** **

**UNITED STATES**SECURITIES AND EXCHANGE COMMISSION

**WASHINGTON, D.C.20549**

** **

### **FORM 10-Q/A**

**AmendmentNo. 1**

 

| **ý**                                                                                                                                                                  | ** ** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE  ACT OF 1934**  |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------------|
| ** **                                                                                                                                                                  |
| **For the quarterly  period ended March 31, 2004**                                                                                                                     |
| ** **                                                                                                                                                                  |
| **OR**                                                                                                                                                                      |
|                                                                                                                                                                        |
| **o**                                                                                                                                                                       | ** ** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE  ACT OF 1934** |
| ** **                                                                                                                                                                  |
| **For the  transition period from             to           ** |

 

**CommissionFile No. 000-31332****           **

 

**LIQUIDMETAL TECHNOLOGIES, INC.**

(Exact name ofRegistrant as specified in its charter)

 

| **Delaware**                                                                  | ** ** | **33-0264467**      |
|-------------------------------------------------------------------------------|------------|---------------------|
| (State or other jurisdiction of                                               |       | (I.R.S. Employer    |
| incorporation or organization)                                                |       | 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) hasfiled 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) hasbeen subject to such filing requirements for at least the past 90 days.

 

Yes o No ý

 

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

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

 

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).

 

Yes o No ý

 

#### **As of December 10, 2004, there were 41,609,652shares of the registrant’s common stock, $.001 par value, outstanding.**

 

 

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**LIQUIDMETAL TECHNOLOGIES, INC.AMENDMENT NO. 1 TO FORM 10-QFOR THE QUARTER ENDED****MARCH 31,2004**

 

**EXPLANATORY NOTE**

 

We are filing thisAmendment No. 1 to our Quarterly Report on Form 10-Q for the quarterended March 31, 2004, as filed with the U.S. Securities and ExchangeCommission (SEC) on December 22, 2004, to restate our financial statementsto properly account for the conversion feature of the senior convertible notesissued in March 2004 (see Note 7 to the condensed consolidated financialstatements). Additionally, reclassifications to our financial statements havebeen made for consistent presentation of our warrant liabilities, settlementpayable, and change in value of warrant liabilities. This amendment does not reflect events occurring after the filing of theoriginally filed Form 10-Q.

 

 

2

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**FORWARD-LOOKING INFORMATION**

 

Statements in this report concerning the futuresales, expenses, profitability, financial resources, product mix, marketdemand, product development and other statements in this report concerning thefuture results 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 differmaterially from those projected in the forward-looking statements due to risksand uncertainties that exist in the Company’s operations and businessenvironment, including competition, need for increased acceptance of products,ability to continue to develop and extend our brand identity, ability toanticipate and adapt to a competitive market, ability to effectively managerapidly expanding operations, amount and timing of operating costs and capitalexpenditures relating to expansion of our business, operations andinfrastructure, ability to provide superior customer service, dependence uponkey personnel and the like. The Company’s most recent filings with theSecurities and Exchange Commission, including Form 10-K, containadditional information concerning many of these risk factors, and copies ofthese filings are available from the Company upon request and without charge.

 

3

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#### **TABLE OF CONTENTS**

#### ** **

| **PART I**                                                                                               |       |
|---------------------------------------------------------------------------------------------------------------|------------|
|                                                                                                          |       |
| **Item 1 – Financial Statements**                                                                        | ** ** |
| ** **                                                                                                    | ** ** |
| Condensed Consolidated Balance  Sheets (unaudited)                                                            |       |
| Condensed Consolidated  Statements of Operations and Comprehensive Income (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 2 – Changes in  Securities and Use of Proceeds**                                                  | ** ** |
| ** **                                                                                                    | ** ** |
| **Item 6 – Exhibits**                                                                                    | ** ** |
| ** **                                                                                                    | ** ** |
| **Signatures**                                                                                                | ** ** |
| ** **                                                                                                    | ** ** |
| **Certifications**                                                                                            | ** ** |

 

4

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### **PART I**

### **FINANCIALINFORMATION**

### ** **

**Item 1 –Financial Statements**

 

**LIQUIDMETALTECHNOLOGIES, INC. AND SUBSIDIARIES**

**CONDENSEDCONSOLIDATED BALANCE SHEETS**

**(inthousands, except share data)**

 
| ** **                                                                                                                                          | ** ** | **(Unaudited)**            | ** ** | ** **                    | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------|------------|-------------------------------|------------|
| ** **                                                                                                                                          | ** ** | **March 31,****2004** | ** ** | **December 31,****2003** | ** ** |
| ** **                                                                                                                                          | ** ** | **(Restated)**             | ** ** | ** **                    | ** ** |
| **ASSETS**                                                                                                                                          | ** ** | ** **                 | ** ** | ** **                    | ** ** |
| ** **                                                                                                                                          | ** ** | ** **                 | ** ** | ** **                    | ** ** |
| Current Assets:                                                                                                                                     |       |                       |       |                          |       |
|                                                                                                                                                |       |                       |       |                          |       |
| Cash  and cash equivalents                                                                                                                          |       | $                          | 10,749     |                          | $          | 3,127 |   |
| Trade  accounts receivables, net of allowance for doubtful accounts of $163 and $127                                                                |       | 2,950                      |       | 3,748                         |       |
| Inventories                                                                                                                                         |       | 5,653                      |       | 3,731                         |       |
| Prepaid  expenses and other current assets                                                                                                          |       | 454                        |       | 395                           |       |
| Assets  available for sale, net                                                                                                                     |       | 556                        |       | 827                           |       |
| Total current assets                                                                                                                                |       | 20,362                     |       | 11,828                        |       |
|                                                                                                                                                |       |                       |       |                          |       |
| Property, plant and  equipment, net                                                                                                                 |       | 17,450                     |       | 17,743                        |       |
| Other intangibles, net                                                                                                                              |       | 980                        |       | 984                           |       |
| Other assets                                                                                                                                        |       | 862                        |       | 297                           |       |
| Total  assets                                                                                                                                       |       | $                          | 39,654     |                          | $          | 30,852 |   |
|                                                                                                                                                |       |                       |       |                          |       |
| **LIABILITIES AND SHAREHOLDERS’  EQUITY**                                                                                                      | ** ** | ** **                 | ** ** | ** **                    | ** ** |
| Current Liabilities:                                                                                                                                |       |                       |       |                          |       |
|                                                                                                                                                |       |                       |       |                          |       |
| Accounts  payable and accrued expenses                                                                                                              |       | $                          | 4,363      |                          | $          | 3,683 |   |
| Settlement  payable                                                                                                                                 |       | 2,943                      |       | 2,765                         |       |
| Deferred  revenue                                                                                                                                   |       | 837                        |       | 1,435                         |       |
| Long-term  debt, current portion, net of debt discount of $8,652 and $0                                                                             |       | 1,911                      |       | 1,032                         |       |
| Other  liabilities, current portion                                                                                                                 |       | 1,302                      |       | 1,940                         |       |
| Warrant  liabilities                                                                                                                                |       | 717                        |       | —                        |       |
| Conversion  feature liabilities                                                                                                                     |       | 5,885                      |       | —                        |       |
| Total  current liabilities                                                                                                                          |       | 17,958                     |       | 10,855                        |       |
|                                                                                                                                                |       |                       |       |                          |       |
| Long-term debt, net of  current portion                                                                                                             |       | 3,195                      |       | 3,015                         |       |
| Other long-term  liabilities, net of current portion                                                                                                |       | 846                        |       | 814                           |       |
| Total  liabilities                                                                                                                                  |       | 21,999                     |       | 14,684                        |       |
|                                                                                                                                                |       |                       |       |                          |       |
| Commitments and  Contingencies:                                                                                                                     |       |                       |       |                          |       |
|                                                                                                                                                |       |                       |       |                          |       |
| Minority  interest                                                                                                                                  |       | —                     |       | 5                             |       |
|                                                                                                                                                |       |                       |       |                          |       |
| Shareholders’ Equity:                                                                                                                          |       |                       |       |                          |       |
|                                                                                                                                                |       |                       |       |                          |       |
| Common  stock, no par value; 100,000,000 shares authorized and 41,609,652 issued and  outstanding at March 31, 2004 and December 31, 2003 |       | 42                         |       | 42                            |       |
| Additional  paid-in capital                                                                                                                         |       | 128,729                    |       | 128,581                       |       |
| Unamortized  stock-based compensation                                                                                                               |       | (7                         | )          | (128                          | )          |
| Accumulated  deficit                                                                                                                                |       | (111,743                   | )          | (112,587                      | )          |
| Accumulated  other comprehensive income                                                                                                             |       | 634                        |       | 255                           |       |
| Total  shareholders’ equity                                                                                                                    |       | 17,655                     |       | 16,163                        |       |
|                                                                                                                                                |       |                       |       |                          |       |
| Total  liabilities and shareholders’ equity                                                                                                    |       | $                          | 39,654     |                          | $          | 30,852 |   |

 

The accompanyingnotes are an integral part of the condensed consolidated financialstatements.

 

5

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**LIQUIDMETALTECHNOLOGIES, INC. AND SUBSIDIARIES**

 

### **CONDENSEDCONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)**

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

**(unaudited)**

 
| ** **                                                                            | ** ** | **For the Three Months  Ended March 31,** | ** ** |
|---------------------------------------------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                                                            | ** ** | **2004**                                       | ** ** | **2003** | ** ** |
| ** **                                                                            | ** ** | **(Restated)**                                 | ** ** | **(Restated)** | ** ** |
|                                                                                  |       |                                           |       |   |   |
| Revenue                                                                               |       | $                                              | 6,288      |   | $ | 3,199 |   |
| Cost of sales                                                                         |       | 3,557                                          |       | 2,660 |   |
| Gross  profit                                                                         |       | 2,731                                          |       | 539 |   |
|                                                                                  |       |                                           |       |   |   |
| Operating Expenses:                                                                   |       |                                           |       |   |   |
| Selling,  general, and administrative                                                 |       | 3,065                                          |       | 4,062 |   |
| Research  and development                                                             |       | 341                                            |       | 4,038 |   |
| Total  operating expenses                                                             |       | 3,406                                          |       | 8,100 |   |
| Loss from operations                                                                  |       | (675                                           | )          | (7,561 | ) |
|                                                                                  |       |                                           |       |   |   |
| Change in value of  warrants, gain                                                    |       | 586                                            |       | — |   |
| Change in value of  conversion feature, gain                                          |       | 1,710                                          |       | — |   |
| Interest expense                                                                      |       | (396                                           | )          | (61 | ) |
| Interest income                                                                       |       | 12                                             |       | 126 |   |
| Income  (loss) from operations before minority interest and income taxes              |       | 1,237                                          |       | (7,496 | ) |
|                                                                                  |       |                                           |       |   |   |
| Income  taxes                                                                         |       | —                                         |       | — |   |
| Minority  interest in loss of consolidated subsidiary                                 |       | —                                         |       | (7 | ) |
|                                                                                  |       |                                           |       |   |   |
| Income (loss) from  continuing operations                                             |       | 1,237                                          |       | (7,503 | ) |
|                                                                                  |       |                                           |       |   |   |
| Income (loss) from  discontinued equipment manufacturing operations, net of tax of $0 |       | (393                                           | )          | 7 |   |
|                                                                                  |       |                                           |       |   |   |
| Net income (loss)                                                                     |       | 844                                            |       | (7,496 | ) |
|                                                                                  |       |                                           |       |   |   |
| Other comprehensive  income (loss):                                                   |       |                                           |       |   |   |
| Foreign  exchange translation gain (loss)                                             |       | 379                                            |       | (940 | ) |
| Unrealized  loss on marketable securities held-for-sale                               |       | —                                         |       | (1,141 | ) |
| Comprehensive  income (loss)                                                          |       | $                                              | 1,223      |   | $ | (9,577 | ) |
|                                                                                  |       |                                           |       |   |   |
| Net income (loss) per  share basic and diluted:                                       |       |                                           |       |   |   |
| Income  (loss) per share – continuing operations                                 |       | $                                              | 0.03       |   | $ | (0.18 | ) |
| Loss  per share – discontinued operations                                        |       | $                                              | (0.01      | ) | $ | (0.00 | ) |
| Income  (loss) per share – basic and diluted                                     |       | $                                              | 0.02       |   | $ | (0.18 | ) |
|                                                                                  |       |                                           |       |   |   |
| Number of weighted  average shares – basic and diluted                           |       | 41,610                                         |       | 41,390 |   |

 

The accompanyingnotes are an integral part of the condensed consolidated financialstatements.

