UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION

                             WASHINGTON, D.C. 20549
--------------------------------------------------------------------------------
                                    FORM 10-Q
(Mark One)

            |X|   Quarterly Report under Section 13 or 15(d) of the
                  Securities and Exchange Act of 1934

                  For the quarterly period ended March 31, 2004

            |_|   Transition report under Section 13 or 15(d) of the
                  Exchange Act

                  For the transition period from __________ to  __________

                        Commission File Number 000-19828

                                SPATIALIGHT, INC.
             (Exact name of registrant as specified in its charter)

          New York                                        16-1363082
-------------------------------                ---------------------------------
(State or other jurisdiction of                (IRS Employer Identification No.)
 Incorporation or organization)

           Five Hamilton Landing, Suite 100, Novato, California 94949
                    (Address of principal executive offices)

                                 (415) 883-1693
                          (Issuer's telephone number)

      Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days.

Yes |X|  No |_|

      Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).

Yes |_|  No |X|

                      APPLICABLE ONLY TO CORPORATE ISSUERS:

      State the number of shares outstanding of each of the issuer's classes of
common equity, as of the latest practicable date: 34,725,374 common shares as of
May 11, 2004.


                                       1
<PAGE>

                                SPATIALIGHT, INC.

                          Quarterly Report on Form 10-Q
                      For the Quarter Ended March 31, 2004

                                Table of Contents

PART I            FINANCIAL INFORMATION

    Item 1. Consolidated Condensed Financial Statements (unaudited)

            Consolidated Condensed Balance Sheets dated
            March 31, 2004 and December 31, 2003.............................. 3

            Consolidated Condensed Statements of Operations
            for the Three months Ended March 31, 2004 and 2003................ 4

            Consolidated Condensed Statements of Stockholders' Equity
            for the Three months Ended March 31, 2004......................... 5

            Consolidated Condensed Statements of Cash Flows
            for the Three months Ended March 31, 2004 and 2003................ 6

            Notes to Consolidated Condensed Financial Statements.............. 7

    Item 2. Management's Discussion and Analysis
            of Financial Condition and Results of Operations..................11

    Item 3. Quantitative and Qualitative Disclosures About Market Risks.......25

    Item 4. Controls and Procedures...........................................25

PART II  OTHER INFORMATION

    Item 2. Changes in Securities and Use of Proceeds.........................26

    Item 6. Exhibits and Reports on Form 8-K..................................26


                                       2
<PAGE>

PART I. FINANCIAL INFORMATION

ITEM 1. CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)

SPATIALIGHT, INC.
CONSOLIDATED BALANCE SHEET

<TABLE>
<CAPTION>
                                                                          March 31,     December 31,
                                                                            2004            2003
                                                                         (unaudited)
                                                                        ------------    ------------
<S>                                                                     <C>             <C>
ASSETS

Current assets
    Cash and cash equivalents                                           $  4,435,454    $  6,359,969
    Accounts receivable                                                      370,530         117,530
    Inventory                                                                797,725         779,617
    Prepaids and other current assets, including prepaid interest
      to related party of $600,047                                           958,023         353,087
                                                                        ------------    ------------
              Total current assets                                         6,561,732       7,610,203
Property and equipment, net                                                  605,561         638,430
Other assets, including prepaid interest to related party of $600,047        450,374         101,063
                                                                        ------------    ------------
                 Total assets                                           $  7,617,667    $  8,349,696
                                                                        ============    ============

LIABILITIES AND STOCKHOLDERS' EQUITY

Current liabilities
    Accounts payable                                                    $    630,440    $    863,284
    Accrued expenses and other current liabilities                           453,039         518,137
                                                                        ------------    ------------
           Total current liabilities                                       1,083,479       1,381,421
Noncurrent liabilities
    Convertible notes                                                      1,160,500       1,155,000
                                                                        ------------    ------------
                 Total liabilities                                         2,243,979       2,536,421
                                                                        ------------    ------------
Commitments
Stockholders' equity:
    Common shares, $.01 par value:
       50,000,000 shares authorized;
       34,423,417 and 33,229,191 shares issued and outstanding
       at March 31, 2004 and December 31, 2003                               344,234         332,292
Additional paid-in capital                                                66,359,676      61,046,425
Notes receivable                                                          (1,110,128)     (1,096,926)
Common shares issuable                                                            --       3,805,685
Accumulated deficit                                                      (60,220,094)    (58,274,201)
                                                                        ------------    ------------
           Total stockholders' equity                                      5,373,688       5,813,275
                                                                        ------------    ------------
Total liabilities and stockholders' equity                              $  7,617,667    $  8,349,696
                                                                        ============    ============
</TABLE>

See accompanying notes to financial statements


                                       3
<PAGE>

SPATIALIGHT, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)

<TABLE>
<CAPTION>
                                                                   Three months ended March 31,
                                                                   ----------------------------
                                                                        2004            2003
                                                                   ------------    ------------
<S>                                                                <C>             <C>
Sales                                                              $    319,100    $         --
Cost of goods sold                                                     (346,682)             --
                                                                   ------------    ------------
           Gross margin                                                 (27,582)             --
Selling, general and administrative expenses:
           Selling, general and administrative expenses               1,005,144         457,662
           Stock-based compensation                                      42,924         173,753
                                                                   ------------    ------------
              Total selling, general and administrative expenses      1,048,068         631,415
           Research and development expenses                            681,760         724,597
              Total operating expenses                                1,729,828       1,356,012
                                                                   ------------    ------------
              Operating loss                                         (1,757,410)     (1,356,012)
                                                                   ------------    ------------
Other income (expenses):
       Interest expense:

              Interest expense                                          (17,820)        (70,950)
              Non-cash interest expense                                (187,696)       (136,165)
                                                                   ------------    ------------
                 Total interest expense                                (205,516)       (207,115)
           Interest and other income                                     17,833          19,388
                                                                   ------------    ------------
              Total other expenses                                     (187,683)       (187,727)
                                                                   ------------    ------------
           Loss before income tax expense                            (1,945,093)     (1,543,739)
Income tax expense                                                          800             800
                                                                   ------------    ------------
Net loss                                                           $ (1,945,893)   $ (1,544,539)
                                                                   ============    ============

Net loss per share - basic and diluted                             $      (0.06)   $      (0.06)
                                                                   ============    ============
Weighted average shares used in computing
    net loss per share- basic and diluted                            32,760,703      25,538,382
                                                                   ============    ============
</TABLE>

