**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

### **FORM 10-Q**

| **x**                                                                                                                                 |   | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)  OF THE SECURITIES EXCHANGE ACT OF 1934**  |
|---------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------------------------------------------------------------------------------|
| ** **                                                                                                                            |
| **For the quarterly period ended June 30, 2007**                                                                                      |
|                                                                                                                                  |
| **OR**                                                                                                                                |
|                                                                                                                                  |
| **o**                                                                                                                                 |   | **TRANSITION REPORT PURSUANT TO SECTION 13 OR  15(D) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|                                                                                                                                  |
| **For the transition period  from        to        ** |

 

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

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# **LIQUIDMETALTECHNOLOGIES, INC.**

**(**Exact name of Registrant as specified inits charter**)**

| **Delaware**                                                                            |   | **33-0264467**      |
|-----------------------------------------------------------------------------------------|--------|---------------------|
| (State or other jurisdiction of                                                         |   | (I.R.S. Employer    |
| incorporation or organization)                                                          |   | Identification No.) |
|                                                                                    |
| **30452 Esperanza**                                                                     |
| **Rancho Santa Margarita, CA 92688**                                                    |
| (address of principal executive office, zip code)                                       |
|                                                                                    |
| Registrant’s telephone number, including area  code:  **(949) 635-2100** |

 

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Indicate by check mark whether the registrant (1) hasfiled all reports required to be filed by Section 13 or 15(d) of the SecuritiesExchange Act of 1934 during the preceding 12 months (or for such shorter periodthat the registrant was required to file such reports), and (2) has beensubject to such filing requirements for at least the past 90 days.

Yes  x    No  o

Indicate by check whether the registrant is a largeaccelerated filer, an accelerated filer, or a non-accelerated filer. Seedefinition of “accelerated filer and large accelerated filer” inRule 12b-2 of the Exchange Act. (Check one):

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

 

Indicate by check mark whether the registrant is ashell company (as defined in Rule 12b 2 of the Exchange Act).  Yes  o    No  x

#### As of August 7, 2007, there were 44,631,768 shares of the registrant’scommon stock, $0.001 par value, outstanding.

 

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**LIQUIDMETALTECHNOLOGIES, INC.FORM 10-QFOR THE QUARTER ENDED****JUNE 30,2007**

**FORWARD-LOOKINGINFORMATION**

Statementsin this report concerning the future sales, expenses, profitability, financialresources, product mix, market demand, product development and other statementsin this report concerning the future results of operations, financial conditionand business of Liquidmetal Technologies, Inc. are “forward-looking” statementsas defined 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.

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#### **TABLEOF 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’ 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  1A – Risk Factors                                                                               |   |
|                                                                                                       |   |
| Item 2 –  Unregistered Sales of Equity Securities and Use of Proceeds                                 |   |
|                                                                                                       |   |
| Item 3 –  Defaults Upon Senior Securities                                                             |   |
|                                                                                                       |   |
| Item 4 –  Submission of Matters to a Vote of Security Holders                                         |   |
|                                                                                                       |   |
| Item  5 – Other Information                                                                           |   |
|                                                                                                       |   |
| Item 6  – Exhibits                                                                                    |   |
|                                                                                                       |   |
| Signatures                                                                                                 |   |
|                                                                                                       |   |
| Certifications                                                                                             |   |

 

3

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### **PART I**

### **FINANCIAL INFORMATION**

**Item 1 – Financial Statements**

**LIQUIDMETAL TECHNOLOGIES, INC. AND SUBSIDIARIES**

**CONDENSEDCONSOLIDATED BALANCE SHEETS**

**(in thousands,except share data)**
| ** **                                                                                                                                                                        | ** ** | **June 30,** | ** ** | **December 31,** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                                        | ** ** | **2007**          | ** ** | **2006**              | ** ** |
| ** **                                                                                                                                                                        | ** ** | **(Unaudited)**   | ** ** | ** **            | ** ** |
| **ASSETS**                                                                                                                                                                        |       |              |       |                  |       |
|                                                                                                                                                                              |       |              |       |                  |       |
| Current assets:                                                                                                                                                                   |       |              |       |                  |       |
| Cash and cash  equivalents                                                                                                                                                        |       | $                 | 2,288      |                  | $          | 144 |   |
| Restricted cash                                                                                                                                                                   |       | 2,083             |       | —                |       |
| Trade accounts  receivables, net of allowance for doubtful accounts of $215 and $82                                                                                               |       | 5,150             |       | 3,934                 |       |
| Inventories                                                                                                                                                                       |       | 2,143             |       | 3,765                 |       |
| Prepaid expenses  and other current assets                                                                                                                                        |       | 1,177             |       | 830                   |       |
| Total current  assets                                                                                                                                                             |       | 12,841            |       | 8,673                 |       |
|                                                                                                                                                                              |       |              |       |                  |       |
| Property, plant and  equipment, net                                                                                                                                               |       | 10,845            |       | 12,095                |       |
| Idle equipment                                                                                                                                                                    |       | 173               |       | 194                   |       |
| Other intangibles, net                                                                                                                                                            |       | 1,144             |       | 1,170                 |       |
| Investment in joint  venture                                                                                                                                                      |       | 306               |       | 3                     |       |
| Other assets                                                                                                                                                                      |       | 1,235             |       | 109                   |       |
| Total assets                                                                                                                                                                      |       | $                 | 26,544     |                  | 22,244     |   |
|                                                                                                                                                                              |       |              |       |                  |       |
| **LIABILITIES AND SHAREHOLDERS'  DEFICIENCY**                                                                                                                                     |       |              |       |                  |       |
|                                                                                                                                                                              |       |              |       |                  |       |
| Current liabilities:                                                                                                                                                              |       |              |       |                  |       |
| Accounts payable  and accrued expenses                                                                                                                                            |       | 9,797             |       | 9,802                 |       |
| Deferred revenue                                                                                                                                                                  |       | 423               |       | 202                   |       |
| Short-term debt                                                                                                                                                                   |       | 3,212             |       | 2,669                 |       |
| Long-term debt,  current portion, net of debt discounts of $481 and $3,636                                                                                                        |       | 12,707            |       | 14,480                |       |
| Warrant  liabilities                                                                                                                                                              |       | 2,977             |       | 2,662                 |       |
| Conversion  feature liabilities                                                                                                                                                   |       | 3,271             |       | 1,838                 |       |
| Other  liabilities, current portion                                                                                                                                               |       | 143               |       | 177                   |       |
| Total current  liabilities                                                                                                                                                        |       | 32,530            |       | 31,830                |       |
|                                                                                                                                                                              |       |              |       |                  |       |
| Long-term debt, net of  current portion and debt discounts of $11,167 and $0                                                                                                      |       | 5,133             |       | 225                   |       |
| Other long-term  liabilities, net of current portion                                                                                                                              |       | 547               |       | 552                   |       |
| Total  liabilities                                                                                                                                                                |       | 37,890            |       | 32,607                |       |
|                                                                                                                                                                              |       |              |       |                  |       |
| Shareholders'  deficiency:                                                                                                                                                        |       |              |       |                  |       |
| Common stock,  $0.001 par value; 100,000,000 shares authorized and 44,631,768 issued and outstanding  at June 30, 2007 and 44,311,768 issued and outstanding at December 31, 2006 |       | 45                |       | 44                    |       |
| Additional  paid-in capital                                                                                                                                                       |       | 136,949           |       | 136,031               |       |
| Accumulated  deficit                                                                                                                                                              |       | (151,546          | )          | (149,047              | )          |
| Accumulated  other comprehensive income                                                                                                                                           |       | 2,886             |       | 2,609                 |       |
| Total  shareholders' deficiency                                                                                                                                                   |       | (11,666           | )          | (10,363               | )          |
|                                                                                                                                                                              |       |              |       |                  |       |
| Total liabilities and  shareholders' deficiency                                                                                                                                   |       | $                 | 26,544     |                  | $          | 22,244 |   |

 

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

4

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**LIQUIDMETALTECHNOLOGIES, INC. AND SUBSIDIARIES**

### **CONDENSED CONSOLIDATED STATEMENTS OFOPERATIONS AND COMPREHENSIVE LOSS**

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

**(unaudited)**
| ** **                                             | ** ** | **For the Three Months Ended** | ** ** | **For the Six Months Ended** | ** ** |
|--------------------------------------------------------|------------|----------------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                             | ** ** | **June 30,**                                  | ** ** | **June 30,**                                | ** ** |
| ** **                                             | ** ** | **2007**                                           | ** ** | **2006**                                         | ** ** | **2007** | ** ** | **2006** | ** ** |
|                                                   |       |                                               |       |                                             |       |   |   |   |   |
| Revenue                                                |       | $                                                  | 8,331      |                                             | $          | 7,090 |   | $ | 13,398 |   | $ | 13,645 |   |
| Cost of sales                                          |       | 7,686                                              |       | 5,564                                            |       | 14,127 |   | 10,888 |   |
|                                                   |       |                                               |       |                                             |       |   |   |   |   |
| Gross profit (loss)                                    |       | 645                                                |       | 1,526                                            |       | (729 | ) | 2,757 |   |
|                                                   |       |                                               |       |                                             |       |   |   |   |   |
| Operating  expenses                                    |       |                                               |       |                                             |       |   |   |   |   |
| Selling, general, and administrative                   |       | 2,495                                              |       | 2,368                                            |       | 5,027 |   | 5,073 |   |
| Research and development                               |       | 293                                                |       | 281                                              |       | 556 |   | 484 |   |
| Total operating expenses                               |       | 2,788                                              |       | 2,649                                            |       | 5,583 |   | 5,557 |   |
| Loss from  operations                                  |       | (2,143                                             | )          | (1,123                                           | )          | (6,312 | ) | (2,800 | ) |
|                                                   |       |                                               |       |                                             |       |   |   |   |   |
| Loss from  extinguishments of debt                     |       | —                                             |       | —                                           |       | (648 | ) | — |   |
| Change in value  of warrants, gain (loss)              |       | 564                                                |       | (1,426                                           | )          | 4,256 |   | (2,715 | ) |
| Change in value  of conversion feature, gain (loss)    |       | 1,168                                              |       | (2,137                                           | )          | 5,512 |   | (3,920 | ) |
| Other income                                           |       | 49                                                 |       | 92                                               |       | 49 |   | 572 |   |
| Interest expense                                       |       | (2,700                                             | )          | (3,277                                           | )          | (5,463 | ) | (5,059 | ) |
| Interest income                                        |       | 46                                                 |       | 7                                                |       | 107 |   | 9 |   |
|                                                   |       |                                               |       |                                             |       |   |   |   |   |
| Loss from  continuing operations                       |       | (3,016                                             | )          | (7,864                                           | )          | (2,499 | ) | (13,913 | ) |
|                                                   |       |                                               |       |                                             |       |   |   |   |   |
| Net Loss                                               |       | (3,016                                             | )          | (7,864                                           | )          | (2,499 | ) | (13,913 | ) |
|                                                   |       |                                               |       |                                             |       |   |   |   |   |
| Other  comprehensive income (loss):                    |       |                                               |       |                                             |       |   |   |   |   |
| Foreign exchange translation gain                      |       | 499                                                |       | 28                                               |       | 277 |   | 127 |   |
| Comprehensive loss                                     |       | $                                                  | (2,517     | )                                                | $          | (7,836 | ) | $ | (2,222 | ) | $ | (13,786 | ) |
|                                                   |       |                                               |       |                                             |       |   |   |   |   |
| Net loss per  share basic and diluted:                 |       |                                               |       |                                             |       |   |   |   |   |
| Loss per share basic and diluted                       |       | $                                                  | (0.07      | )                                                | $          | (0.18 | ) | $ | (0.06 | ) | $ | (0.32 | ) |
|                                                   |       |                                               |       |                                             |       |   |   |   |   |
| Number of weighted  average shares - basic and diluted |       | 44,632                                             |       | 44,075                                           |       | 44,778 |   | 43,446 |   |

                                

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

5

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**LIQUIDMETALTECHNOLOGIES, INC. AND SUBSIDIARIES**

**CONDENSEDCONSOLIDATED STATEMENTS OF SHAREHOLDERS’ DEFICIENCY**

###### **For the Six Months Ended June 30, 2007**

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

**(unaudited)**
| ** **                        | ** ** | ** ** | ** ** | ** ** | ** ** | ** **     | ** ** | ** **  | ** ** | **Accumulated**   | ** ** | ** ** | ** ** |
|-----------------------------------|------------|------------|------------|------------|------------|----------------|------------|-------------|------------|-------------------|------------|------------|------------|
| ** **                        | ** ** | ** ** | ** ** | ** ** | ** ** | **Additional** | ** ** | **Accumu-** | ** ** | **Other**         | ** ** | ** ** | ** ** |
| ** **                        | ** ** | **Common** | ** ** | **Common** | ** ** | **Paid-in**    | ** ** | **lated**   | ** ** | **Comprehensive** | ** ** | ** ** | ** ** |
| ** **                        | ** ** | **Shares** | ** ** | **Stock**  | ** ** | **Capital**    | ** ** | **Deficit** | ** ** | **Income**        | ** ** | **Total**  | ** ** |
|                              |       |       |       |       |       |           |       |        |       |              |       |       |       |
| **Balance,  December 31, 2006**   |       | 44,311,768 |       | $          | 44         |           | $          | 136,031     |       | $                 | (149,047   | )          | $          | 2,609 |   | (10,363 | ) |
| Conversion of notes payable       |       | 320,000    |       | 1          |       | 516            |       | —      |       | —            |       | 517        |       |
| Stock-based compensation          |       | —     |       | —     |       | 402            |       | —      |       | —            |       | 402        |       |
| Foreign exchange translation gain |       | —     |       | —     |       | —         |       | —      |       | 277               |       | 277        |       |
| Net loss                          |       | —     |       | —     |       | —         |       | (2,499      | )          | —            |       | (2,499     | )          |
| **Balance, June 30, 2007**        |       | 44,631,768 |       | $          | 45         |           | $          | 136,949     |       | $                 | (151,546   | )          | $          | 2,886 |   | $ | (11,666 | ) |
|                                   |            |            |            |            |            |                |            |             |            |                   |            |            |            |  |  |  |  |  |

 

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

6

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**LIQUIDMETALTECHNOLOGIES, INC.  AND SUBSIDIARIES**

### **CONDENSED CONSOLIDATED STATEMENTS OF CASHFLOWS**

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

**(unaudited)**
| ** **                                                                                 | ** ** | **For the Six Months Ended** | ** ** |
|--------------------------------------------------------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                                                                 | ** ** | **June 30,**                                | ** ** |
| ** **                                                                                 | ** ** | **2007**                                         | ** ** | **2006** | ** ** |
|                                                                                       |       |                                             |       |   |   |
| **Operating  activities:**                                                                 |       |                                             |       |   |   |
| Net income (loss)                                                                          |       | $                                                | (2,499     | ) | $ | (13,912 | ) |
|                                                                                       |       |                                             |       |   |   |
| Adjustments to reconcile loss from operations to net  cash used for  operating activities: |       |                                             |       |   |   |
| Gain on disposal of asset                                                                  |       | (49                                              | )          | (92 | ) |
| Depreciation and amortization                                                              |       | 1,734                                            |       | 1,765 |   |
| Loss on extinguishment of debt                                                             |       | 648                                              |       | — |   |
| Amortization of debt discount                                                              |       | 3,371                                            |       | 2,925 |   |
| Stock-based compensation                                                                   |       | 403                                              |       | 535 |   |
| Bad debt (recovery) expense                                                                |       | 131                                              |       | 60 |   |
| Warranty expense                                                                           |       | 261                                              |       | 107 |   |
| Loss (gain) from change in value of warrants                                               |       | (4,256                                           | )          | 2,715 |   |
| Loss (gain) from change in value of conversion  feature                                    |       | (5,512                                           | )          | 3,920 |   |
| Changes in operating assets and liabilities:                                               |       |                                             |       |   |   |
| Trade accounts receivable                                                                  |       | (1,047                                           | )          | (2,038 | ) |
| Inventories                                                                                |       | 1,622                                            |       | (568 | ) |
| Prepaid expenses and other current assets                                                  |       | (471                                             | )          | (646 | ) |
| Other assets                                                                               |       | (1,386                                           | )          | 65 |   |
| Accounts payable and accrued expenses                                                      |       | 61                                               |       | 2,523 |   |
| Deferred revenue                                                                           |       | 221                                              |       | (801 | ) |
| Other liabilities                                                                          |       | 330                                              |       | (167 | ) |
| Net cash used for operating activities                                                     |       | (6,438                                           | )          | (3,609 | ) |
|                                                                                       |       |                                             |       |   |   |
| **Investing  Activities:**                                                                 |       |                                             |       |   |   |
| Purchases of property and equipment                                                        |       | (882                                             | )          | (693 | ) |
| Proceeds from the sale of property and equipment                                           |       | 100                                              |       | 106 |   |
| Investment in patents and trademarks                                                       |       | (34                                              | )          | (65 | ) |
| Investment in joint venture                                                                |       | (303                                             | )          | — |   |
| Net cash used for investing activities                                                     |       | (1,119                                           | )          | (652 | ) |
|                                                                                       |       |                                             |       |   |   |
| **Financing  Activities:**                                                                 |       |                                             |       |   |   |
| Proceeds from borrowings                                                                   |       | 24,789                                           |       | 12,042 |   |
| Repayment of borrowings                                                                    |       | (12,779                                          | )          | (6,744 | ) |
| Repayment of other liabilities                                                             |       | —                                           |       | 57 |   |
| Restricted cash                                                                            |       | (2,083                                           | )          | — |   |
| Net cash provided by financing activities                                                  |       | 9,927                                            |       | 5,355 |   |
| Effect of foreign exchange translation                                                     |       | (226                                             | )          | (261 | ) |
| Net increase (decrease) in cash and cash equivalents                                       |       | 2,144                                            |       | 833 |   |
|                                                                                       |       |                                             |       |   |   |
| Cash and cash  equivalents at beginning of period                                          |       | 144                                              |       | 1,392 |   |
| Cash and cash  equivalents at end of period                                                |       | $                                                | 2,288      |   | $ | 2,225 |   |
| Supplemental  cash flow information                                                        |       |                                             |       |   |   |
| Interest paid                                                                              |       | $                                                | 1,017      |   | $ | 602 |   |
| Taxes paid                                                                                 |       | $                                                | —     |   | $ | — |   |

 

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

7

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**LIQUIDMETALTECHNOLOGIES, INC.  AND SUBSIDIARIES**

### **CONDENSED CONSOLIDATED STATEMENTS OF CASHFLOWS - continued**

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

**(unaudited)**

During the six months ended June 30, 2007, $400 of the Company’s 7%senior convertible notes due July 2007 was converted into 320,000 shares of theCompany’s common stock at a conversion price of $1.25 per share.

