##### 



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UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D. C. 20549



FORM 10-Q



QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended SEPTEMBER 30, 2001

Commission file number 0-29907



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BLUE ZONE, INC.

(Exact name of registrant as specified in its charter)



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|                                                               |  |                                        
|-------------------------------------------------------------- |  | ---------------------------------------
|NEVADA                                                         |  | 86-0863053                             
|                                                               |  |                                        
|(State or other jurisdiction of
incorporation or organization) |  | (I.R.S. employer identification number)



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329 RAILWAY STREET, 5TH FLOOR
VANCOUVER, BRITISH COLUMBIA
CANADA V6A 1A4
(604) 685-4310
(Address, including zip code, and telephone number,
including area code, of registrants principal executive offices)



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Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 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

The number of outstanding shares of the registrants Common Stock, par value
$0.001 per share, was 24,539,350 on November 8, 2001.



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##### 



BLUE ZONE, INC.
QUARTERLY REPORT ON FORM 10-Q
FOR THE PERIOD ENDED SEPTEMBER 30, 2000

TABLE OF CONTENTS

|        |                                                                                               |                                                |    |    |   | 
|------- | --------------------------------------------------------------------------------------------- | ---------------------------------------------- | -- | -- | - | 
|PART I  |                                                                                               |                                                | 2  |   
|       
|       
|       
|       
|        | ITEM 1. FINANCIAL STATEMENTS                                                                  |                                                |    | 2  |  
|       
|       
|       
|       
|        |                                                                                               | Consolidated Balance Sheet                     |    |    | 2 | 
|       
|       
|       
|       
|        |                                                                                               | Consolidated Statement of Operations           |    |    | 3 | 
|       
|       
|       
|       
|        |                                                                                               | Consolidated Statement of Stockholders Equity |    |    | 4 | 
|       
|       
|       
|       
|        |                                                                                               | Consolidated Statement of Cash flow            |    |    | 5 | 
|       
|       
|       
|       
|        | ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS |                                                |    | 9  |  
|       
|       
|       
|       
|        | ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK                            |                                                |    | 20 |  
|       
|       
|       
|       
|PART II |                                                                                               |                                                | 21 |   
|       
|       
|       
|       
|        | ITEM 1. LEGAL PROCEEDINGS                                                                     |                                                |    | 21 |  
|       
|       
|       
|       
|        | ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS                                             |                                                |    | 21 |  
|       
|       
|       
|       
|        | ITEM 3. DEFAULTS UPON SENIOR SECURITIES                                                       |                                                |    | 21 |  
|       
|       
|       
|       
|        | ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS                                   |                                                |    | 21 |  
|       
|       
|       
|       
|        | ITEM 5. OTHER INFORMATION                                                                     |                                                |    | 22 |  
|       
|       
|       
|       
|        | ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K                                                      |                                                |    | 22 |  





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##### 



PART I

ITEM 1. FINANCIAL STATEMENTS

BLUE ZONE, INC.

Consolidated Balance Sheet(Expressed in U.S. dollars)

|                                     |                                                                                                        |                                         |           |                    |          |                   |           |            |          |  
|------------------------------------ | ------------------------------------------------------------------------------------------------------ | --------------------------------------- | --------- | ------------------ | -------- | ----------------- | --------- | ---------- | -------- | -
|                                    
|                                     |                                                                                                        |                                         |           | September 30, 2001 |          | December 31, 2000
|                                     |                                                                                                        |                                         |           | (Unaudited)        |          |                   |          
|                                    
|Assets                               |                                                                                                        |                                         |           |                    |          |                   |           |           
|                                    
|                                    
|                                    
|                                    
|Current assets:                      |                                                                                                        |                                         |           |                    |          |                   |           |           
|                                    
|                                    
|                                    
|                                    
|                                     | Cash and cash equivalents                                                                              |                                         | $         | 547,568            |          |                   | $         | 1,844,981  |         
|                                    
|                                    
|                                    
|                                    
|                                     | Accounts receivable, net of allowance for doubtful
accounts of $1,567 (2000 - nil)                     |                                         |           | 206,459            |          |                   |           | 221,363    |         
|                                    
|                                    
|                                    
|                                    
|                                     | Prepaid expenses                                                                                       |                                         |           | 57,404             |          |                   |           | 144,767    |         
|                                    
|                                    
|                                    
|                                    
|                                    
|                                     |                                                                                                        |                                         | 811,431   |                    |          |                   | 2,211,111 |           
|                                    
|                                    
|                                    
|                                    
|Fixed assets (note 5)                |                                                                                                        |                                         | 533,899   |                    |          |                   | 838,897   |           
|                                    
|                                    
|                                    
|                                    
|                                    
|                                     |                                                                                                        | $                                       | 1,345,330 |                    |          | $                 | 3,050,008 |           
|                                    
|                                    
|                                    
|                                    
|                                    
|Liabilities and Stockholders Equity |                                                                                                        |                                         |           |                    |          |                   |           |           
|                                    
|                                    
|                                    
|                                    
|Current liabilities:                 |                                                                                                        |                                         |           |                    |          |                   |           |           
|                                    
|                                    
|                                    
|                                    
|                                     | Accounts payable                                                                                       |                                         | $         | 52,866             |          |                   | $         | 258,728    |         
|                                    
|                                    
|                                    
|                                    
|                                     | Accrued liabilities (note 6)                                                                           |                                         |           | 132,185            |          |                   |           | 198,077    |         
|                                    
|                                    
|                                    
|                                    
|                                     | Deferred revenue                                                                                       |                                         |           | 76,021             |          |                   |           | 60,020     |         
|                                    
|                                    
|                                    
|                                    
|                                    
|                                     |                                                                                                        |                                         | 261,072   |                    |          |                   | 516,825   |           
|                                    
|                                    
|                                    
|                                    
|Debenture payable (note 3)           |                                                                                                        |                                         | 600,000   |                    |          |                   |          |           
|                                    
|                                    
|                                    
|                                    
|Stockholders equity (note 4):       |                                                                                                        |                                         |           |                    |          |                   |           |           
|                                    
|                                    
|                                    
|                                    
|                                     | Preferred stock, authorized 5,000,000 shares,
$.01 par value, none issued in 2001 or 2000              |                                         |           |                   |          |                   |           |           |         
|                                    
|                                    
|                                    
|                                    
|                                     | Common stock, $.001 par value, authorized 100,000,000
shares; issued and outstanding 24,539,350 shares |                                         |           | 24,539             |          |                   |           | 24,539     |         
|                                    
|                                    
|                                    
|                                    
|                                     | Additional paid in capital                                                                             |                                         |           | 8,504,046          |          |                   |           | 8,446,877  |         
|                                    
|                                    
|                                    
|                                    
|                                     | Deficit                                                                                                |                                         |           | (7,745,135         | )        |                   |           | (5,738,665 | )       
|                                    
|                                    
|                                    
|                                    
|                                     | Accumulated other comprehensive loss:                                                                  |                                         |           |                    |          |                   |           |            |         
|                                    
|                                    
|                                    
|                                    
|                                     |                                                                                                        | Foreign currency translation adjustment |           |                    | (299,192 | )                 |           |            | (199,568 | )
|                                    
|                                    
|                                    
|                                    
|                                    
|                                     |                                                                                                        |                                         | 484,258   |                    |          |                   | 2,533,183 |           
|                                    
|                                    
|                                    
|                                    
|                                    
|                                     |                                                                                                        | $                                       | 1,345,330 |                    |          | $                 | 3,050,008 |           
|                                    

Contingency (note 7)

See accompanying notes to consolidated financial statements.





