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**U.S. SECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

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**FORM 10-Q**

**QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF**

**THE SECURITIES EXCHANGE ACT OF 1934**

**FOR THE QUARTERLY PERIOD ENDED JUNE 30, 200****4**

**Commission File Number:  000-****27372**

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| **STOCKERYALE, INC.**
(Exact name of registrant as specified in its charter)
  
 
**Massachusetts**  
**04-2114473**
(State of Incorporation)  
(I.R.S. Employer Identification Number)
    
 
**32 Hampshire Road,  Salem, New Hampshire 03079**
(Address of registrant's principal executive office)
    
 
**(603) 893-8778**
(Registrant's telephone number)
 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Exchange Act of 1934 during thepreceding 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.  x   Yes    o   No

As of July 30, 2004 there were 21,647,607 shares of the issuer's common stock outstanding.

 

**STOCKERYALE, INC.**

**INDEX TO FORM 10-Q**

** **

**PART I - FINANCIAL INFORMATION**   Item 1Financial Statements (Unaudited)        Unaudited Condensed Consolidated Balance Sheets at June 30, 2004 and December 31,       20031      Unaudited Condensed Consolidated Statement of Operations for the three and six months       ended June 30, 2004 and 20032       Unaudited Condensed Consolidated Statement of Cash Flows for the six months ended June 30, 2004 and 20033       Notes to Unaudited Condensed Consolidated Financial Statements4     Item 2Management's Discussion and Analysis of Financial Condition and Results of Operations13   Item 3Quantitative and Qualitative Disclosure about Market Risk19      Item 4Controls & Procedures19    
**PART II - OTHER INFORMATION**     Item 1Legal Proceedings20     Item 2Changes in Securities20     Item 3Defaults Upon Senior Securities20     Item 4Submission of Matters to a Vote of Security Holders20     Item 5Other Information20     Item 6Exhibits and Reports on Form 8-K21       Signature (s)21 i  /  STKR    2004 Form 10-Q Table of Contents Part I Item 1
ITEM 1.    FINANCIAL STATEMENTS

UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
**In thousands**      
**June 30, 2004**     
**December 31, 2002**Assets      ** **** **         Current assets:      ** **** **         Cash and cash equivalents      **$****2,368**     $ 1,008Accounts receivable, less reserves of approximately $106 at June 30, 2004 and $103 at December 31, 2003      ** ****2,960**       2,102Inventories      ** ****3,547**       3,799Prepaid expenses and other current assets      ** ****458**       188Total current assets      ** ****9,333**       7,097Property, plant and equipment, net      ** ****19,294**       20,550Goodwill     ** ****2,677**       2,677 Identified intangible assets, net      ** ****1,304**       1,463Officer note receivable      ** ****0**       263Other long-term assets      ** ****701**       639Total assets      **$****33,309**     $ 32,689Liabilities and stockholders' equity      ** **** **         Current liabilities:      ** **** **         Current portion of long-term debt     **$****1,546**     $ 3,365Short-term debt ,net of unamortized discount of $0 at June 30, 2004 and $155 at December 31, 2003      ** ****1,039**       5,091Accounts payable      ** ****2,866**       2,061Accrued expenses      ** ****1,099**       943Short-term portion of capital lease obligation      ** ****46**       47Total current liabilities      ** ****6,596**       11,507Long-term debt and capital lease obligations - less current portion     ** ****4,836**       3,934Other long-term liabilities**17**       17Commitments and contingencies     ** **** **         Stockholders' equity:      ** **** **         Common stock, par value $0.001-shares authorized 100,000,000; Shares issued and outstanding 21,628,904 and 14,791,123 at June 30, 2004 and December 31, 2003,       respectively      ** ****22**       15Paid-in capital      ** ****81,8****10**       70,948Accumulated other comprehensive income      ** ****1,035**       1,340Accumulated deficit      ** ****(61,007)**    (55,072)Total stockholders' equity      ** ****21,860**       17,231Total liabilities and stockholders' equity      **$****33,309**     $ 32,689
*See notes to unaudited condensed consolidated financial statements.*
 1  /  STKR    2004 Form 10-Q Table of Contents Part I Item 1
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

 
**In thousands, except per share data** **Three Months** **Six Months** **Ended June 30,** **Ended June 30,** **2004** **2003** **2004**  **2003**Net sales $ **4,457**** **  $ 3,586    $**8,616** $7,170  Cost of sales   **3,267**** **    2,800    **6,177**      5,435 Gross profit   **1,190**** **       786    **2,439******      1,735 Operating expenses:   ** **** **         ** **        Selling expenses   **705**** **       773    **1,401**   1,549 General and administrative   **1,318**** **       1,106    **2,401**      2,334 Amortization expense   **81**** **       79    **162******      159 Research and development   **815**** **       926    **1,612**      1,816 Total operating expenses   **2,919**** **       2,884    **5,576**      5,858 Operating loss   **(1,729****)**       (2,098 )  **(3,137****)**      (4,123)Interest and other income/(expense)  **31**        (52 )  ** 40**         (130 )Debt acquisition and discount amortization expense **1,733**  43   **2,439**   86 Interest expense **239**  210   **399**   351 Loss before income tax benefit  **(3,670****)**       (2,403 )  **(5,935****)**      (4,690 )Income tax benefit  **0**        0  **0**       (150 )Net loss $ **(3,670****)**     $ (2,403 )  
$**(5,935****)**     $(4,540 )Basic and diluted loss per share:   ** **** **            ** **        Net loss per share $ **(0.18****)**     $ (0.18 )  
$**(0.32****)**     $(0.35 )Weighted average shares outstanding:   ** **** **            ** **        Basic and diluted   **20,689**** **       13,319    **18,662**  13,050  *See notes to unaudited condensed consolidated financial statements.* 2  /  STKR    2004 Form 10-Q Table of Contents Part I Item 1
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
**In thousands**
**Six Months Ended       June 30,**      **2004**     **2003**Operations      ** **** **** **           Net loss      **$****(****5,935****)**     $ (4,540 )        ** **** **** **           Adjustments to reconcile net loss to net cash used in operating activities:      ** **** **** **           Depreciation and amortization      ** ****1,173**** **       1,197  Debt acquisition and discount amortization expense     ** ****2,439**** **       299  Loss from asset sales24-Accounts receivable, net      ** ****(858****)**       (315 ) Inventories      ** ****252**       (401 ) Prepaid expenses and other current assets      ** ****(270****)**       102   Accounts payable      ** ****805**        138 Accrued expenses      ** ****156**** **       (20) Other assets and liabilities      ** ****(6****)**       53   Net cash (used) in operating activities      ** ****(2,220****)**       (3,487 ) Financing      ** **** **** **           Proceeds from sale of common stock      ** ****3,118**** **       1,197  Proceeds of term note **8,869**985Repayments of bank debt      ** ****(8,603)**** **       (1,511)Decrease in note receivable   ** ****283**** **    63  Net cash provided by financing activities      ** ****3,667**        734 Investing      ** **** **** **           Proceeds from land sale     ** ****0**** **       306  Purchases of property, plant and equipment      ** ****(****273****)**       (64 ) Proceeds from asset sales     ** ****200**** **       0  Net cash (used) in provided by investing      ** ****(73****)**       242  Effect of exchange rates      ** ****(14****)**       4  Net change in cash and equivalents      ** ****1,360**       (2,507 ) Cash and equivalents, beginning of year      ** ****1,008**** **       3,070   Cash and equivalents, end of quarter     **$****2,368**** **     $ 563   Supplemental disclosure of cash flow information:      ** **** **** **           Interest paid      ** ****399**** **       351  Conversion of debt to common stock     ** ****4,202**** **       0  
*See notes to unaudited condensed consolidated financial statements.*
3  /  STKR    2004 Form 10-Q Table of Contents Part I Item 1 NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS June 30, 2004
(1) ORGANIZATION AND BASIS OF PRESENTATION

