<PAGE>
                                 United States
                       Securities and Exchange Commission
                             Washington, D.C. 20549

                                  Form 10-KSB

         [X] Annual Report Under Section 13 or 15(d) of The Securities
                             Exchange Act of 1934

                  For the fiscal year ended December 31, 2001

[ ] Transition Report Under Section 13 or 15(d) of The Securities Exchange Act
                                of 1934 for the

            Transition Period from _____________ to _______________

                          Commission File No. 1-14005

                           FRISBY TECHNOLOGIES, INC.
                            ------------------------
                 (Name of small business issuer in its charter)

           Delaware                                      62-1411534
-------------------------------            ------------------------------------
(State or other jurisdiction of            (I.R.S. Employer Identification No.)
incorporation or organization)

        3195 Centre Park Boulevard, Winston-Salem, North Carolina 27107
        ---------------------------------------------------------------
              (Address of principal executive offices) (Zip Code)

                   Issuer's telephone number: (336) 784-7754

         Securities registered under Section 12(b) of the Exchange Act:

                         Common Stock, $0.001 par value
                                (Title of Class)

         Securities registered under Section 12(g) of the Exchange Act:

                                      None
                                (Title of Class)

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 [ ]

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

State issuer's revenues for its most recent fiscal year.      $8,180,700

State the number of shares outstanding of each of the issuer's classes of
common equity. As of March 25, 2002 - 8,848,022.

Based upon the closing price of the registrant's common stock on March 25,
2002, the aggregate market value of the common stock held by non-affiliates is
approximately $4,544,000.

The information required by Part III of this Form 10-KSB is incorporated by
reference to the Registrant's definitive proxy statement with respect to its
2002 annual meeting of stockholders to be filed with the Commission within 120
days of its fiscal year end.


<PAGE>


PART I

ITEM 1. DESCRIPTION OF BUSINESS.

GENERAL

         Frisby Technologies, Inc (the "Company" or "Frisby") incorporated in
North Carolina in 1989 and reincorporated in Delaware in 1998 in connection
with its initial public offering. The Company is a developer and marketer of
innovative branded thermal management products for use in a broad range of
consumer and industrial products. These products provide thermal regulating
benefits in both hot and cold environments. The Company's products were
initially incorporated in commercial end-use applications in 1997 and its
current products are used in consumer end-products such as gloves, boots,
athletic footwear, fashion apparel, performance outerwear, medical braces and
home furnishings.

         Frisby's vision is to be the global leader in the development,
commercialization and marketing of temperature balancing materials. The key
elements of the Company's strategy to achieve its goal and thereby deliver the
maximum value for its stockholders are:

         -        Leverage its core competency in microencapsulated phase
                  change material technology, innovation and marketing;

         -        Expand the COMFORTEMP(R)and C(degree)(TM)global brand
                  equities;

         -        Achieve greater penetration across product lines of existing
                  customers;

         -        Accelerate revenue growth through an improved pricing model,
                  deeper market penetration and more rapid growth in
                  commercial/industrial markets;

         -        Expand the distribution of high-margin COMFORTEMP(R)nonwovens
                  in the apparel, footwear, commercial and home furnishings
                  markets;

         -        Increase revenues through increased sales of higher margin
                  consumer specialty products;

         -        Better diversify into non-cyclical markets to counterbalance
                  the Company's seasonal products; and

         -        Protect and expand the Company's intellectual property
                  portfolio.

THE TECHNOLOGY

         The Company believes that its thermal management technology is the
first to effectively combine the two distinct technologies of thermal
management phase change materials (PCMs) and microencapsulation to effect
meaningful thermal management within applications across broad markets. Thermal
management is the process by which the temperature of various materials can be
controlled or manipulated. PCMs are materials that change from liquid to solid
and solid to liquid as they release or absorb heat. Through the careful
selection of PCMs, the Company is able to control


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the temperature at which the phase change occurs. Microencapsulation is the
enclosing of PCMs inside a microscopic shell to maintain the integrity of the
enclosed PCMs. Microencapsulation permits PCMs to be imbedded into a variety of
host materials.

PRODUCTS

         The Company's products consist of Thermasorb(R) brand
microencapsulated phase change materials (MPCMs), patented and patent-pending
component products that contain MPCMs such as foams, fabrics and nonwovens that
the Company sells under the COMFORTEMP(R) brand name, and finished consumer and
industrial end-products. The Thermasorb(R) additives are sold to licensed
manufacturers of intermediate component products such as foam and fabric. The
COMFORTEMP(R) branded thermal products are sold to licensed manufacturers of
finished end-products. Additionally, the Company markets its own product lines
of finished end-products directly to retailers.

Thermasorb(R) MPCMs

         The Company's Thermasorb(R) brand of MPCM additives are micron-sized
particles consisting of a heat absorbing PCM encapsulated within a durable
shell wall that can improve the thermal storage capacity of a variety of host
materials, including liquid, foam, nonwovens, epoxy, leather, composite
materials, plastics and gels. Just as water absorbs and releases heat at 32
(degree)F (0 (degree)C), the Company's MPCMs absorb and release heat at certain
discrete temperatures called phase change or activation temperatures.
Thermasorb(R) additives are currently commercially available in a variety of
activation temperatures ranging from 43(degree)F to 122(degree)F which allows
for an engineered solution for a multitude of thermal requirements.

         A wide variety of value-added, thermally enhanced intermediate
products can be produced with Thermasorb(R) additives. Component materials that
satisfy the Company's quality and performance specifications are commercialized
by the Company and its licensees and marketed and sold as COMFORTEMP(R) branded
Dynamic Climate Control (DCC(R)) materials (e.g., COMFORTEMP(R) nonwovens).
Incorporation of the Thermasorb(R) additives into a commodity material such as
foam or nonwovens results in a technologically advanced product with superior
thermal management qualities while maintaining the commodity product's inherent
aesthetic and physical qualities. COMFORTEMP(R) materials are currently most
typically used as components of finished consumer and industrial products such
as apparel, footwear and home furnishings.

         The choice of which MPCM to use for a particular application depends
largely on the intended function of the COMFORTEMP(R) material and the
end-products in which they are contained. The MPCMs can generally be
categorized as heating MPCMs, cooling MPCMs, or buffering MPCMs.

         Heating MPCMs are materials with a phase change temperature above the
normal temperature of the object to be warmed. When a heating MPCM is warmed
above its phase change temperature and placed in contact with the cooler
object, the heat flows from the MPCM to the object. A particular heating MPCM
may be used in a hot food delivery application to keep foods above a certain
safe temperature during delivery while a different heating MPCM may be used in
a heated therapeutic wrap for treating injuries. Heating PCMs may also be used
as a thermal fuse in order to protect an object from excessive heat caused by a
sudden rise in temperature. For example, heating PCMs may be used within
protective coatings on aircraft surfaces to absorb sudden, short-term pulses of

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externally produced heat or in electronics modules to absorb thermal spikes
that may be generated by the electronics during operation, enhancing the
thermal stability of the module.

         Cooling MPCMs are materials with a phase change temperature lower than
the normal temperature of the object intended to be cooled. When a cooling MPCM
is chilled below its phase change temperature and placed in contact with the
warmer object, the heat flows from the object to the cooler MPCM. As an
example, a cooling MPCM may be used in a knee brace to provide both support and
cold therapy.

         The majority of the Company's current products utilize buffering
MPCMs, materials that have phase change temperatures either slightly above or
below the temperature of the object with which they will be in contact. This
permits the MPCM to absorb or release heat automatically depending on the
environmental and metabolic conditions present, without the need to manually
heat or cool the MPCM prior to its use. COMFORTEMP(R) materials that
incorporate buffering MPCMs recharge naturally depending on the individual
level of physical activity or other external conditions. For cold weather
apparel products, these buffering COMFORTEMP(R) materials allow the garment to
retain body heat during periods of activity, minimizing the excessive
overheating and sweating that is common during physical activity, and release
the stored heat back to the individual during periods of inactivity when the
body is most in need of warmth. For warmer weather products, COMFORTEMP(R)
materials can be used to facilitate the body's own natural temperature
balancing system to provide a cooling effect. Articles of clothing made with
COMFORTEMP(R) materials are particularly well-suited for maintaining a
comfortable, constant body temperature when the wearer experiences changes in
environmental conditions, such as by going in and out of doors or by performing
a strenuous activity followed by periods of rest.

         Buffering MPCMS are not limited to clothing applications. They can
also be used to control the temperature of inanimate objects, like automobile
seats, to enhance the comfort of the person when he or she comes in contact
with the object.

COMFORTEMP(R) Foams and Fabrics

         COMFORTEMP(R) fabric packages result from the lamination or attachment
by other means of COMFORTEMP(R) foams to a wide variety of fabrics.
COMFORTEMP(R) foam can be combined with a wide variety of high performance
fabrics using traditional fabrication techniques, such as lamination and
sewing. Alternatively, the Company and its suppliers can produce composite
fabrics in which the COMFORTEMP(R) foam is coated directly on the
licensee/customer's selected fabrics, eliminating the lamination or sewing
step.

COMFORTEMP(R) Nonwovens

         Nonwovens, as the name implies, are fabrics not formed by weaving or
knitting. They are broadly defined as sheet or web structures bonded together
by entangling fibers or filaments by friction, and/or cohesion and/or adhesion.
Nonwoven fabrics are available that provide specific functions such as thermal
insulation, absorbency, liquid repellency, resilience, stretch, softness,
strength, flame retardancy, washability, cushioning, filtering, bacterial
barrier and sterility. In combination with other materials, they provide a
spectrum of diverse functions, and can be used alone

<PAGE>


or as components of apparel, home furnishings, health care, engineering,
industrial and consumer goods. Nonwovens are used extensively as unbranded
components of industrial applications.

         COMFORTEMP(R) nonwovens are nonwoven fabrics that are impregnated with
Thermasorb(R) MPCMS to add meaningful thermal performance qualities to the base
nonwoven fabric. There are presently three Company-approved styles of
COMFORTEMP(R) nonwovens available, each of which has a different phase change
activation temperature. Some of the more familiar products made with nonwovens
that the Company believes could be enhanced by substituting COMFORTEMP(R)
nonwovens include apparel interlining and insulation, footwear components, auto
interiors, carpeting and upholstery padding, house wraps and insulation.

         In July 2001, the Company introduced a COMFORTEMP(R) nonwoven targeted
at the apparel, footwear and home furnishings markets. This patent pending
nonwoven material was developed through the collaborative efforts of Frisby and
the world's leading manufacturer of nonwoven roll goods, Freudenberg
Vliesstoffe KG of Weinheim, Germany. Freudenberg manufactures COMFORTEMP(R)
nonwovens exclusively for sale by Frisby and its affiliates.

         In December 2001, the Company introduced another new patent pending
COMFORTEMP(R) nonwoven designed especially to meet the physical and thermal
performance demands of casual, dress, athletic and insulated cold-weather
footwear. This version of COMFORTEMP(R) nonwoven was developed jointly with the
research department at Texon UK Ltd., a division of Texon International plc,
based in England, the world's largest producer of cellulose and non-woven
footwear component materials.

Finished Products

         The Company offers thermal-related finished products to certain
industrial and consumer markets through its Steele & Associates ("Steele")
division and Extreme Comfort, Inc. ("Extreme Comfort") subsidiary. Steele
markets and sells a line of micro-climate cooling vests under the SteeleVest(R)
name. Extreme Comfort markets and sells a variety of personal heating products,
including The Roo(TM) hand warmer, under the Extreme Comfort(R) brand. In
addition, through the use of outsourced manufacturing arrangements, the Company
produces a variety of end-use products such as gloves and slippers that are
currently sold through mass market direct media. Collectively, these products
contributed approximately 32% of the Company's revenues in fiscal year 2001
compared to approximately 22% in fiscal year 2000.

PATENTS/INTELLECTUAL PROPERTY

Patents

         Frisby owns or otherwise has exclusive rights to use twenty-three
United States and International Patents. Another twelve patents are pending,
which include patents covering many of the Company's newer COMFORTEMP(R)
branded materials like the rubber and nonwoven materials. The patents covering
the Company's foams and fabrics do not begin to expire until 2011. There are
three main ways the Company acquires rights to patents and intellectual
property: licensing, acquisition, and invention.


<PAGE>


Licensing of Patents

         Frisby has various licensing agreements that give the Company the
exclusive rights to develop and commercialize certain proprietary and patented
technology in the field of MPCMs and thermal management. The two most important
to the current operations of the Company are with Triangle Research &
Development Corporation of Raleigh, North Carolina, generally relating to the
use of MPCMs within certain of its patented materials (the "TRDC License"), and
Outlast Technologies, Inc. of Boulder, Colorado, generally relating to the use
of MPCM-containing foams attached to fabric, where the thickness of the foam is
at least 2mm (the "Outlast License"). The term of each license is for the
commercial life of the last to expire licensed patent, which is currently
expected by the Company to extend at least until 2013.

         The TRDC License requires the Company to pay a royalty of between 2%
and 10% on product sales, sublicense fees and royalties received by the Company
from third parties for use of the licensed TRDC technology.

         The Outlast License, originally entered into by and between the
parties in 1998, was modified in 2001 to, among other things, (a) eliminate all
royalty payments, (b) eliminate annual minimum royalties and (3) extend the
term of exclusivity at least until 2013. Prior to January 1, 2001 the Company
paid Outlast a royalty of between 5% and 12.5% on product sales, royalties and
sub-license fees and, in order to maintain its exclusive rights under the
Outlast License, the Company was to be required to make minimum annual payments
to Outlast of $500,000 in 2001, $600,000 in 2002 and $1,000,000 each year
thereafter until expiration.

Acquisition of Patents

         The Company acquired certain patents and intellectual property as part
of the acquisition of Steele and Extreme Comfort. From time to time, the
Company considers opportunities to strengthen its patent portfolio through the
purchase of additional patents or other intellectual property related to
thermal management and/or personal comfort.

Inventions

         Frisby also seeks patents for its own inventions and discoveries. In
particular, the Company owns several recently issued U.S. Patents for a series
of inventions related to improving the durability and flame resistance of the
Company's microcapsules and other component materials.

         The Company also regularly engages in joint development efforts with
its licensees/customers that may result in the Company owning at least joint
rights to any new inventions that arise. For example, the Company and
co-inventors Freudenberg and Texon UK Ltd. have jointly filed patent
applications related to the Company's new line of COMFORTEMP(R) nonwovens.
Texon has assigned its rights to the invention to Frisby in exchange for tiered
royalties ranging from 1% to 5% of COMFORTEMP (R) nonwoven footwear component
materials sales. Freudenberg has retained its ownership interest in the
invention and is permitted to commercialize a competitive nonwoven product
provided Freudenberg does not use the COMFORTEMP(R) brand name and purchases
all of its MPCMs from Frisby. Neither Frisby nor Freudenberg owes the other
party royalties on sales of their respective nonwoven materials.


<PAGE>


         The following table summarizes the patents related to thermal
management technologies currently owned by or licensed to the Company:


<TABLE>
<CAPTION>
Date of Patent    Patent Number      Description                       Industry         Year of Expiration
----------------------------------------------------------------------------------------------------------

<S>               <C>               <C>                                <C>                       <C>
2/28/89           4,807,696         Thermal Energy Storage             Automotive,               2006
                                    Apparatus Using Encapsulated       Aerospace,
                                    PCMs.                              Electronics

3/27/90           4,911,232         Heat Transfer Using MicroPCM       Automotive                2007
                                    Slurries                           Computers, Electronics

4/16/91           5,007,478         MicroPCM Slurry Heat Sink          Computers, Electronics    2008

8/25/92           5,141,079         Cutting/Cooling Fluid              All Industries            2009

9/15/92           5,146,625         Cooling Vest                       All Industries            2009

7/6/93            5,224,356         Thermal Energy Absorbing and       Electronics               2010
                                    Conducting Potting Materials

3/1/94            5,290,904         Thermally Enhanced Heat Shields    Protective Apparel        2011

4/19/94           Des 346,063       Boot Warmer                        Footwear                  2011

4/26/94           5,305,471         Insulated Cooling Vest             All Industries            2011

11/22/94          5,366,801         Coated Fabric With Reversible      Protective Apparel        2011
                                    Enhanced Properties

5/16/95           5,415,222         Microclimate Cooling Garments      Protective Apparel        2012

1/16/96           5,484,448         Garment and Method for Cooling     All Industries            2013
                                    Body Temperature

3/19/96           5,499,460         Moldable Foam Insole with          Footwear                  2013
                                    Reversible Enhanced Thermal
                                    Storage

3/21/96           5,623,772         Foot-Warming System for a Boot     Footwear                  2013

6/10/97           5,637,389         Thermally Enhanced Foam            All Industries            2012
                                    Insulation

9/8/98            5,804,297         Thermal Insulating Coating         All Industries            2011
                                    Using MicroPCMs

8/8/00            6,099,894         Gel-Coated Microcapsules           All Industries            2018

1/9/01            6,171,647         Gel-Coated Microcapsules           All Industries            2018
                                    (Method Patent)

3/6/01            6,197,415         Gel-Coated Materials with          All Industries            2019
                                    Increased Flame Retardancy

8/7/01            6,270,836         Gel-Coated Microcapsules           All Industries            2018
                                    (Applications Patent)
1/14/98           0611330*          Coated Fabric With Reversible      All Industries            2013
                                    Enhanced Properties

9/1/99            0630195#          Moldable Foam Insole With          Footwear                  2013
                                    Reversible Enhanced Thermal
                                    Storage
</TABLE>

# European Patent granted with respect to the invention covered by United
States Patent No. 5,499,460

* European Patent granted with respect to the invention covered by United
States Patent No. 5,366,801

Note: Other patents not related to non-core business were obtained as a part of
the Extreme Comfort acquisition in 1999.