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##### 



BLUE ZONE, INC.

Consolidated Statement of Operations(Expressed in U.S. dollars)

(Unaudited)

|                                                              |                                          |   |                            |         |                           |   |            |         |      |   |            |           |  |   |            |           | 
|------------------------------------------------------------- | ---------------------------------------- | - | -------------------------- | ------- | ------------------------- | - | ---------- | ------- | ---- | - | ---------- | --------- |  | - | ---------- | --------- | 
|                                                             
|                                                              |                                          |   | Three months ended Sep 30, |         | Nine months ended Sep 30,
|                                                              |                                          |   | 2001                       |         | 2000                      |   | 2001       |         | 2000
|                                                             
|Product, license and service revenue                          |                                          | $ | 144,542                    |         |                           | $ | 481,769    |         |      | $ | 485,614    |           |  | $ | 906,574    |          
|                                                             
|                                                             
|                                                             
|                                                             
|Cost of revenues                                              |                                          |   | 38,380                     |         |                           |   | 197,064    |         |      |   | 77,935     |           |  |   | 549,276    |          
|                                                             
|                                                             
|                                                             
|                                                             
|                                                             
|Gross profit                                                  |                                          |   | 106,162                    |         |                           |   | 284,705    |         |      |   | 407,679    |           |  |   | 357,298    |          
|                                                             
|                                                             
|                                                             
|                                                             
|                                                             
|Operating expenses:                                           |                                          |   |                            |         |                           |   |            |         |      |   |            |           |  |   |            |          
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | General and administrative (notes 5 & 6) |   |                            | 402,162 |                           |   |            | 905,165 |      |   |            | 1,356,394 |  |   |            | 2,531,604 | 
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Research and development                 |   |                            | 128,935 |                           |   |            | 197,956 |      |   |            | 502,741   |  |   |            | 475,793   | 
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Selling and marketing                    |   |                            | 131,119 |                           |   |            | 1,645   |      |   |            | 428,398   |  |   |            | 99,375    | 
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Depreciation                             |   |                            | 51,484  |                           |   |            | 50,244  |      |   |            | 169,368   |  |   |            | 141,619   | 
|                                                             
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              |                                          |   | 713,700                    |         |                           |   | 1,155,010  |         |      |   | 2,456,901  |           |  |   | 3,248,391  |          
|                                                             
|                                                             
|                                                             
|                                                             
|                                                             
|Loss before undernoted                                        |                                          |   | 607,538                    |         |                           |   | 870,305    |         |      |   | 2,049,222  |           |  |   | 2,891,093  |          
|                                                             
|                                                             
|                                                             
|                                                             
|Other income:                                                 |                                          |   |                            |         |                           |   |            |         |      |   |            |           |  |   |            |          
|                                                             
|                                                             
|                                                             
|                                                             
|                                                              | Interest income                          |   |                            | 6,584   |                           |   |            | 13,570  |      |   |            | 42,752    |  |   |            | 102,440   | 
|                                                             
|                                                             
|                                                             
|                                                             
|                                                             
|Net loss                                                      |                                          | $ | 600,954                    |         |                           | $ | 856,735    |         |      | $ | 2,006,470  |           |  | $ | 2,788,653  |          
|                                                             
|                                                             
|                                                             
|                                                             
|                                                             
|Net loss per common share,
basic and diluted                  |                                          | $ | 0.02                       |         |                           | $ | 0.04       |         |      | $ | 0.08       |           |  | $ | 0.13       |          
|                                                             
|                                                             
|                                                             
|                                                             
|                                                             
|Weighted average common shares
outstanding, basic and diluted |                                          |   | 24,539,350                 |         |                           |   | 21,773,672 |         |      |   | 24,539,350 |           |  |   | 21,616,624 |          
|                                                             

See accompanying notes to consolidated financial statements.





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##### 



BLUE ZONE, INC.

Consolidated Statement of Stockholders Equity(Expressed in U.S. dollars)

Nine months ended September 30, 2001
(Unaudited)

|                            |                                             |                                         |            |              |   |         |        |         |   |         |           |             |   |               |            |   |            |          |          |               |         |   |            |        |            |  
|--------------------------- | ------------------------------------------- | --------------------------------------- | ---------- | ------------ | - | ------- | ------ | ------- | - | ------- | --------- | ----------- | - | ------------- | ---------- | - | ---------- | -------- | -------- | ------------- | ------- | - | ---------- | ------ | ---------- | -
|                           
|                            |                                             |                                         |            |              |   |         |        |         |   |         |           |             |   |               |            |   |            |          |          | Accumulated   |         |   |            |       
|                            |                                             |                                         |            |              |   |         |        |         |   |         |           |             |   |               |            |   |            |          |          | other         |         |   |            |       
|                            |                                             |                                         |            |              |   |         |        |         |   |         |           |             |   |               |            |   |            |          |          | comprehensive |         |   |            |       
|                            |                                             |                                         |            |              |   |         |        |         |   |         |           |             |   |               |            |   |            |          |          | loss          |         |   |            |       
|                            |                                             |                                         |            |              |   |         |        |         |   |         |           |             |   |               |            |   |            |          |          |              
|                            |                                             |                                         |            |              |   |         |        |         |   |         |           |             |   |               |            |   |            |          |          | Foreign       |         |   |            |       
|                            |                                             |                                         |            |              |   |         |        |         |   |         |           | Additional  |   |               |            |   |            | currency |          | Total        
|                            |                                             |                                         |            | Common stock |   | paid-in |        |         |   |         |           | translation |   | stockholders'
|                            |                                             |                                         |            | Shares       |   | Amount  |        | capital |   | Deficit |           | adjustment  |   | equity       
|                           
|Balance, December 31, 2000  |                                             |                                         | 24,539,350 |              |   | $       | 24,539 |         |   | $       | 8,446,877 |             |   | $             | (5,738,665 | ) |            | $        | (199,568 | )             |         | $ | 2,533,183  |       
|                           
|                           
|                           
|                           
|                            | Amortization of deferred stock compensation |                                         |            |             |   |         |        |        |   |         |           | 26,820      |   |               |            |  |            |          |          |              |         |   |            | 26,820 |           
|                           
|                           
|                           
|                           
|                            | Adjustment of financing costs               |                                         |            |             |   |         |        |        |   |         |           | 30,349      |   |               |            |  |            |          |          |              |         |   |            | 30,349 |           
|                           
|                           
|                           
|                           
|                            | Comprehensive loss:                         |                                         |            |              |   |         |        |         |   |         |           |             |   |               |            |   |            |          |          |               |         |   |            |        |           
|                           
|                           
|                           
|                           
|                            |                                             | Net loss                                |            |              |  |         |        |         |  |         |           |             |  |               |            |   | (2,006,470 | )        |          |               |        |   |            |        | (2,006,470 | )
|                           
|                           
|                           
|                           
|                            |                                             | Foreign currency translation adjustment |            |              |  |         |        |         |  |         |           |             |  |               |            |   |           |          |          |               | (99,624 | ) |            |        | (99,624    | )
|                           
|                           
|                           
|                           
|                           
|                            |                                             |                                         |            |              |   |         |        |         |   |         |           |             |   |               |            |   |            |          |          |               |         |   | (2,106,094 | )     
|                           
|                           
|                           
|                           
|                           
|Balance, September 30, 2001 |                                             |                                         | 24,539,350 |              |   | $       | 24,539 |         |   | $       | 8,504,046 |             |   | $             | (7,745,135 | ) |            | $        | (299,192 | )             |         | $ | 484,258    |       
|                           

