** **

**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

 

### **FORM 10-Q**

### ** **

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

 

**For the quarterly period ended March 31, 2005**

** **

**OR**

 

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

 

**For the transition period from               to              **

** **

**Commission File No**.  **001-31332**

 

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**LIQUIDMETAL TECHNOLOGIES, INC.**

(Exact name of Registrant as specified in itscharter)

 
| **Delaware**                                                                 | ** ** | **33-0264467**                        |
|------------------------------------------------------------------------------|------------|---------------------------------------|
| (State or other jurisdiction  of  incorporation or organization)             | * *   | (I.R.S. Employer  Identification No.) |
|                                                                         |       |                                  |
| **25800  Commercentre Drive, Suite 100**                                     |
| **Lake Forest, California 92630**                                            |
| (address of principal  executive office, zip code)                           |
|                                                                         |       |                                  |
| Registrant’s telephone number, including  area code: **(949) 206-8000** |

 

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Indicate by check mark whether the registrant (1)has filed all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that the registrant was required to file such reports), and (2)has been subject to such filing requirements for at least the past 90 days.

 

Yes ýNo o

 

Indicate by check mark whether the registrant is an accelerated filer(as defined in Rule 12b-2 of the Exchange Act).

 

Yes ýNo o

 

#### **As of May 10, 2005,there were 41,609,652 shares of the registrant’s common stock, $.001 par value,outstanding.**

 

 

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**LIQUIDMETAL TECHNOLOGIES, INC.FORM 10-QFOR THE QUARTER ENDED****MARCH 31, 2005**

 

**FORWARD-LOOKING INFORMATION**

 

Statements in this report concerning the future sales,expenses, profitability, financial resources, product mix, market demand,product development and other statements in this report concerning the futureresults of operations, financial condition and business of LiquidmetalTechnologies, Inc. are “forward-looking” statements as defined in theSecurities Act of 1933 and Securities Exchange Act of 1934. Investors arecautioned that the Company’s actual results in the future may differ materiallyfrom those projected in the forward-looking statements due to risks anduncertainties that exist in the Company’s operations and business environment,including competition, need for increased acceptance of products, ability tocontinue to develop and extend our brand identity, ability to anticipate andadapt to a competitive market, ability to effectively manage rapidly expandingoperations, amount and timing of operating costs and capital expendituresrelating to expansion of our business, operations and infrastructure, abilityto provide superior customer service, dependence upon key personnel and thelike. The Company’s most recent filings with the Securities and ExchangeCommission, including Form 10-K, contain additional information concerning manyof these risk factors, and copies of these filings are available from theCompany upon request and without charge.

 

2

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#### **TABLE OF CONTENTS**

#### ** **

| **PART  I**                                                                                                    |       |
|----------------------------------------------------------------------------------------------------------------|------------|
|                                                                                                           |       |
| **Item 1 – Financial  Statements**                                                                        | ** ** |
| Condensed  Consolidated Balance Sheets (unaudited)                                                             |       |
| Condensed  Consolidated Statements of Operations and Comprehensive Loss (unaudited)                            |       |
| Condensed  Consolidated Statements of Shareholders’ Equity (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 3 –  Defaults Upon Senior Securities**                                                             | ** ** |
| ** **                                                                                                     | ** ** |
| **Item 6 –  Exhibits and Reports on Form 8-K**                                                            | ** ** |
| ** **                                                                                                     | ** ** |
| **Signatures**                                                                                                 | ** ** |
| ** **                                                                                                     | ** ** |
| **Certifications**                                                                                             | ** ** |

 

3

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### **PART I**

### **FINANCIAL INFORMATION**

### ** **

**Item 1 – Financial Statements**

 

**LIQUIDMETAL TECHNOLOGIES, INC. ANDSUBSIDIARIES**

**CONDENSED CONSOLIDATED BALANCE SHEETS**

**(inthousands, except share data)**

**(unaudited)**

 
| ** **                                                                                                                                         | ** ** | **March 31,****2005** | ** ** | **December 31,****2004** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------|------------|--------------------------|------------|
| **ASSETS**                                                                                                                                         |       |                  |       |                     |       |
|                                                                                                                                               |       |                  |       |                     |       |
| Current Assets:                                                                                                                                    |       |                  |       |                     |       |
|                                                                                                                                               |       |                  |       |                     |       |
| Cash                                                                                                                                               |       | $                     | 341        |                     | $          | 742 |   |
| Restricted Cash                                                                                                                                    |       | —                |       | 754                      |       |
| Trade accounts receivables, net of  allowance for doubtful accounts of $97 and $108                                                                |       | 1,785                 |       | 1,668                    |       |
| Inventories                                                                                                                                        |       | 2,273                 |       | 2,353                    |       |
| Prepaid expenses and other current assets                                                                                                          |       | 434                   |       | 930                      |       |
| Total current  assets                                                                                                                              |       | 4,833                 |       | 6,447                    |       |
|                                                                                                                                               |       |                  |       |                     |       |
| Property, Plant and Equipment, net                                                                                                                 |       | 15,941                |       | 16,434                   |       |
| Idle Equipment                                                                                                                                     |       | 1,948                 |       | 1,906                    |       |
| Long Term Inventory                                                                                                                                |       | 1,692                 |       | 1,810                    |       |
| Other intangibles, net                                                                                                                             |       | 1,161                 |       | 1,143                    |       |
| Other assets                                                                                                                                       |       | 700                   |       | 768                      |       |
| Total assets                                                                                                                                       |       | $                     | 26,275     |                     | $          | 28,508 |   |
|                                                                                                                                               |       |                  |       |                     |       |
| **LIABILITIES AND SHAREHOLDERS’ EQUITY**                                                                                                      |       |                  |       |                     |       |
|                                                                                                                                               |       |                  |       |                     |       |
| Current Liabilities:                                                                                                                               |       |                  |       |                     |       |
|                                                                                                                                               |       |                  |       |                     |       |
| Accounts payable and accrued expenses                                                                                                              |       | $                     | 6,557      |                     | $          | 4,969 |   |
| Settlement Payable                                                                                                                                 |       | 3,317                 |       | 3,246                    |       |
| Deferred revenue                                                                                                                                   |       | 880                   |       | 900                      |       |
| Long-term debt, current portion                                                                                                                    |       | 6,393                 |       | 5,991                    |       |
| Other liabilities, current portion                                                                                                                 |       | 1,349                 |       | 1,032                    |       |
| Total current liabilities                                                                                                                          |       | 18,496                |       | 16,138                   |       |
|                                                                                                                                               |       |                  |       |                     |       |
| Long-term debt, net of current portion                                                                                                             |       | 2,367                 |       | 2,618                    |       |
| Other long-term liabilities, net of current  portion                                                                                               |       | 328                   |       | 892                      |       |
| Total liabilities                                                                                                                                  |       | 21,191                |       | 19,648                   |       |
|                                                                                                                                               |       |                  |       |                     |       |
| Shareholders’ Equity:                                                                                                                         |       |                  |       |                     |       |
|                                                                                                                                               |       |                  |       |                     |       |
| Common stock, $0.001 par value; 100,000,000  shares authorized and 41,609,652 issued and outstanding at March 31, 2005 and  December 31, 2004 |       | 42                    |       | 42                       |       |
| Additional paid in capital                                                                                                                         |       | 132,160               |       | 132,160                  |       |
| Accumulated deficit                                                                                                                                |       | (129,410              | )          | (125,313                 | )          |
| Accumulated other comprehensive income                                                                                                             |       | 2,292                 |       | 1,971                    |       |
| Total shareholders’ equity                                                                                                                    |       | 5,084                 |       | 8,860                    |       |
|                                                                                                                                               |       |                  |       |                     |       |
| Total liabilities and shareholders’ equity                                                                                                    |       | $                     | 26,275     |                     | $          | 28,508 |   |

 

The accompanying notes are anintegral part of the condensed consolidated financial statements.

 

4

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**LIQUIDMETAL TECHNOLOGIES, INC. ANDSUBSIDIARIES**

 

### **CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS ANDCOMPREHENSIVE LOSS**

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

**(unaudited)**

 
| ** **                                                                   | ** ** | **For the Three Months  Ended March 31,** | ** ** |
|------------------------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                                   | ** ** | **2005**                                  | ** ** | **2004** | ** ** |
|                                                                         |       |                                      |       |   |   |
| Revenue                                                                      |       | $                                         | 2,843      |   | $ | 6,288 |   |
| Cost of sales                                                                |       | 2,835                                     |       | 3,557 |   |
| Gross profit                                                                 |       | 8                                         |       | 2,731 |   |
|                                                                         |       |                                      |       |   |   |
| Operating Expenses:                                                          |       |                                      |       |   |   |
| Selling, general, and administrative                                         |       | 2,590                                     |       | 3,065 |   |
| Research and development                                                     |       | 397                                       |       | 341 |   |
| Total operating expenses                                                     |       | 2,987                                     |       | 3,406 |   |
| Loss from operations                                                         |       | (2,979                                    | )          | (675 | ) |
|                                                                         |       |                                      |       |   |   |
| Other income                                                                 |       | 133                                       |       | 586 |   |
| Interest expense                                                             |       | (1,257                                    | )          | (271 | ) |
| Interest income                                                              |       | 6                                         |       | 12 |   |
|                                                                         |       |                                      |       |   |   |
| Loss from continuing operations                                              |       | (4,097                                    | )          | (348 | ) |
|                                                                         |       |                                      |       |   |   |
| Loss from discontinued equipment  manufacturing operations, net of tax of $0 |       | —                                    |       | (393 | ) |
|                                                                         |       |                                      |       |   |   |
| Net Loss                                                                     |       | (4,097                                    | )          | (741 | ) |
|                                                                         |       |                                      |       |   |   |
| Other comprehensive loss:                                                    |       |                                      |       |   |   |
| Foreign exchange translation gain (loss)                                     |       | 321                                       |       | 379 |   |
| Comprehensive loss                                                           |       | $                                         | (3,776     | ) | $ | (362 | ) |
|                                                                         |       |                                      |       |   |   |
| Net loss per common share – basic and  diluted:                         |       |                                      |       |   |   |
| Loss per share – continuing operations                                  |       | $                                         | (0.10      | ) | $ | (0.01 | ) |
| Loss per share – discontinued operations                                |       | $                                         | —     |   | $ | (0.01 | ) |
| Loss per share – basic and diluted                                      |       | $                                         | (0.10      | ) | $ | (0.02 | ) |
|                                                                         |       |                                      |       |   |   |
| Number of weighted average shares – basic  and diluted                  |       | 41,610                                    |       | 41,610 |   |

 

The accompanying notes are anintegral part of the condensed consolidated financial statements.