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

8

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**LIQUIDMETAL TECHNOLOGIES AND SUBSIDIARIES**

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

**For the SixMonths Ended June 30, 2007 and 2006**

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

**(unaudited)**

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

The accompanyingunaudited condensed consolidated financial statements have been prepared inaccordance with accounting principles generally accepted in the United Statesof America (“generally accepted accounting principles”) for interim financialinformation and with the instructions to Form 10-Q.  Accordingly, they do not include all of theinformation and notes required by generally accepted accounting principles forcomplete financial statements.  In theopinion of management, all adjustments (consisting only of normal recurringaccruals) considered necessary for a fair presentation have been included.  All intercompany balances and transactionshave been eliminated.  Operating resultsfor the six months ended June 30, 2007 are not necessarily indicative of theresults that may be expected for any future periods or the year ending December31, 2007.  The accompanying unauditedcondensed consolidated financial statements should be read in conjunction withthe Company’s Form 10-K filed with the Securities and Exchange Commission onMarch 16, 2007.

Liquidmetal Technologies, Inc. (“LiquidmetalTechnologies”) and its subsidiaries (collectively “the Company”) are in thebusiness of developing, manufacturing, and marketing products made fromamorphous alloys. Liquidmetal Technologies markets and sells Liquidmetal® alloyindustrial coatings and also manufactures, markets and sells products andcomponents from bulk Liquidmetal alloys that can be incorporated into thefinished goods of its customers across a variety of industries.   The Company also partners with third-partylicensees and distributors to develop and commercialize Liquidmetal alloyproducts.

The Companyclassifies operations into two reportable segments: Liquidmetal alloyindustrial coatings and bulk Liquidmetal alloys (see Note 9). 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 by coal-burning power plants. Bulk Liquidmetal alloysinclude potential market opportunities to manufacture and sell products and componentsfor electronic devices, medical devices, defense applications, and sportinggoods.  In addition, the bulk Liquidmetalalloys segment includes tooling and prototype sampling.  In addition, such alloys are used to generateresearch and development services revenue for developing uses related primarilyto defense and medical applications as well as potential license fees,royalties, and other compensation from strategic partnering transactions.

Stock-based compensation

The Company previously appliedAccounting Principles Board (“APB”) Opinion No. 25 for options when theexercise price of options granted to employees is less than the fair value of the underlyingstock on the date of grant.  Aspermitted, the Company had previously elected to adopt provisions of Statementof Financial Accounting Standard (“SFAS”) No. 123, *Accounting for Stock-Based Compensation*for options granted to non-employees whoperform services for the Company and the disclosure-only provisions ofoptions granted to employees.

In December 2004, the FASB issued SFASNo. 123 (revised 2004), *Share-BasedPayment* (“SFAS 123R”), which replaces SFAS No. 123, *Accounting for Stock-Based Compensation*, (“SFAS 123”)and supersedes APB Opinion No. 25, *Accountingfor Stock Issued to Employees*, (“APB 25”). SFAS 123R requiresall share-based payments to employees, including grants of employee stockoptions, to be recognized in the financial statements based on their fairvalues. Under SFAS 123R, the Company is required to measure the cost of employeeservices received in exchange for stock options and similar awards based on thegrant-date fair value of the award and recognize this cost in the incomestatement over the period during which an employee is required to provideservice in exchange for the award. The pro forma disclosures previouslypermitted under SFAS 123 are no longer an alternative to financialstatement recognition. The Company adopted SFAS 123R on January 1,2006 using the modified prospective method and recorded $173 and $402 for thethree and six months ended June 30, 2007, respectively, and $311 and $535 forthe three and six months ended June 30, 2006, respectively, of non-cash chargesfor stock compensation related to amortization of the fair value of restrictedstock and unvested stock options representing an increase from the stockcompensation that would have been recorded under APB 25 and SFAS 123.Under this method, the Company will recognize compensation cost, on aprospective basis, for the portion of outstanding awards for which therequisite service has not yet been rendered as of January 1, 2006 and anynew grants, based upon the grant-date fair value of those awards calculatedunder SFAS 123 for pro forma disclosure purposes. Accordingly, we have notrestated prior period amounts.

9

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The fair value ofeach option grant is estimated on the date of the grant using the Black-Scholesoption-pricing model with the following weighted-average assumptions used forgrants for the six months ended June 30, 2007 and 2006, respectively: expectedvolatility of approximately 100% for all periods; dividend yield of 0% for allperiods; expected option life of approximately 5 years; and a risk-freeinterest rate ranging from 2.57% to 6.22%.

**2.****         Basis of Presentation and Recent Accounting Pronouncements**

Translation of Foreign Currency

The Companyapplies **FASB No.52, Foreign Currency Translation**, for translating foreigncurrency into US dollars in our consolidation of the financialstatements.  Upon consolidation of the Company’s foreign subsidiaries intothe Company’s consolidated financial statements, any balances with thesubsidiaries denominated in the foreign currency are translated at the exchangerate at year-end. The financial statements of our Korean subsidiary have beentranslated based upon Korean Won as the functional currency. Our Koreansubsidiary’s assets and liabilities were translated using the exchange rate atperiod end and income and expense items were translated at the average exchangerate for the reporting period. The resulting translation adjustment wasincluded in other comprehensive income (loss).

Recent Accounting Pronouncements

In February 2007,the FASB issued SFAS 159, “The Fair Value Option for Financial Assets andFinancial Liabilities Including an amendment of FASB Statement No. 115(SFAS 159),” which permits entities to choose to measure many financialinstruments and certain other items at fair value. The effective date of SFAS159 will be the first quarter of 2008. The Company is currently evaluating the provisions of SFAS 159 and doesnot expect the adoption of this new standard to have a material impact on itsconsolidated financial statements.

Other recentaccounting pronouncements issued by the FASB (including its Emerging IssuesTask Force), the AICPA and the SEC did not or are not believed by management tohave a material impact on our company’s present or future consolidatedfinancial statements.

**3.****        ****Liquidity**

The Company has experienced losses from continuingoperations during the last three fiscal years and has an accumulated deficit of$151,546 as of June 30, 2007.  Cash used for operations for the six monthsended June 30, 2007 was $6,438 and cash flow from operations will likely benegative throughout fiscal year 2007.  As of June 30, 2007, the Company’sprincipal sources of liquidity are $2,288 of cash and $5,150 of trade accountsreceivable.  Such conditions raise substantial doubt that the Company willbe able to continue as a going concern.  These operating results occurredwhile the Company was developing and continues to develop, commercialize, andmanufacture products from an entirely new and unique technology.  Thesefactors have placed a significant strain on the financial resources of theCompany.  The ability of the Company to overcome these challenges dependson its ability to correct its production inefficiencies, reduce its operatingcosts, generate higher revenue, achieve positive cash flow from continuingoperations and continued sources of debt and equity financing.  Theconsolidated financial statements do not include any adjustments that mightresult from the outcome of these uncertainties.

Further,the Company borrowed $8,563, which was offset by repayments of $7,019, under afactoring, loan, and security agreement executed on April 21, 2005 to fund itsworking capital requirements during the six months ended June 30, 2007.

On January 3,2007, the Company completed a private placement of $16,300 in principal amountof 8% Convertible Subordinated Notes due January 2010 (the “January 2010 Notes”).The January 2010 Notes were issued for aggregate cash in the amount of $12,850,in payment of a total of $3,377 in principal and accrued but unpaid interestunder our previously issued 7% Senior Secured Convertible Notes due August 2007and our  8% Unsecured Subordinated Notes, and $73 cash discount (see Note7).

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In June 2007, weentered into an equipment sale and licensing agreement with Grace Metal, aSouth Korean corporation, providing for $2,000 in exchange for die castingmachines and vacuum induction melters, and a 10-year exclusive license tomanufacture Liquidmetal alloys for customers whose principal headquarters ormajor operations are based in South Korea. The principal purpose of thetransactions with Grace Metal was to raise capital for the next-generationcasting equipment and to shift the cost and burden of our manufacturingoperations to a third party.  Grace Metal was formed by an investor groupthat includes the former Founder and director of our company, James Kang, whois also the brother of John Kang, Chairman of the Board of our company (see Note12).

In July 2007, wecompleted an $11,095 financing transaction that provided funding to repaysenior convertible notes previously issued were scheduled to become due in Julyand August 2007.  We transferred substantially all of the assets ofLiquidmetal Coatings business to a newly formed, newly capitalized subsidiarynamed Liquidmetal Coatings, LLC, a Delaware limited liability company (“LMC”),and LMC assumed substantially all of the liabilities of the Division (the “AssumedLiabilities”).  LMC was capitalized through a $6,500 subordinated debt andequity investment by C 3  Capital Partners and a $5,000 senior creditfacility with Bank Midwest, N.A., both out of Kansas City, Missouri (see Note13).

We anticipate thatthe funds raised in the January 2007 private placement, equipment sale andlicensing agreement with Grace Metal, and recapitalization of our coatingsbusiness will be sufficient to pursue our current operating plan onlythrough the third quarter of 2007, and we will therefore require additionalfunding at or prior to that time.  As a result of the foregoing, we areactively seeking additional sources of capital and seeking to restructureand/or modify existing indebtedness.  The amount of funding that we seekand the timing of such fundraising efforts will depend on the extent to whichwe are able to increase revenues through obtaining additional purchase ordersfor our products and/or the extent to which we can restructure or modify ourdebt.  Because we cannot be certain that we will be able to obtainadequate funding from debt, equity, or other traditional financing sources, weare also actively exploring several strategic financing options, including thepossible sale of our manufacturing plant in South Korea (which would then bereplaced with a smaller facility) and additional licensing and outsourcing ofour manufacturing operations.

Additionally, wehave approximately $3,259 of principal and accrued interest outstanding underthe 8% unsecured subordinated notes (“Notes”) which will become due August 17,2007 as of June 30, 2007.  We intend tofully repay the amounts due under Notes. However, as of the filing of this document we do not have sufficientfunds to repay the Notes by the August 17, 2007 due date.  As a result, we will be in default with theholders of the 8% unsecured subordinated notes if we do not satisfy the amountsdue under the Notes, unless we receive a waiver of such default.   Such a default may have material adverseeffect on our operations, financial condition, and results of operations.

We cannotguarantee that adequate funds will be available when needed, and if we do notreceive sufficient capital, we may be required to alter or reduce the scope ofour operations.

**4.         Inventories**

Inventories are accounted for using the moving averagebasis and at standard cost, which approximate cost on a first-in, first-outbasis and are valued at the lower of cost or market.  Inventories were comprised of the following:
|                   | ** ** | **June 30,** | ** ** | **December 31,** | ** ** |
|-------------------|------------|-------------------|------------|-----------------------|------------|
| ** **        | ** ** | **2007**          | ** ** | **2006**              | ** ** |
| ** **        | ** ** | **(Unaudited)**   | ** ** | ** **            | ** ** |
|              |       |              |       |                  |       |
| Raw materials     |       | $                 | 1,070      |                  | $          | 966 |   |
| Work in process   |       | 154               |       | 1,729                 |       |
| Finished goods    |       | 919               |       | 1,070                 |       |
| Total inventories |       | $                 | 2,143      |                  | $          | 3,765 |   |

 

**5.         IdleEquipment**

Idle equipment consists of certain equipment held bythe Company for use in expansion of bulk alloy parts manufacturing.  Whilethe equipment may be used internally to meet future capacity requirements,considering our current revenue and 

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foreseeable production requirements, the Company doesnot anticipate utilizing this equipment internally in the near future.  Total amount of idle equipment remaining was$173 and $194 as of June 30, 2007 and December 31, 2006, respectively.

During the quarter ended June 30, 2007, the Companydisposed of $7 of its idle equipment as part of the equipment purchaseagreement and transfer agreement regarding Weihai operations with Grace Metal(see Note 12).  During the quarter endedJune 30, 2006, the Company disposed of $12 of its idle equipment for proceedsof $104.  The resulting gain of $92 isincluded in other income.

**6.         ProductWarranty**

Managementestimates product warranties as a percentage of certain bulk alloy productsales earned during the period.  As ofJune 30, 2007, the Company used 5% of bulk alloy product sales as an estimateof warranties to be claimed.  Thepercentage is based on industry averages and historical information.  During the three and six months ended June30, 2007, the Company recorded $54 and $261 of warranty expense,respectively.  During the three and sixmonths ended June 30, 2006, the Company recorded $32 and $106, respectively, ofwarranty expense.  The product warrantyaccrual balance is included in accounts payable and accrued expenses.

**7.         NotesPayable**

Senior Convertible Note

On March 3, 2004, the Company issued $9,924 of 6%senior convertible notes due 2007 (the “March Notes”) to investor groups in atransaction led by Michigan Venture Capital Co., Ltd, a South Korea-basedinstitutional investment firm, and IndiGo Ventures LLC, a New York-basedinvestment firm (the “Placement Agents”) that served as a financial advisor tothe Company for the transaction.  Thenotes were collateralized by the patents held by the Company and secondpriority mortgage interest in plant facilities and certain equipment in SouthKorea.  The notes were convertible at anytime into common stock at a price of $3.00 per share.  Investors in the private placement and thePlacement Agents received warrants to purchase an aggregate amount of up toapproximately 1.2 million shares of common stock, exercisable at $3.00 pershare for varying periods but no later than 100 days following theeffectiveness of a registration statement covering the resale of sharesissuable upon exercise of the warrants. The conversion and warrant exerciseprice are subject to price adjustments for anti-dilution purposes. In addition,the investors had the right to call for repayment of the notes prior tomaturity at any time after the second anniversary of the closing of thetransaction.

Pursuant to Statement of Financial AccountingStandards No. 133, “Accounting for Derivative Instruments and HedgingActivities,” EITF 00-19, “Accounting for Derivative Financial InstrumentsIndexed to, and Potentially Settled in, a Company’s Own Stock,” EITF 00-27,“Application of Issue No. 98-5 to Certain Convertible Instruments,” and EITF05-2 “The Meaning of ‘Conventional Convertible Debt Instrument’ in EITF IssueNo. 00-19,” the original fair value of the embedded conversion feature of$7,595 have been recorded as conversion feature liabilities as the debt isconsidered non-conventional convertible debt. The original fair value wascomputed using the Black-Scholes model under the following assumptions: (1)expected life of 3 years; (2) volatility of 82%; (3) risk free interest of 2.15%and dividend rate of 0%.  The fair valueof the conversion feature on the date of issuance has been recorded as debtdiscount to be amortized over the life the debt.

Pursuant to EITF 00-19, “Accounting for DerivativeFinancial Instruments Indexed to, and Potentially Settled in, a Company’s OwnStock”, the original fair value of the 1.2 million warrants of $1,302 has beenrecorded as warrant liabilities as the shares issuable under the warrants havenot been registered.  The original fairvalue was computed using the Black-Scholes pricing model under the followingassumptions: (1) expected life of 3 years; (2) volatility of 82%, (3) risk freeinterest of 0.95% and dividend rate of 0%.

In March 2004, the original fair value of the embeddedconversion feature of $7,595 and the original fair value of the 0.6 millionwarrants issued to investors of $584, and the original fair value of 0.6million warrants issued to Placement Agents of 

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$718 were recorded as discounts of the convertiblenote.  In addition, $581 direct costsincurred relating to issuance of the convertible note was recorded as debtissuance cost in other assets.

During 2004, the Company redeemed $4,465 of theoutstanding note balance in cash.  Theredemption resulted in a write down of debt issuance costs and debt discount of$3,571 to interest 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 originallyissued to a financial advisor for the transaction expired during June 2004 and163,748 of unexercised warrants originally issued to investors were cancelledas a result of the Company’s redemption of the note balances during the yearended December 31, 2004.  The 663,748total expired and canceled warrants immediately prior to the expiration andcancellation 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.