 

6

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**LIQUIDMETALTECHNOLOGIES, INC. AND SUBSIDIARIES**

 

**CONDENSED CONSOLIDATED STATEMENTS OFSHAREHOLDERS’ EQUITY**

###### **Forthe Three Months Ended March 31, 2004**

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

 
| ** **                                                 | ** ** | **Common  Shares** | ** ** | **Common  Stock** | ** ** | **Additional  Paid in  Capital** | ** ** | **Unamortized  Stock-option  Based  Compensation** | ** ** | **Accumulated  Deficit** | ** ** | **Accumulated Other  Comprehensive  Income** | ** ** | **Total**  | ** ** |
|------------------------------------------------------------|------------|--------------------|------------|-------------------|------------|----------------------------------|------------|----------------------------------------------------|------------|--------------------------|------------|----------------------------------------------|------------|------------|------------|
| ** **                                                 | ** ** | ** **         | ** ** | ** **        | ** ** | **(Restated)**                   | ** ** | ** **                                         | ** ** | **(Restated)**           | ** ** | ** **                                   | ** ** | ** ** | ** ** |
|                                                       |       |               |       |              |       |                             |       |                                               |       |                     |       |                                         |       |       |       |
| **Balance, December 31, 2003**                        |       | 41,609,652         |       | $                 | 42         |                             | $          | 128,581                                            |       | $                        | (128       | )                                            | $          | (112,587   | )          | $ | 255 |   | $ | 16,163 |   |
| Stock-based  compensation                                  |       | —             |       | —            |       | 261                              |       | 8                                                  |       | —                   |       | —                                       |       | 269        |       |
| Unamortized  stock-based compensation                      |       |               |       | —            |       | (113                             | )          | 113                                                |       | —                   |       | —                                       |       | —     |       |
| Foreign  exchange translation gain                         |       | —             |       | —            |       | —                           |       | —                                             |       | —                   |       | 379                                          |       | 379        |       |
| Net  income                                                |       | —             |       | —            |       | —                           |       | —                                             |       | 844                      |       | —                                       |       | 844        |       |
| **Balance, March 31, 2004 (Unaudited) (As Restated)** |       | 41,609,652         |       | $                 | 42         |                             | $          | 128,729                                            |       | $                        | (7         | )                                            | $          | (111,743   | )          | $ | 634 |   | $ | 17,655 |   |

 

The accompanyingnotes are an integral part of the condensed consolidated financialstatements.

 

7

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**LIQUIDMETALTECHNOLOGIES, INC. AND SUBSIDIARIES**

 

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

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

**(unaudited)**

 
| ** **                                                                                               | ** ** | **For the Three Months  Ended March 31,** | ** ** |
|----------------------------------------------------------------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                                                                               | ** ** | **2004**                                       | ** ** | **2003** | ** ** |
| ** **                                                                                               | ** ** | **(Restated)**                                 | ** ** | **(Restated)** | ** ** |
|                                                                                                     |       |                                           |       |   |   |
| **Operating activities:**                                                                                |       |                                           |       |   |   |
| Net  income (loss)                                                                                       |       | $                                              | 844        |   | $ | (7,496 | ) |
|                                                                                                     |       |                                           |       |   |   |
| Adjustments  to reconcile loss from operations to net cash provided by (used for)  operating activities: |       |                                           |       |   |   |
|                                                                                                     |       |                                           |       |   |   |
| Depreciation  and amortization                                                                           |       | 894                                            |       | 1,368 |   |
| Amortization  of debt discount                                                                           |       | 259                                            |       | — |   |
| Gain  from change in value of warrants                                                                   |       | (586                                           | )          | — |   |
| Gain  from change in value of conversion feature                                                         |       | (1,710                                         | )          | — |   |
| Stock-based  compensation                                                                                |       | 269                                            |       | 43 |   |
| Bad  debt expense                                                                                        |       | 72                                             |       | (243 | ) |
| Warranty  expense                                                                                        |       | 57                                             |       | 64 |   |
|                                                                                                     |       |                                           |       |   |   |
| Changes  in operating assets and liabilities:                                                            |       |                                           |       |   |   |
| Accounts  receivable                                                                                     |       | 726                                            |       | 1,086 |   |
| Inventories                                                                                              |       | (1,922                                         | )          | (498 | ) |
| Prepaid  expenses and other current assets                                                               |       | (59                                            | )          | 1,093 |   |
| Other  assets                                                                                            |       | (579                                           | )          | 33 |   |
| Accounts  payable and accrued expenses                                                                   |       | 623                                            |       | (3,975 | ) |
| Unearned  revenue                                                                                        |       | (598                                           | )          | (413 | ) |
| Other  liabilities                                                                                       |       | (578                                           | )          | (2 | ) |
| Net  cash used for continuing operations                                                                 |       | (2,288                                         | )          | (8,940 | ) |
|                                                                                                     |       |                                           |       |   |   |
| Net  cash provided by (used) discontinued operations                                                     |       | 266                                            |       | (1,569 | ) |
| Net  cash used for operating activities                                                                  |       | (2,022                                         | )          | (10,509 | ) |
|                                                                                                     |       |                                           |       |   |   |
| **Investing Activities:**                                                                                |       |                                           |       |   |   |
| Purchases  of property and equipment                                                                     |       | —                                         |       | (1,858 | ) |
| Investment  in patents and trademarks                                                                    |       | (20                                            | )          | (90 | ) |
| Investment  in marketable securities                                                                     |       | —                                         |       | (1,668 | ) |
| Net  cash used for investing activities                                                                  |       | (20                                            | )          | (3,616 | ) |
|                                                                                                     |       |                                           |       |   |   |
| **Financing Activities:**                                                                                |       |                                           |       |   |   |
| Proceeds  from borrowings                                                                                |       | 9,924                                          |       | 5,488 |   |
| Repayment  of other liabilities                                                                          |       | (369                                           | )          | (2 | ) |
| Stock  options exercised                                                                                 |       | —                                         |       | 498 |   |
| Net  cash provided by financing activities                                                               |       | 9,555                                          |       | 5,984 |   |
|                                                                                                     |       |                                           |       |   |   |
| Effect  of foreign exchange translation                                                                  |       | 109                                            |       | 1,327 |   |
| Net  increase (decrease) in cash and cash equivalents                                                    |       | 7,622                                          |       | (6,814 | ) |
|                                                                                                     |       |                                           |       |   |   |
| Cash and cash  equivalents at beginning of period                                                        |       | 3,127                                          |       | 25,058 |   |
| Cash and cash  equivalents at end of period                                                              |       | $                                              | 10,749     |   | $ | 18,244 |   |
|                                                                                                     |       |                                           |       |   |   |
| Supplemental cash flow  information:                                                                     |       |                                           |       |   |   |
| Interest  paid                                                                                           |       | $                                              | 86         |   | $ | 34 |   |
| Taxes  paid                                                                                              |       | $                                              | —     |   | $ | 57 |   |

 

The accompanyingnotes are an integral part of the condensed consolidated financialstatements.

 

8

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During the three monthsended March 31, 2004, the Company sold its 51% ownership interest inDongyang to the 49% minority shareholder, which resulted in a loss of $46 fromdisposal of discontinued operations as of March 31, 2004.

 

During the three monthsended March 31, 2004, the change in the foreign exchange between the U.S.Dollar and the South Korean Won resulted in a $577 gain related property, plantand equipment, net and loss of $129 from notes payable.

 

During the three months ended March 31, 2003, the change in theforeign exchange between the U.S. Dollar and the South Korean Won resulted in a$313 gain related to the note payable and $906 loss related to property, plantand equipment, net.

 

During the three monthsended March 31, 2003, an option holder surrendered 93,758 share of theCompany’s common stock in-lieu of cash payment for the option exercise price of$250 and income taxes payable by the option holder of $403. The common sharesreceived in lieu of cash payment were immediately canceled upon receipt of theshares by the Company.

 

The accompanyingnotes are an integral part of the condensed consolidated financialstatements.

 

9

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**LIQUIDMETALTECHNOLOGIES AND SUBSIDIARIES**

** **

**NOTES TO CONDENSED CONSOLIDATED FINANCIALSTATEMENTS**

**For theThree Months Ended March 31, 2004 and 2003**

**(inthousands, except share data)**

**(unaudited)**

 

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

 

The accompanying unaudited condensed consolidated financial statementshave been prepared in accordance with accounting principles generally acceptedin the United States of America (“generally accepted accounting principles”)for interim financial information and with the instructions to Form 10-Q. Accordingly,they do not include all of the information and notes required by generallyaccepted accounting principles for complete financial statements. In theopinion of management, all adjustments (consisting only of normal recurringaccruals) considered necessary for a fair presentation have been included. Inaddition, certain reclassifications have been made for consistent presentation.Operating results for the three months ended March 31, 2004 are notnecessarily indicative of the results that may be expected for any futureperiods or the year ending December 31, 2004. The accompanying unauditedcondensed consolidated financial statements should be read in conjunction withthe Company’s Form 10-K filed with the Securities and Exchange Commissionon November 10, 2004.