See accompanying notes to financial statements


                                       4
<PAGE>

SPATIALIGHT, INC.
THREE MONTHS ENDED MARCH 31, 2004

<TABLE>
<CAPTION>
                                       COMMON SHARES          ADDITIONAL                                    COMMON        TOTAL
                                   ------------------------     PAID-IN        NOTES       ACCUMULATED      SHARES     STOCKHOLDERS'
                                     SHARES       AMOUNT       CAPITAL       RECEIVABLE      DEFICIT       ISSUABLE      EQUITY
                                   -----------  -----------  ------------   ------------  -------------   -----------  -----------
<S>                                 <C>         <C>          <C>            <C>           <C>             <C>          <C>
Balance at January 1, 2004          33,229,191  $   332,292  $ 61,046,425   $ (1,096,926) $ (58,274,201)  $ 3,805,685  $ 5,813,275

Exercise of stock options
  and warrants                         160,108        1,601       336,609                                                  338,210

Accrued interest on notes
  receivable from stockholder                                                    (13,202)            --            --      (13,202)

Issuance of options to
  employees and directors                                          42,924                                                   42,924

Issuance of stock for prepayment
  of related party interest            214,036        2,140     1,136,234             --             --            --    1,138,374

Issuance of common shares issuable     820,082        8,201     3,797,484                                  (3,805,685)          --

Net loss                                                                                     (1,945,893)                (1,945,893)
                                   -----------  -----------  ------------   ------------  -------------   -----------  -----------
                                    34,423,417  $   344,234  $ 66,359,676   ($ 1,110,128) $ (60,220,094)  $        --  $ 5,373,688
                                   ===========  ===========  ============   ============  =============   ===========  ===========
</TABLE>

See accompanying notes financial statements


                                       5
<PAGE>

SPATIALIGHT, INC.
CONSOLIDATED STATEMENTS OF CASH FLOW (unaudited)

<TABLE>
<CAPTION>
                                                                            Three months ended March 31,
                                                                            ----------------------------
Cash flows from operating activities:                                             2004          2003
                                                                             -----------   -----------
<S>                                                                          <C>           <C>
Net loss                                                                     $(1,945,893)  $(1,544,539)
Adjustments to reconcile net loss to net cash used in operating activities:
    Depreciation and amortization                                                130,596        68,843
    Stock-based compensation                                                      42,924       173,753
    Non-cash interest expense                                                    187,696       136,165
    Accrued interest on note receivable from shareholder                         (13,202)      (19,388)
    Changes in operating assets and liabilities:
       Accounts receivable                                                      (253,000)           --
       Inventories                                                               (18,108)     (499,870)
       Prepaid and other current assets                                           12,931       (51,765)
       Other assets                                                              (11,000)       (1,544)
       Accounts payable                                                         (232,844)      406,938
       Accrued expenses and other current liabilities                            (65,098)      123,016
                                                                             -----------   -----------
              Net cash used in operating activities                           (2,164,998)   (1,208,391)
                                                                             -----------   -----------
Cash flows from investing activities:
    Purchase of property and equipment                                           (97,727)       (7,166)
                                                                             -----------   -----------
              Net cash used in investing activities                              (97,727)       (7,166)
                                                                             -----------   -----------
Cash flows from financing actitivies:

    Proceeds from issuance of short term notes                                        --       195,000
    Proceeds from the issuance of short term convertible notes                        --       400,000
    Payments on notes receivable from shareholders                                    --        52,500
    Proceeds from exercise of warrants and options                               338,210         3,125
                                                                             -----------   -----------
           Net cash provided by financing activities                             338,210       650,625
                                                                             -----------   -----------
Net decrease in cash                                                          (1,924,515)     (564,932)

Cash and cash equivalents at beginning of period                               6,359,969       575,663
                                                                             -----------   -----------
Cash and cash equivalents at end of period                                   $ 4,435,454   $    10,731
                                                                             ===========   ===========
Supplemental disclosure of cash flow information:
    Income taxes paid during the period                                      $       800   $       800
                                                                             -----------   -----------
Non cash financing activities:
    Common shares issued upon conversion of notes and prepaid interest       $ 1,138,374   $   354,477
                                                                             -----------   -----------
</TABLE>

See accompanying notes to financial statements.


                                       6
<PAGE>

                                SPATIALIGHT, INC.
        Notes to Consolidated Condensed Financial Statements (Unaudited)

NOTE 1. BUSINESS DESCRIPTION

SpatiaLight, Inc. (SpatiaLight or the Company) is in the business of
manufacturing high-resolution liquid crystal on silicon (LCoS) microdisplays for
applications such as high definition television, computer monitors, video
projectors and other applications. To date, SpatiaLight has received purchase
orders for its microdisplay products from seven Chinese original equipment
manufacturers (OEMs) and has made product shipments to six of such customers.
The Company is currently negotiating the terms of purchase orders for its
products with certain other prospective customers, primarily in China and South
Korea. There are significant open issues with respect to these prospective
purchase orders that have to be finally negotiated, including prices and
quantities of the Company's products. The Company cannot assure whether it will
receive any purchase orders binding on any of these companies for their purchase
of the Company's microdisplay products in the near future. Fuji Photo Optical
Co., Ltd. (Fuji) is SpatiaLight's current manufacturer of light engines being
used with the Company's microdisplay products to be sold to current and
prospective customers.

NOTE 2. BASIS OF PRESENTATION

The accompanying unaudited consolidated condensed financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q of Item 303 of
Regulation S-K. Accordingly they do not include all of the information and
footnotes necessary for a fair presentation of financial condition, results of
operations and cash flows in conformity with accounting principles generally
accepted in the United States of America. In the opinion of management of
SpatiaLight, the interim consolidated condensed financial statements included
herewith contain all adjustments (consisting of normal recurring accruals and
adjustments) necessary for their fair presentation. The unaudited interim
consolidated condensed financial statements should be read in conjunction with
the Company's Annual Report on Form 10-K, which contains the audited
consolidated financial statements and notes thereto, together with the
Management's Discussion and Analysis, for the year ended December 31, 2003. The
interim results for the period ended March 31, 2004 are not necessarily
indicative of results for the full fiscal year.

Certain prior period amounts have been reclassified in order to conform to
current period presentation.