On August 19, 2004, the Company completed a privateexchange offer for its March Notes with the remaining holders after theredemption.  Under terms of the exchangeoffer, approximately $5,460 in aggregate principal amount of the March Noteshave been exchanged for an aggregate of (i) $2,730 of 6% Senior Secured NotesDue 2007 (the “July 2007 Notes”) and (ii) $2,730 of 10% Senior Secured NotesDue 2005 (the “July 2005 Notes”), collectively referred to as “Exchange Notes”.  The Exchange Notes are collateralized bycertain patents owned by the Company and second priority mortgage interest inplant facilities and certain equipment at our South Korea plant.  The July 2005 Notes had a maturity date ofJuly 29, 2005, and a conversion price of $2.00 per share (compared to aconversion price of $3.00 per share under the March Notes).  The July 2005 Notes have been exchanged andredeemed subsequent to the close of the second quarter of 2005 (see 2005 SeniorConvertible Notes below). The July 2007 Notes have a maturity date of July 29,2007, and a conversion price of $1.00 per share.   The conversion prices of the July 2007 Notesand July 2005 Notes are subject to price adjustments for anti-dilutionpurposes.  Further, the exchange notesare convertible 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.  The convertible price of the Exchange Notesis subject to price adjustment for anti-dilution purposes.  As of June 30, 2007, the convertible price ofthe July 2007 Notes remained unchanged at $1.00 per share.  Holders of the July 2007 Notes also have theright to call for repayment of the July 2007 Notes prior to maturity at anytime after the second anniversary of the closing of the exchange offer.  The July 2007 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 563,151 warrants to purchase our commonstock at an exercise price of $3.00 per share—all of which were previouslyissued in connection with the purchase of the March Notes—have been amended toprovide for an extended expiration date of March 1, 2006.  There are no outstanding warrants at June 30,2007.

The exchange offer was treated as an extinguishment ofthe March Notes in accordance with Emerging Issues Task Force No. 96-19, “DebtorsAccounting for a Modification or Exchange of Debt Instruments.”  The exchange resulted in a $2,941 loss fromextinguishment of the March Notes, which consisted of write down of $352 ofdeferred issue costs in other assets, $670 of debt discount, and an increase of$1,919 in conversion feature liability as a result of the change in carryingvalue of exchanged notes.

In connection with the private exchange offer, theCompany issued $250 of private placement notes to certain Placement Agents asissuance costs.  Of the $250 notesissued, $125 was paid in the form of long-term notes which is due in 2007 withinterest rate of 6% per annum (July 2007 Notes) and $125 was paid in the formof short-term notes which is due in 2005 with interest rate of 10% per annum(July 2005 Notes).  The July 2005 andJuly 2007 Notes are convertible into Common Stock at $2.00 and $1.00,respectively, and have the same terms as the Exchange Notes issued to theinvestors.  Further, $143 of originalfair value of the embedded conversion feature of $250 notes issued to PlacementAgents was recorded as conversion feature liabilities during August 2004.

The Company was obligated, pursuant to a RegistrationRights Agreement, as amended by the Exchange Notes, between the Company, thePlacement Agents and the note holders to file a registration statement with theSecurities and Exchange Commission (“SEC”) to register the shares of CommonStock issuable upon conversion of the notes payable and the related 

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warrants within 90 days following the effectiveclosing date of the exchange notes (July 29, 2004), and to use best efforts tocause such registration statement to become effective within 60 days followingthe SEC’s first written comments on the registration statement.  Further, if the Company is not in compliancewith the registration or listing requirements, the holders have rights to lateregistration payments equal to between 2% and 3% of the purchase price paid forthe unconverted notes for the first 30 business days of late registration, and1% and 3% percent for each 30 business days thereafter, but no more than 18% ofthe purchase price of the unconverted note balance.

Interest payments are due quarterly, and failure tomake timely interest payments will result in increase in interest rate to 10%and 14% on the 6% and 10% senior convertible notes (“Default Rates”).  The Default Rates became effective on April1, 2005 from non-payment of a scheduled interest payment.  As of June 30, 2007, the Company has compliedwith all scheduled interest payments.

On August 9, 2005, the July 2005 Notes, accruedinterest and late registration fees were redeemed in cash and exchanged for 7%Convertible Secured Promissory Notes due August 2007  (see 2005 Senior Convertible Notes below).

During the year ended December 31, 2006, $286 of theJuly 2007 Notes were converted into 285,750 of the Company’s common stock at aconversion price of $1.00 per share.

The Company’s gross outstanding loan balance of theJuly 2007 Notes totaled $2,083, as of June 30, 2007 and December 31, 2006, respectively.  As of June 30, 2007 and December 31, 2006,un-amortized discounts for conversion feature and warrants totaled $56 and$391, respectively, and other asset debt issuance costs totaled $2 and $14,respectively.  Interest expense for theamortization of debt issuance cost and discount on note was $173 and $347 forthe three and six ended June 30, 2007, respectively, $193 and $416 for thethree and six months ended June 30, 2006, respectively.  As of June 30, 2007, the effective interestrate of the July 2007 Notes was 34.5%.

Pursuant to Statement of Financial AccountingStandards No. 133, “Accounting for Derivative Instruments and HedgingActivities,” the Company is required to report a value of the conversionliability as a fair value and record the fluctuation to the fair value of theconversion feature liability to current operations.  The change in the fair value of theconversion feature liability resulted in a gain of $1,164 and $1,195 for thethree and six months ended June 30, 2007, respectively, and a loss of $947 and$1,748 for the three and six months ended June 30, 2006, respectively.  The fair value of conversion featuresoutstanding at June 30, 2007 and December 31, 2006 was $24 and $1,218, respectively.  The fair value of conversion features ofoutstanding at June 30, 2007 was computed using the Black-Scholes model underthe following assumptions: (1) 0.08 years; (2) volatility of 55%; (3) risk freeinterest of 4.28% and (4) dividend rate of 0%.

Pursuant to EITF 00-19, “Accounting for DerivativeFinancial Instruments Indexed to, and Potentially Settled in, a Company’s OwnStock”, the original relative fair values of the warrants of $1,302 have beenrecorded as warrant liability.  Inaddition, the Company is required to report a value of the warrant as a fairvalue and record the fluctuation to the fair value of the warrant liability tocurrent operations.  The change in fairvalue of warrants resulted in a loss of $15 and $18 for the three and six monthsended June 30, 2006.  The warrant hasexpired as of December 31, 2006.

Convertible Notes

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

The June 2006Notes issued by the Company in the June 2005 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 June 2006 Notes are interest-only, with interest payments duequarterly, at the rate of 10% per year.  The June 2006 Notes can beprepaid by the Company at any time without penalty.  If, within 120 daysfollowing the issue date of the June 2006 Notes, the Company either fails toredeem the notes for the principal amount and accrued interest thereon or failsto close a “Qualified Financing,” then the June 2006 Notes will thereafter beconvertible at a conversion price equal to seventy five percent (75%) of theclosing price of the Company’s

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common stock on thefirst trading day immediately preceding the conversion date.  A “QualifiedFinancing “ is defined in the June 2006 Notes as any debt or equity financingof the Company resulting in aggregate gross proceeds to the Company of at least$5,000 and in which the holders of at least sixty percent (60%) of theaggregate principal amount of the Company’s July 2007 Notes either(i) agree that the equity or debt securities to be issued in suchfinancing shall be pari passu in order of payment to the July 2007 Notes heldby them or (ii) exchange their July 2007 Notes for new securities in thefinancing transaction.  On August 9,2005, the Company successfully completed Qualified Financing, which resulted inexchange and redemption of the Convertible Notes (see 2005 Senior ConvertibleNotes below).  As a result, the June 2006Notes never became convertible.

 As a part ofthe June 2005 Private Placement, the Company issued warrants to the purchasersof the June 2006 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 originalexercise price of $2.00 per share, provided that upon the consummation of thefirst ensuing public or private equity or debt offering or restructuringtransaction in which the Company receives gross proceeds of at least $3,250(including without limitation any restructuring of the Company’s July 2005Notes), the exercise price will be automatically adjusted downward (but notupward) as of the closing date of such offering or restructuring transaction sothat it is equal to the lowest effective common stock purchase price paid forany securities issued by the Company to the investors in such offering orrestructuring transaction.  The warrants will expire on June 13, 2010and are subject to exercise price adjustment for anti-dilution purposes.  The exercise price of the warrants wasreduced to $1.75 per share and total number of warrants was increased 1,021,434as of June 30, 2007 as a result of our January 2007 private placement (seeConvertible Subordinated Notes below).

The original fairvalue of the 893,750 warrants totaled $1,160 and was computed using theBlack-Scholes pricing model under the following assumptions: (1) expected lifeof 5 years; (2) volatility of 118%, (3) risk free interest of 3.87% anddividend 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.  In addition $105 relating to the fair valueof the 81,250 warrants issued to the Placement Agents and $278 direct costsincurred relating to issuance of the convertible note were recorded as debtissuance cost as a contra liability account in debt discount and other assets,respectively, and will be amortized using the effective interest rate methodover the life of the loan.

On August 9, 2005,the June 2006 Notes were redeemed in cash and exchanged for 7% ConvertibleSecured Promissory Notes due August 2007 (see 2005 Senior Convertible Notesbelow).  The exchange offer was treatedas an extinguishment of the June 2006 Notes in accordance with Emerging IssuesTask Force No. 96-19, “Debtors Accounting for a Modification or Exchange ofDebt Instruments.”  The exchange resultedin a $1,247 loss from extinguishment of the June 2006 Notes as of December 31,2005, which consists of write down of $240 of deferred issue costs in otherassets, $92 of contra liability deferred issuance costs, and $915 of debtdiscount as a result of the change in carrying value of exchanged notes.

Pursuant to EITF00-19, “Accounting for Derivative Financial Instruments Indexed to, andPotentially Settled in, a Company’s Own Stock”, the original fair values of thewarrants of $1,160 have been recorded as warrant liability.  In addition, the Company is required toreport a value of the warrant as a fair value and record the fluctuation to thefair value of the warrant liability to current operations.  The change in the fair value of the warrantsresulted in a gain of $35 and $316 for the three and six months ended June 30,2007, respectively.  The change in thefair value of the warrants resulted in a loss of $321 and $623 for the threeand six months ended June 30, 2006, respectively.  The fair value of warrants outstanding atJune 30, 2007 and December 31, 2006 was $171 and $487, respectively.  The fair value of warrants outstanding atJune 30, 2007 was computed using the Black-Scholes model under the followingassumptions: (1) expected life of 2.95 years; (2) volatility of 47%, (3) riskfree interest of 4.89% and (4) dividend rate of 0%.

2005 Senior Convertible Notes

On August 9, 2005, the Company completed a privateplacement (the “August 2005 Private Placement”) of $9,878 in 

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principal amount of new 7% Convertible SecuredPromissory Notes due August 2007 (the “August 2007 Notes”).  The issuance consisted of $5,000 cash,exchange of $1,284 in principal amount of the July 2005 Notes, the exchange of$2,996 in principal amount of the June 2006 Notes, satisfaction of accruedinterest and late registration fees in the amount of $589 on the July 2005Notes, and satisfaction of accrued interest of $9 on the June 2006 Notes.  The August 2007 Notes were issued pursuant toa Securities Purchase Agreement dated effective as of August 2, 2005 among theCompany, the purchasers of the August 2007 Notes, and the holders of July 2005Notes and June 2006 Notes of the Company.

Interest payments are due quarterly, and failure tomake timely interest payments will result in increase in interest rates to 14%per annum on the August 2007 Notes (“Default Rates”).  As of June 30, 2007, the Company has madetimely interest payments.

The August 2007 Notes are convertible into shares ofthe Company’s common stock at $2.00 per share Pursuant to an Amended andRestated Security Agreement.  Theconvertible price of the August 2007 Notes is subject price adjustment foranti-dilution purposes.  As of June 30,2007, the convertible price of the August 2007 Notes was reduced to $1.75 pershare.

Further, pursuant to Statement of FinancialAccounting Standards No. 133, “Accounting for Derivative Instruments andHedging 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 $4,808 have been recorded as conversion feature liability as thedebt is considered nonconventional convertible debt. The original fair valuewas computed using the Black-Scholes model under the following assumptions: (1)expected life of 2 years; (2) volatility of 93%; (3) risk free interest of4.06% and dividend rate of 0%.  Inaddition, the Company is required to report a value of the conversion liabilityas a fair value and record the fluctuation to the fair value of the conversionfeature liability to current operations. The change in the fair value of the conversion feature liabilityresulted in a gain of $12 and $354 for the three and six months ended June 30,2007, respectively.  The change in thefair value of the conversion feature liability resulted in a loss of $1,190 and$2,171 for the three and six months ended June 30, 2006.  The fair value of conversion featuresoutstanding at June 30, 2007 and December 31, 2006 was $0 and $619,respectively.  The fair value of conversion feature outstanding atJune 30, 2007 was computed using the Black-Scholes model under the followingassumptions: (1) 0.09 year; (2) volatility of 55%, (3) risk free interest of4.28% and (4) dividend rate of 0%.

The August 2007 Notes are secured by substantiallyall assets of the Company and rank senior to all other obligations of theCompany, other than the Company’s loan with Kookmin Bank of South Korea (or anyrefinancing of such loan), the July 2007 Notes, purchase money asset financing,trade creditors in the ordinary course of business, and any inventory orreceivables-based credit facility that the Company may obtain in the future,provided that the amount of the credit facility does not exceed 50% of eligibleinventory and 80% of eligible receivables. The August 2007 Notes willautomatically convert into common stock if the Company’s common stock has anaverage closing price of more than $5.00 per share during 30 consecutivetrading days.

The Company also issued warrants to the purchasersof the August 2007 Notes and placement agents giving them the right to purchaseup to 2,469,470 and 414,495 shares of Company common stock, respectively, withan exercise price of $2.00 per share, which is subject to price adjustment foranti-dilution purposes .  As of June 30,2007, the exercise price of the warrants was reduced to $1.75 per share andtotal number of warrants was increased to 3,295,975.  The warrants will expire on August 2, 2010.

Pursuant to EITF 00-19, “Accounting for DerivativeFinancial Instruments Indexed to, and Potentially Settled in, a Company’s OwnStock”, the original fair values of the warrants of $4,068 have been recordedas warrant liability, which was computed using the Black-Scholes pricing modelunder the following assumptions: (1) expected life of 5 years; (2) volatilityof 93%; (3) risk free interest of 4.17% and dividend rate of 0%.  In addition, the Company is required toreport a value of the warrant as a fair value and record the fluctuation to thefair value of the warrant liability to current operations.  The change in the fair value of the warrantsresulted in a gain of $261 and $1,179 for the three and six months ended June30, 2007, respectively.  The change inthe fair value of the warrants resulted in a net loss of $1,047 and $2,032 forthe three and six months ended June 30,

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2006, respectively. The fair value of warrants outstanding at June 30, 2007 andDecember 31, 2006 was $433 and $1,612, respectively.  Thefair value of the warrants outstanding at June 30, 2007 was computed using theBlack-Scholes model under the following assumptions: (1) expected life of 3.09years; (2) volatility of 47%; (3) risk free interest of 4.89% and dividend rateof 0%.

In connection with the August 2005 PrivatePlacement, the Company entered into an amended and restated registration rightsagreement with the holders of the July 2007 Notes, the holders of the August2007 Notes, and the holders of the above-described outstanding warrants.  This amended and restated registration rightsagreement replaced all other registration rights agreements previously enteredinto by us in connection with the private sale by us of convertible notes andwarrants.  Under the amended and restatedregistration rights agreement, the Company is required to file a resaleregistration statement for the shares underlying all of our outstandingconvertible notes and warrants, as described above, by October 31, 2005, toenable the resale of such shares by the selling stockholders on a delayed orcontinuous basis under Rule 415 of the Securities Act.  The Company is then required to cause suchregistration statement to become effective within 60 days after we receive thefirst written comments on the registration statement from the SEC, or if theSEC notifies us that it will not review the registration statement, within fivedays after such notification.  TheCompany will be subject to certain monetary penalties, as set forth in theregistration rights agreement, if the registration statement is not filed ordoes not become effective on a timely basis. Specifically, if the Company does not file the registration statement ona timely basis, we will be obligated to pay a late filing fee to the sellingstockholders in the amount of 3% of the warrant exercise price on each of thewarrants held by them plus 3% of the principal amount of the outstanding notesheld by them.  This fee will be payablefor each period of 30 business days that the filing of the registrationstatement is made past the required filing date, and the payments will be due10 business days following the end of each 30-day period.  If the registration statement has not beendeclared 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 filing fees and lateregistration fees will not exceed 18% of the aggregate warrant exercise pricesand aggregate note principal amounts.

The Company filed its Registration Statement onDecember 9, 2005 and on August 7, 2006, the registration statement becameeffective.  As of June 30, 2007, theCompany has accrued $1,657 and paid $923 of the late filing and registrationfees and the remaining $734 is included in accounts payable and accruedliabilities.

On January 3, 2007 as part of a private placementoffer, as amended, $2,290 of August 2007 Notes and $116 of late registrationfees were exchanged for 8% Convertible Subordinated Notes due January 2010 (seeConvertible Subordinated Notes below).  Further, during the quarter ended March 31, 2007, the Company enteredinto conversion agreements with the holders of August 2007 Notes totaling $400of principal providing for the conversion of such notes at a reduced conversionprice of $1.25 per share.

