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SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549




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Form 10-K

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|[X]  |  | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
        OF
        THE SECURITIES EXCHANGE ACT OF 1934    
|    
|     |  | For the fiscal year ended December 31,
        2001                                                     
|    
|    
|    
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|[  ] |  | TRANSITION REPORT PURSUANT TO SECTION 13 OR
        15(d) OF
        THE SECURITIES EXCHANGE ACT OF 1934
|     |  | For the transition period
        from  to .                                                            

Commission file number 0-21013






Xybernaut Corporation

(Exact name of Registrant as specified in its charter)


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|DELAWARE                                                               |  | 54-1799851                          
|(State or other jurisdiction of incorporation
        or organization) |  | (I.R.S. Employer Identification No.)

|                                                 |  |           
|------------------------------------------------ |  | ----------
|                                                
|                                                
|                                                
|                                                
|12701 Fair Lakes Circle,
        Fairfax, VA     |  | 22033     
|(Address of principal executive
        offices) |  | (Zip Code)

(703) 631-6925

(Issuers telephone number, including
area code)


Securities registered under Section 12(b) of the
Exchange Act:None

Securities registered under section 12(g) of the Exchange
Act:Common Stock, $0.01 par
value

Check whether the issuer (1) filed all reports required to
be filed by Section 13 or 15(d) of the Exchange Act during
the past 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has
been subject to such filing requirements for the past
90 days.  Yes x  No o

Check if there is no disclosure of delinquent filers in response
to Item 405 of Regulation S-K contained in this form,
and no disclosure will be contained, to the best of
registrants knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this
Form 10-K or any amendment to this
Form 10-K:  o

State issuers revenues for its most recent fiscal year:
$9,819,993

The aggregate market value at March 21, 2002 of the Common
Stock of the issuer, its only class of voting stock, was
$111,288,212 of which $105,373,158 was held by non-affiliates,
calculated on the basis of the closing price of such stock on
the National Association of Securities Dealers Automated
Quotation System National Market on that date. Such market value
of non-affiliates excludes shares owned by all executive
officers and directors (but includes shares owned by their
spouses); this should not be construed as indicating that all
such persons are affiliates.

The number of shares outstanding of the issuers Common
Stock at March 21, 2002 was 65,851,013.

Documents Incorporated by
Reference:     None

Transitional Small Business Disclosure
Format  Yes o  No x









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PART I

Item 1. Business.

Introduction

Xybernaut Corporation (the Company), a Delaware
corporation originally incorporated in 1990, is engaged in the
research, development, manufacture, marketing and sales of
mobile, wearable computing and communication systems as well as
software and service solutions designed to enhance productivity
and improve product management, asset management, and the
accuracy, timeliness and utilization of captured data. The
Company offers solutions with a software and services focus
through its wholly-owned subsidiary Xybernaut Solutions, Inc.
(XSI). The Company offers solutions with a hardware
focus through its U.S. operations and through its wholly-owned
subsidiaries Xybernaut K.K. (Japan) and Xybernaut GmbH
(Germany). The Mobile Assistant®(MA®)
series is the Companys primary line of hardware products,
with the Mobile Assistant IV (the MA IV), Mobile
Assistant TC and the Mobile Assistant V currently available for
the commercial markets. The poma, a product line
targeted at the light-commercial and near-consumer market, began
shipping in the first quarter of 2002.

The MA is a wearable personal computer (PC) which
combines the speed, memory, processing, multimedia and
communications capabilities of a desktop PC in a lightweight,
user-supported unit with hands-free operation and simultaneous
user mobility. The MA is a combination of hardware and software
designed to be worn on the body to perform complex and time
consuming tasks such as remote video teleconferencing,
installation, maintenance, repair and inspection of complex
technological and mechanical systems, retrieval and analysis of
information from remote locations, and coordination of remote
commercial and industrial activities, or military field
operations.

The MA and pomaincorporate technologically advanced
optional features such as real-time, two-way video and audio
communications through radio frequency transmissions or cellular
linkups, global positioning system tracking capabilities and
access to information through intranets, the Internet and the
World Wide Web. The head-mounted display (HMD)
includes a two-way audio system and optional built-in video
camera, and presents a desk-top quality color image that is
equivalent to that of a desktop PC monitor at a distance of 18
inches. An optional light-weight, daylight readable, full color
flat panel display (FPD), with an integrated
digitizer, is offered for those users who may not need to be
fully hands-free, may need to capture signatures or other
forms-related data, or may need to share the displayed data with
others. The lightweight body-worn computing unit is designed to
allow operation in conditions in which conventional portable
computers can not operate and is designed to run software
applications designed for Microsoft®Windows®, as well
as MS-DOS and LINUX.

Through XSI, the Company provides a full line of software
development and implementation services. XSI provides
programming capabilities in a variety of advanced languages
including Visual Basic and Visual C++, along with database
experience in Microsoft SQL server, Oracle and Sybase.
Telecommunication and information technology for asset
management are also provided by XSI for computers, hubs, routers
and data lines, along with asset management software for linear
referenced assets including roads, railways, utility, and
pipelines. XSIs solutions have been developed for use with
Windows, UNIX and Novell Netware.

XSI offers the proprietary OPMIST asset management system that
has been installed in over 200 sites worldwide at shipyards,
utilities, manufacturers, Departments of Transportation
(DOTs), military bases and railroads. Also offered
by XSI is the Program and Project Management System
(PPMS) solution that has been provided to several
state DOTs. The PPMS is a fully integrated program, project and
task management system designed by XSI in conjunction with state
DOT organizations to help them manage their capital improvement
programs. The PPMS is a total solution that includes
commercial-off-the-shelf (COTS) project scheduling
systems, such as Artemis, Primavera, OPX2 and Microsoft Project.
By using the PPMS, state DOT organizations have the ability to
model every project included in capital improvement programs.

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The Companys executive and administrative offices are
located at 12701 Fair Lakes Circle, Fairfax, Virginia 22033. Its
telephone number is (703) 631-6925, and its e-mail address
for investor inquiries is investorrel@xybernaut.com.

Forward-Looking Statements

To keep investors informed of the Companys future plans
and objectives, this Annual Report on Form 10-K and other
reports and statements issued by the Company and its officers
from time to time contain certain statements concerning the
Companys future results, future performance, intentions,
objectives, plans and expectations that are, or may be deemed to
be, forward-looking statements. The Companys
ability to do this has been fostered by the Private Securities
Litigation Reform Act of 1995 which provides a safe
harbor for forward-looking statements to encourage
companies to provide prospective information so long as those
statements are accompanied by meaningful cautionary statements
identifying important factors that could cause actual results to
differ materially from those discussed in the statement. Such
forward-looking statements are subject to a number of known and
unknown risks and uncertainties that, in addition to general
economic and business conditions, could cause the Companys
actual results, performance, and achievements to differ
materially from those described or implied in the
forward-looking statements. Factors that could cause or
contribute to such differences include, but are not limited to,
the Companys ability to profit from its products and
services as expected (see Products and Product
Development), the Companys ability to compete (see
Competition), the Companys ability to maintain
superior technological capability, foreseeing changes and
continuing to identify, develop and commercialize innovative and
competitive products and services, the Companys ability to
penetrate different markets and successfully expand its revenue
(see Marketing and Sales), the Companys
ability to attract and retain technologically qualified
personnel, particularly in the areas of research and development
(see Employees), and the Companys ability to
generate cash flow and obtain financing to support its
operations and growth (see Managements Discussion
and Analysis of Financial Condition and Results of
Operations in Item 7 of this Annual Report on
Form 10-K).

Industry Overview

During the past few years, there has been an increasing shift in
the mobile market to provide computing and communications power
in devices that can be worn or carried, the most notable
examples of which are internet-enabled cell phones, Personal
Digital Assistants (PDAs) and multi-function pagers.
This shift in the hardware markets has been paralleled by an
increasing move in commercial software and services to provide
better information and control of a wide variety of processes,
from manufacturing to maintenance to repair. On a consumer
level, these devices offer access to specialized web sites that
provide information useful to the consumer, such as stocks,
market data, news, weather and sports.

The Company believes that users looking for mobile computing and
communications capabilities through cellular phones, pagers,
PDAs, portable email devices, MP3 players, gaming devices and
portable computers will increasingly demand that one device
provide several of these capabilities rather than the many
devices that are currently required. In addition, the increasing
use of attached files to emails often means that a full-function
computer is required to process these files, rather than a
limited function computing device. The Company believes that its
wearable PC products are uniquely suited to meet this demand,
and that limited-capability or special-purpose devices will
eventually be replaced by wearable PCs that provide consistent
interfaces and full functionality whether they are used in an
office, travel, home or automobile environment. The Company
believes that the potential to develop a substantial market for
its mobile computing and communication hardware and software
products is demonstrated by the substantial historic and
projected growth in many other types of mobile computing and
communication devices, such as cell phones and PDAs.

There has been an ongoing evolution to personalize the computer
and move it physically closer to the user, from mainframes, to
distributed systems, to desktops, to notebooks and now to
wearable systems. The growth of wireless local area networks
(LANs) in corporate markets allows the
Companys products to

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In conjunction with this personalization of hardware has come a
personalization of software to provide users with the
information they need to perform the task at hand and the
expansion of Enterprise Resource Planning (ERP)
systems that extend computing capabilities across an
organization, not just within certain functions of the
organization. A 1999 study on wearable computers by IDC, an
independent market research firm, stated that over half of the
workers at large U.S. companies do not work at a fixed location
and do not have access to their companys information
technology as they move around. A December 2000 report by IDC
estimates that the number of mobile workers in the U.S. will
increase from over 40 million in 2001 to 55 million in
2004. Based on these reports and other independent findings from
industry analysts such as Gartner Group, the Company believes
that there are currently over 100 million mobile workers
worldwide. In addition, Gartner Group estimates that by 2007,
more than 60 percent of the European Union and U.S.
population aged 15 to 50 will carry or wear a wireless computing
and communications device at least six hours a day, and by 2010,
more than 75 percent will do so. The Company believes that
its products and services are ideally positioned to provide
information access to this pool of workers, and allow such
companies to leverage their existing investment in information
technology to this other half of their workforce. Further, the
Company believes that its products and services are also ideally
suited to capture the growing consumer interest in mobile
computing and communications devices.

Business Strategy

The Companys objective is to be the leading provider of
hands-free mobile computing and communication systems, along
with related solutions and software to enhance productivity in a
wide variety of applications. To achieve this objective, the
Company intends to pursue the following strategies:

Grow Sales by Focusing on Defined Target Markets.The
Company has identified a number of horizontal and vertical
market segments (see Markets) that it intends to
continue penetrating through its direct sales force, partners,
and the effective use of value-added resellers
(VARs), independent software vendors
(ISVs) and distributor channels that demonstrate
comprehensive market knowledge in their sectors. The Company
believes that by combining the established customer base of
partners, VARs, ISVs and distributors with the benefits provided
by the Companys products and services, sales can
accelerate much faster than by using a direct sales force alone.
Through the use of strategic partners, the Company intends to
leverage internal marketing and sales resources to achieve more
rapid foreign and domestic market penetration. The Company also
intends to continue marketing to key national accounts in these
target segments to build multiple reference accounts, expand
sales within those segments, and to expand into other segments.
These reference accounts will also provide the Companys
research and development organization with valuable direct
feedback from customers for future product development.

Leverage Core Competencies.The Company believes its core
competencies, which have been developed since its inception, are
the integration and adaptation of innovative computer and
communications hardware and software technologies into
hands-free, mobile computing and communications solutions that
enhance end-user productivity. The Company will seek to expand
applications for its technologies and to capitalize on the
breadth of its expertise by developing new hardware and software
products, or combining its products with technology available
from third parties. Consistent with this strategy, the Company
will continue to focus on the integration of hands-free mobile
computing and communications hardware with software applications
and hardware products from its partners or licensed, acquired or
internally developed applications and products. To leverage
these core competencies, the Company has established a number of
strategic alliances and intends to continue to have its
strategic partners play a significant role in executing the
Companys manufacturing, service, sales and marketing
functions, under close coordination with Company management. The
Company believes that this structure will allow the Company to
expand its revenues without the need to add internal resources
in direct proportion to increases in revenues.

Develop and Strengthen Strategic Alliances.The Company
has established and intends to continue to establish strategic
alliances with world-class partners such as IBM and Hitachi to
provide the execution

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Pursue Acquisitions and Mergers. The Company is actively
investigating potential mergers and acquisitions to add to its
intellectual property, obtain access to enabling and
complimentary technologies, and allow the Company to provide a
broader range of goods and services to its customers. During
2000, the Company completed the acquisition of XSI.

Strengthen Portfolio of Patents and Intellectual Property.The Company has developed a portfolio of over 700 patent
applications granted or pending worldwide as the base of its
intellectual property for wearable computing and communications
and related software solutions (see Intellectual
Property). The Company intends to continue building and
strengthening this portfolio, which it considers to be one of
its most significant assets and potential revenue sources.

Utilize Licensing to Enhance Revenues. The Company
intends to establish licenses with industry leaders to leverage
this patent portfolio and to increase the size and number of
markets from which the Company can realize revenues. During
2001, the Company established such a license with Hitachi and
the Company is in active discussions with other companies
regarding licensing.

Provide Customized Software and Service Solutions for Diverse
Customer Needs.Through XSI, the Company has in-house
software and service evaluation, design and execution
capabilities to complement its hardware capabilities. With XSI
and its partners, the Company has expanded resources to continue
acquiring, developing or licensing software that enables its
customers to more rapidly create customized software
applications to improve productivity with the MA, pomaand conventional PCs.

Maintain Technology Leadership.The Company is committed
to achieving and maintaining technological superiority of its
services, hardware and software through the continuous
reassessment of product performance and the utilization and
integration of state-of-the-art hardware and software
technologies. The current MA and pomaproduct lines, for
example, are the result of the Companys successful
relationships with companies such as IBM, Sony Digital Products,
Texas Instruments, Zykronix, Hitachi, Shimadzu, Toshiba, JAE and
NEC all under the direction of, or in conjunction with, the
Companys staff.

Commitment to Open Architecture.The Company utilizes
standard PC hardware and software architectures and designs its
products using open systems technologies, including industry
standard operating systems. This open approach has allowed the
Company to readily incorporate the latest wireless
communications, GPS, sensor and other capabilities as soon as
they are available for use in laptops and other hand-held
computers. In addition, this strategy has allowed the Company to
take advantage of developments in operating systems, such as new
generations of Windows and Linux, and applications software,
such as speech, and video capture and transmission.

Products and Product Development

In order to address the market for body-worn mobile computing
and communication systems, the Mobile Assistant series has been
designed to provide hands-free wearable operation on a
when-needed, where-needed basis. The hardware used
in the MA series features:



| |   |                                                                                                                                                                                                                                                                                                            
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Intel processors with up to 320 Megabytes (MB) of
	random access memory (RAM); an internal hard disk of
	up to 32 Gigabytes (GB); and provides complete
	desktop functionality with a complete array of USB,
	IEEE 1394 (Firewire), serial, parallel, monitor, keyboard,
	power and replicator ports.

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| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | PCMCIA (PC Card) and/or Compact Flash
	(CF) readers; a sealed enclosure to allow for use in
	a wide range of environmental conditions; hot-swappable
	lithium-ion battery and charger; and a built-in sound system for
	speech recognition and generation.                                                                                                                                                                                                                                                    
|
| |  | Head mounted and/or flat panel displays with a head-mounted
	camera to allow for real-time, two-way audio/video
	teleconferencing in full color at standard PC resolutions. The
	head-mounted display uses advanced optics to present an image to
	the user that is equivalent to a desktop PC monitor at a
	distance of 18 inches. The optional light-weight, daylight
	readable, full color FPD includes an integrated digitizer and
	allows for speech-activation through its built-in speaker and
	microphone.
|
| |  | Compatibility with Microsoft Windows, as well as DOS and LINUX.                                                                                                                                                                                                                                                                                                                                                                                                                                                   

The hardware used in the pomafeatures:



| |   |                                                                                                                                                                                               
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Hitachi SH-4 RISC processor with 230 MIPS throughput, 32 MB RAM,
	32 MB ROM, USB port, headphone jack, integrated lithium ion
	battery in a compact design that weighs 310 grams (10.9 ounces)
|
| |  | Compact flash slot to provide for full wireless communications
	and internet capabilities                                                                                                     
|
| |  | Windows CE operating system                                                                                                                                                                   
|
| |  | Head mounted display with full-color standard PC resolutions                                                                                                                                  
|
| |  | Instant on/off operation                                                                                                                                                                      

Full Functionality.The Companys MA and pomaare full function computing and communications devices that
can be used with a wide range of peripherals, including portable
CD-ROM readers, bar code readers, battery-operated printers,
still and motion video cameras, global positioning technologies,
cellular and radio frequency communications and interfaces for
medical, test and sensor equipment.

Hands-Free Control.From the origination of the concept
for wearable computers, the Company has believed that hands-free
control of the computer is essential to realizing the maximum
benefits of wearable computing and communications. The most
common method of hands-free control is speech recognition. The
MA supports state-of-the-art speech recognition software to
allow for hands-free operation using spoken commands in most
commonly-used languages. The MA V product incorporates advanced
digital signal processing (DSP) technology to
provide enhanced speech recognition and wireless communications
capabilities. The combination of voice recognition and body-worn
displays provides the user of the MA with hands-free access to
information and the ability to apply this information to
operations and tasks with direct lines of sight and tactile
access. User-independent speech generally requires little or no
training and is ideal for command-and-control applications that
operate the computer from menu-driven software. User-dependent
speech systems generally require some training to provide for a
wider usable vocabulary and the ability to offer dictation. The
selection of which speech system to use is generally driven by
the application requirements. In addition to speech control, the
Company has included brain-wave activation, eye-tracking and
motion-tracking in its patents as alternative approaches to
speech for hands-free control.

Product Development.The Companys approach to
development of wearable computer products is to internally
establish functional requirements, specifications and design
criteria, which are then taken to potential development partners
under non-disclosure agreements to evaluate the ability of those
partners to meet the Companys development needs. The
Company then selects the partner that best fits its specific
needs. During the development process, the Company provides
detailed project management and oversight. By outsourcing the
detailed development of its wearable computer product line, the
Company believes that it is better able to quickly adapt to
changing markets and technology by working with partners with
selected areas of expertise. Additionally, the Company is able
to avoid the significant capital and operating costs needed to
establish and maintain full state-of-the-art development
facilities that would cover all of the various computing and
communications issues related to its products. The Company is in
discussions with a number of world-class technology companies
regarding collaboration on future generations of wearable
computers. The Companys selection criteria for partners to
develop its next-generation products will be based on pricing,
the

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Marketing and Sales

Markets

In the consulting portion of its business, the Company provides
project management, asset management and software development
products and services to federal, state and local governments,
and to the transportation, manufacturing, oil and gas and
software markets.

In the hardware portion of its business, the Company has divided
its potential markets into two main horizontal segments that
cover a number of industries and a number of industry-specific
vertical segments that the Company believes have the potential
for high rates of return on the deployment of the Companys
products. Each segment represents a significant portion of the
mobile worldwide workforce, which the Company believes totals
more than 100 million workers (see Industry
Overview). Selected market segments are as follows (unless
noted otherwise, data on U.S. workers is from the U.S. Census
Bureau, Statistical Abstract of the United States: 2000):



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Inspection, Maintenance and Repair:in the U.S., this
	segment includes approximately 11 million workers and has
	been the Companys primary focus since its inception. The
	complexity of commercial and consumer products and the need to
	access a great deal of technical material to maintain and repair
	these products made this segment one of the first to look to
	wearable computers to assist users in diagnosing and repairing
	such products, which include aircraft, motor vehicles and heavy
	machinery. Applications include remote teleconferencing to
	obtain over the shoulder repair and maintenance guidance from
	experts around the world, the use of video clips to provide
	just-in-time training or refreshing, and automatic tabulation
	and transmission of inspection results without the need for
	manual input of data. Through the use of wearable computing
	devices, inspection, maintenance and repairs can be done more
	quickly, cheaply and effectively. For example, in the U.S., the
	annual cost of bridge inspections nationwide is estimated at
	$400 million and an independent study concluded that
	wearable computers could reduce that cost significantly.
|
| |  | Manufacturing: in the U.S., this segment includes
	approximately 21 million workers. Primary applications
	include mobile monitoring of manufacturing processes, logistics
	and materials management, precision measurement, and in-process
	inspection.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|
| |  | Telecommunications: the primary applications in this
	segment are for field service applications and include
	maintenance and repair of field assets. The Company has
	completed a pilot program with Bell Canada involving 19 field
	service technicians who wore the MA for full work shifts in
	order to establish returns on investment and to evaluate the MA
	for use in a wide variety of commercial and residential tasks.
	The Company also believes that its products will be well suited
	as delivery devices for the next generation of wireless
	communications services (often referred to as 2.5G
	or 3G).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|
| |  | Education: in the U.S., this segment includes
	approximately 11 million workers. Applications include
	facilities maintenance, field data collection and remote
	learning by linking mobile teachers, students and researchers on
	a real-time basis.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|
| |  | Utilities: the primary applications in this segment
	include maintenance, inspection and repair of field assets. The
	utility segment is characterized by high-dollar assets requiring
	significant maintenance and repair activities and the ability to
	readily determine the costs of downtime for these assets. One
	pilot program used the MA IV with a customized database to track
	equipment inventory during scheduled shutdowns of nuclear power
	plants. The results of this pilot showed savings of between a
	half and a full day in the inspection schedule. This translated
	into savings to the utility of over a quarter of a million
	dollars through the reduction in the amount of power that must
	be purchased during such a shutdown.                                                                                                                                                                                                                                                                                                                                                                                                                                              

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| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   | The New York Power Authority estimates that it spends 80% of its
	budget for maintenance operations for overhead transmission
	lines. These examples highlight the significant amount of
	resources required for maintenance and repair in this segment
	and the potential the Company believes exists for significant
	savings through the use of wearable computers to assist in these
	tasks.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|
| |  | Transportation: this segment is also characterized by
	high-dollar assets and the ability to readily determine the
	costs of downtime for these assets. This segment includes rail,
	truck, automobile and maritime transportation. There are over
	approximately 6 million workers in the U.S. involved in
	transportation.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|
| |  | Medical: in the U.S., this segment includes approximately
	11.5 million workers and wearable applications range from
	field and remote diagnostics to inventory management. The Mobile
	Assistant is believed to present great potential in field
	medical operations by providing on-board and remote diagnostics,
	audio and/or video communication with doctors for emergency
	procedures, and transmission of locations for helicopter pickup
	through integrated global positioning systems. Another
	anticipated benefit of the Companys hands-free mobile
	computing technologies is that fewer healthcare personnel will
	be needed to perform complex tasks. By providing remote delivery
	of medical information (telemedicine), the
	Companys hands-free mobile computing and communications
	systems can become a key component within both managed care and
	telemedicine organizations, which are two key submarkets
	developing within the healthcare industry.
|
| |  | Media: the Mobile Assistant series allows for use of a
	head-mounted camera and wireless communications to allow
	real-time transmission of events and shows. This allowed remote
	access to the events and the ability to direct the Ford Motor
	Companys Live-Bots to show under-hood views and provide
	additional information during international automotive shows.
	Both the Democratic and Republican national conventions in 2000
	were covered in a similar manner by an independent news
	organization.                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|
| |  | Government/ Military: the military has long been an early
	adopter of advanced weapons technologies and as a result, was
	one of the first sectors to experience problems with the ability
	of personnel to maintain, diagnose and repair the advanced
	technology employed in weapons and equipment. The downsizing of
	the United States military and related budget constraints during
	the mid to late 1990s have compounded these problems. The
	Company believes that its wearable computing and communications
	devices are well suited for such complex military applications,
	which typically require a rugged and versatile device such as
	the MA.                                                                                                                                                                                                                                                                                                                   
|
| |  | Retail: according to the most current data available in
	the U.S. 1997 Economic Census, there were approximately
	14 million workers in the U.S. involved in retail trade.
	Primary applications for the Companys products include
	mobile checkout, inventory warehousing and counting, and
	facility maintenance and repair.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|
| |  | Aerospace: the manufacture and maintenance of aircraft
	requires precision production techniques and access to a large
	amount of technical data. For example, a Boeing 747 aircraft has
	approximately six million parts provided by over 16,000
	suppliers that must be assembled to exacting standards. Each
	wing of the 747 weighs 28,000 pounds and must be precisely
	measured and fitted to these standards. According to the most
	current data available in the U.S. 1997 Economic Census, there
	were approximately 900,000 workers in the U.S. involved in the
	manufacture of aircraft. The Company believes that the need to
	move in and around an aircraft during construction and the
	complex nature of aircraft manufacture and maintenance make the
	Companys products well suited for this market.                                                                                                                                                          

Marketing

The market segments identified in the above Markets
section were selected as the most promising segments in which
the Company believes it can achieve productivity savings and
rapid paybacks for customers through the use of its products and
services.

8



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##### 



The Company has established pilot projects with customers that
it considers to be the leaders within each identified segment.
These pilots typically involve the purchase of a number of
systems to be used in the customers operations to test the
use of wearable computing systems and to establish the benefits
derived from doing so. The Company intends to use these pilot
projects to: provide detailed data on productivity improvements
and returns on investment from the use of its products; obtain
reference accounts for prospective customers; generate
additional sales to each customer within the pilot-project;
generate sales to additional customers within the segment; and
use the benefits generated within that segment to position the
product within the other segments.

The Company has established a five level marketing and
distribution strategy to maximize market penetration through the
generation of revenues from the following channels:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Direct Company sales force:Targeting major accounts,
	such as Fortune 1000 companies, the purpose of the direct sales
	force is to sell wearable solutions directly to these targeted
	customers without the use of third parties. The direct sales
	force guides the customer through the initial testing and trial
	process. Once the products are accepted and established, the
	customer may be turned over to a channel partner, if
	appropriate, or may remain as a house account.     
|
| |  | High-volume generic distributors:This channel is
	designed to be used when unit shipments expand significantly,
	particularly in the consumer markets. To date, sales through
	generic distributors have been relatively limited.                                                                                                                                                                                                                                                              
|
| |  | Value-Added Resellers (VARs):This channel
	also includes system integrators, partners and original
	equipment manufacturers (OEM). VARs typically have
	an expertise and set of relationships within one or more market
	segments and typically have a good understanding of their
	customers requirements and business operations. By using
	VARs to reach these end customers, we combine our products and
	services with those of the VAR for sale to the VARs
	established customers.
|
| |  | Telemarketing and e-commerce:This channel seeks to
	obtain revenues from existing and new customers by using our
	website or in response to direct telephone queries.                                                                                                                                                                                                                                                                                                                          
|
| |  | Licensing:We maintain a portfolio of over 700 worldwide
	issued and pending patents, along with technical know-how, that
	we believe will be a source of licensing revenues in the future.                                                                                                                                                                                                                                                                                                     

To position the Company within these identified segments and in
the market for mobile computing as a whole, the Company is
continuing a marketing program that includes participation in
industry-specific trade shows, selected press coverage, and
exhibitions at special events such as the annual International
Conference on Wearable Computing.

The Company also conducts periodic customer advisory meetings in
which Company customers meet to share experiences, productivity
results, and suggestions for the use of wearable computer
applications, to provide the Company with feedback for product
development enhancements, and to allow the Company to share its
road map of market and product development.

The Company has expanded its presence at the Waldorf Astoria
Hotel in New York City to include approximately 50% of the Park
Avenue frontage of the hotel as the IBS-Xybernaut Technology
Center. Demonstration stations for vertical industries, along
with an executive briefing center, will occupy approximately
2,500 square feet of prime space at this center.

Sales and Backlog

As of December 31, 2001, the Company had a negligible
backlog of orders for its hardware products. Historically, most
orders have been filled within a short period after the receipt
of the order and management does not feel that backlog is an
appropriate measure of demand at this time. The Company does not
include blanket purchase orders in backlog until specific orders
are received under these blanket purchase orders. Prior to
shipment of the Companys products, purchase orders are
generally cancelable by the customers without penalty and are
not binding upon the customer.

9



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##### 



As of December 31, 2001, the Company had a backlog of
$3.9 million for its services business, primarily
consisting of multi-year contracts that are in progress.

Key Suppliers

The Company has entered into design, production, supply and
support agreements with selected companies in the U.S., Europe
and Asia for, and in support of, its products (see
Production).

Although the Company believes there are multiple sources for
many hardware and software components, the Company depends
heavily on its suppliers. While management believes that the
Company could adapt to supply interruptions, such occurrences
could necessitate changes in product design or assembly methods
for the MA and cause the Company to experience temporary delays
or interruptions in supply while such changes are incorporated.
Further, because the order time for certain components is often
lengthy, the Company could experience delays or interruptions in
supply in the event the Company is required to find a new
supplier for any of these components. Any disruptions in supply
of necessary parts and components from the Companys key
suppliers could have a material adverse effect on the Company.