 

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

 

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

 

Stock-based compensation

 

TheCompany applies Accounting Principles Board (“APB”) Opinion No. 25 foroptions when the exercise price of options granted to employees is less thenthe fair value of the underlying stock on the date of grant. The Companyapplies Statement of Financial Accounting Standards (“SFAS”) No. 123 foroptions granted to non-employees who 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 dilutedloss per share from continuing operations would have been as follows:

 

10

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| ** **                                                               | ** **                                                                                                                                | **For the Three Months  Ended March 31,** | ** ** |
|--------------------------------------------------------------------------|-------------------------------------------------------------------------------------------------------------------------------------------|------------------------------------------------|------------|
| ** **                                                               | ** **                                                                                                                                | **2004**                                       | ** ** | **2003** | ** ** |
| ** **                                                               | ** **                                                                                                                                | **(Restated)**                                 | ** ** | **(Restated)** | ** ** |
|                                                                     |                                                                                                                                      |                                           |       |   |   |
| Net income (loss) from  continuing operations as reported                |                                                                                                                                      | $                                              | 1,237      |   | $ | (7,503 | ) |
|                                                                     |                                                                                                                                      |                                           |       |   |   |
| *Add:*                                                                   | stock-based employee  compensation expense included in reported net income, net of related tax  effects                                   |                                           | 270        |   | 141 |   |
|                                                                     |                                                                                                                                      |                                           |       |   |   |
| *Deduct:*                                                                | total stock-based  employee compensation expense determined under the fair value based method  for all awards, net of related tax effects |                                           | (1,709     | ) | (2,017 | ) |
|                                                                     |                                                                                                                                      |                                           |       |   |   |
| Proforma  loss from continuing operations                                |                                                                                                                                      | $                                              | (202       | ) | $ | (9,379 | ) |
|                                                                     |                                                                                                                                      |                                           |       |   |   |
| Basic and diluted earnings  (loss) per share from continuing operations: |                                                                                                                                      |                                           |       |   |   |
| As  reported                                                             |                                                                                                                                      | $                                              | 0.03       |   | $ | (0.18 | ) |
| Pro  forma                                                               |                                                                                                                                      | (0.00                                          | )          | (0.23 | ) |

 

The fair value of each option grant is estimated onthe date of the grant using the Black-Scholes option-pricing model with thefollowing weighted-average assumptions used for grants for the three monthsended March 31, 2004 and 2003, respectively: expected volatility of 100%for all periods; dividend yield of 0.0% for all periods; expected option lifeof approximately 5 years; and a risk-free interest rate ranging from 2.9%to 3.4%.

 

**2.****                                     ****Restatement**

 

*Growell Restatement*

 

As a part of the accompanying condensed consolidated financialstatements and the notes thereto, the Company has restated certain previouslyissued financial statements due to the fact that revenues from equipment salesmade to Growell Metal Co., Ltd., a South Korean metals processing company (“Growell”),in the first quarter of 2003 should not have been recognized during the period.Revenues of $2,543 from the sale of die casting machines to Growell waspreviously recorded in the quarter ended March 31, 2003. The 2003 Growellsale of $2,543 had an associated cost of sales of $840 resulting in profit of$1,703. The effect of the restatement is to defer the recognition of revenue onthe die casting equipment in 2003 until the quarter ending March 31, 2004.

 

The die casting equipment were the subject of a previously reporteddispute between the Company’s South Korean subsidiary, Liquidmetal Korea Co.,Ltd. (“Liquidmetal Korea”), and Growell, which was a former supplier of alloyingots to Liquidmetal Korea’s Pyongtaek, South Korea manufacturing plant andalso a die casting licensee of the Company. The restatement of revenues fromthe equipment sales is a result of an analysis initiated by the Company basedupon the settlement of this dispute in January 2004 and a determinationthat the original revenue recognition decision did not include consideration ofall agreements relating to the subject matter of the transactions. The Companyconcluded that the equipment sales were contingent upon Liquidmetal Korea’scontinued performance under its agreements with Growell, and consequentlyrevenue recognition is deferred until the contingency was ended.

 

The Company has reclassified the die casting equipment at March 31,2003 and for subsequent quarterly periods as Machines held by customer, whichare included in inventory.

 

Under terms of a January 10, 2004 settlement of the dispute betweenLiquidmetal Korea and Growell, Liquidmetal Korea agreed to pay Growell $4,895to purchase Growell’s investment in alloy inventories, proprietary alloyingequipment purchased from

 

11

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Liquidmetal Korea, and supporting equipment purchased from other suppliers.Also as part of the settlement, Growell satisfied in full a balance of$2,058 owed to Liquidmetal Korea for the die casting machines Growell purchasedfrom Liquidmetal Korea in the first quarter of 2003 as part of a licenseagreement to manufacture Liquidmetal alloy parts for the South Koreanautomotive industry. The remaining settlement payable of $2,837 and tradeaccounts payable of $14 will be paid to Growell (in cash or stock at theCompany’s discretion) by December 31, 2004, and is included in settlementpayable and accounts payable and accrued liabilities in the March 31, 2004Condensed Consolidated Balance Sheet, respectively. The Company recorded a losson the settlement at December 31, 2003 of $2,765 which is included in “Costof Sales” in the December 31, 2003 Consolidated Statements of Operationsand Comprehensive Loss. The loss on settlement reflects the write-down of theassets received in the settlement to their fair market value. The loss isaccrued for in the “Accounts payable and accrued expenses” section in the December 31,2003, Consolidated Balance Sheet. The sale of the die casting machines toGrowell is reflected in the first quarter of 2004. Under the settlementagreement between the parties, the Company and Growell granted to the otherparty (and the other party’s affiliates) a release of all known and unknownclaims of any nature arising between the parties through the date ofsettlement, as well as a release against future claims under agreements betweenthe parties that were terminated as a part of the settlement. Thesettlement agreement provided that all agreements of any nature between theparties and their respective affiliates were terminated as of the date ofsettlement, with the exception of certain confidentiality agreements, aLiquidmetal coatings distribution agreement, and future rights under the diecasting agreement pursuant to which Growell purchased the die casting machinesand obtained a license to make auto parts from Liquidmetal alloys. Thesettlement agreement also includes, as an accommodation to Growell,if the Company becomes aware of any prospectivecustomer that desires to purchase a proprietary Company casting machine at atime when Growell desires to sell any of its Liquidmetal die casting machines,then the Company will not sell such die casting machine to the prospectivecustomer unless the Company first directs the prospective customer to Growelland encourages the prospective customer to purchase the machine from Growell.

 

*Stock Compensation Restatement*

 

As a part ofthe accompanying condensed consolidated financial statements and the notesthereto, the Company has restated certain previously issued financialstatements due to the fact that stock option grants were not calculated inaccordance with guidelines under APB Opinion No. 25, SFAS No. 123,and EITF 00-23. As such, unamortized stock compensation expense of $24 wasreversed during the period ended March 31, 2003.

 

TheCompany issued shares of common stock to an individual during the quarter thatwas previously not recorded. Therefore, additional paid in capital wasdecreased by $99 and stock compensation expense increased by $99 in selling,general, and administrative expense during the three months ended March 31,2003. Due to an additional 10,000 shares being issued related to thistransaction, the weighted average shares have increased as of March 31,2003.

 

*****Samsung Restatement*****

 

In2002, the Company was engaged by Samsung to provide Liquidmetal alloy parts forcell phones. The Company recognized approximately $315 of mold revenue in December 2002,which was subsequently written off in March 2003 as bad debt expense. Itwas determined that the revenue of $315 recognized in 2002 did not meet therequirement of revenue recognition under SAB 101 and accordingly the Companyhas restated its revenue and accounts receivable for 2002 by $315. Further, theCompany reversed the previously recorded write off of accounts receivables fromSamsung by decreasing selling, general, and administrative expenses by $309 forthe bad debt expense recognized during the three months ended March 31,2003.

 

*****JS Technologies Restatement*****

 

In September 2002,the Company was engaged by JS Technologies to provide molds and MP3 playercompact disc cases and recognized approximately $782 of revenue. JSTechnologies did not pay the remaining balance due of $172 because the MP3player compact disc cases never launched into full production, forwhich the Company recorded a bad debt expense in January 2003. Consequently, the Company restated itsselling, general and administrative expenses and the allowance for doubtfulaccounts as of and for the year ended 2002 by recognizing bad debt expense of$169 in 2002. Further, the Company

 

12

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reversedthe previously recorded write off of accounts receivables from JS Technologiesby decreasing selling, general, and administrative expenses by $166 for the baddebt expense recognized during the three months ended March 31, 2003.

 

*****AM Corporation Restatement*****

 

The Company was engagedby AM Corporation to develop knife prototypes for distribution of knives inEurope and recognized $250 in the first quarter of 2003. However, AMCorporation determined it would not continue with development and consequentlydid not pay the receivable of $250 and the Company recorded the amount as baddebt expense in the fourth quarter of 2003. It was determined that the $250recorded as revenue in the first quarter of 2003 did not meet the requirementof revenue recognition per SAB 101 and, accordingly, the sale and bad debtexpense were reversed in the first and fourth quarters of 2003, respectively.

 

The results of discontinued operations of the Company’s equipmentmanufacturing business (see note 5) for the three months ended March 31,2003 has been combined with continuing operations for comparative purposes. Asummary of the significant effects of the restatement is as follows:

 

13

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| ** **                                                                                                          | ** ** | **For the Three Months Ended**            | ** ** |
|---------------------------------------------------------------------------------------------------------------------|------------|-------------------------------------------|------------|
| **Consolidated Statements of  Operations Data:**                                                                    | ** ** | **3/31/03**                               | ** ** | **3/31/03** | ** ** |
| ** **                                                                                                          | ** ** | **Previously  Reported**                  | ** ** | **Restated** | ** ** |
| ** **                                                                                                          | ** ** | **(In thousands, except per share data)** | ** ** |
|                                                                                                                |       |                                      |       |   |   |
| Revenue                                                                                                             |       | $                                         | 6,559      |   | $ | 3,606 |   |
| Cost of sales                                                                                                       |       | 3,883                                     |       | 3,020 |   |
| Gross  profit                                                                                                       |       | 2,676                                     |       | 586 |   |
| Operating expense:                                                                                                  |       |                                      |       |   |   |
| Selling,  general, and administrative                                                                               |       | 4,507                                     |       | 4,105 |   |
| Research  and development                                                                                           |       | 4,038                                     |       | 4,038 |   |
| Total  operating expenses                                                                                           |       | 8,545                                     |       | 8,143 |   |
|                                                                                                                |       |                                      |       |   |   |
| Loss  before interest, other income, income taxes, minority interest and  discontinued operations                   |       | (5,869                                    | )          | (7,557 | ) |
| Interest  income (expense), net                                                                                     |       | 68                                        |       | 68 |   |
|                                                                                                                |       |                                      |       |   |   |
| Gain  on sale of marketable securities held-for-sale                                                                |       | —                                    |       | — |   |
|                                                                                                                |       |                                      |       |   |   |
| Loss  before income taxes, minority interest and discontinued operations                                            |       | (5,801                                    | )          | (7,489 | ) |
|                                                                                                                |       |                                      |       |   |   |
| Income  taxes                                                                                                       |       | —                                    |       | — |   |
|                                                                                                                |       |                                      |       |   |   |
| Minority  interest in (loss) income of consolidated subsidiary                                                 |       | (7                                        | )          | (7 | ) |
|                                                                                                                |       |                                      |       |   |   |
| Loss from  continuing operations                                                                               |       | (5,808                                    | )          | (7,496 | ) |
|                                                                                                                |       |                                      |       |   |   |
| Net loss                                                                                                            |       | $                                         | (5,808     | ) | $ | (7,496 | ) |
|                                                                                                                |       |                                      |       |   |   |
| Loss per share from  continuing operations – basic and diluted                                                 |       | $                                         | (0.14      | ) | $ | (0.18 | ) |
|                                                                                                                |       |                                      |       |   |   |
| Weighted  average common shares used to compute loss per share from continuing  operations – basic and diluted |       | 41,229                                    |       | 41,390 |   |

 

*SFAS 133 – Accounting forDerivative Instruments and Hedging Activities*

 

As a part of theaccompanying consolidated financial and the notes thereto, the Company hasrestated certain previously issued financial statements due to an error relatedto the Company’s accounting for embedded convertible feature of seniorconvertible notes issued in March 2004 in accordance with Statement ofFinancial Accounting Standards No. 133,

 

14

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“Accounting forDerivative Instruments and Hedging Activities”, (SFAS 133). For furtherdiscussions on the impact of this restatement, please refer to Note 7.