 

5

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**LIQUIDMETAL TECHNOLOGIES, INC. ANDSUBSIDIARIES**

 

**CONDENSED CONSOLIDATED STATEMENTS OFSHAREHOLDERS’ EQUITY**

###### **For the Three Months Ended March 31, 2005**

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

**(unaudited)**

 
| ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** | ** **     | ** ** | ** **  | ** ** | **Accumu-**     | ** ** | ** ** | ** ** |
|-------------------------------------|------------|------------|------------|------------|------------|----------------|------------|-------------|------------|-----------------|------------|------------|------------|
| ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** | ** **     | ** ** | ** **  | ** ** | **lated Other** | ** ** | ** ** | ** ** |
| ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** | **Additional** | ** ** | **Accumu-** | ** ** | **Compre-**     | ** ** | ** ** | ** ** |
| ** **                          | ** ** | **Common** | ** ** | **Common** | ** ** | **Paid in**    | ** ** | **lated**   | ** ** | **hensive**     | ** ** | ** ** | ** ** |
| ** **                          | ** ** | **Shares** | ** ** | **Stock**  | ** ** | **Capital**    | ** ** | **Deficit** | ** ** | **Income**      | ** ** | **Total**  | ** ** |
|                                |       |       |       |       |       |           |       |        |       |            |       |       |       |
| **Balance, December 31, 2004** |       | 41,609,652 |       | $          | 42         |           | $          | 132,160     |       | $               | (125,313   | )          | $          | 1,971 |   | $ | 8,860 |   |
| Foreign exchange translation gain   |       | —     |       | —     |       | —         |       | —      |       | 321             |       | 321        |       |
| Net loss                            |       | —     |       | —     |       | —         |       | (4,097      | )          | —          |       | (4,097     | )          |
| **Balance, March 31, 2005**         |       | 41,609,652 |       | $          | 42         |           | $          | 132,160     |       | $               | (129,410   | )          | $          | 2,292 |   | $ | 5,084 |   |

 

The accompanying notes are anintegral part of the condensed consolidated financial statements.

 

6

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**LIQUIDMETAL TECHNOLOGIES, INC.  AND SUBSIDIARIES**

 

### **CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS**

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

**(unaudited)**

 
| ** **                                                                                              | ** ** | **For the Three Months  Ended March 31,** | ** ** |
|---------------------------------------------------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                                                              | ** ** | **2005**                                  | ** ** | **2004** | ** ** |
|                                                                                                    |       |                                      |       |   |   |
| **Operating activities:**                                                                               |       |                                      |       |   |   |
| Net loss                                                                                                |       | $                                         | (4,097     | ) | $ | (741 | ) |
|                                                                                                    |       |                                      |       |   |   |
| Adjustments to reconcile loss from operations to net cash provided by  (used for) operating activities: |       |                                      |       |   |   |
| Gain on disposal of asset                                                                               |       | (1                                        | )          | — |   |
| Depreciation and amortization                                                                           |       | 843                                       |       | 894 |   |
| Amortization of debt discount                                                                           |       | 197                                       |       | 134 |   |
| Stock-based compensation                                                                                |       | —                                    |       | 270 |   |
| Bad debt (recovery) expense                                                                             |       | (20                                       | )          | 72 |   |
| Warranty expense                                                                                        |       | 42                                        |       | 57 |   |
|                                                                                                    |       |                                      |       |   |   |
| Changes in operating assets and  liabilities:                                                           |       |                                      |       |   |   |
| Accounts receivable                                                                                     |       | (97                                       | )          | 726 |   |
| Inventories                                                                                             |       | 198                                       |       | (1,922 | ) |
| Prepaid expenses and other current assets                                                               |       | 496                                       |       | (778 | ) |
| Other assets                                                                                            |       | 16                                        |       | (579 | ) |
| Accounts payable and accrued expenses                                                                   |       | 1,546                                     |       | 2,983 |   |
| Deferred revenue                                                                                        |       | (20                                       | )          | (598 | ) |
| Other liabilities                                                                                       |       | (214                                      | )          | (2,628 | ) |
| Net cash used for continuing operations                                                                 |       | (1,111                                    | )          | (2,110 | ) |
|                                                                                                    |       |                                      |       |   |   |
| Net cash provided by discontinued  operations                                                           |       | —                                    |       | 266 |   |
| Net cash used for operating activities                                                                  |       | (1,111                                    | )          | (1,844 | ) |
|                                                                                                    |       |                                      |       |   |   |
| **Investing Activities:**                                                                               |       |                                      |       |   |   |
| Investment in patents and trademarks                                                                    |       | (45                                       | )          | (20 | ) |
| Net cash used for investing activities                                                                  |       | (45                                       | )          | (20 | ) |
|                                                                                                    |       |                                      |       |   |   |
| **Financing Activities:**                                                                               |       |                                      |       |   |   |
| Proceeds from borrowings                                                                                |       | 158                                       |       | 9,924 |   |
| Repayment of borrowings                                                                                 |       | (341                                      | )          | (369 | ) |
| Proceeds from restricted cash                                                                           |       | 754                                       |       | — |   |
| Net cash provided by financing activities                                                               |       | 571                                       |       | 9,555 |   |
|                                                                                                    |       |                                      |       |   |   |
| Effect of foreign exchange translation                                                                  |       | 184                                       |       | (69 | ) |
| Net (decrease) increase in cash and cash  equivalents                                                   |       | (401                                      | )          | 7,622 |   |
|                                                                                                    |       |                                      |       |   |   |
| Cash and cash equivalents at beginning of  period                                                       |       | 742                                       |       | 3,127 |   |
| Cash and cash equivalents at end of period                                                              |       | $                                         | 341        |   | $ | 10,749 |   |
|                                                                                                    |       |                                      |       |   |   |
| Supplemental cash flow information:                                                                     |       |                                      |       |   |   |
| Interest paid                                                                                           |       | $                                         | 88         |   | $ | 86 |   |
| Taxes paid                                                                                              |       | $                                         | —     |   | $ | — |   |

 

The accompanying notes are anintegral part of the condensed consolidated financial statements.

 

7

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During the three months ended March 31, 2004, the Company sold it’s 51%ownership interest in Dongyang to the 49% minority shareholder, which resultedin a loss of $46 from disposal of discontinued operations as of March 31, 2004.

 

The accompanying notes are anintegral part of the condensed consolidated financial statements

 

8

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### **LIQUIDMETAL TECHNOLOGIES AND SUBSIDIARIES**

### ** **

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

**Forthe Three Months Ended March 31, 2005 and 2004**

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

**(unaudited)**

 

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

 

The accompanying unaudited condensedconsolidated financial statements have been prepared in accordance withaccounting principles generally accepted in the United States of America (“generallyaccepted accounting principles”) for interim financial information and with theinstructions to Form 10-Q.  Accordingly,they do not include all of the information and notes required by generallyaccepted accounting principles for complete financial statements.  In the opinion of management, all adjustments(consisting only of normal recurring accruals) considered necessary for a fairpresentation have been included.  Inaddition, certain reclassifications have been made for consistent presentation.  Operating results for the three months endedMarch 31, 2005 are not necessarily indicative of the results that may beexpected for any future periods or the year ending December 31, 2005.  The accompanying unaudited condensedconsolidated financial statements should be read in conjunction with theCompany’s Form 10-K filed with the Securities and Exchange Commission on March30, 2005.

 

Liquidmetal Technologies, Inc. (“Liquidmetal Technologies”) and itssubsidiaries (collectively “the Company”) are in the business of developing,manufacturing, and marketing products made from amorphous alloys. LiquidmetalTechnologies markets and sells Liquidmetal® alloy industrial coatings and alsomanufactures, markets and sells products and components from bulk Liquidmetalalloys that can be incorporated into the finished goods of its customers acrossa variety of industries.   The Companyalso partners with third-party licensees and distributors to develop andcommercialize Liquidmetal alloy products.

 

The Company classifies operations intotwo reportable segments: Liquidmetal alloy industrial coatings and bulkLiquidmetal alloys. Liquidmetal alloy industrial coatings are used primarily asa protective coating for industrial machinery and equipment, such as drill pipeused by the oil drilling industry and boiler tubes used by coal-burning powerplants. Bulk Liquidmetal alloys include potential market opportunities tomanufacture and sell products and components for electronic devices, medicaldevices, defense applications, and sporting goods.  In addition, the bulk Liquidmetal alloyssegment includes tooling and prototype sampling, and the manufacture and saleof die casting equipment (see Note 5). In addition, such alloys are used to generate research and developmentservices revenue for developing uses related primarily to defense and medicalapplications as well as potential license fees, royalties, and othercompensation from strategic partnering transactions.

 

Stock-based compensation

 

TheCompany applies Accounting Principles Board (“APB”) Opinion No. 25 for optionswhen the exercise price of options granted to employees is less then the fairvalue of the underlying stock on the date of grant.  The Company applies Statement of FinancialAccounting Standards (“SFAS”) No. 123 for options granted to non-employeeswho perform services for the Company.