NOTE 3. LIQUIDITY AND CAPITAL RESOURCES

As of March 31, 2004, the Company had net equity of approximately $5,374,000 and
net working capital of approximately $5,480,000. The Company expects to meet its
cash needs with existing cash balances, collections of notes receivable from
shareholders of approximately $1,100,000, and from the exercise of warrants held
by existing investors. In addition, the Company expects to fund working capital
requirements with payments received from its customers in connection with signed
purchase orders, and by considering opportunities to obtain debt financing.
There can be no assurances that SpatiaLight will be able to obtain such debt
financing or that existing investors will exercise their warrants.


                                       7
<PAGE>

NOTE 4. PER SHARE INFORMATION

Basic loss per common share excludes dilution and is computed by dividing net
loss by the weighted average number of common shares outstanding for the period.
Excluded from weighted average shares outstanding for the three months ended
March 31, 2004 are 1,346,268 common shares issued but held in escrow in
connection with the private stock purchase agreement and warrant installment
note. Diluted loss per common share reflects the potential dilution that could
occur if securities or other contracts to issue common shares were exercised or
converted into common shares. Excluded from the computation of diluted loss per
share for the three months ended March 31, 2004 and 2003 respectively, are
options and warrants to acquire 6,342,183 and 4,502,083 common shares, and
2,376,000 and 3,577,584 common share equivalents in each period relating to
convertible secured notes, because the effect of their assumed exercise would be
antidilutive. The weighted average exercise price as of March 31, 2004 for the
options and warrants is $3.58 and $2.92, respectively; the weighted average
conversion price for the common share equivalents related to convertible notes
is $0.50.

NOTE 5. NOTES PAYABLE

Convertible notes at March 31, 2004 consist of the following:

Argyle Notes:

In 1998, the Company received $1,188,000 in cash in exchange for notes issued in
that amount to Argyle Capital Management Corporation (Argyle), a company owned
and controlled by Robert A. Olins, Chief Executive Officer, Secretary,
Treasurer, and a director of the Company. The notes accrue interest at a
contractual rate of 6% per annum, and are secured by substantially all the
assets of the Company. Both principal and interest are convertible into the
Company's common shares at $0.50 per share. On May 23, 2001, the due date of the
notes was extended until December 31, 2002. On the extension date, the
beneficial conversion effect representing the excess aggregate value of the
common shares receivable upon conversion of the notes based on the then current
market price of $1.90 per share, over the aggregate conversion price for such
common shares (limited to the original proceeds of $1,188,000), was recorded as
additional paid-in capital. The resulting $1,188,000 discount to the debt
arising from the beneficial conversion feature was originally being amortized
through December 31, 2002. The notes were extended in September 2002 to March
31, 2004, and on December 31, 2003 were extended until June 30, 2005. At each
extension date, the amortization rate of the remaining unamortized discount was
also extended over the new life of the notes. The effective interest rate for
financial statement purposes due to this discount differs from the actual
contractual interest received or receivable in cash or shares by Argyle. The
current amortization rate of the discount, along with the contractual 6%
interest rate, resulted in a new effective interest rate of 8% per annum as of
the December 31, 2003 extension date when compared to the outstanding principal
balances.

On January 7, 2004, the Company issued 142,360 common shares for the prepayment
of interest of $800,063 for the year ended December 31, 2004. Interest was
computed using the closing price of the common shares on January 6, 2004 of
$5.62, and is being amortized through December 31, 2004. For the three months
ended March 31, 2004, additional non-cash interest expense of approximately
$182,000 was recorded due to the beneficial conversion feature of the prepaid
interest, representing the excess value of the common shares received upon
prepayment of the interest. In addition, on March 4, 2004, the Company issued
71,676 common shares upon prepayment of interest of $338,311 for the six months
ended June 30, 2005. Prepaid interest included in this issuance was computed
using the closing


                                       8
<PAGE>

price of the common shares on March 3, 2004 of $4.72, and is not currently being
amortized. At March 31, 2004, the carrying value of the Argyle notes total
$1,160,500, which includes the $1,188,000 principal balance net of unamortized
discounts of $27,500. See also Note 6.

Activity in notes payable for the three months ended March 31, 2004 follows:

<TABLE>
<CAPTION>
                        BALANCE AT                 (PAYMENT) OR                 BALANCE AT
                        DECEMBER 31,  ADDITION OR    DISCOUNT     CONVERSION     MARCH 31,
DEBT PRINCIPAL:            2003      NEW DISCOUNT  AMORTIZATION   TO EQUITY        2004
                       -----------     --------      ------      ---------     -----------
<S>                    <C>             <C>           <C>         <C>           <C>
Argyle                 $ 1,188,000     $     --      $   --      $      --     $ 1,188,000
Argyle discount            (33,000)          --       5,500             --         (27,500)
                       -----------     --------      ------      ---------     -----------
Total                    1,155,000           --       5,500             --       1,160,500
                       -----------     --------      ------      ---------     -----------
INTEREST:
Accrued Argyle 6%               --       17,820          --        (17,820)             --
Beneficial interest             --      182,196          --       (182,196)             --
                       -----------     --------      ------      ---------     -----------
Total                           --      200,016          --       (200,016)             --
                       -----------     --------      ------      ---------     -----------
TOTAL                  $ 1,155,000     $200,016      $5,500      $(200,016)    $ 1,160,500
                       ===========     ========      ======      =========     ===========
</TABLE>

Non-cash interest expense discussed above is as follows:

                                                    Three months ended March 31,
                                                    ----------------------------
                                                         2004          2003
                                                       --------      --------
Amortization of Alabama group discount                 $     --      $ 32,366
Amortization of Argyle Capital discount                   5,500        33,000
Effect of beneficial conversion priviledges
    on accrued interest                                 182,196        70,799
                                                       --------      --------
                                                       $187,696      $136,165
                                                       ========      ========

NOTE 6. ISSUANCE OF SECURITIES

Exercise of Stock Options and Warrants in the three months ended March 31, 2004

During the first three months of 2004, 34,500 and 125,608 common shares were
issued upon the exercise of employee stock options and warrants, respectively.
Total cash received was $338,210.