See accompanying notes to consolidated financial statements.



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##### 



BLUE ZONE, INC.

Consolidated Statement of Cash Flows(Expressed in U.S. dollars)

Nine months ended September 30, 2001 and 2000
(Unaudited)

|                                                             |                                                      |                                  |            |            |          |      |           |            |          |  
|------------------------------------------------------------ | ---------------------------------------------------- | -------------------------------- | ---------- | ---------- | -------- | ---- | --------- | ---------- | -------- | -
|                                                            
|                                                             |                                                      |                                  |            | 2001       |          | 2000
|                                                            
|Cash flows from operating activities:                        |                                                      |                                  |            |            |          |      |           |           
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Net loss                                             |                                  | $          | (2,006,470 | )        |      | $         | (2,788,653 | )       
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Items not involving cash:                            |                                  |            |            |          |      |           |            |         
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                      | Stock based compensation         |            |            | 26,820   |      |           |            | 276,060  |  
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                      | Depreciation                     |            |            | 169,368  |      |           |            | 141,619  |  
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                      | Fixed asset impairment loss      |            |            | 84,614   |      |           |            |         |  
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                      | Loss on disposal of fixed assets |            |            | 19,326   |      |           |            |         |  
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Changes in operating assets and liabilities:         |                                  |            |            |          |      |           |            |         
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                      | Accounts receivable              |            |            | 5,288    |      |           |            | (528,729 | )
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                      | Prepaid expenses                 |            |            | 80,500   |      |           |            | 55,429   |  
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                      | Work-in-progress                 |            |            |         |      |           |            | 70,581   |  
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                      | Accounts payable                 |            |            | (194,490 | )    |           |            | (25,666  | )
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                      | Accrued liabilities              |            |            | (77,066  | )    |           |            |         |  
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                      | Deferred revenue                 |            |            | 19,005   |      |           |            | (100,329 | )
|                                                            
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Net cash used in operating activities                |                                  |            | (1,873,105 | )        |      |           | (2,899,688 | )       
|                                                            
|                                                            
|                                                            
|                                                            
|Cash flows from financing activities:                        |                                                      |                                  |            |            |          |      |           |           
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Issuance of convertible debentures                   |                                  |            | 600,000    |          |      |           |           |         
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Issuance of redeemable equity securities             |                                  |            |           |          |      |           | 4,000,000  |         
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Increase in deferred finance costs                   |                                  |            |           |          |      |           | (459,551   | )       
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Issuance of common stock                             |                                  |            |           |          |      |           | 6,250      |         
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Repayment to stockholder                             |                                  |            |           |          |      |           | (45,559    | )       
|                                                            
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Net cash provided by financing activities            |                                  |            | 600,000    |          |      |           | 3,501,140  |         
|                                                            
|                                                            
|                                                            
|                                                            
|Cash flows from investing activities:                        |                                                      |                                  |            |            |          |      |           |           
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Proceeds from sale of fixed assets                   |                                  |            | 15,496     |          |      |           |           |         
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Purchase of fixed assets                             |                                  |            | (18,545    | )        |      |           | (563,457   | )       
|                                                            
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Net cash used in investing activities                |                                  |            | (3,049     | )        |      |           | (563,457   | )       
|                                                            
|                                                            
|                                                            
|                                                            
|Effect of exchange rate changes on cash and
cash equivalents |                                                      |                                  | (21,259    | )          |          |      |          |           
|                                                            
|                                                            
|                                                            
|                                                            
|                                                            
|Net increase (decrease) in cash and cash equivalents         |                                                      |                                  | (1,297,413 | )          |          |      | 37,995    |           
|                                                            
|                                                            
|                                                            
|                                                            
|Cash and cash equivalents, beginning of period               |                                                      |                                  | 1,844,981  |            |          |      | 4,097,869 |           
|                                                            
|                                                            
|                                                            
|                                                            
|                                                            
|Cash and cash equivalents, end of period                     |                                                      | $                                | 547,568    |            |          | $    | 4,135,864 |           
|                                                            
|                                                            
|                                                            
|                                                            
|                                                            
|Supplementary information:                                   |                                                      |                                  |            |            |          |      |           |           
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Interest paid                                        |                                  | $          |           |          |      | $         | 2,122      |         
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Income taxes paid                                    |                                  |            |           |          |      |           |           |         
|                                                            
|                                                            
|                                                            
|                                                            
|                                                            
|Non-cash transactions:                                       |                                                      |                                  |            |            |          |      |           |           
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Revenue received in exchange for
advertising expense |                                  | $          |           |          |      | $         | 8,651      |         
|                                                            

See accompanying notes to consolidated financial statements.





---



##### 



BLUE ZONE, INC.

Notes to Consolidated Financial Statements
(Expressed in U.S. dollars)

Nine months ended September 30, 2001 and 2000
(Unaudited)



---

1. Basis of Presentation

The accompanying unaudited interim financial statements have been prepared in
conformity with generally accepted accounting principles applicable to interim
financial information and with the rules and regulations of the United States
Securities and Exchange Commission. Accordingly, certain information and
footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been condensed,
or omitted, pursuant to such rules and regulations. In the opinion of
management, the unaudited interim financial statements include all adjustments
necessary for the fair presentation of the results of the interim periods
presented. These financial statements should be read in conjunction with the
Companys audited consolidated financial statements and notes thereto for the
year ended December 31, 2000, included in Blue Zones Annual Report on Form
10-K, dated March 29, 2001, filed with the Securities and Exchange Commission.
The results of operations for the interim period are not necessarily indicative
of the results of operations for any other interim period or for a full fiscal
year.

Certain comparative figures have been reclassified to conform to the
presentation adopted in the current period.