As of June 30, 2007 and December 31, 2006, our grossoutstanding loan balance of the August 2007 Notes totaled $7,188 and $9,878,respectively.  As of June 30, 2007 andDecember 31, 2006, un-amortized discounts for embedded conversion feature andwarrants totaled $268 and $2,441, respectively, and other asset debt issuancecosts totaled $15 and $139, respectively, and contra liability debt issuancecost totaled $68 and $172, respectively. Interest expense for the amortization of debt issuance cost and discounton note was $850 and $1,812 for the three and six months ended June 30, 2007,respectively.  Interest expense for theamortization of debt issuance cost and discount on note was $1,036 and $2,214for the three and six months ended June 30, 2006, respectively.  As of June 30, 2007, the effectiveinterest rate for the August 2007 Notes was 17.5%.

SubordinatedPromissory Note

On March 17, 2006, the Company issued a $1,000 10%subordinated promissory note due October 16, 2006 (the “October 2006 Note”) toAtlantic Realty Group, Inc., a company controlled by Jack Chitayat, a formerdirector of the Company.  On September30, 2006, the October 2006 Note was amended to mature on November 15, 2006 andwas subsequently amended again to mature on November 30, 2006.  TheOctober 2006 Note is unsecured and subordinated to all prior indebtedness of 

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the Company.  All accrued interest and unpaidprincipal under the note were due November 30, 2006.  The proceeds fromthe October 2006 Note is to be used solely for working capital purposes. In connection with the October 2006 Note, the Company issued warrants topurchase an aggregate amount of up to 125,000 shares of common stock,exercisable at $2.00 per share.  The warrants will expire on March 17,2009, and include price adjustment provisions for anti-dilution purposes. As of June 30, 2007, the exercise price of the warrants remained unchanged at$2.00 per share. There are no registration rights of the shares issuable fromthe exercise of the warrants.  Further, cashless exercise of the warrantsis permitted.

Pursuant to EITF 00-19, “Accounting for DerivativeFinancial Instruments Indexed to, and Potentially Settled in, a Company’s OwnStock,” the original fair value of the warrants of $84 have been recorded aswarrant liability as the warrant holders can elect to settle the warrants incash, which was computed using Black-Scholes pricing model under the followingassumptions: (1) expected life of 2.96 years; (2) volatility of 84%; (3) riskfree interest of 4.64% and dividend rate of 0%.  In addition, the Companyis required to report a value of the warrants as a fair value and record thefluctuation to the fair value of the warrant liability to currentoperations.  The change in the fair value of the warrants resulted in a gainof $7 and $42 for the three and six months ended June 30, 2007,respectively.  The change in the fair value of the warrants resulted in aloss of $40 for the three and six months ended June 30, 2006.  The fair value of warrants outstandingat June 30, 2007 and December 31, 2006 was $8 and $50, respectively.  Thefair value of warrants outstanding at June 30, 2007 was computed using theBlack-Scholes model under the following assumptions: (1) expected life of 1.71years; (2) volatility of 55%, (3) risk free interest of 4.87% and dividend rateof 0%. Interest expense for the amortization of discount on the note was $0 forthe three and six months ended June 30, 2007, respectively, and interestexpense for the amortization of discount on the note was $ 28 and $41 for thethree and six months ended June 30, 2006, respectively.

During the quarter ended March 31, 2007, $1,000 ofOctober 2006 Note was redeemed in cash (see Convertible Subordinated Notesbelow).

Unsecured SubordinatedNotes

On May 17, 2006, the Company completed a privateplacement of 8% unsecured subordinated notes (the “May 2006 Private Placement”)in the aggregate principal amount of $3,625 (the “August 2007 SubordinatedNotes”), together with warrants to purchase up to an aggregate of 705,233shares of the Company’s common stock.  OnSeptember 21, 2006 and December 1, 2006, the Company completed an additionalprivate placement under the terms of the May 2006 Private Placement in theaggregate principal amount of $500 and $459, respectively, together with warrantsto purchase up to an aggregate of 96,900 and 88,857 shares of the Company’scommon stock, respectively.

The August 2007 Subordinated Notes are unsecured andwill become due on the earlier of August 17, 2007 or the consummation of afollow-on equity or debt offering pursuant to which the Company receives grossproceeds of at least $6,000 to be used for working capital purposes andrepayment of debt, but excluding financings for the purpose of purchasingcapital assets (a “Follow-On Financing”). Interest on the unpaid principal balance of each August 2007Subordinated Note accrues at the rate of 8% per annum until maturity date.  The August 2007 Subordinated Notes can beprepaid by the Company at any time without penalty.

The August 2007 Subordinated Notes is subordinate inright of payment and in all other respects to the July 2007 Notes, the August2007 Notes, and any other notes that may be issued by the Company after May 17,2006 in exchange for or in satisfaction of any July 2007 Notes or August 2007Notes (collectively, the “Senior Notes”). Notwithstanding the maturity date of the August 2007 Subordinated Notes,the Company will not make any payments of principal, interest or otherwiseunder the August 2007 Subordinated Notes until all amounts due and payableunder the Senior Notes have been satisfied in full (whether through cashpayments or conversion).

The August 2007 Subordinated Notes also gives theinvestors the opportunity to participate in a Follow-On Financing at adiscounted rate.  If a holder of theAugust 2007 Subordinated Notes elects to participate in a Follow-On Financing,the holder of the Note will be entitled to purchase the securities beingoffered in the Follow-On Financing at a discount of 7% of the gross per sharepurchase price (in the case of an offering of common stock or preferred stock)or 7% of the face amount of the security being sold (in the case of an offeringof debt securities).

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As part of the May 2006 Private Placement, the Companyissued warrants to the purchasers of the Notes giving them right to purchase upto an aggregate of 892,247 shares of the Company’s common stock.  In addition, warrants to purchase 80,717shares of the Company’s common stock were issued to the placement agent in thetransaction.  The warrants have anexercise price of $2.58 per share, which is subject to price adjustment foranti-dilution purposes.  The exerciseprice of the warrants was reduced to $2.13 per share and total amount ofwarrants was increased to 1,178,651 as of June 30, 2007.  The warrants will expire on May 17, 2011.

Pursuant to EITF 00-19, “Accounting for DerivativeFinancial Instruments Indexed to, and Potentially Settled in, a Company’s OwnStock,” the original fair value of the warrants of $905 for the May 17, 2006placement have been recorded as warrant liability, as the warrant holders canelect to settle the warrants in cash, which was computed using Black-Scholespricing model under the following assumptions: (1) expected life of 5.00 years;(2) volatility of 80%; (3) risk free interest of 5.03% and dividend rate of0%.  The original fair value of thewarrants of $89 for the September 21, 2006 placement have been recorded aswarrant liability, as the warrant holders can elect to settle the warrants incash, which was computed using Black-Scholes pricing model under the followingassumptions: (1) expected life of 4.65 years; (2) volatility of 76%; (3) riskfree interest of 4.60% and dividend rate of 0%. The original fair value of the warrants of $59 for the December 1, 2006placement have been recorded as warrant liability, as the warrant holders canelect to settle the warrants in cash, which was computed using Black-Scholespricing model under the following assumptions: (1) expected life of 4.46 years;(2) volatility of 67%; (3) risk free interest of 4.39% and dividend rate of 0%.

In addition, the Company is required to report a valueof the warrant as a fair value and record the fluctuation to the fair value ofthe warrant liability to current operations. The change in the fair value of the warrants resulted in a gain of $95and $356 for the three and six months ended June 30, 2007, respectively.  The change in the fair value of the warrantsresulted in a loss of $2 for the three and six months ended June 30, 2006.  The fair value of warrants outstanding atJune 30, 2007 and December 31, 2006 was $157 and $513.  The fair value of the warrants outstanding atJune 30, 2007 was computed using the Black-Scholes model under the followingassumptions: (1) expected life of 3.88 years; (2) volatility of 47%; (3) riskfree interest of 4.92% and dividend rate of 0%.

On January 3, 2007 as part of a private placementoffer, as amended, $925 of August Subordinated 2007 Notes and $45 of accruedinterest were exchanged for 8% Convertible Subordinated Notes due January 2010(see Convertible Subordinated Notes below).  Additionally, $650 of August Subordinated 2007 Notes and $26 of accruedinterest were redeemed in cash during the first quarter of 2007.

Our gross outstanding loan balance of the August 2007Subordinated Notes totaled $3,009 and $4,585 as of June 30, 2007 and December31, 2006, respectively.  As of June 30,2007, un-amortized discounts for warrants totaled $138 and other asset deferredissuance costs totaled $35.  Interest expensefor the amortization of discount on the note and deferred issuance cost was$240 and $458 for the three and six months ended June 30, 2007,respectively.  Interest expense for theamortization of discount on the note and deferred issuance cost was $98 for thethree and six months ended June 30, 2006. As of June 30, 2007, the effective interest rate for the August 2007Subordinated Notes was 37.6%.

ConvertibleSubordinated Notes

On January 3,2007, the Company completed a private placement of 8% Convertible SubordinatedNotes due January 2010 (the “January 2010 Notes”).  As a result of anApril 2007 amendment to this transaction, the Company ultimately issued $16,300in principal amount of January 2010 Notes.  The January 2010 Notes wereissued for aggregate cash in the amount of $12,850, in payment of a total of$3,377 in principal and accrued but unpaid interest under our previously issued7% Senior Secured Convertible notes due August 2007 (“August 2007 Notes”) andour 8% Unsecured Subordinated notes (the “August 2007 Subordinated Notes”), and$73 cash discount.

The payment of thepreviously issued notes was treated as an extinguishment of the debt inaccordance with Emerging Issues Task Force No. 96-19, “Debtors Accounting for aModification or Exchange of Debt Instruments.”  The placement resulted ina $648 loss from extinguishment of debt, which consisted of write down of $64of deferred issue costs, $733 of debt discount, and decrease of $149 inconversion feature liability as a result of the change in carrying value ofexchanged notes.

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The January 2010Notes were originally convertible into the Company’s common stock at $1.55 pershare.  As a part of the private placement, the Company issued warrants tothe purchasers of the notes giving them the right to purchase up to anaggregate of 5,257,921 shares of our common stock at an exercise price of $1.93per share. In connection with the private placement, the Company also issued tothe placement agent for the transaction warrants to purchase an aggregate of248,710 shares of our common stock at an exercise price of $1.55 pershare.  The warrants will expire on January 3, 2012 and are subject toexercise price adjustment for anti-dilution purposes.  The Company isrequired to set aside $2,083 of the proceeds from the private placement forpayment of the 6% Senior Secured Convertible notes due July 2007 (the “July2007 Notes”).

The January 2010Notes were issued pursuant to a Securities Purchase Agreement, dated January 3,2007, between the Company and the purchasers of the January 2010 Notes (the “JanuaryPurchase Agreement”).  Under the terms of the original January PurchaseAgreement, the Company agreed to repay or otherwise satisfy, within 5 daysafter the closing of the private placement, approximately $15,461 of theCompany’s outstanding debt under previously issued promissory notes, includingthe August 2007 Notes, the October 2006 Note, and August 2007 SubordinatedNotes (the “Debt Satisfaction Covenant”).  The Company originally agreedto this covenant based on assurances that a substantial number of holders ofthe August 2007 Notes would elect to convert their August 2007 Notes at areduced conversion price following the private placement under a noteconversion agreement proposed by the Company, but most of such holdersultimately elected not to proceed with such conversion.  Accordingly, inan effort to preserve funds, the Company has not yet repaid the indebtedness asrequired by the original January Purchase Agreement, and in April 2007, the Companyentered into an amendment to the January Purchase Agreement providing that theCompany will have until October 1, 2007 (or such earlier date on which theindebtedness to be repaid is due) to comply with the Debt SatisfactionCovenant.

On April 23, 2007,the Company and the purchasers of the Notes entered into an Amendment No. 1 tothe Securities Purchase Agreement to provide for the following: (1) The Companywill have until October 1, 2007 (or such earlier date on which the indebtednessto be repaid is due) to comply with the Debt Repayment Covenant; (2) Theschedule of investors in the Private Placement was finalized to show a total of$16,300 in principal amount of Notes was issued in the Private Placement; (3)The conversion price of the Notes was decreased from $1.55 to $1.10, thewarrant exercise price for the warrants issued in the Private Placement wasdecreased from $1.93 to $1.55, and the number of shares subject to suchwarrants issued in the Private Placement was increased to equal 50% of theprincipal amount of Notes purchased divided by 1.10; (4) the purchasers of theNotes will have the right to require the Company to redeem the Notes early inthe event that the Company sells its Liquidmetal Coatings business unit, sellsits manufacturing facility in South Korea, and/or engages in debt or equityfinancing, provided that the foregoing transactions result in aggregatecumulative proceeds of $25,000,000; and (5) the purchasers of the Notesconsented to the Company granting a security interest in its South Koreanmanufacturing plant to purchasers of convertible notes in a subsequentoffering, provided a  pari passu  security interest is granted to thepurchasers of the Notes.

Pursuant toStatement of Financial Accounting Standards No. 133, “Accounting for DerivativeInstruments 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 toCertain Convertible Instruments,” and EITF 05-2 “The Meaning of ‘ConventionalConvertible Debt Instrument’ in EITF Issue No. 00-19,” the original fair valueof the embedded conversion feature of $6,205 have been recorded as conversionfeature liability as the debt is considered nonconventional convertible debt.The original fair value was computed using the Black-Scholes model under thefollowing assumptions: (1) expected life of 1.6 to 3 years; (2) volatility of55%; (3) risk free interest of 4.69% to 4.76% and dividend rate of 0%. The original fair value of the additional embedded conversion feature of $1,005resulting from reduced conversion price under the amended Securities PurchaseAgreement, have been recorded as conversion feature liability. The value wascomputed using the Black-Scholes model under the following assumptions: (1)expected life of 1.3 to 2.7 years; (2) volatility of 55%; (3) risk freeinterest of 4.6% to 4.9% and dividend rate of 0%.  In addition, theCompany is required to report a value of the conversion liability as a fairvalue and record the fluctuation to the fair value of the conversion featureliability to current operations.

The change in thefair value of the conversion feature liability resulted in a loss of $8 and again of $3,963 for the three and six months ended June 30, 2007,respectively.  The fair value of conversion feature outstanding at June30, 2007 of $3,247 was computed using the Black-Scholes model under thefollowing assumptions: (1) expected life of 1.1 to 2.5 years; (2) volatility of55%, (3) risk free interest of 4.874% to 4.91% and dividend rate of 0%.

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Pursuant to EITF00-19, “Accounting for Derivative Financial Instruments Indexed to, andPotentially Settled in, a Company’s Own Stock”, the original fair values of thewarrants of $3,964 have been recorded as warrant liability, which was computedusing the Black-Scholes pricing model under the following assumptions: (1)expected life of 5 years; (2) volatility of 55%; (3) risk free interest of4.68% and (4) dividend rate of 0%.  The original fair values of thewarrants of $608 from the additional warrants issued under the amendedSecurities Purchase Agreement, have been recorded as additional warrantliability, which was computed using the Black-Scholes pricing model under thefollowing assumptions: (1) expected life of 4.70 years; (2) volatility of 50%;(3) risk free interest of 4.51% and (4) 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 again of $166 and $2,363 for the three and six months ended June 30, 2007,respectively.  The fair value of the warrants outstanding at June 30, 2007of $2,209 was computed using the Black-Scholes model under the followingassumptions: (1) expected life of 4.51 years; (2) volatility of 55%; (3) riskfree interest of 4.92% and dividend rate of 0%.

The original fairvalue of the embedded conversion feature of $7,210 was recorded as discounts ofthe convertible note.  The original fair value of the 7,408,881 warrantsissued to investors of $4,372, the original fair value of 248,710 warrantsissued to Placement Agents of $200, and $73 cash discount were recorded asdiscounts of the convertible note.  In addition, $2,069 direct costsincurred relating to issuance of the convertible note was recorded as debtissuance cost in other assets.

The January 2010Notes bear interest at 8% per annum with interest payable quarterly in arrearsin cash, or, at our option, in the form of additional January 2010 Notes (inwhich case the interest rate will be 10% per annum). The ability to payinterest with additional January 2010 Notes is subject to specified conditions,including the existence of an effective registration statement covering theresale of the shares issued in payment of interest and certain minimum tradingvolumes in the stock to be issued. From and after an event of default under theJanuary 2010 Notes and for so long as the event of default is continuing, theJanuary 2010 Notes will bear default interest at a rate of 12% per annum (or15% per annum if we elect to pay interest with additional January 2010 Notes).

Beginning July 31,2008 and at the end of each month thereafter, the Company will be required toredeem 1/36th of the principal amount of the January 2010 Notes in cash or, atthe Company’s election, with shares of our common stock. The ability to pay theredemption amounts with shares of common stock will be subject to specifiedconditions, including the existence of an effective registration statementcovering the resale of the shares issued in payment of the redemption amountand certain minimum trading volumes in the stock to be issued. Any unconvertedJanuary 2010 Notes will become due on December 31, 2009, although the Companywill have the right at any time after 18 months following the issuance of theJanuary 2010 Notes to redeem the January 2010 Notes in whole or in part for acash redemption price of 105% of the portion of the principal amount beingredeemed plus all accrued and unpaid interest thereon. The January 2010 Notesare unsecured and are subordinate to the July 2007 Notes and to certain securedfinancing from commercial lenders incurred by the Company in the future. The terms of the 2010 Notes also provide that the Company will be required tomaintain a sufficient bank balance to provide for the timely repayment of ourJuly 2007 Notes.