 

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

 

Translation of ForeignCurrency

 

Upon consolidation of theCompany’s foreign subsidiaries into the Company’s consolidated financialstatements, any balances with the subsidiaries denominated in the foreigncurrency are translated at the exchange rate at year end. The financialstatements of Liquidmetal Korea have been translated based upon Korean Won asthe functional currency. Liquidmetal Korea’s assets and liabilities weretranslated using the exchange rate at period end and income and expense itemswere translated at the average exchange rate for the reporting period. Theresulting translation adjustment was included in other comprehensive income(loss).

 

The Company applies **FASB No. 52,Foreign Currency Translation**, for translating foreigncurrency into US dollars in our consolidation of the financialstatements. Due to our restatements of previously reported financial statements(see Note 2), certain footnote disclosures and previously reported financialstatements were adjusted to conform to retroactive applications of FASB No. 52.These adjustments did not have a material impact in the financial statements.

 

NewAccounting Pronouncements

 

In October 2004, theEmerging Issues Task Force of the Financial Accounting Standards Board issuedits consensus opinion on EITF Issue No. 04-8, *The Effect of Contingently Convertible Debt on Diluted Earnings PerShare*(EITF No. 04-8). The Task Force reached a consensus thatcontingently convertible debt instruments with embedded conversion featuresthat are contingent upon market price triggers should be included in dilutedearnings per share computations, if dilutive, regardless of whether thecontingency has been met. The Company currently does not have any contingentlyconvertible debt under the scope of EITF Issue No. 04-8.

 

**4.****                                     ****Liquidity**

 

TheCompany has experienced losses from continuing operations during the last twofiscal years and has an accumulated deficit of $111,743 as of March 31,2004. Cash used in continuing operations for the three months ended March 31,2004 was $2.3 million and cash flow from continuing operations was negative forthe quarter ended March 31, 2004 and cash flow from continuing operations may benegative throughout the remaining fiscal year 2004. Such conditions raisesubstantial doubt that the Company will be able to continue as a going concernfor a reasonable period of time. These operating results occurred while theCompany was developing and attempting to commercialize and manufacture productsfrom an entirely new and unique technology. This business plan requiredsignificant spending related to start-up costs and capital expenditures. Thesefactors have placed a significant strain on the financial resources of theCompany. The ultimate success of the Company depends on its ability to continuereducing operating costs, generate higher revenue, achieve positive cash flowfrom continuing operations and profitability. The condensed consolidatedfinancial statements do not include any adjustments that might result from theoutcome of the uncertainty.

 

Our capital requirementsduring the next 12 months will depend on numerous factors, including thesuccess of our existing products, the development of new applications forLiquidmetal alloys, and the resources we devote to develop and support ourLiquidmetal alloy products. However, we anticipate our capital expenditures inthe next 12 months will be less than $0.5 million. We expect to continue todevote limited capital to our research and development activities, to furtherdevelop and strengthen our manufacturing capabilities, and for working capitaland other general corporate purposes.

 

We believe that ourcurrent cash and cash equivalents, which includes the private equity funding of$9.4 million net cash infusion in March 2004, of which $4.5 million wasredeemed as of August 2004 (see Note 7 and Note 13), together withanticipated cash flow from our operations, will be sufficient to fund our andcapital expenditure requirements for at least the next 12 months. Ourprojections of cash flows from operations and, consequently, future cash needsare subject to uncertainty. If our available funds and cash generated fromoperations are insufficient to satisfy our liquidity requirements,

 

15

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we may need to raiseadditional capital to fund operations and capital expenditure requirements. Wecannot be certain that additional capital, whether through selling additionaldebt or equity securities or obtaining a line of credit or other loan, will beavailable to us or, if available, will be on terms acceptable to us. If weissue additional securities to raise funds, these securities may haverights, preferences, or privileges senior to those of the rights of our commonstock and our stockholders may experience additional dilution.

 

**5.****                                     ****Discontinued Operations**

 

*Dongyang*

 

On June 28, 2002, the Company acquired a 51%interest in Chusik Hoesa Dongyang Yudoro (“Dongyang”). During 2003, Dongyangexperienced net losses as a result of a continuing economic downturn in marketsfor its machinery products. These events, along with Dongyang’s operating loss,cash flow losses and uncertainty surrounding its future cash flows, led theCompany to evaluate its investment for recoverability as of December 31,2003. As a result, the Company determined that the carrying value of itsinvestment in Dongyang exceeded its fair value as of December 31, 2003 inthe amount of $184. This impairment loss was recorded in operating expenses forthe year ended December 31, 2003.

 

In March 2004,the Company sold its 51% investment in Dongyang to the 49% minority shareholder.The selling price of the Company’s 51% interest in Dongyang was $80, which wasequal to the Company’s net carrying value for the 51% ownership held. Further,the Company agreed to pay Dongyang $155 for previously receivable balance fromGrowell. The transaction resulted in net payable to Dongyang of $75 and a lossof $46 from transfer of the Company’s interest in Donyang to the minorityshareholder. The loss from operations for the three months ended March 31,2004 totaled $50 and is included in the loss from discontinued equipmentmanufacturing operations for the period. The net payable balance of $75 isto be paid in quarterly installments throughout 2004, and is included inaccounts payable and accrued liabilities as of March 31, 2004.

 

TheCompany has adopted SFAS 144 and as a result the 2003 balances have beenrestated in order to conform with the presentation of 2004 financialstatements. Dongyang is reported as part of the assets available for saleon the balance sheet.

 

AsDonyang was sold prior to March 31, 2004, there are no assets andliabilities of Dongyang as of March 31, 2004. The following is a listingof the major classes of assets and liabilities of Dongyang as of December 31,2003.

 
| ** **                                 | ** ** | **December 31,  2003** | ** ** |
|--------------------------------------------|------------|-----------------------------|------------|
|                                       |       |                        |       |
| Current Assets:                            |       |                        |       |
| Cash  and cash equivalents                 |       | $                           | 1          |   |
| Accounts  receivable, net                  |       | 181                         |       |
| Inventories                                |       | 1,572                       |       |
| Prepaid  expenses and other current assets |       | 56                          |       |
| Total  current assets                      |       | 1,810                       |       |
|                                       |       |                        |       |
| Property, plant and  equipment, net        |       | $                           | 58         |   |
| Other Assets                               |       | 29                          |       |
| Total  assets                              |       | $                           | 1,897      |   |
|                                       |       |                        |       |
| Current Liabilities:                       |       |                        |       |
| Accounts  payable and accrued expenses     |       | $                           | 233        |   |
| Deferred  revenue                          |       | 1,583                       |       |
| Total  current liabilities                 |       | $                           | 1,816      |   |

 

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

 

16

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| ** **                                                             | ** ** | **For the Three months  Ended March 31,** | ** ** |
|------------------------------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                                             | ** ** | **2004**                                       | ** ** | **2003** | ** ** |
| ** **                                                             | ** ** | ** **                                     | ** ** | **(Restated)** | ** ** |
|                                                                   |       |                                           |       |   |   |
| Revenue                                                                |       | $                                              | 22         |   | $ | 182 |   |
| Loss from discontinued  equipment manufacturing operations, net of tax |       | (96                                            | )          | (10 | ) |
|                                                                        |            |                                                |            |  |  |  |  |

 

*Taesung*

 

On June 14, 2004, the Company entered into anAsset Purchase Agreement whereby all the assets and liabilities of its Taesungequipment manufacturing division in Korea were sold to a third party for $345which is payable by the third party in four equal installments with the lastinstallment being due on June 30, 2005. As of March 31, 2004, management determined thatno impairment was anticipated on the divestiture of its Taesung division. Ultimately,the sale resulted in a loss of approximately $184. The loss from operations forthe three months ended March 31, 2004 totaled $297 and is included in theloss from discontinued equipment manufacturing operations for the period.

 

TheCompany has adopted SFAS 144 and as a result the 2003 balances have beenrestated in order to conform with the presentation of 2004 financialstatements. Taesung is reported as part of the discontinued businessoperations as of March 31, 2004 as the Company’s plans for divesture ofTaesung was determined during the three months ended March 31, 2004.

 

Thefollowing is a listing of the major classes of assets and liabilities ofTaesung as of March 31, 2004 and December 31, 2003 (combined withDongyang as assets available for sale on the condensed consolidated balancesheet).

 
| ** **                                 | ** ** | **March 31,  2004** | ** ** | **December 31,  2003** | ** ** |
|--------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| Current Assets:                            |       |                     |       |                        |       |
| Cash  and cash equivalents                 |       | $                        | 2          |                        | $          | 1 |   |
| Accounts  receivable, net                  |       | 148                      |       | 256                         |       |
| Inventories                                |       | 510                      |       | 477                         |       |
| Prepaid  expenses and other current assets |       | 12                       |       | 113                         |       |
| Total  current assets                      |       | 672                      |       | 847                         |       |
|                                       |       |                     |       |                        |       |
| Property, plant and  equipment, net        |       | $                        | 153        |                        | $          | 157 |   |
| Other Assets                               |       | 104                      |       | 100                         |       |
| Total  assets                              |       | $                        | 929        |                        | $          | 1,104 |   |
|                                       |       |                     |       |                        |       |
| Current Liabilities:                       |       |                     |       |                        |       |
| Accounts  payable and accrued expenses     |       | $                        | 373        |                        | $          | 358 |   |

 

Summarized operatingresults of Taesung’s operations are as follows.

 
| ** **                                                             | ** ** | **For the Three months  Ended March 31,** | ** ** |
|------------------------------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                                             | ** ** | **2004**                                       | ** ** | **2003** | ** ** |
| ** **                                                             | ** ** | ** **                                     | ** ** | **(Restated)** | ** ** |
| Revenue                                                                |       | $                                              | 100        |   | $ | 225 |   |
| Loss  from discontinued equipment manufacturing operations, net of tax |       | (297                                           | )          | 17 |   |
|                                                                        |            |                                                |            |  |  |  |  |

 

**6.****                                     ****Product Warranty**

 

Due to the lack ofhistorical information for warranty expense related to bulk alloy products,management estimates product warranties as a percentage of bulk alloy productsales earned during the period. During the three months ended March 31,

 

17

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2004 and 2003, theCompany recorded $57 and $64, respectively, of warranty expense. The productwarranty accrual balance is included in accounts payable and accrued expenses.