******************************************************************************


<PAGE>


Trademarks

         The Company has many trademarks that it uses to uniquely identify and
brand its products in the global marketplace. The Company typically seeks full
registration of these marks in the parts of the world where the products are
made, used or consumed. These include the US, Canada, Europe, Mexico, Japan,
China, Korea and other select countries. The primary trademarks owned by the
company are COMFORTEMP(R), Thermasorb(R), DCC(TM), C(degree)(TM), (degree)(TM)
(the degree symbol), The Roo(TM) and THE ULTIMATE DEGREE OF COMFORT(TM). This
Annual Report on Form 10-KSB also includes trademarks of companies other than
the Company.

Research and Development

         Beginning in 1997, the Company shifted its product development focus
toward commercialization of its own products and related applications and away
from government funded projects. The Company currently maintains several
employees devoted to identifying new applications and making improvements to
the Company's core technology. In particular, the Company is currently seeking
to develop its COMFORTEMP(R) products for use in industrial applications, like
automotive and packaging, and to increase the available styles of its nonwovens
to expand the number of applications and markets into which they may be
introduced. These internal efforts are supplemented by those of licensed
customers of the Company's products who may develop new materials and processes
within the field of their respective licenses, (e.g., gels, foams, etc.). The
Company's license agreements may provide it with at least joint ownership of
any new intellectual property developed by its customers. None of the Company's
research and development costs are borne directly by its customers.

STRATEGIC SOURCING AND QUALITY ASSURANCE

PCMs and Thermasorb(R) MPCMs

         The PCMs that are presently used by the Company are commercially
available materials that the Company believes are currently available from
several sources. Notwithstanding, the Company


<PAGE>


has historically purchased nearly all of its requirements for PCMs from a
single domestic source by individual purchase orders.

         Currently, the Company delivers PCMs to Minnesota Mining &
Manufacturing Company ("3M") to be manufactured into Thermasorb(R) MPCMs in
accordance with specifications provided by the Company. The Company and 3M have
an arrangement that provides pre-determined pricing and annual consumption
requirements based on the Company's anticipated microcapsule needs. This
arrangement ensures the Company's continuous access to such production
capacity.

COMFORTEMP(R) Foams and Fabrics

         The Company currently relies on three sources of COMFORTEMP(R) foams
and fabrics: one in the United States, one in Europe, and one in the
Asia-Pacific region. The Company is developing sources for these products in
other geographic locations with a high concentration of prospective licensed
end-product manufacturers. Two such sources, one in Mexico and one in Europe
are in the final stages of full certification for a COMFORTEMP(R) production
license.

COMFORTEMP(R) Nonwovens

         Frisby and Freudenberg have entered into an exclusive agreement with
regard to certain types of COMFORTEMP(R) nonwovens referred to in a patent
application jointly owned by Freudenberg and the Company. Under the terms of
the agreement, Freudenberg is the exclusive manufacturer for the Company of
COMFORTEMP(R) nonwovens and has agreed to purchase all of its requirements for
MPCMs from Frisby. Frisby has agreed not to produce this material itself
(subject to Freudenberg achieving certain contract performance benchmarks).

Quality Assurance

         The Company monitors its products during each step of the
manufacturing process for quality assurance purposes. Each PCM is tested to
ensure that the quantity of heat the PCM can hold at different temperature
levels adheres to the Company's product specifications. After encapsulation of
core PCM, the shell wall is tested at 3M to ensure that the product is
structurally sound. Frisby validates the thermal performance requirements of
the MPCM. The foams, fabrics and nonwovens are also tested before shipment to
customers. Until the vendor has met certain quality assurance requirements, the
Company's quality assurance employees at its North Carolina facility perform
all testing. For qualified vendors certified by Frisby, testing may be
performed by third party representatives at the manufacturing site.

SALES AND MARKETING

         Currently, the Company's sales and marketing strategy is based on: (i)
establishing and strengthening relationships with world class market leaders
for new product applications; (ii) establishing COMFORTEMP(R) as the recognized
brand for dynamic climate control products, similar to Gore-Tex(R) (for
waterproofing) and Thinsulate(TM) (for thermal insulation) and (iii) expanding
through strategic industry alliances, joint ventures and cross-licensing of
complementary products.


<PAGE>


Licensing

         The Company grants licenses to customers for (a) the use of its
patents in the production of certain materials containing Thermasorb(R) MPCMs
(a "production license"), and/or (b) the use of its trademarks in the
production, marketing and sale of finished end-products (a "trademark
license"). Typically, the Company grants production licenses to manufacturers
of intermediate component materials such as foam and it grants trademark
licenses to manufacturers of end-products such as footwear. The Company may
grant both licenses to vertically integrated licensees who produce their own
intermediate component materials during the production of the finished
end-products.

Trademark License

         The Company seeks to enter into trademark license agreements with
companies that have very strong brand names, excellent reputations for quality
and performance and extensive and established sales and distribution networks.
A typical trademark license: (i) defines the end-product in which to
incorporate COMFORTEMP(R) materials; (ii) requires the licensee to purchase all
of its requirements for COMFORTEMP(R) materials from the Company or appropriate
licensed suppliers; (iii) grants to the licensee the right, which may or may
not be exclusive, to use the Company's name and trademarks in conjunction with
the end-products produced; (iv) requires the licensee to component-brand the
Company's products by including the Company's trademarks in all their marketing
materials, point of sale displays, and sales promotion efforts for end-use
products incorporating the Company's products; and (v) establishes quality
control systems to ensure each end-product meets the Company's performance and
quality standards. The time required to become licensed to use the Company's
trademarks ranges from 3 months to as much as a year.

         First introduced in 1997, the Company currently has over 120 worldwide
licensees for its COMFORTEMP(R) trademark. The Company's sales of COMFORTEMP(R)
branded component materials are fairly evenly distributed among the customers
with the largest single customer accounting for approximately 17% of fiscal
year 2001 sales.

Production License

         A typical production license: (i) defines the type of COMFORTEMP(R)
material being licensed (e.g. foams and/or fabrics); (ii) provides a technical
specification for the product; (iii) defines approved channels of distribution;
(iv) defines quality control requirements; and (v) specifies approved packaging
and shipping methods. Before being granted a production license, a potential
licensee must demonstrate the ability to meet the quality standards established
by Frisby, which typically takes from 6 months to several years depending upon
the complexity of the material being produced.

         The Company has three production license agreements with manufacturers
of COMFORTEMP(R) foams and fabrics. Production licenses are also executed for
nonwovens, leather, rubber and gels. Several other production licenses are
pending materials qualification. The largest single production licensee
customer accounts for approximately 36% of 2001 sales of Thermasorb(R) MPCMs.


<PAGE>
Sales Activities

         The Company utilizes a combination of a direct sales force, sales
agents and distributors. The direct sales force is account based and sells the
entire range of the Company's products. In addition, a few select external
sales agents with special skills and/or relationships with key target customers
complement the direct sales force. The Company also has a distribution network
nationally for its Steele(R) and Extreme Comfort(R) products. The distributors
are required to purchase products from the Company and receive a discount from
list price.

Marketing and Communications

         The goal of the Company's sales and marketing strategy is to make
COMFORTEMP(R) the name consumers recognize as the material inside that keeps
them from becoming too hot or too cold regardless of their particular
activities or the particular environmental conditions. The strategy is centered
on gaining a "billboard" position on the customer's final product via a hang
tag, permanent label or a screen printed logo that communicates to consumers of
clothing, shoes, accessories and sporting goods that the item they are
purchasing is a quality product that contains temperature balancing material to
deliver The Ultimate Degree of Comfort(TM).

         The Company uses a marketing strategy that seeks to maximize the
effectiveness of its brand recognition program. Examples of some of the
marketing concepts employed by the Company include:

      -   Component branding strategies that incorporate creative point of
          purchase programs in cooperation with major customers;

      -   Customized co-operative advertising concepts;

      -   Marketing programs aimed at creating `pull-through' of our customer's
          products at retail;

      -   Exclusive sponsorships such as the United States Ski Team; and

      -   Personal endorsements from nationally recognized sports figures such
          as Brett Favre and Tiki Barber

         In addition to the coordinated efforts with licensees/customers, the
Company uses a variety of communication tools in order to build brand name
recognition of its Thermasorb(R) and COMFORTEMP(R) products and trademarks.
These include the use of advertising in trade and consumer media, public
relations professionals, direct mail, in-store displays and the Internet. The
Company's Internet sites on the World Wide Web include www.frisby.com,
www.comfortemp.com, www.thermasorb.com, www.steele.com and
www.extremecomfort.com.

Integrated Comfort Solutions (ICS)

         Recently, the Company introduced what it believes is an industry first
- an entirely new marketing and merchandising concept called Integrated Comfort
Solutions. ICS provides the licensee/customer with a full service design and
marketing approach which ensures the proper use and


<PAGE>


optimal placement of COMFORTEMP (R) products within the article to maximize
consumer benefit. To implement this concept, the Company has secured the
services of leading materials specialists and product designers. For each
targeted account, an ICS Team is established that consists of the outside
design experts, the Company's thermal designers and development staff and the
customer's designers and is managed by a dedicated account manager from the
Company to facilitate the achievement of commercialization goals.

Schoeller Textil AG, Switzerland

         In 2000, the Company and Schoeller Textil, AG ("Schoeller')
established Schoeller Frisby Technologies, GmbH ("SFT"), a majority-owned
Swiss-based organization with sales and distribution rights to the Company's
COMFORTEMP(R) foam and fabrics. These rights are exclusive throughout Europe
and also within the US-based fashion industry. SFT also has non-exclusive sales
and distribution rights within certain countries in Asia. It sells primarily
through Schoeller's existing worldwide network of direct sales personnel and
independent sales agencies. A four-member Board of Managers, consisting of two
appointees each from Schoeller and the Company, manages SFT.

         SFT became operational effective January 1, 2000 and contributed
approximately $3,200,000 in revenues in 2000 and approximately U.S. $2,300,000
in 2001. SFT has secured COMFORTEMP(R) sales to more than 70 licensees in 11
countries. Industrial customers include Rehband Anatomiska AB, a Swedish
medical brace company, BSS Thermo Bettewaren AG, a Swiss bedding company, and
Mehler Vario System GmbH, a German producer of bullet-proof vests. Consumer
apparel and footwear customers include BMW, Polo Ralph Lauren, Prada, Fila,
Puma, K2, Samsonite, Reusch, Andrew Marc, and other leading international
brands. The Company believes that SFT has enabled it to achieve more
coordinated and effective sales and marketing efforts and to strengthen its
brand image, particularly in European markets.

COMPETITION

MPCMs

         The Company's Thermasorb(R) MPCMs compete with unencapsulated PCMs.
Competition is generally confined to a small segment of the product markets
served by the Company - particularly in the food transport and hot/cold therapy
markets. Although unencapsulated PCMs are cheaper to produce than are
Thermasorb(R) MPCMs, the Company believes that it can compete favorably with
these products because unencapsulated PCMs are prone to leaking when the
material converts from solid to liquid and require specially sealed bags, which
limits the breadth of products into which they can be incorporated, whereas the
PCM in COMFORTEMP(R) is contained within the Thermasorb(R) capsule.

Foams, Fabrics, and Nonwovens

         The Company's COMFORTEMP(R) foams, fabrics and nonwovens compete with
the OUTLAST(R) brand of temperature regulating fibers, fabrics and foams
produced by Outlast Technologies, Inc. of Boulder, Colorado and its licensees
and with traditional insulation materials like Thinsulate(TM) thermal
insulation from 3M, Thermolite(R) insulation from DuPont and Primaloft(R)
synthetic down insulation from Albany International.


<PAGE>


         The Company believes that its COMFORTEMP(R) fabrics and nonwovens,
unlike traditional "passive" insulations, possess the ability to interact with
changes in body temperature preventing unwanted spikes of excess heat or excess
cold for the user, thereby creating a more temperature-balanced and comfortable
end-product. Traditional insulations such as those listed above are "static" in
nature, meaning they can only serve to retain heat.

         The Company also competes in the broadest sense with manufacturers of
value-added, performance-enhancing materials used in the construction of
finished consumer and industrial products. This includes materials that purport
to provide the wearer with climate control or temperature regulation and other
materials that claim some other attribute, for example water-proofness or stain
resistance.

EMPLOYEES

         As of December 31, 2001, the Company employed 22 full-time and 2
part-time employees of whom 4 were management personnel, 8 were sales
personnel, 3 were product development personnel, 5 were administrative
personnel, and 4 were operations personnel.

MANAGEMENT

Directors and Executive Officers

         The directors, executive officers and other significant employees of
the Company and their ages are as follows:

<TABLE>
<CAPTION>
        Name              Age               Position
        ----              ---               --------
<S>                       <C>       <C>
Gregory S. Frisby(1)       42       Chairman of the Board of Directors;
                                    Chief Executive Officer

Duncan R. Russell          52       Director;
                                    President and Chief Operating Officer

Jeffry D. Frisby(1)        46       Director

Pietro A. Motta            64       Director

Robert C. Grayson          57       Director

Robert E. Gregory          59       Director

Alexander Rosenzweig       53       Director


Douglas J. McCrosson       39       Vice President Business Development;
                                    Secretary

John L. Ruggiero           52       Chief Financial Officer;
                                    Treasurer
</TABLE>

1) Gregory S. Frisby and Jeffry D. Frisby are brothers


<PAGE>

         Gregory S. Frisby has been the Chairman of the Board of Directors
and Chief Executive Officer of the Company since its inception in 1989. From
1991 to 1997, Mr. Frisby was also the Chief Executive Officer of Frisby
Aerospace. During this time, he has also served on various boards, advisory
panels and task forces on technology, capital, growth and privatization issues
at the regional, state and federal levels. He received his Bachelor of Science
degree in Business Administration from Wake Forest University in 1981. Frisby
has received numerous business and industry honors including the Entrepreneur
of the Year Award in two States and has been named as one of Sports Trend
magazines' 'ST25', a list of the most influential people in the sporting goods
industry. The Company maintains "key man" insurance on the life of Mr. Frisby
in the amount of $7,500,000.

         Duncan R. Russell became the President and Chief Operating Officer and
a member of the Company's Board of Directors in June 2000. He had served as the
Vice President of Sales and Marketing of the Company from December 1999 until
June 2000 and as the Director of Global Brand Strategy since December 1998. Mr.
Russell, who had been at 3M since 1973, helped lead a doubling of 3M's
Thinsulate(TM) brand sales since 1991. Thinsulate(TM) is the world's number one
recognized brand of thermal insulation for apparel, accessories and footwear.
He served most recently as Marketing Operations and International Manager of
the Insulation Products Division at 3M. He is also the holder of two U.S. and
international patents for insulating products. He received his Bachelor of
Science degree in Business Administration from Northeastern University in 1972
and MBA from Hofstra University in 1980. In addition, Mr. Russell was recently
elected to the board of directors of the Outdoor Recreation Coalition of
America (ORCA), the trade association for the $5.5 billion outdoor industry.

         Jeffry D. Frisby has served as a director of the Company since 1997.
From 1986 to the present, Jeffry D. Frisby has been the President of Frisby
Aerospace, A Triumph Group Company. Jeffry D. Frisby also serves on the Board
of Visitors of the Calloway School of Business and Accountancy at Wake Forest
University, and is a past member of the Industrial Advisory Board of the
American Society of Mechanical Engineers. He received his Bachelor of Science
degree in Business Administration from Wake Forest University in 1977.

         Pietro A. Motta has served as a director of the Company since 1998.
Since 1984, he has provided independent legal and financial advisory services
for corporate transactions to private financial, industrial and real estate
groups in his capacity as advisor of Pirelli, Falck, E-Biscom (Italy) and Bovis
Land Lease (U.K.). He recently retired as a director of SMEF, the
investment-banking unit of Compagnie Monegasque de Banque, and as an
international advisor to HSBC Investment Banking of Hong Kong & Shanghai Bank.
Mr. Motta received his Bachelors degree from Collegio San Carlo & Liceo Manzoni
in 1956 and his Juris Doctor degree from Universita degli Studi di Milano in
1960.

<PAGE>

         Robert C. Grayson has served as a director of the Company since 1998.
Mr. Grayson is President of Robert C. Grayson & Associates, Inc. and Vice
Chairman of Berglass-Grayson, consulting firms. From 1992 to 1996, Mr. Grayson
served initially as an outside consultant to Tommy Hilfiger Corp., a wholesaler
and retailer of men's sportswear and boys wear, and later accepted titles of
Chairman of Tommy Hilfiger Retail, Inc. and Vice Chairman of Tommy Hilfiger
Corp. From 1970 to 1992, Mr. Grayson served in various capacities for Limited
Inc., including President and CEO of Lerner New York from 1985 to 1992, and
President and CEO of Limited Stores from 1982 to 1985. Mr. Grayson currently
serves on the boards of directors of Ann Taylor and Kenneth Cole

         Robert E. Gregory has served as a Director of the Company since
December 2001. Mr. Gregory is a long-time textile industry veteran and has held
top management positions at Spartan Mills, Vanity Fair (VF) Corp., and London
Fog, Inc. Currently, he is a business partner for the Los Angeles-based Aurora
Capital Group, a private equity group that invests primarily in medium-sized
industrial companies.