In connection withthe January 2007 private placement, the Company entered into a RegistrationRights Agreement with the purchasers of the January 2010 Notes under which theCompany is required, on or before 45 days after the closing of the privateplacement, to use commercially reasonable efforts to file a registrationstatement with the SEC covering the resale of the shares of the common stockissuable pursuant to the January 2010 Notes and warrants and to usecommercially reasonable efforts to have the registration declared effective atthe earliest date (but in no event later than 90 days after filing if there isno SEC review of the registration statement, or 120 days if there is an SECreview).  The Company will be subject to monetary penalties up to amaximum amount of 18% of the aggregate amount of Notes sold in the PrivatePlacement if the registration statement is not filed or does not becomeeffective on a timely basis. The monetary penalties will accrue at the rate of1% per month of the then-outstanding principal amount of the January 2010Notes. In the event that the Company is unable to include in the registrationstatement all shares of our common stock issuable pursuant to the January 2010Notes and warrants, then we will be required to file up to two additionalregistration statements to register the resale of any shares excluded from theoriginally filed registration statement and to pay the foregoing monetarypenalties on the January 2010 

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Notes convertibleinto the excluded shares until the resale of such excluded shares is covered byan effective registration statement or until such shares can be sold under SECRule 144.  As of June 30, 2007, an aggregate of $128 in monetary penaltiesunder the Registration Rights Agreement had already been paid to investors,while an additional $584 in such penalties were accrued but unpaid.

On March 22, 2007,one of the purchasers of the January 2010 Notes (holding January 2010 Notes inthe aggregate amount of $2.0 million) sent the Company an event of defaultnotice (“Event of Default Notice”) indicating that the Company had defaultedunder the January Purchase Agreement (and therefore under the January 2010Note) by failing to comply with the Debt Satisfaction Covenant.  Thisholder did not execute the April 2007 amendment to the January PurchaseAgreement.  In general, upon a breach of the January 2010 Notes or JanuaryPurchase Agreement, a holder of the January 2010 Notes may require us to redeemthe January 2010 Notes at a price equal to the greater of (i) the conversionamount to be redeemed and (ii) the product of (A) the conversion rate withrespect to such conversion amount in effect at such time as the purchaser ofthe January 2010 Note delivers an Event of Default Redemption Notice (asdefined below) and (B) the closing sale price of our common stock on the dateimmediately preceding such event of default.  Under the terms of theJanuary 2010 Notes and January Purchase Agreement, the Company has ten (10)business days after the receipt of an Event of Default Notice to cure a default. On April 6, 2007, the holder which sent the Event of Default Notice furthersent us an event of default redemption notice (“Event of Default RedemptionNotice”).  The Event of Default Redemption Notice states that the holderhas elected to require the Company to redeem its January 2010 Note for a priceequal to $2,000 (the amount of the January 2010 Note) plus accrued and unpaidinterest.  On April 16, 2007, the Company was served with a complaintfiled by the holder in the Federal District Court in Minnesota to collect thisamount.  Subsequent to June 30, 2007, theCompany received a notice that the action against the Company was dismissed bythe purchaser with prejudice (see Note 13).

In addition,because the Company repaid $1,763 of principal and interest under the October2006 Note and certain August 2007 Subordinated Notes in January and February2007 without first repaying the August 2007 Notes and July 2007 Notes, theCompany may also be in breach of the August 2007 Notes and July 2007 Notes.

The Company’sgross outstanding loan balance of the January 2010 Notes totaled $16,300 as ofJune 30, 2007.  As of June 30, 2007, un-amortized discounts for conversionfeature, warrants, and cash discount totaled $11,167, and other asset debtissuance costs totaled $1,085.  Interest expense for the amortization ofdebt issuance cost and discount on note was $373 and $754 for the three and sixmonths ended June 30, 2007, respectively.  As of June 30, 2007, theeffective interest rate of the January 2010 Notes was 74%.

FactoringAgreement

TheCompany entered into a Factoring, Loan, and Security Agreement (the “Agreement”)with a financing company on April 21, 2005, which allows for borrowings of upto $1,500.  The Agreement expires onApril 21, 2006, and automatically renews annually thereafter. All borrowingsare secured by outstanding receivables specifically assigned to the financingcompany.  Assigned receivables areconsidered “Approved” or “Non-Approved” by the financing company.  In January 2007, the Company entered into asecond amendment to the Agreement to provide for increased borrowings againstnon-approved receivables assigned of 80%. Borrowings made against non-approved receivables assigned are limited to$1,000 and total borrowings made on approved and non-approved receivablesassigned are limited to $5,000.  Further,the amendment provides for interest charges of 0.5% plus prime rate of interestless 2%.  The agreement will continueuntil February 1, 2008 and will renew annually thereafter.  Payments on assigned receivables are receiveddirectly by the financing company, and applied to outstanding advances.  All outstanding advances and uncollectedassigned receivables are subject to fees and interest charges ranging from0.55% to 1.5% plus prime rate as published by the Wall Street Journal, with aminimum annual fee of $30. All receivables assigned and advances made aresubject to return and recall by the financing company, respectively.  As such, the advances have been classified asshort-term secured borrowings in accordance with SFAS No. 140 “Accounting forTransfer and Servicing of Financial Assets and Extinguishments of Liabilities.”

Forthe six months ended June, 2007, the Company borrowed $8,563 and repaid $7,019under the Agreement.  The total outstandingadvance made under the agreement is $3,212 and $1,669 as of June 30, 2007 andDecember 31, 2006, respectively, which is presented as short-term debt.   The weighted average rate of interest forborrowings made under the 

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Agreementwas 8.92% for the six months ended June 30, 2007.  As of June 30, 2007, the Company’savailability for future borrowing under the agreement is $1,788 which iscontingent on approval of eligible receivables by the financing company.

In February 2007, the Company entered into anagreement to deposit cash of $2,083 with a rate of prime rate of interest less2% with the financing company.  Theagreement is effective until July 27, 2007 and the cash deposit will be used topay down principal amount of the July 2007 Notes.  Additionally, the financing company reservesthe right to offset outstanding advances against the cash deposit.  As a result, the $2,083 cash deposit ispresented as restricted cash as of June 30, 2007.

KookminNote

OnFebruary 4, 2003, our Korean subsidiary received 6,500,000 in South Korean Won,or approximately $5,488, under a loan from Kookmin Bank of South Korea.  The loan bears interest at an annual rate of7.1%.  In the event of delayed repayment,the interest increases to a maximum of 21%, depending on the length of time therepayment is delayed.  As of June 30,2007, the interest rate was increased to 9.2% from delayed interest paymentsmade.  This loan is collateralized by theplant facilities and certain equipment in South Korea.  During the first eighteen months from theorigination date, interest was payable on a monthly basis.  In October 2003, the Company paid $873 ofprincipal at the request of Kookmin Bank due to the sale of machines that hadbeen part of the collateral on the loan. Subsequent to October 31, 2003, Kookmin Bank requested that the Companypay an additional $866 of principal by February 2004 due to the Company’scurrent credit rating.  The Company madetwo payments on the requested additional loan pay down in November and December2003 of $320 and $205, respectively.  Theremaining payment of $341 was subsequently made in February 2004.  Beginning in September 2004, the Company isrequired to make equal monthly installments of principal and interest to repaythe remaining balance through February 2008. Principal payments made to Kookmin Bank totaled $894 for the six monthsended June 30, 2007, which includes $7 of foreign exchange translationloss.  The outstanding loan balancetotaled $909 and $1,796, of which $909 and $225 is included in current portionof long-term debt, as of June 30, 2007 and December 31, 2006, respectively.

**8.****             Stock CompensationPlan**

During the three and six months ended June 30, 2007, under the Company’s2002 Non-employee Director Stock Option Plan which provides for the grant ofstock options to non-employee directors, the Company granted options topurchase 70,000 of the Company’s common shares for an average exercise price of$1.53.  Further, all options grantedunder this plan had exercise prices that were equal to the fair market value onthe date of grant.

The Company canceled 329,903 and 429,653 options during the three andsix months ended June 30, 2007, respectively, for terminated employees andoptions expired.

**9.****             Segment Reporting and Geographic Information**

SFAS No. 131,*Disclosures about Segments of an Enterprise andRelated Information,*requires companies to provide certaininformation about their operating segments. In April 2002, the Company began classifying operations into tworeportable segments: Liquidmetal alloy industrial coatings and bulk Liquidmetalalloys.  The Liquidmetal alloy industrialcoatings are used primarily as a protective coating for industrial machineryand equipment, such as drill pipe used by the oil drilling industry and boilertubes used by coal burning power plants. Bulk Liquidmetal alloys include market opportunities to manufacture andsell casing components for electronic devices, medical devices, sporting goods,tooling, prototype sampling, defense applications and metal processingequipment.  Primarily, the expensesincurred by the bulk Liquidmetal alloy segment are research and developmentcosts and selling expenses associated with identifying and developing marketopportunities.  Bulk Liquidmetal alloysproducts can be distinguished from Liquidmetal alloy coatings in that the bulkLiquidmetal alloy can have significant thickness, up to approximately one inch,which allows for their use in a wider variety of applications other than a thinprotective coating applied to machinery and equipment.   Revenue and expenses associated withresearch and development services and product licensing arrangements areincluded in the bulk Liquidmetal alloy segment. The accounting policies of the reportable segments are the same as thosedescribed in Note 4 to the consolidated financial statements included in theCompany’s Form 10-K filed with the Securities and Exchange Commission on March16, 2006, as amended by Form 10-K/A filed on March 16, 2007.

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Summarizedfinancial information concerning the Company’s reportable segments is shown inthe following tables:
| ** **                                                         | ** ** | **Coatings** | ** ** | **Bulk Alloy** | ** ** | **Segment Totals** | ** ** |
|--------------------------------------------------------------------|------------|--------------|------------|---------------------|------------|-------------------------|------------|
| Three Months  Ended June 30, 2007                                  |       |         |       |                |       |                    |       |
| Revenue to external customers                                      |       | $            | 3,065      |                | $          | 5,266                   |       | $ | 8,331 |   |
| Gross profit (loss)                                                |       | 1,304        |       | (659                | )          | 645                     |       |
| Income (loss) before interest expense and  discontinued operations |       | 1,091        |       | (1,522              | )          | (431                    | )          |
| Total identifiable assets at end of period                         |       | 1,931        |       | 19,049              |       | 20,980                  |       |
|                                                               |       |         |       |                |       |                    |       |
| Three Months  Ended June 30, 2006                                  |       |         |       |                |       |                    |       |
| Revenue to external customers                                      |       | $            | 1,743      |                | $          | 5,347                   |       | $ | 7,090 |   |
| Gross profit                                                       |       | 674          |       | 852                 |       | 1,526                   |       |
| Income (loss) before interest expense and  discontinued operations |       | 477          |       | 31                  |       | 508                     |       |
| Total identifiable assets at end of period                         |       | 1,002        |       | 19,584              |       | 20,586                  |       |
|                                                               |       |         |       |                |       |                    |       |
| Six Months Ended  June 30, 2007                                    |       |         |       |                |       |                    |       |
| Revenue to external customers                                      |       | $            | 5,789      |                | $          | 7,609                   |       | $ | 13,398 |   |
| Gross profit                                                       |       | 2,563        |       | (3,292              | )          | (729                    | )          |
| Income (loss) before interest expense and  discontinued operations |       | 1,886        |       | (4,266              | )          | (2,380                  | )          |
| Total identifiable assets at end of period                         |       | 1,931        |       | 19,049              |       | 20,980                  |       |
|                                                               |       |         |       |                |       |                    |       |
| Six Months Ended  June 30, 2006                                    |       |         |       |                |       |                    |       |
| Revenue to external customers                                      |       | $            | 4,127      |                | $          | 9,518                   |       | $ | 13,645 |   |
| Gross profit (loss)                                                |       | 1,664        |       | 1,094               |       | 2,758                   |       |
| Income (loss) before interest expense and  discontinued operations |       | 1,282        |       | (355                | )          | 927                     |       |
| Total identifiable assets at end of period                         |       | 1,002        |       | 19,584              |       | 20,586                  |       |

 

Reconciling information between reportable segments and the Company’sconsolidated totals is shown in the following table:
| ** **                                                                        | ** ** | **For the Three Months** | ** ** | **For the Six Months** | ** ** |
|-----------------------------------------------------------------------------------|------------|-----------------------------------------|------------|---------------------------------------|------------|
| ** **                                                                        | ** ** | **Ended June 30,**            | ** ** | **Ended June 30,**          | ** ** |
| ** **                                                                        | ** ** | **2007**                                | ** ** | **2006**                              | ** ** | **2007** | ** ** | **2006** | ** ** |
|                                                                              |       |                                    |       |                                  |       |   |   |   |   |
| Total segment  (loss) income before minority interest, interest expense           |       | $                                       | (431       | )                                     | $          | 508 |   | $ | (2,380 | ) | $ | 927 |   |
| General and administrative expenses, excluded                                     |       | (1,663                                  | )          | (1,539                                | )          | (3,883 | ) | (3,155 | ) |
|                                                                              |       |                                    |       |                                  |       |   |   |   |   |
| Consolidated  loss before interest, other income, income taxes, minority interest |       | (2,094                                  | )          | (1,031                                | )          | (6,263 | ) | (2,228 | ) |
| Loss from extinguishments of debt                                                 |       | —                                  |       | —                                |       | (648 | ) | — |   |
| Change in value of warrants, net                                                  |       | 564                                     |       | (1,426                                | )          | 4,256 |   | (2,715 | ) |
| Change in value of conversion feature                                             |       | 1,168                                   |       | (2,137                                | )          | 5,512 |   | (3,920 | ) |
| Interest expense                                                                  |       | (2,700                                  | )          | (3,277                                | )          | (5,463 | ) | (5,059 | ) |
| Interest income                                                                   |       | 46                                      |       | 7                                     |       | 107 |   | 9 |   |
| Consolidated net loss                                                             |       | $                                       | (3,016     | )                                     | $          | (7,864 | ) | $ | (2,499 | ) | $ | (13,913 | ) |

 

Includedin bulk alloy segment income for both the three and six months ended June 30,2007 is $49 of other income from gain on disposal of assets in connection withthe equipment purchase agreement and transfer agreement of the Weihaioperations to Grace Metal (see Note 12).

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Excludedgeneral and administrative expenses are attributable to the Company’s corporateheadquarters.  These expenses primarilyinclude corporate salaries, consulting, professional fees and facilitycosts.  Research and development expensesare included in the operating costs of the segment that performed the researchand development.

Revenues from sales to companies in the United Stateswere $3,055 and $3,150 during the three months ended June 30, 2007 and 2006,respectively.  The revenue related to theUnited States of America was earned under defense-related research anddevelopment contracts, sales of coatings products, and sales of Liquidmetalbulk alloy products.

During the three months ended June 30, 2007, theCompany had revenue from sales to companies outside of the United States of$5,276 of which $4,241 represented sales to companies located in SouthKorea.  During the three months endedJune 30, 2006, the Company had revenues from companies outside of the UnitedStates of $3,940 of which $1,043 represented sales to companies located inSouth Korea.  The revenue related tosales to companies outside of the United States was from bulk alloy products.

Long-livedassets include net property, plant, and equipment, and net intangible assets.The Company had long-lived assets of $2,027 and $1,439 located in the UnitedStates at June 30, 2007 and December 31, 2006, respectively. The Company hadlong-lived assets of $9,962 and $11,799 located in South Korea at June 30, 2007and December 31, 2006, respectively.

Reconcilinginformation between reportable segments and the Company’s consolidated totalsis shown in the following table:
|                                           | ** ** | **June 30,** | ** ** |
|-------------------------------------------|------------|-------------------|------------|
| ** **                                | ** ** | **2007**          | ** ** |
|                                      |       |              |       |
| Total segment assets                      |       | $                 | 20,980     |   |
| Cash and cash equivalents                 |       | 1,148             |       |
| Restricted cash                           |       | 2,083             |       |
| Prepaid expenses and other current assets |       | 577               |       |
| Other property, plant and equipment       |       | 518               |       |
| Intangibles, net                          |       | 1,144             |       |
| Other assets                              |       | 94                |       |
| Total consolidated assets                 |       | $                 | 26,544     |   |

 

Assets excluded from segment assets include assetsattributable to the Company’s corporate headquarters.  The Company’s largest assets consist of cashand intangible assets, which consist primarily of the Company’s patents andtrademarks.

**10.      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.

Optionsto purchase 7,433,438 shares of common stock at prices ranging from $0.77 to$15.00 per share were outstanding at June 30, 2007, but were not included inthe computation of diluted EPS for the same period as the inclusion would havebeen antidilutive.  Warrants to purchase13,278,651 shares of common stock with prices ranging from $1.55 to $2.13 pershare outstanding at June 30, 2007, were not included in the computation ofdiluted EPS for the same period as the inclusion would have been antidilutive.  Additionally,21,007,949 shares of common stock issuable upon conversion of the Company’sconvertible notes with conversion prices between $1.00 and $1.75 per shareoutstanding at June 30, 2007 were not included in the computation of dilutedEPS for the same period because the inclusion would have been antidilutive.

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**11.      Commitmentsand Contingencies**

The Company is from time to time a party to certainlegal proceedings arising in the ordinary course of business. Although outcomescannot be predicted with certainty, the Company does not believe that any legalproceeding to which it is a party will have a material adverse effect on theCompany’s financial position, results of operations, and cash flows.