Issuance of Shares and Stock Options in the three months ended March 31, 2004

In December 2003, the Company completed a private placement of 1,000,000 common
shares that were registered with the SEC in a "Shelf" Registration Statement at
a price of $5.00 per share for net proceeds of $4,955,255 received in December
2003. 300,000 of these shares were issued prior to December 31, 2003. The
remaining 700,000 shares were reflected in common shares issuable at December
31, 2003 and were issued in January 2004. In addition, 120,082 shares were
issued pursuant to a warrant exercised in 2003. The proceeds of approximately
306,000 had been received and were included in common shares issuable as of
December 31, 2003.


                                       9
<PAGE>

Other expenses in the three months ended March 31, 2004 related to the valuation
of options granted to directors for additional services and employee options
issued with an exercise price lower than the market price totaled $42,924 and
are included in stock-based compensation.

Installment Notes

In November 2002, a warrant to purchase 746,268 common shares was exercised at
$2.00 under a warrant installment agreement totaling $1,492,536. Payments of
$200,000 were made in 2002. An additional $402,500 was received in 2003.
Interest accrues at 6% per annum and is due with the final payment. As of March
31, 2004, approximately $92,600 of accrued interest has been recorded, including
interest of approximately $79,400 in 2003 and 2002. The shares were issued in
2003, but are held in escrow by the Company pending receipt of the remaining
balance of $982,628.

On May 15, 2001, the Company sold 600,000 common shares under a private stock
purchase agreement. The shares were sold at a price of $1.75 per share. Cash
received was $262,500. The balance of $787,500 was to be paid in three equal
quarterly installments of $262,500. An escrow agent is holding the certificates
for the shares being purchased until all three installments have been paid in
full. At March 31, 2004 the remaining balance is $127,500.

Stock-based compensation discussed above is as follows:

<TABLE>
<CAPTION>
                                                                Three months ended March 31,
                                                                ----------------------------
                                                                     2004        2003
                                                                  --------    --------
<S>                                                               <C>         <C>
Common shares and options granted to employees and directors      $ 42,924    $ 12,285
Common shares and warrants expensed for services                        --     161,468
                                                                  --------    --------
                                                                  $ 42,924    $173,753
                                                                  ========    ========
</TABLE>

NOTE 7. SEGMENT INFORMATION

The Company's chief operating decision-maker, the Chief Executive Officer,
reviews the Company's financial information as a single "operating segment" to
make decisions about the Company's performance and resource allocation.
Therefore the Company has determined that it operates in a single business
segment.

NOTE 8. STOCK-BASED COMPENSATION

The Company accounts for its stock-based compensation arrangements for employees
and directors using the intrinsic value method pursuant to Accounting Principles
Board Opinion (APB) No. 25, "Accounting for Stock Issued to Employees," As such,
compensation expense is recorded when, on the date of grant, the fair value of
the underlying common shares exceeds the exercise price for stock options or the
purchase price for issuances or sales of common shares. Pursuant to Statement of
Financial Accounting Standard (SFAS) No. 123 "Accounting for Stock-Based
Compensation," the Company discloses the proforma effects of using the fair
value method of accounting for stock-based compensation arrangements and records
compensation expense for the fair value of options granted to non-employees.


                                       10
<PAGE>

If the Company had elected the fair value method of accounting for stock-based
compensation, compensation cost would be accrued at the estimated fair value of
stock option grants over the service period, regardless of later changes in
stock prices and price volatility.

The table below show net loss per share for the three months ended March 31,
2004 and 2003 as if the Company had elected the fair value method of accounting
for stock options.

<TABLE>
<CAPTION>
                                                                        2004            2003
                                                                    -----------     -----------
<S>                                                                 <C>             <C>
Net loss as reported                                                $(1,945,893)    $(1,544,539)
Add: stock-based employee compensation included in
    reported net loss, net of any applicable related tax effects
Deduct: total stock-based employee compensation                          42,924          12,285
    determined under fair value method for all awards,
    net of any applicable related tax effects                          (745,785)       (364,667)
                                                                    -----------     -----------
Proforma net loss, as adjusted                                      $(2,648,754)    $(1,896,921)
                                                                    ===========     ===========
Loss per share:

Basic and diluted, as reported                                      $     (0.06)    $     (0.06)
Basic and diluted, as adjusted                                      $     (0.08)    $     (0.07)
</TABLE>

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

This Form 10-Q contains certain forward-looking statements within the meaning of
Section 21E of the Securities and Exchange Act of 1934, as amended, which
statements are subject to the Safe Harbor provisions created by that statute. In
this report, the words "anticipates," "believes," "expects," "future,"
"intends," and similar expressions identify forward-looking statements. Such
statements are subject to certain risks and uncertainties, including, but not
limited to, those discussed herein, those contained in this Item, 2 and those
discussed in the Company's Annual Report on Form 10-K as filed with the
Securities and Exchange Commission on March 30, 2004. Readers are cautioned not
to place undue reliance on these forward-looking statements, which speak only as
of the date hereof. The Company undertakes no obligation to publicly release the
results of any revisions to these forward-looking statements that may be needed
to reflect events or circumstances after the date hereof or to reflect the
occurrence of unanticipated events.

The following is a discussion and analysis of the consolidated condensed
financial condition of the Company as of March 31, 2004, and the results of
operations for the Company for the three months ended March 31, 2004 and 2003.
The following should be read in conjunction with the unaudited consolidated
condensed financial statements and related notes appearing elsewhere herein.

OVERVIEW

We are in the business of manufacturing liquid crystal on silicon (LCoS)
microdisplays that provide high resolution images suitable for applications
including high definition television, rear projection computer monitors and
video projectors, and potential applications such as those used in wireless
communication devices, portable games and digital assistants. Our microdisplays
are designed for use in end products of original equipment manufacturers, and
therefore we work closely with customers and


                                       11
<PAGE>

prospective customers to incorporate our microdisplays into their final
products. We lease clean room space where we currently manufacture our
SpatiaLight imagEngine(TM) microdisplays. In January 2004, we leased an
additional clean room at the same location as the existing clean room to address
current and anticipated increased manufacturing demand. We believe these
facilities are suitable to meet our current and immediate future needs. We also
believe that these current arrangements provide us with strong quality controls
and effectively protect our proprietary technology in our products. We have
enhanced quality control and we have more effective protection of our
proprietary technology in our products. Internal manufacturing is subject to
certain risks described under "Business Risks and Uncertainties." We have
patents covering parts of our designs; however, the key designs of the circuitry
in the silicon, drive electronics and liquid crystal assembly techniques are
proprietary and not covered by patents.