         Alexander Rosenzweig has served as a Director of the Company since
September 2001. Mr. Rosenzweig is presently vice president and chief legal
officer of Pirelli North America, Inc. Mr. Rosenzweig brings to Frisby's board
more than 22 years of industrial markets experience -- the last 18 years within
Pirelli. At Pirelli, Mr. Rosenzweig is also a Member of Pirelli North America's
Board. He received his Bachelor's Degree from City College of the City
University of New York in 1971 and his Juris Doctor degree from Columbia
University School of Law in 1974.

         Douglas J. McCrosson has been the Vice President - Business
Development and Secretary of the Company since 1997. Mr. McCrosson became the
Vice President of Technical Operations of the Company in 1997 and from 1992
through 1997, he was the Group Director responsible for all of the Company's
thermal product development programs. He serves on the Board of Managers of
Schoeller Frisby Technologies GmbH, and he is on the Board of Directors of
LIFT, a not-for-profit organization engaged in providing technology-based
companies with engineering and business development services. Mr. McCrosson
received his Bachelor of Science degree in Mechanical Engineering from the
State University of New York at Buffalo and his Masters of Science degree in
Management from Polytechnic University.

         John L. Ruggiero has been the Chief Financial Officer and Treasurer of
the Company since November 2000 and also serves as the Treasurer of Schoeller
Frisby Technologies GmbH. He previously served as a senior financial executive
for publicly traded and private companies in the direct marketing, publishing,
distribution and manufacturing industries. From 1998 to 2000, Mr. Ruggiero was
the vice president and chief financial officer for g. Neil Companies, a catalog
marketer of human resource-related tools and materials. From 1996 until 1998,
he was chief financial and administrative officer of McKenzie Sports Products
Inc., a leading manufacturer and marketer of foam products for the sporting
goods industry. His career also included 17 years at Grolier Inc., a global
publisher and direct marketer of children's books, reference materials and
interactive products, most recently as the vice president of finance and
administration of its direct marketing group. He received his bachelor's degree
in Public Accounting from Hofstra University in 1972 and is a Certified Public
Accountant.


<PAGE>


ADDITIONAL FACTORS THAT MAY AFFECT THE COMPANY'S BUSINESS AND FUTURE RESULTS

The Company is experiencing losses and will require additional financing that
it may not be able to obtain.

         For the years ended December 31, 2000 and 2001, the Company had net
losses of $4,821,288 and $5,184,900, respectively. At December 31, 2001, the
Company had working capital of approximately $1,284,659 and an accumulated
deficit of $20,621,619. The Company sustained losses through fiscal 2001 and
utilized cash resources principally to pay for the purchase of material, the
acquisition of intellectual properties and selling, marketing and general
administrative expenses.

         The Company cannot be sure that it will become profitable. The Company
will need to secure additional funding to support its operating plan in fiscal
2002 and beyond. The Company has not yet obtained firm commitments for any
future funding and has no assurance that it will be able to obtain additional
capital in the future or that the terms of such funding, if available, will be
satisfactory. Additional equity financing may result in substantial dilution to
the Company's stockholders, including purchasers of the common stock offered
hereby. If the Company is unable to obtain additional financing, its ability to
continue its current operating plan would be uncertain and, in any event, the
Company would be required to delay, scale back or eliminate its growth
strategies, which would likely materially and adversely affect the Company's
business and financial condition.

The Company cannot be sure that its intellectual property, on which it depends
heavily, is adequately protected.

         The Company's business depends on the continued validity of the
patents that the Company licenses and the effectiveness of its licenses to such
patents. The Company has no assurance that any steps that it has taken to
protect the Company's intellectual property will be adequate to prevent
misappropriation, that any patents or copyrights issued to the Company or to
its licensors will not be invalidated, circumvented or challenged, or that the
rights granted thereunder will provide a competitive advantage. Claims alleging
the invalidity of the Company's patents, even if unfounded, may have a material
adverse effect on the commercialization of products or technologies based on
such rights. The Company also relies on unpatented proprietary technology and
cannot be sure that others may not independently develop the same or similar
technology or otherwise obtain access to the Company's proprietary technology.
In addition, laws of certain countries in which the Company's products are, or
may be developed, manufactured or sold, may not provide its products and
intellectual property rights with the same degree of protection as the laws of
the United States. Furthermore, the Company cannot be sure that others will not
independently develop technologies similar or superior to the Company's
technology and obtain patents, trademarks or copyrights thereon. In such event,
the Company may not be able to license such technologies on reasonable terms,
or at all. The Company has no assurance that third parties will not assert
infringement claims in the future. Moreover, litigation may be necessary to
enforce the Company's rights under licensed patents, copyrights and other
intellectual property rights, to protect the Company's trade secrets, to
determine the validity and scope of the proprietary rights of others or to
defend against claims of infringement or invalidity. Such litigation,
regardless of the outcome, could result in substantial cost and diversion of
resources and could have a material adverse effect on the Company's business,
financial condition and results of operations.

         In addition to patent protection, the Company seeks to protect its
proprietary information through confidentiality and non-competition agreements
with its employees, directors, licensee/customers, strategic partners,
consultants, advisors and collaborators. The Company cannot be assured that
such agreements will not be breached, that it will have adequate remedies for
any such


<PAGE>


breach or that its proprietary information will not otherwise become known to,
or be independently developed by, its competitors.

         The Company cannot be assured that its registered or unregistered
trademarks do not infringe upon the rights of third parties or that third
parties will not assert claims of infringement. The cost to defend such claims
or the requirement to change any trademark (which would result in the loss of
any goodwill associated with that trademark) could entail significant expense
and have a material adverse effect on the Company's business, financial
condition and results of operations.

The Company cannot be sure that its vendors will be able to meet its needs.

         As of the date of this report, the Company relies upon: three sources
of foam -- one in the United States, one in Europe and one in the Asian-Pacific
region; one strategic partner for nonwovens; and one principal supplier in the
United States of PCMs required for the manufacture of Thermasorb(R) additives.
If its foam or nonwoven suppliers are not able to meet its demands, or if the
Company encounters an unanticipated interruption of supply of PCMs, the Company
may not be able to satisfy scheduled customer orders, anticipated requests and
other potential sales opportunities. If this were to occur, one or more of its
customers may terminate their relationship with the Company and its revenues
may suffer. In addition, a significant price increase in its core materials
would have an adverse effect on the Company's cost of sales and, as a result,
its results of operations.

         As of the date of this report, all of the Company's Thermasorb(R)
additives are manufactured to specifications the Company provides to 3M, with
which the Company has entered into an arrangement that provides firm, fixed
pricing for all of its anticipated microcapsule production requirements. If,
for any reason, 3M is unable or unwilling to continue to supply
microencapsulated materials under the present arrangement and the Company is
unable to establish an alternate source or sources of supply under similar
terms, then the Company could experience cost increases, a deterioration of
services from its suppliers, or interruptions, delays or a reduction in supply
that may cause the Company to fail to meet delivery schedules to its
licensees/customers. If this were to occur one or more of its
licensees/customers may terminate their relationship with the Company and the
Company's revenues may suffer.

The Company may not achieve the broad market acceptance necessary to execute
its growth strategy.

         The Company's strategy is to achieve and capitalize upon brand
recognition of its thermal management technologies in high visibility markets.
This strategy assumes that its licensee/customers will regard the use of its
thermal management technologies in their products as providing enhanced value.
Additionally, the Company's strategy is based upon certain assumptions
regarding:

         -        consumer/customer demand for, and acceptance of, the
                  Company's products;

         -        the price at which the Company believes it will be able to
                  sell its products;

         -        the timing of introductions of products featuring its thermal
                  products;

         -        the size of the thermal management products market (for
                  consumer products and industrial products);


<PAGE>


         -        its anticipated share of these markets; and

         -        the time factors involved in concluding satisfactory license
                  agreements with licensee/customers.

         To date, the Company's products have been sold primarily in the
consumer marketplace. The Company has no assurance that it will be able to
increase market acceptance for its products in the consumer marketplace or that
it will be able to achieve or maintain market acceptance in the industrial
marketplace. The Company's targeted strategic partner base may not change the
established thermal management technologies incorporated in their products and
may not make the necessary investment to purchase the Company's products.

If the Company is unable to retain its key personnel, its ability to execute
its business strategies may be adversely affected.

         The Company's success will continue to depend on the continued
services of its executive officers and a limited number of other senior
management and technical personnel. Only Gregory S. Frisby, its Chairman and
Chief Executive Officer, is under an employment agreement with the Company. If
the Company were to lose the services of any of these individuals, it may not
be able to secure a suitable replacement in a timely manner, or at all. In any
event, the Company would be forced to divert substantial financial resources
and management attention to attempting to identify, attract and recruit a
replacement, all of which may delay or otherwise adversely impact its ability
to execute its business strategies.

The Company could face product liability exposure.

         The development, testing, manufacturing, marketing and sale of its
products involve risks of allegations of product liability. While no product
liability claims have been made against the Company to date, if such claims
were made and adverse judgments obtained, whether directly against the Company
or against one of its strategic partners in connection with an end-use product
incorporating its products, such claims could have a material adverse effect on
the Company's business, financial condition and results of operations. The
Company presently maintains product liability insurance in the amount of
$1,000,000 per claim with an annual aggregate limit of $2,000,000 and umbrella
product liability insurance coverage in the amount of $9,000,000 per claim with
an annual aggregate limit of $9,000,000. The Company has no assurance that such
coverage is, or any new coverage will be, adequate or will continue to be
available at an acceptable cost, if at all. A product liability claim, product
recall or other claim with respect to uninsured liabilities or in excess of
insurance coverage could have a material adverse effect on the Company's
business, operating results and financial condition. The Company may seek to
increase its insurance coverage in the future, although it has no assurance
that such increased coverage will be available from insurers or, if available,
at acceptable terms.

Terrorist attacks and threats or actual war create uncertainty.

         Terrorist attacks in the United States on September 11, 2001, as well
as subsequent events occurring in response or connection to them, including,
without limitation, future terrorist attacks


<PAGE>


against United States targets, rumors or threats of war, actual war or
conflicts involving the United States or its allies or military or trade
disruptions impacting its suppliers may adversely impact its business, among
other things, causing delays or losses in its required supply or decreased
sales of products into which its materials are incorporated or its end
products. More generally, any of these events could cause consumer confidence
and spending to decrease or result in increased volatility in the U.S. and
worldwide financial markets and economy. They also could result in or lengthen
economic recession in the U.S. or abroad. Any of these occurrences may have a
significant impact on the Company's business, financial condition and results
of operations and may result in the volatility of the market price for its
common stock and on the future price of its common stock.

ITEM 2. DESCRIPTION OF PROPERTIES

         The Company leases its principal headquarters in the Frisby
Technologies Center, a 20,000 square foot facility located on 8 acres at 3195
Centre Park Boulevard, Winston-Salem, North Carolina. This facility is used as
corporate headquarters, sales and marketing offices, a technology development
and test center and a warehouse. The lease includes a 12-year lease term and
annual rent payments ranging from $147,000 to $202,000

         The Company's Steele and Extreme Comfort business units lease 2,000
square feet in Kingston, Washington and Eugene, Oregon, respectively.

         The Company believes that its facilities have been maintained, are in
sound operating condition and contain all equipment necessary to operate at its
current levels.

ITEM 3. LEGAL PROCEEDINGS.

         On September 25, 2001, Outlast Technologies, Inc. filed a lawsuit
against the Company in United States District Court, District of Colorado,
alleging that Frisby's COMFORTEMP(R) nonwovens infringe at least one claim of a
patent exclusively licensed to Outlast, US Patent 5,366,801. In its answer to
the lawsuit, in addition to denying infringement, Frisby has counterclaimed
against Outlast for tortious interference with existing and prospective
business relations and/or contracts and also for trade libel. In mid-December
2001, Outlast filed a Motion for a Preliminary Injunction requesting the Court
to enjoin Frisby from marketing COMFORTEMP(R) nonwovens prior to trial. In
January 2002, the Company filed a Motion for Partial Summary Judgment of
Non-Infringement in which it requested that the Court rule that
non-infringement is established as a matter of law, as well as a brief opposing
Outlast's motion for a preliminary injunction. The Company is confident that
its COMFORTEMP(R) nonwovens do not infringe any claim of the referenced patent
and expects that the Court may make a ruling during the second quarter of 2002.


<PAGE>


PART II

ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.

         (a) The Company's securities are traded on the NASDAQ SmallCap Market
under the symbol "FRIZ." The outstanding shares of Common Stock are currently
held by approximately 1,550 shareholders of record. The transfer agent and
registrar is American Stock Transfer & Trust Company.

         The following table sets forth the high and low bid prices for the
Common Stock, obtained from NASDAQ Online, IDC, for the periods indicated:


<TABLE>
<CAPTION>
                                                                 HIGH           LOW
<S>                                                              <C>           <C>
2001
Fourth Quarter........................................           $3.11         $1.38
Third Quarter.........................................           $4.00         $1.56
Second Quarter ......................................            $4.26         $2.13
First Quarter.........................................           $3.88         $2.66

2000
Fourth Quarter........................................           $4.63         $2.63
Third Quarter.........................................           $4.75         $2.91
Second Quarter........................................           $7.63         $4.00
First Quarter.........................................           $9.50         $4.00
</TABLE>

         The Company has never paid dividends on its common stock and, under
the terms of its current credit facilities, is restricted from paying cash
dividends without the consent of its two lenders. The Company does not expect
to pay dividends in the foreseeable future.

         (b) On September 18-19, 2001 and October 19, 2001 the Company executed
a total of four $75,000 unsecured promissory notes evidencing loans made to the
Company by Gregory S. Frisby, the Company's Chairman and Chief Executive
Officer, and Jeffry D. Frisby, a director of the Company, the proceeds of which
were used for general working capital purposes. On October 25, 2001, the
Company executed an unsecured promissory note evidencing a $250,000 loan made
to the Company by a stockholder, the proceeds of which were also used for
general working capital purposes. All of the notes were issued in reliance on
the exemption from registration provided in Section 4(2) of the Securities Act
of 1933, as amended, based on the sophistication of, and representations
received from, the noteholders. The September 18-19, 2001 and October 19, 2001
notes bore interest at the prime rate plus 75 basis points and were repaid
during the fourth quarter of 2001, and the October 25, 2001 note bore interest
at 8% and was repaid on January 31, 2002.


<PAGE>


ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.

         CERTAIN STATEMENTS IN THIS SECTION AND ELSEWHERE IN THIS ANNUAL REPORT
ON FORM 10-KSB ARE FORWARD-LOOKING IN NATURE AND RELATE TO THE COMPANY'S PLANS,
OBJECTIVES, ESTIMATES AND GOALS. WORDS SUCH AS "EXPECTS," "ANTICIPATES,"
"INTENDS," "PLANS," "PROJECTS," "FORECASTS," "BELIEVES," AND "ESTIMATES," AND
VARIATIONS OF SUCH WORDS AND SIMILAR EXPRESSIONS, IDENTIFY SUCH FORWARD-LOOKING
STATEMENTS. SUCH STATEMENTS ARE MADE PURSUANT TO THE SAFE HARBOR PROVISIONS OF
THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 AND SPEAK ONLY AS OF THE
DATE OF THIS REPORT. THE STATEMENTS ARE BASED ON CURRENT EXPECTATIONS, ARE
INHERENTLY UNCERTAIN, ARE SUBJECT TO RISKS AND UNCERTAINTIES AND SHOULD BE
VIEWED WITH CAUTION. ACTUAL RESULTS AND EXPERIENCE MAY DIFFER MATERIALLY FROM
THOSE EXPRESSED OR IMPLIED BY THE FORWARD-LOOKING STATEMENTS AS A RESULT OF
MANY FACTORS, INCLUDING, WITHOUT LIMITATION, THOSE SET FORTH UNDER "BUSINESS --
ADDITIONAL FACTORS THAT MAY AFFECT OUR BUSINESS AND FUTURE RESULTS" HEREIN AND
UNDER "RISK FACTORS" IN THE COMPANY'S REGISTRATION STATEMENT ON FORM S-3/A
FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON JANUARY 24, 2002 AND, IN
ADDITION, THE LEVEL OF ACCEPTANCE OF THE COMPANY'S THERMAL MANAGEMENT PRODUCTS
BY CONSUMERS AND INDUSTRIAL PARTNERS BOTH DOMESTICALLY AND INTERNATIONALLY AND
THE COMPANY'S ABILITY TO IDENTIFY, DEVELOP AND MARKET NEW PRODUCTS, TO DEVELOP,
MAINTAIN OR EXPAND RELATIONSHIPS WITH CAPABLE SUPPLIERS, TO PROTECT ITS
INTELLECTUAL PROPERTY ADEQUATELY AND TO SECURE CAPITAL AS AND WHEN NEEDED. THE
COMPANY MAKES NO COMMITMENT TO UPDATE ANY FORWARD-LOOKING STATEMENT OR TO
DISCLOSE ANY FACTS, EVENTS, OR CIRCUMSTANCES AFTER THE DATE HEREOF THAT MAY
AFFECT THE ACCURACY OF ANY FORWARD-LOOKING STATEMENT.

GENERAL

         The Company develops and markets innovative branded thermal management
products for use in a broad range of consumer and industrial products. The
Company's patented, branded products - COMFORTEMP(R) insulating and cooling
materials and Thermasorb(R) thermal additives - provide thermal regulating
benefits in both hot and cold environments. The Company's current products are
used in such end products as gloves, boots, athletic footwear, fashion apparel,
performance outerwear, medical and orthotic bracing and home furnishings.

         The following discussion should be read in conjunction with the
Company's audited consolidated financial statements for the years ended
December 31, 2001 and 2000, appearing elsewhere in this Form 10-KSB.