Production

The Company has manufacturing agreements with Digital Logic in
Geneva, Switzerland for the manufacture of the MA TC, with IBM
for the manufacture of the MA V and Hitachi for the manufacture
of the poma.Several companies, including Shimadzu,
Olympus, MicroOptical and Microvision have separately produced
head-mounted displays that are suitable for use with the
Companys products. The Companys current flat panel
displays are produced by IBM and Zykronix. Most of the internal
parts used in the Mobile Assistant CPUs are existing PC
components that are readily available from multiple vendors. By
outsourcing the production of its wearable computer product
line, the Company believes that it is better able to quickly
adapt to changing markets and technology through the selection
of production partners with different areas of expertise.
Additionally, the Company is able to avoid the significant
capital and operating costs needed to establish and maintain
full state-of-the-art production facilities capable of producing
all of the various computing and communications components.

Warranties

For sales of its hardware products, the Company generally
provides customers with warranty terms that are competitive with
those for computing products of the local market in which the
products are sold. In the U.S., the Company generally provides a
one-year warranty on its parts and a six-month warranty on
labor. The Companys suppliers for the significant
components of the MA, including the computing unit, flat panel
and head mounted displays, and batteries, provide the Company
with similar warranties. The Companys distribution
partners are generally responsible for user and software support
for channel sales. The Company currently provides call center
support through a third party service firm.

In certain instances, the Company offers extended warranties for
up to two years beyond the standard one-year warranty. The
Company is negotiating with its suppliers to offer similar
warranties to the Company with similar terms to the extended
warranties offered to the Companys customers. In the event
that the Company is not able to obtain such warranties from its
suppliers, the Company may incur warranty expenses in the future
that are significantly greater than those incurred in the past.

Certain government contracts of XSI require that five to ten
percent of direct labor reimbursements per contract be withheld
from payments remitted to the Company until such time as the
contract is completed and a final accounting and approval has
been made.

10



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##### 



Competition

Several other companies are engaged in the manufacture and
development of body-worn or hand-held computing and
communications systems, which can also compete with the Mobile
Assistant series, including CDI, ViA Inc., Texas Microsystems,
Symbol, Raytheon, Panasonic and others. The Company believes
that as the markets for mobile computing and communications
converge, that its competitors will consist of these companies
as well as companies that offer mobile computing devices with
wireless communications capabilities and companies that offer
wireless communications devices with computing capabilities.
Companies with mobile computing devices that are adding wireless
communications capabilities include Palm, Inc., Handspring,
Compaq and Sony, and manufacturers of notebook and handheld
computers such as Fujitsu, Mitsubishi, Toshiba, IBM, Compaq, and
Sharp. Companies with wireless communications devices that offer
computing capabilities include Samsung, Motorola, Nokia, and
Ericsson. Competitors for the Companys software and
services includes Accenture, KPMG, Booze Allen Hamilton,
Primavera, and Artemis. Many of the Companys competitors
are large domestic and foreign companies which possess far more
resources than the Company and can be expected to compete
vigorously with the Company. There can be no assurance that the
Company will be able to compete successfully against its
competitors, or competing products, or that the competitive
pressures faced by the Company will not adversely affect its
financial performance. However, the Company believes that the
entry into the market for wearable PCs by reputable, large
computer and communications manufacturers will accelerate the
validation of the market for wearable PCs. In addition, the
Company believes that its patent position puts the Company in a
strong position to command royalties from such companies in the
future.

Intellectual Property

The Company relies on a combination of patent, trade secret,
copyright and trademark laws and contractual restrictions to
establish and protect its proprietary rights. The Company has
entered into confidentiality and invention assignment agreements
with its employees, and enters into non-disclosure agreements
with its suppliers, VARs, OEMs and actual and potential
customers to limit access to and disclosure of its proprietary
information. The Company has registered a number of trademarks
and service marks on the Principal Register of the United States
Patent and Trademark Office (Patent Office),
including its Mobile Assistant and Xybernaut trademarks, and
with the government patent and trademark offices in several
other countries. In addition, the Company has a total of 64
patent applications filed in the U.S. Patent Office, of which 22
U.S. patents have been granted, and over 650 corresponding
applications filed in over 26 countries outside the U.S., of
which 46 patents have been granted, for a total of over 700
patent applications granted or pending worldwide. Of the patents
granted in the U.S., 39 are utility patents that cover the
concepts in the patents regardless of specific execution or
design, and the remaining seven are design patents that cover a
specific design of a product or its components. The Company
believes that these patents are a valuable asset of the Company
and will present significant opportunities for royalty revenues
in the future. The most significant utility patents for the
Company are described below. All inventions made by employees of
the Company, including those described below, are assigned to
the Company by agreement with the employee upon the initiation
of employment with the Company. The Company retains full title
to these patents regardless of the inventors employment
status with the Company. The sections in quotations below are
taken directly from the relevant patents. Complete detail on the
patents can be found on the U.S. Patent Office website at
http://www.uspto.gov, through a search by patent number or
Xybernaut, for all patents other than 5,305,244,
which was filed under CPSI, which was the prior name
of the Company.

U.S. Patent 5,305,244, Hands-free, user-supported
portable computers.The application was made on
April 6, 1992, the patent was issued on April 19, 1994
and expires in April 2011. This patent describes A
compact, self-contained computing apparatus is provided which is
completely supported by a user for hands-free retrieval and
display of information for the user. This patent has been
successfully upheld in two challenges to the validity of the
patent (re-examination) at the US Patent and Trademark Office
that were initiated by a competitor of the Company.

11



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##### 



U.S. Patent 5,844,824, Hands-free portable computer and
system.The parent application was filed in the US
Patent and Trademark Office on October 2, 1995, the patent
was issued on December 1, 1998 and expires in May 2017.
This patent describes a body-worn, hands-free computer
system. The system does not rely upon a keyboard input or
activation apparatus but rather has various activation means all
of which are hands-free. The system can be used with other
systems, other system components and communication apparatus.
Also, various components of the present system can be body worn
or placed in a disconnected location if desired.

Specifically, this patent covers:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | A number of hands-free activation means, including
	speech, eye-tracking, head tracking, arm tracking, muscle and
	brain-wave activation;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|
| |  | Wireless communications and computing, wherein said
	computer apparatus has means for communicating and interacting
	with a communication means selected from the group consisting of
	cellular telephones, hard line telephones, infrared
	transceivers, two-way radio means and mixtures thereof;                                                                                                                                                                                                                                                                                                                                                         
|
| |  | A variety of modes of operation, from having the display,
	computer and activation means in one housing worn by the user,
	to having a number of users with head-mounted displays with a
	wireless connection to a single computer to form a local area
	network for workgroups;                                                                                                                                                                                                                                                                                                                                                                              
|
| |  | Wireless networking and internet access, It goes
	without saying that the mobile computer of this invention may be
	interfaced with or used in connection with any desired computer
	local networks such as Novel, Banyan or Arcnet or wide area
	networks such as Internet or the like;                                                                                                                                                                                                                                                                                                                                                                  
|
| |  | Integrated voice/ data operation, This [feature]
	allows for the passing of voice input signals from the apparatus
	of this invention through to the telephone system while
	maintaining voice-activated computer control of the telephone
	system. The interface may be integrated within the computer
	apparatus of this invention, attached to it during manufacture
	or user installed. This approach provides seamless switching
	between voice and data transmission and reception between one or
	more distant locations without distracting from the task being
	performed by the individual using the computer apparatus of the
	present invention;
|
| |  | Different types of processor, It will be
	appreciated by those of ordinary skill in the art that while an
	Intel 80386 or faster processor is preferred, any other central
	processor or microprocessor, either available presently or in
	the future, could be used;                                                                                                                                                                                                                                                                                                                                                                                       
|
| |  | Different types of display technologies, Those
	having ordinary skill in the art will appreciate that the
	display screen 110 and display screen driver module 214 can be
	implemented using any video technology either available
	presently or in the future;                                                                                                                                                                                                                                                                                                                                                                                             
|
| |  | Virtual reality applications, While the preferred
	display screen is a single screen positioned in front of the
	left or right eye, a binocular, head-mounted display
	(HMD) having two or more screens can be used. This
	can be immersive (all top and side visions obscured so that the
	user can only see the images on the screens) or as part of the
	users vision so that the user can look over or under the
	displays. Such devices have utility in the new technology of
	virtual reality or where stereoscopic viewing is needed to
	relate to the displayed information;                                                                     
|
| |  | Full video capabilities, including remote
	teleconferencing: Video Camera 273 contains a miniature
	video camera capable of high resolution output. The camera may
	be monochrome or color capable producing conventional NTSC
	television signals or higher resolution scans as required by a
	specific application. Video Interface Module 274 contains
	circuits for video frame or motion capture, enhancement,
	compression and output to the computer Bus 253; and                                                                                                                                                                                    
|
| |  | Medical and handicapped use, Medical Device
	Controller 275 contains any one of many specialized medical
	devices designed to perform medical procedures or patient
	therapy. Such devices include muscle stimulators, bed
	positioning control, emergency call device and any of various
	medical units that would perform activities or sense and monitor
	a patients bodily status and function for the patient in a
	hands-free environment.                                                                                                                                                                                                           

12



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##### 



U.S. Patent 5,948,047, Detachable computer
structure.The original application was made on
August 29, 1996, the patent was issued on September 7,
1999 and expires August 2016. U.S. Patent 5,999,952,
Core computer unit. The original application
was made on January 20, 1998, the patent was issued on
December 7, 1999 and expires in January 2018. U.S.
Patent 6,029,183, Transferable core
computer. The original application was made on
August 15, 1997, the patent was issued on February 22,
2000 and expires August 2018. These three issued patents, and
others pending, cover various aspects of what the Company calls
core computing, or the use of a small device about
the size of a current PDA that contains a processor,
non-volatile storage and other components that docks into
various enclosures such as a notebook, desktop, airplane
seatback, wearable computing/communicating device or automobile.
This core computer allows the user to always have his or her
preferred operating system, graphical user interface,
applications software and data available in almost any
environment without the need to synchronize these items among
multiple computers in multiple locations. For example, whether
the user is answering email at home, in the office, in a car or
while walking around, the same email settings, wireless
communication settings, address book, past emails and email
strings would be available in each of these environments. A
field technician would be able to keep current technical
information, communication settings, daily work logging, etc.,
available whether the technician was on top of a telephone pole,
in a service truck, in the office, or at home.

The Company believes that users will increasingly demand a
single device to handle their range of computing,
communications, and task needs such as schedules, telephone
numbers, or to-do lists, rather than having separate PDAs,
notebook computers, cellular telephones, pagers, etc., to handle
these functions. By separating the computing functions from the
input and output functions, the core computing concept allows
for standard cores to be mass-produced at a low cost, and allows
the functionality of the enclosure to be tailored to the
environment, applications requirements and the desired price
level. The rate of obsolescence is substantially higher for the
elements within the core, namely the processor and the
nonvolatile storage, than for the input/output devices, such as
monitors, CD-ROMs, keyboards, and modems. This approach allows
the user to upgrade the processor and storage capabilities of
the computer without having to replace other functions typically
integrated within a desktop or a laptop computer today. In this
matter, the core computer becomes a truly personal
computer for the user.

The Company believes that initially the core computer will
interface with the enclosures by means of physical contact.
Eventually, the Company believes that the interface with the
enclosures and the users environment will be done by radio
frequency signals, such as those proposed for the Bluetooth
wireless standard developed to connect computing devices.
Management believes that these developments position the Company
with the products and intellectual property to be at the
forefront of the pervasive computing and communications
movement, in which the users have the ability to constantly
interact with their environment and represents the complete
convergence of communications and computing capabilities.

For example, travelers could insert their core computer into an
enclosure in the bed stand of their hotel room upon arrival. The
core would then interact with the hotel computer so the room can
be set to the preferred temperature setting, order room service,
and arrange for a wake-up call. In addition, the room computer
could ask if the traveler wanted the next days plane
reservations confirmed, then check the airlines web site
to confirm the flight and the travelers reservations. The
core could then obtain directions to the locations of scheduled
meetings in the area and interact with the hotel computer system
to provide a list of recommended restaurants, entertainment
events, or sporting events for the traveler. The traveler might
then take the core in a rented enclosure with an integrated
global positioning system and take a guided tour of the city,
directing the traveler to the location of preferred restaurants
or entertainment events, provide history or background, or allow
the traveler to view listings of companies within the city,
sorted by various criteria, to develop potential list of sales
prospects.

In this pervasive computing concept, the Company believes that
users will demand a consistent interface regardless of whether
the user is computing, communicating, or interacting with the
environment. The various interfaces, settings, and limits on Web
sites or graphical content that are required by the variety of
devices on the market today present a hindrance to use as the
user must constantly adjust settings for the different
environments, or carry multiple devices to handle different
situations. The Company believes that the

13



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##### 





Notwithstanding the foregoing, there can be no assurance that
the Companys pending patent applications will issue as
patents, that any issued patent will provide the Company with
significant competitive advantages or that challenges will not
be instituted against the validity or enforceability of any
patent held by the Company. The cost of litigation to uphold the
validity and prevent infringement of patents can be substantial.
There also can be no assurance that others will not
independently develop similar or more advanced products, design
patentable alternatives to the Companys products or
duplicate the Companys trade secrets. The Company may in
some cases be required to obtain licenses from third-parties or
to redesign its products or processes to avoid infringement. The
Company also relies on trade secrets and proprietary technology
and enters into confidentiality agreements with its employees
and consultants. The Company has implemented a trade secret
management program to further protect the Companys trade
secrets and proprietary information. There can be no assurance
that the obligation to maintain the confidentiality of such
trade secrets or proprietary information will not be breached by
employees or consultants or that the Companys trade
secrets or proprietary technology will not otherwise become
known or be independently developed by competitors in such a
manner that the Company has no practical recourse. The Company
intends to take any and all appropriate measures, including
legal action, necessary to maintain and enforce its rights under
the patents held by the Company and to recover any damages
suffered as a result of any alleged infringement.

Employees and Consultants

As of December 31, 2001, the Company had 145 full-time and
15 part-time employees, and had consulting arrangements with
eight individuals or firms for advice and assistance on selected
technical and business matters. Of the Companys full-time
employees, eight are executive officers, 35 are technical and
administrative support employees, 21 are engaged in research and
development, and 81 are engaged in consulting services, sales,
marketing and customer service. None of the Companys
employees are represented by a labor organization and management
believes that the Companys relations with its employees
are good.

Item 2. Properties

The Companys U.S. headquarters are 19,500 square feet of
office and development space located at 12701 Fair Lakes Circle,
Fairfax, Virginia. The Companys lease is for a five-year
term expiring September 30, 2003 and requires monthly rent
of $42,800.

XSIs facility consists of 5,000 square feet of office
space located at 8618 Westwood Center Drive, Vienna, Virginia.
The Companys lease is for a 7-year term expiring
December 31, 2005 and requires monthly rent of $13,200.

To minimize lodging expenses related to visiting consultants and
visiting or relocating employees, the Company leases four
apartments in Fairfax, Virginia with aggregate monthly rental
costs of $6,000. Management believes that the cost of these
apartments is less than what would be incurred if these visitors
stayed in hotels.

The Companys European facility consists of 2,180 square
feet of office space located at the SBS Software Center, Otto
Lilienthal Strasse 36, D-71034 Boeblingen, Germany. The
Companys lease is for a two-and-a-half-year term expiring
on June 30, 2004. The lease requires monthly rent of $2,000.

The Companys Asian facility consists of 2,900 square feet
of office space located at Urbansquare, 1-1 Sakae-cho
Kanagawa-ka, Yokohama, Japan. The Companys lease is for a
two-year term expiring December 31, 2003. The lease
requires monthly rent of $8,100.

14



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##### 





|        |                  
|------- | -----------------
|Item 3. | Legal Proceedings

The Company has no material pending legal proceedings, other
than ordinary routine litigation incidental to the
Companys business, to which the Company or any of its
subsidiaries is a party or of which any property is the subject.



|        |                                                    
|------- | ---------------------------------------------------
|Item 4. | Submission of Matters to a Vote of Security Holders

No matter was submitted during the fourth quarter of the fiscal
year covered by this report to a vote of security holders,
through the solicitation of proxies or otherwise.

PART II

Item 5.  Market for Common Equity and Related
Stockholder Matters

On July 18, 1996, the Company completed its initial public
offering. The Companys common stock, representing its only
current class of publicly traded equity securities, trades on
the NASDAQ National Market under the ticker XYBR.

On November 15, 2001, the Company received gross proceeds
of $9,250,000 through the private placement of 5,441,175 shares
of its common stock to several investors. In connection with
this private placement, the Company issued callable warrants to
purchase 1,360,294 shares of its common stock at an exercise
price of $2.55 per share. The Company also paid $266,131 in cash
and issued callable warrants to purchase 61,765 shares of common
stock with the same terms to a financial advisor and a finder.

As of December 31, 2001, there were over 56,000
shareholders of the Companys common stock. There have been
no cash dividends paid on the Companys common stock to
date and the Company does not anticipate the payment of
dividends in the foreseeable future.

The table below sets forth the high and low closing prices of
the Companys common stock in dollars per share by quarter,
for the years ended December 31, 2001 and 2000, as reported
in published financial sources. These prices reflect
inter-dealer prices, without retail markup, markdown or
commission and may not necessarily represent actual transactions.

|                 |  |              |       |     |  |   |      | 
|---------------- |  | ------------ | ----- | --- |  | - | ---- | 
|                 |  |             
|                 |  | Common Stock
|                 |  |             
|                 |  | High         |       | Low
|                 |  |              |       |    
|1st Quarter 2000 |  | $            | 23.38 |     |  | $ | 5.56 | 
|                
|                
|                
|                
|2nd Quarter 2000 |  | $            | 15.44 |     |  | $ | 7.44 | 
|                
|                
|                
|                
|3rd Quarter 2000 |  | $            | 10.75 |     |  | $ | 5.69 | 
|                
|                
|                
|                
|4th Quarter 2000 |  | $            | 6.63  |     |  | $ | 1.22 | 
|                
|                
|                
|                
|1st Quarter 2001 |  | $            | 4.16  |     |  | $ | 1.99 | 
|                
|                
|                
|                
|2nd Quarter 2001 |  | $            | 5.46  |     |  | $ | 1.97 | 
|                
|                
|                
|                
|3rd Quarter 2001 |  | $            | 4.34  |     |  | $ | 1.84 | 
|                
|                
|                
|                
|4th Quarter 2001 |  | $            | 2.89  |     |  | $ | 1.91 | 

15



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##### 



Item 6.  Selected Financial Data

|                          |  |      |             |      |  |      |             |      |  |      |             |   |  |   |             |   |  |   |             |  
|------------------------- |  | ---- | ----------- | ---- |  | ---- | ----------- | ---- |  | ---- | ----------- | - |  | - | ----------- | - |  | - | ----------- | -
|                          |  | 2001 |             | 2000 |  | 1999 |             | 1998 |  | 1997
|                          |  |      |             |      |  |      |             |      |  |     
|Total revenue             |  | $    | 9,819,993   |      |  | $    | 9,504,891   |      |  | $    | 8,352,774   |   |  | $ | 5,447,370   |   |  | $ | 2,581,811   |  
|                         
|                         
|                         
|                         
|Net loss                  |  | $    | (32,199,579 | )    |  | $    | (24,185,222 | )    |  | $    | (16,697,413 | ) |  | $ | (13,001,338 | ) |  | $ | (10,051,757 | )
|                         
|                         
|                         
|                         
|Net loss per common share |  | $    | (0.63       | )    |  | $    | (0.63       | )    |  | $    | (0.76       | ) |  | $ | (0.77       | ) |  | $ | (0.81       | )
|                         
|                         
|                         
|                         
|Total assets              |  | $    | 17,691,026  |      |  | $    | 20,242,682  |      |  | $    | 12,870,679  |   |  | $ | 7,049,010   |   |  | $ | 6,129,478   |  
|                         
|                         
|                         
|                         
|Long-term obligations     |  | $    |            |      |  | $    |            |      |  | $    |            |   |  | $ | 713,141     |   |  | $ | 841,065     |  



|        |                                                                                       
|------- | --------------------------------------------------------------------------------------
|Item 7. | Managements Discussion and Analysis of Financial
	Condition and Results of Operations

Overview

Xybernaut Corporation, a Delaware corporation
(Xybernaut or the Company), is engaged
in the research, development and commercialization of mobile,
wearable computing and communication systems along with software
and service solutions designed to enhance productivity, improve
product management, asset management and the accuracy,
timeliness and utilization of captured data. The Company offers
solutions with a software and services focus through its
wholly-owned subsidiary Xybernaut Solutions, Inc.
(XSI). The Company offers solutions with a hardware
focus through its U.S. operations and through its wholly-owned
subsidiaries Xybernaut K.K. (Japan) and Xybernaut GmbH (Germany).

The Company was formed in 1990 and completed its initial public
offering (IPO) on July 18, 1996. On
April 7, 2000, Xybernaut acquired XSI, formerly known as
Selfware, Inc., a company that provides software and services
solutions. The merger was accounted for as a pooling of
interests.

All financial data of the Company, including Xybernauts
previously issued operations for the periods presented in this
Form 10-K, have been restated to include the historical
financial information of XSI. The consolidated financial
statements include the accounts of the Company and its wholly
owned subsidiaries: XSI (Virginia, U.S.), Xybernaut Development
Corporation (Virginia, U.S.), Xybernaut K.K. (Yokohama, Japan),
and Xybernaut GmbH (Boeblingen, Germany). All significant
intercompany accounts and transactions have been eliminated in
the consolidation.

The Mobile Assistant® (MA®)series is the
Companys primary wearable computer hardware product line,
with the Mobile Assistant IV (the MA IV), MA V and
MA TC currently available. Since its introduction in December
1998, the Company has realized revenue of over $10,000,000 on
sales of approximately 2,000 units of the MA IV, the
Companys prior model, through December 31, 2001. The
Company began shipping the poma, a wearable
computer targeted at the light-commercial and near-consumer
markets, during the first quarter of 2002. The Company derives
its revenues from sales of its wearable computers, software
products and consulting services. In the future, the Company
expects to obtain additional revenues from the licensing of its
intellectual property.

A number of trends are expected to have a significant effect on
the Companys operations in the future. During 2001, many
of the Companys large customers deferred or delayed
anticipated purchases of Company products because of uncertain
economic conditions. If those conditions worsen, it is possible
that more potential customers will defer or delay purchases,
which would have an adverse effect on Company operations. While
the Company expects general economic conditions to improve
beginning in the second quarter of 2002, there can be no
assurance that this expectation will be realized.

Beginning with the widespread use of the internet on desktop
computers, there has been an increasing demand for mobile
computing and wireless communications devices that can bring
this desktop internet experience to mobile users. The rapid
growth of internet-enabled cell phones, PDAs, interactive pagers
and the like result in a growing number of devices that cater to
the mobile data user and which may compete with the
Companys products and which may also present opportunities
for licensing.

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The Company believes that sales of its wearable computers will
rely to a great extent on the availability of wireless broadband
services that can take advantage of the processing power and
display capabilities of the Companys hardware products.
Wireless LANs are now well established in the commercial markets
for providing broadband capabilities in limited-range
applications such as warehouses, factory floors, flightline
operations and the like. However, widerange wireless access,
commonly referred to as 2.5G or 3G, is not established at this
time, but is expected in the near future. The Company believes
that the consumer markets will require such wireless broadband
access to fully develop.

Critical Accounting Policies

In accounting for the financial results of the Companys
operations, management employs several critical accounting
methods and policies and makes estimates and assumptions which
materially affect the manner in which such results are
presented. The Companys critical accounting policies are
as follows:

Inventory and Tooling.Inventory consists primarily of
wearable computer component parts held for resale and allocated
tooling costs, and is primarily comprised of finished goods. The
capitalized tooling asset consists of payments made to
third-party vendors for their products and services that are
used in the manufacture of the Companys proprietary
hardware products.

Periodically, the Company records charges and reserves against
its inventory and tooling asset balances. To determine the sizes
of the charges and reserves to record, if any, management
reviews the carrying value of its inventory and tooling in light
of the introduction of new and competing product lines, its
ability to sell the quantities of inventory on hand and the
sales prices it ultimately expects to achieve. This analysis
takes into account estimated price concessions which management
believes are likely to be necessary in disposing of this
inventory. As a result of this review, it may be determined that
certain of the Companys inventory is slow-moving, risks
becoming obsolete or may likely be sold at below historical
cost. Based upon a specific review of the carrying costs for the
inventory items, management estimates the quantity of each
inventory item that the Company expects to be able to sell and,
if appropriate, quantifies inventory amounts that may not be
recoverable. Subsequent to recording such charges and reserves,
if any, management does not expect to record significant profits
or losses upon the ultimate sale of this inventory.

This review is based on a number of assumptions and estimates
made by management, including but not limited to those related
to the introduction of new product lines, the Companys
ability to sell the quantities of inventory on hand, the net
sales price the Company ultimately expects to achieve, the
introduction of competing products, customer demand and general
economic conditions. To the extent that actual future events are
different from the assumptions and estimates used by management,
additional charges, reserves or adjustments may be recorded by
the Company.

The capitalized tooling asset is systematically allocated to
inventory and property and equipment and is amortized as a
component of cost of sales or depreciation based upon the number
of units sold or used as demonstration units in a given period
compared to the total number of units management expects to make
in a products production run. Managements
expectation of the number of units to be made during a given
products production run is based on a number of
assumptions and estimates, including but not limited to those
related to the introduction of new product lines, the
Companys ability to procure and sell the quantities of
inventory, the introduction of competing products, customer
demand and general economic conditions. To the extent that
actual future events are different from the assumptions and
estimates used by management, additional charges, reserves or
adjustments may be recorded by the Company.

Patents.The Company capitalizes legal fees, filing fees
and other direct costs incurred to obtain patents and
trademarks. These costs are amortized over a five-year period.
The costs of maintaining patents are expensed as incurred.
Whenever events or changes in circumstances occur that indicate
that there is the potential for the impairment of the carrying
values of these patent assets, management performs an analysis
to determine the recoverability of the assets carrying
value. As a result of such analysis, management may reserve
against or write down the carrying value of the patent asset.

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This review is based on a number of assumptions and estimates
made by management, including but not limited to those related
to the outcome of potential litigation against competitors who
may infringe on the Companys patents, the outcome of
potential litigation brought against the Company related to
infringement of another companys patents, impairment of
trade secrets and know-how and the Companys intentions to
use a given patent in the future. To the extent that actual
future events are different from the assumptions and estimates
used by management, additional charges, reserves or adjustments
may be recorded by the Company.

Warranties for Hardware Product Sales.For hardware
product sales, the Company generally provides a one-year
warranty on its parts and a six-month warranty on labor. The
Companys suppliers for the significant components of the
MA and pomaproduct lines, including the computing units,
flat panel and head mounted displays, and batteries, provide the
Company with similar warranties. In certain instances, the
Company offers extended warranties for up to two years beyond
the standard one-year warranty. The Company is in negotiations
with its suppliers to offer similar warranties to the Company to
back up the extended warranties offered to the Companys
customers. A provision for estimated future warranty costs is
recorded at the time of shipment as a component of cost of
sales. This warranty expense is recorded based on the expected
costs to be incurred by the Company above and beyond the
warranty provisions provided to the Company by its vendors.

The expense is recorded by management using a number of
assumptions and estimates, including but not limited to those
related to estimates for future warranty claims based on reviews
of historical warranty experience as well as other general and
customer-specific factors, industry warranty trends, intended
uses by customers, successful negotiation of extended warranty
coverage from the Companys vendors and continued warranty
support from vendors. Additionally, because of the recent
introduction of the MA V, MA TC and poma product lines,
the Company only has limited historical data on which to
forecast future warranty claims. To the extent that actual
future event are different from the assumptions and estimates
used by management, additional warranty expenses may be recorded
by the Company.

Revenue Recognition on Fixed Price Contracts.The Company
recognizes revenue from long-term service contracts in
accordance with Accounting Research Bulletin No. 45,
Long-Term Construction Type Contracts, using the
relevant guidance in Statement of Position (SOP)
No. 81-1, Accounting for Performance of
Construction-Type and Certain Production-Type Contracts,
as determined by the terms and conditions of the Companys
various consulting contracts with its customers. Revenue is
recognized in fixed price contracts based on the percentage of
completion method by calculating the ratio of costs incurred
over total estimated costs to complete.

Historically, the Company has not recorded losses related to its
fixed price contracts. However, in the event that the costs to
complete increase, or are anticipated to increase, to a level
that will result in a negative gross margin to the Company, a
loss is recognized in the period that this determination is
made. Possible events that could cause the total estimated costs
to complete a project to change include, but are not limited to,
the occurrence of unanticipated complications, technical or
otherwise, changes to a clients requirements, general
inefficiencies in the management of the engagement, a change in
key personnel or the cost of personnel.