2. Going Concern

These unaudited interim consolidated financial statements have been prepared
on the going concern basis, which presumes the realization of assets and the
settlement of liabilities and commitments in the normal course of operations.
The application of the going concern basis is dependent upon the Company
achieving profitable operations to generate sufficient cash flows to fund
continued operations, or, in the absence of adequate cash flows from
operations, obtaining additional financing.

The Company has reported losses in the last three fiscal years, and has an
accumulated deficit of $7,745,135 at September 30, 2001, and recurring
negative cash flows from operations. Management continues to review
operations in order to identify additional strategies, including obtaining
future sales contracts, designed to generate cash flow, improve the Companys
financial position, and enable the timely discharge of the Companys
obligations. To that end, on September 28, 2001 the Company announced an
operational restructuring resulting in the elimination of 19 production and
administration positions. When additional capital is required, the Company
may sell additional equity, debt or convertible securities or establish credit
facilities. If management is unable to identify sources of additional cash
flow in the short term, it may be required to further reduce or limit
operations.

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BLUE ZONE, INC.

Notes to Consolidated Financial Statements
(Expressed in U.S. dollars)

Nine months ended September 30, 2001 and 2000
(Unaudited)



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3. Debenture Payable

During the quarter, the Company issued secured convertible debentures in the
amount of $600,000. The debentures are convertible at the option of the lender
into common stock of the Company at a conversion rate of $0.135 per common
share for $300,000 of the debentures and $0.085 per common share for the
remaining debentures, the prevailing market prices of the Companys common
stock on the date of issuance of the debentures. Half of the debentures bear
interest at a rate of 8.25% per year and the other half bear interest at a rate
of 8.0% per year; all of the debentures are due in April 2003. The debentures
are secured by certain assets of the Company and are part of a $1,000,000
debenture facility between the Company and a related party. Drawdowns under
the facility are subject to board of director approval. During the period the
Company accrued interest of $8,893 in connection with the debentures.

4. Stockholders Equity

During the quarter ended September 30, 2001, options to purchase 2,600,000
common shares were tendered for cancellation by directors of the Company. The
directors received an undertaking by the Company to issue options to purchase
an equivalent number of shares at some date in the future, which will be more
than six months after the date of cancellation, at the then market price of
the Companys common stock.

During the quarter ended September 30, 2001, the Company issued options to
purchase 1,895,000 common shares to employees in accordance with the Companys
Amended and Restated 1999 Stock Option Plan.

At September 30, 2001, there were outstanding options to purchase a total of
2,674,000 common shares of the Company.

5. Fixed Asset Impairment

The Company has recorded an impairment loss of $84,614 relating to certain
furniture, fixtures, and equipment located in the Companys Toronto studio.
The lease for the Toronto studio was assigned to an unrelated third party
subsequent to period end, and the equipment remaining in the studio at that
time was also assigned to that party for a nominal amount. The equipment is
recorded at its net recoverable amount, and the impairment loss is recorded in
general and administrative expenses on the statement of operations. As a
result of the assignment, the Company is released of all liability under the
lease effective October 15, 2001.

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BLUE ZONE, INC.

Notes to Consolidated Financial Statements
(Expressed in U.S. dollars)

Nine months ended September 30, 2001 and 2000
(Unaudited)



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6. Restructuring

The Company has undertaken two operational restructurings during the nine
month period ended September 30, 2001, resulting in the elimination of
approximately 36 positions in total. The financial statements for the nine
months ended September 30, 2001 reflect total restructuring charges of
$101,900 in connection with these reorganizations, representing primarily
severance and other costs associated with positions eliminated, including
an accrual of $20,314 relating to the September restructuring.

7. Contingency

During the year ended December 31, 2000, the Company was audited by the
Consumer Taxation Branch of the British Columbia Ministry of Consumer and
Corporate Affairs for provincial sales tax for the period from November 1, 1997
to October 31, 2000. The Ministry proposed an assessment of approximately
$182,000 relating to various items from this period, including tax on revenue
and tax on capital assets purchased outside the province for use in B.C. The
Company believes the proposed assessment applies tax primarily to items that
are not taxable and has disputed the proposed assessment. $15,700 was paid to
the Ministry in a prior quarter, representing managements best estimate of the
Companys obligation in respect of the possible assessment.

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ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

The following Managements Discussion and Analysis of Financial Condition and
Results of Operations contains forward- looking statements that involve risks
and uncertainties, as described below. Blue Zones actual results could differ
materially from those anticipated in these forward- looking statements. The
following discussion should be read in conjunction with the unaudited interim
consolidated financial statements and notes thereto included in Part I  Item 1
of this Quarterly Report, and the audited consolidated financial statements and
notes thereto and Managements Discussion and Analysis of Financial Conditions
and Results of Operations included in our Annual Report on Form 10-K for the
fiscal year ended December 31, 2000.

FORWARD LOOKING STATEMENTS

All statements contained herein, as well as statements made in press releases
and oral statements that may be made by us or by officers, directors or
employees acting on our behalf, that are not statements of historical fact
constitute forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. Such forward-looking statements
involve known and unknown risks, uncertainties and other factors that could
cause our actual results to be materially different from historical results or
from any future results expressed or implied by such forward-looking
statements. Readers should consider statements that include the terms
believe, belief, expect, plan, anticipate, intend or the like to be
uncertain and forward-looking. All cautionary statements made herein should be
read as being applicable to all forward-looking statements wherever they
appear. In this connection, readers should consider the risks described in the
Companys annual report on Form 10-K for the year ended December 31, 2000 and
should not place undue reliance on any forward-looking statements.

Overview

Blue Zone has used in-depth knowledge acquired from working closely with
broadcasting companies to develop proprietary technology for use in media
applications. Our experience with live news delivery, including the large
variety of filming, graphics and editing equipment for audio and video
production, combined with our understanding of the specific communication
standards that exist inside a newsroom between equipment and employees, has
provided us with the opportunity to develop software to service the unique
needs of the broadcast community. The business has historically been focused
on providing Website design and content services and interactive consulting to
a range of Canadian-based media and broadcasting companies. This focus has now
expanded to include convergence technology targeted at broadcast, media, and
wireless communication companies throughout North America and Asia.

Bruce Warren, the Companys President and Chief Executive Officer, and Jamie
Ollivier, the Executive Creative Director, have worked in the broadcast field
for over ten years. During this time they have acquired valuable insights into
the technology requirements for traditional television and radio broadcast
companies to access the World Wide Web

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through set-top-boxes and other interactive devices. In 1997, the Company
began development of a proprietary product, now trademarked as the MediaBZ
suite of products, to facilitate convergence of television, radio, and
print media content to the interactive environment.