 

**7.****                                     ****Notes Payable**

 

Senior ConvertibleNote

 

On March 3, 2004,the Company issued $9.9 million of 6.0% senior convertible notes due 2007 (the “March Notes”)to investor groups in a transaction led by Michigan Venture Capital Co., Ltd, aSouth Korea-based institutional investment firm, and IndiGo Ventures LLC, a NewYork-based investment firm (the “Placement Agents”) that served as a financialadvisor to the Company for the transaction. The notes are collateralized by thepatents held by the Company and second priority mortgage interest in plantfacilities and certain equipment in South Korea. The notes are convertible atany time into our common stock at a price of $3.00 per share. Investors in theprivate placement and the Placement Agents received warrants to purchase anaggregate amount of up to approximately 1.2 million shares of common stock,exercisable at $3.00 per share for varying periods but no later than 100 daysfollowing the effectiveness of a registration statement covering the resale ofshares issuable upon exercise of the warrants. In addition, the investors hadthe right to call for repayment of the notes prior to maturity at any timeafter the second anniversary of the closing of the transaction.

 

Pursuant to Statement ofFinancial Accounting Standards No. 133, “Accounting for DerivativeInstruments and Hedging Activities,” EITF 00-19, “Accounting for DerivativeFinancial Instruments Indexed to, and Potentially Settled in, a Company’s OwnStock,” EITF 00-27, “Application of Issue No. 98-5 to Certain ConvertibleInstruments,” and EITF 05-2 “The Meaning of ‘Conventional Convertible DebtInstrument’ in EITF Issue No. 00-19,” the original fair value of theembedded conversion feature of $7,595 have been recorded as conversion featureliabilities as the debt is considered non-conventional convertible debt. Theoriginal fair value was computed using the Black-Scholes model under thefollowing assumptions: (1) expected life of 3 years; (2) volatilityof 82%; (3) risk free interest of 2.15% and dividend rate of 0%. The fairvalue of the conversion feature on the date of issuance has been recorded asdebt discount to be amortized over the life the debt.

 

Pursuant to EITF 00-19, “Accountingfor Derivative Financial Instruments Indexed to, and Potentially Settled in, aCompany’s Own Stock”, the original fair value of the 1.2 million warrants of$1,302 as been recorded as warrant liabilities as the shares issuable under thewarrants have not been registered. The original fair value was and was computedusing the Black-Scholes pricing model under the following assumptions: (1) expectedlife of 0.27 years; (2) volatility of 82%, (3) risk free interest of0.95% and dividend rate of 0% on the date of issuance.

 

During the quarter ended March 31,2004, the original fair value of the embedded conversion feature of $7,595 andthe original fair value of the number of warrants issued to investors of $584,and the original fair value of 0.6 million warrants issued to Placement Agentsof $718 were recorded as discounts of the convertible note. In addition, $581direct costs incurred relating to issuance of the convertible note wererecorded as debt issuance cost in other assets.

 

As of March 31,2004, outstanding loan balance approximated $9,924, un-amortized discounts forconversion feature and warrants totaled $8,653 and other asset debt issuancecosts totaled $566 in other assets. Interest expense for the amortization ofdebt issuance cost and discount on note was $258. for the quarter ended March 31,2004. As of March 31, 2004, the effective interest rate was 38%.

 

Pursuantto Statement of Financial Accounting Standards No. 133, “Accounting forDerivative Instruments and Hedging Activities,” the Company is required toreport a value of the conversion liability as a fair value and record thefluctuation to the fair value of the conversion feature liability to currentoperations. The change in the fair value of the conversion feature liabilityresulted in a gain of $1,710 for the three months ended March 31, 2004. Thefair value of conversion feature liability outstanding at March 31, 2004was $5,885. The fair value of conversion features outstanding at March 31,2004 was

 

18

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computedusing the Black-Scholes model under the following assumptions: (1) 2.92years; (2) volatility of 85%, (3) risk free interest of 1.99% anddividend rate of 0%.

 

The Company is obligated, pursuant to a Registration Rights Agreement betweenthe Company, the Placement Agents and the note holders dated March 1, 2004to file a registration statement with the Securities and Exchange Commission toregister the shares of Common Stock issuable upon conversion of the notespayable and the related warrants on or before March 31, 2004 or, within 25days following the issuance thereof, and to use our best efforts to cause suchregistration statement to become effective within 60 days following therelevant filing date. Pursuant to EITF 00-19, “Accounting for DerivativeFinancial Instruments Indexed to, and Potentially Settled in, a Company’s OwnStock”, the relative fair values of the warrants of $1,302 have been recordedas a liability during March 2004 as the Company has not yet filed theregistration statement. Further, the $9,924 balance of the note andun-amortized discounts for conversion feature and warrants of $8,653 ispresented as current liability as of March 31, 2004 as the note holdershave the right to call for payment on demand as the registration statement hasnot been filed in accordance with the Registration Rights Agreement. Inaddition, the Company is required to report a value of the warrant as a fairvalue and record the fluctuation to the fair value of the warrant liability tocurrent operations. During the period from March 1, 2004 to March 31,2004, the change of the fair value of the warrants resulted in a gain of $586. Thefair value of warrants outstanding at March 31, 2004 of $717 was computedusing the Black-Scholes model under the following assumptions: (1) expectedlife of 0.27~0.19 years; (2) volatility of 95%, (3) risk freeinterest of 0.95% and dividend rate of 0%. As of December 2004, theCompany has not received any demands for payment from the note holders.

 

Kookmin Note

 

On February 4, 2003, our Korean subsidiary received 6,500,000 inSouth Korean Won, or approximately $5,488, under a loan from Kookmin Bank ofSouth Korea. The loan bears interest at an annual rate of 7.1%. In the event ofdelayed repayment, the interest increases to a maximum of 21%, depending on thelength of time the repayment is delayed. This loan is collateralized by theplant facilities and certain equipment in South Korea. During the firsteighteen months from the origination date, interest was payable on a monthlybasis. Beginning in September 2004, the Company will be required to makeequal monthly installments of principal and interest to repay the remainingbalance of the loan over a 36-month period.

 

Because this note payableis denominated in South Korea Won, the balance will fluctuate with the exchangerate between the U.S. Dollar and the South Korean Won, resulting in therecognition of foreign exchange gains or losses that are included in othercomprehensive loss. At March 31, 2004, the balance of the note was $3,835resulting in the recognition of a cumulative foreign exchange loss of $127which is included in the net foreign exchange loss of $127 in othercomprehensive loss during the three months ended March 31, 2004.

 

**8.    StockCompensation Plan**

 

Duringthe quarter ended March 31, 2004, under the Company’s 2002 EquityIncentive Plan which provides for the grant of stock options to officers,employees, consultants and directors, the Company granted options to purchase484 common shares of the Company for an exercise price of $3.81 which equaledthe fair market value on the date of grant

 

Duringthe quarter ended March 31, 2004, under the Company’s 2002 Non-employeeDirector Stock Option Plan which provides for the grant of stock options tonon-employee directors, the Company granted options to purchase 90,000 commonshares of the Company for an average exercise price of $3.22. All optionsgranted under this plan had exercise prices that were equal to the fair marketvalue on the date of grant.

 

TheCompany canceled 781,431 options during the quarter ended March 31, 2004for terminated employees and directors.

 

**9.****                                      SegmentReporting and Geographic Information**

 

SFAS No. 131,*Disclosures aboutSegments of an Enterprise and Related Information,*requirescompanies to provide certain information about their operating segments. In April 2002,the Company began classifying operations into two reportable

 

19

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segments: Liquidmetal alloy industrial coatings and bulk Liquidmetalalloys. The Liquidmetal alloy industrial coatings are used primarily as aprotective coating for industrial machinery and equipment, such as drill pipeused by the oil drilling industry and boiler tubes used by coal burning power plants.Bulk Liquidmetal alloys include market opportunities to manufacture and sellcasing components for electronic devices, medical devices, sporting goods,tooling, prototype sampling, defense applications and metal processingequipment. Primarily, the expenses incurred by the bulk Liquidmetal alloysegment are research and development costs and selling expenses associated withidentifying and developing market opportunities. Bulk Liquidmetal alloysproducts can be distinguished from Liquidmetal alloy coatings in that the bulkLiquidmetal alloy can have significant thickness, up to approximately one inch,which allows for their use in a wider variety of applications other than a thinprotective coating applied to machinery and equipment. Revenue and expensesassociated with research and development services are included in the bulkLiquidmetal alloy segment. The accounting policies of the reportable segmentsare the same as those described in Note 4 to the consolidated financialstatements included in the Company’s Form 10-K filed with the Securitiesand Exchange Commission on November 10, 2004.

 

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

 
| ** **                                                                     | ** ** | **Coatings** | ** ** | **Bulk Alloy** | ** ** | **Segment  Totals** | ** ** |
|--------------------------------------------------------------------------------|------------|--------------|------------|----------------|------------|---------------------|------------|
| 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 minority interest, interest expense and discontinued operations |       | 349          |       | 1,480          |       | 1,829               |       |
| Total  identifiable assets at end of period                                    |       | 985          |       | 23,698         |       | 24,683              |       |
|                                                                           |       |         |       |           |       |                |       |
| Three months ended March 31,  2003(restated):                             |       |         |       |           |       |                |       |
| Revenue  to external customers                                                 |       | $            | 772        |           | $          | 2,427               |       | $ | 3,199 |   |
| Gross  profit                                                                  |       | 379          |       | 160            |       | 539                 |       |
| Loss  before minority interest, interest expense and discontinued operations   |       | (126         | )          | (4,210         | )          | (4,336              | )          |
| Total  identifiable assets at end of period                                    |       | 616          |       | 27,719         |       | 28,335              |       |

 

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

 
| ** **                                                                                                   | ** ** | **For the Three Months  Ended March 31,** | ** ** |
|--------------------------------------------------------------------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                                                                                   | ** ** | **2004**                                       | ** ** | **2003** | ** ** |
| ** **                                                                                                   | ** ** | **(Restated)**                                 | ** ** | **(Restated)** | ** ** |
| Total  operating income (loss) before minority interest, interest expense and  discontinued operations       |       | $                                              | 1,829      |   | $ | (4,336 | ) |
| General  and administrative expenses                                                                         |       | (2,504                                         | )          | (3,225 | ) |
|                                                                                                         |       |                                           |       |   |   |
| Consolidated  loss before interest expense, minority interest, Interest expense and  discontinued operations |       | (675                                           | )          | (7,561 | ) |
| Change  in value of warrants, gain                                                                           |       | 586                                            |       | — |   |
| Change  in value of conversion feature, gain                                                                 |       | 1,710                                          |       | — |   |
| Interest  expense                                                                                            |       | (396                                           | )          | (61 | ) |
| Interest  income                                                                                             |       | 12                                             |       | 126 |   |
| Minority  interest in income of consolidated subsidiary                                                      |       | —                                         |       | (7 | ) |
| Income  (loss) from discontinued operations, net                                                             |       | (347                                           | )          | 7 |   |
| Loss  from disposal of discontinued operations, net                                                          |       | (46                                            | )          | — |   |
| Consolidated net income  (loss)                                                                              |       | $                                              | 844        |   | $ | (7,496 | ) |

 

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Excluded general andadministrative expenses are attributable to the Company’s corporateheadquarters. These expenses primarily include corporate salaries, consulting,professional fees and facility costs. Research and development expenses areincluded in the operating costs of the segment that performed the research anddevelopment.

