteto develop and support our Liquidmetal alloy products, the success of pursuingstrategic licensing and funded product

 

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development relationships withexternal partners, and the cost of successful implementation of Section 404 ofthe Sarbanes-Oxley Act of 2002. During the next twelve months, based onour current business plan, we expect to have sufficient resources to continueto devote limited capital to our research and development activities, tofurther develop and strengthen our manufacturing technology, and to provide forworking capital and other general corporate purposes. However, based on ourhistorical operating results and the continued development of our manufacturingcapabilities and alloy compositions, there exists the possibility that theseresources will not be adequate to operate at the proposed business plan levels.These expenses and capital expenditures could consume a material amount of ourcash resources, but the amount of these requirements will depend on the natureand amount of orders we receive for the purchase of our bulk Liquidmetal alloyproducts.

 

Our business is based oncommercializing an entirely new and unique technology, and our current businessplan contains a variety of assumptions and expectations that are subject touncertainty, including assumptions and expectations about order flow, unitvolumes, manufacturing efficiencies, product cost and pricing, continuing technologyimprovements, customer adoption practices, strategic licensing relationshipsand other relevant matters. These assumptions take into account recentsignificant cost reductions, as well as recent improvements to ourmanufacturing processes. We have experienced losses from continuing operationsduring the last two fiscal years and have an accumulated deficit of $139.1million as of September 30, 2005. At September 30, 2005, our principal sourceof liquidity was $0.9 million of cash and cash equivalents and $2.2 million oftrade accounts receivables. Such conditions raise substantial doubt that ourCompany will be able to continue as a going concern for a reasonable period oftime without receiving additional funding. These operating results occurred whilewe were developing and attempting to commercialize and manufacture productsfrom an entirely new and unique technology. This business plan requiredsignificant spending related to start-up costs and capital expenditures. Thesefactors have placed a significant strain on our financial resources. Theultimate success of the Company depends on our ability to continue to reduceoperating costs, generate higher revenue, achieve positive cash flow fromcontinuing operations and achieve profitability.

 

Our future successdepends on our ability to continue reducing operating costs and ultimately togenerate higher revenue and attain profitability. We cannot be certain thatadditional capital, whether through selling additional debt or equitysecurities or obtaining a line of credit or other loan, will be available to usor, if available, will be on terms acceptable to us. If we issue additionalsecurities to raise funds, these securities may have rights, preferences, orprivileges senior to those of our common stock, and our current stockholdersmay experience dilution.

 

**ContractualObligations**

 

The following table summarizes the Company’sobligations and commitments as of September 30, 2005:

 
| ** **                                          | ** ** | ** ** | ** ** | **Payments Due by Period (in thousands)** | ** ** |
|-----------------------------------------------------|------------|------------|------------|--------------------------------------------------------------------|------------|
| ** **                                          | ** ** | ** ** | ** ** | **Less Than 1**                                          | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Contractual Cash Obligations (1)** | ** ** | **Total**  | ** ** | **Year**                                                           | ** ** | **1-3 Years** | ** ** | **3-5 Years** | ** ** | **After 5 Years** | ** ** |
| Long-term debt (2)                                  |       | $          | 15,180     |                                                               | $          | 1,204 |   | $ | 13,976 |   | $ | — |   | $ | — |   |
| Short-term debt (3)                                 |       | 237        |       | 237                                                                |       | — |   | — |   | — |   |
| Capital lease obligation (4)                        |       | 108        |       | 33                                                                 |       | 75 |   | — |   | — |   |
| Operating leases and rents                          |       | 1,062      |       | 120                                                                |       | 763 |   | 178 |   | 1 |   |
| Growell settlement payable (5)                      |       | 3,234      |       | 3,234                                                              |       | — |   | — |   | — |   |
| Consulting services payable                         |       | 68         |       | 68                                                                 |       | — |   | — |   | — |   |
| Dongyang payable                                    |       | 11         |       | 11                                                                 |       | — |   | — |   | — |   |
|                                                |       | $          | 19,900     |                                                               | $          | 4,907 |   | $ | 14,814 |   | $ | 178 |   | $ | 1 |   |