         The following tables set forth certain operating and balance sheet
data in dollars for the years indicated:


<PAGE>


OPERATING DATA:


<TABLE>
<CAPTION>
                                                            2001                     2000
                                                         -----------             ------------

<S>                                                      <C>                     <C>
Net revenues                                             $ 8,181,000             $ 10,198,000
Costs of sales                                             6,089,000                7,630,000
                                                         -----------             ------------
Gross profit                                               2,092,000                2,568,000
Sales and marketing expense                                3,293,000                4,183,000
General and administrative expense                         2,877,000                3,163,000
                                                         -----------             ------------
Loss from operations                                      (4,078,000)              (4,778,000)
Interest income (expense)                                 (1,183,000)                (136,000)
Minority interest income (expense)                            76,000                   93,000
                                                         -----------             ------------
Loss before income taxes                                  (5,185,000)              (4,821,000)
Provision for income taxes                                        --                       --
                                                         -----------             ------------
Net loss                                                 $(5,185,000)            $ (4,821,000)
                                                         ===========             ============
Net loss per common share - basic and diluted            $     (0.71)            $      (0.77)
                                                         ===========             ============
</TABLE>

BALANCE SHEET DATA:

<TABLE>
<CAPTION>
                                      DECEMBER 31,          DECEMBER 31,
                                        2001                   2000
                                      ----------            ----------
<S>                                   <C>                   <C>
Working capital                       $1,285,000            $2,003,000
Total assets                          $6,114,000            $7,637,000
Long-term liabilities                 $  306,000            $  341,000
Total liabilities                     $2,940,000            $3,496,000
Total shareholders' equity            $3,195,000            $4,086,000
</TABLE>

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

         The Company's discussion and analysis of its financial condition and
results of operations are based upon the Company's consolidated financial
statements, which have been prepared in accordance with accounting principles
generally accepted in the United States. The preparation of these financial
statements requires the Company to make estimates and judgments that affect the
reported amounts of assets, liabilities, revenues and expenses, and related
disclosure of contingent assets and liabilities. On an on-going basis, the
Company evaluates its estimates, including those related to sales returns and
allowances, uncollectible accounts, inventories, intangible assets, and
contingencies and litigation. The Company bases its estimates on historical
experience and on various other assumptions that are believed to be reasonable
under the circumstances, the results of which form the basis for making
judgments about the carrying values of assets and liabilities that are not
readily apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions.

         The Company believes the following critical accounting policies affect
its more significant judgments and estimates used in the preparation of its
consolidated financial statements.


<PAGE>


Revenue Recognition

         Revenues from sales of products are recognized when title passes based
upon the terms of the sale, which are generally upon shipment. Royalty
revenues, which are currently immaterial, are recorded when the Company's
strategic partners report sales of products containing Thermasorb(R) and
COMFORTEMP(R) to their customers. Substantially all of the Company's product is
shipped either freight collect or on common carriers designated by and directly
paid by the Company's customers. Due to the immateriality of shipping and
handling expenses billed to customers, the Company records these amounts as an
offset to shipping and handling costs in costs of sales.

Sales Returns and Allowances

         The Company maintains reserves for anticipated sales returns and
allowances determined based on historical returns experience. If the actual
returns experience of the Company is greater than historical returns
experience, additional allowances may be required.

Uncollectible Accounts Receivable

         The Company maintains allowances for doubtful accounts for estimated
losses resulting from the inability of its customers to make required payments.
These allowances are established based on an analysis of the Company's accounts
receivable aging. If the financial condition of the Company's customers were to
deteriorate, resulting in an impairment of their ability to make payments,
additional allowances may be required.

Inventory

         The Company writes down its inventory for estimated obsolescence or
unmarketable inventory equal to the difference between the cost of inventory
and the estimated market value based upon current market trends related to the
salability of products or product lines and the Company's current and future
marketing plans. If actual market conditions are less favorable than those
projected by management, additional inventory write-downs may be required.

Intangible Assets

         In assessing the recoverability of the Company's goodwill and other
intangibles the Company must make assumptions regarding estimated future cash
flows and other factors to determine the fair value of the respective assets.
If these estimates or their related assumptions change in the future, the
Company may be required to record impairment charges for these assets not
previously recorded. The Company was required to and did adopt Statement of
Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets,"
("Statement 142") in the third quarter of 2001, except with respect to the
provisions of Statement 142 relating to goodwill and intangibles acquired prior
to July 1, 2001, which will be adopted in the first quarter of 2002. The
Company will be required to analyze its goodwill for impairment issues during
the first six months of fiscal 2002, and then on a periodic basis thereafter.
During the year ended December 31, 2001, the Company did not record any
impairment losses related to goodwill and other intangible assets.


<PAGE>


Contingencies

         The Company is subject to proceedings, lawsuits and other claims
related to its intellectual property and other matters and is required to
assess the likelihood of any adverse judgments or outcomes to these matters as
well as potential ranges of probable losses. A determination of the amount of
reserves required, if any, for these contingencies is made after careful
analysis of each individual issue. The required reserves may change in the
future due to new developments in each matter or changes in approach such as a
change in settlement strategy.

RESULTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 2001 AND 2000

            Revenues. The Company generates revenue primarily from two sources:
(i) sales of its Thermasorb(R) and COMFORTEMP(R) products for use as component
products in its licensees'/customers' finished products and (ii) the direct
sale of selective end-use products. Total revenues for the year ended December
31, 2001 decreased by $2,017,000, or 19.8%, to $8,181,000 from $10,198,000 for
the year ended December 31, 2000. Revenue generated by source was as follows:

<TABLE>
<CAPTION>
                                    DECEMBER 31,          DECEMBER 31,            INCREASE
                                       2001                  2000                (DECREASE)
                                     ----------            -----------            -----------

<S>                                  <C>                   <C>                    <C>
Component Products                   $5,495,000            $ 7,586,000            $(2,091,000)
End-Use Products                      2,596,000              2,212,000                384,000
Other                                    90,000                400,000               (310,000)
                                     ----------            -----------            -----------
            Total Revenue            $8,181,000            $10,198,000            $(2,017,000)
                                     ==========            ===========            ===========
</TABLE>

         The Company believes that the reduction in component product sales can
be attributed to several factors including (i) the global downturn in the
consumer apparel, outdoor footwear and sporting goods market segments that
reduced demand for the Company's COMFORTEMP(R) materials and (ii)
commensurately lower demand for the Company's thermal additive materials
purchased by its licensed manufacturers that produce COMFORTEMP(R) materials.
Additionally, the Company believes that unseasonably warm weather during the
2000/2001 winter season adversely affected the sell through at retail of
manufacturer brands containing Schoeller- Comfortemp materials, which are sold
by the Company's majority-owned affiliate Schoeller Frisby Technologies, GmbH
("SFT"). Carryover inventory levels were, therefore, unusually high, resulting
in a marked decrease in apparel manufacturer demand. The Company believes that
this contributed to a reduction in demand for SFT products and lower than
anticipated new order activity for the 2001/2002 winter season. SFT sales for
the year ended December 31, 2001 were approximately $864,000 lower than the
prior year.

         The increase in end-use product sales compared to the prior year is
the result of increased unit sales by the Company's Steele Vest and Extreme
Comfort operating units. Extreme Comfort sales increased $185,000 compared to
prior year levels, with the majority of this increase coming from the
introduction of new apparel line products and increased sales of the Roo(TM)
hand warmer. The Steele Vest division's sales were $179,000 higher than 2000
levels, with the majority of this increase being attributable to export sales
of its SteeleVest(R) brand cooling vests

<PAGE>


of approximately $118,000 and increases in military sales of approximately
$44,000.

         The significant reduction in other revenues resulted primarily from an
agreement between the Company and Outlast Technologies, Inc. ("Outlast")
terminating royalty streams between the two companies in May 2001, resulting in
a decrease in royalty income of approximately $240,000 compared to 2000 and a
corresponding decrease in royalty expense (recorded in Cost of Sales) of
approximately $373,000 compared to 2000.

         The Company's sales are to customers worldwide, approximately as
follows for the years ended December 31, 2001 and 2000:

<TABLE>
<CAPTION>
                                  2001           2000
                                  ----           ----
<S>                                <C>            <C>
North America                      50%            36%
South/Central America              1%             5%
Europe                             34%            41%
Asia-Pacific                       15%            18%
</TABLE>

         The percentage increase in domestic revenue was mostly attributable to
the sales increases at Extreme Comfort and Steele Vest previously discussed
coupled with an increase in SFT sales in the U.S. of approximately $150,000.
The percentage decrease in international revenues was due to the shortfall in
Europe experienced by SFT explained above, partly offset by increased export
sales of cooling vests by the Company's Steele Vest division.

         Cost of sales. The Company's cost of sales consists primarily of: (i)
direct and indirect costs incurred in connection with component product and
end-use product sales; (ii) royalty payments required to be made in accordance
with license agreements and (iii) the amortization expense related to fees paid
by the Company in September 1998 to reduce its royalty payment obligations
under a technology license.

         Total cost of sales for the year ended December 31, 2001 decreased by
$1,541,000 to $6,089,000 from $7,630,000 for the year ended December 31, 2000.
The components of cost of sales are as follows:


<TABLE>
<CAPTION>
                                          DECEMBER 31,          DECEMBER 31,             INCREASE
                                             2001                  2000                 (DECREASE)
                                          ----------            -----------             -----------

<S>                                       <C>                   <C>                     <C>
Component & End-Use Products              $5,932,000            $ 7,251,000             $(1,319,000)
Royalties & Other                             86,000                477,000                (391,000)
Amortization                                  71,000                (98,000)                169,000
                                          ----------            -----------             -----------
           Total Cost of Sales            $6,089,000            $ 7,630,000             $(1,541,000)
                                          ==========            ===========             ===========
</TABLE>

         The $1,319,000 decrease in component and end-use product cost of sales
can be attributed to the lower sales levels discussed above, partially offset
by the unfavorable impact of minimum materials purchase penalties, which
totaled approximately $295,000 for the year ended December 31, 2001 compared to
$97,000 for the prior year. Additionally, to reflect the Company's development
of a


<PAGE>


variety of new host materials in addition to foam, an inventory valuation
adjustment of approximately $270,000 was recorded in 2000.

         The $391,000 reduction in royalty and other costs was caused primarily
by the termination of the royalty stream payable by the Company to Outlast as
described above, resulting in a decrease in royalty expense of approximately
$373,000 compared to the prior year.

         The increase in amortization expense of $169,000 compared to the year
ended December 31, 2000 is the result of a one-time adjustment during 2000 of
$168,000 relating to the elimination of a put agreement that the Company had
entered into with the inventor of certain of its technology.

         Sales and marketing expense. Sales and marketing expenses for the year
ended December 31, 2001 decreased by $890,000 to $3,293,000 from $4,183,000 for
the year ended December 31, 2000. Approximately $317,000 of this reduction is
attributable to continued savings from personnel realignments in the third
quarter of 2000 combined with cost savings resulting from modifications to the
Company's employee benefit programs. Approximately $436,000 of the expense
reduction was the result of more cost-effective methods of advertising and
promotion, particularly in the area of trade promotions/exhibitions and
promotional supplies. Nearly $133,000 of the decrease in expenses was due to
reduced spending on sampling and related market development.

         General and administrative expense. General and administrative
expenses for the year ended December 31, 2001 decreased by $286,000 to
$2,877,000 from $3,163,000 for the year ended December 31, 2000. The decrease
reflects a reduction in provisions for doubtful accounts of $230,000 resulting
from more stringent credit-granting policies adopted during 2001. In addition,
general and administrative expenses for the year ended December 31, 2000
included a one-time charge of $55,000 related to the move of the Company's
corporate headquarters, an expense that was not duplicated in 2001. The Company
does not anticipate general and administrative expenses to increase
significantly in the near-term under the current business model.

          Loss from Operations. Despite the 19.8% decrease in sales discussed
above, the operating loss for the year ended December 31, 2001 decreased
$700,000, or 14.7%, to $(4,078,000) from $(4,778,000) for the year ended
December 31, 2000, with reduced operating expenses totaling $1,176,000 being
partially offset by lower gross profit resulting from reduced sales levels.

         Interest income. Interest income for the year ended December 31, 2001
was $28,000 compared to $48,000 for the year ended December 31, 2000,
reflecting lower average cash balances during 2001 compared to 2000 and lower
overall interest rates.

         Interest expense. Interest expense for the year ended December 31,
2001 was $1,204,000 compared to $184,000 for the year ended December 31, 2000.
The majority of this increase can be attributed to the $1,087,000 debt discount
associated with the Company's convertible term loan from MUSI Investments, S.A.
(which is described in detail in Note 6 to the consolidated financial
statements), partially offset by lower interest rates than the Company had
under its prior bank facility and lower outstanding balances compared to the
prior year.

           Minority interest income. Minority interest represents the 49%
interest of Schoeller Textil AG, the Company's joint venture partner, in the
net income or loss of SFT. The Company


<PAGE>


recorded minority interest income of $76,000 and $93,000 for the years ended
December 31, 2001 and 2000, respectively.

         Net loss. As a result of the foregoing, the net loss for the year
ended December 31, 2001 increased to $5,185,000 from $4,821,000 for the year
ended December 31, 2000.


LIQUIDITY AND CAPITAL RESOURCES

         From its inception through December 31, 2001 the Company has incurred
cumulative losses of approximately $20,622,000. The Company has financed its
operations to date through research and development contracts relating to
United States government programs, bank borrowings and the issuance of common
and convertible preferred stock.

         At December 31, 2001 the Company had working capital of $1,285,000,
including cash of $374,000, accounts receivable of $1,697,000, inventory of
$1,698,000 and prepaid expenses of $150,000, offset by accounts payable of
$1,240,000, unsecured debt of $250,000 and accrued expenses and other current
liabilities of $1,144,000. At December 31, 2001, the Company had no material
commitments for capital expenditures.

         Cash used by operating activities was $2,231,000 and $5,510,000,
respectively, for the years ended December 31, 2001 and 2000. The principal
factor contributing to the cash used by operating activities for the year ended
December 31, 2001 was the net loss for the period, significantly offset by
non-cash expenses including $1,087,000 of debt discount amortization,
reductions in accounts receivable and inventory levels and increases in
accounts payable and other accrued liabilities. The principal factor
contributing to the cash used by operating activities for the year ended
December 31, 2000 was the net loss for the period.

         Cash used in investing activities was $82,000 for the year ended
December 31, 2001. The principal investing activity for 2001 was the purchase
of property and equipment and intangible assets. Cash used in investing
activities was $156,000 for the year ended December 31, 2000, principally
resulting from the purchase of office and thermal testing equipment for the
Company's new headquarters and expenditures related to patent development and
other intangible assets, partially offset by the elimination of the put
agreement discussed above.

         Cash provided by financing activities was $1,663,000 and $5,518,000,
respectively, for the years ended December 31, 2001 and 2000. The principal
financing activities for both years were (a) net proceeds from bank and other
borrowings, totaling $297,000 during 2001 and $903,000 during 2000 and (b) net
proceeds from private placements of units consisting of one share of Common
Stock and a warrant to purchase one share of Common Stock (described in Note 8
to the consolidated financial statements) of $1,332,000 for the year ended
December 31, 2001 and $4,416,000 for the year ended December 31, 2000. The
Company believes that poor market conditions, coupled with continued operating
losses, contributed to the Company's inability to raise additional equity
capital during 2001.


<PAGE>


         In February 2000, the Company entered into a $2,000,000 line of credit
with Bank of America N.A. for working capital purposes. In January 2001, the
Company extended the maturity date of the line of credit until June 30, 2001,
subject to a revised borrowing limit of $1,500,000 and a reduction in the
applicable rate of interest to the bank's prime rate plus 25 basis points. In
connection with the extension of the maturity date, MUSI Investments S.A.
("MUSI"), a stockholder of the Company, issued an irrevocable stand-by letter
of credit in the principal amount of $1,500,000 naming Bank of America N.A. as
the beneficiary. On May 14, 2001, the Company executed a $1,500,000 term loan
agreement with MUSI, the proceeds of which were used to repay the Bank of
America credit facility in full. The term loan provided that, at any time on or
prior to the maturity date of January 2, 2002, MUSI had the right to convert
the outstanding principal balance and any accrued and unpaid interest due under
the loan, or a portion thereof, into shares of common stock or units, in either
case at prescribed prices; provided that, except in the event of certain
organic changes or distributions in securities to stockholders of the Company
while the MUSI loan was outstanding, the MUSI loan could not be converted into
more than 1,417,959 shares of common stock in the aggregate (19.9% of the
Company's common stock on the date the term loan was made and the corresponding
convertible note was issued). In connection with MUSI's term loan and the
payoff of the Bank of America credit facility, the letter of credit, and the
Company's obligations with respect to the letter of credit, were extinguished.
On November 19, 2001, the conversion price for the MUSI loan was fixed at $1.10
and MUSI converted all of the principal and accrued interest on its term loan
to the Company into 1,400,123 shares of common stock, thereby concluding its
lending relationship with the Company.

         On September 18-19, 2001 and October 19, 2001 the Company executed a
total of four $75,000 unsecured promissory notes evidencing loans made to the
Company by Gregory S. Frisby, the Company's Chairman and Chief Executive
Officer, and Jeffry D. Frisby, a director of the Company, the proceeds of which
were used for general working capital purposes. On October 25, 2001, the
Company executed an unsecured promissory note evidencing a $250,000 loan made
to the Company by Southern Spear, Inc., a stockholder, the proceeds of which
were also used for general working capital purposes. All of these notes were
payable on the earlier of 60 days from the date of the note or 5 business days
after receipt by the Company of payment of certain outstanding accounts
receivable. The September 18-19, 2001 and October 19, 2001 notes bore interest
at the prime rate plus 75 basis points and were repaid in full during the
fourth quarter of 2001, and the October 25 note bore interest at 8% and was
repaid in full on January 31, 2002.