InApril 2006, we reached agreements-in-principle to settle our previously-disclosedconsolidated securities class action and shareholder derivative actions for atotal of $7,500; $7,025 for the class action and $475 for the derivativeactions.  In addition, we will commit tomaintain or implement various corporate governance measures in connection withthe settlement of the derivative actions.

Theconsolidated class action arose from a number of lawsuits filed in 2004 againstour company and certain of our former and current directors and officers onbehalf of persons who purchased our common stock between May 21, 2002 andMay 13, 2004.  These actions, which were brought underthe federal securities laws, alleged that the Prospectus issued inconnection with our initial public offering in May 2002 contained materialmisrepresentations and omissions regarding our historical financial conditionand regarding a personal stock transaction by our former chief executiveofficer.  They also alleged that our company and certain of our presentand former officers and directors engaged in improper revenue recognition withrespect to certain of our business transactions, failed to maintain adequateinternal controls, and knowingly disclosed unrealistic but favorableinformation about market demand for and commercial viability of our products toartificially inflate the value of our stock. On October 19, 2006, the presiding judge entered an Order giving finalapproval of the class action settlement. In connection with the settlement, our directors and officers’ liabilityinsurers contributed $7,025 to a settlement fund, from which approved claims ofeligible class members will be paid in accordance with a court-approved plan ofallocation.  Taking into account theinsurance contribution, the net cost of the settlement to our company isapproximately $475, which is the insurance deductible we paid over severalquarters ending in the third quarter of 2005, and which was previously recordedas a charge.

Inaddition, in May 2004, two shareholder derivative actions were filed inthe Superior Court of Orange County, California and later consolidated. Shortly thereafter, one additional shareholder derivative action was filed inthe United States District Court for the Middle District of Florida, TampaDivision.  These derivative actions were brought by certain shareholdersagainst certain of our present and former officers and directors as well as ourcompany (as a nominal defendant).  The suits alleged that the defendantsbreached various fiduciary duties and otherwise violated state law based primarilyupon the same facts and circumstances underlying thefederal securities class action.  On August 2, 2006, plaintiffs’counsel in the California derivative action filed a Notice of Settlement in theSuperior Court.  The action is presentlystayed while the parties’ counsel negotiates and prepares formal settlementdocuments.  Final documentation andapproval of the settlement of the derivative actions remains outstanding.

InAugust 2006, the United States Department of Justice (“DOJ”) instituted a grandjury proceeding in the Middle District of Florida to investigate, among otherthings, alleged accounting improprieties in relation to certain of our businesstransactions and a personal stock transaction by our former chief executiveofficer.  The grand jury proceeding isbased primarily upon the same underlying facts and circumstances as alleged inthe federal class action and shareholder derivative actions.  To date, subpoenas for the production ofdocuments and/or grand jury testimony have been issued to our company andseveral present and former officers and directors.  We are cooperating with the DOJ in itsinvestigation.

OnJanuary 3, 2007, we completed a private placement of new 8% ConvertibleSubordinated Notes due January 2010 (the “January 2010 Notes”) that, asamended, provided for the issuance of $16,300 in principal amount of January2010 Notes.  The January 2010 Notes wereissued pursuant to a Securities Purchase Agreement, dated January 3, 2007,between our company and the purchasers of the January 2010 Notes (the “JanuaryPurchase Agreement”).  Under the terms ofthe original January Purchase Agreement, we agreed to repay or otherwisesatisfy, within 5 days after the closing of the private placement,approximately $15,461 of our outstanding debt under previously issuedpromissory notes, including the August 2007 Notes, the Atlantic Note, and NewBridge Notes (the “Debt Satisfaction Covenant”).  We originally agreed to this covenant basedon assurances that a substantial number of holders of the August 2007 Noteswould elect to convert their August 2007 Notes at a reduced conversion pricefollowing the private placement under a note conversion agreement proposed byus, but most of

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suchholders ultimately elected not to proceed with such conversion.  Accordingly, in an effort to preserve funds,we have not yet repaid the indebtedness as required by the original JanuaryPurchase Agreement, and in April 2007, we entered into an amendment to theJanuary Purchase Agreement providing that we will have until October 1, 2007(or such earlier date on which the indebtedness to be repaid is due) to complywith the Debt Satisfaction Covenant.

OnMarch 22, 2007, one of the purchasers of the January 2010 Notes (holdingJanuary 2010 Notes in the aggregate amount of $2,000) sent us an event ofdefault notice (“Event of Default Notice”) indicating that we had defaultedunder the January Purchase Agreement (and therefore under the January 2010Note) by failing to comply with the Debt Satisfaction Covenant.  This holder did not execute the April 2007amendment to the January Purchase Agreement. In general, upon a breach of the January 2010 Notes or January PurchaseAgreement, a holder of the January 2010 Notes may require us to redeem theJanuary 2010 Notes at a price equal to the greater of (i) the conversion amountto be redeemed and (ii) the product of (A) the conversion rate with respect tosuch conversion amount in effect at such time as the purchaser of the January2010 Note delivers an Event of Default Redemption Notice (as defined below) and(B) the closing sale price of our common stock on the date immediatelypreceding such event of default.  Underthe terms of the January 2010 Notes and January Purchase Agreement, we have ten(10) business days after the receipt of an Event of Default Notice to cure adefault.  On April 6, 2007, the holderwhich sent the Event of Default Notice further sent us an event of defaultredemption notice (“Event of Default Redemption Notice”).  The Event of Default Redemption Notice statesthat the holder has elected to require us to redeem its January 2010 Note for aprice equal to $2,000 (the amount of the January 2010 Note) plus accrued andunpaid interest.  On April 16, 2007, wewere served with a complaint filed by the holder in the Federal District Courtin Minnesota to collect this amount.  OnJuly 17, 2007, the Company received notice that the purchaser had assigned theNote to another investor and that the purchaser would therefore dismiss thepending action.  In accordance with theterms of the notice, the action against the Company was dismissed by thepurchaser with prejudice on July 18, 2007 (see Note 13).

In March 1996, the Company entered into a distributionagreement whereby it granted to a third party exclusive rights to market andsell golf products incorporating Liquidmetal Technology to certain Japanesesporting equipment companies.  The thirdparty paid the Company a $1,000 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.  The remainingunearned distribution fee of $830 had not been refunded.  On March 28, 2003, the distribution agreementwas terminated and the Company entered into a new agreement to pay to the samethird party a commission on the net sales price of all Liquidmetal golfequipment that is shipped by the Company or its affiliates to Japanese golfcompanies for sale into the Japanese end-market.  This commission was to be applied to golfequipment shipped by the Company or its affiliates during the period beginningon March 28, 2003 and ending on March 28, 2006. If, by March 28, 2006, the Company has not paid $350 in commissionpayments, the balance between commission paid and $350 were to be paid by April30, 2006, thereby guaranteeing the third party a $350 minimum payment duringthe term of the agreement.  As of June30, 2007 the Company has paid $30 of commission.  As of June 30, 2007, $320 remains asliability and is included in accounts payable and accrued liabilities.

On June 26,2006, the Company entered into a joint venture agreement with SAGA, SpA inPadova, Italy, (“SAGA”) a specialist precision parts manufacturer.  Thejoint venture is named Liquidmetal SAGA Italy, Srl (“LSI”).  The Companyalso entered into an exclusive manufacturing license agreement for the eyewearindustry with LSI.  Under the joint venture agreement, the Company hasoption to buy ownership interest in LSI, initially, of 19.9% to up to50%.  In December 2006, the Company exercised the 19.9% interest in LSIand will have two years to purchase the additional interest at a nominalprice. InJanuary 2007 and June 2007, the Company contributed additional $217 and $86,respectively, into LSI as additional investment.  The contribution did notchange the Company’s 19.9% interest in LSI. Under thelicensing agreement, at any time following 18 months after the effective dateof the agreement, LSI may exercise its option to sell to the Company certainbusiness assets including manufacturing equipment acquired under the jointventure.  During year ended December 31, 2006, the Companyrecognized revenues of $702 of Liquidmetal alloys sold to SAGA for use in thejoint venture. Company anticipates the alloys to be fully utilized by the joint ventureprior to the 18 month period.  There wereno revenues recognized from the joint venture for the six months ended June 30,2007.

On June 1, 2007, LiquidmetalTechnologies, Inc., a Delaware corporation (the “Company”), entered into adefinitive purchase agreement (the “Purchase Agreement”) with Foster WheelerEnergy Services, Inc., a California corporation (“FWESI”), to acquiresubstantially all of the equipment, inventory, and other physical assets ofFWESI’s thermal spray coatings business

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unit (the “Purchase Assets”). The business unit was engaged in the business of applying thermal spraymetallic coatings in industrial applications, including primarily the oildrilling industry.  The purchase price of the Purchased Assets was $750, ofwhich $300 was paid on the closing date.  The balance of the purchaseprice is payable as follows:  $100 on December 1, 2007, $100 on March 1,2008, $100 on June 1, 2008, and $150 due on June 1, 2009, all of which arerecorded in accounts payable and accrued expenses at June 30, 2007.  TheCompany’s payment of the purchase price is secured by a security interest inthe Purchased Assets.   The Purchase Agreement also provides thatFWESI will engage the Company as its exclusive subcontractor through December1, 2009 to perform any work on FWESI projects that require the use of thePurchased Assets.  The Company will continue to operate the acquiredthermal spray business from FWESI’s business location in Dothan, Alabama, andthe Purchased Assets will be operated as a part of the Company’s LiquidmetalCoatings business unit.

**12.      Related Party Transactions**

InJune 2003, the Company entered into an exclusive, ten-year license agreementwith LLPG, Inc. (“LLPG”), a corporation headed by, Jack Chitayat, a formerdirector of the Company.  Under the terms of the agreement, LLPG has theright to commercialize Liquidmetal alloys, particularly precious-metal basedcompositions, in jewelry and high-end luxury product markets.  TheCompany, in turn, will receive royalty payments over the life of the contracton all Liquidmetal products produced and sold by LLPG.  In conjunctionwith its technology licensing contract, LLPG purchased two proprietaryLiquidmetal alloy melting machines and three proprietary Liquidmetal alloycasting machines for a total purchase price of $2,000.

InDecember 2006, the Company entered into an amended license agreement with LLPG,which extended the license agreement to fifteen years at reduced royalty rates. Additionally, the amended license agreement includes a $400 terminationfee to be paid out in quarterly installments in 2007.  The termination feewill be recognized as revenue when received in 2007. The Company recognized $25for the of revenue as minimum royalty fees under the licensing agreement duringthe three and six months ended June 30, 2007.

The Company has a license agreement with CaliforniaInstitute of Technology (“Caltech”) under which we exclusively license fromCaltech certain inventions and technology relating to amorphous alloys. Professor William Johnson, a member of the Company’s board of directors, is aprofessor at Caltech, and substantially all of the amorphous alloy technologylicensed to us under the Caltech license agreement was developed in ProfessorJohnson’s Caltech laboratory.   Additionally, the Company reimbursesCaltech for laboratory expenses incurred by Professor Johnson’s Caltechlaboratory, which during the three and six months ended June 30, 2007 amountedto $0 and $30, respectively.  Thelaboratory expenses incurred by Professor Johnson’s Caltech laboratory duringthe three and six months ended June 30, 2006 amounted to $0 and $30,respectively.

Additionally, the Company is a party to a consultingagreement with Mr. Johnson.  Under thisagreement, Mr. Johnson provides consulting services on an as-needed basisthrough 2004 as it relates to marketing and development Liquidmetal alloy.  During 2005, the agreement continued on amonth to month basis.  In April 2006, theCompany entered into an agreement with Mr. Johnson effective from January 1,2006 through December 31, 2006.  During the three and six months ended June 30, 2007the Company incurred $15 and $31 in consulting fees from Mr. Johnson,respectively.  During the three and sixmonths ended June 30, 2006, the Company incurred $15 and $15 in consulting feesfrom Mr. Johnson, respectively.

The Company is a party to aconsulting agreement with Chitnis Consulting, Inc., which is owned 100% byShekhar Chitnis, a former director and executive officer of the Company.  Under this agreement, the Company engagedChitnis Consulting to provide consulting services on an as-needed basis throughDecember 31, 2005.  On January 1, 2007,the term of the agreement was extended to December 31, 2007.  During the three and six months ended June30, 2007, the Company incurred $0 in consulting fees from Chitnis Consulting,respectively.  During each of the threeand six months ended June 30, 2006, the Company incurred $13 and $25 inconsulting fees from Chitnis Consulting, respectively.

In November 2004, the Companyentered into an agreement with John Kang, our Chairman, President, and ChiefExecutive Officer, in which Mr. Kang agreed that certain stock transactions byhim in 2002 involving our common stock should have resulted in a liability underSection 16(b) of the Securities Exchange Act of 1934, as amended (“Section16(b)”).  These transactions include Mr.Kang’s private sale of 285,715 shares of his personal Liquidmetal Technologiescommon stock to Growell Metal Co., Ltd. in February 2002, prior to our initialpublic offering.  They also include Mr.Kang’s subsequent 

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indirect purchase and dispositionof Liquidmetal Technologies common stock in order to satisfy a personalagreement Mr. Kang made to Growell Metal in February 2002 regarding theguaranteed minimum value of the stock purchased by Growell Metal in February2002 (the purchases and dispositions incident to this agreement occurred inAugust and November 2002, respectively). Lastly, the transactions include open-market purchases of an aggregateof 89,300 shares of our common stock made by Mr. Kang in August 2002.

The Audit Committee of the Company’s Board ofDirectors conducted an independent inquiry into the above-describedtransactions with the aid of independent legal counsel and, as a result of suchinquiry, the Audit Committee concluded that the transactions should haveresulted in a liability to the Company under Section 16(b) in the amount of$302.  Mr. Kang has acknowledged thisliability, and in an agreement negotiated between Mr. Kang and the AuditCommittee and approved by the full Board, Mr. Kang will pay this liabilitythrough periodic installments in 2005 and 2007. As a result, the Company accrued for the $302 receivable in other assetsand other income as of December 31, 2004. The above-described transactions involving GrowellMetal was reported on a new Form 4 filed by Mr. Kang on November15, 2004, and the open-market purchases were previously reported on a timelybasis in August 2002.  As of June 30,2007, the outstanding amount of the receivable was $235, which is included inprepaid and other current assets.

During 2006, the Companypurchased production supplies and molds from Grace Metal, Lead Metal, and SDM,which are controlled by James Kang, a former director and officer of theCompany.  The Company purchased a totalof $103 and $244 for the three and six months ended June 30, 2007, of which $89is included in accounts payable and accrued liabilities at June 30, 2007.  The Company purchased a total of $466 for theyear ended December 31, 2006, of which, $10 is included in accounts payable andaccrued liabilities at December 31, 2006. Effective October 20, 2006, Mr. Kang began providing services to theCompany as a consultant.  For the threeand six months ended June 30, 2006, the Company incurred $50 and $100,respectively, for his services as consultant.

Additionally, on June 1, 2007,the Company entered into a transaction with Grace Metal (“GM”), under which (i)GM agreed to purchase from us various equipment (including die casting machinesand vacuum induction melters) used in the Company’s bulk amorphous alloybusiness segment and (ii) we granted GM a 10-year exclusive license tomanufacture products made from bulk Liquidmetal alloys for customers whoseprincipal headquarters or whose major operations are located in SouthKorea.  Under an equipment purchaseagreement between us and GM, GM agreed to buy the purchased equipment for atotal purchase price of $2,000, of which $100 were received as of June 30,2007.  The equipment purchase agreementprovides that delivery of the equipment can be delayed to accommodate ourcontinuing manufacturing needs, and it also provides that we will retain asecurity interest in the purchased equipment until full payment of the purchaseprice.

In consideration of the licenseagreement with GM, we will be entitled to royalty of 10% of GM’s net sales oflicensed products (unless GM’s margin on the products falls below specifiedlevels, in which case a new royalty will be negotiated in good faith).  The agreement provides that we may convertthe license to a non-exclusive in the event that the net sales in the secondyear of the contract or thereafter are not sufficient to result in royalties of$500 or more per year.  The agreement alsoprovides that GM will be required to purchase all alloy feedstock from us, andwe will have the right to continue to manufacture Liquidmetal alloy productsfor South Korean customers until all purchased equipment has been commissioned.

Additionally, effective June 1,2007, we discontinued our post-processing operation in Weihai, China andtransferred our manufacturing staff and equipment in Weihai to GM under anamendment to the equipment purchase agreement with GM.  Further, we transferred certain of ourmanufacturing staff from our South Korean plant to GM.  As a result, GM assumed $370 of accruedseverance liability for the transferred employee.  The equipment purchase agreement and thetransfer agreement regarding our Weihai operations resulted in a total net gainof $143, which is recorded as other income.

We have also changed the name ofour South Korean subsidiary to Liquidmetal Technologies Korea Co., Ltd, whichwas formerly Liquidmetal Korea Co., Ltd. GM will assume the name Liquidmetal Korea to conduct business in SouthKorea.