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Results of Operations

The following table sets forth certain consolidated financial
data as a percentage of revenues for the years ended
December 31, 2001, 2000 and 1999.

|                                               |                          |              |        |       |  |      |        |       |  |  |        |       | 
|---------------------------------------------- | ------------------------ | ------------ | ------ | ----- |  | ---- | ------ | ----- |  |  | ------ | ----- | 
|                                               |                          |             
|                                               |                          | December 31,
|                                               |                          |             
|                                               |                          | 2001         |        | 2000  |  | 1999
|                                               |                          |              |        |       |  |     
|Revenue                                        |                          |              | 100.0  | %     |  |      | 100.0  | %     |  |  | 100.0  | %    
|                                              
|                                              
|                                              
|                                              
|Cost of sales                                  |                          |              | 70.3   |       |  |      | 74.5   |       |  |  | 71.8   |      
|                                              
|                                              
|                                              
|                                              
|Provision for inventory and tooling            |                          |              | 18.6   |       |  |      | 15.8   |       |  |  | 1.4    |      
|                                               |                          |              |        |       |  |      |        |       |  |  |        |      
|                                               | Gross margin             |              |        | 11.1  |  |      |        | 9.7   |  |  |        | 26.8  | 
|                                               |                          |              |        |       |  |      |        |       |  |  |        |      
|Operating expenses:                            |                          |              |        |       |  |      |        |       |  |  |        |      
|                                              
|                                              
|                                              
|                                              
|                                               | Sales & marketing        |              |        | 180.7 |  |      |        | 120.8 |  |  |        | 114.9 | 
|                                              
|                                              
|                                              
|                                              
|                                               | General & administrative |              |        | 64.3  |  |      |        | 63.8  |  |  |        | 82.7  | 
|                                              
|                                              
|                                              
|                                              
|                                               | Research & development   |              |        | 97.2  |  |      |        | 62.4  |  |  |        | 29.4  | 
|                                              
|                                              
|                                              
|                                              
|                                               | Merger costs             |              |        | 0.0   |  |      |        | 6.5   |  |  |        | 0.0   | 
|                                               |                          |              |        |       |  |      |        |       |  |  |        |      
|Total operating expenses                       |                          |              | 342.2  |       |  |      | 253.5  |       |  |  | 227.0  |      
|                                               |                          |              |        |       |  |      |        |       |  |  |        |      
|Interest and other                             |                          |              | 3.2    |       |  |      | (10.7  | )     |  |  | 0.3    |      
|                                               |                          |              |        |       |  |      |        |       |  |  |        |      
|Net loss                                       |                          |              | (327.9 | )     |  |      | (254.5 | )     |  |  | (199.9 | )    
|                                               |                          |              |        |       |  |      |        |       |  |  |        |      
|Provisions for preferred stock                 |                          |              | 0.0    |       |  |      | 0.1    |       |  |  | 21.8   |      
|                                               |                          |              |        |       |  |      |        |       |  |  |        |      
|Net loss applicable to holders of common stock |                          |              | (327.9 | )%    |  |      | (254.6 | )%    |  |  | (221.7 | )%   
|                                               |                          |              |        |       |  |      |        |       |  |  |        |      

Years Ended December 31, 2001 and December 31, 2000

Revenue.The Company derives its revenue from product
sales of its wearable computers, software, and from consulting
services. Total revenue for the year ended December 31,
2001 was $9,819,993, an increase of $315,102, or 3%, compared to
$9,504,891 for the year ended December 31, 2000. Product
revenue for 2001 was $5,906,402, a decrease of $195,173, or 3%,
compared to $6,101,575 for 2000. Sales from the Companys
wearable computer products increased from $4,886,565 in 2000 to
$5,227,502 in 2001, representing a $340,937, or 7%, increase.
This increase resulted from the introduction of the MA V and MA
TC product lines in the second half of 2001. Offsetting this
increase in wearable computer sales was a decrease in software
revenue from $1,215,010 in 2000 to $678,900 in 2001,
representing a $536,110, or 44%, decrease. This decrease related
to a single $925,000 sale in 2000 for which no similarly large
transaction occurred in 2001. The Companys consulting,
licensing and other revenue during 2001 was $3,913,591, an
increase of $510,275, or 15%, from 2000 revenue of $3,403,316.
This increase resulted primarily from revenues realized in 2001
from a large multi-year consulting contract. Since this contract
commenced in mid-2000, comparable billings were only realized
for approximately half of the prior year.

Cost of Sales.The Companys cost of sales include
the costs of components for the Companys wearable computer
product lines, purchased software, direct labor and materials,
amortization of tooling costs, warranty costs, fulfillment and
shipping costs, and inventory and tooling reserves. Total cost
of sales, excluding inventory and tooling reserve charges, for
the year ended December 31, 2001 was $6,901,150, a decrease of
$177,914, or 3%, compared to $7,079,064 for the year ended
December 31, 2000. This decrease was primarily the result
of a $676,332, or 14%, decrease in product cost of sales from
$4,990,348 in 2000 to $4,314,016 in 2001. The cost of sales
related to the Companys wearable computer products
decreased $247,970, or 6%, from 2000 to 2001, due primarily to
licensing fees incurred during 2000 for software used with the
Companys earlier-generation product line, the MA IV, which
were not incurred in 2001. Additionally, the cost of sales for
software decreased $428,362, or 52%, from 2000 to 2001 which
corresponds generally to the decrease in software revenue.
Overall gross margins before reserves were 30% and 26% for 2001
and 2000, respectively. The Companys gross margin from its
product sales increased to 27% in 2001 from 18% in 2000,
resulting

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The Company recorded provisions of $1,829,234 in 2001 and
$1,500,000 in 2000 related to its wearable computer product
lines. Of these charges, $802,935 and $1,500,000 were recorded
during 2001 and 2000, respectively, to reduce the net carrying
value of inventory and tooling associated with the MA IV product
line given the uncertainties created by the introduction of the
MA V and MA TC product lines. In 2001, a charge of $885,019 was
recorded to reflect managements estimate of losses to be
incurred on shipments of the initial production run of the
pomaproduct line. To position the pomain the
price-sensitive light commercial and near-consumer markets, the
Company expects to sell the limited first production run of the
pomasystems at prices that are less than their initial
production costs. The Company intends to pursue cost reductions
for future production runs of the poma, along with
bundling services with the product sale, to generate
industry-standard margins from the poma. Although the
pomainventory had not been received by the Company as of
December 31, 2001, the Company recorded the expected losses
during 2001, which was the period in which the underlying
contracts were entered into. Because the inventory had not been
received by the company as of December 31, 2001, and is
therefore not recorded as an asset, this charge was recorded as
an accrued liability which will be reduced as pomainventory shipments are received during 2002. The remaining
$141,280 charge recorded in 2001 related to a bulk purchase of
hard disk drives that the Company made in connection with the MA
V product line which were later replaced with higher-capacity
disk drives. Management expects to sell these disk drives in
bulk and management has recorded a reserve against these disk
drives based upon the estimated realizable value.

The Companys management believes that it can sell the MA
IV, pomaand component inventory at amounts that
approximate current net carrying values, which have been reduced
as a result of the above charges. To determine the size of the
charges to record, management reviewed the carrying value of its
inventory in light of the introduction of the new product lines,
its ability to sell the quantities of inventory on hand and the
sales prices it ultimately expects to achieve. This analysis
took into account estimated price concessions which management
believes are likely to be necessary in disposing of this
inventory. As a result of this review, it was determined that
certain of the Companys inventory is slow-moving, risked
becoming obsolete or will likely be sold at below its historical
cost. Based upon a specific review of the carrying costs for the
inventory items, management estimated the quantity of each
inventory item that the Company was expected to be able to sell
and also quantified inventory amounts that may not be
recoverable. Management does not expect to record significant
profits or losses upon the ultimate sale of this inventory.

Sales and Marketing Expenses.Sales and marketing
expenses for the year ended December 31, 2001 were
$17,737,278, an increase of $6,256,466, or 54%, compared to
$11,480,812, for the year ended December 31, 2000. The
increase was the result of efforts to market and sell the
Companys new wearable computer product lines in 2001.
These efforts included an increase of approximately $3,400,000
in personnel costs related to its sales, marketing and business
development functions. Additionally, expenditures relating to
outside marketing services, including those incurred for a new
logo and collateral literature, trade shows and conferences
increased by approximately $1,100,000 in 2001 from 2000. The
Company recorded $265,398 and $1,254,008 of non-cash expenses
during 2001 and 2000, respectively, for outside marketing
services which were paid through the issuance of the
Companys equity securities.

General and Administrative Expenses.General and
administrative expenses for the year ended December 31,
2001 were $6,318,044, an increase of $252,803, or 4%, compared
to $6,065,241 for the year ended December 31, 2000. This
increase was primarily the result of an increase in personnel
costs.

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Research and Development Expenses.The Companys
research and development expenses consist primarily of personnel
costs, the purchase of test equipment and payments to
consultants and other third-parties which provide research and
development services. Research and development expense for the
year ended December 31, 2001 was $9,548,745, an increase of
$3,622,908 or 61%, compared to $5,925,837 for the year ended
December 31, 2000. This was principally the result of
increases of approximately $1,728,000 in third-party
expenditures made during 2001 over 2000 levels related to the
research and design of wearable computers and peripherals,
$571,000 in personnel costs and $836,000 in outside research
services related to wearable technology, including hardware and
software development, product testing and evaluation.

Merger Costs.Merger expenses were $621,048 for 2000.
These non-recurring expenses related to the Companys April
2000 merger with XSI, for which no comparable expenses were
recorded in 2001. These expenses consist of $452,683 in direct
costs, including fees for investment banking, legal and
accounting services, and $168,365 in charges to conform
XSIs accounting policies to those of the Company.

Interest and Other, Net.Net interest income and other
income for the year ended December 31, 2001 were $340,719,
a decrease in expense of $1,321,362, compared to expense of
$980,643 for the year ended December 31, 2000. This
increase was the result of approximately $1,267,000 of interest
expense and the amortization of note discounts related to
certain loans that the Company received during 2000. The Company
did not have significant borrowings during 2001.

Provision for Income Taxes.The provision for income
taxes for the year ended December 31, 2001 was $25,840, a
decrease of $11,628, compared to the income tax provision of
$37,468 for the year ended December 31, 2000. These amounts
relate to the operations of the Companys foreign
subsidiaries. The Companys U.S. operations had a net loss
during these periods and, therefore, no provision for U.S.
income taxes was made.

Provision for Preferred Stock Dividends.The Company
accrued dividends at 5% per year on the outstanding principal
amount of its preferred stock during the year ended
December 31, 2000. As of that date, all outstanding
preferred stock had been fully converted into common stock.
Therefore, for the year ended December 31, 2001, there was
no provision for dividends, a decrease of $10,438, or 100%, from
the $10,438 recorded in 2000.

Net Loss Applicable to Holders of Common Stock.As a
result of the factors described above, the net loss applicable
to holders of common stock for the year ended December 31,
2001 was $32,199,579, an increase of $8,003,919 or 33%, compared
to $24,195,660 for the year ended December 31, 2000.

Years Ended December 31, 2000 and December 31, 1999

Revenue.The Company derives its revenue from product
sales of its wearable computers, software, and from consulting
services. Total revenue for the year ended December 31,
2000 was $9,504,891, an increase of $1,152,117, or 14%, compared
to $8,352,774 for the year ended December 31, 1999. Product
revenue for 2000 was $6,101,575, an increase of $1,608,217, or
36%, compared to $4,493,358 for 1999. The increase in product
revenue resulted from the $1,584,666, or 48%, increase in sales
of the Companys wearable computer products to $4,886,565
during 2000 from $3,301,899 during 1999. This increase was
primarily the result of a $1,008,547 increase in European
revenues, related to increased unit shipments as well as a sale
of approximately $800,000 to one U.S. customer in 2000, for
which a comparably sized order was not recorded in 1999. The
Company maintained consistent software product revenue of
$1,215,010 for 2000 versus $1,191,459 for 1999. The
Companys consulting, licensing and other revenue during
2000 was $3,403,316, a decrease of $456,100 or 12%, from 1999
revenue of $3,859,416. This decrease resulted primarily from one
large multi-year consulting contract for which the first phase
was substantially completed in 1999 resulting in significant
revenues, while the second phase was not started until late in
2000.

Cost of Sales.The Companys cost of sales include
the costs of components for the Companys wearable computer
product lines, purchased software, direct labor and materials,
amortization of tooling costs, warranty costs, fulfillment and
shipping costs, and inventory and tooling reserves. Total cost
of sales, excluding inventory and tooling reserve charges, for
the year ended December 31, 2000 was $7,079,064, an increase of

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Sales and Marketing Expenses.Sales and marketing
expenses for the year ended December 31, 2000 were
$11,480,812, an increase of $1,887,193, or 20%, compared to
$9,593,619 for the year ended December 31, 1999. The
increase was the result of continued efforts that achieved a 48%
growth in sales of the Companys wearable computer product
during 2000. These efforts included an increase of approximately
$1,500,000 in personnel costs in hardware sales and business
development functions. Additionally, expenditures relating to
outside marketing services, trade shows and conferences
increased by approximately $420,000 in 2000 from 1999. The
Company recorded $1,254,008 and $41,772 of non-cash expenses
during 2000 and 1999, respectively, for outside marketing
services which were paid through the issuance of the
Companys equity securities.

General and Administrative Expenses.General and
administrative expenses for the year ended December 31,
2000 were $6,065,241, a decrease of $842,201, or 12%, compared
to $6,907,442 for the year ended December 31, 1999. This
decrease was primarily the result of approximately $985,751 in
legal and settlement expenses related to two lawsuits that were
recorded during 1999 for which no significant comparable
expenses were recorded during 2000.

Research and Development Expenses.The Companys
research and development expenses consist primarily of personnel
costs, the purchase of test equipment and payments to
consultants and other third-parties which provide development
services. Research and development expense for the year ended
December 31, 2000 was $5,925,837, an increase of $3,463,085
or 141%, compared to $2,462,752 for the year ended
December 31, 1999. The increase was principally the result
of approximately $3,500,000 in third-party expenditures made
during 2000 related to the introduction of the MA V and MA TC
products and a line of daylight readable flat panel displays.
The 1999 expenses related to hardware and software improvements
for the MA IV product line.

Merger Costs.Merger expenses were $621,048 for 2000.
These non-recurring expenses related to the Companys April
2000 merger with XSI, for which no comparable expenses were
recorded in 1999. These expenses consist of $452,683 in direct
costs, including fees for investment banking, legal and
accounting services, and $168,365 in charges to conform
XSIs accounting policies to those of the Company.

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Interest and Other, Net.Net interest and other expenses
for the year ended December 31, 2000 were $980,643, an
increase in expense of $1,008,292, compared to income of $27,649
for the year ended December 31, 1999. This increase was the
result of approximately $1,171,000 of interest expense and the
amortization of note discounts related to certain loans that the
Company entered into during 2000 offset by an increase in
interest income of approximately $196,000. The Company did not
have significant borrowings during 1999.

Provision for Income Taxes.The provision for income
taxes for the year ended December 31, 2000 was $37,468, a
decrease of $41,066 compared to the income tax benefit of $3,598
for the year ended December 31, 1999. These amounts relate
to the operations of the Companys foreign subsidiaries.
The Companys U.S. operations had a net loss during these
periods and, therefore, no provision for U.S. income taxes was
made.

Dividend on Convertible Preferred Stock, Deemed Dividend
Accretion on Convertible Preferred Stock.The Company
accrued dividends at 5% per year on the outstanding principal
amount of its preferred stock. For the year ended
December 31, 2000, the provision for dividends was $10,438,
a decrease of $301,276 or 97%, from the $311,714 in 1999. The
accretion of the beneficial conversion feature of the
Companys preferred stock recognized during 2000 was $0, a
decrease of 100% from the $1,507,376 in 1999. These decreases
were the result of the full conversion of all of the
Companys outstanding preferred stock into common stock
during 2000.

Net Loss Applicable to Holders of Common Stock.As a
result of the factors described above, the net loss applicable
to holders of common stock for the year ended December 31,
2000 was $24,195,660, an increase of $5,679,157 or 31%, compared
to $18,516,503 for the year ended December 31, 1999.

Other Operating Activities

For the year ended December 31, 2001, the Companys
operating activities used cash of $28,304,475, primarily as a
result of its net loss of $32,199,579, and its investing
activities used cash of $3,264,243. These activities were funded
through the Companys financing activities which provided
cash of $26,243,674, principally through the issuance of common
stock. As a result, the Companys cash balance decreased to
$3,172,609 at December 31, 2001 from $8,848,715 at
December 31, 2000.

For the year ended December 31, 2000, the Companys
operating activities used cash of $23,425,539 as a result of its
net loss of $24,185,222 and the use of cash for working capital
of $4,671,748, amounts which were offset by non-cash expenses of
$5,431,431. The Companys investing activities used cash of
$1,705,806. These operating and investing activities were funded
through the Companys financing activities which provided
cash of $32,042,341, principally through the issuance of common
stock. As a result, the Companys cash balance increased
from $2,126,000 at December 31, 1999 to $8,848,715 at
December 31, 2000.

For the year ended December 31, 1999, the Companys
operating activities used cash of $15,728,468, primarily as a
result of its net loss of $16,697,413 and the use of cash for
working capital, primarily purchases of MA IV inventory, of
$4,005,468, and its investing activities used cash of
$1,762,177, primarily as a result of the establishment of
international operations. These activities were funded through
the Companys financing activities which provided cash of
$18,474,417, principally through the issuance of preferred and
common stock. As a result, the Companys cash balance
increased from $1,052,649 at December 31, 1998 to
$2,126,000 at December 31, 1999.

For hardware product sales, the Company generally provides a
one-year warranty on its parts and a six-month warranty on
labor. However, the Companys suppliers for the significant
components of the MA series, including the computing unit, flat
panel and head mounted displays, and batteries, provide the
Company with similar warranties. A provision for estimated
future warranty costs is recorded at the time of shipment as a
component of cost of sales. The provision is an estimate of
internal costs to be incurred for such sales above and beyond
the warranty offered to the Company by its suppliers. The trend
in the computer hardware industry is to provide extended
warranties for up to two years beyond the one-year base
warranty. The Company is negotiating with its suppliers to offer
similar warranties to the Company to back up the extended
warranties offered to the Companys customers. In the event
that the Company is not able to obtain such

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The Companys consolidated financial statements contain a
provision for income tax expense related to its operations
outside the United States. Subject to realization, the Company
has generated net operating losses in the U.S. that can be used
to offset taxable operating income in the future. The
Companys future operations, if profitable, will be subject
to income tax expense not previously incurred by the Company
(see Note 10 to the Consolidated Financial Statements). At
December 31, 2001, the Company had approximately
$94,000,000 and $3,800,000 of net operating loss carry forwards
for U.S. federal and foreign income tax purposes, respectively.
The U.S. losses will begin to expire in 2010 and the losses from
foreign operations do not expire. The use of the U.S.
carryforwards may be limited in any one year under Internal
Revenue Code Section 382 if significant ownership changes
occur.

The Company is involved in routine legal and administrative
proceedings and claims of various types. While any such
proceeding or claim contains an element of uncertainty,
management does not expect that they will have a material
adverse effect on the Companys results of operations or
financial position.

Transactions With Related and Certain Other Parties

The Company uses a member of its Board of Directors as its
patent counsel. The Company had expenditures of $421,333,
$174,468 and $239,598 during 2001, 2000 and 1999, respectively,
in legal services payable to this Director. These amounts
represent gross payments made by the Company and the counsel is
responsible for all overhead, professional, administrative and
other expenditures incurred by his law firm. The law firm bills
the Company in accordance with its established standard billing
rates used in the past with its other clients. During 2001, the
Company represented the law firms only significant client.
The Director also serves as the Companys processing agent
for payments made to various other domestic and international
law firms and agencies used to file and maintain patents and
trademarks. The director is paid only the amount that is passed
through to these other law firms and agencies and pays
administrative services related to these services. The Company
made payments of $485,827, $266,026 and $224,377 during 2001,
2000 and 1999, respectively, to this Directors law firm
related to services rendered by the Directors law firm as
the Companys processing agent for all foreign patent and
trademark filing and prosecution expenses. The Companys
management believes that the relationship with this law firm is
based on arms-length terms and conditions.

The Company uses a law firm, in which an officer and member of
its Board of Directors is a partner, for services related to
financings, litigation, SEC filings and other general legal
matters. The Company had expenditures of $392,524, $446,320 and
$663,075 during 2001, 2000 and 1999, respectively, in legal
services payable to this law firm. The law firm bills the
Company in accordance with the established billing rates used
with its other clients. As a result, the Companys
management believes that the relationship with this law firm is
based on arms-length terms and conditions.

In 1999, the Company used a law firm, in which a former member
of its Board of Directors was a partner, for services related to
litigation and other general legal matters. The Company had
expenditures of $218,687 during 1999 in legal services payable
to this law firm. The law firm billed the Company in accordance
with the established billing rates used with its other clients.
As a result, the Companys management believes that the
relationship with this law firm was based on arms-length terms
and conditions.

Two of the Companys executive officers were members of the
board of directors of a former customer that purchased software
products and consulting services from the Company. During 2001,
this customer was forced to cease operations when its largest
customer withheld payment for ongoing services. During 2001 and
2000, the Company recorded revenues on sales to this customer of
$29,603 and $573,955, respectively. As of December 31,
2000, the Company had a $259,566 accounts receivable balance
remaining from this customer. During 2001, the Company collected
$259,333 from this customer and wrote off the remaining $29,836
balance. The Company billed this customer using the established
billing rates used with its other customers. Additionally, the
Company believes that the final payment received by the Company
was commensurate with

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During 2000 and 1999, Xybernaut GmbH used a company to provide
configuration and technical support services and a separate
company to act as a distributor of the Companys hardware
products. The executive officers of these two companies are the
son and daughter-in-law of one of the Companys Senior Vice
Presidents and member of its Board of Directors. During 2001,
2000 and 1999, the Company incurred expenses related to the
technical support services totaling $0, $180,456 and $294,315,
respectively. During 2001, 2000 and 1999, the Company recognized
revenue related to distribution sales of its hardware products
totaling $0, $313,843 and $14,500, respectively. During 2000,
the Company terminated its relationship with these two companies
and established a reserve of $108,856 against the accounts
receivable balance owed by one of the companies. This balance
was written off in 2001. The company providing configuration and
technical support services billed the Company using the
established billing rates used with its other clients.
Additionally, management periodically compared these billings
against charges it would incur if these services were provided
by a different provider. The agreement with the distributor was
reached with similar terms and conditions provided to other
resellers of the Companys products. As a result, the
Companys management believes that the relationship with
these companies were based on arms-length terms and conditions.

Periodically, the Company has borrowed from, or made loans to,
certain of its executive officers. During 1998, XSI loaned
$64,254 to various officers to fund the purchase of XSI common
stock. The notes accrued interest at 8.0% annually and required
quarterly payments of interest. The outstanding principal and
interest were repaid in full prior to the merger of Xybernaut
and XSI in April 2000. On various dates during 1999, the Company
borrowed $583,000 from several officers of the Company for
general working capital purposes pursuant to non-interest
bearing promissory notes or agreements. All of these borrowings
had been repaid at December 31, 1999 except for $10,000,
which was repaid in February 2000.

Between November 2000 and February 2001, the Company loaned a
net balance of $940,188 to the Companys President, Chief
Executive Officer and Chairman of the Board of Directors. The
proceeds were used to prevent a forced sale of a portion of this
officers personal common stock holdings of the Company
that secured a margin loan from an investment bank. The loan was
made pursuant to a Promissory Note that is secured by shares of
the officers personal common stock holdings of the Company
and accrued interest at 8.0% per year. On December 31,
2001, the Companys Board of Directors increased the number
of shares securing the loan from 200,000 shares to 250,000
shares, extended the maturity date from December 31, 2001
to December 31, 2002 and reduced the interest rate to 6.0%,
reflective of a general decline in interest rates over this
period. The outstanding principal and interest owed to the
Company under this Promissory Note totaled $1,026,708 and
$997,981 at December 31, 2001 and 2000, respectively.

The Company contracted with IBM to design, develop and
manufacture certain components of the MA V product line,
including the computer portion and flat panel displays (the
Engineering and Inventory Agreement). The Company
has also entered into an agreement with IBM in which IBM
purchases MA V products from the Company and markets and sells
the systems to its own customers (the Sales and Marketing
Agreement). During 2001 and 2000, the Company paid
$4,148,523 and $2,406,020, respectively, to IBM related to
design and development services and inventory purchases. During
2001, the Company recorded revenues of $532,675 related to sales
of MA V products to IBM. Before selecting IBM as its partner for
the Engineering and Inventory Agreement, the Company reviewed
IBMs proposal to provide such services, which included
discussion of the estimated costs to be incurred, IBMs
track-record of bringing new technologies to market, IBMs
reputation for quality and other customary evaluations. The
Sales and Marketing Agreement was reached with similar terms and
conditions provided to other volume resellers of the
Companys products. As a result, the Companys
management believes that the Engineering and Inventory Agreement
and the Sales and Marketing Agreement contain arms-length terms
and conditions.

Certain of the end-users of the Companys wearable computer
products are universities and other not-for-profit entities
(collectively, the End-Users) that purchase these
products from a Value Added Reseller (the VAR) of
Xybernaut GmbH. The Company also contracts with certain of the
End-Users to provide research and development and sales and
marketing services to the Company. The research and development
services

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Liquidity and Capital Resources

From its inception until the completion of the IPO, the Company
financed its operations through the private sale of its equity
securities, vendor credit, and short-term loans received from
management, stockholders and others. During and subsequent to
the IPO, the Company has financed its operations from public and
private sales of its common and preferred stock, borrowings from
financial institutions, management and investors, proceeds from
the exercise of warrants and stock options, and sales of its
products and services. The Companys detailed financing and
borrowing activities for 2001, and summary activities for 2000
and 1999, are provided below.

Common Stock

During 1999, the Company issued 2,008,229 shares of its common
stock through four separate private placements for net cash
proceeds of $4,741,560 and for use as consideration for the
repayment of $1,250,000 in notes payable. The Company also
issued warrants to purchase 200,000 shares of its common stock
for between $5.50 and $6.00 per share related to these private
placements.

During 2000, the Company received net cash proceeds of
$22,992,004 through the issuance of 7,773,359 shares of its
common stock through four separate private placements. The
Company also issued warrants to purchase 3,312,437 shares of its
common stock for between $4.33 and $10.00 per share related to
these private placements.

During April and May 2001, the Company received net proceeds of
$10,192,469 through the private placement of 5,238,094 shares of
its common stock to several investors. In connection with this
private placement, the Company issued warrants to purchase
1,616,427 shares of its common stock at an exercise price of
$5.00 per share and paid $350,000 in finders fees.

On July 31, 2001, the Company received gross proceeds of
$4,000,000 through a private placement of 1,324,503 shares of
its common stock. In connection with this private placement, the
Company issued callable warrants to purchase 331,126 shares of
its common stock at an exercise price of $4.53 per share. The
Company also paid $120,000 in cash and issued callable warrants
to purchase 39,735 shares of common stock with the same terms to
a financial advisor.

On November 15, 2001, the Company received gross proceeds
of $9,250,000 through the private placement of 5,441,175 shares
of its common stock. In connection with this private placement,
the Company issued callable warrants to purchase 1,360,294
shares of its common stock at an exercise price of $2.55 per
share. The Company also paid $266,131 in cash and issued
callable warrants to purchase 61,765 shares of common stock with
the same terms to a financial advisor and a finder.

The Company has issued equity securities to certain employees,
consultants and companies for services provided to the Company.
These securities include shares of common stock and warrants and
options to purchase shares of common stock. These transactions
were individually valued based upon the fair value of the

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Employees and consultants of the Company have exercised stock
options that had been issued pursuant to the Companys
various stock incentive plans. During 2001, 2000 and 1999, the
Company issued 57,097, 662,724 and 1,854 shares, respectively,
of its common stock and received gross proceeds of $135,659,
$1,547,011 and $5,400, respectively, related to these exercises.

The Company issues warrants to purchase shares of its common
stock, primarily in connection with the Companys
financings and borrowings. The Company received gross proceeds
of $3,773,405, $8,274,975 and $1,838,513 through the issuance of
1,881,470, 2,077,700 and 1,545,000 shares of its common stock
during 2001, 2000 and 1999, respectively, through the exercise
of certain of these warrants. At December 31, 2001, the
Company had warrants outstanding to purchase 5,542,814 shares of
its common stock at prices that range from $2.25 to $18.00 per
share, with a weighted average of $4.06 per share.

As a condition to the Companys IPO, certain stockholders
were required to escrow 1,800,000 shares of their personal
common stock holdings in the Company (the Escrowed
Shares). The Escrowed Shares were to be returned to the
stockholders over a three-year period in the event the
Companys revenues and earnings per share for the 12-month
periods ending September 30, 1997, 1998 and 1999 exceeded
certain targets or if the Companys stock price exceeded a
certain per share target price. The Company did not meet the
targets for escrow release. As a result, on September 30,
1997, 1998 and 1999, 300,000, 750,000 and 750,000 shares,
respectively, were released from escrow and canceled by the
Company, resulting in a reduction of the Companys
outstanding shares of common stock on these dates of 2.1%, 3.6%
and 3.1%, respectively. These shares were not included in the
loss per share calculations, so the cancellation of these shares
did not affect the reported losses per share.

Preferred Stock

From 1997 through 1999, the Company issued certain series of
convertible preferred stock. The preferred stock issuances
generally accrued interest at 5.0% per year. At
December 31, 2000, all shares of the Companys
convertible preferred stock had been converted into shares of
its common stock and no preferred stock has been issued since
that time.

During 1998, the Company issued 375 shares of Series C
Preferred Stock for gross proceeds of $375,000. As of
December 31, 1999, all of the Series C Preferred Stock
principal and interest had been converted into 165,230 shares of
common stock. During 1999, the Company issued 10,500 shares of
Series D Preferred Stock for gross proceeds of $10,000,000.
As of December 31, 2000, all of the Series D Preferred
Stock principal and interest had been converted into 8,204,596
shares of common stock. During 1999, the Company issued 2,100
shares of Series E Preferred Stock for gross proceeds of
$2,000,000. As of December 31, 2000, all of the Series E
Preferred Stock principal and interest had been converted into
1,655,714 shares of common stock.