         On January 9, 2002 the Company entered into separate three-year
revolving credit facilities totaling $1,250,000 with two lenders, DAMAD Holding
AG ("DAMAD") and Bluwat AG, both of Switzerland. DAMAD is the parent company of
Southern Spear Inc., an existing stockholder of the Company. Both credit
facilities provide interest at the prime rate plus 75 basis points, payable
quarterly, and are secured by substantially all of the Company's assets. In
addition, the lenders received five-year warrants to purchase an aggregate of
868,055 shares of the Company's common stock at an exercise price of $1.44 per
share. In connection with the credit facility, DAMAD became entitled to
designate one nominee to the Company's Board of Directors.

         The Company has incurred cumulative losses since its inception and,
therefore, has not been subject to federal income taxes. Through December 31,
2001 the Company has generated net


<PAGE>


operating loss carryforwards in excess of $18,275,000 that may be available to
reduce future available taxable income and future tax liabilities. These
carryforwards expire in years through 2021. The Tax Reform Act of 1986 provides
for an annual limitation on the use of net operating loss carryforwards
(following certain ownership changes) that could significantly limit the
Company's ability to utilize these carryforwards. As a result of the Company's
initial public offering, the Company's ability to utilize the aforementioned
carryforwards as of the IPO date will be limited on an annual basis.
Additionally, because the United States tax laws limit the time during which
these carryforwards may be applied against future taxes, the Company may not be
able to take full advantage of these attributes for federal tax purposes.

         Based on the Company's current operating plan, the Company projects
that the cash available as a result of the financing activity mentioned above,
cash flow from operations and the available line of credit will be sufficient
to satisfy its operational and capital requirements through April 2002.
Accordingly, the Company is actively seeking additional capital. In the event
that available cash, cash flow from operations and available line of credit
prove insufficient to fund operations through April 2002, whether due to
unanticipated delays, problems, expenses or otherwise, or in the event that the
Company's progress in marketing its product line or gaining acceptance of its
thermal management technology and its other products and services among the
business community is slower than currently anticipated, or in the event that
the Company identifies strategic acquisition or licensing opportunities, the
Company's need for additional capital would be accelerated. Currently, the
Company is in discussion with two significant stockholders regarding providing
the Company with additional capital in the form of debt or equity. However, as
yet the Company has no firm commitments for any future funding and may not be
able to obtain additional capital in the future on satisfactory terms, or at
all. If the Company is unable to obtain additional financing, its ability to
continue its current operating plan after April 2002 would be uncertain and, in
any event, it would be required to delay, scale back or eliminate its growth
strategies which would likely have a material adverse effect on its business
and financial condition.

Contractual Obligations and Commercial Commitments

         The following table summarizes the Company's contractual cash
obligations as of December 31, 2001:

<TABLE>
<CAPTION>
CONTRACTUAL OBLIGATIONS                                         PAYMENTS DUE BY PERIOD
                                                    Less than 1             1-3               4 - 5             After 5
                                  Total                year                years              years              years
                                ----------          ----------          ----------          ----------          --------
<S>                             <C>                  <C>                 <C>                 <C>                 <C>
Unsecured Debt                  $  250,000          $  250,000          $       --          $       --          $     --
Operating Leases                 1,920,000             185,000             376,000             374,000           985,000
                                ----------          ----------          ----------          ----------          --------
Total Contractual Cash
Obligations                     $2,170,000          $  435,000          $  376,000          $  374,000          $985,000
                                ==========          ==========          ==========          ==========          ========
</TABLE>


         The following table summarizes commercial commitments of the Company
that could potentially require performance by the Company in the event of
demands by third parties or contingent events.


<PAGE>


<TABLE>
<CAPTION>
                                                         AMOUNT OF COMMITMENT EXPIRATION PER PERIOD
                                     TOTAL AMOUNTS       LESS THAN 1          1 - 3            4 - 5           OVER 5
OTHER COMMERCIAL COMMITMENTS          COMMITTED            YEAR              YEARS             YEARS           YEARS
                                      ----------          --------          --------          -------          ------
<S>                                   <C>                 <C>               <C>               <C>              <C>
Other Commercial Commitments          $1,173,333          $453,333          $720,000          $    --          $   --
                                      ----------          --------          --------          -------          ------
Total Commercial Commitments          $1,173,333          $453,333          $720,000          $    --          $   --
                                      ==========          ========          ========          =======          ======
</TABLE>

Off-Balance Sheet Arrangements

         The Company does not have any transactions, obligations or
relationships that could be considered off-balance sheet arrangements.

Certain Trading Activities Accounted for at Fair Value

         The Company does not engage in any commodity or derivative trading
activities.


SEASONALITY

         The Company has historically experienced higher revenues in its third
and fourth fiscal quarters, which include the months in which the demand for
its cold weather products is highest.

INFLATION

         The impact of general inflation on the Company's business has been
insignificant to date and the Company believes that it will continue to be
insignificant for the foreseeable future.


<PAGE>


ITEM 7. FINANCIAL STATEMENTS.

                           FRISBY TECHNOLOGIES, INC.

                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS


<TABLE>
<S>                                                                                                    <C>
Report of Independent Auditors.....................................................................    F-2

Consolidated Balance Sheet as of December 31, 2001.................................................    F-3

Consolidated Statements of Operations for the Years Ended December 31,
   2001 and 2000...................................................................................    F-4

Consolidated Statements of Stockholders' Equity (Deficit) for the Years
   Ended December 31, 2001 and 2000................................................................    F-5

Consolidated Statements of Cash Flows for the Years Ended December 31,
   2001 and 2000 ..................................................................................    F-6

Notes to Consolidated Financial Statements.........................................................    F-7
</TABLE>
<PAGE>
REPORT OF INDEPENDENT AUDITORS


To the Stockholders and Board of Directors of
Frisby Technologies, Inc.

We have audited the accompanying consolidated balance sheet of Frisby
Technologies, Inc. as of December 31, 2001, and the related consolidated
statements of operations, stockholders' equity (deficit) and cash flows for each
of the two years in the period ended December 31, 2001. These consolidated
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.

We conducted our audits in accordance with auditing standards generally accepted
in the United States. 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 consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Frisby
Technologies, Inc. as of December 31, 2001, and the consolidated results of its
operations and its cash flows for each of the two years in the period ended
December 31, 2001, in conformity with accounting principles generally accepted
in the United States.

The accompanying consolidated financial statements have been prepared assuming
that Frisby Technologies, Inc. will continue as a going concern. As more fully
described in Note 1, the Company has incurred recurring operating losses and has
an accumulated deficit of $20,621,619 at December 31, 2001. The Company does not
have sufficient liquidity to meet its obligations and sustain its planned
operations for the year ending December 31, 2002. These conditions raise
substantial doubt about the Company's ability to continue as a going concern.
Management's plans in regard to these matters are also described in Note 1. The
consolidated financial statements do not include any adjustments to reflect the
possible future effects on the recoverability and classification of assets or
the amounts and classification of liabilities that may result from the outcome
of this uncertainty.

                                            /s/  ERNST & YOUNG LLP


Greensboro, North Carolina
February 9, 2002


                                       F-2


<PAGE>


                            FRISBY TECHNOLOGIES, INC.
                            CONSOLIDATED BALANCE SHEET
                                DECEMBER 31, 2001



<TABLE>
<S>                                                                                <C>
ASSETS
Current assets:
Cash and cash equivalents                                                          $    374,214
Accounts receivable, less allowances                                                  1,696,904
Inventory                                                                             1,697,594
Prepaid expenses and other current assets                                               149,622
                                                                                   ------------
            Total current assets                                                      3,918,334
Property and equipment, net                                                             520,313
Intangible assets, net                                                                1,383,687
Other assets                                                                            291,557
                                                                                   ------------
             TOTAL ASSETS                                                          $  6,113,891
                                                                                   ============

LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable                                                                   $  1,239,708
Notes payable                                                                           250,000
Line of credit                                                                               --
Accrued expenses and other current liabilities                                        1,053,735
License fees payable                                                                     90,232
                                                                                   ------------
            Total current liabilities                                                 2,633,675
Other liabilities                                                                       306,056

Minority interest                                                                       (20,861)

Commitments and contingencies                                                                --

Stockholders' equity:
Preferred stock, 1,000,000 shares authorized,
      no shares issued and outstanding                                                       --
Common stock, $.001 par value; 30,000,000 shares authorized;
      8,771,656 and 6,972,158 shares issued and outstanding, respectively                 8,772
Additional paid-in capital                                                           23,532,941
Common stock warrants outstanding                                                       303,800
Unearned stock compensation                                                             (28,873)
Accumulated deficit                                                                 (20,621,619)
                                                                                   ------------
      Total stockholders' equity                                                      3,195,021
                                                                                   ------------
            TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY                             $  6,113,891
                                                                                   ============
</TABLE>

                             See accompanying notes.


                                      F-3
<PAGE>

                            FRISBY TECHNOLOGIES, INC.
                      CONSOLIDATED STATEMENTS OF OPERATIONS


<TABLE>
<CAPTION>
                                                                  Year ended
                                                                  December 31
                                                       ----------------------------------
                                                           2001                   2000
                                                       -----------           ------------

<S>                                                    <C>                   <C>
Net revenues                                           $ 8,180,721           $ 10,198,466

Cost of sales                                            6,088,627              7,629,963
                                                       -----------           ------------

Gross profit                                             2,092,094              2,568,503

Operating expenses:
    Sales and marketing                                  3,293,416              4,182,580
    General and administrative                           2,876,640              3,163,636
                                                       -----------           ------------
                                                         6,170,056              7,346,216
                                                       -----------           ------------

Loss from operations                                    (4,077,962)            (4,777,713)

Interest income                                             28,145                 47,768
Interest expense                                        (1,204,248)              (183,886)
Other expenses                                              (6,477)                    --
Minority interest                                           75,642                 92,543
                                                       -----------           ------------

Loss before provision for income taxes                  (5,184,900)            (4,821,288)
Provision for income taxes                                      --                     --
                                                       -----------           ------------

Net loss                                               $(5,184,900)          $ (4,821,288)
                                                       ===========           ============

Net loss per common share - basic and diluted          $     (0.71)          $      (0.77)
                                                       ===========           ============

Shares used in the calculation of basic and
  diluted net loss per common share                      7,337,740              6,245,039
                                                       ===========           ============
</TABLE>

                             See accompanying notes.


                                      F-4
<PAGE>


                            FRISBY TECHNOLOGIES, INC.
                 CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY


<TABLE>
<CAPTION>
                                                                             Common
                                     Common Stock          Additional         Stock       Unearned
                                  --------------------       Paid-in         Warrants       Stock      Accumulated
                                    Shares      Amount       Capital       Outstanding   Compensation      Deficit         Total
                                  ---------     ------     ------------    -----------   ------------  -------------    -----------
<S>                               <C>           <C>        <C>               <C>         <C>           <C>             <C>
Balance at December 31, 1999      5,748,113     $5,748     $ 14,888,201      $     --     $      --    $(10,615,431)   $ 4,278,518

Net Loss                                 --         --               --            --            --      (4,821,288)    (4,821,288)

Issuance of Common Stock
 and Common Stock Warrants
 in Private Placement, net of
 related costs and expenses       1,175,000      1,175        4,415,227            --            --              --      4,416,402

Issuance of Common Stock
Options
and Warrants for services                --         --          (56,980)      205,000      (148,020)             --             --

Amortization of unearned
 stock compensation                      --         --               --            --        13,642              --         13,642

Exercise of Stock Options            42,125         42          170,529            --            --              --        170,571

Issuance of Common Stock -
 Employee Stock Purchase Plan         6,920          7           27,936            --            --              --         27,943
                                  ---------     ------     ------------      --------     ---------    ------------    -----------

Balance at December 31, 2000      6,972,158      6,972       19,444,913       205,000      (134,378)    (15,436,719)     4,085,788

Net Loss                                 --         --               --            --            --      (5,184,900)    (5,184,900)

Issuance of Common Stock
 and Common Stock Warrants
 in Private Placement, net of
 related costs and expenses         362,500        363        1,331,379            --            --              --      1,331,742

Issuance of Common Stock and
 Warrants for services               24,872         25           96,601        98,800            --              --        195,426

Issuance of Common Stock upon
 convertible debt exercise        1,363,636      1,364        1,498,636            --            --              --      1,500,000

Issuance of Common Stock as
 payment of interest on debt         36,487         36           40,099            --            --              --         40,135

Beneficial conversion
feature on convertible debt              --         --        1,086,818            --            --              --      1,086,818

Amortization of unearned
 stock compensation                      --         --               --            --       105,505              --        105,505

Exercise of Stock Options             4,800          5           15,298            --            --              --         15,303

Issuance of Common Stock -
 Employee Stock Purchase Plan         7,203          7           19,197            --            --              --         19,204
                                  ---------     ------     ------------      --------     ---------    ------------    -----------

Balance at December 31, 2001      8,771,656     $8,772     $ 23,532,941      $303,800     $ (28,873)   $(20,621,619)   $ 3,195,021
                                  =========     ======     ============      ========     =========    ============    ===========
</TABLE>


                             See accompanying notes


                                      F-5
<PAGE>


                            FRISBY TECHNOLOGIES, INC.
                      CONSOLIDATED STATEMENTS OF CASH FLOWS


<TABLE>
<CAPTION>
                                                                            Year Ended
                                                                            December 31
                                                                    ----------------------------
                                                                        2001             2000
                                                                    -----------      -----------
<S>                                                                 <C>              <C>
Operating activities:
Net loss                                                            $(5,184,900)     $(4,821,288)
Adjustments to reconcile net loss to net cash used in operating
    activities:
Depreciation and amortization                                           446,345          253,482
Non cash consulting and other expenses                                  341,066           14,752
Amortization of debt discount                                         1,086,818               --
Provision for doubtful accounts and returns                             (34,732)         375,831
    Changes in assets and liabilities:
Accounts receivable                                                     180,952         (369,519)
Inventories                                                             448,853       (1,049,398)
Other current assets                                                     (5,483)         415,681
Other non-current assets                                                (81,421)        (134,043)
Accounts payable                                                        435,637         (818,209)
Accrued expenses and other liabilities                                  218,710          732,607
License fees payable                                                    (82,817)        (109,516)
                                                                    -----------      -----------
Net cash used in operating activities                                (2,230,972)      (5,509,620)
                                                                    ===========      ===========

Investing activities:
Purchases of property and equipment                                     (37,166)        (155,359)
Elimination of put agreement                                                 --           47,551
Purchase of intangible assets                                           (45,064)         (47,919)
                                                                    -----------      -----------
Net cash used in investing activities                                   (82,230)        (155,727)
                                                                    ===========      ===========

Financing activities:
Net proceeds from (payments against) line of credit                  (1,453,469)         903,488
Net proceeds from unsecured loans                                       250,000               --
Net proceeds from convertible debt                                    1,500,000               --
Proceeds from exercise of stock options                                  15,303          170,571
Proceeds from employee stock purchases                                   19,204           27,943
Proceeds from private placement - net                                 1,331,742        4,416,402
                                                                    -----------      -----------
Net cash provided by financing activities                             1,662,780        5,518,404
                                                                    ===========      ===========

Net increase (decrease) in cash and cash equivalents                   (650,422)        (146,943)
Cash and cash equivalents - beginning of period                       1,024,636        1,171,579
                                                                    -----------      -----------
Cash and cash equivalents - end of period                           $   374,214      $ 1,024,636
                                                                    ===========      ===========
</TABLE>

                             See accompanying notes


                                      F-6
<PAGE>


                            FRISBY TECHNOLOGIES, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                DECEMBER 31, 2001


1.  Description of Business

Founded in 1989, Frisby Technologies, Inc. and its subsidiary (the "Company") is
engaged in the development and commercialization of branded thermal management
products for use in a broad range of consumer and industrial products. The
Company's Thermasorb(R) and COMFORTEMP(R) products utilize licensed patents and
the Company's proprietary microencapsulated phase change material ("MicroPCM")
technology to enhance thermal characteristics (i.e., insulation, cooling or
temperature control properties) in a variety of consumer and industrial
products.

Since its inception, the Company has devoted substantial effort towards building
sales and marketing infrastructure, conducting product research and development
and raising capital. In the course of such activities, the Company has sustained
operating losses and expects such losses to continue in the near future. The
Company continues to focus on gaining market acceptance of its thermal
management products and raising capital in order to finance operations. The
Company's accumulated deficit aggregated $20,621,619 through December 31, 2001.

The Company's ability to meet its business plan objectives is dependent upon its
ability to raise additional financing, substantiate its technology and,
ultimately, to fund its operations from revenues. There is no assurance that
profitable operations, if ever achieved, could be sustained on a continuing
basis. The Company plans to continue to finance its operations in 2002 with a
combination of stock issuances, debt issuances and revenues from product sales.
The Company is actively attempting to secure the necessary financing and
continues to take steps to increase sales and minimize operating expenses.
However, there are no assurances that the Company will be successful in
increasing the profitability of the products it sells or obtaining the adequate
level of financing needed for the long-term development and commercialization of
its products.