**13.      Subsequent Events**

OnMarch 22, 2007, we were served with an event of default notice (“Event ofDefault Notice”) by one of the purchasers of the January 2010 Notes for failingto comply with the Debt Satisfaction Covenant (see Note 7).  On April 6, 2007, the same 

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holderwhich sent the Event of Default notice further sent us and event of redemptionnotice.  On April 16, 2007, we wereserved with a complaint filed by the holder in the Federal District Court inMinnesota to collect this amount.  OnJuly 17, 2007, we received notice that the purchaser had assigned the Note toCarlyle Liquid, a company headed by Jack Chitayat, our former director, andthat the purchaser would therefore dismiss the pending action.  In accordance with the terms of the notice,the action against the Company was dismissed by the purchaser with prejudice onJuly 18, 2007.

OnJuly 24, 2007, we completed an $11,095 financing transaction (the“Transaction”) that provided us with funding to repay convertible notespreviously issued by us that were scheduled to become due in July and August2007.  In the Transaction, we transferred substantially all of the assetsof the Company’s Liquidmetal Coatings division (the “Division”) to a newlyformed, newly capitalized subsidiary named Liquidmetal Coatings, LLC, aDelaware limited liability company (“LMC”), and LMC assumed substantially allof the liabilities of the Division.  LMC was capitalized through a $6,500subordinated debt and equity investment by C 3  Capital Partners and a$5,000 senior credit facility with Bank Midwest, N.A., both out of Kansas City,Missouri.  The transaction resulted innet cash proceed of $11,095 after related debt issuance costs of $405, whichLMC used to purchase all of the assets and liabilities of the Division from theCompany.  The Company will retain a 69.25%interest in LMC, and the remaining 30.75% of the equity of LMC will be held byC 3  Capital Partners, Larry Buffington (who will also serve as thePresident and CEO of LMC), and CRESO Capital Partners (the financial advisor inthe Transaction).

Inconnection with the above Transaction, we entered into Amendment No. 3 to theFactoring, Loan, and Security Agreement originally entered into with afinancing company in April 2005, to exclude intellectual property transferredto LMC as collateral and to release security interest in receivables previouslyassigned in consideration of full repayment of the outstanding advances.  We paid $628 and the financing companyapplied the $2,083 cash deposit held against the outstanding advance of $2,711on July 23, 2007.  Additionally, thefinancing company reduced the borrowings against non-approved receivablesassigned to 50% of the receivable value.

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**Item 2.  Management’s Discussion and Analysis ofFinancial Condition and Results of Operations**

*This management’s discussion and analysis should be read inconjunction with the condensed consolidated financial statements and notesincluded elsewhere in this report on Form 10-Q.*

*This management’s discussion and analysis, as well as othersections of this report on Form 10-Q, may contain “forward-lookingstatements” that involve risks and uncertainties, including statementsregarding our plans, future events, objectives, expectations, forecasts, orassumptions. Any statement that is not a statement of historical fact is aforward-looking statement, and in some cases, words such as “believe,”“estimate,” “ project,” “expect,” “intend,” “may,” “anticipate,” “plans,”“seeks,” and similar expressions identify forward-looking statements. Thesestatements involve risks and uncertainties that could cause actual outcomes andresults to differ materially from the anticipated outcomes or results, andundue reliance should not be placed on these statements. These risks anduncertainties include, but are not limited to, the matters discussed under thecaption “Factors Affecting Future Results” in our Annual Report on Form 10-Kfor the fiscal year ended December 31, 2006 and other risks and uncertaintiesdiscussed in filings made with the Securities and Exchange Commission(including risks described in subsequent reports on Form 10-Q,Form 10-K, Form 8-K, and other filings). Liquidmetal Technologiesdisclaims any intention or obligation to update or revise any forward-lookingstatements, whether as a result of new information, future events, orotherwise.*

**Overview**

We are a materials technology company that developsand commercializes products made from amorphous alloys.  Our Liquidmetal® family of alloys consists ofa variety of coatings, powders, bulk alloys, and composites that utilize theadvantages offered by amorphous alloy technology.  We develop, manufacture, and sell productsand components from bulk amorphous alloys that are incorporated into thefinished goods of our customers, and we also market and sell amorphous alloyindustrial coatings.  We also partnerwith third-party licensees and distributors to develop and commercializeLiquidmetal alloy products.  We have theexclusive right to develop, manufacture, and sell what we believe are the onlycommercially viable bulk 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 alloys supplantingother incumbent materials in a wide variety of applications. Moreover, webelieve these advantages will enable the introduction of entirely new productsand applications that are not possible or commercially viable with othermaterials.

Our revenuesare derived from two principal operating segments: Liquidmetal alloy industrialcoatings and bulk Liquidmetal alloy products. 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 in coal-burning power plants. Thehistorical operating information for fiscal year 2001 is based substantially onsales of Liquidmetal alloy coatings. In the second half of 2002, we beganproducing bulk Liquidmetal alloy components and products for incorporation intoour customers’ finished goods. Bulk Liquidmetal alloy segment revenue includessales of parts or components of electronic devices, medical products, andsports and leisure goods, tooling and prototype parts (including demonstrationparts and test samples) for customers with products in development, productlicensing and arrangements, and research and development revenue relatingprimarily to defense and medical applications. We expect that these sources of revenue will continue to significantlychange 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, stock-basedcompensation, severance costs, travel, consulting and professional fees, depreciationand amortization, insurance, office and administrative expenses, and otherexpenses related to our operations.

Research and development expenses represent salaries,related benefits expense, depreciation of research equipment, consulting andcontract services, expenses incurred for the design and testing of newprocessing methods, expenses for the development of sample and prototypeproducts, and other expenses related to the research and development ofLiquidmetal alloys. Costs associated with research and development activitiesare expensed as incurred. We plan to enhance our competitive position byimproving our existing technologies and developing advances in amorphous alloytechnologies. We believe that our research and development efforts will focuson the discovery of new alloy compositions, the development of improvedprocessing technology, and the identification of new applications for ouralloys.

In a connection to an equipmentpurchase agreement entered into with Grace Metal (“GM”), a South Koreancorporation, effective June 1, 2007, we discontinued our post-processingoperation in Weihai, China and transferred our manufacturing staff andequipment in Weihai to GM under an amendment to the equipment purchaseagreement with GM.  Further, we transferredcertain of our manufacturing staff from our South Korean plant to GM.  GM was formed by an investor group thatincludes the former Founder and director of our company, James Kang, who isalso the brother of John Kang, Chairman of the Board of our company.  We have also changed the name of our SouthKorean subsidiary to Liquidmetal Technologies Korea Co., Ltd, which wasformerly Liquidmetal Korea Co., Ltd.  GMwill assume the name of Liquidmetal Korea to conduct business in South Korea.

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

**Critical Accounting Policies andEstimates**

The preparation of condensed consolidated financialstatements in conformity with accounting principles generally accepted in theUnited States requires us to make estimates and assumptions that affectreported amounts of assets and liabilities and disclosure of contingent assetsand liabilities at the date of the financial statements and the reportedamounts of revenues and expenses during the reporting period.  These estimates and assumptions are based onhistorical experience and various other factors that are believed to be reasonableunder the circumstances.  Actual resultscould differ materially from these estimates under different assumptions orconditions.

We believethat the following 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:

·       Exchangerate fluctuations 

·       Warranty accrual

·       Allowancefor doubtful accounts

·       Inventoriesat lower of cost or net realizable value

·       Deferredtax assets

·       Valuationof derivatives of warrants and embedded conversion features

Our Annual Report on Form 10-K for the yearended December 31, 2006,contains further discussions on our critical accounting policies and estimates.

The company adopted Statement of Financial AccountingStandards No. 123, Share-Based Payment (“SFAS 123R”), onJanuary 1, 2006. This new standard requires companies to expense the fairvalue of employee stock options and similar awards. The company adopted SFAS123R using the modified prospective transition method. Therefore, stock basedcompensation expense measured in accordance with SFAS 123R was recorded duringthe first quarter of 2006, but the prior year consolidated statement of incomewas not restated. The adoption of SFAS 123R resulted in incremental expense of$0.2 and $0.4 million for the three and six months ended June 30, 2007,respectively, and $0.2 and $0.6 million for the three and six months ended June30, 2006, respectively.

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**Resultsof Operations**

Comparison ofthe three months ended June 30, 2007 and 2006

*Revenue.* Revenue increased $1.2 million to$8.3 million for the three months ended June 30, 2007 from $7.1 millionfor the three months ended June 30, 2006.  The increase consisted of anincrease of $1.3 million from the sales of our coating products as a result ofincrease in demand from oil drilling applications offset by a decrease of $0.1million from our research and development contracts.

*Cost of Sales.* Cost of sales increased to$7.7 million, or 92% of revenue, for the three months ended June 30, 2007 from$5.6 million, or 78% of revenue, for the three months ended June 30,2006.  The increases were a result of increases in our Liquidmetalcoatings business and higher manufacturing costs of new production items in ourLiquidmetal bulk alloy business.  Significant portions of ourmanufacturing costs continue to remain fixed.  We believe that highermanufacturing volumes and greater mix of higher-margin products in the futurewill cause the gross profit to improve over time.  The cost to manufactureparts from our bulk Liquidmetal alloys is variable and differs based on theunique 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 increased to $2.5 million,or 30% of revenue, for the three months ended June 30, 2007 from$2.4 million, or 33% of revenue, for the three months ended June 30, 2006.This increase was primarily a result of increases in professional andconsulting fees of $0.4 million and increases in bad debt expense of $0.1million offset by a decrease in wages and expenses of $0.4 million.

*Research and Development Expenses*.Research and development expenses remained at $0.3 million, or 4% ofrevenue, for the three months ended June 30, 2007 and 2006. The Companycontinues to perform research and development of new Liquidmetal alloys andrelated processing capabilities, develop new manufacturing techniques, andcontract with consultants to advance the development of Liquidmetal alloys.

*Change in Value of Warrants. *Change invalue of warrants increased to a gain of $0.6 million, or 7% of revenue, forthe three months ended June 30, 2007 from a loss of $1.4 million, or 20% ofrevenue, for the three months ended June 30, 2006.  The change in value of warrants consisted ofwarrants issued from convertible notes and subordinated notes funded between2004 and 2007 primarily as a result of fluctuations in our stock price.

*Change in Value of Conversion Feature.*Change in the value of our conversionfeature liability from our convertible notes funded between 2004 and 2007resulted in a gain of $1.2 million, or 14% of revenue, during the three monthsended June 30, 2007 from a loss of $2.1 million, or 30% of revenue, for thethree months ended June 30, 2006, primarily as a result of fluctuations in ourstock price.

*Other Income.*  Other income decreased to $49thousand, during the three months ended June 30, 2007, primarily from gainrecognized from disposal of assets, from $0.1 million, or 1% of revenue for thethree months ended June 30, 2006 due to gain recognized from disposal of idleequipment.

*Interest Expense*. Interest expense was $2.7million, or 32% of revenue, for the three months ended June 30, 2007 and was$3.3 million, or 46% of revenue, for the three months ended June 30, 2006.Interest expense consists primarily of debt amortization and interest accruedon outstanding convertible and subordinated notes, borrowings under the April2005 factoring, loan, and security agreement and the Kookmin loan.  The decrease was due to debt conversion,decreased debt discount amortization and decrease in interest costs accrued forlate filing penalties during the three months ended June 30, 2007.

*Interest Income.* Interest income was $46 thousand for the threemonths ended June 30, 2007 and was $7 thousand for the three months ended June30, 2006 from interest earned on cash deposits.

Comparison ofthe six months ended June 30, 2007 and 2006

*Revenue.* Revenue decreased $0.2 million to $13.4 million for the sixmonths ended June 30, 2007 from $13.6 million for the six months ended June 30,2006.  The decrease included $1.7 million decrease in sales andprototyping of parts manufactured 

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frombulk Liquidmetal alloys to consumer electronics customers as a result ofdecrease in demand from consumer electronics applications during the firstquarter of 2007 and a decrease of $0.2 million in research and developmentservices, offset by an increase of $1.7 million from sales of our coatingproducts as a result of increase in demand from oil drilling applications.

*Cost of Sales.* Cost of sales increased to $14.1 million, or 105% of revenue,for the six months ended June 30, 2007 from $10.9 million, or 80% ofrevenue, for the six months ended June 30, 2006.  The increases were aresult of increases in our Liquidmetal coatings business and highermanufacturing costs of new production items in our Liquidmetal bulk alloybusiness.  We believe that higher manufacturing volumes and greater mix ofhigher-margin products in the future will cause the gross profit to improveover time. The cost to manufacture parts from our bulk Liquidmetal alloys isvariable and differs based on the unique design of each product.  However,the cost of sales for the products sold by the coatings business segment isgenerally consistent because the Liquidmetal coatings products are produced bythird parties and sold wholesale to various industries..

*Selling, General, and Administrative Expenses*.Selling, general, and administrative expenses decreased to $5.0 million, or 38%of revenue, for the six months ended June 30, 2007 from $5.1 million, or37% of revenue, for the six months ended June 30, 2006. This increase wasprimarily a result of increases in professional and consulting fees of $0.5million and increases of product warranty of $0.2 million offset by decreasesin wages and compensation of $0.5 million and decreases in travel expensesof $0.1 million.

*Research and Development Expenses*.Research and development expenses increased to $0.6 million, or 4% of revenue,for the six months ended June 30, 2007 from $0.5 million, or 4% ofrevenue, for the six months ended June 30, 2006. The increase was primarily dueto increase in professional and consulting services expense.  The Company continues to perform research anddevelopment of new Liquidmetal alloys and related processing capabilities,develop new manufacturing techniques, and contract with consultants to advancethe development of Liquidmetal alloys.

*Loss from Extinguishments of Debts*. Lossfrom extinguishments of debt increased to $0.6 million, or 5% of revenue, forthe six months ended June 30, 2007 from $0 for the six months ended June 30,2006.  The $0.6 million loss wasrecognized from the extinguishment of certain of our convertible andsubordinated notes in January 2007.

*Change inValue of Warrants.* Change in value of warrants increased to a gain of $4.3 million, or 32%of revenue, during the six months ended June 30, 2007 from a loss of $2.7million, or 20% of revenue, during the six months ended June 30, 2006.  The change in value of warrants consisted ofwarrants issued from convertible notes and subordinated notes funded between2004 and 2007 primarily as aresult of fluctuations in our stock price.

*Change inValue of Conversion Feature*. Change in the value of our conversion feature liability from ourconvertible notes funded between 2004 and 2007 resulted in gain of $5.5million, or 41% of revenue, during the six months ended June 30, 2007 from aloss of $3.9 million, or 29% of revenue, during the six months ended June 30,primarily as a result of fluctuation in our stock prices.

*Other Income.*  Other income was $49 thousandfor the six months ended June 30, 2007, primarily from gain recognized fromdisposal of assets, from $0.6 million, or 4% of revenue, for the six monthsended June 30, 2006 from $0.1 million gain recognized from disposal of idleequipment and $0.5 million gain recognized from termination of a distributionagreement with a Japanese sporting goods distributor originally entered into inMarch 1996.

*Interest Expense*. Interest expense was $5.5million, or 41% of revenue, for the six months ended June 30, 2007 and was $5.1million, or 37% of revenue, for the six months ended June 30, 2006.  Interest expense consists primarily of debt amortizationand interest accrued on outstanding convertible and subordinated notes,borrowings under the April 2005 factoring, loan, and security agreement, theKookmin loan and late registration and late filing fee penalties.

*Interest Income.* Interest income was $0.1 million for the sixmonths ended June 30, 2007 and $9 thousand for the six months ended June 30,2006, from interest earned on cash deposits.

**Liquidity and Capital Resources**

Our cash used for operating activities was $6.4million for the six months ended June 30, 2007 and $3.6 million for thesix months ended June 30, 2006.  Our working capital deficit decreasedfrom $23.2 million at December 31, 2006 to $19.7 

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million at June 30, 2007.  The Company’s workingcapital deficit decrease of $3.5 million was primarily attributable to increasein cash and cash equivalents of $2.1 million, increase in restricted cash of$2.1 million, increase in trade receivable of $1.2 million, and decrease inlong-term debt, current portion, of $1.8 million, offset by a decrease ininventories of $1.6 million, increase in conversion feature liability of $1.4million, increase in short-term debt of $0.5 million, and increase in deferredrevenue of $0.2 million.

Our cash used in investing activities was $1.1 millionfor the six months ended June 30, 2007 for the acquisition of property andequipment and investments in patents and trademarks.

Our cash provided by financing activities was $9.9million for the six months ended June 30, 2007. We received net $1.5 million in borrowings from factoring agreementexecuted in April 2005.  The proceedsfrom borrowings have been used to meet working capital requirements.  We have $1.8 million available for futureborrowings under the factoring agreement, which is contingent on approval ofeligible receivables by the financing company.

On January 3, 2007, we completed a private placementof $16.3 million in principal amount of 8% Convertible Subordinated Notes dueJanuary 2010 (the “January 2010 Notes”). The January 2010 Notes were issued foraggregate cash in the amount of $12.9 million, in payment of a total of $3.4million in principal and accrued but unpaid interest under our previouslyissued 7% Senior Secured Convertible Notes due August 2007 and our 8% UnsecuredSubordinated Notes, and $0.1 million cash discount.