 

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| (1) |   | Contractual  cash obligations include Long-Term Debt comprised of $2,392 of Senior  Convertible Notes issued in 2004, $9,878 of Convertible Notes issued in 2005,  and $2,910 of Kookmin Notes, Short-Term Debt comprised of $237 advances  received under factoring, loan, and security agreement, and future minimum  lease payments under capital and operating leases, liabilities incurred from  settlement with a former customer (Growell) and divesture of our equipment  manufacturing business, and purchase commitments from a consultant. |
|-----|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (2) |   | Does not  include interest payments of $1,869, un-amortized discounts for conversion  feature and warrants $9,573 of our convertible notes.                                                                                                                                                                                                                                                                                                                                                                                                           |
| (3) |   | Does not  include minimum interest and fee payments of $30.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
| (4) |   | Includes  imputed interest of $4.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| (5) |   | In January  2005 Growell was acquired by a third party, and we****are currently in  negotiations to settle this balance with the third party.****                                                                                                                                                                                                                                                                                                                                                                                                     |

 

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**OffBalance Sheet Arrangements**

 

Anoff-balance sheet arrangement is any transaction, agreement or othercontractual arrangement involving an unconsolidated entity under which acompany has (1) made guarantees, (2) a retained or a contingent interest intransferred assets, (3) an obligation under derivative instruments classifiedas equity, or (4) any obligation arising out of a material variable interest inan unconsolidated entity that provides financing, liquidity, market risk orcredit risk support to the company, or that engages in leasing, hedging, orresearch and development arrangements with the company.

 

We have made no arrangements of the types describedin any of the categories that may have a material current or future effect onour financial condition, liquidity or results of operations.

 

**Item 3 – Quantitative and QualitativeDisclosures about Market Risk**

 

We are exposed to various markets risks inconducting the business of the Company, and we anticipate that this exposurewill increase as a result of our planned growth. In an effort to mitigatelosses associated with these risks, we may at times enter into derivativefinancial instruments, although we have not historically done so. These maytake the form of forward sales contracts, option contracts, foreign currencyexchange contracts, and interest rate swaps. We have not, and do not intend to,engage in the practice of trading derivative securities for profit.

 

*Interest Rates.*Weare exposed to market risks relating to changes in interest rates. Some of theproceeds of our initial public offering are invested in short-term,interest-bearing, investment grade securities. The value of these securitieswill be subject to interest rate risk and could fall in value if interest ratesrise.

 

*Commodity Prices.*Weare exposed to price risk related to anticipated purchases of certaincommodities used as raw materials by our businesses, including titanium andzirconium. Although we do not currently enter into commodity future, forward,and option contracts to manage the fluctuations in prices of anticipatedpurchases, we may enter into such contacts in the future as our business growsand as our purchases of these raw materials increase.

 

*Foreign Exchange Rates.*Asa result of our operation of a manufacturing facility in South Korea, asubstantial portion of our costs will be denominated in the South Korean Won.Consequently, fluctuations in the exchange rates of the South Korean won to theU.S. Dollar will affect our costs of goods sold and operating margins and couldresult in exchange losses. Although we do not currently enter into foreignexchange hedge transactions, we may do so in the future as our business grows.

 

**Item4 – Controls and Procedures**

** **

Evaluation ofdisclosure controls and procedures**.**Duringthe course of the re-audit of our financial statements of LiquidmetalTechnologies, Inc. (the “Company”) for the fiscal years ended December 31,2001, 2002, and 2003, it was determined that revenues from certain salesmade by the Company to various customers were either not recognizedin the proper periods or should not have been recognized as revenue. It wasalso determined that compensation expense related to certain stock optionsgranted in 2001 and 2002 were not calculated in accordance with generallyaccepted accounting principles under APB Opinion No. 25, SFASNo. 123, and EITF 00-23. These determinations and the associatedrestatement of previously issued financial statements in the Form 10-K forthe year ended December 31, 2003, filed on November 10, 2004, suggestthat, at the time of the subject transactions and the preparation of ourfinancial statements for the relevant periods, theCompany’s disclosure controls and procedures (as defined inRule 13a-15 under the Securities Exchange Act of 1934) wereineffective as of the end of the period covered by such Form 10-K filed onNovember 10, 2004 for purposes of ensuring that all information requiredto be disclosed by the Company was adequately accumulated andcommunicated to the Company’s management at such time