The interim condensed consolidated financial statements presented have been prepared by StockerYale, Inc. (the "Company") are unauditedand, in the opinion of management, reflect all adjustments of a normal recurring nature necessary for a fair statement of (a) the results of operations for the six months ended June, 2004and 2003, (b) the financial position at June 30, 2004 and December 31, 2003, and (c) the cash flows for the six month periods ended June 30, 2004 and 2003. These interim results are notnecessarily indicative of results for a full year or any other interim period.

The unaudited consolidated balance sheet presented as of December 31, 2003, has been derived from the consolidated financial statementsthat have been audited by the Company's predecessor independent auditors. The accompanying financial statements and notes are condensed as permitted by Form 10-Q and do not contain certaininformation included in the annual financial statements and notes of the Company. The unaudited condensed consolidated financial statements and notes included herein should be read inconjunction with the consolidated financial statements and notes included in the Company's Annual Report on Form 10-K for the year ended December 31, 2003.

The Company has prepared the unaudited condensed financial statements on a going concern basis, which contemplates the realization ofassets and the satisfaction of liabilities in the normal course of business. The Company will be required to generate sufficient cash flow to meet its obligations on a timely basis throughimproved operations, refinancing of existing debt and/or additional financing.

As stated in the Company's annual report on Form 10K for the period ending December 31, 2003, management was successful in raisingadditional capital by the end of the second quarter 2004. Through June 30, 2004, the Company has raised $11.8 million and retired $8.1 million in secured debt.

During the first quarter of 2004, the Company raised an additional $6.6 million through the private placement of $2.6 million of commonstock and a $4.0 million convertible note. The net proceeds of approximately $6.3 million were used to retire the $4.7 million mortgage secured by the Salem headquarters with the remainderavailable for general working capital purposes. The $2.6 million in a private placement of equity resulted in the issuance of an additional 2,334,000 shares of common stock.

During the second quarter of 2004, the Company raised an additional $5.5 million through the placement of a convertible note. The netproceeds of $5.2 million were used to retire its $3.4 million senior U.S. credit facility. The remaining $1.9 million will be used for general working capital purposes.

Based upon the Company's current forecast for 2004, the Company plans to increase revenues, reduce costs and pursue various options toraise additional funds to finance operations through the end of 2004. The Company can give no assurances to the timing or terms of such arrangements, assuming it is able to consummate one ormore of these options. If the Company is unable to raise sufficient funds through these options by the end of the fourth quarter of 2004, it will need to implement further cost reductionstrategies, and the Company may not have adequate capital to sustain its current operations. Financing options in process or under consideration are the sale of real estate and/or a privateplacement of equity and/or debt securities. The Company expects to close on several of these financing options by the end of 2004.
 4  /  STKR    2004 Form 10-Q Table of Contents Part I Item 1
(2) LOSS PER SHARE

In accordance with Statement of Financial Accounting Standards ("SFAS") No. 128, Earnings per Share, basic and diluted net loss      per common share for the three and six months ended June 30, 2004 and 2003 is calculated by dividing the net loss applicable to common stockholders by the weighted average number of      common shares outstanding. There were 3,373,009 and 3,223,886 options, 2,738,490 and 672,000 warrants and 4,480,063 and 250,000 shares underlying convertible debt instruments      outstanding as of June 30, 2004 and 2003, respectively, which were not included in the diluted per share calculation because their inclusion would be anti-dilutive.

(3) INVENTORIES

Inventories are stated at the lower of cost (first-in, first-out basis) or market and include materials, labor and overhead.      Inventories are as follows:

(in thousands)
**June 30, 200**4
  
**December 31, 200**3Finished goods$ 
556  
$ 
616Work-in-process 
80   
78Raw materials 
2,911    
3,105 $ 
3,547  
$ 
3,799
Management performs periodic reviews of inventory and disposes of items not required by their manufacturing plan and            reduces the carrying cost of inventory to the lower of cost or market.

(4) STOCK BASED COMPENSATION
The Company accounts for employee stock options and share awards under the intrinsic-value method prescribed by Accounting Principles Board Opinion No. 25,                  Accounting for Stock Issued to Employees, (APB 25). No compensation cost has been recognized for stock option grants since the options granted to date have exercise prices                  per share of not less than the fair value of the Company's stock at the date of the grant. Had the Company determined the stock-based compensation expense for the Company's                  stock options under the provisions of Statement of Financial Accounting Standards No. 123, Accounting for Stock Based Compensation, the Company's net loss and net loss per                  share based upon the fair value at the grant date for stock options awards would have increased the pro-forma amounts as indicated below: (in thousands)**Three Months Ended**
**Six Months Ended****June 30,**
**June 30,****2004****2003**** ****2004**
**2003**Net loss as reported$(3,670)$(2,403)$(5,935)$(4,540)Additional compensation expense (975) (1,078)(1,949)(2,153)Pro forma net loss $(4,645) (3,481)$(7,884)(6,693) Net loss per share (basic and diluted)        As reported$(0.18)$(0.18)$(0.32)$(0.35)Pro form (0.22) (0.26)(0.42)(0.51)  5  /  STKR    2004 Form 10-Q Table of Contents Part I Item 1 
The fair value of options at the date of grant were estimated using the Black-Scholes option pricing model with the following assumptions:      
**For the Six                   Months Ended****June 30,****2004****2003**Volatility140%114%Expected option life-years from vest55Interest rate (risk free)2.91%2.27%DividendsNoneNone
(5) COMPREHENSIVE LOSS
SFAS No. 130, *Reporting Comprehensive Income,* requires disclosure of all components of comprehensive income (loss) on an annual and interim basis.            Comprehensive income (loss) is defined as the change in equity of a business enterprise during a period from transactions and other events and circumstances from non-owner            sources. The Company's total comprehensive loss is as follows: (in thousands)
**Three Months Ended** 
**Six Months Ended**
**June 30,**
**June 30,****2004****2003****2004****2003**Net loss $ **(3,670****)**** ****$**(2,403 ) 
**$****(5,935****)**
**$**(4,540 )Other comprehensive income (loss):   ** **** **** **** **    ** **** **    Cumulative translation adjustment   **270**** **** **** **640** ****(305****)**1,189  Comprehensive loss $  **(3,400****) **** ****$ **(1,763) ** $ ****(6,240****)**(3,351)
(6) INTANGIBLE ASSETS
Intangible assets consist primarily of acquired patented technology and trademarks. Intangible assets are amortized over their estimated useful lives which range            from two to five years. The Company has no intangible assets with indefinite lives. The Company reviews intangible assets when indications of potential impairment exists, such as            a significant reduction in cash flows associated with the assets. Intangible assets as of June 30, 2004 and 2003 are as follows:                   **For the Six Months Ended**(in thousands)**June 30,             2004****December 31,             2003**Identified intangible assets  $ 3,549     $ 3,549   Less: accumulated amortization  $ 2,245    $ 2,086      $ 1,304    $ 1,463   Amortization of intangible assets was $81,000 and $79,000 for the three months ended June 30, 2004 and 2003, respectively and $162,000 and $159,000 for the six            months ended June 30, 2004 and 2003, respectively. 6 /  STKR    2004 Form 10-Q Table of Contents Part I Item 1 As of June 30, 2004, the estimated future amortization expense of intangible assets, in thousands, is as follows: **200****4** **200****5** **200****6** **200****7** **2008                   and                   thereafter**
$
162  
$
318  
$
318  
$
319  
$
187 
(7) USE OF ESTIMATES