 

Revenuesfrom sales to companies in the United States were $1,725 and $1,488 during thethree months ended March 31, 2004 and 2003, respectively. The revenuerelated to the United States of America was earned under three defense-relatedresearch and development contracts and sales of coatings products.

 

Duringthe three months ended March 31, 2004, the Company had revenue from salesto companies outside of the United States of $4,685 of which $4,158 representedsales to companies located in South Korea. Of the $4,158 sales in South Korea,$122 was from our discontinued equipment manufacturing business. During thethree months ended March 31, 2003, the Company had revenues from companiesoutside of the United States of $2,118 of which $1,719 represented sales tocompanies located in South Korea. Of the $1,719 sales in South Korea, $407 wasfrom our discontinued equipment manufacturing business. The revenue related tosales to companies outside of the United States was from bulk alloy productsincluding equipment sales.

 

Long-lived assets includenet property, plant, and equipment, net intangible assets and goodwill. TheCompany had long-lived assets of $2,378 and $2,547 located in the United Statesat March 31, 2003 and December 31, 2002, respectively. The Companyhad long-lived assets of $16,204 and $16,395 located in South Korea at March 31,2003 and December 31, 2003, respectively. Of the assets located in SouthKorea, $153 and $215 was from long lived assets of our discontinued equipmentmanufacturing business at March 31, 2004, and December 31, 2003.

 

Reconciling informationbetween reportable segments and the Company’s consolidated totals is shown inthe following table:

 
| ** **                                 | ** ** | **March 31,  2004** | ** ** |
|--------------------------------------------|------------|--------------------------|------------|
| ** **                                 | ** ** | ** **               | ** ** |
| Total segment assets                       |       | $                        | 24,683     |   |
| Cash  and cash equivalents                 |       | 10,749                   |       |
| Prepaid  expenses and other current assets |       | 454                      |       |
| Other  property, plant and equipment       |       | 1,370                    |       |
| Intangibles,  net                          |       | 980                      |       |
| Other  assets                              |       | 862                      |       |
| Assets  of discontinued operations         |       | 556                      |       |
| Total consolidated  assets                 |       | $                        | 39,654     |   |

 

Assets excluded from segment assets include assets attributable to theCompany’s corporate headquarters. The largest asset represents the Company’scash balances, primarily generated from the Company’s proceeds from the seniorconvertible note and the Kookmin loan (See note 7).

 

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

 

Basic earnings per share(“EPS”) is computed by dividing earnings (loss) attributable to commonshareholders by the weighted average number of common shares outstanding forthe periods. Diluted EPS reflects the potential dilution of securities thatcould share in the earnings. Common stock equivalents consist of 8,706,413 and7,058,499 equity instruments at March 31, 2004 and 2003, respectively

 

**11.****                               Commitments**

 

As of March 31, 2004 and December 31, 2003, the Company hascontingent obligations of $132 each period for notes receivables sold withrecourse.

 

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The Company is from timeto time a party to certain legal proceedings arising in the ordinary course ofbusiness. Although outcomes cannot be predicted with certainty, the Companydoes not believe that any legal proceeding to which it is a party will have amaterial adverse effect on the Company’s financial position, results ofoperations, and cash flows. (See Note 13)

 

**12.****                               RelatedParty Transactions**

 

In June 2003, theCompany entered into an exclusive, ten-year license agreement with LLPG, Inc.(“LLPG”), a corporation headed by a former director of the Company. Under theterms of 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 thelife of the contract on all Liquidmetal products produced and sold by LLPG. Inconjunction with its technology licensing contract, LLPG purchased two proprietaryLiquidmetal alloy melting machines and three proprietary Liquidmetal alloycasting machines for a total purchase price of $2,000. 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.

 

The Company is a party toa license agreement with California Institute of Technology (“Caltech”) underwhich the Company exclusively licenses from Caltech certain inventions andtechnology relating to amorphous alloys. Professor William Johnson, a member ofthe Company’s Board of Directors, is a professor at Caltech, and substantiallyall of the amorphous alloy technology licensed to the Company under the Caltechlicense agreement was developed in Professor Johnson’s Caltech laboratory. During2003, the Company paid $50 to Caltech representing the second and finalinstallments on the $150 aggregate fees related to this agreement. Additionally,the Company reimburses Caltech for laboratory expenses incurred by ProfessorJohnson’s Caltech laboratory, which during the three months ended March 31,2004 and 2003, amounted to $0 and $22 in reimbursements, respectively.

 

A company managed andpartially owned by one of the Company’s former directors provides technicalsupport services and computer equipment to the Company. During the three monthsended March 31, 2003, the Company incurred $12 of expenses and equipmentpurchases related to this arrangement. There were no expenses and payables tothis Company as of and for the three months ended March 31, 2004.

 

We are a party to aconsulting agreement with Chitnis Consulting, Inc., which is owned 100% byShekhar Chitnis, a former director and executive officer of our company. Underthis agreement, we have engaged Chitnis Consulting to provide consultingservices on an as-needed basis through December 31, 2005. During thequarter ended March 31, 2004, we incurred $12,500 in consulting fees fromChitnis Consulting.

 

The Company has restatedcertain previously issued financial statements due to the fact that revenuesfrom equipment sales made to Growell in the first quarter of 2003 should nothave been recognized in those periods (see Note 2). Growell owned 285,715shares of the Company’s common stock as of December 31, 2003. In addition,the Company purchased 891,100 shares of Growell’s outstanding common stock in July 2002.The Company ultimately sold these shares in April 2003 and recognized again of $1,178 on the transaction.

 

**13.****                               SubsequentEvents**

 

On August 20,2004, the Company completed a private exchange offer for its March Notes. Underterms of the exchange offer, approximately $5.5 million in aggregate principalamount of the March Notes have been exchanged for an aggregate of (i) $2.75million of 6% Senior Secured Notes Due 2007 (the “Long-Term Notes”) and (ii) $2.75million of 10% Senior Secured Notes Due 2005 (the “Short-Term Notes”). Inaddition, the Company redeemed approximately $4.5 million of the March Notes,in cash. 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 dateof July 29, 2007, and a conversion price of $1.00 per share. Holders ofthe Long-Term Notes will also have the right to call for repayment of theLong-Term Notes prior to maturity at any time after the second anniversary ofthe closing of the exchange offer. In addition, holders of both the Long-TermNotes and Short-Term Notes will have the right to call for repayment of thenotes if the Company does not, within 180 days of the issuance of the notes,become compliant with its SEC reporting

 

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obligationsand become listed or quoted on the OTC Bulletin Board, the Nasdaq Stock Market,or a national securities exchange. A total of 562,151 warrants to purchase ourcommon stock at an exercise price of $3.00 per share—all of which werepreviously issued in connection with the purchase of the Prior Notes—have beenamended to provide for an extended expiration date of March 1, 2006

 

LiquidmetalTechnologies and certain of its present and former officers and directors werenamed as defendants in nine purported class action complaints filed in theUnited States District Courts for the Middle District of Florida, TampaDivision, and the Central District of California, Southern Division, allegingviolations of Sections 11 and 15 of the Securities Act of 1933 and Sections 10(b)and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5promulgated thereunder. The actions were originally brought on behalf of thosewho purchased Liquidmetal Technologies’ common stock between May 22, 2002,and March 30, 2004, inclusive. The complaints contain varying allegations,but generally allege that the defendants engaged in improper revenuerecognition with respect to the Company’s transactions with Growell Metal Co.,Ltd. and that the defendants issued false and misleading statements concerningthe Company’s business and operations, including unrealistic but favorableinformation about market demand for Liquidmetal products, with the result ofartificially inflating the Company’s share price. The complaints seekunspecified compensatory damages and other relief. In August 2004, fourcomplaints were consolidated in the United States District Court for the MiddleDistrict of Florida under the caption *PrimaveraInvestors v. Liquidmetal Technologies, Inc., et al.*, Case No. 8:04-CV-919-T-23EAJ.John Lee, Chris Cowley, Dwight Mamanteo, Scott Purcell and Mark Rabold, wereappointed co-lead plaintiffs (the “Lead Plaintiffs”). 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 *Primavera Investors* action. TheConsolidated Amended Class Action Complaint in the **PrimaveraInvestors** action is due on or before Monday, January 10,2004. Liquidmetal Technologies and the other defendants will have 45 days fromthe service date to move to dismiss or otherwise respond to the ConsolidatedAmended Class Action Complaint. We intend to vigorously defend against theclass action. We cannot currently predict the impact or resolution of thislitigation or reasonably estimate a range of possible loss, which could bematerial. The resolution of this lawsuit may harm our business and have amaterial adverse impact on our financial condition.

 

Inaddition to the above, certain present and former officers and directors ofLiquidmetal Technologies, as well as Liquidmetal Technologies as a nominaldefendant, have been named in three shareholder derivative actions. Twoshareholder derivative complaints were filed in California state court styled *Brian Clair, Derivatively on Behalf of LiquidmetalTechnologies, Inc. v. John Kang, et al.*, Case No. 04CC00551,and *Joseph Durgin Derivatively on Behalf ofLiquidmetal Technologies, Inc. v. John Kang, et al.,* Case No. 04CC00553,both commenced in the Superior Court of Orange County, California. A thirdshareholder derivative complaint was filed in Florida federal court styled *Robert Story v. John Kang, et al.*, Case No. 8:04-CV-1587-T23TBM,commenced in the Middle District of Florida, Tampa Division. These shareholderderivative lawsuits allege that the defendants breached various fiduciaryduties and otherwise violated state law based primarily upon the sameunderlying facts and circumstances as the federal shareholder class actionlawsuits. The plaintiffs seek unspecified compensatory damages, restitution anddisgorgement of profits, equitable and/or injunctive relief as permitted by lawand other relief. The two shareholder derivative complaints in California statecourt have been consolidated. Plaintiffs served a Consolidated ShareholderDerivative Complaint on October 12, 2004. The defendants served a Demurrerto the Consolidated Shareholder Derivative Complaint on November 22, 2004,seeking dismissal of that complaint. The Demurrer is set for hearing on February 10,2005. The Plaintiff in the Florida derivative action filed a First AmendedShareholder Derivative Complaint on November 22, 2004. The Company’sresponse to the amended Florida derivative complaint was due on December 17,2004. The Company joined other defendants in moving to dismiss the amendedFlorida derivative complaint. The Company is awaiting a ruling on that Motionto Dismiss. We intend to vigorously defend against the derivative actions. Wecannot currently predict the impact or resolution of this litigation orreasonably estimate a range of possible loss, which could be material. Theresolution of these lawsuits may harm our business and have a materialadverse impact on our financial condition.