 

Pursuant to Section 404 ofthe Sarbanes-Oxley Act of 2002 (“SOX 404”), the SEC has adoptedrules requiring public companies to include a report of management on thecompany’s internal controls over financial reporting in their annual reports onForm 10-K as of the Company’s fiscal year-ended December 31, 2004.SOX 404 also requires the public accounting firm auditing a public company’sfinancial statements to attest and report on management’s assessment of theeffectiveness of the company’s internal controls over financial reporting. Althoughthese requirements were first applicable to the Company’s annual

 

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report on Form 10-K forthe fiscal year ended December 31, 2004, the Company did not comply withthese requirements for such fiscal year as described in the followingparagraphs. Therefore, the Company’s independent registered public accountingfirm issued a disclaimer of opinion with respect to the Company’s internalcontrol over financial reporting as of December 31, 2004, and such disclaimerwas filed with the Company’s amended Form 10-K filed on May 10, 2005.

 

The Company carried out anevaluation under the supervision and with the participation of the Company’smanagement, including the Company’s Chief Executive Officer and Chief FinancialOfficer, of the effectiveness of, as of September 30, 3005, the design andoperation of the Company’s disclosure controls and procedures pursuant toRule 13a-15 under the Securities Exchange Act of 1934, as amended. Basedon that evaluation, the Chief Executive Officer and Chief Financial Officerhave concluded that these disclosure controls and procedures, as ofSeptember 30, 2005, were not effective. This determination was basedprimarily on the material weaknesses in internal control over financial reportingidentified below.

 

 Update on Management’sAssessment of Internal Control Over Financial Reporting. The time andresources committed to the restatement of prior periods’ financial statements(as aforementioned) delayed management in commencing and completing itsdocumentation, assessment and evaluation of internal control over financialreporting. Due to the issues described in the foregoing paragraph, as well aslimitation on financial and internal resources, management’s assessment of theeffectiveness of our internal control over financial reporting had beensubstantially delayed, which in turn prohibited the Company’s independentregistered public accounting firm, Stonefield Josephson, Inc., inperforming its audit of management’s assessment of the effectiveness ofinternal control over financial reporting pursuant to SOX 404.

 

The Company has been advised bythe SEC that the filing of the above mentioned disclaimer does not comply withthe SEC’s rules and regulations under Section 404, and the SEC hasfurther advised us that this noncompliance has resulted in the Company being inviolation of Section 13(a) under the Securities Exchange Act of 1934. Section 13(a) establishes the general requirement that publiccompanies must file with the SEC, in accordance with such rules andregulations as the SEC may prescribe, such information, documents, andreports as the SEC may from time to time require for the protection ofinvestors, including Form 10-Ks and 10-Qs.

 

During 2005, the Company hastaken steps to comply with Section 404, as of December 31, 2005 includinghiring independent consulting firms, Assurance Consulting 3 inJanuary 2005 and Login Financial in July 2005, to assist the Companywith its Section 404 compliance and to identify and propose remedialactions to address and mitigate deficiencies in internal controls overfinancial reporting. In addition, beginning July 2005 the Company hasdevoted additional internal resources including having an executive managerlead the SOX 404 compliance effort on a full time basis. Also, beginningAugust 2005, management allocated a consultant from Login Financial to ourSouth Korean operations and re-evaluated our controls as well as implementedadditional control procedures. The Company’s evaluation included revising ourdocumentation, re-performing walkthroughs and re-testing our internal controls.In addition, on November 14, 2005 management hired an additional “Big 4”third party consultant who is experienced in the SOX 404 effort for companies operatingin South Korea to address and mitigate material deficiencies during the fourthquarter of 2005 and into 2006. Even though the Company devoted these resources,considering the nature of the Company’s operations having substantial presencein South Korea in addition to the Company’s US operations in Texas andCalifornia as well as the amount of time, financial resources, complexityassociated with Section 404 compliance, limited financial resources of theCompany and management’s late start in identifying and documenting it’sinternal controls, the Company’s auditors advised the Company and the AuditCommittee of the Board of Directors that they believed it was highly unlikelythat the Company’s management would be able to finish its testing andassessment of the Company’s internal controls in time for them to begin theirtesting of management’s assertions over internal controls by the end of fiscalyear 2005 in accordance with the standards of Section 404.