 

Hadthe Company determined compensation cost based on the fair value at the grantdate for stock options consistent with the method of SFAS No. 123, theCompany’s loss from continuing operations and basic and diluted loss pershare from continuing operations would have been as follows:

 

9

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| ** **                        | ** **                                                                                                                                | **For the Three Months  Ended March 31,** | ** ** |
|-----------------------------------|-------------------------------------------------------------------------------------------------------------------------------------------|-------------------------------------------|------------|
| ** **                        | ** **                                                                                                                                | **2005**                                  | ** ** | **2004** | ** ** |
|                              |                                                                                                                                      |                                      |       |   |   |
| Net loss as reported              |                                                                                                                                      | $                                         | (4,097     | ) | $ | (741 | ) |
|                              |                                                                                                                                      |                                      |       |   |   |
| *Add:*                            | Stock-based employee  compensation expense included in reported net income, net of related tax  effects                                   |                                      | —     |   | 270 |   |
| * *                          |                                                                                                                                      |                                      |       |   |   |   |
| *Deduct:*                         | Total  stock-based employee compensation expense determined under the fair value  based method for all awards, net of related tax effects |                                      | (783       | ) | (1,709 | ) |
|                              |                                                                                                                                      |                                      |       |   |   |
| Proforma net loss                 |                                                                                                                                      | $                                         | (4,880     | ) | $ | (2,180 | ) |
|                              |                                                                                                                                      |                                      |       |   |   |
| Basic and diluted loss per share: |                                                                                                                                      |                                      |       |   |   |
| As reported                       |                                                                                                                                      | $                                         | (0.10      | ) | $ | (0.01 | ) |
| Pro forma                         |                                                                                                                                      | (0.12                                     | )          | (0.05 | ) |

 

The fair value of each option grant is estimated on the date of thegrant using the Black-Scholes option-pricing model with the followingweighted-average assumptions used for grants for the three months endedMarch 31, 2005 and 2004, respectively: expected volatility of 100% for allperiods; dividend yield of 0.0% for all periods; expected option life ofapproximately 5 years; and a risk-free interest rate ranging from 2.9% to4.2%.

 

**2.             Basisof Presentation and Recent Accounting Pronouncements**

 

Translation of Foreign Currency

 

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

 

RecentAccounting Pronouncements

 

In March 2004, the EITF reached a consensus on recognition andmeasurement guidance previously discussed under EITF 03-01 The consensusclarifies the meaning of other-than-temporary impairment and its application toinvestments classified as either available-for-sale or held-to-maturity underFASB Statement No. 115, “Accounting for Certain Investments in Debt and EquitySecurities,” and other investments accounted for under the cost method. Therecognition and measurement  guidance forwhich the consensus was reached in March 2004 is to be applied toother-than-temporary impairment evaluations in reporting  periods beginning after June 15, 2004. InSeptember 2004, the FASB issued a final FASB Staff Position that delays theeffective date for the measurement and recognition guidance for all investmentswithin the scope of EITF Issue No. 03-01; however, the disclosure requirementsremain effective for annual periods ending after June 15, 2004. The Companydoes not believe that the adoption of this statement will have a materialeffect on the Company’s results of operation and financial position.

 

In December 2004, the FASB issued SFAS 123(R), “Share Based Payment,”which the Company will adopt in the third quarter of 2005. SFAS 123(R) willresult in the recognition of compensation expense relating to our employeestock option 

 

10

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and employee stock purchase plans. Under the new rules, the Company is required to adopt a fair-value-basedmethod for measuring the compensation expense related to employee stock awards.This may lead to substantial additional compensation expense.  Stock-based Compensation under Note 1included in these Condensed Consolidated Financial Statements provides the proforma net income and earnings per share as if the Company had used afair-value-based method similar to the methods required under SFAS 123(R) tomeasure the compensation expense for employee stock awards during the threemonths ended March 31, 2005 and 2004.

 

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

 

Other recent accounting pronouncements issued by the FASB (includingits Emerging Issues  Task Force), theAICPA and the SEC did not or is not believed by management to have a materialimpact on the Company’s present or future consolidated financial statements.

 

**3.             Liquidity**

 

TheCompany has experienced losses from continuing operations during the last twofiscal years and has an accumulated deficit of $129,410 as of March 31,2005.  Cash used for continuingoperations for the quarter ended March 31, 2005 was $1,111 and cash flow fromcontinuing operations may be negative throughout fiscal year 2005.  As of March 31, 2005, the Company’s principalsource of liquidity is $341 of cash and trade accounts receivable of$1,785.  Such conditions raisesubstantial doubt that the Company will be able to continue as a going concernfor a reasonable period of time.  Theseoperating results occurred while the Company was developing and attempting tocommercialize and manufacture products from an entirely new and uniquetechnology.  This business plan requiredsignificant spending related to start-up costs and capital expenditures.  These factors have placed a significantstrain on the financial resources of the Company.  The ultimate success of the Company dependson its ability to continue reducing operating costs, generate higher revenue,and achieve positive cash flow from continuing operations and profitability.  The consolidated financial statements do notinclude any adjustments that might result from the outcome of the uncertainty.

 

Additionally, the Company is not in compliance with certain covenantrequirements of the senior convertible debt as of March 31, 2005.  Although there has been no formal notice ofdefault received from the note holders, as the note holders have the right tocall for repayment of the outstanding balance of the senior convertible debt,the total outstanding debt balance of $5,709 have been included as currentliabilities as of March 31, 2005 (see Note 6).

 

Capital requirements during the next 12 months will depend onnumerous factors, including the success of existing products, the developmentof new applications for Liquidmetal alloys, and the resources devoted to developand support Liquidmetal alloy products. If the available funds and cashgenerated from operations are insufficient to satisfy liquidity requirements,the Company may need additional funds in the future to support working capitalrequirements and for other purposes, and may need to raise additional fundsthrough public or private equity financing, bank debt financing, or from othersources. Adequate funds may not be available when needed or may not beavailable on favorable terms. However, the Company anticipates capitalexpenditures in the next 12 months will be less than $0.5 million. The Companyexpects to continue to devote limited capital to our research and developmentactivities, to further develop and strengthen our manufacturing capabilities,and for working capital and other general corporate purposes.

 

11

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Ourcash flow projections from operations and, consequently, future cash needs aresubject to uncertainty.  If our availablefunds and cash generated from operations are insufficient to satisfy ourliquidity requirements, we may need to raise additional capital to fund ouroperations and capital expenditure requirements.  We cannot be certain that additional capital,whether through selling additional debt or equity securities or obtaining aline of credit or other loan, will be available to us or, if available, will beon terms acceptable to us.  If we issueadditional securities to raise funds, these securities may have rights,preferences, or privileges senior to those of the rights of our common stockand our stockholders may experience additional dilution.

 

**4.             DiscontinuedOperations**

 

*Dongyang*

 

On June 28, 2002, the Company acquired a 51% interest in ChusikHoesa Dongyang Yudoro (“Dongyang”).   InMarch 2004, the Company sold its 51% investment in Dongyang to the 49% minorityshareholder.  The selling price of theCompany’s 51% interest in Dongyang was $80, which was equal to the Company’snet carrying value for the 51% ownership held. Further, the Company agreed to pay Dongyang $155 for the purchase of areceivable balance from Growell.  Thetransaction resulted in net payable to Dongyang of $75 and a loss of $46 fromtransfer of the Company’s interest in Donyang to the minority shareholder.  The loss from operations for the three monthsended March 31, 2004 totaled $50 and is included in the loss from discontinuedequipment manufacturing operations for the period.  The net payable balance of $75 is to be paidin quarterly installments throughout 2004, with $25 to be paid subsequent to2004.  The outstanding amount payable toDongyang is $11 and $25 as of March 31, 2005 and December 31, 2004,respectively, and is included in accounts payable and accrued liabilities.

 

Summarizedoperating results of Dongyang’s discontinued operations are as follows.

 
| ** **                                                             | ** ** | **For the Three months  Ended March 31,** | ** ** |
|------------------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                             | ** ** | **2005**                                  | ** ** | **2004** | ** ** |
|                                                                   |       |                                      |       |   |   |
| Revenue                                                                |       | $                                         | —     |   | $ | 22 |   |
| Loss from discontinued equipment  manufacturing operations, net of tax |       | —                                    |       | (96 | ) |
|                                                                        |            |                                           |            |  |  |  |  |

 

*Taesung*

 

On June 14, 2004, the Company entered into an Asset Purchase Agreementwhereby all the assets and liabilities of its Taesung equipment manufacturingdivision in Korea were sold to a third party for $345 which is payable by thethird party in four equal installments with the last installment being due onJune 30, 2005.  As of March 31, 2004,management determined that no impairment was anticipated on the divestiture ofits Taesung division.  Ultimately, thesale resulted in a loss of approximately $184. The loss from operations for the three months ended March 31,2004 totaled $297 and is included in the loss from discontinued equipmentmanufacturing operations for the period.

 

Summarizedoperating results of Taesung’s operations are as follows:

 
| ** **                                                             | ** ** | **For the Three months  Ended March 31,** | ** ** |
|------------------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                             | ** ** | **2005**                                  | ** ** | **2004** | ** ** |
|                                                                   |       |                                      |       |   |   |
| Revenue                                                                |       | $                                         | —     |   | $ | 100 |   |
| Loss from discontinued equipment  manufacturing operations, net of tax |       | —                                    |       | (297 | ) |
|                                                                        |            |                                           |            |  |  |  |  |

 

**5.             ProductWarranty**

 

Due to the lack of historical information for warranty expense relatedto bulk alloy products, management estimates product warranties as a percentageof bulk alloy product sales earned during the period.  During the three months ended March 31, 2005and 2004, the Company recorded $42 and $57, respectively, of warrantyexpense.  The product warranty accrualbalance is included in accounts payable and accrued expenses.

 

12

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**6.             NotesPayable**

 

Senior Convertible Note

 

OnMarch 3, 2004, the Company issued $9.9 million of 6.0% senior convertible notesdue 2007 (the “March Notes”) to investor groups in a transaction led byMichigan Venture Capital Co., Ltd, a South Korea-based institutional investmentfirm, and IndiGo Ventures LLC, a New York-based investment firm (the “PlacementAgents”) that served as a financial advisor to the Company for thetransaction.  The notes werecollateralized by the patents held by the Company and second priority mortgageinterest in plant facilities and certain equipment in South Korea.  The notes were convertible at any time intocommon stock at a price of $3.00 per share. Investors in the private placement and the Placement Agents receivedwarrants to purchase an aggregate amount of up to approximately 1.2 millionshares of common stock, exercisable at $3.00 per share for varying periods butno later than 100 days following the effectiveness of a registration statementcovering the resale of shares issuable upon exercise of the warrants.  In addition, the investors had the right tocall for repayment of the notes prior to maturity at any time after the secondanniversary of the closing of the transaction.