2.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

BASIS OF CONSOLIDATION

The consolidated financial statements include the accounts of the Company,
Extreme Comfort, Inc. (its wholly owned subsidiary), and Schoeller Frisby
Technologies GmbH, a joint venture controlled by the Company. All significant
intercompany balances and transactions have been eliminated in consolidation.

REVENUE RECOGNITION

Revenues from sales of products are recognized when title passes based upon the
terms of the sale, which are generally upon shipment. Royalty revenues are
recorded when the Company's strategic partners report sales of products
containing Thermasorb(R) and COMFORTEMP(R) to their customers. Substantially all
of the Company's product is shipped either freight collect or on common carriers
designated by and directly paid for by the Company's customers. Due to the
immateriality of shipping


<PAGE>

and handling expenses billed to customers, the Company records these amounts as
an offset to shipping and handling costs in costs of sales.


INVENTORY

Inventory is stated at the lower of cost or market. Cost is determined by the
weighted average method. Market is determined based upon current market trends
related to the salability of products or product lines and the Company's current
and future marketing plans. Market value adjustments are recorded in the period
when they are determined. To reflect the Company's development of a variety of
new host materials other than foam, during the fourth quarter of 2000 the
Company determined that the market value of certain items in inventory was less
than their respective costs, resulting in recognition of an inventory market
value adjustment of approximately $270,000.

PROPERTY AND EQUIPMENT

The Company's property and equipment are stated at cost. Depreciation for
financial reporting purposes is provided using the straight-line method over the
estimated useful lives of the assets, ranging from 3 to 5 years for furniture
and equipment. Leasehold improvements are amortized on a straight-line basis
over the shorter of the lease term or the estimated useful life of the asset,
ranging from 1 to 12 years.

The Company reviews the carrying value of its property and equipment and other
long-lived assets in determining the ultimate recoverability of their
unamortized values using future undiscounted cash flow analyses if there are
indicators of impairment. To the extent such undiscounted cash flow projections
indicate that impairment exists, the assets are written down to the value of
discounted cash flows.

INTANGIBLE ASSETS

Goodwill, the excess of cost over the fair value of assets acquired, is
amortized using the straight-line method over ten years. Patents are amortized
using the straight-line method over their estimated useful lives of twenty
years. Trademarks are amortized using the straight-line method over their
estimated useful lives of five years. License agreement costs are amortized on a
straight-line basis over the related license term, typically ten years. The
Company periodically reviews the carrying values and estimated useful lives of
its intangible assets to determine whether current events and circumstances are
indicators of impairment. When indicators of impairment exist, a valuation is
performed using the expected future undiscounted cash flows associated with the
intangible assets compared to their carrying value to determine if a write-down
is required. To the extent such projection indicates that the undiscounted cash
flow is not adequate to recover the carrying amounts, the assets are written
down to an amount equal to their discounted cash flows.





<PAGE>





BUSINESS AND CREDIT CONCENTRATIONS

The Company currently outsources the manufacture of all of its products,
including Thermasorb(R) and COMFORTEMP(R) products, to a limited number of
manufacturers.

The Company does a significant amount of business with a limited number of
licensee/customers. Total revenues from the top two licensees/customers
comprised approximately 25% (17% and 8%) and approximately 28% (17% and 11%) of
the Company's total revenues for the years ended December 31, 2001 and 2000,
respectively.

At December 31, 2001, two licensees/customers accounted for approximately 37%
(24% and 13%) of the Company's accounts receivable. The Company performs credit
evaluations of its strategic partners' financial condition and payment history
prior to extending credit. Consistent with industry standards, receivables are
payable in accordance with the terms of the underlying contracts and collateral
is not required. Accounts receivable are net of valuation reserves that
represent estimates of amounts considered uncollectible based on analysis of the
Company's aged accounts receivable and anticipated sales returns and allowances
determined based on historical returns experience. At December 31, 2001, these
amounts were approximately $230,000 and $171,000, respectively.

The Company's sales are to customers worldwide, with approximately 34% and 41%
generated in Europe, 50% and 36% in North America, 1% and 5% in South and
Central America, and 15% and 18% in the Asia-Pacific region for the years ended
December 31, 2001 and 2000, respectively.

FINANCIAL INSTRUMENTS

Financial instruments consist of cash and cash equivalents, accounts receivable,
short-term and long-term debt. The Company considers all highly liquid
investments with an original maturity of three months or less at the date of
purchase to be cash equivalents. The Company estimates the fair value of its
financial instruments using a discounted cash flow analysis based on interest
rates for similar types of instruments available in the market place. At
December 31, 2001 the carrying amounts of the Company's financial instruments
approximated their fair values.

ADVERTISING AND PROMOTION

Advertising and promotion costs are expensed the first time the advertisement is
run. Media print placement costs are expensed in the month the advertising
appears. Accounting for endorsement contracts is based upon specific contract
provisions. Total advertising and promotion expenses were approximately
$1,034,000 and $1,414,000 for the years ended December 31, 2001 and 2000,
respectively.

RESEARCH AND DEVELOPMENT

Research and development costs are expensed as incurred. Research and
development expenses were approximately $208,000 and $342,000 for the years
ended December 31, 2001 and 2000, respectively.

<PAGE>


STOCK BASED COMPENSATION

Stock based compensation expense for the Company's employee stock option plan is
recognized under the provisions of Accounting Principles Board Opinion No. 25,
Accounting for Stock Issued to Employees ("APB 25") and related interpretations.
As such, compensation expense would be recorded on the date of grant only if the
current market price of the underlying stock exceeded the exercise price.
Statement on Financial Accounting Standard (SFAS No. 123), Accounting for
Stock-Based Compensation, established accounting and disclosure requirements
using a fair value-based method of accounting for stock-based employee
compensation plans. As allowed by SFAS No. 123, the Company has elected to
continue to apply the intrinsic value-based method of accounting described above
related to employees and has adopted the disclosure requirements of SFAS No.
123.

Stock based compensation expense for options and warrants issued to consultants
and other non-employee third parties is recognized under the provisions of SFAS
No. 123. The Company recognizes as expense the value of the options or warrants
using the Black-Scholes valuation model or the value of goods or services
received, whichever is more reliably measured. Options issued to non-employee
directors of the Company for director-related services are accounted for in
accordance with APB 25 and related interpretations.

NET LOSS PER SHARE

The denominator used in the computation of basic and diluted net loss per share
for the years ended December 31, 2001 and 2000 was 7,337,740 and 6,245,039,
respectively; the weighted-average shares. The calculation of diluted net loss
per share excludes shares of common stock issuable upon the exercise of stock
options and warrants (Notes 8 and 9), as the effect of such exercises would be
antidilutive.

TRANSLATION OF FOREIGN CURRENCY FINANCIAL STATEMENTS

Assets and liabilities of foreign operations where the functional currency is
other than the U.S. dollar are translated at fiscal year-end rates of exchange,
and the related revenue and expense amounts are translated at the average rates
of exchange during each month of the fiscal year. Gains or losses resulting from
translating foreign currency financial statements resulted in an immaterial
impact to the financial statements for the years ended December 31, 2001 and
2000.

USE OF ESTIMATES

The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amount of assets and liabilities at
year end and the reported amounts of revenues and expenses during the reporting
period. Such estimates include provisions for doubtful accounts and sales
returns and allowances. Actual results could differ from those estimates.

<PAGE>



RECENT ACCOUNTING PRONOUNCEMENTS

In July 2001, the Financial Accounting Standards Board issued Statements of
Financial Accounting Standards No. 141, Business Combinations (Statement 141),
and No. 142, Goodwill and Other Intangible Assets (Statement 142). These
Statements change the accounting for business combinations, goodwill and
intangible assets. Under Statement 142, goodwill and indefinite lived intangible
assets are no longer amortized but are reviewed annually, or more frequently if
impairment indicators arise, for impairment. Separable intangible assets that
are not deemed to have an indefinite life will continue to be amortized over
their useful lives, but with no maximum life. The amortization provisions of
Statement 142 apply to goodwill and intangible assets acquired after June 30,
2001. With respect to goodwill and intangible assets acquired prior to July 1,
2001, companies are required to adopt Statement 142 in their first fiscal year
beginning after December 15, 2001. Because of the different transition dates for
goodwill and intangible assets acquired on or before June 30, 2001 and those
acquired after that date, pre-existing goodwill and intangibles will be
amortized during this transition period until adoption, whereas new goodwill and
indefinite lived intangible assets acquired after June 30, 2001 will not. The
Company was required to and did adopt Statements 141 and 142 in the third
quarter of 2001, except with respect to the provisions of Statement 142 relating
to goodwill and intangibles acquired prior to July 1, 2001, which will be
adopted in the first quarter of 2002. The Company is currently assessing the
financial impact of Statements 141 and 142 and has not yet determined if the
adoptions will have a significant effect on its consolidated results of
operations or financial position except, however, that the Company anticipates
that substantially all amortization of goodwill totaling approximately $105,000
per year will be eliminated as a charge to earnings.


In August 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard No. 144, Accounting for the Impairment or Disposal
of Long-Lived Assets (Statement 144), which is effective for fiscal years
beginning after December 15, 2001. This Statement supercedes Statement of
Financial Accounting Standard No. 121, Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, and portions of
Accounting Principles Board Opinion No. 30, Reporting Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business. Statement 144
provides a single accounting model for long-lived assets to be disposed of and
changes the criteria that would have to be met in order to classify an asset as
held for sale. The provisions of Statement 144 generally are to be applied
prospectively. The Company does not expect the adoption of Statement 144 to have
a material impact on its consolidated results of operations or financial
position.


RECLASSIFICATIONS

Certain amounts in the prior year's financial statements have been reclassified
to conform to current year classifications.

<PAGE>



3.  INVENTORY

Inventory consisted of the following at December 31, 2001:

<TABLE>
<S>                                         <C>
Raw materials .........................     $   117,680
Finished goods ........................       2,011,235
                                            -----------
                                              2,128,915
Less:  Lower of cost or market reserves        (431,321)
                                            -----------
                                            $ 1,697,594
                                            ===========
</TABLE>



4.  PROPERTY AND EQUIPMENT

Property and equipment consisted of the following as of December 31, 2001:

<TABLE>
<S>                                   <C>
Leasehold improvements ..........     $    72,167
Furniture .......................         284,058
Equipment .......................       1,145,628
                                      -----------
                                        1,501,853
Less accumulated depreciation ...        (981,540)
                                      -----------
                                      $   520,313
                                      ===========
</TABLE>

The Company recorded depreciation expense of $258,498 and $240,981 for the years
ended December 31, 2001 and 2000, respectively.

5.  INTANGIBLE ASSETS

Intangible assets consisted of the following as of December 31, 2001:


<TABLE>
<S>                                   <C>
Goodwill ........................     $ 1,047,427
Patents and trademarks ..........         120,297
License agreement ...............         704,450
                                      -----------
                                        1,872,174
Less accumulated amortization ...        (488,487)
                                      -----------
                                      $ 1,383,687
                                      ===========
</TABLE>

The Company recognized amortization expense of $187,847 and $12,501 for the
years ended December 31, 2001 and 2000, respectively.

6.  LINE OF CREDIT

In February 2000, the Company entered into a $2,000,000 line of credit with a
bank for working capital purposes. In January 2001, the Company extended the
maturity date of the line of credit until June 30, 2001, subject to a revised
borrowing limit of $1,500,000 and a reduction in the applicable

<PAGE>

rate of interest to the bank's prime rate plus 25 basis points. In connection
with the extension of the maturity date, MUSI Investments S.A. ("MUSI"), a
significant stockholder of the Company, issued an irrevocable stand-by letter of
credit in the principal amount of $1,500,000 by transferring $1,500,000 in cash
to a restricted bank account and naming the bank as the beneficiary. MUSI had
the right to convert the letter of credit to equity at the same terms as those
then being offered by the Company in a private placement for "units" priced at
$4.00 per unit, with each unit consisting of one share of common stock and one
warrant to purchase one share of common stock with an exercise price of $6.00.
Because the pricing associated with this conversion feature was above market
rate on the date the letter of credit was issued, no accounting was necessary
for the conversion feature, as it had no intrinsic value. There were no changes
made to the conversion terms related to the letter of credit.

On May 14, 2001, the Company executed a $1,500,000 term loan agreement with
MUSI, the proceeds of which were used to repay the bank credit facility in full.
The term loan provided that, at any time on or prior to the maturity date of
January 2, 2002, MUSI had the right to convert the outstanding principal balance
and any accrued and unpaid interest due under the loan, or a portion thereof,
into shares of common stock or units, in either case at prescribed prices;
provided that, except in the event of certain organic changes or distributions
in securities to stockholders of the Company while the loan was outstanding, the
loan could not be converted into more than 1,417,959 shares of common stock in
the aggregate (19.9% of the Company's common stock on the date the term loan was
made and the corresponding convertible note was issued). The term loan provided
that, at any time on or prior to the maturity date of January 2, 2002, MUSI had
the right to convert the outstanding principal balance and any accrued and
unpaid interest due under the loan, or a portion thereof, into shares of common
stock or units, in either case at prescribed prices. One of the alternatives
allowed MUSI to convert at a rate equal to 85% of the 10-day trailing average
closing price of the Company's common stock on the NASDAQ Stock Market on the
date of conversion. This alternative constituted a beneficial conversion feature
that was recorded as a debt discount in the amount of $264,705, which was to be
amortized as interest expense over the term of the loan. In connection with
MUSI's term loan and the payoff of the bank credit facility, the letter of
credit, and the Company's obligations with respect to the letter of credit, were
extinguished.

On November 19, 2001, the conversion provision of the term loan agreement was
modified to provide for a fixed conversion price of $1.10 per share, resulting
in an increase to the debt discount of $822,113. On November 19, 2001, MUSI
converted all of the principal and accrued interest on the term loan into
1,400,123 shares of common stock of the Company. During the period ended
December 31, 2001, the Company recognized non-cash interest expense of
$1,086,818 related to the debt discount associated with this term loan.

On September 18, 2001 and October 19, 2001 the Company executed $75,000
non-negotiable unsecured promissory notes payable to Jeffry D. Frisby, a
director of the Company, the proceeds of which were used for general working
capital purposes. The notes bore interest at the prime rate plus 75 basis points
and were payable on the earlier of (i) 60 days from the date of the note or (ii)
5 business days after receipt by the Company of payment of certain outstanding
accounts receivable. These notes, plus accrued interest of $1,108, were repaid
during the year.

On September 19, 2001 and October 19, 2001 the Company executed $75,000
non-negotiable unsecured promissory notes payable to Gregory S. Frisby, the
Company's Chairman and Chief Executive Officer, the proceeds of which were used
for general working capital purposes. The

<PAGE>

notes bore interest at the prime rate plus 75 basis points and were payable on
the earlier of (i) 60 days from the date of the note or (ii) 5 business days
after receipt by the Company of payment of certain outstanding accounts
receivable. These notes, plus accrued interest totaling $1,597, were repaid
during the year.

On October 25, 2001 the Company executed a $250,000 non-negotiable unsecured
promissory note with a stockholder of the Company, the proceeds of which were
used for general working capital purposes. The note bears interest at the rate
of 8% and was originally payable on the earlier of (i) 60 days from the date of
the note or (ii) 5 business days after receipt by the Company of payment of
certain outstanding accounts receivable. The note was subsequently amended to
extend the maturity date to January 31, 2002. At December 31, 2001, borrowings
totaling $250,000 were outstanding. Subsequent to year-end, all amounts due were
repaid.

Cash paid for interest expense totaled $133,998 and $165,619 for the years ended
December 31, 2001 and 2000, respectively.

Effective January 10, 2002, the Company entered into a $750,000 credit facility
with DAMAD Holding AG and a $500,000 credit facility with Bluwat AG, two
accredited investors based in Europe. The facilities (i) mature on January 10,
2005, (ii) bear interest at the rate of prime plus 0.75%, payable quarterly
beginning with the first quarter of 2002 and (iii) are secured by the Company's
accounts receivable, inventory, furniture, machinery, equipment, general
intangibles and patents and by a personal guaranty by Gregory S. Frisby, the
Company's Chairman and Chief Executive Officer, for one-third of the total
amount outstanding. In connection with the facilities, the Company issued
five-year warrants to purchase an aggregate of 868,055 shares of its common
stock at an exercise price equal to $1.44 per share, subject to adjustment in
the event of organic changes in the Company's common stock. The terms of the
warrants provide that, if the Company issues shares of a senior class of capital
stock, the warrants will become exercisable for shares of such senior class
instead of shares of common stock.

7.  JOINT VENTURE.

During the first quarter of 2000, the Company established Schoeller Frisby
Technologies GmbH ("SFT"), a joint venture with Schoeller Textil AG, to expand
the European distribution of the Company's products. The Company owns 51% of the
outstanding shares of the common stock of SFT, has control of the joint venture
and, accordingly, consolidates the joint venture. The joint venture began
operations in January 2000.

The Company recorded minority interest income of $75,642 and $92,543 for the
years ended December 31, 2001 and 2000, respectively, which reflects the portion
of the losses of the joint venture that are applicable to Schoeller Textil AG.
The minority interest amount on the Balance Sheet represents the share of the
net liabilities of SFT associated with the minority partner's interest in those
operations.

<PAGE>


8.  STOCKHOLDERS' EQUITY

PREFERRED STOCK

Under the terms of the Company's Certificate of Incorporation, the Board of
Directors may determine the rights, preferences, and terms of the Company's
authorized but unissued shares of preferred stock.

COMMON STOCK

In September 2000, the stockholders of the Company approved an increase in the
authorized number of shares of common stock from 10,000,000 to 30,000,000.