 

In the ongoing process ofmaking our assessment of internal control over financial reporting, managementused the criteria established in “Internal Control - Integrated Framework”issued by the Committee of Sponsoring Organizations of the Treadway Commission(COSO). Although our work is incomplete, as of the date of this quarterlyreport. of the various control procedures that we have documented, performedwalkthroughs, and tested as of November 18, 2005, management hasidentified several control deficiencies, some of which have been determined tobe material weaknesses in internal control over financial reporting as follows.

 

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1.               ***Lack of adequate segregation ofduties in the Company’s South Korean Operations in accounts receivableinvolving cash receipts, shipping, delivery of products and customer invoicereconciliations.***

 

Thisdeficiency resulted from the fact that the processes utilized at the Company’sKorean Operations were designed to meet certain Korean business practiceswhereby invoices are created once a month, the invoices are confirmed by thecustomer prior to being sent to and received by the customer, and payments ofinvoices are done only through wire transfers. As part of these Koreanbusiness practices,, “tax invoices” are generated by sellers of goods and areissued to customers as formal documents required by the Korean government toimmediately document and report sales for income tax purposes.

 

Previously,these processes were handled by the accounting and sales departments in theKorean Operations, and to mitigate the risk of fraud or error, the Companyrelied on the fact that all invoices were confirmed with the customer prior torecognizing revenue, all cash receipts were received via wire transfer, andrevenue accounts were reconciled by accounting on a monthly basis.Nevertheless, the Company’s former auditor has informed the Company that theseprocesses lacked certain formal documentation and segregation of duties. Toremediate these weaknesses, the Company implemented the following changes inits Korean Operations during November 2005

 

•               ***Segregation of Duties***:The tax invoices are now being created by a sales accountant, an individual whohas dual duties in both Accounting and Sales in the Korean Operations, whereaspreviously, tax invoices were created by the Assistant Sales Managerresponsible for delivery of the products to the customer. This segregation ofthe tax invoicing function from product deliveries is an additional controlprocedure to mitigate the risk of fraud or error.

 

•               ***Sequential Documents***: The Company has created an internal, sequential invoice system tracked directlyby the Company’s SAP system which summarizes the tax invoice created by theaccounting department, delivery requisitions created by the production department,and the sales transaction report created by the sales department. Thisthree-way matching system is an additional control to ensure that revenues areproperly documented and reconciled at the end of each month.

 

•               ***Additional Resources***: In November 2005, the Company began devoting additional internal resourcesto the Korean accounting department to segregate duties further. This includedhaving (1) the sales accountant create all tax invoices as mentioned under“Segregation of Duties” above, (2) the Assistant Sales Manager reconcilethe delivery requisitions maintained in the Production Department, and(3) the Accounting Department control vendor creation in the purchasingmodule of our SAP reporting system. In addition, the Company is currently conductinga search for an accountant for the Korean operations to further augment controlprocedures.

 

2.               ***Lack of adequate segregation ofduties in the Company’s Coatings Division in Texas in order processing andinvoicing***.