 

Thefair value of the 1.2 million warrants totaled $1,883 and was computed usingthe Black-Scholes pricing model under the following assumptions: (1) expectedlife of 3 years; (2) volatility of 82%, (3) risk free interest of 0.95% anddividend rate of 0%.  In addition, sincethis debt is convertible into equity at the option of the note holder atbeneficial conversion rates, an embedded beneficial conversion feature wasrecorded as a debt discount and will be amortized using the effective interestrate method over the life of the debt in accordance with Emerging Issues TaskForce No. 00-27, “Application of Issue No. 98-5 to Certain ConvertibleInstruments.”  In March 2004, total costof beneficial conversion feature of $3,395 and the relative fair value of the0.6 million warrants issued to investors of $584 were recorded as discounts ofthe convertible note.  In addition, $718relating to the fair value of the 0.6 million warrants issued to the PlacementAgents and $581 direct costs incurred relating to issuance of the convertiblenote were recorded as debt issuance cost as a contra liability account inwarrant liability and other assets, respectively.

 

FromJune through August 2004, the Company redeemed $4,465 of the outstanding notebalance in cash.  The redemption resultedin a write down of debt issuance costs and debt discount of $2,071 to interestexpense 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 topaid in capital and change in value of warrants, respectively, during the yearended December 31, 2004.

 

OnAugust 19, 2004, the Company completed a private exchange offer for its MarchNotes with the remaining holders after the redemption.  Under terms of the exchange offer,approximately $5.5 million in aggregate principal amount of the March Noteshave been exchanged for an aggregate of (i) $2.75 million of 6% Senior SecuredNotes Due 2007 (the “Long-Term Notes”) and (ii) $2.75 million of 10% SeniorSecured Notes Due 2005 (the “Short-Term Notes”), collectively referred to as “ExchangeNotes”.  The Exchange Notes arecollateralized by certain patents owned by the Company and second prioritymortgage interest in plant facilities and certain equipment at our South Koreaplant.  The Short-Term Notes have amaturity date of July 29, 2005, and a conversion price of $2.00 per share(compared to a conversion price of $3.00 per share under the March Notes).  The Long-Term Notes have a maturity date ofJuly 29, 2007, and a conversion price of $1.00 per share.   Further, the exchange notes are convertibleinto Common Stock, at the option of the Company, if at any time after theissuance of the notes, the closing per share price of the Common Stock exceeds$4.00 (as adjusted for stock splits, reverse splits, stock dividends, andrecapitalizations) for 30 consecutive trading days, and further provided thatthere has been effective registration during such period.  Holders of the Long-Term Notes also have theright to call for repayment of the Long-Term Notes prior to maturity at anytime after the second anniversary of the closing of the exchange offer.

 

Atotal of 563,151 warrants to purchase our common stock at an exercise price of$3.00 per share—all of which were previously issued in connection with thepurchase of the March Notes—have been amended to provide for an extendedexpiration date of March 1, 2006.

 

13

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Theexchange offer was treated as an extinguishment of the March Notes inaccordance with Emerging Issues Task Force No. 96-19, “Debtors Accounting for aModification or Exchange of Debt Instruments.” The exchange resulted in a $1,663 loss from extinguishment of the MarchNotes, write down of $352 of deferred issue costs in other assets, $189 ofcontra liability deferred issuance costs, and $1,122 of debt discount  as a result of the change in carrying valueof exchanged notes.

 

Inconnection with the private exchange offer, the Company issued $250 of privateplacement notes to certain Placement Agents as issuance costs.  Of the $250 notes issued, $125 was paid inthe form of long-term notes which is due in 2007 with interest rate of 6% perannum (Long-Term Notes) and $125 was paid in the form of short-term notes whichis due in 2005 with interest rate of 10% per annum (Short-Term Notes).  The Short-Term and Long-Term Notes areconvertible into Common Stock at $2.00 and $1.00, respectively, and have thesame terms as the Exchange Notes issued to the investors.  Further, a beneficial conversion feature wasrecorded from the $125 Long-Term Notes issued to Placement Agents of $29 duringAugust 2004.

 

Asof March 31, 2005 and December 31, 2004, our gross outstanding loan balancetotaled $5,709, un-amortizeddiscounts for beneficial conversion feature and warrants totaled $707 and $851, and other asset debt issuance costs totaled$131 and $183, respectively.  Interest expense for the amortization of debtissuance cost and discount on note was $197 and $133 for the quarters endedMarch 31, 2005 and 2004, respectively.  Asof March 31, 2005, the effective interest rates for the Short-Term and theLong-Term Notes were 22% and 32%, respectively.

 

TheCompany was obligated, pursuant to a Registration Rights Agreement, as amendedby the Exchange Notes, between the Company, the Placement Agents and the noteholders to file a registration statement with the Securities and ExchangeCommission (“SEC”) to register the shares of Common Stock issuable uponconversion of the notes payable and the related warrants within 90 daysfollowing the effective closing date of the exchange notes (July 29, 2004), andto use best efforts to cause such registration statement to become effectivewithin 60 days following the SEC’s first written comments on the registrationstatement.  Further, if the Company isnot in compliance with the registration or listing requirements, the holdershave rights to late registration payments equal to between 2 and 3 percent ofthe purchase price paid for the unconverted notes for the first 30 businessdays of late registration, and 1 and 3 percent for each 30 business daysthereafter, but no more than 18 percent of the purchase price of theunconverted note balance.  Lateregistration fee of $856 has been accrued as interest expense, and is includedin accounts payable and accrued liabilities as of March 31, 2005.  The $5,709 balance of the note andun-amortized discounts for beneficial conversion feature and warrants of $707is presented as short-term liability as of March 31, 2005 as the note holdershave the right to call for payment on demand as the registration statement hasnot been filed in accordance with the amended Registration RightsAgreement.  As of the filing of thisreport, the Company has not received any demands for payment from the note holders.

 

Pursuantto EITF 00-19, “Accounting for Derivative Financial Instruments Indexed to, andPotentially Settled in, a Company’s Own Stock”, the original relative fairvalues of the warrants of $1,302 have been recorded as other liability as theCompany has not yet filed the registration statement.  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 relative fair value of thewarrants resulted in a net gain of $133 and $586 for the quarters ended March31, 2005 and 2004, respectively.  Thefair value of warrants outstanding at March 31, 2005 of $417 was computed usingthe Black-Scholes model under the following assumptions: (1) expected life of0.92 years; (2) volatility of 128%, (3) risk free interest of 3.35% anddividend rate of 0%.

 

Kookmin Note

 

On February 4, 2003, our Korean subsidiary received 6,500,000 in SouthKorean Won, or approximately $5,488, under a loan from Kookmin Bank of SouthKorea.  The loan bears interest at anannual rate of 7.1%.  In the event ofdelayed repayment, the interest increases to a maximum of 21%, depending on thelength of time the repayment is delayed. This loan is collateralized by the plant facilities and certainequipment in South Korea.  During thefirst eighteen months from the origination date, interest was payable on amonthly basis.  In October 2003, theCompany paid $873 of principal at the request of Kookmin Bank due to the saleof machines that had been part of the collateral on the loan.  Subsequent to October 31, 2003, Kookmin Bankrequested that the Company pay an additional $866 of principal by February 2004due to the Company’s current credit rating. The Company made two payments on the requested additional loan pay downin November 

 

14

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and December 2003 of $320 and $205, respectively.  The remaining payment of $341 wassubsequently made in February 2004. Beginning in September 2004, the Company is required to make equalmonthly installments of principal and interest to repay the remaining balanceof the loan over a 36-month period.  Forthe quarter ended March 31, 2005, principal payments made to Kookmin Bank totaled$225, which includes $83 of foreign exchange translation loss.  The outstanding loan balance totaled $3,600as of March 31, 2005.

 

**7.             StockCompensation Plan**

 

During the quarter ended March 31, 2005, under the Company’s 2002Equity Incentive Plan which provides for the grant of stock options toofficers, employees, consultants and directors, the Company granted options topurchase 883,665 common shares of the Company for an exercise price of $2.18which equaled the fair market value on the date of grant

 

During the quarter ended March 31, 2005, under the Company’s 2002Non-employee Director Stock Option Plan which provides for the grant of stockoptions to non-employee directors, the Company granted options to purchase180,000 common shares of the Company for an average exercise price of $2.33.  All options granted under this plan hadexercise prices that were equal to the fair market value on the date of grant.

 

The Company canceled 159,602 options during the quarter ended March 31,2005 for terminated employees and directors.

 

**8.             SegmentReporting and Geographic Information**

 

SFAS No. 131,*Disclosures about Segments of an Enterprise and Related Information,*requirescompanies to provide certain information about their operating segments.  In April 2002, the Company began classifyingoperations into two reportable segments: Liquidmetal alloy industrial coatingsand bulk Liquidmetal alloys.  TheLiquidmetal alloy industrial coatings are used primarily as a protectivecoating for industrial machinery and equipment, such as drill pipe used by theoil drilling industry and boiler tubes used by coal burning power plants.  Bulk Liquidmetal alloys include marketopportunities to manufacture and sell casing components for electronic devices,medical devices, sporting goods, tooling, prototype sampling, defenseapplications and metal processing equipment. Primarily, the expenses incurred by the bulk Liquidmetal alloy segmentare research and development costs and selling expenses associated withidentifying and developing market opportunities.  Bulk Liquidmetal alloys products can bedistinguished from Liquidmetal alloy coatings in that the bulk Liquidmetalalloy can have significant thickness, up to approximately one inch, whichallows for their use in a wider variety of applications other than a thin protectivecoating applied to machinery and equipment.  Revenue and expenses associated with research and development servicesand product licensing arrangements are included in the bulk Liquidmetal alloysegment.  The accounting policies of thereportable segments are the same as those described in Note 3 to theconsolidated financial statements included in the Company’s Form 10-K filedwith the Securities and Exchange Commission on March 30, 2005.