In the latter half of 1999, Blue Zone contracted with CTV, Canadas largest
private television network, to plan, design, and implement CTV News
interactive broadcasts on the Internet, focused around the MediaBZ product.
The interactive news service, CTVNEWS.com, was launched on September 21, 2000.
CTVNEWS.com utilizes Blue Zones NewsBZ software to publish its content to
Web-enabled computers, interactive television, WAP-enabled cellular
telephones, and personal digital assistants. Blue Zone has also been retained
as an ongoing consultant to CTV. During the quarter ended September 30, 2001,
CTV upgraded to MediaBZ 2.0, the latest version of Blue Zones software, and
renewed its annual license for a further one-year period.

Approximately 65% of
the Companys revenue for the nine- month period ended September 30, 2001 is
derived from delivering product and services related to this CTV contract,
including license, support and maintenance, and consulting revenue. At
September 30, 2001, Blue Zone continues to work closely with CTV in accordance
with the contract.

Blue Zone has been working with Bell Mobility, the largest
wireless telecommunications service provider in Canada. We have completed
development of one wireless application prototype for Bell Mobility and expect
to develop further applications as a result of this relationship. Blue Zone
has not yet signed a definitive agreement with Bell Mobility.

During the quarter ended September 30, 2001, Blue Zone entered into a strategic
alliance with PacketVideo, the recognized leader in advanced technologies for
wireless multimedia communications, to bring our respective technologies to the
wireless carrier markets in North America, Europe and Asia. Under the terms of
the agreement, Blue Zone expects to benefit from PacketVideos direct and
indirect worldwide sales force and established relationships with the major
global wireless carriers. PacketVideo will market and sell a solution that
combines the PacketVideo technology with Blue Zones MediaBZ carrier solution,
allowing content providers to easily and efficiently deliver their content to
wireless devices and to Blue Zones front-end mobile applications that display
the content on mobile consumer devices.

MediaBZ is integrated with PacketVideos PVAuthor, which is installed at the
content providers facility to enable an automated encoding process, which
results in labor cost savings for the content provider. The combined solution
allows the content provider to deliver constantly refreshed rich media content
(e.g. news, sports, finance, entertainment, etc.) to wireless devices (e.g.
cell phones, smart PDAs, etc.) via the carriers network. This, in turn,
enables carriers to implement value-added subscription services that provide a
monthly revenue stream while increasing subscribers airtime consumption.
Blue Zone is also a chartered developer for PacketVideo.

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The Company has incurred losses in each of the last three fiscal years and for
the period ended September 30, 2001, and as of September 30, 2001, had an
accumulated deficit of $7,745,000. The net loss was $2,006,000 for the nine-
month period ended September 30, 2001. Blue Zone continues to incur losses as
a result of the focus on executing the Companys business plan, which is built
around marketing of the MediaBZ product line to a broad range of broadcast,
media, and wireless communication companies throughout North America.

During the third quarter of 2001, Blue Zone effected an operational
restructuring, resulting in the elimination of 19 administrative and
production positions within the Company, in order to focus on partner
reselling opportunities, such as value added resellers (VAR), for its core
MediaBZ solution. This restructuring followed the second quarter
reorganization whereby Blue Zone eliminated 14 positions in administration and
production, while maintaining the Companys core competency as a software
solutions company.

The two restructurings, combined with other cost savings measures in the areas
of travel and entertainment, professional fees, and administrative costs, may
better enable the Company to leverage the potential of the Companys MediaBZ
software solution, and to capitalize on emerging markets with an industry
leading technology while reducing the cash utilization rate. Blue Zone does
not expect that the restructurings will compromise the Companys ability to
fulfill its current and anticipated future client obligations.

Stock option exchange program

During the prior quarter, Blue Zones Board of Directors approved a voluntary
stock option exchange program for our employees and directors. The stock
option exchange program for employees was withdrawn during the quarter ended
September 30, 2001, and was replaced with the granting of new, at- market
options to all employees. Under the program, Blue Zones directors were given
the opportunity to elect to cancel outstanding stock options held by them in
exchange for an undertaking to issue an equal number of new options to be
granted at a future date, which will be at least six months after the
cancellation date. The exercise price of the new options will be equal to the
fair market value of the Companys common stock on the date of grant. Options
to purchase 2,600,000 shares were cancelled by Directors during the quarter.

Nasdaq listing

During the quarter ended June 30, 2001, the Company received notice from the
Nasdaq Stock Market indicating that its common stock would be delisted from
the Nasdaq Smallcap Market as a result of Blue Zones failure to meet certain
of Nasdaqs continued listing requirements. The Company filed an appeal and
had a hearing before the Nasdaq Listing Qualifications Panel to present the
Companys plan to regain compliance for continued listing. However, the Panel
notified the Company that its stock would be delisted effective August 8,
2001. Blue Zones common stock commenced quotation on the OTC Bulletin Board
system on August 8, 2001.

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Sources of revenue and revenue recognition
   Product, license and service:

The Company generates product, license and service revenue through the
licensing of the MediaBZ solution and associated professional services. More
specifically, Blue Zone generates revenue from: interactive broadcasting
development and maintenance, strategic and business process improvement
consulting services for broadcasting, media, and wireless communication
companies, integration, implementation and production services related to the
MediaBZ solution, and software licensing from Blue Zones family of MediaBZ
software applications.

Consulting service revenues are recognized upon delivery of the service.
Interactive broadcasting maintenance revenue is recognized over the term of the
contracts, typically month to month. Software licensing revenue is recognized
over the term of the license. For long-term development projects such as the
CTV contract, revenue is recognized on a percentage completion basis, based
upon achievement of specifically identifiable milestones. Revenue that has
been prepaid or invoiced but does not yet qualify for recognition under the
Companys policies is reflected as deferred revenue.

Exchange product and service:

In fiscal 2000, the Company adopted EITF No. 99-17 Accounting for Advertising
Barter Transactions. EITF 99-17 provides that the Company recognize revenue
and advertising expenses from barter transactions at the fair value only when
it has a historical practice of receiving or paying cash for similar
transactions. The Company has not recorded barter transactions during the
nine- month period ended September 30, 2001.

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Results of operations

The following table sets forth consolidated statement of operations data for
the three-month periods and nine-month periods ended September 30, 2001 and
2000, expressed as a percentage of total revenues:

|                                           |  |                    |       |                   |      |  |       |   |      |  |       |   |  |  |       |  
|------------------------------------------ |  | ------------------ | ----- | ----------------- | ---- |  | ----- | - | ---- |  | ----- | - |  |  | ----- | -
|                                           |  | Three Months Ended |       | Nine Months Ended
|                                           |  | September 30,      |       | September 30,    
|                                          
|                                           |  |                    | 2001  |                   | 2000 |  | 2001  |   | 2000
|                                          
|Consolidated Statement of Operations Data: |  |                    |       |                   |      |  |       |   |      |  |       |   |  |  |       |  
|                                          
|                                          
|                                          
|                                          
|Revenue                                    |  |                    | 100.0 | %                 |      |  | 100.0 | % |      |  | 100.0 | % |  |  | 100.0 | %
|                                          
|                                          
|                                          
|                                          
|Cost of revenue                            |  |                    | 26.6  |                   |      |  | 40.9  |   |      |  | 16.0  |   |  |  | 60.6  |  
|                                          
|Gross profit                               |  |                    | 73.4  |                   |      |  | 59.1  |   |      |  | 84.0  |   |  |  | 39.4  |  
|                                          
|                                          
|                                          
|                                          
|Operating expenses:                        |  |                    |       |                   |      |  |       |   |      |  |       |   |  |  |       |  
|                                          
|                                          
|                                          
|                                          
|General and administrative                 |  |                    | 278.2 |                   |      |  | 187.9 |   |      |  | 279.3 |   |  |  | 279.2 |  
|                                          
|                                          
|                                          
|                                          
|Research and Development                   |  |                    | 89.2  |                   |      |  | 41.1  |   |      |  | 103.5 |   |  |  | 52.5  |  
|                                          
|                                          
|                                          
|                                          
|Selling and marketing                      |  |                    | 90.7  |                   |      |  | 0.3   |   |      |  | 88.2  |   |  |  | 11.0  |  
|                                          
|                                          
|                                          
|                                          
|Depreciation                               |  |                    | 35.6  |                   |      |  | 10.4  |   |      |  | 34.9  |   |  |  | 15.6  |  
|                                          
|Total operating expenses                   |  |                    | 493.7 |                   |      |  | 239.7 |   |      |  | 505.9 |   |  |  | 358.3 |  
|                                          
|Loss before interest and
income taxes      |  |                    | 420.3 |                   |      |  | 180.6 |   |      |  | 421.9 |   |  |  | 318.9 |  
|                                          
|                                          
|                                          
|                                          
|Interest income                            |  |                    | 4.6   |                   |      |  | 2.8   |   |      |  | 8.8   |   |  |  | 11.3  |  
|                                          
|Net loss                                   |  |                    | 415.7 | %                 |      |  | 177.8 | % |      |  | 413.1 | % |  |  | 307.6 | %
|                                          

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Revenue

Product and service revenue decreased to $145,000 for the quarter ended
September 30, 2001, a decrease of 70% over revenue of $482,000 for the quarter
ended September 30, 2000. Product and service revenue dropped 46% to $486,000
for the nine months ended September 30, 2001 from revenue of $907,000 for the
nine months ended September 30, 2000. The decline in revenue is mainly
attributable to a reduction in the volume of work performed for CTV in fiscal
2001. CTVNews.com went live in September 2000, meaning that Blue Zone
performed the bulk of the work in quarter two and three of 2000 in anticipation
of the CTV launch. The reduction in revenue from CTV for the year to date of
2001 was partially offset by revenue generated from developing a MediaBZ
wireless application prototype for trial by Bell Mobility. CTV accounted for
approximately 85% of the revenue for the third quarter of fiscal 2001 and 65%
of revenue for the 2001 year-to-date, compared to 95% and 90% respectively, for
the same periods in 2000.

Cost of Revenue

The principal components of cost of revenue include labor and materials
incurred in the delivery of software and services. Cost of revenue dropped
by 81% to $38,000 in the quarter ended September 30, 2001 from $197,000 for
the same period in 2000, and decreased by 86% to $78,000 in the nine months
ended September 30, 2001 from $549,000 for the same period in 2000. This
decrease is mainly a result of the different nature of the work performed
during the periods. In 2001, most of the revenue was derived from support
and maintenance and demonstration projects, which are high margin activities,
compared to consulting and implementation work in 2000, which are lower
margin tasks. The gross profit percentage improved to 73% in the third
quarter of 2001 from 59% in the third quarter of 2000, and increased to 84%
during fiscal 2001 from 39% in the 2000 year-to-date because of this change.

We expect our gross profit to fluctuate based on our product mix, geographic
mix, product and patent licenses, and the uncertain costs associated with
hiring competent technical, creative and management personnel. There are no
assurances that Blue Zone will be able to maintain gross margins in future
periods.

General and Administrative Expenses

General and administrative expenses for the quarter ended September 30, 2001
were $402,000, a decrease of $503,000 compared to the quarter ended September
30, 2000 expenses of $905,000. General and administrative expenses for the
nine months ended September 30, 2001 were $1,356,000, a reduction of $1,176,000
compared to expenses of $2,532,000 for the nine months ended September 30,
2000. The lower level of general and administrative expenses is directly
attributable to efforts to control operating costs, such as travel and
entertainment, professional fees, and general office expenses, as well as the
elimination of administrative positions in the second quarter of 2001. The
operational restructuring effected in the second quarter of 2001 resulted in
reduced payroll and other associated costs. The significant components of
general and administrative costs are discussed below.

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Labor costs comprised approximately 16% of general and administrative expenses
during the quarter ended September 30, 2001, or $64,000. This is a drop of
$204,000 over the 2000 quarter three labor component of $268,000. Labor costs
comprised approximately 23% of general and administrative expenses during the
nine- month period ended September 30, 2001, or $307,000. This is a decrease
of $485,000 compared to the labor component of $792,000 for the nine months
ended September 30, 2000. The decrease can be explained by the lower average
headcount in 2001.

Blue Zone incurred termination costs of $30,000 in the third quarter of 2001 in
connection with the elimination of administrative positions effective October
2001. Termination costs charged to general and administrative expenses totaled
$102,000 for the year to date in 2001, and include the costs of the second
quarter restructuring discussed above. These costs relate to severance and
other costs associated with positions that were eliminated in the
restructuring. No such costs were incurred in 2000.

Accounting, legal, and
investor relations fees were $78,000 for the quarter ended September 30, 2001,
and $274,000 for the nine months ended September 30, 2001. These amounts
represent a decrease of 44% and 58% respectively over expenses of $139,000 and
$657,000 respectively for the same periods in 2000. The majority of the
reduction is attributable to lower legal fees. Legal costs declined by 61% in
2001 as a result of several factors, including high legal costs incurred in the
first three quarters of fiscal 2000 associated with filing the Companys Form
10, with preparing for the Companys Nasdaq listing in July 2000, and with
negotiating contracts in 2000, together with a greater effort to manage legal
costs in 2001. Investor relations fees decreased 77% during 2001 because of
much lower level of external investor relations activities. Blue Zone
conducted an investor road show in 2000, but not in 2001. Blue Zone cancelled
the external investor relations contract in March 2001 in order to reduce
costs.

Travel and entertainment costs charged to general and administrative
expenses decreased 71% to $16,000 for the quarter ended September 30, 2001,
compared to $55,000 for the same period last year. These costs declined 67% to
$98,000 for the nine months ended September 30, 2001, compared to $301,000 for
the same period last year. During the nine months ended September 30, 2000,
travel costs were incurred in connection with the CTV contract, other contract
negotiations, and for presentations to the investment community and corporate
financing activities. The travel costs incurred in 2001 were mainly for
general corporate purposes, as well as some travel in connection with CTV and
Bell Mobility. Travel costs also decreased as a result of greater efforts to
manage travel spending in 2001 and fewer people traveling.