 

The Company’scoatings business in Texas (the “Coatings Business”) is managed by twoindividuals, the Vice President of Coatings and the General Accountant. Theaccountant handles all of the “front end” processes, including purchase orders,sales orders, order fulfillment, and invoicing. To mitigate the risk of fraudor error, the Company previously relied on the fact that the “back end”processes for all orders (such as cash receipts, vendor management, customermanagement, collections, and review of the results of operations) are all handledby the Company’s corporate office. In addition, the Company also relied on thefact that all sales orders, inventory management, and order fulfillment arehandled through the Company’s SAP system, which provides real-time monitoringand review.

 

Despite thesemeasures, the Company’s former auditor concluded that the lack of segregationof duties in the Coatings Business constituted a material weakness in theCompany’s internal controls over financial reporting. As a result, inSeptember 2005, the Company instituted additional internal controlprocedures in its Coatings Business, including the following:(1) requiring that all orders be supported by a written purchase ordercontaining the customer’s letterhead and address, the part number anddescription, and the signature of the purchaser with terms and conditions,(2) requiring that all 3rd party vendor “drop shipments” be supported byshipping documents faxed or mailed to the Company by the vendor,(3) periodically performing on-site audits of the accounting procedures atthe Coating Business by the Company’s central corporate accounting group, thefirst of which has been performed in December 2005 and (4) hiring anadditional Accounting Manager in December 2005 in the Corporate AccountingGroup to further monitor the Coatings Business and other accounting functions.

 

3.               ***Lack of adequate controls anddocumentation in the Company’s South Korean Operations to evidence propercustomer invoicing and revenue recognition in the proper period***.

 

The measurestaken to remedy the deficiency described in number 1 above also served toremediate this deficiency.

 

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4.               ***Lack of progress in documenting,assessing and evaluating our internal controls in our South Korean Operationsevidenced by aforementioned deficiencies of which remediations will need to becompleted as of December 31, 2005***.

 

The Company’soverall assessment of its internal controls, including documentation,walkthroughs, and testwork, commenced in February of 2005. Managementbelieves that the Company’s assessment of its controls in its U.S. operationshas been substantially completed in December 2005, although due to limitedfinancial resources, the Company was unable to begin its assessment of itsKorean Operations until mid-to late 2005. The Company identified and, beginningin August of 2005, retained a bi-lingual consultant from Login Financialto work in the Company’s Korean Operations on a full time basis to help withthe SOX 404 compliance effort. In addition, to expedite the implementationprocess, the Company hired, in November 2005, a consultant from PriceWaterhouse Coopers-Korea who is familiar with SOX 404 implementation for Koreancompanies. Nevertheless, the Company’s former auditor informed the Company thatthey believed that progress at the Korean Operations on the SOX 404 process hasnot been sufficient to enable the Company to complete the process in time forcompliance. Although the disclosure in this paragraph may not be characterizedas a material weakness in internal controls per se (but instead constitutes anupdate on the Company’s efforts regarding SOX 404 compliance), the Company hasdisclosed this information based on former auditor’s recommendation.

 

5.               ***Lack of controls over internalaccess to the Company’s SAP system of reporting by unauthorized users***.

 

SAP is theCompany’s global enterprise resource planning (ERP) software that handles theCompany’s financial reporting on a real-time basis. Historically, access to SAPwas controlled on an ad hoc basis by the Controller and the Vice President ofOperations of the Company, and formal IT procedures for SAP administration werelacking. During September 2005, the Company hired an independent ITconsultant specializing in SOX implementations specifically for the Company’sglobal IT cycle. The Company has substantially completed its assessment of ITsystem controls, including improving the Company’s internal access controls toits SAP system.

 

6.               ***Manual performance of numerousprocedures that could be automated using current reporting systems***.

 

Current manualprocedures include (1) creating excel spreadsheet invoices to billcustomers; (2) performing manual currency translations (“FX translation”)for financial reporting in U.S. dollars; and (3) using a manual purchaserequisition system. While these procedures may be automated throughmodules in the SAP system, due to the significant financial investmentnecessary to automate these procedures in SAP, the Company is not able toautomate these procedures at this time. However, beginning in August 2005,the Company implemented control procedures to mitigate risks associated withmanual procedures including (1) requiring additional authorizations forall purchases, journal entries, and requisitions and (2) creatingchecklists for month end, customer/vendor creation, human resource filing, andrevenue support to ensure propriety and completeness of the Company’saccounting records.