 

Summarized financial informationconcerning the Company’s reportable segments is shown in the following tables:

 
| ** **                                                         | ** ** | **Coatings** | ** ** | **Bulk Alloy** | ** ** | **Segment  Totals** | ** ** |
|--------------------------------------------------------------------|------------|--------------|------------|----------------|------------|---------------------|------------|
|                                                               |       |         |       |           |       |                |       |
| Three months ended March 31, 2005:                                 |       |         |       |           |       |                |       |
| Revenue to external customers                                      |       | $            | 1,049      |           | $          | 1,794               |       | $ | 2,843 |   |
| Gross profit                                                       |       | 568          |       | (576           | )          | 8                   |       |
| Income (loss) before interest expense and  discontinued operations |       | 327          |       | (1,149         | )          | (822                | )          |
| Total identifiable assets at end of period                         |       | 701          |       | 22,054         |       | 22,755              |       |
|                                                               |       |         |       |           |       |                |       |
| Three months ended March 31, 2004:                                 |       |         |       |           |       |                |       |
| Revenue to external customers                                      |       | $            | 1,016      |           | $          | 5,272               |       | $ | 6,288 |   |
| Gross profit                                                       |       | 467          |       | 2,264          |       | 2,731               |       |
| Income before interest expense and  discontinued operations        |       | 349          |       | 1,480          |       | 1,829               |       |
| Total identifiable assets at end of period                         |       | 985          |       | 23,698         |       | 24,683              |       |

 

15

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Reconciling information betweenreportable segments and the Company’s consolidated totals is shown in thefollowing table:

 
| ** **                                                                         | ** ** | **For the Three Months  Ended March 31,** | ** ** |
|------------------------------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                                         | ** ** | **2005**                                  | ** ** | **2004** | ** ** |
|                                                                               |       |                                      |       |   |   |
| Total operating income (loss) before  interest expense and discontinued operations |       | $                                         | (822       | ) | $ | 1,829 |   |
| General and administrative expenses                                                |       | (2,157                                    | )          | (2,504 | ) |
|                                                                               |       |                                      |       |   |   |
| Consolidated loss before interest expense  and discontinued operations             |       | (2,979                                    | )          | (675 | ) |
| Other income                                                                       |       | 133                                       |       | 586 |   |
| Interest expense                                                                   |       | (1,257                                    | )          | (271 | ) |
| Interest income                                                                    |       | 6                                         |       | 12 |   |
| Income (loss) from discontinued operations,  net                                   |       | —                                    |       | (347 | ) |
| Loss from disposal of discontinued  operations, net                                |       | —                                    |       | (46 | ) |
| Consolidated net loss                                                              |       | $                                         | (4,097     | ) | $ | (741 | ) |

 

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

 

Revenuesfrom sales to companies in the United States were $1,401 and $1,725 during thethree months ended March 31, 2005 and 2004, respectively.  The revenue related to the United States ofAmerica was earned under three defense-related research and developmentcontracts and sales of coatings products.

 

Asof March 31, 2005, two customers represented 36%, or $636, of the totaloutstanding trade accounts receivable. As of December 31, 2004, two customers represented 30%, or $497, of thetotal outstanding trade accounts receivable. Three customers represent 80%, or $2,266, of total sales as of March 31,2005.   Three customers represented  84%, or $5,261, of total sales as of March31, 2004.

 

Duringthe three months ended March 31, 2005, the Company had revenues fromcompanies outside of the United States of $1,442 of which $934 representedsales to companies located in South Korea. During the three months ended March 31, 2004, the Company hadrevenue from sales to companies outside of the United States of $4,685 of which$4,158 represented sales to companies located in South Korea.  Of the $4,158 sales in South Korea, $122 wasfrom our discontinued equipment manufacturing business.  The revenue related to sales to companiesoutside of the United States was from bulk alloy products including equipmentsales.

 

Long-lived assets include net property, plant, and equipment, and netintangible assets. The Company had long-lived assets of $2,006 and $1,594located in the United States at March 31, 2005 and December 31, 2004,respectively. The Company had long-lived assets of $15,050 and $15,422 locatedin South Korea at March 31, 2005 and December 31, 2004, respectively.

 

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

 
| ** **                                | ** ** | **March 31,  2005** | ** ** |
|-------------------------------------------|------------|---------------------|------------|
|                                      |       |                |       |
| Total segment assets                      |       | $                   | 22,755     |   |
| Cash and cash equivalents                 |       | 341                 |       |
| Prepaid expenses and other current assets |       | 434                 |       |
| Other property, plant and equipment       |       | 884                 |       |
| Intangibles, net                          |       | 1,161               |       |
| Other assets                              |       | 700                 |       |
| Total consolidated assets                 |       | $                   | 26,275     |   |

 

16

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

 

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

 

Basic earnings per share (“EPS”) is computed by dividing earnings(loss) attributable to common shareholders by the weighted average number ofcommon shares outstanding for the periods. Diluted EPS reflects the potentialdilution of securities that could share in the earnings.  Common stock equivalents consist of 9,011,540and 8,706,413 equity instruments and 4,281,751 and 3,308,001 senior equityconvertible debt instruments at March 31, 2005 and 2004, respectively, andhave not been included in the EPS calculation at March 31, 2005 and 2004as the amounts are anti-dilutive.

 

**10.****                               Commitmentsand Contingencies**

 

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

 

In August 2004, the Company enteredinto a consulting agreement whereby the Company was to receive services from athird party to improve the Company’s bulk alloy manufacturing process.  The service is to be provided from August 2004through October 2005.  The totalamount of service fees is $172, of which $59 was included in trade accountspayable as of March 31, 2005.  As ofDecember 31, 2004, the total amount of outstanding balance included intrade accounts payable was $15.

 

The Company is from time to time a party to certain legal proceedingsarising in the ordinary course of business. Although outcomes cannot bepredicted 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.

 

Liquidmetal Technologies and certain ofits present and former officers and directors were named as defendants in ninepurported class action complaints filed in the United States District Courtsfor the Middle District of Florida, Tampa Division, and the Central District ofCalifornia, Southern Division, alleging violations of Sections 11 and 15 of theSecurities Act of 1933 and Sections 10(b) and 20(a) of the Securities ExchangeAct of 1934 and Rule 10b-5 promulgated thereunder. In August 2004, fourcomplaints were consolidated in the United States District Court for the MiddleDistrict of Florida under the caption Primavera Investors v. LiquidmetalTechnologies, Inc., et al., Case No. 8:04-CV-919-T-23EAJ.  John Lee, Chris Cowley, Dwight Mamanteo,Scott Purcell and Mark Rabold, were appointed co-lead plaintiffs (the “LeadPlaintiffs”).  In September 2004,the other five complaints filed in the Central District of California weretransferred to the Middle District of Florida for consolidation with the PrimaveraInvestors action.  The Lead Plaintiffsserved their Consolidated Amended Class Action Complaint on January 12,2005.  The Amended Complaint alleges thatthe Prospectus issued in connection with the Company’s initial public offeringin May 2002 contained material misrepresentations and omissions regarding theCompany’s historical financial condition and regarding a personal stocktransaction by the Company’s chief executive officer.  The Lead Plaintiffs further generally allegethat during the proposed Class Period of May 21, 2002, through May 13, 2004,the defendants engaged in improper revenue recognition with respect to certainof the Company’s business transactions, failed to maintain adequate internalcontrols, and knowingly disclosed unrealistic but favorable information aboutmarket demand for and commercial viability of the Company’s products toartificially inflate the value of the Company’s stock.  The Amended Complaint seeks unspecifiedcompensatory damages and other relief. We filed a Motion to Dismiss on March 28, 2005.  Plaintiff’s response to our Motion to Dismissis presently due on June 3, 2005. The Company intends to vigorously defendagainst the class action.  The Companycannot currently predict the impact or resolution of this litigation orreasonably estimate a range of possible loss, which could be material.

 

In addition to the above, certain present and former officers anddirectors of Liquidmetal Technologies, as well as Liquidmetal Technologies as anominal defendant, have been named in three shareholder derivativeactions.  Two shareholder derivativecomplaints were filed in California state court styled Brian Clair,Derivatively on Behalf of Liquidmetal

 

17

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Technologies, Inc. v. John Kang, et al., Case No. 04CC00551, and JosephDurgin, Derivatively on Behalf of Liquidmetal Technologies, Inc.  v. John Kang, et al., Case No. 04CC00553,both commenced in the Superior Court of Orange County, California.  A third shareholder derivative complaint wasfiled in Florida federal court styled Robert Story v. John Kang, et al., CaseNo. 8:04-CV-1587-T23TBM, commenced in the Middle District of Florida, TampaDivision.  These shareholder derivativelawsuits allege that the defendants breached various fiduciary duties andotherwise violated state law based primarily upon the same underlying facts andcircumstances as alleged in the federal shareholder class action. Theplaintiffs seek unspecified compensatory damages, restitution and disgorgementof profits, equitable and/or injunctive relief as permitted by law and otherrelief.  The two shareholder derivativecomplaints in California state court have been consolidated.  Plaintiffs served a Consolidated ShareholderDerivative Complaint on October 12, 2004. The defendants served a Demurrer to the Consolidated ShareholderDerivative Complaint on November 22, 2004, seeking dismissal of thatcomplaint.  At a hearing on February 10,2005, the court sustained the demurrer, dismissing the Consolidated ShareholderDerivative Complaint but giving the plaintiffs 45 days within which to amendthe complaint.  Plaintiffs filed theirConsolidated amended Shareholder Derivative Complaint on March 28, 2005.  The Company, along with other defendants willfile a Demurrer on May 16, 2005, again seeking dismissal of the amendedComplaint.  In the Florida derivativeaction, the Plaintiff filed a First Amended Shareholder Derivative Complaint onNovember 22, 2004.  The Company’sMotion to Dismiss which was filed on December 20, 2004 is fully briefed.  The Company cannot anticipate when the Courtwill rule on the Motion to Dismiss.  TheCompany intends to vigorously defend against the derivative actions.  We cannot currently predict the impact orresolution of this litigation or reasonably estimate a range of possible loss,which could be material.