InJune 2007, we entered into an equipment sale and licensing agreement with GraceMetal, a South Korean corporation, providing for $2 million in exchange for diecasting machines and vacuum induction melters, and a 10-year exclusive licenseto manufacture Liquidmetal alloys for customers whose principal headquarters ormajor operations are based in South Korea. The principal purpose of thetransactions with Grace Metal was to raise capital for the next-generationcasting equipment and to shift the cost and burden of our manufacturingoperations to a third party.  Grace Metal was formed by an investor groupthat includes the former Founder and director of our company, James Kang, whois also the brother of John Kang, Chairman of the Board of our company.

InJuly 2007, we completed an $11.1 million financing transaction that providedfunding to repay senior convertible notes previously issued were scheduled tobecome due in July and August 2007.  We transferred substantially all ofthe assets of Liquidmetal Coatings business (the “Division”) to a newly formed,newly capitalized subsidiary named Liquidmetal Coatings, LLC, a Delawarelimited liability company (“LMC”), and LMC assumed substantially all of theliabilities of the Division. LMC was capitalized through a $6.5 millionsubordinated debt and equity investment by C 3  Capital Partners and a $5.0million senior credit facility with Bank Midwest, N.A., both out of KansasCity, Missouri.  The transaction resultedin net cash proceed of $11.1 million after related debt issuance costs of $0.4million, which LMC used to purchase all of the assets and liabilities of theDivision from us.  We will retain a69.25% interest in LMC, and the remaining 30.75% of the equity of the LMC willbe held by C3 capital Partners, Larry Buffington (who will also serve as thePresident and CEO of LMC), and CRESO Capital Partners (the financial advisor inthe transaction).

Weanticipate that the funds raised in the January 2007 private placement,equipment sale and licensing agreement with Grace Metal, and recapitalizationof our coatings business will be sufficient to pursue our currentoperating plan only through the third quarter of 2007, and we will thereforerequire additional funding at or prior to that time.  As a result of theforegoing, we are actively seeking additional sources of capital and seeking torestructure and/or modify existing indebtedness.  The amount of fundingthat we seek and the timing of such fundraising efforts will depend on theextent to which we are able to increase revenues through obtaining additionalpurchase orders for our products and/or the extent to which we can restructureor modify our debt.  Because we cannot be certain that we will be able toobtain adequate funding from debt, equity, or other traditional financingsources, we are also actively exploring several strategic financing options,including the possible sale of our manufacturing plant in South Korea (whichwould then be replaced with a smaller facility) and additional licensing andoutsourcing of our manufacturing operations.

Additionally,we have approximately $3.3 million of principal and accrued interest outstandingunder the 8% unsecured subordinated notes (“Notes”) which will become dueAugust 17, 2007 as of June 30, 2007.  Weintend to fully repay the amounts due under Notes.  However, as of the filing of this document wedo not have sufficient funds to repay the Notes by the August 17, 2007 duedate.  As a result, we will be in defaultwith the holders of the 8% unsecured subordinated notes if we do not satisfythe amounts due under the Notes, unless we receive a waiver of suchdefault.   Such a default may havematerial adverse effect on our operations, financial condition, and results ofoperations.

Wecannot guarantee that adequate funds will be available when needed, and if wedo not receive sufficient capital, we may be required to alter or reduce thescope of our operations.

**Contractual Obligations**

The following table summarizes the Company’s obligations andcommitments as of June 30, 2007:

 

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| ** **                                          | ** ** | ** ** | ** ** | **Payments Due by Period (in thousands)** | ** ** |
|-----------------------------------------------------|------------|------------|------------|-------------------------------------------|------------|
| ** **                                          | ** ** | ** ** | ** ** | **Less Than**                        | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Contractual Cash Obligations (1)** | ** ** | **Total**  | ** ** | **1 Year**                           | ** ** | **1-3 Years** | ** ** | **3-5 Years** | ** ** | **After 5 Years** | ** ** |
|                                                |       |       |       |                                      |       |   |   |   |   |   |   |
| Long-term debt (2)                                  |       | $          | 29,488     |                                      | $          | 13,188 |   | $ | 16,300 |   | $ | — |   | $ | — |   |
| Short-term debt (3)                                 |       | 3,212      |       | 3,212                                     |       | — |   | — |   | — | ** ** |
| Operating leases and  rents                         |       | 1,421      |       | 399                                       |       | 834 |   | 188 |   | — |   |
| Consulting services  payable                        |       | 556        |       | 308                                       |       | 248 |   | — |   | — |   |
| Foster Wheeler                                      |       | 450        |       | 300                                       |       | 150 |   |   |   |   |   |
| Dongyang                                            |       | 12         |       | 12                                        |       | — |   | — |   | — |   |
| Nichimen                                            |       | 320        |       | 320                                       |       | — |   | — |   | — |   |
|                                                |       | $          | 35,459     |                                      | $          | 17,739 |   | $ | 17,532 |   | $ | 188 |   | $ | — |   |
|                                                     |            |            |            |                                           |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

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(1) Contractualcash obligations include Long-Term Debt comprised of $2,083 of SeniorConvertible Notes issued in 2004 and $7,187 of Senior Convertible Notes issuedin 2005, $3,009 of Unsecured Subordinated Notes issued in 2006, $16,300 ofConvertible Unsecured Notes issued in 2007, and $909 of Kookmin Bank Loan,Short-Term Debt comprised of $3,212 outstanding advances received underfactoring, loan, and security agreement, future minimum lease payments undercapital and operating leases, and purchase commitments from consultants,payments due from assets purchased from Foster Wheeler thermal spray coatingsbusiness unit, payments due from our discontinued equipment manufacturingbusiness (Dongyang), and minimum payments due under a distribution agreement(Nichimen).

(2) Does notinclude interest payments of $4,030; and un-amortized cash discount anddiscounts for conversion feature and warrants of $11,647 of our convertiblenotes.

(3) Does notinclude minimum interest and fee payments of $30.

**Off Balance 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.

On June26, 2006, we entered into a joint venture agreement with SAGA, SpA in Padova,Italy, (‘SAGA”) a specialist precision parts manufacturer.  The jointventure is named Liquidmetal SAGA Italy, Srl (“LSI”).  We also enteredinto an exclusive manufacturing license agreement for the eyewear industry withLSI.  Under the joint venture agreement, we have the option to buyownership interest in LSI, initially, of 19.9% to up to 50%.  In December2006, we have purchased 19.9% interest in the joint venture.  Under thelicensing agreement, at any time following 18 months after the effective dateof the agreement, LSI may exercise its option to sell us certain businessassets including manufacturing equipment acquired under the jointventure.  During the year ended December 31, 2006, we recognized revenuesof $0.7 million of Liquidmetal alloys sold to SAGA for use in the jointventure.  We anticipate the alloys to be fully utilized by the jointventure prior to the 18 month period.  Therewere no revenues recognized from the joint venture for the six months endedJune 30, 2007

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

We are exposed to various marketrisks in conducting the business of the Company, and we anticipate that thisexposure will increase as a result of our planned growth.  In an effort to mitigate losses associatedwith these risks, we may at times enter into derivative financial instruments,although we have not historically done so. These may take the form of forward sales contracts, option contracts,foreign currency exchange contracts, and interest rate swaps.  We have not, and do not intend to, engage inthe practice of trading derivative securities for profit.

*InterestRates.*  We are exposedto market risks relating to changes in interest rates as our borrowings aresubject to the volatility of interest rate risk.

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*CommodityPrices. *We are exposedto price risk related to anticipated purchases of certain commodities used asraw materials by our businesses, including titanium and zirconium.  Although we do not currently enter intocommodity future, forward, and option contracts to manage the fluctuations inprices of anticipated purchases, we may enter into such contacts in the futureas our business grows and as our purchases of these raw materials increase.

*ForeignExchange Rates.*  As aresult of our operation of a manufacturing facility in South Korea, asubstantial portion of our costs will be denominated in the South Koreanwon.  Consequently, fluctuations in theexchange rates of the South Korean won to the U.S. dollar will affect our costsof goods sold and operating margins and could result in exchange losses.  Although we do not currently enter intoforeign exchange hedge transactions, we may do so in the future as our businessgrows.

**Item 4 – Controls and Procedures**

Evaluation of DisclosureControls and Procedures.  Based on an evaluation of our disclosure controls andprocedures (as defined in Rule 13a-15(e) under the Exchange Act) as ofJune 30 2007, the end of the period covered by this report, our Chief ExecutiveOfficer and Vice President of Finance have concluded that the disclosurecontrols and procedures were effective.

Changes in InternalControls.  Duringthe quarter ended June 30, 2007, there was no change in our internal controlover financial reporting (as defined in Rule 13a-15(f) under the ExchangeAct) that has materially affected, or is reasonably likely to materiallyaffect, our internal control over financial reporting.

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**PART II**

**OTHER INFORMATION**

**Item 1 – Legal Proceedings**

SecuritiesClass Action and Shareholder Derivative Actions

InApril 2006, we reached agreements-in-principle to settle ourpreviously-disclosed consolidated securities class action and shareholderderivative actions for a total of $7.5 million; $7.0 million for the classaction and $0.5 million for the derivative actions.  In addition, we will commit to maintain orimplement various corporate governance measures in connection with thesettlement of the derivative actions.

Theconsolidated class action arose from a number of lawsuits filed in 2004 againstour company and certain of our former and current directors and officers onbehalf of persons who purchased our common stock between May 21, 2002 andMay 13, 2004.  These actions, which were brought underthe federal securities laws, alleged that the Prospectus issued inconnection with our initial public offering in May 2002 contained materialmisrepresentations and omissions regarding our historical financial conditionand regarding a personal stock transaction by our former chief executiveofficer.  They also alleged that our company and certain of our presentand former officers and directors engaged in improper revenue recognition withrespect to certain of our business transactions, failed to maintain adequateinternal controls, and knowingly disclosed unrealistic but favorableinformation about market demand for and commercial viability of our products toartificially inflate the value of our stock. On October 19, 2006, the presiding judge entered an Order giving finalapproval of the class action settlement. In connection with the settlement, our directors and officers’ liabilityinsurers contributed $7.0 million to a settlement fund, from which approvedclaims of eligible class members will be paid in accordance with acourt-approved plan of allocation. Taking into account the insurance contribution, the net cost of thesettlement to our company is approximately $0.5 million, which is the insurancedeductible we paid over several quarters ending in the third quarter of 2005,and which was previously recorded as a charge.

Inaddition, in May 2004, two shareholder derivative actions were filed inthe Superior Court of Orange County, California and later consolidated. Shortly thereafter, one additional shareholder derivative action was filed inthe United States District Court for the Middle District of Florida, TampaDivision.  These derivative actions were brought by certain shareholdersagainst certain of our present and former officers and directors as well as ourcompany (as a nominal defendant).  The suits alleged that the defendantsbreached various fiduciary duties and otherwise violated state law basedprimarily upon the same facts and circumstances underlying thefederal securities class action.  On August 2, 2006, plaintiffs’counsel in the California derivative action filed a Notice of Settlement in theSuperior Court.  The action is presentlystayed while the parties’ counsel negotiate and prepare formal settlementdocuments.  Final documentation andapproval of the settlement of the derivative actions remains outstanding.

Departmentof Justice Investigation

InAugust 2006, the United States Department of Justice (“DOJ”) instituted a grandjury proceeding in the Middle District of Florida to investigate, among otherthings, alleged accounting improprieties in relation to certain of our businesstransactions and a personal stock transaction by our former chief executiveofficer.  The grand jury proceeding isbased primarily upon the same underlying facts and circumstances as alleged inthe federal class action and shareholder derivative actions.  To date, subpoenas for the production ofdocuments and/or grand jury testimony have been issued to our company andseveral present and former officers and directors.  We are cooperating with the DOJ in itsinvestigation.

NoteholderLawsuit

OnJanuary 3, 2007, we completed a private placement of new 8% ConvertibleSubordinated Notes due January 2010 (the “January 2010 Notes”) that, asamended, provided for the issuance of $16.3 million in principal amount ofJanuary 2010 Notes.  The January 2010Notes were issued pursuant to a Securities Purchase Agreement, dated January 3,2007, between our company and the purchasers of the January 2010 Notes (the“January Purchase Agreement”).  Under theterms of the original January Purchase Agreement, we agreed to repay orotherwise satisfy, within 5 days after the closing of the private placement,approximately $15.5 million of our outstanding debt under previously issuedpromissory notes, including the August 2007 Notes, the Atlantic Note, and NewBridge Notes (the “Debt Satisfaction Covenant”).  We originally agreed to 

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this covenantbased on assurances that a substantial number of holders of the August 2007Notes would elect to convert their August 2007 Notes at a reduced conversionprice following the private placement under a note conversion agreementproposed by us, but most of such holders ultimately elected not to proceed withsuch conversion.  Accordingly, in aneffort to preserve funds, we have not yet repaid the indebtedness as requiredby the original January Purchase Agreement, and in April 2007, we entered intoan amendment to the January Purchase Agreement providing that we will haveuntil October 1, 2007 (or such earlier date on which the indebtedness to berepaid is due) to comply with the Debt Satisfaction Covenant.  

On March 22, 2007, one ofthe purchasers of the January 2010 Notes (holding January 2010 Notes in theaggregate amount of $2.0 million) sent us an event of default notice (“Event ofDefault Notice”) indicating that we had defaulted under the January PurchaseAgreement (and therefore under the January 2010 Note) by failing to comply withthe Debt Satisfaction Covenant.  Thisholder did not execute the April 2007 amendment to the January PurchaseAgreement.  In general, upon a breach ofthe January 2010 Notes or January Purchase Agreement, a holder of the January2010 Notes may require us to redeem the January 2010 Notes at a price equal tothe greater of (i) the conversion amount to be redeemed and (ii) the product of(A) the conversion rate with respect to such conversion amount in effect at suchtime as the purchaser of the January 2010 Note delivers an Event of DefaultRedemption Notice (as defined below) and (B) the closing sale price of ourcommon stock on the date immediately preceding such event of default.  Under the terms of the January 2010 Notes andJanuary Purchase Agreement, we have ten (10) business days after the receipt ofan Event of Default Notice to cure a default. On April 6, 2007, the holder which sent the Event of Default Noticefurther sent us an event of default redemption notice (“Event of DefaultRedemption Notice”).  The Event ofDefault Redemption Notice states that the holder has elected to require us toredeem its January 2010 Note for a price equal to $2.0 million (the amount ofthe January 2010 Note) plus accrued and unpaid interest.  On April 16, 2007, we were served with acomplaint filed by the holder in the Federal District Court in Minnesota tocollect this amount.  Subsequent to June30, 2007, on July 17, 2007, we received notice that the purchaser had assignedthe Note to Carlyle Liquid, a company controlled by Jack Chitayat, formerofficer and director of our Company, and that the purchaser would thereforedismiss the pending action.  Inaccordance with the terms of the notice, the action against us was dismissed bythe purchaser with prejudice on July 18, 2007.

**Item 1A – Risk Factors**

In additionto the risk factors included in our Annual Report on Form 10-K for the yearended December 31, 2006, the following is an additional risk factor thatcould adversely affect our business, results of operation or financialcondition.

***We donot anticipate we will be able to repay our 8% unsecured subordinated notes bythe August 17, 2007 due date and will be in default with the holders of suchnotes if we cannot repay them.***

We have approximately$3.3 million of principal and accrued interest outstanding under the 8%unsecured subordinated notes (“Notes”) which will become due August 17, 2007 asof June 30, 2007.  We intend to fullyrepay the amounts due under Notes. However, as of the filing of this document we do not have sufficientfunds to repay the Notes by the August 17, 2007 due date.  As a result, we will be in default with theholders of the 8% unsecured subordinated notes if we do not satisfy the amountsdue under the Notes, unless we receive a waiver of such default.   Such a default may have material adverseeffect on our operations, financial condition, and results of operations.

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

None.

**Item 3 -Defaults Upon Senior Securities**

None.

**Item 4 -Submission of Matters to a Vote of Security Holders**

None

**Item 5 –Other Information**

There were no mattersrequired to be disclosed in a current report on Form 8-K during the fiscalquarter covered by this report that were not so disclosed.

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**Item 6 – Exhibits**

The following documentsare filed as an exhibit to this Report: 
| Exhibit  Number | ** ** | **Description of Document**                                                                                                                                            |
|-----------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|            |       |                                                                                                                                                                   |
| 31.1            |       | Certification of the President and Chief Executive  Officer, Larry Buffington, as required by Section 302 of Sarbanes-Oxley Act  of 2002                               |
|            |       |                                                                                                                                                                   |
| 31.2            |       | Certification of Principal Financial Officer, Won  Chung, as required by Section 302 of Sarbanes-Oxley Act of 2002                                                     |
|            |       |                                                                                                                                                                   |
| 32.1            |       | Certification of Principal Executive Officer, Larry  Buffington, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to  Section 906 of Sarbanes-Oxley Act of 2002 |
|            |       |                                                                                                                                                                   |
| 32.2            |       | Certification of Principal Financial Officer, Won  Chung, 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 therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned hereunto dulyauthorized.
|        | LIQUIDMETAL TECHNOLOGIES, INC.               |
|--------|----------------------------------------------|
|   | (Registrant)                                 |
|   |                                         |
|   | Date: August 14,  2007                       | /s/ Larry Buffington |   |
|   | Larry Buffington                             |
|   | President and Chief Executive Officer        |
|   | (Principal Executive Officer)                |
|   |                                         |
|   | Date: August 14,  2007                       | /s/ Won Chung |   |
|   | Won Chung                                    |
|   | Vice President of Finance                    |
|   | (Principal Financial and Accounting Officer) |

 

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