 

The Company has devotedsignificant amount of financial and internal resources during 2005 and earlypart of 2006 to ensure compliance with SOX 404, and on January 16,2006, Company’s management believes that the Company has substantiallycompleted its documentation, assessment and evaluation of its internal controlsover financial reporting as of December 31, 2005. However, our independentauditors, Stonefield Josephson Inc., resigned on December 1, 2005, and onJanuary 20, 2006, the Company hired Choi, Kim & Park LLP (“CKP”)as its new independent registered public accounting firm. While the Company hasadvised CKP of the foregoing weaknesses in internal controls, due to theuntimeliness of the foregoing events, CKP was unable to satisfactorily completetheir audit of the Company’s internal control over financial reporting pursuantto SOX 404, and thus, have issued a disclaimer of an opinion on the company’sinternal control over financial reporting as of December 31, 2005 in thefiscal 2005 annual report on Form 10-K. The Company’s management willcontinue to monitor potential changes in the legal and regulatory requirementsof SOX 404, particularly the requirements for small public companies.

 

In general, the SEC has broadauthority under the Securities Exchange Act of 1934 to instituteinvestigations, to seek injunctions, to seek monetary penalties, and tootherwise pursue enforcement actions for violations of Section 13(a),including a failure to file a Form 10-K or for the omission of necessarystatements in a Form 10-K. Therefore, a violation under Section 404could potentially subject a company to these same investigations and penalties.Section 404 is a relatively new legal requirement, and there is verylittle precedent establishing the consequences or appropriate response to apublic company’s

 

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failure to comply withSection 404. Accordingly, although the Company has discussed itsSection 404 noncompliance for 2004 and 2005 with the SEC, the Companycannot predict what action, if any, the SEC may take against the Companyas a result of a failure to be compliant with its obligations underSection 404.

 

Changes ininternal controls. The Company has made variouschanges to the internal controls over financial reporting during the thirdquarter ended September 30, 2005. These material changes are described inparagraphs 2, 5, and 6 above under the caption “Update on Management’sAssessment of Internal Control Over Financial Reporting.” In addition theCompany has previously disclosed as a material weakness a lack of adequatecontrols and monitoring of payroll process, as such function was outsourced toa third-party payroll processor that was not certified under SAS 70 (Type II).In August 2005, the Company remediated this weakness by retaining theservices of ADP for payroll processing. ADP is certified under SAS 70 (TypeII).

 

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### **PART II**

**OTHER INFORMATION**

 

**Item 1 – Legal Proceedings**

 

There were no materialdevelopments in our legal proceedings during the current quarter.

 

**Item 2 – Unregistered Sales of Equity Securities and Use ofProceeds**

 

OnAugust 9, 2005, we completed a private placement (the “Private Placement”) of$9.9 million in principal amount of new 7% Convertible Secured Promissory Notesdue August 2007 (the “2005 Senior Notes”). The issuance consisted of $5.0million cash, exchange of $1.3 million in principal amount of previously issued10% Senior Secured Notes Due July 29, 2005 (the “July 2005 Notes”), theexchange of $3.0 million in principal amount of previously issued 10%Convertible Unsecured Notes Due June 2006 (the “June 2006 Notes”), satisfactionof accrued interest and late registration fees in the amount of $0.6 million onthe previously issued July 2005 Notes, and satisfaction of accrued interest of$9 thousand previously issued June 2006 Notes. The 2005 Senior Notes wereissued pursuant to a Securities Purchase Agreement dated effective as of August2, 2005 among the Company, the purchasers of the 2005 Senior Notes, and theholders of previously issued July 2005 Notes and June 2006 Notes of the Companydue June 2006.