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 as of the date of the financial statements and      the reported amounts of income and expenses during the reporting periods. Actual results in the future could vary from the amounts derived from management's estimates and assumptions.

(8) REVENUE RECOGNITION

The Company recognizes revenue from product sales at the time of shipment and when persuasive evidence of an arrangement exists,      performance of the Company's obligation is complete, the price to the buyer is fixed or determinable, and collectibility is reasonably assured.  In certain limited situations,      customers have the right to return products. Such rights of return, have not precluded revenue recognition because the Company has a long history with such returns and accordingly      provides a reserve.

(9) RECENT ACCOUNTING PRONOUNCEMENTS

In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities      and Equity." This statement establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It      requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances). Many of those instruments were previously      classified as equity instruments. Implementation of this statement had no material effect on the company's financial statements. 

In January 2003 and December 2003, the Financial Accounting Standards Board (FASB) issued Interpretation No. 46, Consolidation      for Variable Interest Entities (FIN 46) and its revision, FIN 46-R, respectively. FIN 46 and FIN 46-R address the consolidation of entities whose equity holders have either not      provided sufficient equity at risk to allow the entity to finance its own activities or do not possess certain characteristics of a controlling financial interest. FIN 46 and FIN 46-R      require the consolidation of these entities, known as variable interest entities (VIEs), by the primary beneficiary of the entity. The primary beneficiary is the entity, if any, that      is subject to a majority of the risk of loss from the VIE's activities, entitled to receive a majority of the VIE's residual returns, or both. The adoption of FIN 46-R on January 1,      2004 did not have a material impact on our financial position, results of operations or cash flows.

(10) OFFICER NOTE RECEIVABLE

As described in our annual report on Form 10-K, subsequent to the approval of the Board of Directors, the Company issued a      promissory note to the chairman and chief executive officer of the Company on May 31, 2002 in the principal amount of $250,000. The note was payable upon demand and bears an annual      interest rate of 4.5%. On May 7, 2004, the chairman and chief executive officer paid the Company $266,562.50, which represented the entire balance of principal and accrued interest      outstanding for the Officer Note issued on May 31, 2002.
 7 /  STKR    2004 Form 10-Q Table of Contents Part I Item 1
(11) SEGMENT INFORMATION

The Company has adopted the SFAS No. 131, *Disclosures About Segments of an Enterprise and Related information*. SFAS No.      131 requires financial and supplementary information to be disclosed on an annual and interim basis of each reportable segment of an enterprise. SFAS No. 131 also establishes standards      for related disclosures about product and services, geographic areas and major customers. Operating segments are identified as components of an enterprise about which separate discrete      financial information is available for evaluation by the chief decision-making group, in making decisions how to allocate resources and assess performance. The Company's chief      decision-maker is the chief executive officer.

Prior to January 1, 2002, the Company operated in a single segment. In 2002 the Company began to operate in two segments,      Illumination and Optical Components. 
The illumination segment develops and manufactures specialized illumination products for the inspection, machine vision, medical and military markets. Illumination            products are sold both through distributors as well as directly to original equipment manufacturers (OEM's). The optical components segment develops and manufactures specialty            optical fibers and phase masks used primarily in sensor, gyroscope and telecommunication equipment. Optical component products are sold primarily to original equipment            manufacturers (OEM's). The Company evaluates performance and allocates resources based on revenues and operating income (loss). The operating loss for each segment includes selling,            research and development and expenses directly attributable to the segment. In addition, the operating loss includes amortization of acquired intangible assets, including any            impairment of these assets and of goodwill. The Company's non-allocable overhead costs, which include corporate general and administrative expenses, are allocated between the            segments based upon an estimate of costs associated with each segment. Segment assets include accounts receivable, inventory, machinery and equipment, goodwill and intangible            assets directly associated with the product line segment.
 8  /  STKR    2004 Form 10-Q Table of Contents Part I Item 1 
The Corporate assets include cash and cash equivalents, buildings and furniture and fixtures.**Quarter Ended June 30, 2004****Quarter Ended June 30, 2003****Illumination****Optical Components****Total****Illumination(1)****Optical Components****Total**Net sales$4,134$323$4,457$3,373$213$3,586Gross margin1,275(85)1,1901,070(284)786Operating loss(616)(1,113)(1,729)(599)(1,499)(2,098)**Six Months Ended****June 30, 200****4****Six Months Ended June 30, 200****3****Illumination****Optical Components****Total****Illumination(1)****Optical Components****Total**Net sales$8,049$567$8,616$6,561$609$7,170Gross margin2,549(110)2,4392,127(392)1,735Operating loss(1,106)(2,031)(3,137)(1,167)(2,956)(4,123)**June 30, 2004****December 31, 2003****Illumination****Optical Components****Corporate****Total****Illumination****Optical Components****Corporate****Total**Total current assets$6,600$365$2,368$9,333$5,827$425$845$7,097Property, plant & equipment7507,94410,60019,2949787,84711,72520,550Intangible assets1,304--1,3041,463--1,463Goodwill2,677--2,6772,677--2,677Other assets--701701--902902$11,331$8,309$13,669$33,309$10,945$8,272$13,472$32,689
The Company's export sales are denominated in U.S. dollars. These sales are as follows:
   
** Three Months Ended June 30,** 
** Six Months Ended        June 30,**Export sales by region (in thousands)** **
** 2004**** **** **** **
**2003**** ** 
**       ****2004**   
 **2003**United States $2,585  $2,152  $4,981  $4,302Canada 446    322   862   645Europe 802   789   1,583   1,577Asia 624   323   1,190   646 Total sales$4,457  $3,586  $8,616  $7,170
(12) DEBT
**Merrill Lynch Financial Services**On June 10, 2004, the Company paid the credit facility in full including outstanding principal and accrued interest of $3,370,000 and $7,000 respectively, with proceeds      from a convertible note.  9  /  STKR    2004 Form 10-Q Table of Contents Part I Item 1
The Company's obligations under the credit facility were secured by substantially all of the Company's Salem assets, excluding realproperty. The facility was also subject to various financial covenants, including having a minimum net worth of $10.0 million at all times. The Company was also required to repay amountsunder the credit facility using 100% of the net excess proceeds, as defined, from the sale of its Salem facility; 80% of net proceeds from assets sales and 50% of the net proceeds fromequity offerings.