Facilities costs,
which include rent, utilities, and operating costs, were $42,000 for the third
quarter of fiscal 2001, a decrease of $4,000 over the prior year. Facilities
costs were $158,000 for the first three quarters of fiscal 2001, an increase of
$25,000 over the same period in the prior year. Blue Zone had additional space
in Vancouver and an apartment in Toronto during the nine- month period ended
September 30, 2001 compared to the same period in fiscal 2000.

Public company
expenses decreased to $19,000 in the third quarter of 2001 and to $82,000 for
the nine months ended September 30, 2001. These changes represent decreases of
$87,000 or 82% for the quarter and $43,000 or 35% for the year to date

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compared to the same periods in 2000. Public company costs include primarily
Nasdaq listing fees for the time when Blue Zone was traded on the Nasdaq
exchange and SEC filing fees. The decrease is attributable to the fact that
the Companys common stock began trading on the Nasdaq market in July 2000,
and the Company incurred significant one-time listing fees in the third
quarter of 2000 associated with the listing. The Company also incurred SEC
filing fees in connection with the filing of the Companys Form S-8 in quarter
three of 2000. Neither expenditure was required in 2001.

General office expenses decreased to $17,000 during the quarter ended September
30, 2001 from $56,000 in the prior year. General office expenses dropped to
$73,000 during the nine months ended September 30, 2001 from $226,000 in the
same period in the prior year. The decrease from fiscal 2000 can be attributed
mainly to lower headcount, lower printing costs, and lower association dues in
fiscal 2001. Printing costs were incurred in 2000 for the printing of
corporate brochures. In addition, costs were incurred in the third quarter of
fiscal 2000 to outfit new office space in Vancouver and to complete the
fixturing of the Toronto studio and apartment.

Recruiting costs dropped to
$4,000 in the third quarter of 2001 from $7,000 in the same period of 2000.
These costs fell by $63,000 to $28,000 during the nine months ended September
30, 2001 compared to the same period in 2000. The higher level of recruiting
fees in 2000 can be attributed to the costs associated with building the
Companys workforce in 2000 in connection with fulfilling the CTV contract and
other anticipated business. The expenses include placement fees and
advertising costs associated with filling positions within the Company. The
Company recruited many fewer individuals in 2001.

Consulting costs declined by
$13,000 to $5,000 in the quarter ended September 30, 2001 compared to 2000.
There was a reduction of $92,000 to $5,000 for the nine months ended September
30, 2001 compared to the same period in 2000. This decrease can be explained
by the fact that the Company used contract resources in fiscal 2000 to fulfill
its obligations, whereas during 2001 Blue Zone had adequate employees to
perform services in house.

Blue Zone recorded a fixed asset impairment loss of $85,000 during the
quarter ended September 30, 2001. The Company closed the Toronto facility in
October 2001 and assigned the lease for the space to a third party subsequent
to the period end. The fixed assets located in Toronto are recorded at their
net recoverable amount.

Research and Development

Based on the anticipated success of the MediaBZ suite of software products
and contingent upon our ability to raise additional funds, Blue Zone has
invested funds to improve the existing MediaBZ products by providing features
and options requested by existing and prospective clients.

Research and development costs decreased to $129,000 in the third quarter of
fiscal 2001 from $198,000 for the same period in the prior year. Research and
development costs increased to $503,000 in the first three quarters of fiscal
2001 from $476,000 for the same period in the prior year. The changes from
the prior year can be explained by the different labor mix utilized for
research and development activities in 2001 compared to

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2000. Labor is the main component of research and development costs, and
the headcount involved in research and development activities decreased
during the third quarter of 2001 compared to the same period in the prior
year.

Blue Zone cannot provide any assurance that expenditures in research and
development will ensure our success or lead to innovations that are not
available to our competition.

Selling and Marketing

Selling and marketing costs climbed to $131,000 for the quarter ended
September 30, 2001 from $2,000 for the same period in the prior year, and
increased to $428,000 for the nine months ended September 30, 2001 from
$99,000 for the same period in 2000. The significant jump in sales and
marketing costs is directly tied to the execution of Blue Zones business
plan, as discussed above. As the Company continues to evolve into a product
and solutions focused operation, more of Blue Zones President and Chief
Executive Officers time and other resources are focused on selling and
marketing activities. In addition, Blue Zone had employees working full time
on selling and marketing activities in 2001, and not in 2000.

The Companys
sales and marketing activities during the first three quarters of fiscal 2001
were focused on securing new customers throughout North America, as well as in
Asia. The Company incurred higher costs in the areas of salaries and wages,
travel, advertising and promotions, and other related costs in 2001.

There can be no assurances that the selling and marketing expenditures
will result in secure, long-term customers or reliable revenue sources.

Depreciation

Depreciation is provided on the declining balance basis using a 30% rate for
all capital asset categories, except for leasehold improvements, which are
amortized on a straight-line basis over five years, representing the term of
the leases to which the improvements relate. Depreciation expense for the
quarter ended and nine months ended September 30, 2001 increased to $51,000
and $169,000 respectively from $50,000 and $142,000 respectively for the same
periods in the prior year, reflecting higher fixed asset balances in fiscal
2001 compared to fiscal 2000.

Income Taxes

No income taxes were payable in fiscal 2001 or 2000 year-to-date, as a result
of the operating loss recorded during those periods. Based on a number of
factors, including the lack of a history of profits, management believes that
there is sufficient uncertainty regarding the realization of deferred tax
assets, and, accordingly, has not booked an income tax benefit at September 30,
2001 or 2000. The loss incurred in the current year can be carried forward for
seven years for Canadian income tax purposes.

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Interest Income

The Company recorded interest income of $7,000 in the third quarter and
$43,000 in the first three quarters of fiscal 2001, relating to interest
earned on short-term investments (see Liquidity and Capital Resources section
below). This is a decrease of $7,000 and $59,000 over the same periods in
2000, reflecting lower average short-term investment balances in fiscal 2001.

Other Comprehensive Income

Blue Zone recorded other comprehensive loss of $100,000 during the nine months
ended September 30, 2001, compared to a loss of $147,000 during the same
period in 2000, resulting in accumulated other comprehensive loss of $299,000
at September 30, 2001, compared to $200,000 at December 31, 2000. Other
comprehensive loss relates entirely to the effect of the foreign currency
translation adjustment arising from the translation of the Companys
subsidiary financial statements from Canadian dollars into US dollars upon
consolidation. The loss increased as a result of the devaluation of the
Canadian dollar against the United States dollar during the first three
quarters of 2001. The US dollar exchange rate changed from $1.4995 at
December 31, 2000 to $1.5785 at September 30, 2001.

Liquidity and Capital Resources

The Company does not currently have an adequate source of reliable, long-term
revenue to fund operations. As a result, Blue Zone is reliant on outside
sources of capital funding. There can be no assurances that the Company will
in the future achieve a consistent and reliable revenue stream adequate to
support continued operations. In addition, there are no assurances that the
Company will be able to secure adequate sources of new capital funding, whether
it be in the form of share capital, debt, or other financing sources. The
Company currently has two customers that accounted for approximately 88% of the
revenue recorded during the nine months ended September 30, 2001.