From 2001 through 2003, we entered into agreements or memoranda of understanding
with original equipment manufacturers (OEMs) in China and the Republic of South
Korea contemplating the purchase by these prospective customers of our display
units and/or SpatiaLight imagEngine(TM) microdisplays for use in certain of
their products. All of these agreements generally require that we supply
prototypes of our display units and/or SpatiaLight imagEngine(TM) microdisplays
and that they meet technical criteria satisfactory to each of such prospective
customers.

In late January 2003, we announced that we signed a purchase order agreement
with Skyworth Display, one of the Chinese OEMs with which we had an agreement to
test prototypes of our microdisplay products, for the purchase by Skyworth of
14,100 SpatiaLight display units during a one year delivery period. The purchase
order originally provided for 200 units to be delivered in each of February,
March and April 2003. Skyworth and we subsequently agreed to delay the delivery
schedule. In 2003, we completed shipment of 100 of the 200 units originally
scheduled for delivery in the first month and in the first quarter of 2004 we
completed shipment of an additional 100 units. Skyworth advised us in late 2003
that it has decided to change the target market for its LCoS televisions that it
intends to manufacture using our display units from the educational market to
the consumer market. That shift in market strategy has caused Skyworth to make
certain changes to its LCoS television design, including a change to the screen
size format. As a result, Skyworth has advised us that it made necessary changes
to certain of its internally developed electronics components. We expect to
continue shipping display units to Skyworth in the second quarter of 2004.
According to the terms of the purchase order, following the initial delivery
provisions of 200 units per month for the first three months, which have been
subject to the delays discussed above, we are scheduled to deliver 1,500 units
per month until the order is completed. The purchase order is cancelable by
Skyworth on a quarterly basis and is subject to pricing contingencies and other
customary terms and conditions.

In September 2003, we announced that we signed a purchase order agreement with
China Electronics Corporation (CEC), another of the Chinese OEMs with which we
had an agreement to test prototypes of our microdisplay products, for the
purchase by CEC of 2,000 display units from us. The agreement provides for an
initial delivery of ten display units, which was completed in September 2003,
and a second delivery of 100 units, which was completed in March 2004.
Additional shipments will be made periodically according to a schedule to be
determined by CEC and us. The purchase order is cancelable by CEC after delivery
of 110 units and is subject to other customary terms and conditions.

In October 2003, we announced that we had signed a purchase order agreement with
Nanjing Panda Electronics Co. (Panda), a third Chinese OEM with which we had an
agreement to test prototypes of our microdisplay products, for the purchase of
2,610 display units by Panda. The agreement provides for an initial television
box integration phase, which was completed in late 2003. The agreement then
provides for delivery of ten display units to Panda, which we completed in
March. Panda is currently conducting


                                       12
<PAGE>

system integration phase testing with the units that we delivered. A delivery of
100 display units is scheduled to follow such testing. Subsequent shipments
under the purchase order will be made periodically according to a schedule to be
determined by the parties. Pursuant to the terms of the purchase order, the
future obligations of Panda will be backed by letters of credit in our favor.
The purchase order is cancelable by Panda after delivery of ten display units
and is subject to other customary terms and conditions.

In December 2003, we entered into a purchase order agreement with SCT Optronics
Company Ltd. (SCT), a Chinese OEM, for the purchase of 2,020 display units. The
initial shipment of ten display units provided for under the agreement was
completed in December 2003. Future shipments are scheduled to be made
periodically according to a schedule to be finally determined by SCT and us. The
purchase order is cancelable by SCT after delivery of ten display units and is
subject to other customary terms and conditions.

In December 2003, we entered into a purchase order agreement with Shanghai China
Display Co., Ltd. (China Display), another Chinese OEM with which we had an
agreement to test prototypes of our microdisplay products. The agreement
provides for the purchase by China Display of 1,000 sets of three SpatiaLight
imagEngine(TM) microdisplays. Pursuant to the purchase order, we completed an
initial delivery of 100 microdisplay sets to China Display in December 2003. We
completed a second delivery of 100 microdisplay sets in March 2004. We expect to
continue shipping microdisplay sets to China Display in the second quarter
according to a revised delivery schedule. Pursuant to the terms of the purchase
order, the obligations of China Display are and will be backed by three letters
of credit, the first of which was issued and paid to us. The purchase order is
not cancelable by China Display, according to the terms of the purchase order,
because the first 100 delivered microdisplay sets met China Display's
specifications. The purchase order is subject to other customary terms and
conditions.

In December 2003, we entered into a purchase order agreement with Global Display
Limited, a Chinese OEM, for the purchase of 2000 display units from SpatiaLight.
We completed an initial delivery of 20 display units in March 2004. Future
shipments are scheduled to be made periodically according to a schedule to be
finally determined by the parties. The purchase order is cancelable by Global
Display after the initial delivery of display units provided for under the
agreement and is subject to other customary terms and conditions.

In March 2004, we entered into a purchase order agreement with SVA Information
Industry Co., Ltd. (SVA), another Chinese OEM with which we had an agreement to
test prototypes of our microdisplay products, for the purchase of 2,205 display
units by SVA. The purchase order provides for initial integration, certification
and product introduction phases followed by deliveries of display units for
commercial sale purposes. We expect to make an initial shipment of display units
to SVA in the second quarter of 2004. Pursuant to the terms of the purchase
order, the obligations of SVA will be backed by letters of credit in our favor.
The purchase order is cancelable by SVA and is subject to other customary terms
and conditions.

We are also currently negotiating the terms of purchase orders for our products
with certain other prospective customers, primarily in China and South Korea,
some of whom are parties to the agreements or memoranda of understanding
described in this Item 2. One of these parties is a large electronics
manufacturer in South Korea that we signed a development agreement with
contemplating the purchase of sets of SpatiaLight imagEngine(TM) microdisplays.
With respect to prospective purchase orders, there are significant open issues
that have to be finally negotiated, including prices and quantities of our
products. We cannot assure whether we will receive any purchase orders binding
on any of these companies for their purchase of our microdisplay products in the
near future. Even assuming that we


                                       13
<PAGE>

receive purchase orders that are binding on the prospective customers, these
orders and our sales to these customers are subject to certain contingencies
described under "Business Risks and Uncertainties" in this Item 2.