On March 25, 2004, the Company entered into an amended agreement with Merrill Lynch. The amended agreement changed the maturity datefrom October 31, 2004 in the prior agreement to June 30, 2004. The amended agreement also increased the interest from LIBOR + 5.5% in the prior agreement to LIBOR + 7.5%. 
**TJJ Corporation**As of December 31, 2003, the Company had a $4,700,000 term note with TJJ Corporation secured by the Company's Salem headquarters.  On February 25, 2004, the            Company paid the note in full including outstanding principal and accrued interest of $4,400,000 and $25,000, respectively, with proceeds from a private placement of common stock            and convertible notes.
**Laurus Master Funds**As of May 4, 2004, the total value of the note issued on September 24, 2003 had been converted to 2,337,249 shares of common stock that resulted in an incremental      non-cash charge related to accelerated amortization of debt discount of $514,000 for the three months ending June 30, 2004.
On September 24, 2003, the Company sold a Convertible Note to Laurus Master Funds, LTD. The $2,500,000 Convertible Note matures onSeptember 24, 2006, bears interest at a rate equal to the Prime Rate plus 3. 5%, but in no event less than 7.5%, and provides the holder with the option to convert the loan to common stockat $1.07 per share subject to certain adjustment features. StockerYale has the right to elect to make the monthly required payments on the convertible note (comprised of principalamortization and interest) in the form of shares of common stock, determined based on the $1.07 conversion price. The Company also issued to the holder seven-year warrants to purchase sharesin the following warrant amounts and exercise prices per share of common stock: 225,000 shares at $1.23 per share, 150,000 shares at $1.34 per share and 100,000 shares at $1.44 per share.The aggregate purchase price of the convertible note and warrants ($2,500,000) was allocated between the note, the common stock conversion option and warrants based upon their relative fairmarket value. The purchase price assigned to the note, common stock beneficial conversion option and warrants was $1,551,700, $546,650 and $401,650 respectively. The difference between theface amount of the convertible note of $2,500,000 and the aggregate purchase price of the convertible note of $1,551,700 was recorded as a debt discount and is being amortized over the lifeof the convertible note. The Company used the Black-Scholes Model to calculate the fair value of the warrants. The underlying assumptions included in the Black-Scholes Model were: arisk-free interest rate of 2.7%; an expected life of seven years; and an expected volatility of 114% with no dividend yield.

The Company can elect to pay monthly principal amortization in cash at 103% of the principal amount. The Company may also elect to payboth principal amortization and interest in common stock, if the market price of the stock at the time of the payment is 110% of the fixed conversion price. The Company may elect to redeemthe principal amount outstanding at 120% within the first year, 115% within the second year and 110% during the third year. The principal amortization payments begin 120 days from theexecution of the agreement at a rate of $78,125 per month. As of June 30, 2004 the note had been fully converted to common stock. 

 
10 /  STKR    2004 Form 10-Q Table of Contents Part I Item 1
On February 25, 2004, the Company sold a Convertible Note to Laurus Master Funds, LTD. The $4,000,000 Convertible Note matures onFebruary 25, 2007, bears interest at a rate equal to the Prime Rate plus 2.0 %, but in no event less than 6.0 %, and provides the holder with the option to convert the loan to common stockat $1.30 per share subject to certain adjustment features. The Convertible Note is collateralized by a mortgage on the Salem building. StockerYale has the right to elect to make the monthlyrequired payments on the convertible note (comprised of principal amortization and interest) in the form of shares of common stock, determined based on the $1.30 conversion price. TheCompany also issued to the holder seven-year warrants to purchase shares in the following warrant amounts and exercise prices per share of common stock: 375,000 shares at $1.56 per share,250,000 shares at $1.75 per share and 75,000 shares at $1.94 per share. The aggregate purchase price of the convertible note and warrants ($4,000,000) was allocated between the note, thecommon stock conversion option and warrants based upon their relative fair market value. The purchase price assigned to the note, common stock beneficial conversion option and warrants was$2,319,047, $988,184 and $692,769 respectively. The difference between the face amount of the convertible note of $4,000,000 and the aggregate purchase price of the convertible note of$2,319,047 was recorded as a debt discount and is being amortized over the life of the convertible note. The Company used the Black-Scholes Model to calculate the fair value of the warrants.The underlying assumptions included in the Black-Scholes Model were: a risk-free interest rate of 3.0%; an expected life of seven years; and an expected volatility of 140% with no dividendyield.The Company can elect to pay monthly principal amortization in cash at 101% of the principal amount. The Company may also elect to pay both principal amortization and interest incommon stock, if the market price of the stock at the time of the payment is 110% of the fixed conversion price. The Company may elect to redeem the principal amount outstanding at 115%within the first year, 110% within the second year and 105% during the third year. The principal amortization payments begin 120 days from the execution of the agreement at a rate of$125,000 per month. As of June 30, 2004, $2,499,000 was outstanding under the convertible note and has been classified as long-term debt. The obligation has been reported net of $834,588related to unamortized debt discount based upon beneficial conversion rights and warrants.

As of June 30, 2004, based upon the note issued on February 25, 2004, Laurus had converted $1,501,500 into 1,155,000 shares of commonstock that resulted in an incremental non-cash charge related to accelerated amortization of debt discount of $631,000 for the three months ended June 30, 2004.

On June 10, 2004, the Company sold a Convertible Note to Laurus Master Funds, LTD and another institutional investor. The $5,500,000Convertible Note matures on June 20, 2007, bears interest at a rate equal to the Prime Rate plus 1.0 %, but in no event less than 5.0 %, and provides the holder with the option to convertthe loan to common stock at $2.15 per share subject to certain adjustment features. The Convertible Note is collateralized by U.S. accounts receivable, inventory and equipment and a secondmortgage on the Montreal, Canada building. StockerYale has the right to elect to make the monthly required payments on the convertible note (comprised of principal amortization and interest)in the form of shares of common stock, determined based on the $2.15 conversion price. The Company also issued to the holders seven-year warrants to purchase an aggregate of 440,000 sharesat $3.12 per share The aggregate purchase price of the convertible note and warrants ($5,500,000) was allocated between the note, the common stock conversion option and warrants based upontheir relative fair market value. The purchase price assigned to the note, common stock beneficial conversion option and warrants was $3,646,478, $1,093,511 and $760,011 respectively. Thedifference between the face amount of the convertible note of $5,500,000 and the aggregate purchase price of the convertible note of $3,646,478 was recorded as a debt discount and is beingamortized over the life of the convertible note. The Company used the Black-Scholes Model to calculate the fair value of the warrants. The underlying assumptions included in theBlack-Scholes Model were: a risk-free interest rate of 4.43%; an expected life of seven years; and an expected volatility of 145.92% with no dividend yield.