PRIVATE PLACEMENT

In February 2000, the Board of Directors authorized the Company to complete a
private equity financing of up to $7,500,000 consisting of units comprised of
one share of the Company's common stock and one five-year warrant to purchase
one share of common stock.

In May 2000, the Company completed a portion of the financing totaling
$4,000,000 for 800,000 units, consisting of 800,000 shares of common stock and
800,000 warrants with an exercise price of $7.00.

In December 2000, the Company repriced its unit offering to $4.00 per unit, with
the exercise price for the warrants partially underlying each unit set at $6.00,
and completed an additional portion of the financing totaling $700,000 for
175,000 units. Effective concurrently, the Company issued an additional 200,000
shares of common stock and 200,000 warrants to the investment group that
participated in the May 2000 placement, effectively repricing the May 2000 units
to $4.00, and amended the corresponding warrant agreements to reduce the
exercise price from $7.00 to $6.00. The issuance of the additional 200,000
shares of common stock was accounted for by crediting common stock for the par
value of the shares ($0.001) and debiting additional paid-in capital for an
equal amount.

On April 27, 2001, the Company sold an aggregate of $750,000 in units to four
accredited investors at a price of $4.00 per unit. The investors included the
Company's President and Chief Operating Officer, Duncan R. Russell. On July 16,
2001, the Company sold an aggregate of $500,000 in units to four accredited
investors (one of which also purchased units on April 27) at a price of $4.00
per unit. On September 20, 2001 the Company sold an additional $250,000 in units
to three accredited investors at a price of $4.00 per unit. The investors
included the Company's Chairman and Chief Executive Officer, Gregory S. Frisby,
and one of the Company's directors, Jeffry D. Frisby.

ISSUANCE OF STOCK OPTIONS AND WARRANTS FOR SERVICES

During 1998, the Company issued warrants to purchase 160,000 shares of the
Company's common stock at an exercise price of $11.55 per share to the
underwriter of the Company's

<PAGE>

initial public offering. The value assigned to these warrants, calculated using
the Black-Scholes valuation model, was reflected as share issuance costs and
recorded in additional paid-in capital on the Company's balance sheet. The fair
value of these warrants was estimated at the date of grant using the
Black-Scholes valuation model with the following assumptions: risk free interest
rate of 5.0%; no dividend yield; volatility factor of the expected market price
of the Company's Common Stock of 0.60 and an expected life of the options of 2.5
years.

During 1998, the Company issued options to purchase 100,000 shares of the
Company's common stock at an exercise price of $3.19 per share to acquire
certain proprietary technology. The value of $27,000 assigned to these options,
calculated using the Black-Scholes valuation model, was recorded as part of the
cost of the intellectual property acquired. The fair value of these options was
estimated at the date of grant using the Black-Scholes valuation model with the
following assumptions: risk free interest rate of 5.0%; no dividend yield;
volatility factor of the expected market price of the Company's Common Stock of
0.60 and an expected life of the options of 2.5 years.

During 1998, the Company issued warrants to purchase 110,000 shares of the
Company's common stock at an exercise price of $7.25 per share for consulting
services. The value of $250,000 assigned to these warrants, calculated using the
Black-Scholes valuation model, was recorded as consulting expense was expensed
as the services were rendered in 1998 and 1999. The fair value of these warrants
was estimated at the date of grant using the Black-Scholes valuation model with
the following assumptions: risk free interest rate of 5.0%; no dividend yield;
volatility factor of the expected market price of the Company's Common Stock of
0.60 and an expected life of the options of 1.5 years.

During 2000, the Company entered into product endorsement agreements with two
well-known athletes. These product endorsement agreements provide for a total of
176,000 options to purchase the Company's common stock at exercise prices
ranging from $4.13 per to $4.50 per share. The agreements provide that 28,000
options are immediately vested and expire in 2005. The remaining 148,000 options
will be awarded based upon performance of the individuals under the contract and
the Company attaining certain revenue levels for the particular products being
endorsed. Accordingly, the aggregate fair value of the vested options,
calculated using the Black-Scholes valuation model, of $48,020, is being
amortized to expense over the product endorsement period. The fair market value
of the options to purchase 160,000 shares of common stock issued on July 18,
2000 and the options to purchase 16,000 shares of common stock issued on July
27, 2000 was estimated at the respective grant dates using the Black-Scholes
valuation model with the following assumptions: risk free interest rate of 5.0%;
no dividend yield; volatility factor of the expected market price of the
Company's common stock of 0.34 and an expected life of the options of five
years.

With respect to the aforementioned warrants and options valued using the
Black-Scholes valuation model, the risk free interest rate was determined as the
rate then currently available for zero coupon U.S. Government issues with a
remaining term similar to the expected life of the warrants valued. The Company
has historically not paid dividends to stockholders and therefore used an
expected dividend yield of zero for valuation of these options. Volatility is a
measure of the amount by which a stock price has fluctuated or is expected to
fluctuate during a period. Due to the Company's limited trading history and
trading periods containing nonrecurring events that clearly caused abnormal
effects on the calculation of historical volatility, the Company estimated

<PAGE>

its expected future stock volatility as 0.60. The expected option life was
determined to be equal to the contractual life of the options. The Company has
not previously issued similar grants; therefore, the expected option life was
determined based on the contractual life of the options in accordance with SFAS
No. 123.

The Company entered into an investor relations agreement during 2000, which
provides for services to the Company through 2001. As compensation for the
agreement, the Company issued warrants to purchase 100,000 shares of the
Company's common stock at an exercise price of $6.50 per share, expiring in
2005. In accordance with SFAS No. 123, the Company deemed the fair value of the
services provided to be a more reliable measure of the fair value of the
warrants. The aggregate fair value of these warrants of $100,000 was charged to
expense over the respective service period.

In connection with the May 2000 private equity placement, the Company entered
into an agreement with an investment-banking firm. In addition to an up-front
cash payment of $45,000, the Company issued 80,000 five-year Agent warrants,
priced at $0.01 per warrant, entitling the investment-banking firm to purchase
80,000 shares of the Company's common stock at an exercise price of $6.00 per
share. Each of these shares carries an attached five-year warrant to purchase an
additional share of the Company's common stock at a purchase price of $7.00 per
share. In accordance with SFAS No. 123, the Company deemed the fair value of the
services provided to be a more reliable measure and estimated the fair value of
the warrants to be $105,000, which was expensed entirely in 2000 as all services
were rendered.

On June 29, 2001, the Company entered into an investment banking agreement that
provides for services to the Company for a six-month period. In addition to
monthly cash payments totaling $27,000, the Company issued five-year warrants to
purchase an aggregate of 7,374 shares of the Company's common stock at exercise
prices ranging from $1.80 to $4.00 per share. In accordance with SFAS No. 123,
the Company deemed the fair value of the services provided to be a more reliable
measure of the fair value of the warrants. The aggregate fair value of these
warrants of $18,000 is being capitalized as deferred financing costs included in
prepaid expenses, and will be expensed over its expected useful life.

The Company entered into an agreement with a creative services firm during 2001.
The Company issued fully paid warrants representing an aggregate of 6,889 shares
of the Company's common stock at per share prices ranging from $1.80 to $4.13
per share. These warrants cannot be exercised until the first anniversary of
issuance and have a ten-year term. In accordance with SFAS No. 123, the Company
deemed the fair value of the services provided to be a more reliable measure and
estimated the fair value of the warrants to be $20,000, which was expensed
entirely in 2001 as the services were rendered.

The Company entered into an agreement for legal services during 2001. As
compensation for a portion of the services rendered, the Company issued
five-year warrants to purchase 6,250 shares of the Company's common stock at an
exercise price of $6.00 per share. In accordance with SFAS No. 123, the Company
deemed the fair value of the services provided to be a more reliable measure of
the fair value of the warrants. The aggregate fair value of these warrants of
$25,000 was charged to legal expense as the services were rendered during 2001.

<PAGE>

The Company entered into a sales representation agreement during 2001. As
compensation for the services provided during 2001, the Company issued fully
paid warrants representing an aggregate of 24,089 shares of the Company's common
stock at per share prices ranging from $1.80 to $4.00 per share. The warrants
were fully vested upon issuance. In accordance with SFAS No. 123, the Company
deemed the fair value of the services provided to be a more reliable measure of
the fair value of the warrants. The aggregate fair value of these warrants of
$60,800 was charged to expense over the respective service period.

At December 31, 2001 and 2000 the Company had outstanding non-employee options
and warrants of 2,400,602 and 1,901,000, respectively, and exercisable
non-employee options and warrants of 2,165,713 and 1,753,000, respectively.

The following table summarizes activity in non-employee stock options and
warrants:


<TABLE>
<CAPTION>
                                                        SHARES
                                                         UNDER
                                                        OPTION
                                                       ---------
<S>                                                    <C>
Balance at December 31, 1999                             370,000

Grants                                                 1,531,000
Forfeitures                                                   --
Exercised                                                     --
                                                       ---------

Balance at December 31, 2000                           1,901,000

Grants                                                   499,602
Forfeitures                                                   --
Exercised                                                     --
                                                       ---------

Balance at December 31, 2001                           2,400,602
                                                       =========
</TABLE>

The following table summarizes information about the non-employee stock options
and warrants outstanding as of December 31, 2001:


<TABLE>
<CAPTION>
                           WARRANTS AND                              WEIGHTED-AVERAGE      WEIGHTED-AVERAGE
                             OPTIONS             WARRANTS AND           EXERCISE              REMAINING
   EXERCISE PRICE          OUTSTANDING        OPTIONS EXERCISABLE         PRICE            CONTRACTUAL LIFE
--------------------     -----------------    --------------------   ---------------      -----------------
<S>                      <C>                  <C>                    <C>                  <C>
       $-0-                       30,978                 24,089      $      -                   6.11
   $1.80 to $2.90                  5,701                  5,701           2.10                  4.80
   $3.19 to $4.50                277,673                129,673           4.00                  2.85
   $6.00 to $7.25              1,926,250              1,846,250           6.14                  3.58
       $11.55                    160,000                160,000          11.55                  1.25
                           -------------          -------------
                               2,400,602              2,165,713
                           =============          =============
</TABLE>

<PAGE>


9.  EMPLOYEE BENEFIT PLANS

EMPLOYEE STOCK PURCHASE PLAN

The Company established a qualified Employee Stock Purchase Plan during 2000,
the terms of which allow for qualified employees (as defined) to participate in
the purchase of designated shares of the Company's common stock at a price equal
to the lower of 85% of the closing price at the beginning or end of each
semi-annual stock purchase period. The Company issued 7,203 and 6,920 shares of
common stock pursuant to this plan at an average price per share of $2.67 and
$4.04 during the years ended December 31, 2001 and 2000, respectively.

EMPLOYEE RETIREMENT PLAN

Substantially all employees meeting certain service requirements are eligible to
participate in a 401(k) Profit Sharing Plan. Under the Plan, participants are
permitted to contribute from their compensation any amount up to the lesser of
12% of their annual gross salary or the maximum deferral allowed under the
Internal Revenue Code. The Company matching contribution and related plan fees
were approximately $20,200 and $43,300 for the years ended December 31, 2001 and
2000, respectively.

The Company is entitled to make optional profit sharing contributions at its
discretion. During the years ended December 31, 2001 and 2000, the Company did
not make any profit sharing contributions to the Plan.

EMPLOYEE STOCK OPTION PLAN

The Company has a Stock Option Plan ("Plan") under which 1,250,000 shares of
common stock are reserved for issuance to employees, directors and consultants
of the Company. Options granted under the Plan may be either "incentive stock
options" as defined in Section 422 of the Internal Revenue Code, or
non-qualified stock options, as determined by the Board of Directors of the
Company. Options granted pursuant to the Plan have exercise periods of up to ten
years and generally vest over a period of four years.

<PAGE>



The following table summarizes activity in stock options:

<TABLE>
<CAPTION>
                                                                SHARES                        WEIGHTED-
                                                                 UNDER                         AVERAGE
                                                                OPTION                      EXERCISE PRICE
                                                          --------------------     ---------------------------------

    <S>                                                   <C>                      <C>
    Balance at December 31, 1999                                  350,450                        $5.20

    Grants                                                        535,050                        $4.73
    Forfeitures                                                  (101,575)                       $5.16
    Exercised                                                     (42,125)                       $4.05
                                                                ---------

    Balance at December 31, 2000                                  741,800                        $4.93

    Grants                                                        208,300                        $4.93
    Forfeitures                                                   (68,750)                       $5.28
    Exercised                                                      (4,800)                       $3.19
                                                                ---------

    Balance at December 31, 2001                                  876,550
                                                                =========
</TABLE>


<TABLE>
<CAPTION>
                                                                   2001                           2000
                                                                ---------                       ---------
    <S>                                                         <C>                             <C>
    Weighted average fair value of options
    issued using the Black-Scholes option
    pricing model                                                 $1.75                          $2.61
</TABLE>



<PAGE>



The following table summarizes information about outstanding and exercisable
stock options as of December 31, 2001:


<TABLE>
<CAPTION>
                                                                                WEIGHTED-AVERAGE
                                     OPTIONS                  OPTIONS               REMAINING
   EXERCISE PRICE                  OUTSTANDING             EXERCISABLE         CONTRACTUAL LIFE
   --------------                  -----------             -----------         ----------------
<S>                                <C>                     <C>                 <C>

         $1.75                          5,000                    1,250                9.79
         $2.10                         10,000                    2,500                9.96
         $3.13                          3,200                    3,200                9.25
         $3.19                        179,700                   39,300                9.02
         $3.50                          5,000                    2,500                8.79
         $3.63                         79,250                   69,263                6.90
         $3.81                          1,000                      250                8.96
         $3.88                         60,000                   30,000                8.88
         $4.38                         12,500                    8,750                7.14
         $4.50                         36,500                   12,500                6.71
         $4.53                          2,500                      625                2.04
         $4.59                          2,500                    2,500                2.13
         $4.75                        116,900                   69,700                8.00
         $4.88                          7,500                    3,750                2.04
         $4.94                        250,000                   62,500                8.50
         $5.25                         10,000                    5,000                7.79
         $5.50                         10,250                    2,625                8.28
         $6.44                            250                       62                8.25
         $7.00                         69,500                   69,500                1.25
         $7.25                         15,000                   15,000                1.29
                                     --------                 --------
                                      876,550                  400,775
                                     ========                 ========
</TABLE>


At December 31, 2001, the Company has reserved 3,327,677 shares of common stock
for issuance upon exercise of outstanding options and warrants.


Pro forma information regarding net loss and net loss per share is required by
SFAS No. 123 and has been determined as if the Company had accounted for its
stock options in accordance with the fair value based accounting method of SFAS
No. 123. The fair value for these options was estimated at the date of grant
using the Black-Scholes option pricing model with the following weighted-average
assumptions for the years ended December 31, 2001 and 2000, respectively:
risk-free interest rate of 4.8% and 6.0%; no dividend yield; volatility factor
of the expected market price of the Company's Common Stock of 0.70 and 0.75 and
a weighted-average expected life of the options of four years.

<PAGE>

For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting periods. The Company's pro
forma information follows:


<TABLE>
<CAPTION>
                                                  2001               2000
                                               -----------      -------------
<S>                                            <C>              <C>
Pro forma net loss                             $(5,637,232)     $  (5,160,782)
                                               ===========      =============
Pro forma basic and diluted loss per share     $     (0.77)     $       (0.83)
                                               ===========      =============
</TABLE>

The effects of applying SFAS 123 in this pro-forma disclosure are not indicative
of future amounts. Additional awards in future years are anticipated.

10.  INCOME TAXES

Deferred tax assets and liabilities are recognized for future tax consequences
attributable to differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases. Deferred tax
assets and liabilities are measured using enacted rates expected to apply to
taxable income in the years in which those temporary differences are expected to
be recovered or settled. Significant components of the Company's deferred tax
assets and liabilities are as follows:

<TABLE>
<CAPTION>
                                                    2001
                                                -----------
<S>                                             <C>
Current:
Returns and allowances                          $   106,000
Accounts receivable reserve                          26,000
                                                -----------
Total current deferred                              132,000

Non-current:
License agreement                                    97,000
   Net operating loss carryforward                5,122,000
                                                -----------
Total non-current deferred                        5,219,000
Total deferred tax assets                         5,351,000
Valuation allowance for deferred tax assets      (5,351,000)
                                                -----------
Net deferred tax assets                         $        --
                                                ===========
</TABLE>

As a result of losses from operations through December 31, 2001, the Company has
available a net operating loss carryforward ("NOL") of approximately $18,278,000
for Federal income tax purposes that expires in years through 2021. Utilization
of the NOL is subject to an annual limitation under Section 382 of the Internal
Revenue Code due to certain ownership changes the Company underwent in 1998.

In assessing the realizability of deferred tax assets, management considers
whether it is more likely than not that some portion or all of the deferred tax
assets will not be realized. The ultimate realization of deferred tax assets is
dependent upon the generation of future taxable income during the period in
which the NOL can be utilized and the temporary differences become deductible.
Since the Company has incurred losses in previous years and it anticipates
additional losses in 2002, the Company has established a valuation allowance for
deferred tax assets at December 31, 2001.