LIQUIDITY AND CAPITAL RESOURCES

As of March 31, 2004, we had approximately $4,440,000 in cash and cash
equivalents, a decrease of approximately $1,920,000 from the December 31, 2003
amount of $6,360,000. Our net working capital at March 31, 2004 was
approximately $5,480,000 compared to net working capital of approximately
$6,229,000 at December 31, 2003. This change is due to the use of cash to pay
down current liabilities and to fund operating expenses, offset primarily by
increases in non-cash prepaid expenses.

Net cash used in operating activities totaled approximately $2,160,000 and
$1,200,000 for the three months ended March 31, 2004 and 2003, respectively.
Cash was used primarily to fund the operating loss and reduce accounts payable.

Net cash provided by financing activities in the three months ended March 31,
2004 was approximately $340,000 as compared to approximately $650,000 for the
three months ended March 31, 2003. In the first quarter of 2004, cash was
provided primarily from exercise of options and warrants, and in the first
quarter of 2003, cash was provided primarily from the issuance of short term
notes.

We expect to meet our cash needs with our existing cash balances and collections
from notes receivable from shareholders of approximately $1,100,000 and from the
exercise of warrants held by existing investors. In addition, we expect to fund
working capital requirements with payments received from our customers in
connection with current purchase orders and by considering opportunities to
obtain debt financing. There can be no assurances that we will be able to obtain
such debt financing or that existing investors will exercise their warrants.

RESULTS OF OPERATIONS

Revenues. The Company recognized revenues of $319,100 for the three months ended
March 31, 2004. Revenues were related to shipments against purchase orders
signed in 2003. No revenues were recognized in the three months ended March 31,
2003.

Cost of goods sold. Cost of goods sold was $346,682 and $0 in the three months
ended March 31, 2004 and 2003, respectively. Cost of goods sold consists of
product costs of $300,740, an inventory write-down of $17,942 resulting from a
physical count as we moved from preproduction to production and a lower of cost
or market adjustment of $28,000, as our inventory components were at a cost
higher than we expect to incur for future purchases.

Selling, general and administrative costs. Selling, general and administrative
costs were approximately $1,005,000 and $460,000 in the three months ended March
31, 2004 and 2003, respectively, and include professional services, salaries and
related taxes and benefits, rent, depreciation, travel, insurance and office
expenses. Salaries and related taxes and benefits increased approximately
$491,000 as a result of the reassignment of employees from research and
development to general and administrative and the increase in the number of
administrative staff, which was due to the transition toward commercial
manufacturing of our microdisplay products and the hiring of an outside sales
group. In addition, travel and lodging expenses increased by approximately
$55,000 due to increase in travel to Asia in the three


                                       14
<PAGE>

months ended March 31, 2004, related to work performed in connection with
purchase order agreements entered into during 2003 and other business
development matters.

Stock-based compensation. Stock-based compensation was approximately $43,000 in
the three months ended March 31, 2004, and approximately $174,000 in the three
months ended March 31, 2003. The amounts incurred relate to common shares, stock
options, and warrants issued in exchange for services. The decrease relates
primarily to expenses incurred in 2003 associated with warrants issued for
services, which had no comparable expense in 2004.

Research and development costs. Research and development costs were
approximately $681,000 and $725,000 in the three months ended March 31, 2004 and
2003. Salaries and related benefits decreased approximately $426,000 due to the
reclassification of employees from research and development to general and
administrative. Other research and development expenses increased approximately
$360,000 due to an increase in consulting services as well as costs associated
with continued development of our current technology.

Interest expense. Interest expense for the three months ended March 31, 2004
decreased approximately $53,000 from the same period in 2003 due to the
conversion of $2,975,000 of convertible notes in November 2003.

Non-cash interest expense. Non-cash interest expense was approximately $188,000
and $136,000 for the three months ended March 31, 2004 and 2003, respectively.
Non-cash interest expense relates to the beneficial price of shares issued to
prepay interest on the notes payable to Argyle Capital Management Corporation, a
company wholly owned by Robert A. Olins, Chief Executive Officer and a director
of the Company. The beneficial conversion interest represents the excess value
of the shares received or receivable at current market prices over the $0.50 per
share conversion price. Interest expense related to the beneficial conversion
feature increased approximately $112,000 due to the increase in the price of our
common shares from 2003 to 2004.

Interest income. Interest income for the three months ended March 31, 2004 and
2003 was approximately $17,800 and $19,400, respectively and consists of bank
interest and interest earned on an installment note from a shareholder.

Critical Accounting Policies and Estimates

Management's discussion and analysis of our results of operations and liquidity
and capital resources are based on our consolidated condensed financial
statements. To prepare our consolidated condensed financial statements in
accordance with accounting principles generally accepted in the United States of
America ("GAAP"), we must make estimates and assumptions that affect the amounts
reported in the consolidated condensed financial statements. We regularly
evaluate these estimates and assumptions, particularly in critical accounting
areas, where changes in the estimates and assumptions could have a material
impact on our results of operations, financial position and, generally to a
lesser extent, cash flows. These critical accounting policies and estimates,
their related disclosures and other accounting policies, methods and estimates
have been reviewed by our senior management and audit committee.

Revenue Recognition - We enter into commercial transactions to sell our
products. We evaluate revenue recognition for these transactions using the
following criteria (collectively called the Revenue Recognition Criteria):


                                       15
<PAGE>

      o     Evidence of an arrangement: Before revenue is recognized, we must
            have evidence of an agreement with the customer reflecting the terms
            and conditions to deliver our products.
      o     Delivery: For products, delivery is considered to occur when title
            and risk of loss have been transferred.
      o     Fixed or determinable fee: We consider a fee to be fixed or
            determinable if the fee is not subject to refund or adjustment. If a
            portion of the arrangement fee is not fixed or determinable, we
            recognize that amount as revenue when the amount becomes fixed or
            determinable. We do not consider a fee to be fixed and determinable
            if any amount is due more than 180 days from the delivery date.
            Payment terms of less than 180 days are evaluated based upon the
            country in which the arrangement is entered into to assess whether
            the fee is fixed and determinable.
      o     Collection is deemed reasonably assured: Collection is deemed
            reasonably assured if we expect the customer to be able to pay
            amounts under the arrangement as those amounts become due. If we
            determine that collection is not probable, we recognize revenue when
            collection becomes reasonably assured (generally upon cash
            collection).