The Company is subject to contractual obligations to file a registration statement covering the shares underlying the notes andwarrants issued June 10, 2004 within 30 days following closing and to have the registration statement declared effective within 90 days of closing. The Company has not yet filed theregistration statement and will incur penalties of $55,000 (1% of the face value of the note) per each thirty-day period until the registration statement is declared effective.
 11  /  STKR    2004 Form 10-Q Table of Contents Part I Item 2 
The Company can elect to pay monthly principal amortization in cash at 101% of the principal amount. The Company may also elect to payboth principal amortization and interest in common stock, if the market price of the stock at the time of the payment is 110% of the fixed conversion price. The Company may elect to redeemthe principal amount outstanding at 115% within the first year, 110% within the second year and 105% during the third year. The principal amortization payments begin 120 days from theexecution of the agreement at a rate of $171,875 per month. As of June 30, 2004, $5,500,000 was outstanding under the Convertible Note of which $1,375,000 has been classified as short-termdebt and $4,125,000 has been classified as long-term debt. The obligation has been reported net of $1,758,470 related to unamortized debt discount based upon beneficial conversion rights andwarrants. 
**National Bank of Canada**On May 26, 2003, the Company entered into a credit agreement with the National Bank of Canada replacing the facility with Toronto Dominion Bank. The new agreement      provided total borrowing availability up to C$4,050,000 ($3,000,000 US), including a line of credit of C$2,500,000 ($1,850,000 US) and a ten-year term note of C$1,550,000 ($1,150,000      US). Initial proceeds were used to pay off the credit agreement with Toronto Dominion Bank.
On August 23, 2003, the Company amended its credit facility with National Bank of Canada to reduce the restricted term deposit fromC$1,000,000 ($740,000 US) to C$250,000 ($185,000 US) and reduce the term loan from C$2,300,000 ($1,702,000 US) to C$1,550,000 ($1,147,000 US) . The net availability of the term loan remainedthe same. In addition, the bank added Canadian Provincial Government research and development tax credits as additional eligible accounts receivable, which increased the availability of therevolving credit facility by approximately C$300,000 ($222,000 US). All other terms of the credit facility remained the same, including StockerYale, Inc.'s guarantee to fund StockerYaleCanada's deficits if requested by the bank. 

On November 20, 2003, the credit facility was amended increasing the interest rate on the line of credit to the Canadian prime rateplus 2.00% and the term note to the Canadian prime rate plus 2.75%.The National Bank of Canada credit facility requires the following financial covenants, including working capital, net worth, capital expenditures, a financial coverage ratio and maximuminventory levels.

On March 19, 2004, the Company entered into an amended agreement with the National Bank of Canada. The new agreement includes a line ofcredit of C$2,500,000 ($1,875,000 US) and a five-year term note of C$1,396,000 ($1,050,000 US). The amended agreement reduced the net worth covenant from C$10,800,000 in the May 26, 2003agreement to C$8,000,000 in the March 19, 2004 agreement as of December 31, 2003. The amended agreement also requires a C$10,000,000 net worth as of September 30, 2004 and thereafter. Theamended agreement also reduced the reduced the inventory component of the line of credit availability from C$750,000 to C$625,000 and requires the Company to achieve specific net profittargets throughout 2004.

As of June 30, 2004, C$1,393,000 ($1,039,000 US) was outstanding under the line of credit and C$1,320,000 ($ 985,000 US) wasoutstanding under the term note. As of June 30, 2004, the interest rate on the line of credit and the term note were 5.75% and 6.5%, respectively.

As of June 30, 2004, the Company was in compliance with all provisions of its loan agreements.

(13) SUBSEQUENT EVENTS
The company was recently informed by the staff of the Securities and Exchange Commission (the "SEC") that the SEC is conducting a formal investigation into certain      matters relating to the company. The company understands that the SEC's investigation relates to press releases that the company issued on April 19, 2004 and April 21, 2004, and      trading in the company's securities on or around the time the press releases were issued. The SEC has not concluded that there has been any wrongdoing, and the company is cooperating      fully with the SEC in the conduct of this inquiry. 12  /  STKR    2004 Form 10-Q Table of Contents Part I Item 2
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND OPERATING RESULTS

***This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of1933 and section 21E of the Securities Exchange Act of 1934. The company's actual results could differ materially from those set forth in the forward-looking statements. When the Companyuses words such as "anticipate," "believe," "estimate," "expect," "intend," and other similar expressions, they generally identify forward-looking statements. Forward-looking statementsinclude, for example, statements relating to acquisitions and related financial information, development activities, business strategy and prospects, future capital expenditures, sources andavailability of capital, environmental and other regulations and competition. Investors should exercise caution in interpreting and relying on forward-looking statements since they involveknown risks, uncertainties and other factors which are, in some cases, beyond the company's control and could materially affect the Company's actual results, performance or achievements.Such factors include, without limitation: market conditions that could make it more difficult or expensive for the Company to obtain the necessary capital to finance its research anddevelopment projects, operations, as well as its ability to refinance existing debt; the existence of other independent suppliers of optical fiber, who may have greater resources than theCompany; and the uncertainty that the company's significant investments in research and development will not result in products that achieve market acceptance. Additional such factors arediscussed in the section entitled "certain factors affecting future operating results" on page 23 of the Company's annual report on form 10-K for the fiscal year ended December 31, 2003.***

RESULTS OF OPERATIONS

The following discussion should be read in conjunction with the attached unaudited condensed consolidated financial statements andnotes thereto and with our audited financial statements and notes thereto included in the company's Annual Report on form 10-K for the year ended December 31, 2003.

THREE MONTHS ENDED JUNE 30, 2004 AND 2003

Net Sales

For the quarter ended June 30, net sales increased $0.9 million or 24% from $3.6 million in 2003 to $4.5 million in 2004. Illuminationrevenues increased $0.8 million or 23% over the comparable period in 2003 representing 90% of the revenue gain. The optical components product line posted a modest $0.1 million comparableincrease. Increased shipments of structured lasers for the machine vision sector coupled with continued growth in the LED and machine vision systems sales were the key factors contributingto the strong performance.

Gross Profit

Gross margins improved from $0.8 million or 22% of sales in 2003 to $1.2 million or 27% of sales in 2004 as increased sales andimproved gross margins contributed incremental profits of $0.2 million and $0.2 million, respectively.

Operating Expenses

Operating expenses remained level at $2.9 million as savings in research and development and selling expenses were offset by highergeneral and administrative expenses, principally due to moving and severance costs associated with the consolidation of Salem manufacturing operations to Montreal. Research and developmentand selling expenses each declined $0.1 million based upon lower salaries and fringe benefit costs. 
13  /  STKR    2004 Form 10-Q Table of Contents Part I Item 2
Interest Expense

Interest expense increased $ 29,000 in the second quarter of fiscal 2004 compared to 2003 due to higher interest rates.

Net Income (Loss)

 Net loss for the three months ended June 30, 2004 increased $1.3 million to $3.7 million compared to a net loss of $2.4 million forthe same period in 2003, as non-cash charges for debt amortization of $1.7 million more than offset an operating profit improvement of $0.4 million.

Provision (Benefit) for Income Taxes

 The Company's historical operating losses raise doubt as to the realizability of the deferred tax assets. As a result, management hasprovided a valuation allowance for the net deferred tax assets that may not be realized.