Borrowings

In January 2000, the Company borrowed $3,025,000 from several
lenders pursuant to promissory notes that required the Company
to repay the borrowings by January 2001 unless repaid earlier
upon a public or private placement of common stock in excess of
$10,000,000. Interest on the notes accrued at 10% per annum. In
connection with these borrowings, the Company issued warrants to
purchase 302,500 shares of unregistered common stock at $0.10
per share. Based on the relative fair values of the securities
issued, these warrants were assigned a value of $921,452, which
was recorded as a note discount that was amortized into interest
expense over the lives of the notes. In November and December
2000, the principal and unpaid interest were repaid upon
completion by the Company of a private placement of common
stock. Upon repayment, the remaining note discount balances were
amortized as interest expense.

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In June 2000, XSI entered into three capital leases for computer
equipment totaling $27,190. The leases have interest rates
between 14.0% to 19.5% and mature in three years. At
December 31, 2001, the capital lease obligation was
$17,717. During 2001 and 2000, the Company incurred interest
expense of $835 and $1,057, respectively, related to these
capital leases.

In July 2000, the Company entered into a six-month $1,400,000
term loan with IBM Global Finance (the 2000 IBM
Facility), the terms of which were similar to a facility
the Company entered into with IBM during 1999. The borrowing was
secured by certain of the Companys equipment, inventory
and accounts receivable balances. The borrowing accrued interest
at the prime rate plus 1.5% and was repaid in three equal
installments in September and November 2000 and January 2001.
During 2001 and 2000, the Company incurred interest expense of
$2,377 and $48,431, respectively, related to the 2000 IBM
Facility.

In December 2001, the Company entered into a new revolving
credit facility with IBM Global Finance (the 2001 IBM
Revolver). The 2001 IBM Revolver provides for up to
$3,000,000 in borrowings based on the Companys base of
eligible U.S. receivables and inventory. Interest on the
facility accrues at the prime rate plus 2.0% per annum. The
borrowing is secured by the Companys U.S. assets,
excluding patents and intellectual property. The 2001 IBM
Revolver includes customary financial covenants and other
restrictions, including the requirement that the Company obtain
a $1,000,000 irrevocable letter of credit (the Letter of
Credit) to secure this facility. The Company believes that
it will have to post cash collateral in an equal amount to
obtain the Letter of Credit. At December 31, 2001, the
Company had not made any borrowings under the 2001 IBM Revolver.
Subject to the satisfaction of the various requirements of the
facility, the Company expects to draw down on the 2001 IBM
Revolver during 2002.

Commitments

Inventory.At December 31, 2001, the Company had
commitments to purchase inventory, tooling and engineering and
other services from its suppliers and manufacturers related to
its current hardware product lines. The Company is currently
obligated to purchase certain components of the MA V system from
IBM, including approximately 24,000 computing units (the
MA V CPUs). The MA V CPUs are scheduled for purchase
over an 15 month period following final acceptance by the
Company, which acceptance is determined by a number of criteria,
including receipt of comprehensive product documentation and
other defined deliverables. All criteria for acceptance had not
been met at the time of this filing, but the Company expects
that all criteria will likely be met in the first half of 2002.
Subsequent to acceptance, the Company may cancel its purchase
commitment by paying a cancellation fee in an amount not to
exceed approximately $4,000,000 and that decreases in proportion
to the number of MA V CPUs purchased over the contract period.
The Company is currently in discussions with IBM to defer a
portion of these commitments to future generations of the MA
series and other services, which would extend the timing
required for the Company to meet these commitments. However,
there can be no assurance that the Company will be successful in
renegotiating this commitment. In addition to the obligation
related to the MA V CPUs, the Company has commitments to
purchase computing units, flat panel and head mounted displays,
miscellaneous computing components as well as engineering and
other services from its various vendors related to the MA V,
poma, MA TC and future product lines. The Company
believes that the timing and amount of many of these shipments,
services and payments may be adjusted through the payment of
cancellation fees, contract negotiations or the satisfaction of
obligations through the issuance of the Companys equity
securities. However, there can be no assurance that the Company
can successfully modify these contracts or commitments.

Excluding the potential impact of contract modifications, the
Company estimates that it will make total payments of
$10,000,000 during 2002 related to inventory commitments for the
current product lines under which the Company was obligated as
of December 31, 2001. The Company estimates that it will
make additional payments totaling $7,000,000 during 2002 and
$26,000,000 during 2003 related to inventory commitments for the
current product lines under which the Company anticipates it
will obligate itself in order to execute its business plan for
2002 and otherwise complete its current commitments. Included in
the 2003 amount is the final purchase of the MA V CPUs. The
Company expects that it will enter into similar inventory and
engineering commitments in the future as it designs, develops
and procures future wearable computer product lines.

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Operating Leases and Other.The Company leases operating
facilities and equipment under operating leases expiring on
various dates through 2006. Future minimum payments under
noncancelable operating leases at December 31, 2001 are:

|                         |  |   |           | 
|------------------------ |  | - | --------- | 
|Year Ending December 31, |  |  
|                         |  |  
|2002                     |  | $ | 786,249   | 
|                        
|                        
|                        
|                        
|2003                     |  |   | 604,944   | 
|                        
|                        
|                        
|                        
|2004                     |  |   | 172,449   | 
|                        
|                        
|                        
|                        
|2005                     |  |   | 155,852   | 
|                        
|                        
|                        
|                        
|2006                     |  |   | 160,528   | 
|                         |  |   |           | 
|                         |  | $ | 1,871,216 | 
|                         |  |   |           | 

On January 1, 2002, the Company entered into an agreement
with a vendor to provide it with marketing services and certain
retail space at the Waldorf Astoria Hotel in New York City. The
agreement has an initial term of two years and will be extended
for an additional three year term unless either company chooses
to not extend the agreement. During the initial two year term,
the Company is required to pay $1,000,000 and issue 400,000
shares of the Companys common stock.

Other Liquidity and Capital Resources Disclosures

At December 31, 2001, the Company had accounts receivable,
net of allowances, of $3,283,828, a decrease of $186,772, or 5%,
from the December 31, 2000 balance of $3,470,600. This
fluctuation was roughly in line with the 3% increase in total
revenues from 2000 to 2001 and was not caused by qualitative
factors related to the Companys business such as changes
in credit terms, slower paying customers or the impact of a
change in economic environment.

At December 31, 2000, the Company had deferred $309,780 in
revenue associated with shipments of its hardware products
pursuant to sales contracts which included provisions for future
upgrades of its products. The Company recognized this deferred
revenue during 2001 as the upgraded products were shipped to the
customers. The remaining deferred revenue balances at
December 31, 2000 and 2001 result primarily from billings
to customers that were in excess of revenue recognized on
service contracts. Such deferred revenue will be recognized as
revenue as the revenue recognition criteria are met.

The Company has incurred operating losses to date and expects
such losses to continue in the near term as it expands its
product development and marketing efforts. At December 31,
2001, the Company had an accumulated deficit of approximately
$104,400,000. The achievement of profitability is primarily
dependent upon the continued development and commercial
acceptance of the Companys products, the successful
management of the business, the ability to profitably sell the
Companys wearable computer products, and managements
ability to reduce or minimize operating expenses relative to the
growth in revenues and strategically focus the Company. There
can be no assurance as to whether or when profitable operations
will occur. In addition, the Company is experiencing negative
cash flow from operations and it is expected that it will
continue to experience negative cash flows through 2002 and
potentially thereafter.

The Company anticipates that its working capital requirements
and operating expenses, without the restructuring and cost
reduction program discussed below, will increase as the Company
expands production of its current wearable computer product
lines, develops new models, further expands its sales, service
and marketing functions, and develops the support structure for
these activities. The timing of increases in personnel and other
expenses, the amount of working capital consumed by operations,
inventory procurement, marketing and rollout expenses for the
Mobile Assistant series and other products, and competitive
pressures on gross margins will impact the magnitude and timing
of the Companys cash requirements.

During March 2002, the Companys executive management
performed a detailed review of operations and made
recommendations to the President of the Company to significantly
restructure the Company and reduce the Companys operating
expenses. The president retains the sole authority to act on
these

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Even after the above cost cutting initiatives are implemented,
the Company will still be required to obtain outside financing
to supplement the Companys cash position. Management is
currently exploring financing alternatives to supplement the
Companys cash position. Potential sources of additional
financing include private equity offerings, strategic
investments, strategic partnerships and various forms of debt
financing. If additional funds are raised through the issuance
of equity securities, the percentage of ownership of current
stockholders of the Company will be reduced. If additional funds
are raised through borrowings, the Company will be subject to
additional interest charges and principal repayments and will
most likely be required to comply with financial covenants or
other restrictions.

In March 2002, the Company raised $9,000,000 in cash through
sales of its common stock to institutional investors. The equity
markets, especially for small capitalization technology stocks,
have remained depressed, and the U.S. and world economies have
generally been in a decline or recession. If a sustained decline
in the general equity markets, the price of the Companys
common stock, or the U.S. or world economy were to occur, the
Company could face difficulties in its ability to raise
additional capital. Additionally, the Company has historically
made several private placements of its common stock per year,
primarily to institutional investors who specialize in making
similar types of investments. If these institutional investors
were to choose to not participate in future private placements,
the Company could face difficulties in its ability to raise
additional capital. A decline in the Companys stock price
to below $1 per share could also have a significant negative
impact on the Companys ability to raise capital through
equity financings and also negatively impact the Companys
NASDAQ National listing for its common stock.

The Companys management believes that the combination of
cash on hand, cash flows from operations, and outside funding
will provide sufficient liquidity to meet the Companys
ongoing cash requirements, based both on its historical ability
to raise capital and on debt and equity financings currently
available to the Company. However, there can be no assurance
that the Company can or will obtain sufficient funds from
operations or from closing additional financings on terms
acceptable to the Company.

If the Company is unable to obtain sufficient additional
financing, it will be required to reduce discretionary spending
in order to maintain its operations at a reduced level.
Management believes that it will be able to reduce discretionary
spending if required. However, such reduction would negatively
impact progress on implementing the Companys business
plan, and would require substantial reductions in the purchase
commitments previously disclosed herein.

Item 7A.  Quantitative and Qualitative
Disclosures About Market Risk

The Company is exposed to market risk related to changes in
foreign currency exchange rates and changes in interest rates.
The Company does not hold investments or use derivative
financial instruments for speculative or trading purposes. All
of the potential changes noted below are based on sensitivity
analyses performed on the Companys financial position at
December 31, 2001. Actual results may differ materially.

Foreign Currency Exchange Risk

The majority of the Companys revenue, expense, and capital
purchasing activities are transacted in U.S. dollars. However,
as a result of the Companys international manufacturing,
research and development, sales and marketing, inventory
procurement, and other activities, the Company enters into
transactions denominated in other currencies, primarily the
Japanese Yen and the European Euro or in which the U.S. Dollar
equivalent is determined by the values of such currencies. Prior
to the adoption of the Euro, the Company also regularly entered
into transactions denominated in the German Deutsche Mark. As of
January 1, 2001, Xybernaut GmbH converted its functional
currency from the German Deutsche Mark to the European Euro. The
effects of this conversion was an increase of $151,123 on
beginning accumulated deficit, which is included in the foreign
currency translation balance. Historically, the Company has not
realized significant gains or

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Interest Rate Sensitivity

As discussed in the Liquidity and Capital Resources
section, the Company has historically entered into debt
financings, has established a borrowing facility based on
inventory and accounts receivable balances and is currently
exploring various new financing alternatives, including debt
financing. If additional funds are raised through borrowings,
the Company will be subject to additional interest charges and
is most likely to be required to comply with financial covenants
or other restrictions. Interest rate increases may materially
increase the Companys interest expense, hinder the
Companys ability to borrow additional funds or have a
negative effect on the ability of the Companys customers
to purchase its products. Required financial covenants may also
hinder the Companys ability to expand or change its
business operations. To date, the Company has not entered into
interest rate forward or option contracts to hedge its exposure
to future movements in interest rates because the Companys
management believes that the potential impact of these movements
does not justify the costs of entering into such contracts or
the use of capital to collateralize these contracts. As the
Companys exposure to interest rate fluctuations becomes
more significant, it may enter into interest rate forward and
option contracts to hedge against such fluctuations. According
to published sources, the average prime interest rate during
2001, 2000 and 1999 was 7.1%, 9.2% and 8.0%, respectively, or a
prime interest rate fluctuation at December 31 compared to
the rate at the beginning of the fiscal year in 2001, 2000 and
1999 of -4.5%, 1.0% and 0.8%, respectively. Management believes
that these fluctuations did not have a material impact on the
Companys results of operations or financial position for
2001, 2000 and 1999.

Euro Conversion

On January 1, 1999, certain member countries of the
European Union established fixed conversion rates between their
existing currencies and the Euro. The transition period for the
introduction of the Euro ends June 30, 2002. As of
January 1, 2001, Xybernaut GmbH converted its functional
currency from the German Deutsche Mark to the European Euro. The
effects of this conversion on beginning accumulated deficit was
an increase of $151,123, which is included in the foreign
currency translation balance. Issues that were addressed by the
Company as a result of the introduction of the Euro include the
conversion of information technology systems, reassessment of
foreign currency exchange risk, negotiation and amendment of
existing agreements and contracts, and processing of tax and
accounting records. At December 31, 2001, the Company did
not experience significant issues with the Euro conversion and
the conversion did not have a material impact on the
Companys results of operations or financial position.

31



---



##### 



ITEM 8.     Financial
Statements and Supplementary Data

Index to Financial Statements

|                                                                                                 |  |     
|------------------------------------------------------------------------------------------------ |  | ----
|                                                                                                
|                                                                                                
|                                                                                                
|                                                                                                
|Report of Independent Accountants                                                                |  | F-1 
|                                                                                                
|                                                                                                
|                                                                                                
|                                                                                                
|Consolidated Balance Sheets 
	December 31, 2001 and 2000                                        |  | F-2 
|                                                                                                
|                                                                                                
|                                                                                                
|                                                                                                
|Consolidated Statements of Operations 
	Years ended December 31, 2001, 2000 and 1999            |  | F-3 
|                                                                                                
|                                                                                                
|                                                                                                
|                                                                                                
|Consolidated Statements of Stockholders
	Equity  Years ended December 31, 2001, 2000 and
	1999 |  | F-4 
|                                                                                                
|                                                                                                
|                                                                                                
|                                                                                                
|Consolidated Statements of Cash Flows 
	Years ended December 31, 2001, 2000 and 1999            |  | F-5 
|                                                                                                
|                                                                                                
|                                                                                                
|                                                                                                
|Notes to Consolidated Financial Statements                                                       |  | F-6 
|                                                                                                
|                                                                                                
|                                                                                                
|                                                                                                
|Supplemental Financial Information                                                               |  | F-25

32



---



##### 



REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and



We have audited the accompanying consolidated balance sheets of
Xybernaut Corporation (a Delaware corporation) as of
December 31, 2001 and 2000, and the related consolidated
statements of operations, stockholders equity, and cash
flows for the three years then ended. These financial statements
are the responsibility of the Companys management. Our
responsibility is to express an opinion on these financial
statements based on our audits.

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

In our opinion, the financial statements referred to above
present fairly, in all material respects, the financial position
of Xybernaut Corporation as of December 31, 2001 and 2000,
and the results of its operations and its cash flows for the
three years then ended in conformity with accounting principles
generally accepted in the United States of America.

/s/ Grant Thornton, LLP

Vienna, VA





F-1



---



##### 



XYBERNAUT CORPORATION

CONSOLIDATED BALANCE SHEETS

|                                      |                                                                                                                         |                                            |           |              |            |  |         |             |            | 
|------------------------------------- | ----------------------------------------------------------------------------------------------------------------------- | ------------------------------------------ | --------- | ------------ | ---------- |  | ------- | ----------- | ---------- | 
|                                      |                                                                                                                         |                                           
|                                      |                                                                                                                         | December 31,                              
|                                      |                                                                                                                         |                                           
|                                      |                                                                                                                         | 2001                                       |           | 2000        
|                                      |                                                                                                                         |                                            |           |             
|                                     
|                                     
|                                     
|                                     
|ASSETS                               
|                                     
|                                     
|                                     
|                                     
|Current assets:                       |                                                                                                                         |                                            |           |              |            |  |         |            
|                                     
|                                     
|                                     
|                                     
|                                      | Cash and cash equivalents                                                                                               |                                            | $         | 3,172,609    |            |  | $       | 8,848,715   |           
|                                     
|                                     
|                                     
|                                     
|                                      | Restricted cash                                                                                                         |                                            |           | 500,000      |            |  |         | 424,917     |           
|                                     
|                                     
|                                     
|                                     
|                                      | Accounts receivable, net of allowances of $90,297
	and $129,355                                                         |                                            |           | 3,283,828    |            |  |         | 3,470,600   |           
|                                     
|                                     
|                                     
|                                     
|                                      | Inventory, net of reserves of $141,280 and
	$1,370,000                                                                  |                                            |           | 4,621,019    |            |  |         | 3,207,939   |           
|                                     
|                                     
|                                     
|                                     
|                                      | Notes receivable from officers, net                                                                                     |                                            |           | 1,053,794    |            |  |         | 998,581     |           
|                                     
|                                     
|                                     
|                                     
|                                      | Prepaid and other current assets                                                                                        |                                            |           | 915,512      |            |  |         | 877,045     |           
|                                      |                                                                                                                         |                                            |           |              |            |  |         |            
|                                      |                                                                                                                         | Total current assets                       |           |              | 13,546,762 |  |         |             | 17,827,797 | 
|                                      |                                                                                                                         |                                            |           |              |            |  |         |            
|Property and equipment, net           |                                                                                                                         |                                            | 1,083,411 |              |            |  | 841,875 |            
|                                      |                                                                                                                         |                                            |           |              |            |  |         |            
|Other assets:                         |                                                                                                                         |                                            |           |              |            |  |         |            
|                                     
|                                     
|                                     
|                                     
|                                      | Patent costs, net of accumulated amortization of
	$1,115,910 and $777,431                                               |                                            |           | 1,235,017    |            |  |         | 790,014     |           
|                                     
|                                     
|                                     
|                                     
|                                      | Tooling costs, net of accumulated amortization of
	$97,996 and $735,985, and reserves of $0 and $250,000,
	respectively |                                            |           | 1,108,869    |            |  |         | 197,578     |           
|                                     
|                                     
|                                     
|                                     
|                                      | Other                                                                                                                   |                                            |           | 716,967      |            |  |         | 585,418     |           
|                                      |                                                                                                                         |                                            |           |              |            |  |         |            
|                                      |                                                                                                                         | Total other assets                         |           |              | 3,060,853  |  |         |             | 1,573,010  | 
|                                      |                                                                                                                         |                                            |           |              |            |  |         |            
|                                      |                                                                                                                         | Total assets                               |           | $            | 17,691,026 |  |         | $           | 20,242,682 | 
|                                      |                                                                                                                         |                                            |           |              |            |  |         |            
|                                     
|                                     
|                                     
|                                     
|LIABILITIES AND STOCKHOLDERS
	EQUITY
|                                     
|                                     
|                                     
|                                     
|Current liabilities:                  |                                                                                                                         |                                            |           |              |            |  |         |            
|                                     
|                                     
|                                     
|                                     
|                                      | Accounts payable                                                                                                        |                                            | $         | 4,303,078    |            |  | $       | 1,900,924   |           
|                                     
|                                     
|                                     
|                                     
|                                      | Accrued expenses and other                                                                                              |                                            |           | 2,943,843    |            |  |         | 2,054,359   |           
|                                     
|                                     
|                                     
|                                     
|                                      | Deferred revenue                                                                                                        |                                            |           | 40,288       |            |  |         | 468,534     |           
|                                     
|                                     
|                                     
|                                     
|                                      | Notes and loans payable                                                                                                 |                                            |           | 17,717       |            |  |         | 492,263     |           
|                                      |                                                                                                                         |                                            |           |              |            |  |         |            
|                                      |                                                                                                                         | Total current liabilities                  |           | $            | 7,304,926  |  |         | $           | 4,916,080  | 
|                                      |                                                                                                                         |                                            |           |              |            |  |         |            
|Commitments and contingencies         |                                                                                                                         |                                            |           |              |            |  |         |            
|                                     
|                                     
|                                     
|                                     
|Stockholders equity:                 |                                                                                                                         |                                            |           |              |            |  |         |            
|                                     
|                                     
|                                     
|                                     
|                                      | Common stock, $0.01 par value, 80,000,000 shares
	authorized, 59,528,113 and 45,395,818 shares issued and
	outstanding  |                                            | $         | 595,281      |            |  | $       | 453,958     |           
|                                     
|                                     
|                                     
|                                     
|                                      | Additional paid-in capital                                                                                              |                                            |           | 114,523,028  |            |  |         | 87,301,374  |           
|                                     
|                                     
|                                     
|                                     
|                                      | Foreign currency translation                                                                                            |                                            |           | (289,883     | )          |  |         | (185,983    | )         
|                                     
|                                     
|                                     
|                                     
|                                      | Accumulated deficit                                                                                                     |                                            |           | (104,442,326 | )          |  |         | (72,242,747 | )         
|                                      |                                                                                                                         |                                            |           |              |            |  |         |            
|                                      |                                                                                                                         | Total stockholders equity                 |           | $            | 10,386,100 |  |         | $           | 15,326,602 | 
|                                      |                                                                                                                         |                                            |           |              |            |  |         |            
|                                      |                                                                                                                         | Total liabilities and stockholders equity |           | $            | 17,691,026 |  |         | $           | 20,242,682 | 
|                                      |                                                                                                                         |                                            |           |              |            |  |         |            

The accompanying notes are an integral part of these



F-2



---



##### 



XYBERNAUT CORPORATION

CONSOLIDATED STATEMENTS OF
OPERATIONS

|                                                                          |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |             |           |             |  
|------------------------------------------------------------------------- | ------------------------------------------------------------------------------------ | ----------------------- | ------------------------ | ----------- | --------- | ----------- | -------- | ----------- | --------- | ----------- | --------- | ----------- | --------- | ----------- | -
|                                                                          |                                                                                      |                        
|                                                                          |                                                                                      | Year Ended December 31,
|                                                                          |                                                                                      |                        
|                                                                          |                                                                                      | 2001                    |                          | 2000        |           | 1999       
|                                                                          |                                                                                      |                         |                          |             |           |            
|Revenue:                                                                  |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|                                                                          |                                                                                      | Hardware                |                          | $           | 5,227,502 |             |          | $           | 4,886,565 |             |           | $           | 3,301,899 |            
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|                                                                          |                                                                                      | Software                |                          |             | 678,900   |             |          |             | 1,215,010 |             |           |             | 1,191,459 |            
|                                                                          |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            
|                                                                          | Total product                                                                        |                         |                          | 5,906,402   |           |             |          | 6,101,575   |           |             |           | 4,493,358   |          
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|                                                                          | Consulting, licensing and other                                                      |                         |                          | 3,913,591   |           |             |          | 3,403,316   |           |             |           | 3,859,416   |          
|                                                                          |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            
|                                                                          |                                                                                      |                         | Total revenue            |             |           | 9,819,993   |          |             |           | 9,504,891   |           |             |           | 8,352,774   |  
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|Cost of sales:                                                            |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|                                                                          |                                                                                      | Hardware                |                          |             | 3,916,922 |             |          |             | 4,164,892 |             |           |             | 2,734,456 |            
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|                                                                          |                                                                                      | Software                |                          |             | 397,094   |             |          |             | 825,456   |             |           |             | 631,007   |            
|                                                                          |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            
|                                                                          | Total product                                                                        |                         |                          | 4,314,016   |           |             |          | 4,990,348   |           |             |           | 3,365,463   |          
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|                                                                          | Consulting, licensing and other                                                      |                         |                          | 2,587,134   |           |             |          | 2,088,716   |           |             |           | 2,632,158   |          
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|                                                                          | Provision for inventory and tooling                                                  |                         |                          | 1,829,234   |           |             |          | 1,500,000   |           |             |           | 120,000     |          
|                                                                          |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            
|                                                                          |                                                                                      |                         | Gross income             |             |           | 1,089,609   |          |             |           | 925,827     |           |             |           | 2,235,153   |  
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|Operating expenses:                                                       |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|                                                                          | Sales and marketing                                                                  |                         |                          | 17,737,278  |           |             |          | 11,480,812  |           |             |           | 9,593,619   |          
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|                                                                          | General and administrative                                                           |                         |                          | 6,318,044   |           |             |          | 6,065,241   |           |             |           | 6,907,442   |          
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|                                                                          | Research and development                                                             |                         |                          | 9,548,745   |           |             |          | 5,925,837   |           |             |           | 2,462,752   |          
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|                                                                          | Merger costs                                                                         |                         |                          |            |           |             |          | 621,048     |           |             |           |            |          
|                                                                          |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            
|                                                                          |                                                                                      |                         | Total operating expenses |             |           | 33,604,067  |          |             |           | 24,092,938  |           |             |           | 18,963,813  |  
|                                                                          |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            
|                                                                          |                                                                                      |                         | Operating loss           |             |           | (32,514,458 | )        |             |           | (23,167,111 | )         |             |           | (16,728,660 | )
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|Interest and other income (expense), net                                  |                                                                                      |                         | 340,719                  |             |           |             | (980,643 | )           |           |             | 27,649    |            
|                                                                          |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            
|                                                                          | Loss before provision for income taxes                                               |                         |                          | (32,173,739 | )         |             |          | (24,147,754 | )         |             |           | (16,701,011 | )        
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|Provision (benefit) for income taxes                                      |                                                                                      |                         | 25,840                   |             |           |             | 37,468   |             |           |             | (3,598    | )          
|                                                                          |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            
|                                                                          | Net loss                                                                             |                         |                          | (32,199,579 | )         |             |          | (24,185,222 | )         |             |           | (16,697,413 | )        
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|Provision for preferred stock dividends                                   |                                                                                      |                         |                         |             |           |             | 10,438   |             |           |             | 311,714   |            
|                                                                         
|                                                                         
|                                                                         
|                                                                         
|Provision for accretion on preferred stock
	beneficial conversion feature |                                                                                      |                         |                         |             |           |             |         |             |           |             | 1,507,376 |            
|                                                                          |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            
|                                                                          | Net loss applicable to holders of common stock                                       |                         | $                        | (32,199,579 | )         |             | $        | (24,195,660 | )         |             | $         | (18,516,503 | )        
|                                                                          |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            
|                                                                          | Net loss per common share applicable to holders
	of common stock (basic and diluted) |                         | $                        | (0.63       | )         |             | $        | (0.63       | )         |             | $         | (0.76       | )        
|                                                                          |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            
|                                                                          | Weighted average number of common shares
	outstanding (basic and diluted)            |                         |                          | 50,827,020  |           |             |          | 38,592,282  |           |             |           | 24,271,703  |          
|                                                                          |                                                                                      |                         |                          |             |           |             |          |             |           |             |           |            