Inventory valuation - We value inventories at the lower of cost (based on the
first-in, first-out method) or market value. We include materials, labor and
manufacturing overhead in the cost of inventories. In determining inventory
market values, we give substantial consideration to the expected selling price
of the product based on historical recovery rates. If we assess the market value
of our inventory to be less than cost given current prices and future sales
commitments we write it down to its replacement cost or net realizable value.
Our estimates may differ from actual results due to the quantity and quality and
mix of products in inventory, consumer and retailer preferences and economic
conditions.

Research and Development - Our research and development costs are charged to
expense when incurred.

Income tax assets and liabilities - In establishing our deferred income tax
assets and liabilities, we make judgments and interpretations based on the
enacted tax laws and published tax guidance that are applicable to our
operations. We record deferred tax assets and liabilities and evaluate the need
for valuation allowances to reduce the deferred tax assets to realizable
amounts. The likelihood of a material change in our expected realization of
these assets is dependent on future taxable income, our ability to use foreign
tax credit carryforwards and carrybacks, final U.S. and foreign tax settlements,
and the effectiveness of our tax planning strategies in the various relevant
jurisdictions. Due to our lack of profitable operating history, potential
limitations on usage of operating losses and general uncertainty, we provided
for a 100% valuation allowance against our deferred tax assets. We are also
subject to examination of our income tax returns for multiple years by the
Internal Revenue Service and other tax authorities. We periodically assess the
likelihood of adverse outcomes resulting from these examinations to determine
the adequacy of our provision for income taxes. Changes to our income tax
provision or the valuation of the deferred tax assets and liabilities may affect
our annual effective income tax rate.


                                       16
<PAGE>

BUSINESS RISKS AND UNCERTAINTIES

WE HAVE A HISTORY OF LOSSES AND MAY INCUR LOSSES IN THE FUTURE AND THEREFORE
CANNOT ASSURE YOU THAT WE WILL ACHIEVE PROFITABILITY.

We have incurred losses to date and have experienced cash shortages. For the
three months ended March 31, 2004 and 2003, we incurred net losses of
approximately $1,900,000 and $1,500,000, respectively. In addition, we had an
accumulated deficit of $60,220,094 as of March 31, 2004. We expect additional
losses as we continue spending for production and other business activities as
well as further research and development of our products. As a result, we will
need to generate substantial sales to support our costs of doing business before
we can begin to recoup our operating losses and accumulated deficit and achieve
profitability.

IF WE ARE UNABLE TO OBTAIN FURTHER FINANCING OR GENERATE REQUIRED WORKING
CAPITAL, OUR ABILITY TO OPERATE COULD SUFFER OR CEASE.

Our operations to date have consumed substantial amounts of cash and will
continue to require substantial amounts of capital in the future. In order to
remain competitive, we must continue to make significant investments essential
to our ability to operate profitably, including investments in further research
and development, equipment, facilities and production activities. Although our
financial condition and liquidity have been assisted through the exercises of
warrants and public and private purchases of our common shares, including the
approximately $12.5 million raised by us in 2003 equity financings and $850,000
raised through exercises of stock options and warrants, we may still require
additional financing to satisfy our increasing working capital requirements.
Reliance for financing upon exercise of warrants, private equity purchase
agreements and public offerings entails the additional risks of non-exercise of
such warrants because of the prevailing market prices of our underlying Common
shares, default by purchasers under these agreements or inability to sell
publicly registered shares. In the event that we are unable to obtain further
financing, if any, on satisfactory terms, or we are unable to generate sales
sufficient to offset our costs, or if our costs of development and operations
are greater than we anticipate, we may be unable to grow our business at the
rate desired or may be required to delay, reduce, or cease certain of our
operations, any of which could materially harm our business and financial
results.

WE ARE SUBJECT TO LENGTHY DEVELOPMENT PERIODS AND PRODUCT ACCEPTANCE CYCLES,
WHICH MAY SIGNIFICANTLY HARM OUR BUSINESS.

Our business model requires us to develop microdisplays that perform better than
existing technologies, manufacture our SpatiaLight imagEngine(TM) microdisplays
and/or display units in bulk, and sell the resulting microdisplays and/or
display units to original equipment manufacturers that will then incorporate
them into their products. Original equipment manufacturers make the
determination during their product development programs whether or not to
incorporate our SpatiaLight imagEngine(TM) microdisplays and/or display units in
their products. This requires us to invest significant amounts of time and
capital in designing our SpatiaLight imagEngine(TM) microdisplays and/or display
units before we can be assured that we will generate any significant sales to
our customers or even recover our investment. If we fail to recover our
investment in the SpatiaLight imagEngine(TM) microdisplays and/or display units,
it could seriously harm our financial condition. In addition, the length of time
that our products may be successfully received by our customers could be limited
by the acceptance of new technologies developed by our competitors.


                                       17
<PAGE>

WE INCUR SUBSTANTIAL RESEARCH AND DEVELOPMENT COSTS IN CONNECTION WITH
TECHNOLOGIES THAT MAY NOT BE SUCCESSFUL.

We currently have ten full-time engineering and nine full-time manufacturing
personnel based in California working on microdisplays. This staffing creates
significant research and development costs that may not be recouped. Even if our
current microdisplays become accepted or successful, due to the rapid
technological changes in our industry, we must continue to use, and may increase
in number, our engineering and manufacturing personnel to develop future
generations of our microdisplays. As a result, we expect to continue incurring
significant research and development costs.

WE ARE CURRENTLY MANUFACTURING AND SHIPPING OUR MICRODISPLAYS, BUT UNANTICIPATED
DIFFICULTIES IN MANUFACTURING OUR MICRODISPLAYS MAY MAKE IT DIFFICULT TO MEET
CUSTOMER DEMANDS FROM TIME TO TIME AND OUR OPERATING RESULTS COULD BE
SIGNIFICANTLY HARMED BY SUCH DIFFICULTIES.

We need to work closely with our manufacturing sources to assure production of
our current microdisplays. Problems in production or lower than expected
manufacturing yields could significantly harm our business because we will have
already incurred the costs for the materials used in the microdisplay
manufacturing process. These problems could cause delays that might lead our
potential customers to seek other sources.

We currently obtain silicon backplanes, a vital component in our microdisplays,
from the Far East. Some Asian countries are subject to earthquakes, typhoons and
political instability. Unless we obtain an alternative source, any disruption or
termination of our silicon manufacturing source's operation in Taiwan or air
transportation with the Far East could significantly harm our operations.