SIX MONTHS ENDED JUNE 30, 2004 AND 2003

Net Sales

For the six months ended June 30, net sales increased $1.4 million or 20% from $7.2 million in 2003 to $8.6 million in 2004.Illumination revenues increased $1.5 million or 23% over the comparable period in 2003 with sequential quarterly shipments of lasers and LED increasing $1.0 and $0.4 million, respectively.

Gross Profit

Gross margins improved $0.7 million or 41% in 2004 to $2.4 million or 28% of sales as increased sales and improved gross marginscontributed incremental profits of $0.4 million and $0.3 million, respectively.

Operating Expenses

Operating expenses decreased $0.3 million or 5% from $5.9 million for the first six months of 2003 to $5.6 million in the first sixmonths of 2004. Research and development expenses declined $0.2 million or 11% due to reduced salaries and lower development costs. Lower salaries, advertising and trade show expendituresresulted in a $0.2 million or 10% decline in selling expenditures. General and administrative expenses increased $0.1 million or 3% principally due to higher professional fees. Theconsolidation program implemented in the second quarter of 2004 is expected to result in a lower overall cost structure with incremental savings commencing in the second half of the year.

Interest Expense

Interest expense increased $ 48,000 in the first half of fiscal 2004 compared to 2003 due to higher interest rates.

Net Income (Loss)

Net loss for the six months ended June 30, 2004 increased $1.4 million to $5.9 million compared to a net loss of $4.5 million for thesame period in 2003, as non-cash charges for debt amortization of $2.4 million more than offset an operating profit improvement of $1.0 million.
 14  /  STKR    2004 Form 10-Q Table of Contents Part I Item 2
Provision (Benefit) for Income Taxes

The Company's historical operating losses raise doubt as to the realizability of the deferred tax assets. As a result, management hasprovided a valuation allowance for the net deferred tax assets that may not be realized.

LIQUIDITY AND CAPITAL RESOURCES

 As of June 30, 2004, the Company was in compliance with all provisions of its loan agreements.

During the first quarter of 2004, the Company raised approximately $2.6 million through the private placement of common stock. Inconjunction with the private placement on February 3, 2004 of 2,334,130 shares of common stock, the Company issued warrants to purchase 582,533 shares of common stock at a price of $1.50 pershare. Each warrant expires on February 3, 2007. The Company also issued additional investment rights to purchase 582,533 shares of common stock at a price of $1.15 per share. Eachadditional investment right expires 90 trading days after the effective date of registration. As of June 30, 2004, 313,479 additional investment rights were converted to 313,479 shares.

During the second quarter of 2004, the Company raised an additional $5.5 million through the placement of a convertible note. The netproceeds of $5.2 million were used to retire its $3.4 million senior U.S. credit facility with Merrill Lynch Financial Services. The remaining $1.8 million will be used for general workingcapital purposes.

Based upon the Company's current forecast for 2004, the Company plans to increase revenues, reduce costs and pursue various options toraise additional funds to finance operations through the end of 2004. The Company can give no assurances to the timing or terms of such arrangements, assuming it is able to consummate one ormore of these options. If the Company is unable to raise sufficient funds through these options by the end of the fourth quarter of 2004, it will need to implement further cost reductionstrategies, and the Company may not have adequate capital to sustain its current operations. Financing options in process or under consideration are the sale of real estate and/or a privateplacement of equity and/or debt securities. The Company expects to close on several of these financing options by the end of 2004.

For the six months period ended June 30, 2004, cash and cash equivalents increased approximately $1.4 million from $1.0 million atDecember 31, 2003 to $2.4 million at June 30, 2004. Cash used in operating activities declined $1.3 million for the period ended June 30, 2004 as a $1.4 million increase in the net loss wasprincipally offset by a net $2.1 million increase in non-cash charges for depreciation and debt amortization and a $0.6 reduction in inventory.

Cash provided by financing activities during the first half of 2004 increased $2.9 million to $3.7 million as net proceeds from thesales of stock and private placement of convertible debt of $3.1 and $8.9 million respectively were used to retire $8.6 million in debt and provide an additional $3.4 million in workingcapital.

Investing activities were cash neutral through the first half of 2004, as purchases of $0.3 million were offset with $0.2 million inproceeds from assets sales.
**Merrill Lynch Financial Services**On June 10, 2004, the Company paid the credit facility in full including outstanding principal and accrued interest of $3,370,000 and $7,000 respectively, with proceeds      from a convertible note.
The Company's obligations under the credit facility are secured by substantially all of the Company's Salem assets, excluding real      property. The facility was also subject to various financial covenants, including having a minimum net worth of $10.0 million at all times. The Company was also required to repay      amounts under the credit facility using 100% of the net excess proceeds, as defined, from the sale of its Salem facility; 80% of net proceeds from assets sales and 50% of the net      proceeds from equity offerings.

On March 25, 2004, the Company entered into an amended agreement with Merrill Lynch. The amended agreement changed the maturity date from October 31, 2004 in the      prior agreement to June 30, 2004. The amended agreement also increased the interest from LIBOR + 5.5% in the prior agreement to LIBOR + 7.5%.  15  /  STKR    2004 Form 10-Q Table of Contents Part I Item 2 **TJJ Corporation**As of December 31, 2003, the Company had a $4,700,000 term note with TJJ Corporation secured by the Company's Salem headquarters. On February 25, 2004, the Company            paid the note in full including outstanding principal and accrued interest of $4,400,000 and $25,000, respectively, with proceeds from a private placement of common stock and            convertible notes.
**National Bank of Canada**On May 26, 2003, the Company entered into a credit agreement with the National Bank of Canada replacing the facility with Toronto Dominion Bank. The new agreement      provided total borrowing availability up to C$4,050,000 ($3,000,000 US), including a line of credit of C$2,500,000 ($1,850,000 US) and a ten-year term note of C$1,550,000 ($1,150,000      US). Initial proceeds were used to pay off the credit agreement with Toronto Dominion Bank.
On August 23, 2003, the Company amended its credit facility with National Bank of Canada to reduce the restricted term deposit fromC$1,000,000 ($740,000 US) to C$250,000 ($185,000 US) and reduce the term loan from C$2,300,000 ($1,702,000 US) to C$1,550,000 ($1,147,000 US) . The net availability of the term loan remainedthe same. In addition, the bank added Canadian Provincial Government research and development tax credits as additional eligible accounts receivable, which increased the availability of therevolving credit facility by approximately C$300,000 ($222,000 US). All other terms of the credit facility remained the same, including StockerYale, Inc.'s guarantee to fund StockerYaleCanada's deficits if requested by the bank. 

On November 20, 2003, the credit facility was amended increasing the interest rate on the line of credit to the Canadian prime rateplus 2.00% and the term note to the Canadian prime rate plus 2.75%.

The National Bank of Canada credit facility requires the following financial covenants, including working capital, net worth, capitalexpenditures, a financial coverage ratio and maximum inventory levels.

On March 19, 2004, the Company entered into an amended agreement with the National Bank of Canada. The new agreement includes a line ofcredit of C$2,500,000 ($1,875,000 US) and a five-year term note of C$1,396,000 ($1,050,000 US). The amended agreement reduced the net worth covenant from C$10,800,000 in the May 26, 2003agreement to C$8,000,000 in the March 19, 2004 agreement as of December 31, 2003. The amended agreement also requires a C$10,000,000 net worth as of September 30, 2004 and thereafter. Theamended agreement also reduced the reduced the inventory component of the line of credit availability from C$750,000 to C$625,000 and requires the Company to achieve specific net profittargets throughout 2004.