The accompanying notes are an integral part of these



F-3



---



##### 



XYBERNAUT CORPORATION

CONSOLIDATED STATEMENTS OF STOCKHOLDERS
EQUITY

|                                                                       |  |                  |        |                 |  |            |            |               |  |             |            |        |  |         |         |   |  |   |             |  |  |   |          |   |  |   |              |  
|---------------------------------------------------------------------- |  | ---------------- | ------ | --------------- |  | ---------- | ---------- | ------------- |  | ----------- | ---------- | ------ |  | ------- | ------- | - |  | - | ----------- |  |  | - | -------- | - |  | - | ------------ | -
|                                                                       |  |                  |        |                 |  |            |            |               |  |            
|                                                                       |  | Number of Shares |        | Value of Shares |  | Additional |            | Accumulated   |  |            
|                                                                       |  |                  |        |                 |  | Paid-in    |            | Comprehensive |  | Accumulated
|                                                                       |  | Preferred        |        | Common          |  | Preferred  |            | Common        |  | Capital     |            | Income |  | Deficit
|                                                                       |  |                  |        |                 |  |            |            |               |  |             |            |        |  |        
|Balance, January 1, 1999                                               |  |                  | 188    |                 |  |            | 21,757,151 |               |  | $           | 182,378    |        |  | $       | 217,571 |   |  | $ | 32,272,297  |  |  | $ | 27,035   |   |  | $ | (31,360,112  | )
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Issuance of common stock                                               |  |                  |       |                 |  |            | 2,008,229  |               |  |             |           |        |  |         | 20,083  |   |  |   | 5,991,560   |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Issuance of preferred stock                                            |  |                  | 12,600 |                 |  |            |           |               |  |             | 11,418,621 |        |  |         |        |   |  |   |            |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Conversion of preferred stock into common stock                        |  |                  | (8,188 | )               |  |            | 5,809,000  |               |  |             | (7,604,411 | )      |  |         | 58,090  |   |  |   | 7,423,100   |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Exercise of warrants                                                   |  |                  |       |                 |  |            | 1,545,000  |               |  |             |           |        |  |         | 15,450  |   |  |   | 1,823,063   |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Exercise of stock options                                              |  |                  |       |                 |  |            | 1,854      |               |  |             |           |        |  |         | 18      |   |  |   | 5,382       |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Equity securities issued for services and
	incentives                  |  |                  |       |                 |  |            | 2,500      |               |  |             |           |        |  |         | 25      |   |  |   | 223,522     |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Cancellation of escrow shares of common stock                          |  |                  |       |                 |  |            | (750,000   | )             |  |             |           |        |  |         | (7,500  | ) |  |   | 7,500       |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Unrealized loss on investments                                         |  |                  |        |                 |  |            |            |               |  |             |            |        |  |         |         |   |  |   |             |  |  |   | (27,035  | ) |  |   |              |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Foreign currency translation                                           |  |                  |       |                 |  |            |           |               |  |             |           |        |  |         |        |   |  |   |            |  |  |   | 58,541   |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Net loss                                                               |  |                  |       |                 |  |            |           |               |  |             |           |        |  |         |        |   |  |   |            |  |  |   |         |   |  |   | (16,697,413  | )
|                                                                       |  |                  |        |                 |  |            |            |               |  |             |            |        |  |         |         |   |  |   |             |  |  |   |          |   |  |   |              |  
|Total comprehensive loss                                               |  |                  |       |                 |  |            |           |               |  |             |           |        |  |         |        |   |  |   |            |  |  |   |         |   |  |   |             |  
|                                                                       |  |                  |        |                 |  |            |            |               |  |             |            |        |  |         |         |   |  |   |             |  |  |   |          |   |  |   |              |  
|Balance, December 31, 1999                                             |  |                  | 4,600  |                 |  |            | 30,373,734 |               |  | $           | 3,996,588  |        |  | $       | 303,737 |   |  | $ | 47,746,424  |  |  | $ | 58,541   |   |  | $ | (48,057,525  | )
|                                                                       |  |                  |        |                 |  |            |            |               |  |             |            |        |  |         |         |   |  |   |             |  |  |   |          |   |  |   |              |  
|Issuance of common stock                                               |  |                  |       |                 |  |            | 7,923,359  |               |  |             |           |        |  |         | 79,234  |   |  |   | 22,992,004  |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Conversion of preferred stock into common stock                        |  |                  | (4,600 | )               |  |            | 4,173,430  |               |  |             | (3,996,588 | )      |  |         | 41,734  |   |  |   | 4,098,320   |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Exercise of warrants                                                   |  |                  |       |                 |  |            | 2,077,700  |               |  |             |           |        |  |         | 20,777  |   |  |   | 9,175,650   |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Exercise of stock options                                              |  |                  |       |                 |  |            | 662,724    |               |  |             |           |        |  |         | 6,627   |   |  |   | 1,540,384   |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Equity securities issued for services and payment
	of accounts payable |  |                  |       |                 |  |            | 184,871    |               |  |             |           |        |  |         | 1,849   |   |  |   | 1,748,592   |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Foreign currency translation                                           |  |                  |       |                 |  |            |           |               |  |             |           |        |  |         |        |   |  |   |            |  |  |   | (244,524 | ) |  |   |              |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Net loss                                                               |  |                  |       |                 |  |            |           |               |  |             |           |        |  |         |        |   |  |   |            |  |  |   |         |   |  |   | (24,185,222  | )
|                                                                       |  |                  |        |                 |  |            |            |               |  |             |            |        |  |         |         |   |  |   |             |  |  |   |          |   |  |   |              |  
|Total comprehensive loss                                               |  |                  |       |                 |  |            |           |               |  |             |           |        |  |         |        |   |  |   |            |  |  |   |         |   |  |   |             |  
|                                                                       |  |                  |        |                 |  |            |            |               |  |             |            |        |  |         |         |   |  |   |             |  |  |   |          |   |  |   |              |  
|Balance, December 31, 2000                                             |  |                  |       |                 |  |            | 45,395,818 |               |  | $           |           |        |  | $       | 453,958 |   |  | $ | 87,301,374  |  |  | $ | (185,983 | ) |  | $ | (72,242,747  | )
|                                                                       |  |                  |        |                 |  |            |            |               |  |             |            |        |  |         |         |   |  |   |             |  |  |   |          |   |  |   |              |  
|Issuance of common stock                                               |  |                  |       |                 |  |            | 12,018,772 |               |  |             |           |        |  |         | 120,187 |   |  |   | 22,407,342  |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Exercise of warrants                                                   |  |                  |       |                 |  |            | 1,881,470  |               |  |             |           |        |  |         | 18,815  |   |  |   | 3,754,592   |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Exercise of stock options                                              |  |                  |       |                 |  |            | 57,097     |               |  |             |           |        |  |         | 571     |   |  |   | 135,088     |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Equity securities issued for services and payment
	of accounts payable |  |                  |       |                 |  |            | 174,956    |               |  |             |           |        |  |         | 1,750   |   |  |   | 924,632     |  |  |   |         |   |  |   |             |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Foreign currency translation                                           |  |                  |       |                 |  |            |           |               |  |             |           |        |  |         |        |   |  |   |            |  |  |   | (103,900 | ) |  |   |              |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Net loss                                                               |  |                  |       |                 |  |            |           |               |  |             |           |        |  |         |        |   |  |   |            |  |  |   |         |   |  |   | (32,199,579  | )
|                                                                       |  |                  |        |                 |  |            |            |               |  |             |            |        |  |         |         |   |  |   |             |  |  |   |          |   |  |   |              |  
|Total comprehensive loss                                               |  |                  |       |                 |  |            |           |               |  |             |           |        |  |         |        |   |  |   |            |  |  |   |         |   |  |   |             |  
|                                                                       |  |                  |        |                 |  |            |            |               |  |             |            |        |  |         |         |   |  |   |             |  |  |   |          |   |  |   |              |  
|Balance, December 31, 2001                                             |  |                  |       |                 |  |            | 59,528,113 |               |  | $           |           |        |  | $       | 595,281 |   |  | $ | 114,523,028 |  |  | $ | (289,883 | ) |  | $ | (104,442,326 | )
|                                                                       |  |                  |        |                 |  |            |            |               |  |             |            |        |  |         |         |   |  |   |             |  |  |   |          |   |  |   |              |  

[Additional columns below]

[Continued from above table, first column(s) repeated]

|                                                                       |  |              |   |              |  |   |             |  
|---------------------------------------------------------------------- |  | ------------ | - | ------------ |  | - | ----------- | -
|                                                                       |  |              |   | Total       
|                                                                       |  | Deferred     |   | Shareholders
|                                                                       |  | Compensation |   | Equity      
|                                                                       |  |              |   |             
|Balance, January 1, 1999                                               |  | $            |  |              |  | $ | 1,339,169   |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Issuance of common stock                                               |  |              |  |              |  |   | 6,011,643   |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Issuance of preferred stock                                            |  |              |  |              |  |   | 11,418,621  |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Conversion of preferred stock into common stock                        |  |              |  |              |  |   | (123,221    | )
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Exercise of warrants                                                   |  |              |  |              |  |   | 1,838,513   |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Exercise of stock options                                              |  |              |  |              |  |   | 5,400       |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Equity securities issued for services and
	incentives                  |  |              |  |              |  |   | 223,547     |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Cancellation of escrow shares of common stock                          |  |              |  |              |  |   |            |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Unrealized loss on investments                                         |  |              |   |              |  |   | (27,035     | )
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Foreign currency translation                                           |  |              |  |              |  |   | 58,541      |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Net loss                                                               |  |              |  |              |  |   | (16,697,413 | )
|                                                                       |  |              |   |              |  |   |             |  
|Total comprehensive loss                                               |  |              |  |              |  |   | (16,665,907 | )
|                                                                       |  |              |   |              |  |   |             |  
|Balance, December 31, 1999                                             |  | $            |  |              |  | $ | 4,047,765   |  
|                                                                       |  |              |   |              |  |   |             |  
|Issuance of common stock                                               |  |              |  |              |  |   | 23,071,238  |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Conversion of preferred stock into common stock                        |  |              |  |              |  |   | 143,466     |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Exercise of warrants                                                   |  |              |  |              |  |   | 9,196,427   |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Exercise of stock options                                              |  |              |  |              |  |   | 1,547,011   |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Equity securities issued for services and payment
	of accounts payable |  |              |  |              |  |   | 1,750,441   |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Foreign currency translation                                           |  |              |  |              |  |   | (244,524    | )
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Net loss                                                               |  |              |  |              |  |   | (24,185,222 | )
|                                                                       |  |              |   |              |  |   |             |  
|Total comprehensive loss                                               |  |              |  |              |  |   | (24,429,746 | )
|                                                                       |  |              |   |              |  |   |             |  
|Balance, December 31, 2000                                             |  | $            |  |              |  | $ | 15,326,602  |  
|                                                                       |  |              |   |              |  |   |             |  
|Issuance of common stock                                               |  |              |  |              |  |   | 22,527,529  |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Exercise of warrants                                                   |  |              |  |              |  |   | 3,773,407   |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Exercise of stock options                                              |  |              |  |              |  |   | 135,659     |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Equity securities issued for services and payment
	of accounts payable |  |              |  |              |  |   | 926,382     |  
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Foreign currency translation                                           |  |              |  |              |  |   | (103,900    | )
|                                                                      
|                                                                      
|                                                                      
|                                                                      
|Net loss                                                               |  |              |  |              |  |   | (32,199,579 | )
|                                                                       |  |              |   |              |  |   |             |  
|Total comprehensive loss                                               |  |              |  |              |  |   | (32,303,479 | )
|                                                                       |  |              |   |              |  |   |             |  
|Balance, December 31, 2001                                             |  | $            |  |              |  | $ | 10,386,100  |  
|                                                                       |  |              |   |              |  |   |             |  

The accompanying notes are an integral part of these



F-4



---



##### 



XYBERNAUT CORPORATION

CONSOLIDATED STATEMENTS OF CASH
FLOWS

|                                                              |                                                                              |                                                                |                                     |             |             |            |           |             |             |            |           |             |             |            |  
|------------------------------------------------------------- | ---------------------------------------------------------------------------- | -------------------------------------------------------------- | ----------------------------------- | ----------- | ----------- | ---------- | --------- | ----------- | ----------- | ---------- | --------- | ----------- | ----------- | ---------- | -
|                                                              |                                                                              |                                                               
|                                                              |                                                                              | Year ended December 31,                                       
|                                                              |                                                                              |                                                               
|                                                              |                                                                              | 2001                                                           |                                     | 2000        |             | 1999      
|                                                              |                                                                              |                                                                |                                     |             |             |           
|Cash flows from operating activities:                         |                                                                              |                                                                |                                     |             |             |            |           |             |             |            |           |            
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Net loss                                                                     |                                                                | $                                   | (32,199,579 | )           |            | $         | (24,185,222 | )           |            | $         | (16,697,413 | )          
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Adjustments to reconcile net loss to net cash
	used in operating activities: |                                                                |                                     |             |             |            |           |             |             |            |           |             |            
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Depreciation and amortization                                  |                                     |             | 1,518,833   |            |           |             | 1,617,729   |            |           |             | 1,509,350   |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Loss on disposal of assets                                     |                                     |             |            |            |           |             |            |            |           |             | 20,990      |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Provision for inventory and tooling                            |                                     |             | 1,829,234   |            |           |             | 1,500,000   |            |           |             | 120,000     |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Provision for bad debts                                        |                                     |             |            |            |           |             | 79,620      |            |           |             | 49,837      |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Amortization of note discount                                  |                                     |             |            |            |           |             | 921,452     |            |           |             |            |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Non-cash charges for equity securities issued for
	services    |                                     |             | 606,406     |            |           |             | 1,312,630   |            |           |             | 223,547     |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Changes in assets and liabilities:                             |                                     |             |             |            |           |             |             |            |           |             |             |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              |                                                                | Inventory                           |             |             | (1,905,917 | )         |             |             | 1,051,244  |           |             |             | (4,005,468 | )
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              |                                                                | Accounts receivable                 |             |             | 127,705    |           |             |             | (1,765,736 | )         |             |             | (77,720    | )
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              |                                                                | Prepaid and other current assets    |             |             | (212,533   | )         |             |             | (59,297    | )         |             |             | (214,561   | )
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              |                                                                | Notes receivable from officers, net |             |             | 50,949     |           |             |             | (949,628   | )         |             |             | 10,000     |  
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              |                                                                | Other assets                        |             |             | (132,575   | )         |             |             | (299,995   | )         |             |             | (143,520   | )
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              |                                                                | Accounts payable                    |             |             | 2,425,693  |           |             |             | (2,664,175 | )         |             |             | 2,279,440  |  
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              |                                                                | Accrued expenses and other          |             |             | 15,555     |           |             |             | (412,432   | )         |             |             | 1,325,751  |  
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              |                                                                | Deferred revenue                    |             |             | (428,246   | )         |             |             | 428,271    |           |             |             | (128,701   | )
|                                                              |                                                                              |                                                                |                                     |             |             |            |           |             |             |            |           |            
|                                                              |                                                                              | Net cash used in operating activities                          |                                     |             | (28,304,475 | )          |           |             | (23,425,539 | )          |           |             | (15,728,468 | )         
|                                                              |                                                                              |                                                                |                                     |             |             |            |           |             |             |            |           |            
|Cash flows from investing activities:                         |                                                                              |                                                                |                                     |             |             |            |           |             |             |            |           |            
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Proceeds from sale of property and equipment                                 |                                                                |                                     |            |             |            |           |            |             |            |           | 644,340     |            
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Proceeds from sale of investment                                             |                                                                |                                     |            |             |            |           |            |             |            |           | 15,357      |            
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Acquisition of property and equipment                                        |                                                                |                                     | (1,100,696  | )           |            |           | (673,485    | )           |            |           | (1,143,429  | )          
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Acquisition of patents and trademarks                                        |                                                                |                                     | (858,861    | )           |            |           | (364,859    | )           |            |           | (349,900    | )          
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Increase in restricted cash                                                  |                                                                |                                     | (85,384     | )           |            |           | (424,917    | )           |            |           |            |            
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Capitalization of tooling costs                                              |                                                                |                                     | (1,199,302  | )           |            |           | (217,545    | )           |            |           | (808,545    | )          
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Capitalization of loan costs                                                 |                                                                |                                     | (20,000     | )           |            |           | (25,000     | )           |            |           | (120,000    | )          
|                                                              |                                                                              |                                                                |                                     |             |             |            |           |             |             |            |           |            
|                                                              |                                                                              | Net cash used in investing activities                          |                                     |             | (3,264,243  | )          |           |             | (1,705,806  | )          |           |             | (1,762,177  | )         
|                                                              |                                                                              |                                                                |                                     |             |             |            |           |             |             |            |           |            
|Cash flows from financing activities:                         |                                                                              |                                                                |                                     |             |             |            |           |             |             |            |           |            
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Proceeds from:                                                               |                                                                |                                     |             |             |            |           |             |             |            |           |             |            
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Common stock offerings, net                                    |                                     |             | 22,801,278  |            |           |             | 23,163,645  |            |           |             | 6,011,643   |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Exercise of warrants                                           |                                     |             | 3,773,405   |            |           |             | 8,274,975   |            |           |             | 1,838,513   |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Exercise of stock options                                      |                                     |             | 135,659     |            |           |             | 1,547,011   |            |           |             | 5,400       |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Notes and loans                                                |                                     |             |            |            |           |             | 4,425,000   |            |           |             | 3,153,785   |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Preferred stock offerings, net                                 |                                     |             |            |            |           |             |            |            |           |             | 11,418,621  |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Payments for:                                                                |                                                                |                                     |             |             |            |           |             |             |            |           |             |            
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Notes and loans                                                |                                     |             | (466,668    | )          |           |             | (5,368,290  | )          |           |             | (3,953,545  | )         
|                                                              |                                                                              |                                                                |                                     |             |             |            |           |             |             |            |           |            
|                                                              |                                                                              | Net cash provided by financing activities                      |                                     |             | 26,243,674  |            |           |             | 32,042,341  |            |           |             | 18,474,417  |           
|                                                              |                                                                              |                                                                |                                     |             |             |            |           |             |             |            |           |            
|Effect of exchange rate changes on cash and cash
	equivalents |                                                                              |                                                                | (351,062                            | )           |             |            | (188,281  | )           |             |            | 89,579    |            
|                                                             
|                                                             
|                                                             
|                                                             
|Net (decrease) increase in cash and cash
	equivalents         |                                                                              |                                                                | (5,676,106                          | )           |             |            | 6,722,715 |             |             |            | 1,073,351 |            
|                                                             
|                                                             
|                                                             
|                                                             
|Cash and cash equivalents, beginning of period                |                                                                              |                                                                | 8,848,715                           |             |             |            | 2,126,000 |             |             |            | 1,052,649 |            
|                                                              |                                                                              |                                                                |                                     |             |             |            |           |             |             |            |           |            
|Cash and cash equivalents, end of period                      |                                                                              | $                                                              | 3,172,609                           |             |             | $          | 8,848,715 |             |             | $          | 2,126,000 |            
|                                                              |                                                                              |                                                                |                                     |             |             |            |           |             |             |            |           |            
|Supplemental disclosure of cash flow information:             |                                                                              |                                                                |                                     |             |             |            |           |             |             |            |           |            
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Cash paid for interest                                         |                                     | $           | 6,175       |            |           | $           | 368,601     |            |           | $           | 71,767      |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Cash paid for taxes                                            |                                     | $           | 40,109      |            |           | $           | 44,946      |            |           | $           | 17,813      |           
|                                                             
|                                                             
|                                                             
|                                                             
|Supplemental disclosure of non-cash financing
	activities:    |                                                                              |                                                                |                                     |             |             |            |           |             |             |            |           |            
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Equity securities issued for future services                   |                                     | $           | 253,958     |            |           | $           | 234,924     |            |           | $           |            |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Equity securities issued as payment of accounts
	payable       |                                     | $           | 337,666     |            |           | $           | 202,888     |            |           | $           |            |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Provision for preferred stock dividend
	requirements           |                                     | $           |            |            |           | $           | 10,438      |            |           | $           | 311,714     |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Common stock issued for preferred stock dividend
	requirements |                                     | $           |            |            |           | $           | 153,904     |            |           | $           | 188,493     |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Charges to conform accounting policies during
	merger          |                                     | $           |            |            |           | $           | 168,365     |            |           | $           |            |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Unrealized gain on marketable securities                       |                                     | $           |            |            |           | $           |            |            |           | $           | 26,120      |           
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                                                              | Equity securities issued in consideration of loan
	repayment   |                                     | $           |            |            |           | $           |            |            |           | $           | 2,250,000   |           

The accompanying notes are an integral part of these



F-5



---



##### 



XYBERNAUT CORPORATION

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

1. The Company and Financing Requirements

Xybernaut Corporation, a Delaware corporation
(Xybernaut or the Company), is engaged
in the research, development and commercialization of mobile,
wearable computing and communication systems along with software
and service solutions designed to enhance productivity, improve
product management, asset management and the accuracy,
timeliness and utilization of captured data. The Company offers
solutions with a software and services focus through its
wholly-owned subsidiary Xybernaut Solutions, Inc. (U.S.). The
Company offers solutions with a hardware focus through its U.S.
operations and through its wholly-owned subsidiaries Xybernaut
K.K. (Japan) and Xybernaut GmbH (Germany). The Mobile
Assistant® (MA®) series is the
Companys primary hardware product line, with the MA V and
the MA TC currently available. During 2002, the Company expects
to begin shipping the poma, a product line targeted
at the light-commercial and near-consumer markets.

The Company was formed in 1990 and completed its Initial Public
Offering (IPO) on July 18, 1996. On
April 7, 2000, Xybernaut acquired Selfware, Inc, which
subsequently changed its name to Xybernaut Solutions, Inc.
(XSI). The merger was accounted for as a pooling of
interests. All financial data of the Company, including
Xybernauts previously issued financial statements for the
periods presented in this Form 10-K, have been restated to
include the historical financial information of XSI.

The Company has incurred significant recurring losses from
operations since inception and will require additional capital
to fund its business plan and meet its ongoing obligations for
2002 and potentially beyond. Management believes the Company
will be successful in its efforts to obtain such capital, based
both on its historical ability to raise capital and on debt and
equity financings currently available to the Company. However,
there can be no assurance that the Company will not incur
additional losses or will not require significant amounts of
additional capital. If the Company is unable to obtain
sufficient additional financing, it will be required to reduce
discretionary spending in order to maintain its operations at a
reduced level. Management believes that it will be able to
reduce discretionary spending if required.

2. Summary of Significant Accounting Policies

Principles of Consolidation

The consolidated financial statements include the accounts of
the Company and its wholly owned subsidiaries: XSI (Virginia,
U.S.), Xybernaut GmbH (Boeblingen, Germany), Xybernaut K.K.
(Yokohama, Japan) and Xybernaut Development Corporation
(Virginia, U.S.). All significant intercompany accounts and
transactions have been eliminated in the consolidation. Net
gains and losses resulting from foreign currency transactions
have not been material.

Use of Estimates in the Preparation of
Financial Statements

The preparation of financial statements in conformity with
generally accepted accounting principles requires management to
make estimates and assumptions that affect the reported amounts
of assets and liabilities and disclosure of contingent assets
and liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting
period. Actual results could differ from those estimates.

Cash, Cash Equivalents and Restricted
Cash

The Company considers all highly liquid investments purchased
with an original maturity of three months or less to be cash
equivalents. At December 31, 2001 and 2000, the Company had
$500,000 and $424,917 in restricted cash. The restricted cash at
December 31, 2001 consisted of a cash deposit made to
secure a long term contract. The restricted cash at
December 31, 2000 consisted of investments with original
maturities of greater than three months and cash designated as
collateral for a letter of credit.

F-6



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



2. Summary of Significant Accounting Policies,
continued:


Inventory

At December 31, 2001, inventory consisted primarily of
wearable computer component parts held for resale and allocated
tooling costs, and is comprised primarily of finished goods.
Inventory is stated at the lower of cost or market, with cost
being determined on a first-in, first-out basis. Management
periodically assesses the need to provide for obsolescence of
inventory and adjusts the carrying value of inventory to its net
realizable value when required. The Company recorded provisions
of $1,829,234 in 2001 and $1,500,000 in 2000 related to its
wearable computer product lines. Of these charges, $663,789 and
$1,500,000 were recorded during 2001 and 2000, respectively, to
reduce the net carrying value of inventory associated with the
MA IV product line given the uncertainties created by the
introduction of the MA V and MA TC product lines. These charges
were initially recorded as general inventory reserves. Effective
December 31, 2001, the remaining general inventory reserves
were reduced as individual inventory amounts were directly
written either down or off. In 2001, a charge of $885,019 was
recorded to reflect managements estimate of losses to be
incurred on shipments of the initial production run of the
pomaproduct line. The Company has elected to sell the
pomasystems at prices that are less than their initial
production costs to favorably position the pomain the
price-sensitive light commercial and near-consumer markets.
Although the pomainventory had not been received by the
Company as of December 31, 2001, the Company recorded the
expected losses during 2001, which was the period in which the
underlying contacts were entered into. Because the inventory had
not been received by the company as of December 31, 2001,
and is therefore not recorded as an asset, this charge was
recorded as an accrued liability which will be reduced as
pomainventory shipments are received during 2002. The
remaining $141,280 charge recorded in 2001 was to establish a
reserve for hard disk drives that were purchased for the MA V
product line, but later replaced with higher-capacity hard disk
drives. The Company expects to sell these drives in bulk at a
value approximating historical cost reduced by this reserve.

The Companys management believes that it can sell the MA
IV, pomaand component inventory at amounts that
approximate current net carrying values, which have been reduced
as a result of the above charges. To determine the size of the
charges to record, management reviewed the carrying value of its
inventory in light of the introduction of the new product lines,
its ability to sell the quantities of inventory on hand and the
sales prices it ultimately expects to achieve. This analysis
took into account estimated price concessions which management
believes will be necessary in disposing of this inventory. As a
result of this review, it was determined that certain of the
Companys inventory was slow-moving, risked becoming
obsolete or will likely be sold at below its historical cost.
Based upon a specific review of the carrying costs for the
inventory items, management estimated the quantity of each
inventory item that the Company was expected to be able to sell
and also quantified inventory amounts that may not be
recoverable. Management does not expect to record significant
profits or losses upon the ultimate sale of this inventory.

As of December 31, 2001, net of the effects of reserves and
write-offs, the Companys inventory consisted of $1,694,704
in MA V systems, $2,063,316 in MA TC systems, $475,567 in MA IV
systems and $387,432 in component parts to be sold in bulk and
other miscellaneous stock.

Property and Equipment

Property and equipment are stated at cost and are depreciated on
a straight-line basis over the estimated useful lives of the
assets, as follows:

|                       |  |  |           |  
|---------------------- |  |  | --------- | -
|                      
|                      
|                      
|                      
|Furniture and fixtures |  |  | 3-7  year | s
|                      
|                      
|                      
|                      
|Equipment              |  |  | 3-7  year | s
|                      
|                      
|                      
|                      
|Leasehold improvements |  |  | 3 year    | s
|                      
|                      
|                      
|                      
|Demonstration units    |  |  | 1 year    |  

F-7



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



2. Summary of Significant Accounting Policies,
continued:


XSI had purchased certain condominium units which were sold
during 1999. These units and related improvements were
depreciated over 31.5 to 39 years. Expenditures for
maintenance and repairs are expensed directly to the appropriate
operating account as incurred. Expenditures determined to
represent additions and improvements are capitalized.

Tooling Costs

Capitalized tooling costs consist of payments made to
third-party vendors for their products and services that are
used in the manufacture of the Companys proprietary
hardware products. Tooling costs are allocated to inventory or
property and equipment and are amortized as a component of cost
of sales or depreciation based upon the number of units sold or
used as demonstration units in a given period compared to the
total number of units expected in a products production
run.

Management periodically assesses the need to provide for
obsolescence of tooling costs and adjusts the carrying values to
their net realizable value when required through a process
similar to that discussed in the Inventory section above. During
2001, 2000 and 1999, the Company recognized charges of $139,145,
$250,000 and $0, respectively, related to its capitalized
tooling assets. The 2001 and 2000 charges were recorded to
reduce the net carrying value of tooling associated with the MA
IV product line given the uncertainties created by the
introduction of the MA V and MA TC product lines. The 2000
charge was initially recorded as a general reserve. Effective
December 31, 2001, this general reserve was reduced as
individual tooling amounts were written off. In the event that
the anticipated production run size or sales of a product do not
materialize, additional adjustment may be necessary to write
down the carrying value of the Companys tooling costs.

As of December 31, 2001, the Companys net capitalized
tooling asset consisted of $1,038,171 associated with the MA V
systems, $70,698 with the MA TC systems and $0 with the MA IV
systems. Capitalized tooling costs during 2001, 2000 and 1999
were $1,199,302, $266,217 and $150,624, respectively.
Amortization to cost of goods sold or depreciation, depending on
classification of tooling costs as inventory or property and
equipment, in 2001, 2000 and 1999 was $148,866, $105,095 and
$234,453, respectively.

Software Development Costs

The Company records software development costs in accordance
with Statement of Financial Accounting Standards
(SFAS) No. 86, Accounting for the Costs
of Computer Software to be Sold, Leased, or Otherwise
Marketed, which requires the capitalization of certain
software development costs once technological feasibility is
established, which the Company defines as the completion of a
working model. Capitalized software costs are amortized either
on a straight-line basis over the estimated product life or
based on the ratio of current revenues to total projected
product revenues. The Company has not historically capitalized
software development costs because the projects have not reached
the point of technological feasibility. At December 31,
2001, 2000 and 1999, there are no capitalized software
development costs or related amortization in the financial
statements. Software development costs incurred on projects that
have not reached technological feasibility are included as a
component of research and development expense and are recorded
during the period in which they are incurred.

Retainage

Certain government contracts of XSI require five to ten percent
of direct labor reimbursements per contract be withheld from
payments remitted to the Company until such time as the contract
is completed and a final accounting and approval has been made.
Since the amounts billed will not be collected within one year
of the financial statements date, the balance is included in
long-term other assets. Retainage at December 31, 2001,
2000 and 1999 was $316,839, $204,117, and $13,393, respectively.

F-8



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



2. Summary of Significant Accounting Policies,
continued:


Patent Costs

The Company capitalizes legal fees, filing fees and other direct
costs incurred to obtain patents and trademarks. These costs are
amortized on a straight-line basis over a five-year period and
are included in general and administrative expenses. Patent and
trademark amortization expense was $350,110, $258,732 and
$206,701 during 2001, 2000 and 1999, respectively. Costs
associated with the maintenance and upkeep of existing patents
are expensed as incurred as part of general and administrative
expenses.

Impairment of Long-Lived Assets

Management of the Company monitors the carrying value of
long-lived assets for potential impairment on an on-going basis.
Potential impairment is determined by comparing the carrying
value of these assets with their related, expected future net
cash flows. Should the sum of the related, expected future net
cash flows be less than the carrying value, management would
determine whether an impairment loss should be recognized. An
impairment loss would be measured by the amount by which the
carrying value of the asset exceeds the future discounted cash
flows. No such impairment losses were recorded during 2001, 2000
or 1999.