 

In March 1996, the Company entered into adistribution agreement whereby it granted to a third party exclusive rights tomarket and sell golf products incorporating Liquidmetal Technology to certainJapanese sporting equipment companies. The third party paid the Company a $1.0 million distribution fee as partof this agreement, of which a portion was refundable according to a formulabased on the gross profit earned by the third party.  On March 28, 2003, the distributionagreement was terminated and the Company entered into a new agreement to pay tothe same third party a commission on the net sales price of all Liquidmetalgolf equipment that is shipped by the Company or its affiliates to Japanesegolf companies for sale into the Japanese end-market.  This commission will apply to golf equipmentshipped by the Company or its affiliates during the period beginning on 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 will be paid by April 30,2006, thereby guaranteeing the third party a $350 minimum payment during theterm of the agreement.  The Company willrecognize the unearned distribution fee of $830 as revenue proportionately withthe payment of commissions under the new agreement.  As of March 31, 2005 and December 31,2004, the unearned distribution fee remained unchanged at $830.

 

Under terms of the January 2004 settlement of the dispute overcertain sales transactions from 2003 and 2002 between Liquidmetal Korea andGrowell Metal Co., Ltd., a South Korean metals processing company (“Growell”),Liquidmetal Korea agreed to pay Growell $4,895 to purchase Growell’s investmentin alloy inventories, proprietary alloying equipment purchased from LiquidmetalKorea, and supporting equipment purchased from other suppliers.  Also as part of the settlement, Growellsatisfied in full a balance of $2,058 owed to Liquidmetal Korea for the diecasting machines Growell purchased from Liquidmetal Korea in the first quarterof 2003 as part of a license agreement to manufacture Liquidmetal alloy partsfor the South Korean automotive industry. The remaining settlement payable of $2,837 and trade accounts payable of$14 were to be paid to Growell (in cash or stock at the Company’s discretion)by December 31, 2004.  As of December 31,2004, the settlement payable of $3,246, net of foreign exchange translationloss, was not paid to Growell due to Growell’s breach of warranty on equipmentrepurchased by Liquidmetal Korea.  In January 2005,Growell was acquired by a third party. As of March 31, 2005, the outstanding settlement payable to thethird party of $3,317, net of foreign exchange translation loss, was not paid,and the Company is currently in negotiations to settle this balance with thethird party.

 

**11.****                               RelatedParty Transactions**

 

In June 2003, the Company entered into an exclusive, ten-yearlicense agreement with LLPG, Inc. (“LLPG”), a corporation headed by a formerdirector of the Company.  Under the termsof the agreement, LLPG has the right to commercialize Liquidmetal alloys,particularly precious-metal based compositions, in jewelry and high-end luxuryproduct markets.  The Company, in turn,will receive royalty payments over the life of the contract on all Liquidmetalproducts produced and sold by

 

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LLPG.  In conjunction with itstechnology licensing contract, LLPG purchased two proprietary Liquidmetal alloymelting machines and three proprietary Liquidmetal alloy casting machines for atotal purchase price of $2,000.  At December 31,2003, the Company had a remaining receivable balance of $500 due from LLPG,which was subsequently paid in full in March, 2004.

 

We are a party to a consulting agreement with Chitnis Consulting, Inc.,which is owned 100% by Shekhar Chitnis, a former director and executive officerof our company.  Under this agreement, wehave engaged Chitnis Consulting to provide consulting services on an as-neededbasis through December 31, 2005. During each quarter ended March 31, 2005 and 2004, we incurred $13in consulting fees from Chitnis Consulting.

 

We are a party to a consulting agreement with William Johnson, a boardmember.  Under this agreement, Mr.Johnson provides consulting services on an as-needed basis through 2004 as itrelates to marketing and development Liquidmetal alloy.  During each quarter ended March 31, 2005and 2004, we incurred $15 and $15 in consulting fees from Mr. Johnson,respectively.

 

In November 2004, we entered into anagreement with John Kang, our Chairman, President, and Chief Executive Officer,in which Mr. Kang agreed that certain stock transactions by him in 2002involving our common stock should have resulted in a liability under Section 16(b)of the Securities Exchange Act of 1934, as amended (“Section 16(b)”).  These transactions include Mr. Kang’s privatesale of 285,715 shares of his personal Liquidmetal Technologies common stock toGrowell Metal Co., Ltd. in February 2002, prior to our initial publicoffering.  They also include Mr. Kang’ssubsequent indirect purchase and disposition of Liquidmetal Technologies commonstock in order to satisfy a personal agreement Mr. Kang made to Growell Metalin February 2002 regarding the guaranteed minimum value of the stockpurchased by Growell Metal in February 2002 (the purchases anddispositions incident to this agreement occurred in August and November 2002,respectively).  Lastly, the transactionsinclude open-market purchases of an aggregate of 89,300 shares of our commonstock made by Mr. Kang in August 2002.

 

The Audit Committee of our Board of Directorsconducted an independent inquiry into the above-described transactions with theaid of independent legal counsel and, as a result of such inquiry, the AuditCommittee concluded that the transactions should have resulted in a liabilityto the Company under Section 16(b) in the amount of $302.  Mr. Kang has acknowledged this liability, andin an agreement negotiated between Mr. Kang and the Audit Committee andapproved by the full Board, Mr. Kang will pay this liability through periodicinstallments in 2005 and 2006.  As aresult, the Company accrued for the $302 receivable in other assets and otherincome as of  December 31,2004.  The above-described transactionsinvolving Growell Metal was reported on a new Form 4 filed by Mr.Kang on November 15, 2004, and the open-market purchases werepreviously reported on a timely basis in August 2002.  As of March 31, 2005, the outstandingamount of the receivable remained unchanged at $302.  Mr. Kang has paid approximately $50 in April2005 and will make monthly installments of approximately $12 to pay down theoutstanding balance.

 

In March 2005, the Company entered into a noteagreement with CK Cho, a member of our Board of Directors, for $195 at anannual rate of interest of 6%.  As of March 31,2005, the Company received $158, which is included in current portion of longterm notes.  The remaining $37 wasreceived in April 2005.  The amountsborrowed under the note agreement are due June 25, 2005.  Mr. Cho also is a Chief Executive Officer of WinvestVenture Partners Inc., who holds $500 of Senior Convertible Notes as of March 31,2005 (see Note 6).

 

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**Item2.  Management’s Discussion and Analysisof Financial Condition and Results of Operations**

** **

*This management’s discussion and analysisshould be read in conjunction with the condensed consolidated financialstatements and notes included elsewhere in this report on Form 10-Q.*

 

*This management’s discussion and analysis, aswell as other sections of this report on Form 10-Q, may contain“forward-looking statements” that involve risks and uncertainties, includingstatements regarding our plans, future events, objectives, expectations,forecasts, or assumptions. Any statement that is not a statement of historicalfact is a forward-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, 2004 and other risks anduncertainties discussed in filings made with the Securities and ExchangeCommission (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**

 

Weare a materials technology company that develops and commercializes productsmade from amorphous alloys.  OurLiquidmetal® family of alloys consists of a variety of coatings, powders, bulkalloys, and composites that utilize the advantages offered by amorphous alloytechnology.  We develop, manufacture, andsell products and components from bulk amorphous alloys that are incorporatedinto the finished goods of our customers, and we also market and sell amorphousalloy industrial coatings.  We alsopartner with third-party licensees and distributors to develop andcommercialize Liquidmetal alloy products. We have the exclusive right to develop, manufacture, and sell what webelieve are the only commercially 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 alloyssupplanting other incumbent materials in a wide variety of applications.Moreover, we believe these advantages will enable the introduction of entirelynew products and applications that are not possible or commercially viable withother materials.

 

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.

 

Thecost of sales for our Liquidmetal coatings segment consists primarily of thecosts of outsourcing our manufacturing to third parties. Consistent with ourexpectations, our cost of sales has been increasing over historical results aswe further build our bulk Liquidmetal alloy business. Although we plan tocontinue outsourcing the manufacturing of our coatings, we will internallymanufacture many products derived from our bulk Liquidmetal alloys.

 

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Selling,general, and administrative expenses currently consist primarily of salariesand related benefits, severance costs, travel, consulting and professionalfees, depreciation and amortization, insurance, office and administrativeexpenses, and other expenses related to our operations.

 

Researchand development expenses represent salaries, related benefits expense,stock-based compensation, 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 activities areexpensed as incurred. We plan to enhance our competitive position by improvingour 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.

 

OnAugust 4, 2004, the Company established a plant in the city of Weihai inShandong province of China under Weihai Liquidmetal Company Limited, which is100 percent owned by Liquidmetal Korea, to facilitate our bulk alloymanufacturing business.  WeihaiLiquidmetal is consolidated into Liquidmetal Technologies with all intercompanytransactions eliminated.

 

Thefollowing discussion and analysis of our financial condition and results ofoperations focuses on the historical results of our continuing operations.

 

**Critical Accounting Policies and Estimates**

** **

Thepreparation of condensed consolidated financial statements in conformity withaccounting principles generally accepted in the United States requires us tomake estimates and assumptions that affect reported amounts of assets andliabilities and disclosure of contingent assets and liabilities at the date ofthe financial statements and the reported amounts of revenues and expensesduring the reporting period.  Theseestimates and assumptions are based on historical experience and various otherfactors that are believed to be reasonable under the circumstances.  Actual results could differ materially fromthese estimates under different assumptions or conditions.

 

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 

•                  Warrantyaccrual

•                  Allowancefor doubtful accounts

•                  Inventoriesat lower of cost or net realizable value

•                  Deferredtax assets

 

Our10-K Report as of December 31, 2004 contains further discussions on ourcritical accounting policies and estimates.

 

**Results of Operations**

 

Comparison of thethree months ended March 31, 2005 and 2004

 

*Revenue*. Revenuedecreased $3.5 million to $2.8 million for the three months ended March 31,2005 from $6.3 million for the three months ended March 31,2004.  The decrease included a $2.6million decrease from restatement of revenues from 2003 to 2004 as a part ofour 2003 financial statement restatement which resulted in one-time recognitionof revenues as of March 31, 2004, a decrease of $0.4 million from thesales and prototyping of parts manufactured from bulk Liquidmetal alloys, and adecrease of $0.4 million from research and development services relatedprimarily to defense applications.