 

The2005 Senior Notes are convertible into shares of the Company’s common stock at$2.00 per share pursuant to an Amended and Restated Security Agreement. The2005 Senior Notes are secured by substantially all assets of the Company and rank senior to all other obligations ofthe Company, other than the Company’s loan with Kookmin Bank of South Korea (orany refinancing of such loan), the 6% Senior Secured Notes DueJuly 29, 2007 (“July2007 Notes”), purchase money asset financing, trade creditors in the ordinarycourse of business, and any inventory or receivables-based credit facility thatthe Company may obtain in the future, provided that the amount of the creditfacility does not exceed 50% of eligible inventory and 80% of eligiblereceivables. The 2005 Senior Notes will automatically convert into common stockif the Company’s common stock has an average closing price of more than $5.00per share during 30 consecutive trading days.

 

TheCompany also issued warrants to the purchasers of the 2005 Senior Notes andplacement agents giving them the right to purchase up to 2,469,470 and 414,495shares of Company common stock, respectively, with an exercise price of $2.00per share. The Warrants will expire on August 2, 2010.

 

In connection with thetransaction, the Company, all purchasers of the 2005 Senior Notes, and allholders of previously issued notes entered into a single Amended and RestatedRegistration Rights Agreement that replaces the prior registration rightsagreements entered into by the Company with the various noteholders. Under theAmended and Restated Registration Rights Agreement, the Company is required tofile a resale registration statement for the shares underlying the 2005 SeniorNotes and July 2007 Notes and warrants within ninety (90) days of the closingof the 2005 Senior Notes. The Company is required to cause this registrationstatement to become effective within 60 days after the Company receives thefirst written comments on the registration statement from the SEC, or if theSEC notifies the Company that it will not review the registration statement,within five days after such notification. The Company will be subject tocertain monetary penalties, as set forth in the registration rights agreement,if the registration statement is not filed or does not become effective on atimely basis.

 

As of September 30, 2005,we have used $1.0 million of the net proceeds from the Private Placement forworking capital purposes and used $2.6 million to repay principal and accruedinterest from the previously issued notes.

 

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**Item 6 – Exhibits**

 

The following documents arefiled as an exhibit to this Report:

 
| **Exhibit  Number** | ** ** | **Description of Document**                                                                                                                                   |
|---------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |       |                                                                                                                                                                    |
| 31.1                |       | Certification  of the President and Chief Executive Officer, Ricardo A. Salas, as required  by Section 3.02 of Sarbanes-Oxley Act of 2002                               |
|                |       |                                                                                                                                                                    |
| 31.2                |       | Certification  of Chief Financial Officer, Young Ham, as required by Section 3.02 of  Sarbanes-Oxley Act of 2002                                                        |
|                |       |                                                                                                                                                                    |
| 32.1                |       | Certification  of Principal Executive Officer, Ricardo A. Salas, pursuant to 18 U.S.C.  section 1350, as adopted pursuant to section 906 of Sarbanes-Oxley Act of  2002 |
|                |       |                                                                                                                                                                    |
| 32.2                |       | Certification  of Chief Financial Officer, Young Ham, pursuant to 18 U.S.C. section 1350, as  adopted pursuant to section 906 of Sarbanes-Oxley Act of 2002             |

 

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** **

**SIGNATURES**

 

Pursuant to the requirements ofthe Securities Exchange Act of 1934, the registrant has duly caused this reportto be signed on its behalf by the undersigned hereunto duly authorized.

 
|                | LIQUIDMETAL TECHNOLOGIES                      |
|---------------------|-----------------------------------------------|
|                | (Registrant)                                  |
|                |                                          |
| Date: July 20, 2006 | /s/ Ricardo  A. Salas                         |   |
|                | Ricardo A.  Salas                             |
|                | President  and Chief Executive Officer        |
|                | (Principal  Executive Officer)                |
|                |                                          |
|                |                                          |
| Date: July 20, 2006 | /s/ Young  Ham                                |   |
|                | Young Ham                                     |
|                | Chief  Financial Officer                      |
|                | (Principal  Financial and Accounting Officer) |

 

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