Revenue Recognition and Warranties

The Companys revenues are principally derived from sales
of its hardware and software products and from consulting
services. Revenue from hardware product sales is recognized upon
shipment of the Companys products to end-users pursuant to
binding customer purchase orders. When shipments are made to
distributors, revenue is recognized upon ultimate sale by the
distributors to end-users, when the distributors purchase
product for their own use pursuant to separate binding purchase
orders, or when returns can be reasonably estimated. For
hardware product sales, the Company generally provides a
one-year warranty on its parts and a six-month warranty on
labor. A provision for estimated future warranty costs is
recorded at the time of shipment as a component of cost of
sales. However, the Companys suppliers for the significant
components of the MA series, including the computing unit, flat
panel and head mounted displays, and batteries, provide the
Company with similar warranties. The Company recorded warranty
expense for the net of estimated expenses less warranty coverage
from suppliers of $229,413, $0, and $36,204 during 2001, 2000
and 1999, respectively, and had a warranty reserve of $86,915,
$99,368 and $100,781 at December 31, 2001, 2000 and 1999,
respectively.

The Company recognizes software revenue in accordance with
Statement of Position (SOP) No. 97-2,
Software Revenue Recognition and SOP No. 98-9,
Modification of SOP 97-2, Software Revenue Recognition,
With Respect to Certain Transactions. If a contract
requires significant production, modification, or customization
of the software, the arrangement is accounted for as a long-term
service contract. If it does not, software revenue is realizable
when the following criteria are met: persuasive evidence of an
arrangement exists, delivery has occurred or services have been
rendered, the sellers price to the buyer is fixed or
determinable, and collectibility is reasonably assured. Other
criteria that must be met include the determination of whether
the revenue in multiple-element arrangements can be recognized
separately for each element as performance occurs and the
determination of the fee based on vendor-specific objective
evidence (VSOE) of fair value for each element. The
Company determines VSOE of fair value of each element by the
price charged when the same element is sold separately or based
on Managements established prices for elements such as
consulting rates on comparable service contracts or the price of
software with the same functionality available in the industry.
If management is unable to determine the VSOE of a delivered
element, the revenue is recognized by the residual method. As
performance occurs, the fee for the delivered item is determined
by the total fee of the arrangement less the total fair value of
the undelivered elements. The total fair value of the
undelivered elements is deferred and subsequently recognized as
performance occurs. If management is unable to determine the
VSOE of an undelivered element, all revenue from the contract is

F-9



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



2. Summary of Significant Accounting Policies,
continued:


deferred until the VSOE is established or all performance has
occurred. If the only undelivered element without VSOE of fair
value is services that can be accounted for separately, the
entire fee is recognized over the service period.

The Company recognizes revenue from long-term service contracts
in accordance with Accounting Research Bulletin
(ARB) No. 45, Long-Term Construction Type
Contracts, using the relevant guidance in SOP 81-1,
Accounting for Performance of Construction-Type and
Certain Production-Type Contracts, as determined by the
terms and conditions of the Companys various consulting
contracts with its customers. Revenue is typically recognized
ratably over the contractual periods or as the services are
provided. In time and materials contracts, revenue is recognized
as the Company incurs billable costs. In fixed price contracts,
revenue is recognized based on the percentage of completion
method by calculating the ratio of costs incurred over total
estimated costs to complete. Revenue in excess of billings on
service contracts is recorded as unbilled receivables. At
December 31, 2001 and 2000, unbilled receivables of
$365,763 and $169,721, respectively, were included in trade
accounts receivable. Billings in excess of revenue recognized on
service contracts are recorded as deferred revenue until revenue
recognition criteria are met. At December 31, 2001 and
2000, $40,288 and $468,534, respectively, were recorded as
deferred revenue.

Income Taxes

Deferred income tax assets and liabilities are computed annually
for differences between the financial statement and income tax
bases of assets and liabilities that will result in taxable or
deductible amounts in the future. Such deferred income tax asset
and liability computations are based on enacted tax laws and
rates applicable to periods in which the differences are
expected to affect taxable income. Income tax expense is the tax
payable or refundable for the period plus or minus the change
during the period in deferred income tax assets and liabilities.
The provision for income taxes in 2001 and 2000 results from the
operations of the Companys international subsidiaries.

Comprehensive Loss

The Company separately reports net loss and other comprehensive
income or loss pursuant to SFAS No. 130, Reporting
Comprehensive Income. Other comprehensive income refers to
revenues, expenses, gains and losses that under generally
accepted accounting principles are recorded as an element of
stockholders equity and are excluded from net income. The
Companys other comprehensive income is comprised primarily
of gains and losses related to foreign currency translation and
investments.

Net Loss Per Share

Basic earnings (or loss) per share is calculated using the
weighted average number of shares of common stock outstanding
during a reporting period. Diluted loss per share adjusts the
weighted average number of outstanding shares for the potential
dilution that could occur if stock options, warrants or other
convertible securities were exercised or converted into common
stock. For all periods presented herein, the Companys
diluted loss per share is equal to its basic loss per share
because the effects of exercise were anti-dilutive given the
losses the Company incurred during such periods.

In connection with the Companys IPO in 1996, 1,800,000
shares of stock were placed in escrow. Escrowed shares were
considered issued and outstanding and were reported as such on
the combined balance sheets until their cancellation. All
escrowed shares had been cancelled as of December 31, 1999.
The basic and diluted loss per share amounts were calculated
using the Companys outstanding shares less those shares
held in escrow for all periods presented. Therefore, the
cancellation of shares from escrow did not affect the reported
losses per share.

F-10



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



2. Summary of Significant Accounting Policies,
continued:


Issuance of Equity Securities for
Services

The Company periodically issues equity securities, primarily
shares of common stock and warrants to purchase common stock, to
vendors and consultants in return for goods or services. These
transactions are recorded at either the fair value of the
securities issued or at the fair value of goods received or
services performed, whichever is more reliably determined.

Fair Value of Financial Instruments

The carrying amounts of financial instruments including cash and
cash equivalents, accounts receivable and accounts payable
approximated fair value as of December 31, 2001, 2000 and
1999 because of the relatively short maturity of these
instruments. The carrying value of the notes and loans
receivable or payable approximated fair value as of
December 31, 2001, 2000 and 1999 based upon market prices
for the same or similar issues.

Foreign Currency Translation

Assets and liabilities of the Companys foreign
subsidiaries are translated at the exchange rate on the balance
sheet date. Translation adjustments resulting from this process
are charged or credited to equity. Revenues and expenses are
translated at the average exchange rate for the year. Gains and
losses on foreign currency transactions are immaterial for the
years ended December 31, 2001, 2000 and 1999.

Recent Accounting Pronouncements

In July 2001, the FASB issued SFAS No. 141, Business
Combinations and SFAS No. 142, Goodwill and
Other Intangible Assets. SFAS 141 requires that the
purchase method of accounting be used for all business
combinations initiated after June 30, 2001. SFAS 141 also
specifies the criteria that intangible assets acquired in a
purchase method business combination must meet to be recognized
and reported apart from goodwill. SFAS 142 requires that
goodwill and intangible assets with indefinite useful lives no
longer be amortized, but instead be tested for impairment, at
least annually, in accordance with the provisions of SFAS 142.
SFAS 142 will also require that intangible assets with definite
useful lives be amortized over their respective estimated useful
lives to their estimated residual values, and reviewed for
impairment in accordance with SFAS No. 121,
Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed Of.

The provisions of SFAS 141 were effective immediately, except
with regard to business combinations initiated prior to
July 1, 2001. SFAS 142 will be effective January 1,
2002. Goodwill and other intangible assets determined to have an
indefinite useful life that are acquired in a purchase business
combination completed after June 30, 2001 will not be
amortized, but will continue to be evaluated for impairment in
accordance with appropriate pre-SFAS 142 accounting literature.
Goodwill and other intangible assets acquired in business
combinations completed before July 1, 2001, will continue
to be amortized prior to the adoption of SFAS 142. The Company
does not believe there will be a material effect from the
adoption of these new standards.

In August 2001, the FASB issued SFAS No. 144,
Accounting for the Impairment or Disposal of Long-Lived
Assets which addresses the accounting and reporting for
the impairment or disposal of long-lived assets. SFAS 144
supercedes SFAS No. 121, Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed
Of but retains many of the fundamental provisions of SFAS
121. SFAS 144 also supercedes the accounting and reporting
provisions of Accounting Principles Board Opinion
(APB) No. 30, Reporting the Results of
Operations  Reporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions for the
disposal

F-11



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

2. Summary of Significant Accounting Policies,
continued:

of a segment of a business. However, SFAS 144 retains the
requirements of APB 30 to report discontinued operations
separately and extends that reporting requirement to components
of an entity that has either been disposed of or is classified
as held for sale. SFAS 144 excludes goodwill and other
intangibles that are not amortized from its scope. For assets to
be held and used, SFAS 144 addresses how cash flows should be
estimated to test the recoverability of an asset or group of
assets, clarifies how an impairment loss should be allocated,
and creates a requirement to use an expected present value
technique to estimate fair value if market prices are not
available and uncertainties exist about the timing and amount of
future cash flows. For long-lived assets to be disposed of by
sale, SFAS 144 establishes the criteria to be met to qualify for
this classification, defines the timing of when the related sale
must be consummated, eliminates the net realizable value
measurement approach for segments of a business and certain
acquired assets in a business combination, and defines costs to
sell the asset. The provisions of SFAS 144 are effective for
fiscal years beginning after December 15, 2001 and are
generally to be applied prospectively. The Company does not
believe there will be a material effect from the adoption of
this standard.

Reclassifications

Certain 1999 and 2000 balances and disclosures have been
reclassified to conform to the 2001 presentation.

3.     Liquidity and Operations

The Companys net losses for 2001, 2000 and 1999 are
primarily attributable to the operating expenses incurred by the
Company to design, develop, sell and market its wearable
computer products and to provide general and administrative
support for these operating activities. During these periods,
the Companys revenues and gross margins have not been
sufficient to fund these operating activities. As a result, the
Company has consistently had negative cash flows from operating
activities and net losses and had an accumulated deficit of
$104,442,326 at December 31, 2001.

These continued operating losses have severely impacted the
Companys financial position and liquidity. At
December 31, 2001, the Company had unrestricted cash on
hand of $3,172,609 and accounts payable and accrued expenses of
$7,246,941. During 2001, 2000 and 1999, the Company funded its
operating activities through its financing operations, primarily
private placements of common stock, warrant and stock option
exercises, borrowings and convertible preferred stock offerings.
As of December 31, 2000, all convertible preferred stock
had been converted into common stock.

Subsequent to December 31, 2001, management has taken steps
that it believes are necessary to improve its operations and
raise additional capital, both of which are needed to enhance
its ability to meet its cash flow needs through
December 31, 2002.

During March 2002, the Companys executive management
performed a detailed review of operations and made
recommendations to the President of the Company to restructure
the Company and reduce the Companys operating expenses.
The President of the Company retains the sole authority to act
on these recommendations. The President has initiated a
restructuring and cost reduction program with the intent of
completing this program by June 2002. Assuming there are no
significant changes to the Companys business plan,
management estimates that savings of approximately 30% to 50%
from annualized fourth quarter 2001 levels, or savings of
approximately $12 million to $20 million per annum,
can be achieved once these steps are fully implemented.

F-12



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



3. Liquidity and Operations, continued:


The key cash saving initiatives that the President intends to
implement are listed below:



| |   |                                                                                                                                                                                                                                                              
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Worldwide headcount will be significantly reduced.                                                                                                                                                                                                           
|
| |  | Certain of the Companys worldwide functions will be
	consolidated, including engineering, product and research and
	development.                                                                                                                            
|
| |  | Operations in Asia will be restructured and expenses will be
	reduced significantly, especially with respect to direct sales,
	marketing and product efforts. Future Asian operations will
	focus primarily on channel sales and business development.       
|
| |  | Operations in Europe will be restructured and expenses will be
	reduced significantly, especially with respect to internal and
	outsourced research and development and marketing efforts.
	Future European operations will focus primarily on channel sales.
|
| |  | Marketing expenses, including participation in trade shows, will
	be reduced and coordinated with, and supported by, partner
	organizations.                                                                                                                 
|
| |  | Agreements with consultants, vendors and partners will be
	cancelled or renegotiated in order to minimize cash expenditures
	through the issuance of the Companys equity securities and
	through a reduction or elimination of services.                    
|
| |  | Other various reductions in discretionary costs.                                                                                                                                                                                                             

Subsequent to these changes, management believes that its
staffing and resources will be sufficient to carry out its
business plan for the foreseeable future.

Even after the above cost cutting initiatives are implemented,
the Company will still be required to obtain outside financing
to supplement the Companys cash position. Potential
sources of additional financing include private equity
offerings, strategic investments, strategic partnerships and
various forms of debt financing. The Companys management
believes that the combination of cash on hand, cash flows from
operations, and outside funding will provide sufficient
liquidity to meet the Companys ongoing cash requirements,
based both on its historical ability to raise capital and on
debt and equity financings currently available to the Company.
However, there can be no assurance that the Company can or will
obtain sufficient funds from operations or from closing
additional financings on terms acceptable to the Company.

In March 2002, the Company raised $9,000,000 in cash through
sales of its common stock to institutional investors.

4. Property and Equipment

Property and equipment consist of the following:

|                                               |  |              |            |      |  |   |            |  
|---------------------------------------------- |  | ------------ | ---------- | ---- |  | - | ---------- | -
|                                               |  |             
|                                               |  | December 31,
|                                               |  |             
|                                               |  | 2001         |            | 2002
|                                               |  |              |            |     
|Furniture and fixtures                         |  | $            | 363,499    |      |  | $ | 285,444    |  
|                                              
|                                              
|                                              
|                                              
|Equipment                                      |  |              | 1,445,741  |      |  |   | 1,192,134  |  
|                                              
|                                              
|                                              
|                                              
|Leasehold improvements                         |  |              | 288,467    |      |  |   | 256,232    |  
|                                              
|                                              
|                                              
|                                              
|Demonstration units                            |  |              | 2,092,285  |      |  |   | 1,417,509  |  
|                                               |  |              |            |      |  |   |            |  
|                                               |  |              | 4,189,992  |      |  |   | 3,151,319  |  
|                                              
|                                              
|                                              
|                                              
|Less accumulated depreciation and amortization |  |              | (3,106,581 | )    |  |   | (2,309,444 | )
|                                               |  |              |            |      |  |   |            |  
|                                               |  | $            | 1,083,411  |      |  | $ | 841,875    |  
|                                               |  |              |            |      |  |   |            |  

F-13



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



4. Property and Equipment, continued:


Depreciation expense for the years ended December 31, 2001,
2000, and 1999 was $914,288, $776,133 and $759,332,
respectively. XSI had purchased condominium units which were
sold during 1999 for gross proceeds of $644,340 resulting in a
loss of $20,990. Included in property at December 31, 2001
and 2000, is computer equipment purchased by XSI under capital
lease of $27,190 less accumulated depreciation of $11,106 and
$2,043, respectively.

5. Accrued Expenses

Accrued expenses consist of the following:

|                                                  |  |              |           |      |  |   |           | 
|------------------------------------------------- |  | ------------ | --------- | ---- |  | - | --------- | 
|                                                  |  |             
|                                                  |  | December 31,
|                                                  |  |             
|                                                  |  | 2001         |           | 2000
|                                                  |  |              |           |     
|Salaries, benefits and vacation                   |  | $            | 1,141,854 |      |  | $ | 861,417   | 
|                                                 
|                                                 
|                                                 
|                                                 
|Expected losses on inventory purchase commitments |  |              | 885,020   |      |  |   |          | 
|                                                 
|                                                 
|                                                 
|                                                 
|Professional fees                                 |  |              | 454,073   |      |  |   | 254,739   | 
|                                                 
|                                                 
|                                                 
|                                                 
|Warranty reserve                                  |  |              | 86,915    |      |  |   | 99,368    | 
|                                                 
|                                                 
|                                                 
|                                                 
|Other                                             |  |              | 375,981   |      |  |   | 838,835   | 
|                                                  |  |              |           |      |  |   |           | 
|                                                  |  | $            | 2,943,843 |      |  | $ | 2,054,359 | 
|                                                  |  |              |           |      |  |   |           | 

The expected losses on inventory purchase commitments reflects
managements estimate of losses to be incurred on shipments
of the initial production run of the poma product line.
The Company elected to sell the poma systems at prices
that are less than their initial production costs to better
position the poma in the price-sensitive light commercial
and near-consumer markets. Although the poma inventory
had not been received by the Company as of December 31,
2001, the Company recorded the expected losses during 2001,
which was the period in which the underlying contacts were
entered into. Because the inventory had not been received by the
company as of December 31, 2001, and is therefore not
recorded as an asset, this charge was recorded as an accrued
liability which will be reduced as poma inventory
shipments are received during 2002.

Other accruals consist of amounts related to expenses incurred
in the normal course of business, such as employee travel costs,
sales and other taxes, and royalty costs for software sales.

6. Borrowings

In January 2000, the Company borrowed $3,025,000 from several
lenders pursuant to promissory notes that required the Company
to repay the borrowings by January 2001 unless repaid earlier
upon a public or private placement of common stock in excess of
$10,000,000. Interest on the notes accrued at 10% per annum. In
connection with these borrowings, the Company issued warrants to
purchase 302,500 shares of unregistered common stock at $0.10
per share. Based on the relative fair values of the securities
issued, these warrants were assigned a value of $921,452, which
was recorded as a note discount that was amortized into interest
expense over the lives of the notes. In November and December
2000, the principal and unpaid interest were repaid upon
completion by the Company of a private placement of common
stock. Upon repayment, the remaining note discount balances were
expensed as interest expense.

In June 2000, XSI entered into three capital leases for computer
equipment totaling $27,190. The leases have interest rates
between 14.0% to 19.5% and mature in three years. At
December 31, 2001, the capital lease obligation was
$17,717. During 2001 and 2000, the Company incurred interest
expense of $835 and $1,057, respectively, related to these
capital leases.

In July 2000, the Company entered into a six-month $1,400,000
term loan with IBM Global Finance (the 2000 IBM
Facility), the terms of which were similar to a facility
the Company entered into with IBM during 1999. The borrowing was
secured by certain of the Companys equipment, inventory
and accounts

F-14



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



6. Borrowings, continued:


receivable balances. The borrowing accrued interest at the prime
rate plus 1.5% and was repaid in three equal installments in
September and November 2000 and January 2001. During 2001 and
2000, the Company incurred interest expense of $2,377 and
$48,431, respectively, related to the 2000 IBM Facility.

In December 2001, the Company entered into a new revolving
credit facility with IBM Global Finance (the 2001 IBM
Revolver). The 2001 IBM Revolver provides for up to
$3,000,000 in borrowings based on the Companys base of
eligible U.S. receivables and inventory. Interest on the
facility accrues at the prime rate plus 2.0% per annum. The
borrowing is secured by the Companys U.S. assets,
excluding patents and intellectual property. The 2001 IBM
Revolver includes customary financial covenants and other
restrictions, including the requirement that the Company obtain
a $1,000,000 irrevocable letter of credit (the Letter of
Credit) to secure this facility. The Company believes that
it will have to post cash collateral in an equal amount to
obtain the Letter of Credit. At December 31, 2001, the
Company had not made any borrowings under the 2001 IBM Revolver.
Subject to the satisfaction of the various requirements of the
facility, the Company expects to draw down on the 2001 IBM
Revolver during 2002.

7. Stockholders Equity

Common Stock

During 1999, the Company issued 2,008,229 shares of its common
stock through four separate private placements for net cash
proceeds of $4,741,560 and for use as consideration for the
repayment of $1,250,000 in notes payable. The Company also
issued warrants to purchase 200,000 shares of its common stock
for between $5.50 and $6.00 per share related to these private
placements.

During 2000, the Company received net cash proceeds of
$22,992,004 through the issuance of 7,773,359 shares of its
common stock through four separate private placements. The
Company also issued warrants to purchase 3,312,437 shares of its
common stock for between $4.33 and $10.00 per share related to
these private placements.

During April and May 2001, the Company received net proceeds of
$10,192,469 through the private placement of 5,238,094 shares of
its common stock to several investors. In connection with this
private placement, the Company issued warrants to purchase
1,616,427 shares of its common stock at an exercise price of
$5.00 per share and paid $350,000 in finders fees.

On July 31, 2001, the Company received gross proceeds of
$4,000,000 through a private placement of 1,324,503 shares of
its common stock. In connection with this private placement, the
Company issued callable warrants to purchase 331,126 shares of
its common stock at an exercise price of $4.53 per share. The
Company also paid $120,000 in cash and issued callable warrants
to purchase 39,735 shares of common stock with the same terms to
a financial advisor.

On November 15, 2001, the Company received gross proceeds
of $9,250,000 through the private placement of 5,441,175 shares
of its common stock. In connection with this private placement,
the Company issued callable warrants to purchase 1,360,294
shares of its common stock at an exercise price of $2.55 per
share. The Company also paid $266,131 in cash and issued
callable warrants to purchase 61,765 shares of common stock with
the same terms to a financial advisor and a finder.

The Company has issued equity securities to certain employees,
consultants and companies for services provided to the Company.
These securities include shares of common stock and warrants and
options to purchase shares of common stock. These transactions
were individually valued based upon the fair value of the
securities issued or the services provided, whichever was more
reliably measured. The Company recorded expenses associated with
these services of $606,406, $1,312,630 and $223,547 during 2001,
2000 and 1999, respectively. At December 31, 2001, an
additional $253,958 was recorded as prepaid expenses that will be

F-15



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



7. Stockholders Equity, continued:


amortized during 2002 over the remaining lives of the underlying
service agreements. Also during 2001 and 2000, equity securities
were issued in settlement of accounts payable of $337,666 and
$202,888, respectively, with certain vendors.

Employees and consultants of the Company have exercised stock
options that had been issued pursuant to the Companys
various stock incentive plans. During 2001, 2000 and 1999, the
Company issued 57,097, 662,724 and 1,854 shares, respectively,
of its common stock and received gross proceeds of $135,659,
$1,547,011 and $5,400, respectively, related to these exercises.

The Company issues warrants to purchase shares of its common
stock, primarily in connection with the Companys
financings and borrowings. The Company received gross proceeds
of $3,773,405, $8,274,975 and $1,838,513 through the issuance of
1,881,470, 2,077,700 and 1,545,000 shares of its common stock
during 2001, 2000 and 1999, respectively, through the exercise
of certain of these warrants. At December 31, 2001, the
Company had warrants outstanding to purchase 5,542,814 shares of
its common stock at prices that range from $2.25 to $18.00 per
share, with a weighted average of $4.06 per share.

As a condition to the Companys IPO, certain stockholders
were required to escrow 1,800,000 shares of their personal
common stock holdings in the Company (the Escrowed
Shares). The Escrowed Shares were to be returned to the
stockholders over a three-year period in the event the
Companys revenues and earnings per share for the 12-month
periods ending September 30, 1997, 1998 and 1999 exceeded
certain targets or if the Companys stock price exceeded a
certain per share target price. The Company did not meet the
targets for escrow release. As a result, on September 30,
1997, 1998 and 1999, 300,000, 750,000 and 750,000 shares,
respectively, were released from escrow and canceled by the
Company, resulting in a reduction of the Companys
outstanding shares of common stock on these dates of 2.1%, 3.6%
and 3.1%, respectively. These shares were not included in the
loss per share calculations, so the cancellation of these shares
did not affect the reported losses per share.

Preferred Stock

From 1997 through 1999, the Company issued certain series of
convertible preferred stock. The preferred stock issuances
generally accrued interest at 5.0% per year. At
December 31, 2000, all shares of the Companys
convertible preferred stock had been converted into shares of
its common stock and no preferred stock has been issued since
that time.

During 1998, the Company issued 375 shares of Series C
Preferred Stock for gross proceeds of $375,000. As of
December 31, 1999, all of the Series C Preferred Stock
principal and interest had been converted into 165,230 shares of
common stock. During 1999, the Company issued 10,500 shares of
Series D Preferred Stock for gross proceeds of $10,000,000.
As of December 31, 2000, all of the Series D Preferred
Stock principal and interest had been converted into 8,204,596
shares of common stock. During 1999, the Company issued 2,100
shares of Series E Preferred Stock for gross proceeds of
$2,000,000. As of December 31, 2000, all of the Series E
Preferred Stock principal and interest had been converted into
1,655,714 shares of common stock.

The Companys preferred stock issues have included
nondetachable conversion features that were considered to be in
the money at the date of issuance, representing a beneficial
conversion feature. The value of the beneficial conversion was
recognized as a return to the preferred stockholders over the
minimum period in which the preferred stockholders could realize
the maximum beneficial conversion. As of December 31, 1999,
the value of the beneficial conversion features had been fully
accreted against additional paid-in capital.

F-16



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

8. Stock Options

On April 18, 1996, the Board of Directors approved,
effective January 1, 1996, the Companys 1996 Omnibus
Stock Incentive Plan (the 1996 Plan). The
Companys 1997, 1999 and 2000 Stock Incentive Plans (the
1997, 1999 and 2000 Plans,
respectively) were approved at the annual meetings of
stockholders held during these respective years.

Effective June 12, 1990, XSIs Board of Directors
approved the XSI Stock Option Plan. In 1999 and 2000, prior
to the Merger of XSI and Xybernaut, all outstanding options were
exercised into XSI common stock for proceeds of $58,897 and
subsequently converted into 29,000 shares of the Companys
common stock pursuant to the terms of the Merger agreements.

Under these plans, the Company may grant incentive stock
options, non-qualified stock options, stock appreciation rights
and shares of common stock to officers, directors, employees and
others. Under the terms of these plans, no stock option may be
granted at less than the fair market value of the Companys
common stock on the date of grant. Stock options granted to
employees are generally exercisable in five equal annual
installments beginning one year after the date of grant. Stock
options granted to officers and directors are generally
exercisable immediately.

The 1996 Plan, the 1997 Plan, the 1999 Plan and the 2000 Plan
authorize the issuance of 650,000, 1,650,000, 3,000,000 and
3,000,000 shares of the Companys common stock,
respectively. At December 31, 2001, 533,011, 1,321,224,
2,816,010, and 2,174,587 of the shares authorized under the 1996
Plan, the 1997 Plan, the 1999 Plan and the 2000 Plan,
respectively, were outstanding.