<PAGE>

The income tax benefit differs from the amounts computed by applying the
statutory United States Federal income tax rate as a result of the following:

<TABLE>
<CAPTION>
                                                               YEAR ENDED DECEMBER 31
                                                               2001             2000
                                                           -----------      -----------

<S>                                                        <C>              <C>
Benefit for Federal income taxes at the statutory rate     $(1,762,866)     $(1,639,238)
State income taxes, net of Federal income tax benefit         (179,092)        (219,562)
Nondeductible interest expense                                 369,518               --
Permanent differences                                           56,251           55,527
Other                                                              189          (22,727)
Change in valuation allowance                                1,516,000        1,826,000
                                                           -----------      -----------
                                                           $        --      $        --
                                                           ===========      ===========
</TABLE>

11.       LICENSE ARRANGEMENTS

The Company has various licensing agreements that give the Company the exclusive
worldwide rights to develop and commercialize proprietary technology in
microencapsulation and thermal management. Under these agreements, the Company
pays royalties on product sales, license fees and royalty revenues ranging from
1% to 12.5%. These agreements contain aggregate minimum payments of $150,000 in
2002, $150,000 in 2003, $175,000 in 2004 and $150,000 each year thereafter until
the agreements expire.

The Company expensed approximately $156,000 and $361,000 under these agreements
for the years ended December 31, 2001 and 2000, respectively.

12.      COMMITMENTS AND CONTINGENCIES

The Company has an operating lease agreement for its corporate headquarters and
thermal testing facility in North Carolina. The lease agreement is for 12 years
and includes scheduled rent escalations throughout the lease term, which are
being expensed on a straight-line basis. Rent expense from all operating leases
was approximately $343,000 and $329,000 for the years ended December 31, 2001
and 2000, respectively. Future minimum payments under these leases are as
follows:

<TABLE>
      <S>                 <C>
         2002             $  185,000
         2003                192,000
         2004                184,000
         2005                187,000
         2006                187,000
      Thereafter             985,000
                          ----------
                          $1,920,000
                          ==========
</TABLE>


On September 25, 2001, Outlast Technologies, Inc. filed a lawsuit in the United
States District Court for the District of Colorado alleging that the Company's
COMFORTEMP(R) nonwoven materials infringe Outlast's patent rights. Based in part
on the opinion of patent counsel received prior to the

<PAGE>

Company's launch of the nonwoven product, the Company believes that
COMFORTEMP(R) nonwoven does not infringe the cited patent and intends to defend
this suit vigorously.

In addition, the Company is involved in various legal proceedings and claims
that have arisen in the ordinary course of business that have not been finally
adjudicated. The Company currently believes that these actions, when finally
concluded and determined, will not have a material adverse effect upon the
financial position or results of operations of the Company.


ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.

         None

PART III

         The information required by Part III of this Form 10-KSB, excluding
item 13 included herein, is incorporated by reference herein from the Company's
definitive proxy statement relating to its 2002 Annual Meeting of Stockholders
to be filed with the Securities and Exchange Commission.


ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K.

(a)      Exhibits

3.1      Second Amended and Restated Certificate of Incorporation (incorporated
         by reference to Exhibit 3.1 to the Company's Form S-3/A filed October
         30, 2000).

3.2      By-Laws (incorporated by reference to Exhibit 3.2.2 to the Company's
         Form SB-2/A filed March 30, 1998).

4.1      Form of Common Stock Certificate (incorporated by reference to Exhibit
         4.1 to the Company's Form SB-2/A filed March 30, 1998).

9.1      Third Amended and Restated Stockholders Agreement dated November 19,
         2001, by and among the Company, Jeffrey D. Frisby, Gregory S. Frisby,
         MUSI Investments S.A. ("MUSI") and Finpart International S.A.
         ("Finpart").

9.2      Shareholder Agreement dated December 10, 1997 between the Company,
         Gregory S. Frisby and Jeffry D. Frisby (incorporated by reference to
         Exhibit 10.4 to the Company's Form SB-2/A filed March 30, 1998).

10.1     Amended Employment Agreement dated as of December 8, 1997 between the
         Company and Gregory S. Frisby (incorporated by reference to Exhibit
         10.2 to the Company's Form SB-2/A filed March 30, 1998).

<PAGE>

10.1.1   Amendment to the Employment Agreement dated as of June 1, 2000, between
         the Company and Gregory S. Frisby (incorporated by reference to Exhibit
         10.3.1 to the Company's Form S-3/A dated October 30, 2000).

10.2     License Agreement dated May 1, 1995 between the Company and Triangle
         Research and Development Corp. ("TRDC") (incorporated by reference to
         Exhibit 10.7.1 to the Company's Form SB-2/A filed March 30, 1998).

10.2.1   Amendment to License Agreement between the Company and TRDC
         (incorporated by reference to Exhibit 10.7.1.1 to the Company's Form
         10-KSB for the fiscal year ended December 31, 1998).

10.2.2   Assignment of License Agreement effective January 3, 1997 from TRDC to
         Delta Thermal Systems, Inc. (incorporated by reference to Exhibit
         10.7.2 to the Company's Form SB-2/A filed March 9, 1998).

10.3     Form of Underwriter's Option (incorporated by reference to Exhibit 1.2
         to the Company's Form SB-2 filed January 29, 1998).

10.4     Letter Agreement between the Company and Freudenberg Vliesstoffe KG
         dated May 9, 2001.

10.5     Arrangement dated January 21, 1998 between the Company and Minnesota
         Mining & Manufacturing, Inc. (incorporated by reference to Exhibit
         10.16 to the Company's Form SB-2/A filed March 30, 1998).

10.6     Memorandum of Understanding dated December 11, 1997, between the
         Company and Foamex International, Inc. (incorporated by reference to
         Exhibit 10.20 to the Company's Form SB-2/A filed March 30, 1998).

10.7     Memorandum of Understanding dated January 15, 1998 between the Company
         and LaCrosse Footwear, Inc. (incorporated by reference to Exhibit 10.21
         to the Company's Form SB-2/A filed March 30, 1998).

10.8     Lease Agreement dated January 14, 2000 by and between the Company and
         Visible Goth, LLC (incorporated by reference to Exhibit 10.28 to the
         Company's Form 10-KSB for the fiscal year ended December 31, 1999).

10.9     Endorsement and Representation Agreement dated July 18, 2000 by and
         between the Company and Favre Enterprises, Inc. (incorporated by
         reference to Exhibit 10.33 to the Company's Form S-3/A filed October
         30, 2000).

10.10    Endorsement and Representation Agreement dated July 27, 2000 by and
         between the Company and Maximum Marketing, Inc. on behalf of Tiki
         Barber (incorporated by reference to Exhibit 10.34 to the Company's
         Form S-3/A filed October 30, 2000).

<PAGE>

10.11    Form of Non-Qualified Stock Option Agreement by and between the Company
         and Favre Enterprises, Inc. and the Company and Maximum Marketing, Inc.
         (incorporated by reference to Exhibit 10.35 to the Company's Form S-3/A
         filed October 30, 2000).

10.12    Letter Agreement dated May 16, 2000 between the Company and 3M
         (Confidential) (incorporated by reference to Exhibit 10.40 to the
         Company's Form 10-KSB for the year ended December 31, 2000).

10.13    Loan Agreement dated February 29, 2000 by and between the Company and
         Bank of America, N.A. (incorporated by reference to Exhibit 10.27 to
         the Company's Form 10-KSB for the fiscal year ended December 31, 1999).

10.13.1  Amendment to Loan Agreement dated September 29, 2000 by and between the
         Company and the Bank of America, N.A. (incorporated by reference to
         Exhibit 10.38 to the Company's Form 10-KSB for the year ended December
         31, 2000).

10.13.2  Second Amendment to Loan Agreement dated January 15, 2001 by and
         between the Company and the Bank of America, N.A. (incorporated by
         reference to Exhibit 10.39 to the Company's Form 10-KSB for the year
         ended December 31, 2000).

10.14    Letter Agreement dated January 12, 2001 between the Company and MUSI
         and related Convertible Promissory Note (incorporated by reference to
         Exhibit 4.2 to the Company's Form 10-QSB for the quarter ended March
         31, 2001).

10.15    Loan Agreement dated as of May 14, 2001 by and between MUSI and the
         Company (incorporated by reference to Exhibit 4.1 to the Company's Form
         10-QSB for the quarter ended June 30, 2001).

10.16    Convertible Promissory Note of the Company dated May 14, 2001 in the
         original principal amount of $1,500,000 payable to MUSI (incorporated
         by reference to Exhibit 4.2 to the Company's Form 10-QSB for the
         quarter ended June 30, 2001)

10.16.1  Amendment to Convertible Promissory Note dated May 14, 2001
         (incorporated by reference to Exhibit 4.6 to the Company's Form S-3/A
         filed March 21, 2002).

10.17    Security Agreement dated May 14, 2001 by and between MUSI and the
         Company (incorporated by reference to Exhibit 4.3 to the Company's Form
         10-QSB for the quarter ended June 30, 2001).

10.18    Letter Agreement dated May 14, 2001 extinguishing MUSI's stand-by
         letter of credit naming Bank of America N.A. as the beneficiary and the
         Company's obligations to MUSI with respect thereto (incorporated by
         reference to Exhibit 10.3 to the Company's Form 10-QSB for the quarter
         ended June 30, 2001).

10.19    Letter Agreement dated as of September 13, 2001 by and between MUSI and
         the Company (incorporated by reference to Exhibit 4.1 to the Company's
         Form 10-QSB for the quarter ended September 30, 2001).

<PAGE>

10.20    Letter Agreement dated as of October 16, 2001 by and between MUSI and
         the Company (incorporated by reference to Exhibit 4.2 to the Company's
         Form 10-QSB for the quarter ended September 30, 2001).

10.21    Amended and Restated Stock Option Plan (incorporated by reference to
         Exhibit 10.36 to the Company's Form 10-KSB for the year ended December
         31, 2000).

10.22    Frisby Technologies, Inc. 2000 Employee Stock Purchase Plan
         (incorporated by reference to Exhibit 4.1 to the Company's Form S-8
         filed November 29, 2000).

10.23    Purchase Agreement dated May 30, 2000 by and among the Company and
         MUSI, Ms. Jean S. Moore, AllFirst Company Custodian for Hogan & Hartson
         Partners Retirement Plan for the Benefit of Ms. Jean S. Moore, and
         Schoeller Textil AG (incorporated by reference to Exhibit 10.29 to the
         Company's Form S-3/A filed October 30, 2000).

10.24    Warrant Agreement dated May 30, 2000 by and among the Company and MUSI,
         Ms. Jean S. Moore, AllFirst Company Custodian for Hogan & Hartson
         Partners Retirement Plan for the Benefit of Ms. Jean S. Moore, and
         Schoeller Textil AG (incorporated by reference to Exhibit 10.31 to the
         Company's Form S-3/A filed October 30, 2000).

10.24.1  Form of First Amendment to Warrant Agreement dated April 26, 2001
         (incorporated by reference to Exhibit 10.4 to the Company's Form 10-QSB
         for the quarter ended June 30, 2001).

10.25    Warrant Agreement dated as of May 31, 2000, by and between the Company
         and Janney Montgomery Scott, LLC (incorporated by reference to Exhibit
         10.37 to the Company's Form 10-KSB for the year ended December 31,
         2000).

10.26    Form of Warrant Agreement executed as of April 27, 2001 and effective
         as of December 29, 2000 (incorporated by reference to Exhibit 10.1 to
         the Company's Form 10-QSB for the quarter ended March 31, 2001).

10.27    Form of Warrant Agreement dated as of April 27, 2001 (incorporated by
         reference to Exhibit 10.2 to the Company's Form 10-QSB for the quarter
         ended March 31, 2001).

10.28    Subscription Agreement between the Company and Duncan R. Russell dated
         April 13, 2001 (incorporated by reference to Exhibit 10.3 to the
         Company's Form 10-QSB for the quarter ended March 31, 2001).

10.29    Warrant Agreement between the Company and Duncan R. Russell dated as of
         April 27, 2001 (incorporated by reference to Exhibit 10.4 to the
         Company's Form 10-QSB for the quarter ended March 31, 2001).

10.30    Form of Warrant Agreement dated as of July 16, 2001 (incorporated by
         reference to Exhibit 10.5 to the Company's Form 10-QSB for the quarter
         ended June 30, 2001).

<PAGE>

10.31    Non-Negotiable Promissory Note of the Company payable to Jeffry D.
         Frisby dated September 18, 2001, in the original principal amount of
         $75,000 (incorporated by reference to Exhibit 10.1 to the Company's
         Form 10-QSB for the quarter ended September 30, 2001).

10.32    Non-Negotiable Promissory Note of the Company payable to Gregory S.
         Frisby dated September 19, 2001, in the original principal amount of
         $75,000 (incorporated by reference to Exhibit 10.2 to the Company's
         Form 10-QSB for the quarter ended September 30, 2001).

10.33    Non-Negotiable Promissory Note of the Company payable to Jeffry D.
         Frisby dated October 19, 2001, in the original principal amount of
         $75,000 (incorporated by reference to Exhibit 10.3 to the Company's
         Form 10-QSB for the quarter ended September 30, 2001).

10.34    Non-Negotiable Promissory Note of the Company payable to Gregory S.
         Frisby dated October 19, 2001, in the original principal amount of
         $75,000 (incorporated by reference to Exhibit 10.4 to the Company's
         Form 10-QSB for the quarter ended September 30, 2001).

10.35    Warrant Agreement between the Company and Jeffry D. Frisby dated
         September 20, 2001 (incorporated by reference to Exhibit 10.6 to the
         Company's Form 10-QSB for the quarter ended September 30, 2001).

10.36    Warrant Agreement between the Company and Gregory S. Frisby dated
         September 20, 2001 (incorporated by reference to Exhibit 10.7 to the
         Company's Form 10-QSB for the quarter ended September 30, 2001).

10.37    Amended and Restated Registration Rights Agreement dated November 19,
         2001 by and among the Company, MUSI, Finpart, Ms. Jean S. Moore,
         AllFirst Company Custodian for Hogan & Hartson Partners Retirement Plan
         for the Benefit of Ms. Jean S. Moore, and Schoeller Textil AG.

10.38    Loan Agreement between DAMAD Holding AG and the Company effective
         January 10, 2002 (incorporated by reference to Exhibit 4.7 to the
         Company's Form S-3/A filed January 24, 2002).

10.39    Promissory Note in the amount of $750,000 made by the Company payable
         to DAMAD Holding AG effective January 10, 2002 (incorporated by
         reference to Exhibit 10.8 to the Company's Form S-3/A filed January 24,
         2002).

10.40    Security Agreement between DAMAD Holding AG and the Company effective
         January 10, 2002 (incorporated by reference to Exhibit 4.9 to the
         Company's Form S-3/A filed January 24, 2002).

10.41    Stock Purchase Warrant issued to DAMAD Holding AG effective January 10,
         2002 (incorporated by reference to Exhibit 4.10 to the Company's Form
         S-3/A filed January 24, 2002).

<PAGE>

10.42    Registration Rights Agreement between the Company and DAMAD Holding AG
         dated January 23, 2002 (incorporated by reference to Exhibit 4.11 to
         the Company's Form S-3/A filed January 24, 2002).

10.43    Loan Agreement between Bluwat AG and the Company effective January 10,
         2002 (incorporated by reference to Exhibit 4.13 to the Company's Form
         S-3/A filed March 21, 2002).

10.44    Promissory Note in the amount of $750,000 made by the Company payable
         to Bluwat AG effective January 10, 2002 (incorporated by reference to
         Exhibit 4.14 to the Company's Form S-3/A filed March 21, 2002).

10.45    Security Agreement between Bluwat AG and the Company effective January
         10, 2002 (incorporated by reference to Exhibit 4.15 to the Company's
         Form S-3/A filed March 21, 2002).

10.46    Stock Purchase Warrant issued to Bluwat AG effective January 10, 2002
         (incorporated by reference to Exhibit 4.16 to the Company's Form S-3/A
         filed March 21, 2002).

10.47    Registration Rights Agreement between the Company and Bluwat AG dated
         January 23, 2002 (incorporated by reference to Exhibit 4.17 to the
         Company's Form S-3/A filed March 21, 2002).

10.48    Agreement between the Company and Outlast Technologies, Inc. dated
         January 1, 2001.

10.49    License Agreement between the Company and Outlast Technologies, Inc.
         dated January 1, 2001.

10.50    Patent Assignment Agreement between the Company and Texon UK Ltd dated
         November 21, 2001.



(b)      Reports on Form 8-K

         None.









<PAGE>


SIGNATURES

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

                                              Frisby Technologies, Inc.

                                                 By: /s/ Gregory S. Frisby
                                                     ---------------------
                                                     Gregory S. Frisby
                                                     Chief Executive Officer

Dated:  April 1, 2002

In accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the Registrant and in the capacities and on the
dated indicated.

<TABLE>
<CAPTION>
    Signature                                     Title                                     Date
    ---------                                     -----                                     ----
<S>                                 <C>                                                <C>

/s/ Gregory S. Frisby               Chairman of the Board of Directors; CEO            April 1, 2002
---------------------------
Gregory S. Frisby

/s/ Duncan R. Russell               President and COO; Director                        April 1, 2002
---------------------------
Duncan R. Russell

/s/ John L. Ruggiero                Chief Financial Officer and Treasurer              April 1, 2002
---------------------------
John L. Ruggiero

/s/ Jeffry D. Frisby                Director                                           April 1, 2002
---------------------------
Jeffry D. Frisby

                                    Director                                           April 1, 2002
---------------------------
Pietro A. Motta

/s/ Alex Rosenzweig                 Director                                           April 1, 2002
---------------------------
Alex Rosenzweig

/s/ Robert C. Grayson               Director                                           April 1, 2002
---------------------------
Robert C. Grayson

/s/ Robert E. Gregory               Director                                           April 1, 2002
---------------------------
Robert E. Gregory
</TABLE>