 

*Cost of Sales*. Costof sales decreased to $2.8 million, or 100% of revenue, for the threemonths ended March 31, 2005 from $3.6 million, or 57% of revenue, forthe three months ended March 31, 2004. The decrease was a result of the decrease in bulk Liquidmetal alloybusiness. Cost of sales as a percentage of revenue has increased as a lowerbusiness volumes generated from our bulk Liquidmetal alloys.  Significant portion of our manufacturing costscontinue to remain fixed.   We believethat anticipated higher manufacturing volumes and an expected greater mix ofhigher-margin products in the future will cause the

 

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gross profit to continue 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 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 $2.6 million,or 91% of revenue, for the three months ended March 31, 2005 from$3.1 million, or 49% of revenue, for the three months ended March 31,2004. This decrease was primarily a result of decrease in wages and relatedexpense by $0.4 million, decrease in bad debt expenses by $0.1 million,decrease in advertising and promotions expense by $0.2 million, offset byan increase in insurance costs by $0.2 million. These and other decreases in selling, general and administrativeexpenses represent the Company’s efforts to manage costs and focus on our corebusiness while continuing to build our corporate infrastructure required toprepare for and support the anticipated growth of our bulk Liquidmetal alloybusiness.

 

*Research and Development Expenses*.Research and development expenses increased to $0.4 million, or 14% ofrevenue, for the three months ended March 31, 2005 from $0.3 million,or 5% of revenue, for the three months ended March 31, 2004. 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 Liquidmetalalloys.  The increase was primarily dueto increases in salaries, wages and the related costs by $0.1 million.

 

*Other Income*. Otherincome decreased to  $0.1 million, or 5%of revenue, for the three months ended March 31, 2005 from $0.6 million,or 9% of revenue, for the three months ended March 31, 2004.  Other income consists of change in value ofwarrants issued from the senior convertible debt funded in March 2004 andexchanged in August 2004 primarily as a result of fluctuations in ourstock price.

 

*Interest Expense*.Interest expense was  $1.3 million, or44% of revenue, for the three months ended March 31, 2005 and was $0.3million, or 4% of revenue, for the three months ended March 31, 2004.  During the three months ended March 31,2005, the interest expense was primarily due to the interest accrued on theKookmin Bank loan funded on February 4, 2003 and senior convertible debtfunded on March 3, 2004, as well as amortization of debt issuance costsand discount on the senior convertible debt funded in March 2004 andexchanged in August 2004.  As of March 31,2005, $0.9 million of late registration penalty fee of our senior convertibledebt was accrued as interest expense (see Item 3 Defaults Upon Senior Securities, Part II).  During the three months ended March 31,2004, interest expense was primarily due to the interest accrued on the KookminBank loan.

 

*Interest Income.* Interest income was $6 thousand for the threemonths ended March 31, 2005, and $12 thousand for the three months ended March 31,2004 from interest earned on certificate of deposits.  The decrease was primarily due to decrease indeposits held.

 

**Liquidity and Capital Resources**

** **

Our cash used in operating activities was$1.1 million for the three months ended March 31, 2005 and$1.8 million, which includes cash used in our discontinued equipmentmanufacturing business of $0.3 million, for the three months ended March 31,2004.  Our working deficit increased from$(9.7) million at December 31, 2004 to $(13.7) million at March 31,2005.  The Company’s working deficitincrease of $4.0 million was primarily attributable to decrease in cash of $0.4million, decrease in restricted cash of $0.8 million, decrease in net accountsreceivable of $0.1 million, decrease of current inventories of $0.1 million,decrease of prepaid expenses and other current assets of $0.5 million, increasein accounts payable and accrued liability of $1.6 million, and an increase incurrent portion of long term debt of $0.4 million.

 

Our cash used in investing activities was $45thousand for the three months ended March 31, 2005 for the acquisition ofproperty and equipment.

 

Our cash provided by financing activities was $0.6million for the three months ended March 31, 2005, which consists of $0.9million in proceeds from restricted cash and proceeds from borrowings from ourshort term debt, offset by $0.3 million on repayment of borrowings.

 

We anticipate that our capital expenditures will be approximately lessthan $0.5 million for the full year 2005 for the acquisition of furniture,fixtures, and other business equipment. This amount is subject to change,however, depending upon

 

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the nature and the amount of the product orders that we actuallyreceive from customers.

 

Our capital requirements during the next twelve months will dependon numerous factors, including the success of existing products either inmanufacturing or development, the development of new applications forLiquidmetal alloys, the resources we devote to develop and support ourLiquidmetal alloy products, and the success of pursuing strategic licensing andfunded product development relationships with external partners. During thenext twelve months, based on our current business plan, we expect to havesufficient resources to continue to devote limited capital to our research anddevelopment activities, to further develop and strengthen our manufacturingtechnology, and to provide for working capital and other general corporatepurposes.  However, based on ourhistorical operating results and the continued development of our manufacturingcapabilities and alloy compositions, there exists the possibility that theseresources will not be adequate to operate at the proposed business planlevels.  These expenses and capitalexpenditures could consume a material amount of our cash resources, but theamount of these requirements will depend on the nature and amount of orders wereceive for the purchase of our bulk Liquidmetal alloy products.

 

Our business is based on commercializing an entirelynew and unique technology, and our current business plan contains a variety ofassumptions and expectations that are subject to uncertainty, includingassumptions and expectations about order flow, unit volumes, manufacturingefficiencies, product cost and pricing, continuing technology improvements,customer adoption practices, strategic licensing relationships and otherrelevant matters. These assumptions take into account recent significant costreductions, as well as recent improvements to our manufacturing processes. Wehave experienced losses from continuing operations during the last two fiscalyears and have an accumulated deficit of $129.4 million as of March 31,2005. At March 31, 2005, our principal source of liquidity was $0.3million of cash and cash equivalents and trade accounts receivables of $1.8million.   Such conditions raisesubstantial doubt that our Company will be able to continue as a going concernfor a reasonable period of time without receiving additional funding.  These operating results occurred while wewere developing and attempting to commercialize and manufacture products froman entirely new and unique technology. This business plan required significantspending related to start-up costs and capital expenditures. These factors haveplaced a significant strain on our financial resources. The ultimate success ofthe Company depends on our ability to continue to reduce operating costs,generate higher revenue, achieve positive cash flow from continuing operationsand achieve profitability.

 

Additionally, the Company is not in compliance withcertain covenant requirements of our senior convertible debt as of March 31,2005.  Although there has been no formalnotice of default received from the note holders, as the note holders have theright to call for repayment of the outstanding balance of the seniorconvertible debt, the total outstanding debt balance of $5,709 have beenincluded as current liabilities as of March 31, 2005 (see Item 3 Defaults Upon Senior Securities, Part II).

 

Our future success depends on our ability tocontinue reducing operating costs and ultimately to generate higher revenue andattain profitability. We cannot be certain that additional capital, whetherthrough selling additional debt or equity securities or obtaining a line ofcredit or other loan, will be available to us or, if available, will be onterms acceptable to us. If we issue additional securities to raise funds, thesesecurities may have rights, preferences, or privileges senior to those of ourcommon stock, and our current stockholders may experience dilution.

 

**Contractual Obligations**

** **

The following table summarizes the Company’sobligations and commitments as of March 31, 2005:

 
| ** **                           | ** ** | **Payments Due by Period (in  thousands)** | ** ** |
|--------------------------------------|------------|--------------------------------------------|------------|
| **Contractual Cash Obligations (1)** | ** ** | **Total**                                  | ** ** | **Less Than 1  Year** | ** ** | **1-3 Years** | ** ** | **3-5 Years** | ** ** | **After 5 Years** | ** ** |
|                                 |       |                                       |       |   |   |   |   |   |   |   |   |
| Long-term  debt (2)                  |       | $                                          | 9,309      |   | $ | 6,942 |   | $ | 2,367 |   | $ | — |   | $ | — |   |
| Capital  lease obligation (3)        |       | 175                                        |       | 100 |   | 75 |   | — |   | — |   |
| Operating  leases and rents          |       | 1,498                                      |       | 461 |   | 853 |   | 183 |   | 1 |   |
| Growell  settlement payable (4)      |       | 3,317                                      |       | 3,317 |   | — |   | — |   | — |   |
| Consulting  services payable         |       | 114                                        |       | 114 |   | — |   | — |   | — |   |
| Dongyang  payable                    |       | 11                                         |       | 11 |   | — |   | — |   | — |   |
|                                 |       | $                                          | 14,424     |   | $ | 10,945 |   | $ | 3,295 |   | $ | 183 |   | $ | 1 |   |

 

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(1)     Contractual cash obligationsinclude Long-Term Debt comprised of $5,709 of Senior Convertible Notes and$3,600 of Kookmin Notes, and future minimum lease payments under capital andoperating leases, liabilities incurred from settlement with a former customer(Growell) and divesture of our equipment manufacturing business, and purchasecommitments from a consultant.

(2)     Does not include interestpayments of  $968, un-amortized discountsfor beneficial conversion feature and warrants of $707 of our SeniorConvertible Notes, and short-term note payable of $158.

(3)     Includes imputed interest of$10.

(4)     In January 2005 Growellwas acquired by a third party, and we****are currently in negotiations to settle thisbalance with the third party.****

 

#### **Off Balance SheetArrangements**

#### ** **

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

 

We have made no arrangements of the typesdescribed in any of the categories that may have a material current or futureeffect on our financial condition, liquidity or results of operations.

 

 **Item 3 – Quantitative and Qualitative Disclosures about Market Risk**

 

We are exposed to various markets risksin conducting the business of the Company, and we anticipate that this exposurewill 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.

 

*Interest Rates.*  We are exposed to market risks relating tochanges in interest rates.  Some of theproceeds of our initial public offering are invested in short-term, interest-bearing,investment grade securities.  The valueof these securities will be subject to interest rate risk and could fall invalue if interest rates rise.

 

*CommodityPrices. *We areexposed to price risk related to anticipated purchases of certain commoditiesused as raw 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.

 

*Foreign ExchangeRates.*  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 into foreignexchange hedge transactions, we may do so in the future as our business grows.

 

**Item 4 – Controls andProcedures**

** **

Evaluation of disclosure controls and procedures.  During the course of the audit of ourfinancial statements for the fiscal yearsended December 31, 2001, 2002, and 2003, it was determined that revenuesfrom certain equipment sales made by the Company to Growell MetalCo., Ltd. in the third and fourth quarters of 2002 and the first quarter of2003 should not have been recognized in those periods.  It wasalso determined that certain amounts relating to sales made to Samsung in December 2002,to JS Technologies in September 2002, and AM Corporation in December 2002should not have been recognized.  Italso  was determined that compensationexpense related to certain stock options granted in 2001 and 2002 were notcalculated in accordance with generally accepted accounting principles underAPB Opinion No. 25, SFAS No. 123, and EITF 00-23.