The following table summarizes information on the Companys
stock options:

|                  |  |             |           |               |  |             |      |               |  |           |           |               |  |   |      |  |  |  |           |   |  |   |      | 
|----------------- |  | ----------- | --------- | ------------- |  | ----------- | ---- | ------------- |  | --------- | --------- | ------------- |  | - | ---- |  |  |  | --------- | - |  | - | ---- | 
|                  |  |             |           |               |  |            
|                  |  | Fiscal 2001 |           | Fiscal 2000   |  | Fiscal 1999
|                  |  |             |           |               |  |            
|                  |  |             |           | Weighted      |  |             |      | Weighted      |  |           |           | Weighted     
|                  |  | Number of   |           | Average Price |  | Number of   |      | Average Price |  | Number of |           | Average Price
|                  |  | Shares      |           | per Share     |  | Shares      |      | per Share     |  | Shares    |           | per Share    
|                  |  |             |           |               |  |             |      |               |  |           |           |              
|Beginning balance |  |             | 4,850,752 |               |  | $           | 4.39 |               |  |           | 4,761,311 |               |  | $ | 3.17 |  |  |  | 1,795,000 |   |  | $ | 3.59 | 
|                 
|                 
|                 
|                 
|Granted           |  |             | 2,674,819 |               |  | $           | 3.29 |               |  |           | 1,208,600 |               |  | $ | 8.08 |  |  |  | 3,309,278 |   |  | $ | 3.06 | 
|                 
|                 
|                 
|                 
|Exercised         |  |             | (57,097   | )             |  | $           | 2.44 |               |  |           | (662,724  | )             |  | $ | 2.49 |  |  |  | (1,800    | ) |  | $ | 3.00 | 
|                 
|                 
|                 
|                 
|Cancelled         |  |             | (623,642  | )             |  | $           | 5.46 |               |  |           | (456,435  | )             |  | $ | 4.02 |  |  |  | (341,167  | ) |  | $ | 4.54 | 
|                  |  |             |           |               |  |             |      |               |  |           |           |               |  |   |      |  |  |  |           |   |  |   |      | 
|Ending balance    |  |             | 6,844,832 |               |  | $           | 3.88 |               |  |           | 4,850,752 |               |  | $ | 4.39 |  |  |  | 4,761,311 |   |  | $ | 3.17 | 
|                  |  |             |           |               |  |             |      |               |  |           |           |               |  |   |      |  |  |  |           |   |  |   |      | 

The following table summarizes information about fixed stock
options outstanding at December 31, 2001:

|             |  |                     |           |                  |  |                  |      |                     |  |                  |      |  |  |  |           |  |  |   |      | 
|------------ |  | ------------------- | --------- | ---------------- |  | ---------------- | ---- | ------------------- |  | ---------------- | ---- |  |  |  | --------- |  |  | - | ---- | 
|             |  |                     |           |                  |  |                  |      |                    
|             |  | Options Outstanding |           |                  |  |                  |      |                    
|             |  |                     |           |                  |  |                 
|             |  |                     |           | Weighted Average |  |                  |      | Options Exercisable
|Range of     |  |                     |           | Remaining        |  |                  |      |                    
|Exercise     |  | Number              |           | Contractual Life |  | Weighted Average |      | Number              |  | Weighted Average
|Prices       |  | Outstanding         |           | (Yrs)            |  | Exercise Price   |      | Exercisable         |  | Exercise Price  
|             |  |                     |           |                  |  |                  |      |                     |  |                 
|            
|            
|            
|            
|$1.21-$1.66  |  |                     | 1,043,473 |                  |  |                  | 7.70 |                     |  | $                | 1.46 |  |  |  | 938,273   |  |  | $ | 1.45 | 
|            
|            
|            
|            
|$1.67-$3.32  |  |                     | 2,549,660 |                  |  |                  | 8.10 |                     |  | $                | 2.40 |  |  |  | 1,492,960 |  |  | $ | 2.44 | 
|            
|            
|            
|            
|$3.33-$4.97  |  |                     | 1,768,450 |                  |  |                  | 8.10 |                     |  | $                | 4.15 |  |  |  | 1,050,850 |  |  | $ | 4.30 | 
|            
|            
|            
|            
|$4.98-$23.75 |  |                     | 1,483,250 |                  |  |                  | 8.00 |                     |  | $                | 7.79 |  |  |  | 720,916   |  |  | $ | 6.84 | 
|             |  |                     |           |                  |  |                  |      |                     |  |                  |      |  |  |  |           |  |  |   |      | 
|             |  |                     | 6,844,833 |                  |  |                  | 8.00 |                     |  | $                | 3.88 |  |  |  | 4,202,999 |  |  | $ | 3.44 | 
|             |  |                     |           |                  |  |                  |      |                     |  |                  |      |  |  |  |           |  |  |   |      | 

The Company complies with the disclosure-only provisions of SFAS
No. 123, Accounting for Stock Based
Compensation. In accordance with the provisions of
SFAS 123, the Company applies APB Opinion No. 25 and
related interpretations in accounting for its plans and,
accordingly, does not recognize compensation expense. Had
compensation expense for the Companys plan been determined
based on the fair value at

F-17



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



8. Stock Options, continued:


the grant date for plan awards consistent with the provisions of
SFAS 123, the Companys net loss and net loss per
common and common equivalent shares outstanding would have been
the pro forma amounts indicated below:

|                                 |  |                         |             |      |  |      |             |   |  |   |             |  
|-------------------------------- |  | ----------------------- | ----------- | ---- |  | ---- | ----------- | - |  | - | ----------- | -
|                                 |  |                        
|                                 |  | Year Ended December 31,
|                                 |  |                        
|                                 |  | 2001                    |             | 2000 |  | 1999
|                                 |  |                         |             |      |  |     
|Net loss  as reported           |  | $                       | (32,199,579 | )    |  | $    | (24,185,222 | ) |  | $ | (16,697,413 | )
|                                
|                                
|                                
|                                
|Net loss  pro forma             |  | $                       | (38,765,245 | )    |  | $    | (29,300,074 | ) |  | $ | (18,725,068 | )
|                                
|                                
|                                
|                                
|Net loss per share  as reported |  | $                       | (0.63       | )    |  | $    | (0.63       | ) |  | $ | (0.76       | )
|                                
|                                
|                                
|                                
|Net loss per share  pro forma   |  | $                       | (0.76       | )    |  | $    | (0.76       | ) |  | $ | (0.77       | )

The weighted-average fair values of each option at the date of
grant for 2001, 2000 and 1999 were $2.36, $6.40 and $1.53,
respectively, and were estimated on the date of grant using the
Black-Scholes option-pricing model with the following
weighted-average assumptions used in 2001, 2000 and 1999:
dividend yield of 0%; expected volatility of 115% in 2001, 139%
in 2000 and 70% in 1999; risk-free interest rate of 4.09% in
2001, 6.22% in 2000 and 5.49% in 1999; and expected lives of
3 years.

9. Segment and Enterprise Wide Reporting

During 1999, the Company adopted SFAS No. 131,
Disclosures About Segments of an Enterprise and Related
Information. SFAS 131 requires the disclosure of
certain financial and supplementary information of each
reportable segment of an enterprise. SFAS 131 also
establishes standards for related disclosures about products and
services, geographic areas and major customers. Operating
segments are defined as components of an enterprise about which
separate discrete financial information is evaluated regularly
by the chief operating decision maker or decision making group,
in deciding how to allocate resources and assess performance.
The financial information disclosed herein materially presents
all of the financial information related to the Companys
principal operating segments as a provider of wearable computing
and communications systems and software and service solutions.

The Company established subsidiaries in both Germany and Japan
in January 1999. Revenues by geographical destination as a
percentage of total revenues for the year ended
December 31, 2001, 2000, and 1999 are as follows:

|                            |  |      |    |      |  |      |    |   |  |  |    |  
|--------------------------- |  | ---- | -- | ---- |  | ---- | -- | - |  |  | -- | -
|                            |  | 2001 |    | 2000 |  | 1999
|                            |  |      |    |      |  |     
|United States               |  |      | 72 | %    |  |      | 75 | % |  |  | 85 | %
|                           
|                           
|                           
|                           
|Europe, principally Germany |  |      | 22 | %    |  |      | 17 | % |  |  | 7  | %
|                           
|                           
|                           
|                           
|Asia, principally Japan     |  |      | 6  | %    |  |      | 8  | % |  |  | 8  | %

F-18



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



9. Segment and Enterprise Wide Reporting, continued:


Operations in various geographical areas are summarized as
follows:

|               |                     |                                            |   |            |  |      |   |            |  |  |   |            | 
|-------------- | ------------------- | ------------------------------------------ | - | ---------- |  | ---- | - | ---------- |  |  | - | ---------- | 
|               |                     |                                           
|               |                     | As of and for the years ended December 31,
|               |                     |                                           
|               |                     | 2001                                       |   | 2000       |  | 1999
|               |                     |                                            |   |            |  |     
|North America: |                     |                                            |   |            |  |      |   |            |  |  |   |           
|              
|              
|              
|              
|               | Total revenue       |                                            | $ | 7,100,445  |  |      | $ | 7,176,117  |  |  | $ | 7,097,560  | 
|              
|              
|              
|              
|               | Net loss            |                                            |   | 25,858,000 |  |      |   | 21,050,549 |  |  |   | 14,404,609 | 
|              
|              
|              
|              
|               | Identifiable assets |                                            |   | 13,753,301 |  |      |   | 16,622,010 |  |  |   | 8,682,778  | 
|              
|              
|              
|              
|Europe:        |                     |                                            |   |            |  |      |   |            |  |  |   |           
|              
|              
|              
|              
|               | Total Revenue       |                                            | $ | 2,164,674  |  |      | $ | 1,599,861  |  |  | $ | 591,314    | 
|              
|              
|              
|              
|               | Net loss (1)        |                                            |   | 4,458,126  |  |      |   | 1,602,518  |  |  |   | 1,203,968  | 
|              
|              
|              
|              
|               | Identifiable assets |                                            |   | 3,278,857  |  |      |   | 1,585,115  |  |  |   | 300,422    | 
|              
|              
|              
|              
|Asia:          |                     |                                            |   |            |  |      |   |            |  |  |   |           
|              
|              
|              
|              
|               | Total revenue       |                                            | $ | 554,874    |  |      | $ | 728,913    |  |  | $ | 663,900    | 
|              
|              
|              
|              
|               | Net loss            |                                            |   | 1,883,453  |  |      |   | 1,532,155  |  |  |   | 1,088,836  | 
|              
|              
|              
|              
|               | Identifiable assets |                                            |   | 658,868    |  |      |   | 2,035,557  |  |  |   | 3,887,479  | 



---



|    |                                                                                                                                                                                                                       
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Included in the Companys operations in Europe are
	$1,738,676, $511,596 and $0, respectively, in expenses related
	to research and development activities conducted by a branch of
	the Company operating in Germany.

The following table summarizes the number of customers that
individually comprise greater than 10% of total revenue or total
accounts receivable and their aggregate percentage of the
Companys total revenue or total accounts receivable.

|                     |                                      |                        |  |      |   |      |  |    |   |  |  |    |  
|-------------------- | ------------------------------------ | ---------------------- |  | ---- | - | ---- |  | -- | - |  |  | -- | -
|                     |                                      |                       
|                     |                                      | As of and for the year
|                     |                                      | ended December 31,    
|                     |                                      |                       
|                     |                                      | 2001                   |  | 2000 |   | 1999
|                     |                                      |                        |  |      |   |     
|Revenue:             |                                      |                        |  |      |   |      |  |    |   |  |  |   
|                    
|                    
|                    
|                    
|                     | Number of Customers                  |                        |  | 2    |   |      |  | 1  |   |  |  | 1  |  
|                    
|                    
|                    
|                    
|                     | Percent of Total Revenue             |                        |  | 30   | % |      |  | 11 | % |  |  | 12 | %
|                    
|                    
|                    
|                    
|Accounts Receivable: |                                      |                        |  |      |   |      |  |    |   |  |  |   
|                    
|                    
|                    
|                    
|                     | Number of Customers                  |                        |  | 3    |   |      |  | 3  |   |  |  |   |  
|                    
|                    
|                    
|                    
|                     | Percent of Total Accounts Receivable |                        |  | 56   | % |      |  | 64 | % |  |  | 0  | %

For the years ended, December 31, 2001, 2000 and 1999,
revenue from the following customers comprised greater than 10%
of total revenue: the State of Tennessee Department of
Transportation (DOT) and Europart KG; Cambridge
Technologies Partners (MA), Inc; and Minnesota DOT,
respectively. As of December 31, 2001 and 2000, the
following customers accounts receivable balance comprised
greater than 10% of total accounts receivable: IBM, the State of
Tennessee DOT and Europart KG; Federal Express, the State of
Tennessee DOT and Europart KG, respectively.

The Company has contracted with IBM to design, develop and
manufacture certain components of the MA V product line,
including the computer portion and flat panel displays. The
Company has also entered into an agreement with IBM in which IBM
purchases MA V products from the Company and markets and
sells the systems to its own customers. During 2001 and 2000,
the Company paid $4,148,523 and $2,406,020, respectively, to IBM
related to design and development services and inventory
purchases. During 2001, the Company recorded revenues of
$532,675 related to sales of MA V products to IBM. The
Companys management believes that the agreements and
contracts underlying both the design, development and

F-19



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



9. Segment and Enterprise Wide Reporting, continued:


manufacture of the MA V product line and the sale of
MA V products to IBM contain arms-length terms and
conditions.

Certain of the end-users of the Companys wearable computer
products are universities and other not-for-profit agencies
(collectively, the End-Users) that purchase these
products from a Value Added Reseller (the VAR) of
Xybernaut GmbH. The Company also contracts with certain of the
End-Users to provide research and development and sales and
marketing services to the Company. The research and development
services provided to the Company include activities such as
hardware and software development, product testing and
evaluation. The sales and marketing services include activities
such as Company participation in and sponsorship of industry
trade shows, the preparation of competitive market analysis and
the use of the End-Users as named reference accounts. During
2001, 2000 and 1999, the Company recorded revenues of
approximately $1,700,000, $750,000 and $0, respectively, related
to sales of its products to the VAR which were ultimately sold
to the End-Users. During 2001, 2000 and 1999, the Company
recorded total research and development and sales and marketing
expenses of $1,550,000, $50,000 and $0, respectively, related to
services performed by the End-Users. The Companys
management believes that the agreements and contracts underlying
both the sale of the products and the performance of the
services contain arms-length terms and conditions.

10. Income Taxes

For the years ended December 31, 2001, 2000 and 1999, no
income tax benefit has been provided because the losses could
not be carried back and realization of the benefit of the net
operating losses carried forward was not assured. In 2001, 2000
and 1999, the Company recognized approximately $34,000, $46,000
and $29,000, respectively, in income tax expense related to
foreign operations.

At December 31, 2001, the Company had approximately
$94,000,000 and $3,800,000 of net operating loss carryforwards
for U.S. federal and foreign income tax purposes, respectively.
The U.S. losses begin to expire in 2010 and the losses from
foreign operations do not expire. The use of the U.S.
carryforwards may be limited in any one year under Internal
Revenue Code Section 382 if significant ownership changes
occur.

Net deferred tax assets are comprised of the following:

|                                          |  |                          |             |      |  |      |             |   |  |   |             |  
|----------------------------------------- |  | ------------------------ | ----------- | ---- |  | ---- | ----------- | - |  | - | ----------- | -
|                                          |  |                         
|                                          |  | Years Ended December 31,
|                                          |  |                         
|                                          |  | 2001                     |             | 2000 |  | 1999
|                                          |  |                          |             |      |  |     
|Excess of book over tax depreciation      |  | $                        | 432,000     |      |  | $    | 257,000     |   |  | $ | 214,000     |  
|                                         
|                                         
|                                         
|                                         
|Net operating loss carryforwards          |  |                          | 37,469,000  |      |  |      | 26,590,000  |   |  |   | 16,575,000  |  
|                                         
|                                         
|                                         
|                                         
|Adjustment to accrual basis of accounting |  |                          |            |      |  |      | 74,000      |   |  |   | 148,000     |  
|                                         
|                                         
|                                         
|                                         
|Accrued expenses and reserves             |  |                          | 382,000     |      |  |      | 623,000     |   |  |   | 280,000     |  
|                                         
|                                         
|                                         
|                                         
|Tax credit carryforwards                  |  |                          | 63,000      |      |  |      | 63,000      |   |  |   | 63,000      |  
|                                         
|                                         
|                                         
|                                         
|Foreign tax credits                       |  |                          |            |      |  |      |            |   |  |   | 28,000      |  
|                                         
|                                         
|                                         
|                                         
|Foreign net operating loss carryforwards  |  |                          | 1,704,000   |      |  |      | 884,000     |   |  |   | 510,000     |  
|                                         
|                                         
|                                         
|                                         
|Foreign other                             |  |                          | 21,000      |      |  |      | 4,000       |   |  |   | 9,000       |  
|                                         
|                                         
|                                         
|                                         
|Less valuation allowance                  |  |                          | (40,071,000 | )    |  |      | (28,495,000 | ) |  |   | (17,827,000 | )
|                                          |  |                          |             |      |  |      |             |   |  |   |             |  
|Net deferred tax asset                    |  |                          |            |      |  |      |            |   |  |   |            |  
|                                          |  |                          |             |      |  |      |             |   |  |   |             |  

F-20



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



10. Income Taxes, continued:


The following table is a reconciliation of the effective income
tax rate at December 31, 2001:

|                                  |  |        |             |         |  |  |        |   
|--------------------------------- |  | ------ | ----------- | ------- |  |  | ------ | --
|                                  |  | Amount |             | Percent
|                                  |  |        |             |        
|Pretax book income (loss)         |  | $      | (31,577,061 | )       |  |  |       |   
|                                  |  |        |             |         |  |  |        |   
|Federal, U.S. statutory rate      |  |        | (10,736,000 | )       |  |  | (34.00 | %)
|                                 
|                                 
|                                 
|                                 
|State, net of federal tax benefit |  |        | (1,242,000  | )       |  |  | (3.93  | %)
|                                 
|                                 
|                                 
|                                 
|Valuation allowance               |  |        | 11,402,000  |         |  |  | 36.11  | % 
|                                 
|                                 
|                                 
|                                 
|Stock Options Exercised           |  |        | (182,000    | )       |  |  | 0.58   | % 
|                                 
|                                 
|                                 
|                                 
|Foreign                           |  |        | 26,000      |         |  |  | 0.08   | % 
|                                 
|                                 
|                                 
|                                 
|Other                             |  |        | 402,000     |         |  |  | 1.27   | % 

11. Commitments and Contingencies

Lease Commitments

The Company leases operating facilities and equipment under
operating leases expiring on various dates through 2006. Future
minimum payments under noncancelable operating leases at
December 31, 2001 are:

|                         |  |   |           | 
|------------------------ |  | - | --------- | 
|Year Ending December 31, |  |  
|                         |  |  
|2002                     |  | $ | 786,249   | 
|                        
|                        
|                        
|                        
|2003                     |  |   | 604,944   | 
|                        
|                        
|                        
|                        
|2004                     |  |   | 172,449   | 
|                        
|                        
|                        
|                        
|2005                     |  |   | 155,852   | 
|                        
|                        
|                        
|                        
|2006                     |  |   | 160,528   | 
|                         |  |   |           | 
|                         |  | $ | 1,871,216 | 
|                         |  |   |           | 

Total rental expense charged to operations for the years ended
December 31, 2001, 2000 and 1999 was $778,108, $680,674 and
$492,829, respectively.

Inventory Commitments

At December 31, 2001, the Company had commitments to
purchase inventory, tooling and engineering and other services
from its suppliers and manufacturers related to its current
hardware product lines. The Company is currently obligated to
purchase certain components of the MA V system from IBM,
including approximately 24,000 computing units (the
MA V CPUs). The MA V CPUs are scheduled
for purchase over an 15 month period following final
acceptance by the Company, which acceptance is determined by a
number of criteria including receipt of comprehensive product
documentation and other defined deliverables. All criteria for
acceptance had not been met at the time of this filing, but the
Company expects that all criteria will likely be met in the
first half of 2002. Subsequent to acceptance, the Company may
cancel its purchase commitment by paying a cancellation fee in
an amount not to exceed approximately $4,000,000 and that
decreases in proportion to the number of MA V CPUs
purchased over the contract period. The Company is currently in
discussions with IBM to defer a portion of these commitments to
future generations of the MA series and other services, which
would extend the timing required for the Company to meet these
commitments. However, there can be no assurance that the Company
will be successful in renegotiating this commitment. In addition
to the obligation related to the MA V CPUs, the Company has
commitments to purchase computing units, flat panel and head
mounted displays, miscellaneous computing components as well as
engineering and other services from its various vendors related
to the MA V, poma, MA TC and future product
lines.

F-21



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

11. Commitments and Contingencies, continued:

The Company believes that the timing and amount of many of these
shipments, services and payments may be adjusted through the
payment of cancellation fees, contract negotiations or the
satisfaction of obligations through the issuance of the
Companys equity securities. However, there can be no
assurance that the Company can successfully modify these
contracts or commitments. Excluding the potential impact of
contract modifications, the Company estimates that it will make
payments of $10,000,000 during 2002 related to inventory
commitments for the current product lines under which the
Company was obligated as of December 31, 2001. The Company
estimates that it will make additional payments totaling
$7,000,000 during 2002 and $26,000,000 during 2003 related to
inventory commitments for the current product lines under which
the Company anticipates it will obligate itself in order to
execute its business plan for 2002 and otherwise complete its
current commitments. Included in the 2003 amount is the final
purchase of the MA V CPUs. The Company expects that it will
enter into similar inventory and engineering commitments in the
future as it designs, develops and procures future wearable
computer product lines.

Legal Proceedings

The Company is involved in routine legal and administrative
proceedings and claims of various types. While any such
proceeding or claim contains an element of uncertainty,
management does not expect that they will have a material
adverse effect on the Companys results of operations or
financial position.

12. Related Party Transactions

The Company uses a member of its Board of Directors as its
patent counsel. The Company had expenditures of $421,333,
$174,468 and $239,598 during 2001, 2000 and 1999, respectively,
in legal services payable to this Director. These amounts
represent gross payments made by the Company and the counsel is
responsible for all overhead, professional, administrative and
other expenditures incurred by his law firm. The law firm bills
the Company in accordance with its established standard billing
rates used in the past with its other clients. During 2001, the
Company represented the law firms only significant client.
The Director also serves as the Companys processing agent
for payments made to various other domestic and international
law firms and agencies used to file and maintain patents and
trademarks. The director is paid only the amount that is passed
through to these other law firms and agencies and pays
administrative services related to these services. The Company
made payments of $485,827, $266,026 and $224,377 during 2001,
2000 and 1999, respectively, to this Directors law firm
related to services rendered by the Directors law firm as
the Companys processing agent for all foreign patent and
trademark filing and prosecution expenses. The Companys
management believes that the relationship with this law firm is
based on arms-length terms and conditions.

The Company uses a law firm, in which an officer and member of
its Board of Directors is a partner, for services related to
financings, litigation, SEC filings and other general legal
matters. The Company had expenditures of $392,524, $446,320 and
$663,075 during 2001, 2000 and 1999, respectively, in legal
services payable to this law firm.

In 1999, the Company used a law firm, in which a former member
of its Board of Directors was a partner, for services related to
litigation and other general legal matters. The Company had
expenditures of $218,687 during 1999 in legal services payable
to this law firm.

Two of the Companys executive officers were members of the
board of directors of a former customer that purchased software
products and consulting services from the Company. During 2001,
this customer was forced to cease operations when its largest
customer withheld payment for ongoing services. During 2001 and
2000, the Company recorded revenues on sales to this customer of
$29,603 and $573,955, respectively. As of December 31,
2000, the Company had a $259,566 accounts receivable balance
remaining from this customer.

F-22



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



12. Related Party Transactions, continued:


During 2001, the Company collected $259,333 from this customer
and wrote off the remaining $29,836 balance.

During 2000 and 1999, Xybernaut GmbH used a company to provide
configuration and technical support services and a separate
company to act as a distributor of the Companys hardware
products. The executive officers of these two companies are the
son and daughter-in-law of one of the Companys Senior Vice
Presidents and member of its Board of Directors. During 2001,
2000 and 1999, the Company incurred expenses related to the
technical support services totaling $0, $180,456 and $294,315,
respectively. During 2001, 2000 and 1999, the Company recognized
revenue related to distribution sales of its hardware products
totaling $0, $313,843 and $14,500, respectively. During 2000,
the Company terminated its relationship with these two companies
and established a reserve of $108,856 against the accounts
receivable balance owed by one of the companies. This balance
was written off in 2001.

During 2001 and 2000, the Company incurred expenses of $315,146
and $412,473, respectively, for salary and other compensation
payable to an Executive Vice President and the Vice Chairman of
the Board of Directors of the Company, who is the brother of the
Companys President, Chief Executive Officer and Chairman
of its Board of Directors. During 1999, the Company incurred
expenses of $211,621 for consulting services payable to this
person. During 2001, 2000 and 1999, the Company incurred
expenses of $354,491, $389,687 and $258,694, respectively, for
salary and other compensation payable to the Companys
President, Chief Executive Officer and Chairman of its Board of
Directors. During 2001, 2000 and 1999, the Company also incurred
expenses of $84,886, $74,110 and $63,490, respectively, for
salary and other compensation payable to the Vice President for
International Affairs, who is the wife of the Companys
President, Chief Executive Officer and Chairman of its Board of
Directors. The Company believes that the salary and benefits
paid to these employees is commensurate with that which would be
paid to other qualified candidates with similar skills and
experience. Further, the compensation committee of the
Companys Board of Directors reviews and approves the
salary and benefits provided to the Executive Vice President and
Vice Chairman of the Board of Directors and the President, Chief
Executive Officer and Chairman of its Board of Directors.

Periodically, the Company has borrowed from, or made loans to,
certain of its executive officers. During 1998, XSI loaned
$64,254 to various officers to fund the purchase of XSI common
stock. The notes accrued interest at 8.0% annually and required
quarterly payments of interest. The outstanding principal and
interest were repaid in full prior to the Merger of Xybernaut
and XSI in April 2000. On various dates during 1999, the Company
borrowed $583,000 from several officers of the Company for
general working capital purposes pursuant to non-interest
bearing promissory notes or agreements. All of these borrowings
had been repaid at December 31, 1999 except for $10,000,
which was repaid in February 2000.

Between November 2000 and February 2001, the Company loaned a
net balance of $940,188 to the Companys President, Chief
Executive Officer and Chairman of the Board of Directors. The
proceeds were used to prevent a forced sale of a portion of this
officers personal common stock holdings of the Company
that secured a margin loan from an investment bank. The loan was
made pursuant to a Promissory Note that is secured by shares of
the officers personal common stock holdings of the
Company. On December 31, 2001, the Companys Board of
Directors increased the number of shares securing the loan from
200,000 shares to 250,000 shares, extended the maturity date
from December 31, 2001 to December 31, 2002 and
reduced the interest rate from 8.0% to 6.0%, reflective of a
general decline in interest rates over this period. The
outstanding principal and interest owed to the Company under
this Promissory Note totaled $1,026,708 and $997,981 at
December 31, 2001 and 2000, respectively.

F-23



---



##### 



XYBERNAUT CORPORATION


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

13. Business Combination

On April 7, 2000, the Company acquired XSI, a provider of
enterprise management services and software for projects,
maintenance and work flow, for approximately $8,100,000 (the
Merger). Pursuant to the terms of the Merger, the
Company issued 429,327 shares of its common stock valued at an
effective price of $18.97 per share. The Merger was accounted
for as a pooling of interests. The terms of the Merger were
determined in arms-length negotiations between the Company and
XSI. A fairness opinion for the acquisition was provided to the
Companys board of directors by Merrill Lynch. This opinion
covered only the fairness of the exchange ratio for the Merger
from a financial point of view and did not address the merits of
the decision to merge with XSI or the financial impact of such
Merger. The former chairman and CEO of XSI served on
Xybernauts board of directors during 1996 and 1997 and
currently serves as an executive officer of Xybernaut.

Prior to the Merger, there were no material transactions between
Xybernaut and XSI. The Company incurred costs of $621,048
associated with the Merger. These expenses consist of $452,683
in direct costs, including fees for investment banking, legal,
and accounting services, and $168,365 in non-cash charges to
conform certain of XSIs accounting policies to those of
the Company.

The following information presents certain income statement data
of Xybernaut and XSI for the periods preceding the Merger:

|                   |           |                |            |                   |   |   |             |             |  
|------------------ | --------- | -------------- | ---------- | ----------------- | - | - | ----------- | ----------- | -
|                   |           | For the Three  |            | For the Twelve   
|                   |           | Months Ended   |            | Months Ended     
|                   |           | March 31, 2000 |            | December 31, 1999
|                   |           |                |            |                  
|Revenue:           |           |                |            |                   |   |   |             |            
|                  
|                  
|                  
|                  
|                   | Xybernaut |                | $          | 1,498,192         |   |   | $           | 3,340,272   |  
|                  
|                  
|                  
|                  
|                   | XSI       |                |            | 606,280           |   |   |             | 5,012,502   |  
|                   |           |                |            |                   |   |   |             |            
|                   |           | $              | 2,104,472  |                   |   | $ | 8,352,774   |            
|                   |           |                |            |                   |   |   |             |            
|Net Income/(Loss): |           |                |            |                   |   |   |             |            
|                  
|                  
|                  
|                  
|                   | Xybernaut |                | $          | (4,534,762        | ) |   | $           | (16,775,797 | )
|                  
|                  
|                  
|                  
|                   | XSI       |                |            | (240,643          | ) |   |             | 78,384      |  
|                   |           |                |            |                   |   |   |             |            
|                   |           | $              | (4,775,405 | )                 |   | $ | (16,697,413 | )          
|                   |           |                |            |                   |   |   |             |            

14. Subsequent Events

On January 1, 2002, the Company entered into an agreement
with a vendor to provide it with marketing services and certain
retail space at the Waldorf Astoria Hotel in New York City. The
agreement has an initial term of two years and will be extended
for an additional three year term unless either company chooses
to not extend the agreement. In connection with this agreement,
the Company issued 400,000 shares of stock and will pay $500,000
in each year of the initial two-year term.

In March 2002, the Company received gross proceeds of $9,000,000
through private placements of 5,625,000 shares of its common
stock, representing an approximate 20% discount to the closing
prices of the Companys common stock on the days preceding
the closings. In connection with these private placements, the
Company issued to the investors callable warrants to purchase
1,406,250 shares of its common stock at an exercise price of
$3.00 per share. The Company also paid $270,000 in cash to
financial advisors.

On March 6, 2002, the Company held a special
shareholders meeting, during which the stockholders
approved an increase in the number of authorized, but unissued,
shares of the Companys common stock from 80,000,000 to
200,000,000. There was no change in the number of issued shares
of the Companys common stock as a result of this meeting.

F-24



---



##### 



XYBERNAUT CORPORATION

SUPPLEMENTAL FINANCIAL INFORMATION

Quarterly Financial Data (Unaudited)

In managements opinion, the interim financial data below
reflects all adjustments necessary to fairly state the results
of the interim period presented. Included in the second quarter
of fiscal 2000 are non-recurring charges related to the Merger.
All other adjustments are of a normal recurring nature necessary
for a fair presentation of the information for the periods
presented. Results of any one or more quarters are not
necessarily indicative of annual results or continuing trends.