As of June 30, 2004, C$1,393,000 ($1,039,000 US) was outstanding under the line of credit and C$1,320,000 ($ 985,000 US) wasoutstanding under the term note. As of June 30, 2004, the interest rate on the line of credit and the term note were 5.75% and 6.5%, respectively.
**Laurus Master Funds**As of May 4, 2004, the total value of the note issued on September 24, 2003 had been converted to 2,337,249 shares of common stock that resulted in an incremental      non-cash charge related to accelerated amortization of debt discount of $514,000 for the three months ended June 30, 2004. 16  /  STKR    2004 Form 10-Q Table of Contents Part I Item 2 
On September 24, 2003, the Company sold a Convertible Note to Laurus Master Funds, LTD. The $2,500,000 Convertible Note matures onSeptember 24, 2006, bears interest at a rate equal to the Prime Rate plus 3. 5%, but in no event less than 7.5%, and provides the holder with the option to convert the loan to common stockat $1.07 per share subject to certain adjustment features. StockerYale has the right to elect to make the monthly required payments on the convertible note (comprised of principalamortization and interest) in the form of shares of common stock, determined based on the $1.07 conversion price. The Company also issued to the holder seven-year warrants to purchase sharesin the following warrant amounts and exercise prices per share of common stock: 225,000 shares at $1.23 per share, 150,000 shares at $1.34 per share and 100,000 shares at $1.44 per share.The aggregate purchase price of the convertible note and warrants ($2,500,000) was allocated between the note, the common stock conversion option and warrants based upon their relative fairmarket value. The purchase price assigned to the note, common stock beneficial conversion option and warrants was $1,551,700, $546,650 and $401,650 respectively. The difference between theface amount of the convertible note of $2,500,000 and the aggregate purchase price of the convertible note of $1,551,700 was recorded as a debt discount and is being amortized over the lifeof the convertible note. The Company used the Black-Scholes Model to calculate the fair value of the warrants. The underlying assumptions included in the Black-Scholes Model were: arisk-free interest rate of 2.7%; an expected life of five years; and an expected volatility of 114% with no dividend yield.

The Company can elect to pay monthly principal amortization in cash at 103% of the principal amount. The Company may also elect to payboth principal amortization and interest in common stock, if the market price of the stock at the time of the payment is 110% of the fixed conversion price. The Company may elect to redeemthe principal amount outstanding at 120% within the first year, 115% within the second year and 110% during the third year. The principal amortization payments begin 120 days from theexecution of the agreement at a rate of $78,125 per month. As of June 30, 2004 the note had been fully converted to common stock. 

On February 25, 2004, the Company sold a Convertible Note to Laurus Master Funds, LTD. The $4,000,000 Convertible Note matures onFebruary 25, 2007, bears interest at a rate equal to the Prime Rate plus 2.0 %, but in no event less than 6.0 %, and provides the holder with the option to convert the loan to common stockat $1.30 per share subject to certain adjustment features. The Convertible Note is collateralized by a mortgage on the Salem building. StockerYale has the right to elect to make the monthlyrequired payments on the convertible note (comprised of principal amortization and interest) in the form of shares of common stock, determined based on the $1.30 conversion price. TheCompany also issued to the holder seven-year warrants to purchase shares in the following warrant amounts and exercise prices per share of common stock: 375,000 shares at $1.56 per share,250,000 shares at $1.75 per share and 75,000 shares at $1.94 per share. The aggregate purchase price of the convertible note and warrants ($4,000,000) was allocated between the note, thecommon stock conversion option and warrants based upon their relative fair market value. The purchase price assigned to the note, common stock beneficial conversion option and warrants was$2,319,047, $988,184 and $692,769 respectively. The difference between the face amount of the convertible note of $4,000,000 and the aggregate purchase price of the convertible note of$2,319,047 was recorded as a debt discount and is being amortized over the life of the convertible note. The Company used the Black-Scholes Model to calculate the fair value of the warrants.The underlying assumptions included in the Black-Scholes Model were: a risk-free interest rate of 3.0%; an expected life of seven years; and an expected volatility of 140% with no dividendyield.

The Company can elect to pay monthly principal amortization in cash at 101% of the principal amount. The Company may also elect to payboth principal amortization and interest in common stock, if the market price of the stock at the time of the payment is 110% of the fixed conversion price. The Company may elect to redeemthe principal amount outstanding at 115% within the first year, 110% within the second year and 105% during the third year. The principal amortization payments begin 120 days from theexecution of the agreement at a rate of $125,000 per month. As of June 30, 2004, $2,499,000 was outstanding under the convertible note and has been classified as long-term debt. Theobligation has been reported net of $834,588 related to unamortized debt discount based upon beneficial conversion rights and warrants.
 17  /  STKR    2004 Form 10-Q Table of Contents Part I Item 2
As of June 30, 2004, based upon the note issued February 25, 2004, Laurus had converted $1,501,500 into 1,155,000 shares of commonstock that resulted in an incremental non-cash charge related to accelerated amortization of debt discount of $631,000 for the three months ended June 30, 2004.

On June 10, 2004, the Company sold a Convertible Note to Laurus Master Funds, LTD and another institutional investor. The $5,500,000Convertible Note matures on June 20, 2007, bears interest at a rate equal to the Prime Rate plus 1.0 %, but in no event less than 5.0 %, and provides the holder with the option to convertthe loan to common stock at $2.15 per share subject to certain adjustment features. The Convertible Note is collateralized by U.S. accounts receivable, inventory and equipment and a secondmortgage on the Montreal, Canada building. StockerYale has the right to elect to make the monthly required payments on the convertible note (comprised of principal amortization and interest)in the form of shares of common stock, determined based on the $2.15 conversion price. The Company also issued to the holders seven-year warrants to purchase an aggregate of 440,000 sharesat $3.12 per share The aggregate purchase price of the convertible note and warrants ($5,500,000) was allocated between the note, the common stock conversion option and warrants based upontheir relative fair market value. The purchase price assigned to the note, common stock beneficial conversion option and warrants was $3,646,478, $1,093,511 and $760,011 respectively. Thedifference between the face amount of the convertible note of $5,500,000 and the aggregate purchase price of the convertible note of $3,646,478 was recorded as a debt discount and is beingamortized over the life of the convertible note. The Company used the Black-Scholes Model to calculate the fair value of the warrants. The underlying assumptions included in theBlack-Scholes Model were: a risk-free interest rate of 4.43%; an expected life of seven years; and an expected volatility of 145.92% with no dividend yield.

The Company is subject to contractual obligations to file a registration statement covering the shares underlying the notes andwarrants issued June 10, 2004 within 30 days following closing and to have the registration statement declared effective within 90 days of closing. The Company has not yet filed theregistration statement and will incur penalties of $55,000 (1% of the face value of the note) per each thirty-day period until the registration statement is declared effective.