 

Twoseparate lawsuits were filed in July and September 2004 by two formeremployees of our Pyongtaek manufacturing facility in South Korea. The suits arebased on a claim of wrongful termination and breach of employment contract. In November 2004,the Company entered into a settlement agreement with the employees whereby theCompany would pay $243 to the employees in exchange for all claims beingdismissed. The payable amount is included in our September 30, 2004financial statement.

 

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In November 2004,we entered into an agreement with John Kang, our Chairman, President, and ChiefExecutive Officer, in which Mr. Kang agreed that certain stocktransactions by him in the year 2002 involving our common stock should haveresulted in a liability under Section 16(b) of the SecuritiesExchange Act of 1934, as amended (“Section 16(b)”). These transactionsinclude Mr. Kang’s private sale of 285,715 shares of his personalLiquidmetal Technologies common stock to Growell Metal Co., Ltd. in February 2002,prior to our initial public offering. They also include Mr. Kang’s subsequentindirect purchase and disposition of Liquidmetal Technologies common stock inorder to satisfy a personal agreement Mr. Kang made to Growell Metal in February 2002regarding the guaranteed minimum value of the stock purchased by Growell Metalin February 2002 (the purchases and dispositions incident to thisagreement occurred in August and November 2002, respectively). Lastly,the transactions include open-market purchases of an aggregate of 89,300 sharesof our common stock made by Mr. Kang in August 2002.

 

TheAudit Committee of our Board of Directors conducted an independent inquiry intothe above-described transactions with the aid of independent legal counsel and,as a result of such inquiry, the Audit Committee concluded that thetransactions should have resulted in a liability to the Company under Section 16(b) inthe amount of $302. Mr. Kang has acknowledged this liability, and in anagreement negotiated between Mr. Kang and the Audit Committee and approvedby the full Board, Mr. Kang will pay this liability in 24 equal monthlyinstallments beginning in January 2005. The above-described transactionsinvolving Growell Metal was reported on a new Form 4 filed by Mr. Kang onNovember 15, 2004, and the open-market purchases were previously reportedon a timely basis in August 2002.

 

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

 

*Thismanagement’s discussion and analysis should be read in conjunction with thecondensed consolidated financial statements and notes included elsewhere inthis report on Form 10-Q.*

 

*Thismanagement’s discussion and analysis, as well as other sections of this reporton Form 10-Q, may contain “forward-looking statements” that involverisks and uncertainties, including statements regarding our plans, futureevents, objectives, expectations, forecasts, or assumptions. Any statement thatis not a statement of historical fact is a forward-looking statement, and insome cases, words such as “believe,” “estimate,” “ project,” “expect,” “intend,”“may,” “anticipate,” “plans,” “seeks,” and similar expressions identifyforward-looking statements. These statements involve risks and uncertaintiesthat could cause actual outcomes and results to differ materially from theanticipated outcomes or results, and undue reliance should not be placed onthese statements. These risks and uncertainties include, but are not limitedto, the matters discussed under the caption “Factors Affecting Future Results”in our Annual Report on Form 10-K for the fiscal year ended December 31,2003 and other risks and uncertainties discussed in filings made with theSecurities and Exchange Commission (including risks described in subsequentreports on Form 10-Q, Form 10-K, Form 8-K, and other filings).Liquidmetal Technologies disclaims any intention or obligation to update orrevise any forward-looking statements, whether as a result of new information,future events, or otherwise.*

 

**Overview**

 

Weare a materials technology company that develops and commercializes productsmade from amorphous alloys. Our Liquidmetal® family of alloys consists of avariety of coatings, powders, bulk alloys, and composites that utilize theadvantages offered by amorphous alloy technology. 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 also partner with third-party licensees anddistributors to develop and commercialize Liquidmetal alloy products. We havethe exclusive right to develop, manufacture, and sell what we believe are theonly 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 entirely newproducts and applications that are not possible or commercially viable withother materials.

 

Ourrevenues are derived from two principal operating segments: Liquidmetal alloy industrialcoatings and bulk Liquidmetal alloy products. Liquidmetal alloy industrialcoatings are used primarily as a protective coating for industrial machineryand equipment, such as drill pipe used by the oil drilling industry and boilertubes used in coal-burning power plants. The historical operating informationfor fiscal year 2001 is based substantially on sales of Liquidmetal alloycoatings. In the second half of 2002, we began producing bulk Liquidmetal alloycomponents and products for incorporation into our customers’ finished goods.Bulk Liquidmetal alloy segment revenue includes sales of parts or components ofelectronic devices, medical products, and sports and leisure goods; tooling andprototype parts (including demonstration parts and test samples) for customerswith products in development; metal processing equipment; and research anddevelopment revenue relating primarily to defense and medical applications. Weexpect that these sources of revenue will continue to significantly change the characterof 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 activitiesare expensed as incurred. We plan to enhance our competitive position byimproving our existing technologies and developing advances in amorphous alloytechnologies. We believe that our research and development efforts will focuson the discovery of new alloy compositions, the development of improvedprocessing technology, and the identification of new applications for ouralloys.

 

Inconjunction with the divestiture of our Dongyang subsidiary in March 2004,the Company decided to discontinue our equipment manufacturing business inorder to conform our operations to our broader corporate business strategy(see note 5). Pursuant to Accounting Principles Board Opinion No. 30,*Reporting the Results of Operations — Reporting theEffects of Disposal of a Segment of a Business, and Extraordinary, Unusual andInfrequently Occurring Events and Transactions,* we reclassified ourconsolidated financial statements to reflect the discontinuation of ourequipment manufacturing operations. The revenue, costs and expenses, assets andliabilities, and cash flows of the equipment manufacturing business weresegregated in our accompanying Consolidated Balance Sheets, ConsolidatedStatements of Operations and Comprehensive Loss, and Consolidated Statements ofCash Flows.

 

Thefollowing discussion and analysis of our financial condition and results ofoperations focuses on the historical results of our continuing operations andreflects the effect of restating our 2003 financial statements for equipmentsales made to Growell Metal Co., Ltd. (“Growell”) as disclosed in Note 2 in thenotes to condensed consolidated financial statements section of thisdocument.

 

**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. These estimates and assumptions are based onhistorical experience and various other factors that are believed to bereasonable under the circumstances. Actual results could differ materially fromthese estimates under different assumptions or conditions.

 

We believe that the following accounting policies arethe most critical to our condensed consolidated financial statements sincethese policies require significant judgment or involve complex estimates thatare important to the portrayal of our financial condition and operatingresults:

 

•                       Exchange rate fluctuations

•                       Warranty accrual

•                       Allowance for doubtful accounts

•                       Inventories at lower of cost or net realizablevalue

•                       Deferred tax assets

•                       Valuation of derivatives of warrants andembedded conversion features

 

Our10-K Report as of December 31, 2003 contains further discussions on ourcritical accounting policies and estimates.

 

**Resultsof Operations**

 

Comparison of thethree months ended March 31, 2004 and 2003 

 

*Revenue*.Revenue increased $3.1 million to $6.3 million for the three months ended March 31,2004 from $3.2 million for the three months ended March 31, 2003. Theincrease was primarily due to the increase in our bulk Liquidmetal alloysbusiness which consisted of an increase of $2.4 million from the sale of metalprocessing equipment primarily for use in the processing of bulk Liquidmetalalloy products, an increase of $0.3 million from the sales and prototyping ofparts manufactured from

 

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bulk Liquidmetal alloysoffset by a decrease of $0.6 million from research and development servicesrelated primarily to defense and medical applications and an increase in our coatingsbusiness of $0.3 million.

 

*Cost ofSales*. Cost of sales increased to $3.5 million, or 56%of revenue, for the three months ended March 31, 2004 from$3.0 million, or 83% of revenue, for the three months ended March 31,2003. This increase was a result of the bulk Liquidmetal alloy businesscontributing a larger percentage of our revenue, primarily in the metalprocessing equipment sale, than the coating business for the three months endedMarch 31, 2003. Cost of sales as a percentage of revenue has decreasedfrom improved manufacturing processes and decreases in research and developmentactivities charged to cost of sales. We believe that anticipated highermanufacturing volumes and an expected greater mix of higher-margin products inthe future will cause the gross profit to continue to improve over time. Thecost to manufacture parts from our bulk Liquidmetal alloys is variable anddiffers based on the unique design of each product. However, the cost of salesfor the products sold by the coatings business segment is generally consistentbecause the Liquidmetal coatings products are produced by third parties andsold wholesale to various industries.

 

*Selling,General, and Administrative Expenses*. Selling, general, andadministrative expenses decreased to $3.1 million, or 49% of revenue, forthe three months ended March 31, 2004 from $4.1 million, or 127% ofrevenue, for the three months ended March 31, 2003. This decrease wasprimarily a result of decrease in wages and related expense by$0.8 million, decrease in travel expenses by $0.3 million, decrease inproperty rent by $0.3 million, and a decrease in professional fees,consultant fees, and contract services by $0.1 million. These and otherdecreases in selling, general and administrative expenses represent the Company’sefforts to manage costs and focus on our core business while continuing tobuild our corporate infrastructure required to prepare for and support theanticipated growth of our bulk Liquidmetal alloy business.

 

*Researchand Development Expenses*. Research and development expensesdecreased to $0.3 million, or 5% of revenue, for the three months ended March 31,2004 from $4.0 million, or 126% of revenue, for the three months ended March 31,2003. This decrease was a result of the Company’s focusing primarily on ourcore business associated with our bulk Liquidmetal alloy business whilemanaging our costs. The Company continues to perform research anddevelopment of new Liquidmetal alloys and related processing capabilities,develop new manufacturing techniques, and contract with consultants and provideresearch grants to various institutions to advance the development ofLiquidmetal alloys. The decrease was primarily due to decreases in salaries,wages and the related by $1.8 million, decrease in professional fees,consultant fees, and contract services by $0.4 million, decrease inresearch grants to institutions by $0.3 million, decrease in laboratory andprototyping expenses by $0.6 million, decrease in depreciation expense by$0.4 million, and a decrease in travel expenses by $0.1 million.

 

*Changein Value of Warrants*. Change in value of warrants increasedto a net gain of $0.6 million, or 9% of revenue, for the three months ended March 31,2004 due to the change in valuation of warrant payable issued related to thesenior convertible debt funded in March 2004. There was no change in valueof warrants recorded during the three months ended March 31, 2003.