Blue Zone had cash and cash equivalents of $548,000 and working capital of
$550,000 at September 30, 2001. This compares to cash and cash equivalents of
$1,845,000 and working capital of $1,694,000 at December 31, 2000. The Company
continued to incur costs but did not secure adequate new revenue to cover the
costs, and this contributed to an erosion of working capital during the quarter
ended September 30, 2001. Surplus cash is invested in high grade corporate
securities and guaranteed investment certificates with terms to maturity at the
date of purchase of less than three months.

During the nine months ended September 30, 2001, Blue Zone used cash of
$1,873,000 in operating activities compared to using $2,900,000 in the same
period in the prior year. The reduction in cash used for operations in 2001
demonstrates the effect of the Companys efforts to reduce operating costs in
2001.

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Blue Zone received proceeds of $15,000 from the sales of fixed assets and
purchased fixed assets with a cost of $19,000 during the nine months ended
September 30, 2001, compared to investing $563,000 in the acquisition of assets
in the same period in 2000. The higher expenditures in 2000 reflect the
Companys focus on installing the infrastructure to support growth of the
business. Such expenditures were not required in 2001, when the Company began
to sell surplus equipment.

During the quarter ended September 30, 2001, the
Company issued secured convertible debentures in the amount of $600,000. The
funds were used to fund working capital requirements. The debentures are
convertible into common stock of the Company at a conversion rate of $0.135 per
share for $300,000 of the debentures and $0.085 for the remaining debentures,
the prevailing market prices of the Companys common stock on the date of
issuance of the debentures. Half of the debentures bear interest at a rate of
8.25% per year and the other half bear interest at a rate of 8.0% per year; all
of the debentures are due in April 2003. The Company has an additional
$400,000 available under its $1 million debenture facility; drawdowns are
subject to business plans of the Company as may be approved by the Board of
Directors from time to time.

Our future capital requirements will depend on a
number of factors, including costs associated with product development efforts,
the success of the commercial introduction of our products and the possible
acquisition of complementary businesses, products and technologies. When
additional capital is required, we may sell additional equity, debt or
convertible securities or establish credit facilities. There can be no
assurances that additional capital will be available when we need it on terms
that we consider acceptable. If the Company is unable to obtain additional
capital as required, we may be required to further reduce or limit operations.

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

As of September 30, 2001, Blue Zone had not entered into or acquired financial
instruments that have material market risk. The Company has no financial
instruments for trading purposes, or derivative or other financial instruments
with off balance sheet risk. The majority of financial assets and liabilities
are due within the next twelve months and are classified as current assets or
liabilities in the consolidated balance sheet included in this report. The
market value of the convertible debentures is not materially different from
the book value because the debentures bear interest at market rates at the
date of issuance. The fair value of all other financial instruments at
September 30, 2001 is not materially different from their carrying value.

Blue Zone regularly invests funds in excess of immediate needs in guaranteed
investment certificates issued by major Canadian banks or high grade corporate
debt securities. The fair value of these instruments, which generally have a
term to maturity at the date of purchase of 90 days or less, does not differ
significantly from their face value.

To September 30, 2001, substantially all
revenues and the majority of cash costs have been realized or incurred in
Canadian dollars. To date, Blue Zone has not entered into foreign currency
contracts to hedge against foreign currency risks between the Canadian dollar
or other foreign currencies and our reporting currency, the United States
dollar. Generally, however, The Company attempts to manage our risk of exchange rate fluctuations by maintaining sufficient net assets in Canadian dollars
to retire our liabilities as they come due.

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PART II

ITEM 1. LEGAL PROCEEDINGS

The Company is not a party to any litigation.

ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS

Not applicable.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

Not applicable.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

Our Annual Meeting of Stockholders was held on July 18, 2001. The 16,559,424
shares of common stock present at the Annual Meeting out of a then total of
24,539,350 shares outstanding and entitled to vote acted as follows with
respect to the following proposals:



|1. |  | 16,516,225 votes were cast in favor of the election of Bruce Warren,
43,199 votes were cast against, holders of no shares indicated that
they abstained from voting on this matter and holders of 0 shares
represented at the meeting for other purposes indicated no response on
this item;         
|-- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|  
|2. |  | 16,516,225 votes were cast in favor of the election of F. Michael P.
Warren, 43,199 votes were cast against, holders of no shares indicated
that they abstained from voting on this matter and holders of no shares
represented at the meeting for other purposes indicated no response on
this item;



|3. |  | 16,516,225 votes were cast in favor of the election of Jaime Ollivier,
43,199 votes were cast against, holders of no shares indicated that
they abstained from voting on this matter and holders of no shares
represented at the meeting for other purposes indicated no response on
this item;
|-- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|4. |  | 16,516,225 votes were cast in favor of the election of Tryon Williams,
43,199 votes were cast against, holders of no shares indicated that they
abstained from voting on this matter and holders of no shares
represented at the meeting for other purposes indicated no response on
this item;
|-- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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|5. |  | 16,516,225 votes were cast in favor of the election of David Thomas,
43,199 votes were cast against, holders of no shares indicated that
they abstained from voting on this matter and holders of no shares
represented at the meeting for other purposes indicated no response on
this item and                                                                                                               
|-- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|  
|6. |  | 16,516,225 votes were cast in favor of the election of Jay Shecter,
43,199 votes were cast against, holders of no shares indicated that they
abstained from voting on this matter and holders of no shares represented
at the meeting for other purposes indicated no response on this item.                                                                                                                   
|  
|7. |  | 16,398,350 votes were cast in favor of the proposal authorizing the Board
of
Directors in their discretion and as they may later deem appropriate to
effect a reverse stock split, 159,859 votes were cast against, holders of
1,215 shares indicated that they abstained from voting on this matter and
holders of no shares represented at the meeting for other purposes indicated
no response on this item.
|  
|8. |  | 16,540,859 votes were cast in favor of the ratification of the
appointment of KPMG LLP as independent auditors for the 2001 fiscal year,
17,300 votes were cast against, holders of 1,265 shares indicated that
they abstained from voting on this matter and holders of no shares
represented at the meeting for other purposes indicated no response on
this item.                                           

ITEM 5. OTHER INFORMATION

None.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K



|(a)  |  | EXHIBITS                                                                                
|---- |  | ----------------------------------------------------------------------------------------
|    
|10.1 |  | Employment Agreement (amended) dated May 1, 2001 between the Company and
Bruce Warren.  
|    
|10.2 |  | Employment Agreement (amended) dated May 1, 2001 between the Company and
Jamie Ollivier.
|    
|(b)  |  | REPORTS ON FORM 8-K                                                                     

The Company filed a Current Report on Form 8-K on September 28, 2001 relating
to the operational restructuring that took place effective October 12, 2001.

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SIGNATURES

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



BLUE ZONE, INC.

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