XYBERNAUT CORPORATION

Schedule I  Quarterly Consolidated Financial
Data

|                                       |  |                     |            |          |  |               |            |              |  |   |            |   |  |   |            |  
|-------------------------------------- |  | ------------------- | ---------- | -------- |  | ------------- | ---------- | ------------ |  | - | ---------- | - |  | - | ---------- | -
|                                       |  |                    
|                                       |  | 2001 Quarters Ended
|                                       |  |                    
|                                       |  | March 31,           |            | June 30, |  | September 30, |            | December 31,
|                                       |  |                     |            |          |  |               |            |             
|Total revenue                          |  | $                   | 2,275,222  |          |  | $             | 2,021,563  |              |  | $ | 2,316,413  |   |  | $ | 3,206,795  |  
|                                      
|                                      
|                                      
|                                      
|Gross profit/(loss)                    |  |                     | 570,847    |          |  |               | (557,078   | )            |  |   | 779,282    |   |  |   | 296,558    |  
|                                      
|                                      
|                                      
|                                      
|Net loss                               |  |                     | (5,936,589 | )        |  |               | (8,453,995 | )            |  |   | (8,073,236 | ) |  |   | (9,735,759 | )
|                                      
|                                      
|                                      
|                                      
|Net loss per share (basic and diluted) |  | $                   | (0.13      | )        |  | $             | (0.17      | )            |  | $ | (0.15      | ) |  | $ | (0.17      | )

|                                       |  |                     |            |          |  |               |            |              |  |   |            |   |  |   |            |  
|-------------------------------------- |  | ------------------- | ---------- | -------- |  | ------------- | ---------- | ------------ |  | - | ---------- | - |  | - | ---------- | -
|                                       |  |                    
|                                       |  | 2000 Quarters Ended
|                                       |  |                    
|                                       |  | March 31,           |            | June 30, |  | September 30, |            | December 31,
|                                       |  |                     |            |          |  |               |            |             
|Total revenue                          |  | $                   | 2,104,472  |          |  | $             | 2,932,435  |              |  | $ | 2,016,806  |   |  | $ | 2,451,178  |  
|                                      
|                                      
|                                      
|                                      
|Gross profit/(loss)                    |  |                     | 547,944    |          |  |               | 906,510    |              |  |   | (429,578   | ) |  |   | (99,049    | )
|                                      
|                                      
|                                      
|                                      
|Net loss                               |  |                     | (4,775,405 | )        |  |               | (5,862,012 | )            |  |   | (5,941,963 | ) |  |   | (7,605,842 | )
|                                      
|                                      
|                                      
|                                      
|Net loss per share (basic and diluted) |  | $                   | (0.13      | )        |  | $             | (0.15      | )            |  | $ | (0.15      | ) |  | $ | (0.18      | )

F-25



---



##### 



REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS

ON SUPPLEMENTAL INFORMATION


To the Board of Directors and



In connection with our audit of the consolidated financial
statements of Xybernaut Corporation referred to in our report
dated February 8, 2002 (except for Note 3 as to which the
date is March 13, 2002) which is included in this
Form 10-K, we have also audited Schedule II as of
December 31, 2001 and for each of the three years then
ended. In our opinion, this schedule present fairly, in all
material respects, the information required to be set forth
therein.

/s/ Grant Thornton LLP

Vienna, VA



F-26



---



##### 



XYBERNAUT CORPORATION

SUPPLEMENTAL FINANCIAL INFORMATION

Schedule II  Valuation and Qualifying Accounts

|                                           |                              |              |   |            |  |            |   |            |  |  |   |            |   |  |   |            | 
|------------------------------------------ | ---------------------------- | ------------ | - | ---------- |  | ---------- | - | ---------- |  |  | - | ---------- | - |  | - | ---------- | 
|                                           |                              | Balance at   |   | Charged to |  |            |   | Balance   
|                                           |                              | Beginning of |   | Costs and  |  |            |   | at End    
|                                           |                              | Year         |   | Expenses   |  | Write-offs |   | of Year   
|                                           |                              |              |   |            |  |            |   |           
|Allowance for accounts receivable:         |                              |              |   |            |  |            |   |            |  |  |   |            |   |  |   |           
|                                          
|                                          
|                                          
|                                          
|                                           | Year ended December 31, 2001 |              | $ | 129,355    |  |            | $ | 212,259    |  |  | $ | (251,317   | ) |  | $ | 90,297     | 
|                                          
|                                          
|                                          
|                                          
|                                           | Year ended December 31, 2000 |              |   | 140,968    |  |            |   | 59,120     |  |  |   | (70,733    | ) |  |   | 129,355    | 
|                                          
|                                          
|                                          
|                                          
|                                           | Year ended December 31, 1999 |              |   | 168,193    |  |            |   | 262,096    |  |  |   | (289,321   | ) |  |   | 140,968    | 
|                                          
|                                          
|                                          
|                                          
|Reserve for inventory:                     |                              |              |   |            |  |            |   |            |  |  |   |            |   |  |   |           
|                                          
|                                          
|                                          
|                                          
|                                           | Year ended December 31, 2001 |              | $ | 1,370,000  |  |            | $ | 944,214    |  |  | $ | (2,172,934 | ) |  | $ | 141,280    | 
|                                          
|                                          
|                                          
|                                          
|                                           | Year ended December 31, 2000 |              |   | 120,000    |  |            |   | 1,250,000  |  |  |   |           |   |  |   | 1,370,000  | 
|                                          
|                                          
|                                          
|                                          
|                                           | Year ended December 31, 1999 |              |   | 770,557    |  |            |   | 120,000    |  |  |   | (770,557   | ) |  |   | 120,000    | 
|                                          
|                                          
|                                          
|                                          
|Reserve for tooling costs:                 |                              |              |   |            |  |            |   |            |  |  |   |            |   |  |   |           
|                                          
|                                          
|                                          
|                                          
|                                           | Year ended December 31, 2001 |              | $ | 250,000    |  |            | $ |           |  |  | $ | (250,000   | ) |  | $ |           | 
|                                          
|                                          
|                                          
|                                          
|                                           | Year ended December 31, 2000 |              |   |           |  |            |   | 250,000    |  |  |   |           |   |  |   | 250,000    | 
|                                          
|                                          
|                                          
|                                          
|                                           | Year ended December 31, 1999 |              |   |           |  |            |   |           |  |  |   |           |   |  |   |           | 
|Valuation allowance for deferred tax asset |                              |              |   |            |  |            |   |            |  |  |   |            |   |  |   |           
|                                          
|                                          
|                                          
|                                          
|                                           | Year ended December 31, 2001 |              | $ | 28,495,000 |  |            | $ | 11,576,000 |  |  | $ |           |   |  | $ | 40,071,000 | 
|                                          
|                                          
|                                          
|                                          
|                                           | Year ended December 31, 2000 |              |   | 1,782,700  |  |            |   | 10,668,000 |  |  |   |           |   |  |   | 12,450,700 | 
|                                          
|                                          
|                                          
|                                          
|                                           | Year ended December 31, 1999 |              |   | 11,446,000 |  |            |   | 6,049,000  |  |  |   |           |   |  |   | 17,495,000 | 

F-27



---



##### 





|        |                                                                                       
|------- | --------------------------------------------------------------------------------------
|Item 9. | Changes in and Disagreements with Accountants on
	Accounting and Financial Disclosure.

None.

PART III

Items 10 through 13 will be filed pursuant to a definitive
proxy statement or an amendment to this Form 10-K.



|         |                                         
|-------- | ----------------------------------------
|Item 14. | Exhibits, Lists and Reports on Form 8-K.

|     |  |   |  |                                                                                                                                                                                                          |  |  |      | 
|---- |  | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  |  | ---- | 
|1.1  |  |  |  | Form of Financial Consulting Agreement between
	the Company and the Representative.                                                                                                                      |  |  | (1)  | 
|2    |  |  |  | Form of Agreement and Plan of Merger by and among
	Xybernaut, Selfware, Subsidiary and certain shareholders of
	Selfware.                                                                                |  |  | (10) | 
|3.1  |  |  |  | Certificate of Incorporation of the Company, as
	Amended.                                                                                                                                                |  |  | (5)  | 
|3.2  |  |  |  | Bylaws of the Company (as Amended on
	September 24, 1998).                                                                                                                                               |  |  | (5)  | 
|3.3  |  |  |  | Certificate of Designation of the Series D
	Preferred Stock.                                                                                                                                             |  |  | (6)  | 
|3.4  |  |  |  | Certificate of Designation of the Series E
	Preferred Stock.                                                                                                                                             |  |  | (7)  | 
|3.5  |  |  |  | Form of Amendment to Article Fourth to the
	Companys Certificate of Incorporation.                                                                                                                      |  |  | *    | 
|4.1  |  |  |  | Warrant Exercise Fee Agreement.                                                                                                                                                                          |  |  | (1)  | 
|4.2  |  |  |  | Form of Forfeiture Escrow.                                                                                                                                                                               |  |  | (1)  | 
|4.3  |  |  |  | Form of specimen certificate for Units.                                                                                                                                                                  |  |  | (1)  | 
|4.4  |  |  |  | Form of specimen certificate for Common Stock.                                                                                                                                                           |  |  | (1)  | 
|4.5  |  |  |  | Form of Warrant.                                                                                                                                                                                         |  |  | (2)  | 
|4.6  |  |  |  | Form of Securities Purchase Agreement for
	Series D Preferred Stock.                                                                                                                                     |  |  | (6)  | 
|4.7  |  |  |  | Form of Warrant in connection with the placement
	of Series D Preferred Stock.                                                                                                                           |  |  | (6)  | 
|4.8  |  |  |  | Form of Securities Purchase Agreement for
	Series E Preferred Stock.                                                                                                                                     |  |  | (7)  | 
|4.9  |  |  |  | Form of Warrant in connection with the placement
	of Series E Preferred Stock.                                                                                                                           |  |  | (7)  | 
|4.10 |  |  |  | Warrant issued in connection with the
	October 1999 Bridge Loan Financing.                                                                                                                               |  |  | (13) | 
|4.11 |  |  |  | Form of Warrant issued to Crystalite Investments,
	Ltd.                                                                                                                                                  |  |  | (9)  | 
|4.12 |  |  |  | Form of Warrant issued to International Business
	Solutions, Inc.                                                                                                                                        |  |  | (9)  | 
|4.13 |  |  |  | Form of Warrant issued to E. Dell Smith.                                                                                                                                                                 |  |  | (9)  | 
|4.14 |  |  |  | Form of Warrant issued to Christina S. Kohlhaas.                                                                                                                                                         |  |  | (9)  | 
|4.15 |  |  |  | Form of Warrant issued to E. Dell Smith.                                                                                                                                                                 |  |  | (9)  | 
|4.16 |  |  |  | Form of Registration Rights Agreement by and
	among Xybernaut and Selfware Stockholders.                                                                                                                 |  |  | (10) | 
|4.17 |  |  |  | Form of Warrant issued to Dalston Holdings
	Limited.                                                                                                                                                     |  |  | (14) | 
|4.18 |  |  |  | Form of Warrant issued to Archway Holdings
	Limited.                                                                                                                                                     |  |  | (12) | 
|4.19 |  |  |  | Form of Warrant issued in connection with the
	November 2000 private placement.                                                                                                                          |  |  | (12) | 
|4.20 |  |  |  | Form of Common stock Purchase Agreement dated
	September 29, 2000.                                                                                                                                       |  |  | (12) | 
|4.21 |  |  |  | Form of Common stock and Warrant Purchase
	Agreement dated as of Nov. 2000 private placement.                                                                                                            |  |  | (12) | 
|4.22 |  |  |  | Form of Registration Rights Agreement in
	connection with November 2000 private placement.                                                                                                               |  |  | (12) | 
|4.23 |  |  |  | Form of Warrant issued to Archway Holdings
	Limited.                                                                                                                                                     |  |  | (17) | 
|4.24 |  |  |  | Form of Common Stock and Warrant Purchase
	Agreement, dated as of April 19, 2001, between Archway
	Holdings Limited and Xybernaut Corporation.                                                           |  |  | (17) | 
|4.25 |  |  |  | Form of Registration Rights Agreement, dated as
	of April 19, 2001, between Archway Holdings Limited and
	Xybernaut Corporation.                                                                         |  |  | (17) | 
|4.26 |  |  |  | Form of Warrant issued to Cranshire Capital,
	L.P., Euram Cap Strat. A Fund Limited, The dotCom
	Fund, LLC, Alpha Capital Aktiengesellschaft, Vertical Ventures,
	LLC and Atlas Capital Services, Inc. |  |  | (17) | 
|4.27 |  |  |  | Form of Common Stock and Warrant Purchase
	Agreement, dated as of May 4, 2001, among Xybernaut
	Corporation, Cranshire Capital, L.P., Euram Cap Strat.
	A Fund Limited and The dotCom Fund, LLC.       |  |  | (17) | 

33



---



##### 



|     |  |   |  |                                                                                                                                                                                                                     |  |  |      | 
|---- |  | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  |  | ---- | 
|4.28 |  |  |  | Form of Registration Rights Agreement, dated as
	of May 4, 2001, among Xybernaut Corporation, Cranshire
	Capital, L.P., Euram Cap Strat. A Fund Limited and
	The dotCom Fund, LLC.                                |  |  | (17) | 
|4.29 |  |  |  | Form of Common Stock and Warrant Purchase
	Agreement, dated as of May 4, 2001, between Alpha Capital
	Aktiengesellschaft and Xybernaut Corporation.                                                                 |  |  | (17) | 
|4.30 |  |  |  | Form of Registration Rights Agreement, dated as
	of May 4, 2001, between Alpha Capital Aktiengesellschaft
	and Xybernaut Corporation.                                                                               |  |  | (17) | 
|4.31 |  |  |  | Form of Common Stock and Warrant Purchase
	Agreement, dated as of May 4, 2001, between Vertical
	Ventures, LLC and Xybernaut Corporation.                                                                           |  |  | (17) | 
|4.32 |  |  |  | Form of Registration Rights Agreement, dated as
	of May 4, 2001, between Vertical Ventures, LLC and
	Xybernaut Corporation.                                                                                         |  |  | (17) | 
|4.33 |  |  |  | Form of Agreement, dated May 1, 2001,
	between Atlas Capital Services, Inc. and Xybernaut Corporation.                                                                                                              |  |  | (17) | 
|4.34 |  |  |  | Form of Warrant issued to Eva Holdings Limited.                                                                                                                                                                     |  |  | (18) | 
|4.35 |  |  |  | Form of Common Stock and Warrant Purchase
	Agreement, dated as of June 30, 2001, between Eva Holdings
	Limited and Xybernaut Corporation.                                                                           |  |  | (18) | 
|4.36 |  |  |  | Form of Registration Rights Agreement, dated as
	of June 30, 2001, between Eva Holdings Limited and
	Xybernaut Corporation.                                                                                         |  |  | (18) | 
|4.37 |  |  |  | Form of Warrant issued to DaVinci International
	Limited.                                                                                                                                                           |  |  | (18) | 
|4.38 |  |  |  | Form of Warrant issued to Texas Instruments
	Incorporated.                                                                                                                                                          |  |  | (18) | 
|4.39 |  |  |  | Form of Warrant issued to Holly Investments
	Limited.                                                                                                                                                               |  |  | (19) | 
|4.40 |  |  |  | Form of Common Stock and Warrant Purchase
	Agreement, dated as of November 15, 2001, between Holly
	Investments Limited and Xybernaut Corporation.                                                                  |  |  | (19) | 
|4.41 |  |  |  | Form of Registration Rights Agreement, dated as
	of November 15, 2001, between Holly Investments Limited and
	Xybernaut Corporation.                                                                                |  |  | (19) | 
|4.42 |  |  |  | Form of Common Stock and Warrant Purchase
	Agreement, dated as of November 15, 2001, among Cranshire
	Capital, L.P., Euram Cap Strat. A Fund Limited and
	Xybernaut Corporation.                                  |  |  | (19) | 
|4.43 |  |  |  | Form of Registration Rights Agreement, dated as
	of November 15, 2001, among Cranshire Capital, L.P., Euram
	Cap Strat. A Fund Limited and Xybernaut Corporation.                                                 |  |  | (19) | 
|4.44 |  |  |  | Form of Common Stock and Warrant Purchase
	Agreement, dated as of November 15, 2001, among Cleveland
	Overseas Ltd., ZLP Master Technology Fund, Ltd., Vertical
	Ventures Ltd. And Xybernaut Corporation.           |  |  | (19) | 
|4.45 |  |  |  | Form of Registration Rights Agreement, dated as
	of November 15, 2001, among Cleveland Overseas Ltd., ZLP
	Master Technology Fund, Ltd., Vertical Ventures Ltd. and
	Xybernaut Corporation.                         |  |  | (19) | 
|4.46 |  |  |  | Form of Warrant issued to each of Cranshire
	Capital, L.P., Euram Cap Strat. A Fund Limited,
	Cleveland Overseas Ltd., ZLP Master Technology Fund, Ltd.,
	Vertical Ventures Ltd. and Atlas Capital Services, LLC. |  |  | (19) | 
|4.47 |  |  |  | Agreement, dated November 15, 2001, between
	Atlas Capital Services, LLC and Xybernaut Corporation.                                                                                                                 |  |  | (19) | 
|4.48 |  |  |  | Agreement for Payment of Account, dated
	November 27, 2001, between frog werk, Inc. and Xybernaut
	Corporation.                                                                                                     |  |  | (19) | 
|10.1 |  |  |  | December 31, 1994 Acquisition Agreement
	between the Company and Tech Virginia.                                                                                                                                     |  |  | (1)  | 
|10.2 |  |  |  | Form of Indemnification Agreement to be entered
	into between the Company and each officer and director of the
	Company.                                                                                            |  |  | (1)  | 
|10.3 |  |  |  | Form of Employment Agreement between the Company
	and Edward G. Newman.                                                                                                                                             |  |  | (13) | 
|10.4 |  |  |  | Form of Employment Agreement between the Company
	and Steven A. Newman.                                                                                                                                             |  |  | (13) | 
|10.5 |  |  |  | Form of Employment Agreement between the Company
	and Eugene Amobi.                                                                                                                                                 |  |  | (16) | 
|10.6 |  |  |  | November 30, 1994 Lease Agreement between
	Hyatt Plaza Limited Partnership and the Company.                                                                                                                         |  |  | (1)  | 
|10.7 |  |  |  | October 27, 1994 Residential Deed of Lease
	between the Company and Frank E. and Heather H. Moxley.                                                                                                                 |  |  | (1)  | 
|10.8 |  |  |  | 1996 Omnibus Stock Incentive Plan.                                                                                                                                                                                  |  |  | (1)  | 

34



---



##### 



|      |  |   |  |                                                                                                                                           |  |  |      | 
|----- |  | - |  | ----------------------------------------------------------------------------------------------------------------------------------------- |  |  | ---- | 
|10.9  |  |  |  | 1997 Omnibus Stock Incentive Plan.                                                                                                        |  |  | (2)  | 
|10.10 |  |  |  | Multicosm Ltd. Software Licensing Agreement.                                                                                              |  |  | (1)  | 
|10.11 |  |  |  | Business Loan Agreement, Promissory Note and
	Commercial Security Agreement by and Between Fairfax Bank &
	Trust Company and the Company. |  |  | (1)  | 
|10.12 |  |  |  | December 10, 1996 Lease Agreement between
	Autumnwood Apartments and the Company.                                                         |  |  | (3)  | 
|10.13 |  |  |  | First Amendment to Office Lease Agreement between
	Hyatt Plaza Limited Ptr. and the Company.                                              |  |  | (4)  | 
|10.14 |  |  |  | December 5, 2000 Lease Agreement between the
	Company and American Management Systems Inc.                                                |  |  | (16) | 
|10.15 |  |  |  | Form of Exclusive Licensing Agreement between
	Data DiskTechnology, Inc. and the Company.                                                 |  |  | (4)  | 
|10.16 |  |  |  | Form of Exclusive Licensing Agreement between SBS
	Vertrieb GmbH and the Company.                                                         |  |  | (4)  | 
|10.17 |  |  |  | Form of Software Distribution Agreement between
	Multicosm LTD and the Company.                                                           |  |  | (4)  | 
|10.18 |  |  |  | First Amendment to Office Lease Agreement between
	Hyatt Plaza Limited Partnership and Tech International of
	Virginia, L.L.C.            |  |  | (4)  | 
|10.19 |  |  |  | Second Amendment to Storage Space Lease Agreement
	between Hyatt Plaza Limited Ptr. and the Company.                                      |  |  | (5)  | 
|10.20 |  |  |  | Second Amendment to Office Lease Agreement
	between Hyatt Plaza Limited Ptr. and the Company.                                             |  |  | (5)  | 
|10.21 |  |  |  | Third Amendment to Office Lease Agreement between
	Hyatt Plaza Limited Ptr. and the Company.                                              |  |  | (5)  | 
|10.22 |  |  |  | Form of Registration Rights Agreement in
	connection with the placement of Series D Preferred Stock.                                      |  |  | (6)  | 
|10.23 |  |  |  | Form of Escrow Agreement in connection with the
	placement of Series D Preferred Stock.                                                   |  |  | (6)  | 
|10.24 |  |  |  | Form of finders agreement in connection
	with the placement of Series D Preferred Stock.                                                 |  |  | (6)  | 
|10.25 |  |  |  | Form of Registration Rights Agreement in
	connection with the placement of Series E Preferred Stock.                                      |  |  | (7)  | 
|10.26 |  |  |  | Form of Escrow Agreement in connection with the
	placement of Series E Preferred Stock.                                                   |  |  | (7)  | 
|10.27 |  |  |  | Form of finders agreement in connection
	with the placement of Series E Preferred Stock.                                                 |  |  | (7)  | 
|10.28 |  |  |  | Purchase Agreement dated as of November 19,
	1999.                                                                                        |  |  | (13) | 
|10.29 |  |  |  | Registration Rights Agreement dated
	November 19, 1999.                                                                                   |  |  | (13) | 
|10.30 |  |  |  | Escrow Agreement dated as of November 19,
	1999.                                                                                          |  |  | (13) | 
|10.31 |  |  |  | 1999 Stock Incentive Plan.                                                                                                                |  |  | (8)  | 
|10.32 |  |  |  | 2000 Stock Incentive Plan.                                                                                                                |  |  | (15) | 
|10.33 |  |  |  | Form of Restated Bridge Loan Financing Agreement
	dated October 18, 1999.                                                                 |  |  | (11) | 
|10.34 |  |  |  | Form of Employment Agreement between the Company
	and John F. Moynahan.                                                                   |  |  | (11) | 
|10.35 |  |  |  | Form of Purchase Agreement dated as of
	November 19, 1999.                                                                                |  |  | (11) | 
|10.36 |  |  |  | Form of Restated Bridge Financing Agreement dated
	as of October 18, 1999, restated as of December 30,
	1999.                             |  |  | (11) | 
|10.37 |  |  |  | Form of Common Stock Purchase Agreement dated as
	of January 3, 2000.                                                                     |  |  | (9)  | 
|10.38 |  |  |  | Form of Registration Rights Agreement dated as of
	November 19, 1999.                                                                     |  |  | (11) | 
|10.39 |  |  |  | Form of Escrow Agreement dated as of
	November 19, 1999.                                                                                  |  |  | (11) | 
|10.40 |  |  |  | Agreement and Plan of Merger dated as of
	April 7, 2000.                                                                                  |  |  | (10) | 
|10.41 |  |  |  | Registration Rights Agreement dated as of
	April 7, 2000.                                                                                 |  |  | (10) | 
|10.42 |  |  |  | Form of Common Stock Purchase Agreement dated as
	of June 23, 2000.                                                                       |  |  | (14) | 
|10.43 |  |  |  | Form of Amended and Restated Agreement for
	Wholesale Financing (Security Agreement).                                                     |  |  | *    | 
|10.44 |  |  |  | Form of Addendum to Agreement for Wholesale
	Financing Flexible Payment Plan.                                                             |  |  | *    | 

35



---



##### 



|      |  |   |  |                                                                                                                                   |  |  |      | 
|----- |  | - |  | --------------------------------------------------------------------------------------------------------------------------------- |  |  | ---- | 
|10.45 |  |  |  | Form of Exhibit A (FPP Exhibit
	A) to Addendum to Agreement for Wholesale
	Financing  Flexible Payment Plan (FPP
	Addendum). |  |  | *    | 
|10.46 |  |  |  | Form of Promissory Note.                                                                                                          |  |  | *    | 
|10.47 |  |  |  | Form of Pledge Agreement.                                                                                                         |  |  | *    | 
|16    |  |  |  | Letter on Change in Certifying Accountant.                                                                                        |  |  | (10) | 
|23.1  |  |  |  | Consent of Grant Thornton LLP.                                                                                                    |  |  | *    | 
|27.1  |  |  |  | Financial Data Schedule.                                                                                                          |  |  | *    | 




|    |                                                                                                                                            
|--- | -------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Incorporated by reference to the Companys Registration
	Statement on Form SB-2, No. 333-4156, filed on
	July 15, 1996.                    
|   
|(2) | Incorporated by reference to the Amendment to the Companys
	Registration Statement on Form SB-2, No. 333-65123,
	filed on October 30, 1998
|   
|(3) | Incorporated by reference to the Companys 1996 Annual
	Report on Form 10-KSB, No. 0-15086, filed on
	March 3, 1997.                       
|   
|(4) | Incorporated by reference to the Companys 1997 Annual
	Report on Form 10-KSB, No. 0-15086, filed on
	March 3, 1998.                       
|   
|(5) | Incorporated by reference to the Companys 1998 Annual
	Report on Form 10-KSB, No. 0-15086, filed on
	April 15, 1999.                      
|   
|(6) | Incorporated by reference to the Registration Statement on
	Form S-3, as amended, file No. 333-77769, filed on
	May 4, 1999.               
|   
|(7) | Incorporated by reference to the Registration Statement on
	Form S-3, as amended, file No. 333-80837, filed on
	June 16, 1999.             
|   
|(8) | Incorporated by reference to the Registration Statement on
	Form S-8, file No. 333-94463, filed on
	January 12, 2000.                      
|   
|(9) | Incorporated by reference to the Registration Statement on
	Form S-3, file No. 333-33940 filed on April 4,
	2000.                          



|     |                                                                                                                                                                                                           
|---- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(10) | Incorporated by reference to the report on Form 8-K, file
	No. 000-21013, filed on April 18, 2000.                                                                                                        
|    
|(11) | Incorporated by reference to the report on Form 10-KSB,
	No. 000-21013, filed on April 21, 2000.                                                                                                          
|    
|(12) | Incorporated by reference to the Registration Statement on
	Form S-3, file No. 333-51974, filed on
	December 15, 2000.                                                                                    
|    
|(13) | Incorporated by reference to the Companys 1999 Annual
	Report on Form 10KSB No. 000-21013, filed on March 17,
	2000.                                                                                     
|    
|(14) | Incorporated by reference to the Registration Statement on
	Form S-3, file No. 333-40996, filed on July 7,
	2000.                                                                                         
|    
|(15) | Incorporated by reference to the registrants Definitive
	Proxy Statement on Schedule 14A, as filed with the
	Securities and Exchange Commission on September 29, 2000,
	and annexed as Exhibit A thereto.
|    
|(16) | Incorporated by reference to the report on Form 10-K,
	No. 000-21013, filed on March 9, 2001.                                                                                                             
|    
|(17) | Incorporated by reference to the Registration Statement on
	Form S-3, file No. 333-60556, filed on May 9,
	2001.                                                                                          
|    
|(18) | Incorporated by reference to the Registration Statement on
	Form S-3, file No. 333-68832, filed on August 31,
	2001.                                                                                      
|    
|(19) | Incorporated by reference to the Registration Statement on
	Form S-3, file No. 333-74182, filed on
	November 29, 2001.                                                                                    
|    
|*    | Filed Herewith.                                                                                                                                                                                           

REPORTS ON FORM 8-K

The Company has not filed any Report on Form 8-K during the
last quarter of fiscal year 2001.

36



---



##### 



SIGNATURES

In accordance with Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Company has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly
authorized.



| |                      
| | ---------------------
| | XYBERNAUT CORPORATION



| |     |                     
| | --- | --------------------
| | By: | /s/ EDWARD G. NEWMAN

| |                                   
| | ----------------------------------
| |                                   
| | Edward G. Newman                  
| | Chief Executive Officer and       
| | Chairman of the Board of Directors

Date: March 27, 2002

In accordance with the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf
of the Company and the capacities and on the dates indicated.

|                                                       |  |                                                                            |  |               
|------------------------------------------------------ |  | -------------------------------------------------------------------------- |  | --------------
|Signature                                              |  | Title                                                                      |  | Date          
|                                                       |  |                                                                            |  |               
|/s/ EDWARD G. NEWMANEdward G. Newman                   |  | President, Chief Executive Officer and Chairman
	of the Board of Directors |  | March 27, 2002
|                                                      
|/s/ STEVEN A. NEWMANSteven A. Newman                   |  | Executive Vice President and Vice Chairman of the
	Board of Directors      |  | March 27, 2002
|                                                      
|/s/ KAZUYUKI TOYOSATOKaz Toyosato                      |  | Executive Vice President and Director                                      |  | March 27, 2002
|                                                      
|/s/ JOHN F. MOYNAHANJohn F. Moynahan                   |  | Senior Vice President, Chief Financial Officer
	and Treasurer              |  | March 27, 2002
|                                                      
|/s/ EDWIN VOGTEdwin Vogt                               |  | Senior Vice President and Director                                         |  | March 27, 2002
|                                                      
|/s/ EUGENE J. AMOBIEugene J. Amobi                     |  | Vice President and Director                                                |  | March 27, 2002
|                                                      
|/s/ MARTIN ERIC WEISBERGMartin Eric Weisberg           |  | Secretary and Director                                                     |  | March 27, 2002
|                                                      
|/s/ KEITH P. HICKSKeith P. Hicks                       |  | Director                                                                   |  | March 27, 2002
|                                                      
|/s/ PHILLIP E. PEARCEPhillip E. Pearce                 |  | Director                                                                   |  | March 27, 2002
|                                                      
|/s/ JAMES J. RALABATEJames J. Ralabate                 |  | Director                                                                   |  | March 27, 2002
|                                                      
|/s/ LT. GEN. HARRY E. SOYSTERLt. Gen. Harry E. Soyster |  | Director                                                                   |  | March 27, 2002

37