 

*Changein Value of Conversion Feature.*Change in the value of our conversion feature liability from our seniorconvertible debt funded in March 2004 resulted in a change in value ofconversion feature gain of $1.7 million, or 27% of revenue, during the threemonths ended March 31, 2004 primarily as a result of fluctuations in ourstock price. There was no change in value of conversion feature recordedduring the three months ended March 31, 2003.

 

*InterestExpense*. Interest expense was $0.4 million, or 6% of revenue,for the three months ended March 31, 2004 and was $0.1 million, or 2% of revenue,for the three months ended March 31, 2003. During the three months ended March 31,2004, 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. During the three months ended March 31,2003, interest expense was primarily due to the interest accrued on the KookminBank loan.

 

*InterestIncome.*Interest income was $12 for the three months ended March 31,2004 for interest earned on certificate of deposits. Interest income was $126for the three months ended March 31, 2003 for interest earned onshort-term, investment grade, interest-bearing securities.

 

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**Liquidity and Capital Resources**

 

Ourcash used in operating activities was $2.0 million, which includes cashprovided by our discontinued equipment manufacturing business of $0.3 million,for the three months ended March 31, 2004 and $10.5 million, whichincludes cash used in our discontinued equipment manufacturing and retail golfbusinesses of $1.6 million, for the three months ended March 31, 2003. Ourworking capital increased from $1.0 million at December 31, 2003 to $2.4million at March 31, 2004. The Company’s working capital increase of $1.4million was primarily attributable to increase in cash of $7.6 million,increase in inventory of $1.9 million, increase in prepaid and other currentassets of $0.1 million, decrease in deferred revenue of $0.6 million, decreasein other current liabilities of $0.6 million, offset by decrease in tradeaccounts receivables of $0.8 million, decrease in current assets of ourdiscontinued equipment manufacturing business of $0.3 million, increase inaccounts payable of $0.7 million, increase in settlement payable of $0.2million, increase in current portion of notes payable of $0.9 million, increasein warrant liabilities of $0.7 million, and increase in conversion featureliabilities of $5.9 million.

 

Ourcash used in investing activities was $20 thousand for the three months ended March 31,2004 for the acquisition of property and equipment.

 

Ourcash provided by financing activities was $9.6 million for the three monthsended March 31, 2004, which consists of $9.9 million in proceeds fromborrowings from our senior convertible debt, offset by $0.4 million onrepayment of other liabilities.

 

TheCompany has experienced losses from continuing operations during the last twofiscal years and has an accumulated deficit of $111,743 as of March 31,2004. Cash used in continuing operations for the three months ended March 31,2004 was $2.3 million and cash flow from continuing operations may benegative throughout the fiscal year 2004. Such conditions raise substantialdoubt about the ability of the Company continuing as a going concern for areasonable period of time. These operating results occurred while the Companywas developing and attempting to commercialize and manufacture products from anentirely new and unique technology. This business plan required significantspending related to start-up costs and capital expenditures. These factors haveplaced a significant strain on the financial resources of the Company. The ultimatesuccess of the Company depends on its ability to continue reducing operatingcosts, generate higher revenue, achieve positive cash flow from continuingoperations and profitability. The condensed consolidated financial statementsdo not include any adjustments that might result from the outcome of theuncertainty.

 

Ourcapital requirements during the next 12 months will depend on numerousfactors, including the success of our existing products, the development of newapplications for Liquidmetal alloys, and the resources we devote to develop andsupport our Liquidmetal alloy products. However, we anticipate our capitalexpenditures will be less than $0.5 million in the next 12 months. We expect tocontinue to devote limited capital to our research and development activities,to further develop and strengthen our manufacturing capabilities, and forworking capital and other general corporate purposes.

 

We believe that ourcurrent cash and cash equivalents together with anticipated cash flow from ouroperations, will be sufficient to fund our working capital and capitalexpenditure requirements for at least the next 12 months. Our projections ofcash flows from operations and, consequently, future cash needs are subject touncertainty. If our available funds and cash generated from operations areinsufficient to satisfy our liquidity requirements, we may need to raiseadditional capital to fund our working capital or capital expenditurerequirements. We cannot be certain that additional capital, whether throughselling additional debt or equity securities or obtaining a line of credit orother loan, will be available to us or, if available, will be on termsacceptable to us. If we issue additional securities to raise funds, thesesecurities may have rights, preferences, or privileges senior to those ofthe rights of our common stock and our stockholders may experienceadditional dilution.

 

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**Contractual Obligations**

 

The following table summarizes the Company’sobligations and commitments as of March 30, 2004:

 
| ** **                        | ** ** | **Payments Due by Period (in thousands)** | ** ** |
|-----------------------------------|------------|-------------------------------------------|------------|
| **Contractual  Cash Obligations** | ** ** | **Total**                                 | ** ** | **Less Than 1  Year** | ** ** | **2-3 Years** | ** ** | **4-5 Years** | ** ** | **After 5 Years** | ** ** |
|                              |       |                                      |       |   |   |   |   |   |   |   |   |
| Long-term  debt                   |       | $                                         | 13,759     |   | $ | 10,563 |   | $ | 3,196 |   | $ | — |   | $ | — |   |
| Capital  lease obligation         |       | 285                                       |       | 116 |   | 169 |   | — |   | — |   |
| Operating  leases and rents       |       | 2,255                                     |       | 874 |   | 1,132 |   | 97 |   | 152 |   |
| Purchase  obligations             |       | 2,500                                     |       | — |   | 2,500 |   | — |   | — |   |
|                              |       | $                                         | 18,799     |   | $ | 11,553 |   | $ | 6,997 |   | $ | 97 |   | $ | 152 |   |

 

**Item3 – Quantitative and Qualitative Disclosures about Market Risk**

 

We are exposed to various markets risks in conducting the business of theCompany, and we anticipate that this exposure will increase as a result of ourplanned growth. In an effort to mitigate losses associated with these risks, wemay at times enter into derivative financial instruments, although we havenot historically done so. These may take the form of forward salescontracts, option contracts, foreign currency exchange contracts, and interestrate swaps. We have not, and do not intend to, engage in the practice oftrading derivative securities for profit.

 

*InterestRates.*We are exposed to market risks relating to changes ininterest rates. Some of the proceeds of our initial public offering areinvested in short-term, interest-bearing, investment grade securities. Thevalue of these securities will be subject to interest rate risk and could fallin value if interest rates rise.

 

*CommodityPrices.*We are exposed to price risk related to anticipatedpurchases of certain commodities used 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 thefuture as our business grows and as our purchases of these raw materialsincrease.

 

*ForeignExchange Rates.*As a result of our operation of amanufacturing facility in South Korea, a substantial portion of our costs willbe denominated in the South Korean won. 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. Althoughwe do not currently enter into foreign exchange hedge transactions, we may doso in the future as our business grows.

 

**Item 4 – Controls and Procedures**

** **

Within the 90 days priorto the date of this quarterly report, Liquidmetal Technologies (the “Company”)carried out an evaluation, under the supervision and with the participation ofthe Company’s management, including the Company’s Chief Executive Officer andChief Financial Officer, of the effectiveness of the design and operation ofthe Company’s disclosure controls and procedures pursuant to Rule 13a-14under the Securities Exchange Act of 1934, as amended. Based on thatevaluation, the Chief Executive Officer and Vice President Finance haveconcluded that these disclosure controls and procedures are effective in timelyalerting them to material information relating to the Company, including itsconsolidated subsidiaries, required to be included in this quarterly report on Form 10-Q.There were no significant changes in our internal controls or in other factorsthat could significantly affect these controls subsequent to the date of ourevaluation.

 

(a)    Evaluation of disclosure controls and procedures. During thecourse of the audit of our financial statements for the fiscal years ended December 31,2001, 2002, and 2003, it was determined that revenues from certain equipmentsales made by the Company to Growell Metal Co., Ltd. in the third andfourth quarters of 2002 and the first quarter of 2003 should not have beenrecognized in those periods****. It was also****** **determined that certain amountsrelating to sales made to Samsung in

 

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December 2002, to JS Technologies in September 2002,and AM Corporation in December 2002 should not have been recognized.  ****And lastly, it was determined that certain stockoptions granted in 2001 and 2002 were not calculated in accordance withguidelines under APB Opinion No. 25, SFAS No. 123, and EITF 00-23.****Thesedeterminations and the associated restatement of previously issued financialstatements, as described more fully elsewhere in this Form 10-K, suggestthat, at the time of the subject transactions and the preparation of ourfinancial statements for the relevant periods, the Company’s disclosurecontrols and procedures (as defined in Rule 13a-15 under the SecuritiesExchange Act of 1934) did not ensure that all information required to bedisclosed by the Company was adequately accumulated and communicatedto the Company’s management. Since that time, the Companyhas made various improvements to enhance the reliabilityof its disclosure controls and procedures. Except for the foregoing,the Company’s principal executive officer and principal financialofficer have concluded that the Company’s disclosure controls andprocedures were effective as of the end of the period covered by this Form 10-Kbased on their evaluation of the controls and procedures pursuant to Rule 13a-15under the Securities and Exchange Act of 1934.

 

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**PART II**

**OTHERINFORMATION**

 

**Item2 – Change in Securities and Use of Proceeds**

 

Pursuant to the our Registration Statement on Form S-1, as amended,initially filed with the Securities and Exchange Commission on November 20,2001 and declared effective May 21, 2002 (Registration No. 333-73716),we closed an initial public offering of 5,000,000 shares of common stock on May 28,2002, plus an additional 229,000 shares on June 10, 2002 pursuant to anoverallotment option, at a price of $15.00 per share (which sale is referred toherein as the “Offering”). The Offering generated aggregate cash proceedsduring the second quarter 2002 of $78.4 million. The net proceeds were $70.7million after deducting underwriting commissions of $5.5 million and othertransaction fees of $2.2 million. The managing underwriters for the Offeringwere Merrill Lynch & Co., UBS Warburg and Robert W. Baird &Co.

 

As of December 31,2003, we have used the $70.7 million of net proceeds from the Offering. In2002, we used approximately $7.8 million of the net proceeds from theOffering to repay all outstanding promissory notes and accrued interest,$11.1 million to fund the construction of our manufacturing facility inSouth Korea, $14.3 million to purchase equipment used to manufactureLiquidmetal parts, $0.4 million to purchase assets related to productionand sale of equipment used in the production process of Liquidmetal alloyproducts, and $0.3 million to purchase the 51% interest in our majorityowned Dongyang subsidiary. During the third quarter of 2002, we used $2.0 millionto invest in the common stock of Growell Metal, which supplies a portion of theLiquidmetal alloy ingots used in our manufacturing operations in Korea. We havesince sold such stock, realizing a gain on the sale. We used the remainingproceeds of $32.7 million for working capital in 2002 and 2003, excluding$2.1 million paid to Paul Azinger in 2002 and 2003 for amounts due underthe terms of his terminated endorsement agreement with our discontinued retailgolf operations.

 

**Item6 – Exhibits**

 

The following documentsare filed as an exhibit to this Report:

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

 

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**SIGNATURES**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned hereunto dulyauthorized.

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

 

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