 

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These determinations and the associated restatementof previously issued financial statements, as described more fully elsewhere inthe Form 10-K for the year ended December 31, 2003, filed on November 10,2004, suggest that, at the time of the subject transactions and the preparationof our financial statements for the relevant periods, theCompany’s disclosure controls and procedures (as defined in Rule 13a-15under the Securities Exchange Act of 1934) were ineffective as of theperiod covered by the Form 10-K filed on November 10, 2004 for purposes ofensuring that all information required to be disclosed by theCompany was adequately accumulated and communicated to theCompany’s management at such time.

 

Within the 90 days prior to the date of this quarterlyreport, Liquidmetal Technologies (the “Company”) carried out an evaluation,under the supervision and with the participation of the Company’s management,including the Company’s Chief Executive Officer and Chief Financial Officer, ofthe effectiveness as of March 31, 2005 of the design and operation of theCompany’s disclosure controls and procedures pursuant to Rule 13a-15 under theSecurities Exchange Act of 1934, as amended. Based on that evaluation, the Chief Executive Officer and ChiefFinancial Officer have concluded that these disclosure controls and procedureswere ineffective by reason of the material weaknesses mentioned in more detailbelow in timely alerting them to material information relating to the Company,including its consolidated subsidiaries, required to be included in thisquarterly report on Form 10-Q.

 

Update on Management’sAssessment of Internal Control Over Financial Reporting.****Updateon Management’s Assessment of Internal Control Over Financial Reporting********.The time********and resources committed tothe restatement of prior periods’ financial statements as aforementioneddelayed our internal timetable with respect to our documentation, assessmentand evaluation of internal control over financial reporting, which are requiredto be undertaken  to comply with Section 404of the Sarbanes-Oxley Act of 2002 (“SOX 404”). Due in part to the issuesdescribed in the foregoing paragraph, management’s assessment of theeffectiveness of our internal control over financial reporting has been substantiallydelayed and is not complete, which in turn has prevented the Company’sindependent registered public accounting firm, Stonefield Josephson, from beingable to satisfactorily complete an audit of the Company’s internal control overfinancial reporting pursuant to SOX 404. Based on the foregoing, Stonefield Josephson has disclaimed an opinionon the Company’s internal control over financial reporting.****

 

****In making our assessment of internal control over financialreporting, management used the criteria established in “Internal Control -Integrated Framework” issued by the Committee of Sponsoring Organizations ofthe Treadway Commission (COSO). Although our work was incomplete, managementhas identified several control deficiencies, some of which have been determinedto be material weaknesses in internal control over financial reporting.  As a result of the material weaknessesidentified below, management has concluded that it did not maintain effectiveinternal control over financial reporting as of December 31, 2004, basedon the criteria established in COSO.****

 

****We have identified the following material weaknesses inconnection with our ongoing assessment of internal controls as follows:****

 

****1. Lack of adequate segregation ofduties in accounts payable and accounts receivable involving cash receipts anddeposits, bank reconciliations, cash disbursements, purchasing, and accountsreceivable reconciliations;****

 

****2. Lack of adequate controls and monitoringof payroll and payroll processing, currently outsourced to a third partyprovider; and****

 

****3. Lack of documentation to evidence reviews of certainreconciliations; lack of documentation of authorization of transactions; manualperformance of numerous procedures that could be automated using currentreporting systems.****

 

****4. D********ueto the lack of adequate segregation of duties and documentation to evidencereviews of certain reconciliations, authorization of transactions and manualperformance of numerous procedures, led to significant adjustments at year endto the accounting records and financial reports.****

 

****5.Managements’ documentation of the Company’s internal controls was notsufficient.****

 

****6. Theindependent third party engaged to help document and assess the Company’sinternal controls, has identified numerous and significant deficiencies whichmanagement has not completed evaluating whether they would rise to the level ofa material weakness in accordance to the PCAOB Audit Standard No. 2.****

 

****Management believes that it has taken appropriate steps toaddress these material deficiencies subsequent to March 31, 2005,including hiring an independent consulting firm to identify and proposeremedial actions to address and mitigate the deficiencies.****

**** ****

****25****

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**** ****

****We cannot assure you that we will not discover additionalmaterial weaknesses in the future; however management will continue to workwith the independent consulting firm and work towards compliance with SOX 404as of December 31, 2005.****  

 

Changes in internal controls. There were no changes in the Company’s internal controlsover financial reporting that occurred during the quarter ended March 31,2005.  The Company is currently in theprocess of re-evaluating its internal controls pursuant to SOX 404 (see Item 4Controls and Procedures, Evaluations of disclosure controls and procedures).

 

### **PART II**

**OTHER INFORMATION**

 

**Item 1 – Legal Proceedings**

 

There were no material developments in our legal proceedings during thecurrent quarter.

 

**Item3 – Defaults Upon Senior Securities**

** **

On March 3, 2004, we sold $9.9 million of 6.0% seniorconvertible 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 that served as a financial advisor to the Company for thetransaction.  The notes were convertibleat any time into our common stock at a price of $3.00 per share.  Investors in the private placement receivedwarrants to purchase an aggregate amount of up to approximately 1.2 millionshares of common stock, exercisable at $3.00 per share for varying periods butno later than 100 days following the effectiveness of a registration statementcovering the resale of shares issuable upon exercise of the warrants.  In addition, the investors had the right tocall for repayment of the notes prior to maturity at any time after the secondanniversary of the closing of the transaction.

 

OnAugust 19, 2004, the Company completed a private exchange offer for its March Notes.  Under terms of the exchange offer,approximately $5.5 million in aggregate principal amount of the March Noteshave been exchanged for an aggregate of (i) $2.75 million of 6% Senior SecuredNotes Due 2007 (the “Long-Term Notes”) and (ii) $2.75 million of 10% SeniorSecured Notes Due 2005 (the “Short-Term Notes”), collectively referred to as“Exchange Notes”.  In addition, the Company redeemedapproximately $4.5 million of the March Notes in cash.  The Exchange Notes are collateralizedby certain patents owned by the Company and second priority mortgage interestin plant facilities and certain equipment at our plant in South Korea.

 

In connection with the private exchange offer, the Company issued $250thousand of private placement notes to certain Placement Agents as issuancecosts.  Of the $250 thousand notesissued, $125 thousand was paid in the form of long-term notes which is due in2007 with interest rate of 6% per annum (Long-Term Notes) and $125 thousand waspaid in the form of short-term notes which is due in 2005 with interest rate of10% per annum (Short-Term Notes).

 

The Short-Term Notes have a maturity date of July 29, 2005, and aconversion price of $2.00 per share (compared to a conversion price of $3.00per share under the March Notes). The Long-Term Notes have a maturity date of July 29, 2007, and aconversion price of $1.00 per share.  Further, the exchange notes are convertible into Common Stock, at theoption of the Company, if at any time after the issuance of the notes, theclosing per share price of the Common Stock exceeds $4.00 (as adjusted forstock splits, reverse splits, stock dividends, and recapitalizations) for 30consecutive trading days, and further provided that there has been effectiveregistration during such period.  Holdersof the Long-Term Notes also have the right to call for repayment of theLong-Term Notes prior to maturity at any time after the second anniversary ofthe completion of the exchange offer.  Atotal of 563,151 warrants to purchase our common stock at an exercise price of$3.00 per share—all of which were previously issued in connection with thepurchase of the March Notes—have been amended to provide for an extendedexpiration date of March 1, 2006. As of March 31, 2005, we were in breach of a covenant inthe Note Exchange Agreement requiring us to become current in our SECfilings, as well as file a registration statement with the SEC forthe shares into which the notes are convertible, within 90 days of the issuedate of the new notes.  Late registration fee of $0.9 million has beenaccrued as interest expense, and is included in accounts payable and accruedliabilities as of March 31, 2005. If written notice of default isdelivered to us for breach of this covenant, then we will have a period of30 days to cure the breach before it becomes an event of default under thenotes, and if the breach is not cured during such time period, the holdersof the notes will become entitled to accelerate the remaining balanceof their respective notes and declare them immediately due andpayable.  As of the date of the filing of this Form10-Q, we have not received a notice for demand for payment as aresult of not meeting the registration and listing requirements.

 

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**Item 6 – Exhibits and Reports on Form 8-K.**

 

(a)                                  Exhibits

 

The following documents are filed as an exhibit to this Report:

 
| **Exhibit  Number** | ** ** | **Description of Document**                                                                                                            |
|---------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------|
|                |       |                                                                                                                                   |
| 31.1                |       | Certification of the President and Chief Executive  Officer, John Kang, as required by Section 3.02 of Sarbane-Oxley Act of  2002 |
|                |       |                                                                                                                                   |
| 31.2                |       | Certification of Chief Financial Officer, Young Ham,  as required by Section 3.02 of Sarbane-Oxley Act of 2002                    |
|                |       |                                                                                                                                   |
| 32.1                |       | Certification of Principal Executive Officer, John  Kang, as required by Section 9.06 of Sarbane-Oxley Act of 2002                |
|                |       |                                                                                                                                   |
| 32.2                |       | Certification of Chief Financial Officer,  Young Ham, as required by Section 9.06 of Sarbane-Oxley Act of 2002                    |

 

(b)                                 Reportson Form 8-K

 

-Filed April 15, 2005

-Filed May 10, 2005

 

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**SIGNATURES**

 

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

 
|               | LIQUIDMETAL  TECHNOLOGIES                        |
|--------------------|--------------------------------------------------|
|               | (Registrant)                                     |
|               |                                             |
| Date: May 13, 2005 | /s/ John Kang                                    |   |
|               | John Kang                                        |
|               | Chairman, President and Chief Executive  Officer |
|               | (Principal Executive Officer)                    |
|               |                                             |
|               |                                             |
| Date: May 13, 2005 | /s/ Young Ham                                    |   |
|               | Young Ham                                        |
|               | Chief Financial Officer                          |
|               | (Principal Financial and Accounting  Officer)    |

 

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