The Company can elect to pay monthly principal amortization in cash at 101% of the principal amount. The Company may also elect to payboth principal amortization and interest in common stock, if the market price of the stock at the time of the payment is 110% of the fixed conversion price. The Company may elect to redeemthe principal amount outstanding at 115% within the first year, 110% within the second year and 105% during the third year. The principal amortization payments begin 120 days from theexecution of the agreement at a rate of $171,875 per month. As of June 30, 2004, $5,500,000 was outstanding under the Convertible Note of which $1,375,000 has been classified as short-termdebt and $4,125,000 has been classified as long-term debt. The obligation has been reported net of $1,758,470 related to unamortized debt discount based upon beneficial conversion rights andwarrants. 

CRITICAL ACCOUNTING POLICIES, COMMITMENTS AND CERTAIN OTHER MATTERS

The Company considered the disclosure requirements of FR-60 regarding critical accounting policies and FR-61 regarding liquidity andcapital resources, certain trading activities and related party/certain other disclosures, and concluded that nothing materially changed during the quarter that would warrant furtherdisclosure under these releases.
18 /  STKR    2004 Form 10-Q Table of Contents  Part I Item 3
ITEM 3.    QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

FOREIGN CURRENCY EXCHANGE RISK

Management has determined that all of the Company's foreign subsidiaries operate primarily in local currencies that represent thefunctional currencies of the subsidiaries. All assets and liabilities of foreign subsidiaries are translated into U.S. dollars using the exchange rate prevailing at the balance sheet date,while income and expense accounts are translated at average exchange rates during the year. As such, the Company's operating results are affected by fluctuations in the value of the U.S.dollar as compared to currencies in foreign countries, as a result of the Company's transactions in these foreign markets. The Company does not operate a hedging program to mitigate theeffect of a significant rapid change in the value of the Canadian Dollar or Euro as compared to the U.S. dollar. If such a change did occur, the Company would have to take into account acurrency exchange gain or loss in the amount of the change in the U.S. dollar denominated balance of the amounts outstanding at the time of such change. While the Company does not believesuch a gain or loss is likely, and would not likely be material, there can be no assurance that such a loss would not have an adverse material effect on the Company's results of operationsor financial condition.

INTEREST RATE RISK

The Company is exposed to market risk from changes in interest rates, which may adversely affect its financial position, results ofoperations and cash flows. In seeking to minimize the risks from interest rate fluctuations, the Company manages exposures through its regular operating and financing activities. The Companyis exposed to interest rate risk primarily through its borrowings under its $ $4.8 million CDN credit facility with the National Bank of Canada with interest rates of 2.0% and 2.75% over theCanadian prime rate. As of June 30, 2004 the fair market value of the Company's outstanding debt approximates its carrying value due to the short-term maturities and variable interest rates.A 1% change in interest rates could increase or decrease interest expense by approximately $20,000 on an annual basis.

ITEM 4.    CONTROLS AND PROCEDURES

(a) Evaluation of disclosure controls and procedures.

As required by new Rule 13a-15 under the Securities Exchange Act of 1934, within the 90 days prior to the date of this report, theCompany carried out an evaluation under the supervision and with the participation of the Company's management, including the Company's Chief Executive Officer and Chief Financial Officer,of the effectiveness of the design and operation of the Company's disclosure controls and procedures. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officerconcluded that the Company's disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in the reports it files or submits under theExchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission's rules and forms. In connection with the new rules,we currently are in the process of further reviewing and documenting our disclosure controls and procedures, including our internal controls and procedures for financial reporting, and mayfrom time to time make changes aimed at enhancing their effectiveness and to ensure that our systems evolve with our business.

(b) Changes in internal controls

None
19  /  STKR    2004 Form 10-Q Table of Contents  Part II Item 1 - 5
Item 1.     LEGAL PROCEEDINGS

The company was recently informed by the staff of the Securities and Exchange Commission (the "SEC") that the SEC is conducting a      formal investigation into certain matters relating to the company. The company understands that the SEC's investigation relates to press releases that the company issued on April 19,      2004 and April 21, 2004, and trading in the company's securities on or around the time the press releases were issued. The SEC has not concluded that there has been any wrongdoing, and      the company is cooperating fully with the SEC in the conduct of this inquiry.

Item 2.    CHANGES IN SECURITIES AND USE OF PROCEEDS

On June 10, 2004, the Company privately placed Convertible Notes in the aggregate principal amount of $5,500,000 and seven-year      Warrants to purchase an aggregate of 440,000 shares at $3.12 per share to Laurus Master Funds, Ltd and another institutional investor. The private placement was exempt from      registration pursuant to Section 4(2) of the Securities Act of 1933, as amended. Proceeds of the placement were used to repay indebtedness and for working capital purposes.

Item 3.    DEFAULTS UPON SENIOR SECURITIES

Not applicable.

Item 4.    SUBMISSION OF MATTERS TO A VOTE OF SECURITY

a) A special meeting of stockholders of the Company in lieu of the annual meeting was held on May 17, 2004.

b) The following matters were presented and voting results were as follows:
PROPOSAL I - Election of Directors    
**Number of Shares/Votes****Nominees**
**For** 
**Withheld**Mark W. Blodgett 11,696,18636,841Dietmar E. Klenner11,696,18633,841Lawrence W. Blodgett 11,696,18633,841Steven E. Karol 11,696,18636,841Patrick J. Zilvitis11,696,18633,841Raymond J. Oglethorpe11,696,18636,841
PROPOSAL II- 2004 Stock Option and Incentive Plan:
**FOR****AGAINST****ABSTAIN****NO-VOTE**6,297,820202,62216,3655,516,220
Item 5.    OTHER INFORMATION

Not applicable.
20  /  STKR    2004 Form 10-Q Table of Contents  Part II Item 6  
Item 6.    EXHIBITS, LISTS AND REPORTS ON FORM 8-K

(a)  The following is a complete list of exhibits filed as part of this Form 10-Q: Exhibit Number        Description31.1                 CEO Certification31.2                 CFO Certification32.1                 CEO Certification32.2                 CFO Certification
(b)  Reports on Form 8-K:

1) On April 8, 2004, the Company issued a press release concerning the expected release of its first quarter 2004 financial results andthe qualification by the Company's auditors in the Company's Annual Report filed as Form 10-K regarding the ability of the Company to continue as a going concern. 

2) On April 13, 2004, the Company issued a press release concerning the appointment of new independent auditors. 

3) On April 13, 2004, the Company issued a press release concerning the Company's financial results for the first quarter of fiscal2004. 

4) On June 16, 2004, the Company issued a press release concerning a private placement of Secured Convertible Notes in an aggregateprincipal amount of $5.5 million with two institutional investors. 

5) On July 27, 2004, the Company issued a press release concerning the Company's financial results for the second quarter of fiscal2004. 

6) On August 10, 2004 the Company disclosed that the staff of the Securities and Exchange Commission (the "SEC")  is conducting aformal investigation into certain matters relating to the company.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on itsbehalf by the undersigned, thereto duly authorized.
 StockerYale, Inc.      August 16, 2004/s/ Mark W. Blodgett  Mark W. Blodgett,  Chairman and Chief Executive Officer   August 16, 2004/s/ Francis J. O'Brien  Francis J. O'Brien,  Chief Financial Officer and Treasurer    20  /  STKR  END  2004 Form 10-Q |
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