Our microdisplays are assembled by combining the silicon backplanes with
electronic components. The design and manufacture of liquid crystal displays and
display units are highly complex processes that are sensitive to a wide variety
of factors, including the level of contaminants in the manufacturing
environment, impurities in the materials used, and the performance of personnel
and equipment. We lease clean room space in California where we currently
manufacture our SpatiaLight imagEngine(TM) microdisplays. In January 2004, we
leased an additional clean room at the same location as the existing clean room
to address current and anticipated increased manufacturing demand. We believe
that these current arrangements provide us with strong quality controls and
effectively protect our proprietary technology in our products, but the risks
discussed above associated with the highly complex processes of manufacturing
these liquid crystal microdisplays remain applicable.

We continue to have working arrangements with the manufacturer of the light
engines and lamps required in the assembly of our display units. We have entered
into an agreement for the supply of prisms and filters which are also required
for the assembly of such units. We do not have other such written agreements
which are binding upon the manufacturers of the other components and no such
manufacturer is bound to furnish us with any specific quantities of their
products at previously specified prices. At this date, we are not aware that any
of our component manufacturers have known shortages of critical material.

Because the manufacture of our SpatiaLight imagEngine(TM) microdisplays involves
highly complex processes and technical problems may arise, we, in our capacity
as manufacturing our liquid crystal microdisplays, which are an integral part of
the display units, cannot assure the manufacturing yields of our products.
Current purchase orders and future purchase orders, as to which we cannot give
any assurance, will require us to produce greater quantities of our microdisplay
products than we have produced in the past. Problems in production, including
problems associated with increasing our


                                       18
<PAGE>

production output or lower than expected manufacturing yields could
significantly harm our business and operating results. In addition, the
complexity of our manufacturing processes will increase as the sophistication of
our microdisplays and display units increases, and such complexities may lend to
similar difficulties that could harm our business and operating results.

IF MARKETS FOR OUR PRODUCTS DO NOT CONTINUE TO DEVELOP, OUR BUSINESS WILL LIKELY
BE SIGNIFICANTLY HARMED.

Various target markets for our microdisplays, including high-definition
televisions, projectors, monitors, and portable microdisplays, are uncertain and
may be slow to develop. In addition, companies in those markets could utilize
competing technologies. High-definition television has only recently become
available to consumers, and widespread market acceptance, although anticipated,
is uncertain. In addition, the commercial success of the portable microdisplay
market is uncertain. The acceptance of our display units and/or SpatiaLight
imagEngine(TM) microdisplays will be dependent upon the pricing, quality,
reliability and useful life of these units compared to competing technologies,
as to which there can be no assurance. In order for us to succeed, not only must
we offer end-product manufacturers better and less expensive microdisplays than
our competitors, but the manufacturers themselves must also develop commercially
successful products using our microdisplays. SpatiaLight's marketing efforts are
focused on developing strategic customer and governmental relationships in China
and the Republic of South Korea. Our failure to sell our microdisplays to such
manufacturers or the failure of the ultimate target markets to develop as we
expect will negatively effect our anticipated growth.

IF OUR MICRODISPLAYS DO NOT BECOME WIDELY ACCEPTED BY OUR CUSTOMERS OR THE
END-USERS, OUR BUSINESS COULD BE SIGNIFICANTLY HARMED.

Our microdisplays may not be accepted by a widespread market. Even if we
successfully obtain customer orders, our customers may determine not to
introduce or may terminate products utilizing the technology for a variety of
reasons, including the following:

      o     superior technologies developed by our competitors;

      o     price considerations; and

      o     lack of anticipated or actual market demand for the products.

We currently have purchase order agreements with a limited number of customers.
Despite our reasonable efforts to retain these customers and obtain new
customers, we may not be successful in either of these regards. The loss of any
one or more of these customers or a failure to obtain new customers could
materially harm our business and financial condition.

WE CANNOT ASSURE YOU THAT WE WILL OBTAIN ADDITIONAL PURCHASE ORDERS FROM OUR
CURRENT OR PROSPECTIVE CUSTOMERS, OR, IF WE DO, THAT SUCH ORDERS WILL GENERATE
SIGNIFICANT REVENUES.

From 2001 through 2003, we entered into agreements or memoranda of understanding
(MOU) with original equipment manufacturers (OEMs) in China and the Republic of
South Korea for testing of our microdisplay products in contemplation of
definitive purchase order agreements. All of these agreements generally require
that we supply prototypes of our display units and/or SpatiaLight imagEngine
microdisplays and that they meet technical criteria satisfactory to each of such
prospective customers. To date, we have received purchase orders from seven
Chinese OEMs. Certain other prospective customers have advised us that they are
satisfied with the results of the testing of the


                                       19
<PAGE>

prototypes under their agreements or MOUs with the Company and we are currently
negotiating terms of purchase orders for our display units and/or SpatiaLight
imagEngine microdisplays with each of them. There are significant open issues
with respect to these prospective purchase orders that have to be finally
negotiated, including prices and quantities of our products. We cannot offer
assurance that we will receive, in the future, binding purchase orders from any
of these companies for their purchase of our microdisplay products.

In addition, even if we receive purchase orders from our current or prospective
customers for our microdisplay products, we may have problems implementing
volume production of such microdisplay products. Furthermore, sales to
manufacturers in the electronics industry are subject to severe competitive
pressures, rapid technological change and product obsolescence. Manufacturers
may, at any time, cancel purchase orders or commitments or reduce or delay
orders, thereby increasing our inventory and overhead risks. Therefore, even if
we obtain purchase orders from several current or prospective customers, we
cannot assure you that these agreements will result in significant revenues to
us.

IF OUR CUSTOMERS' PRODUCTS ARE NOT SUCCESSFUL, OUR BUSINESS WOULD BE MATERIALLY
HARMED.

We do not currently sell any products to end-users. Instead, we design and
manufacture various product solutions that our customers (i.e., OEMs) may
incorporate into their products. As a result, our success depends almost
entirely upon the widespread market acceptance of our customers' products. Any
significant slowdown in the demand for our customers' products would materially
harm our business.

Our dependence on the success of the products of our customers exposes us to a
variety of risks, including our need to do the following:

      o     maintain customer satisfaction with our design and manufacturing
            services;

      o     match our design and manufacturing capacity with customer demand and
            maintain satisfactory delivery schedules;

      o     anticipate customer order patterns, changes in order mix, and the
            level and timing of orders that we can meet; and

      o     adjust to the cyclical nature of the industries and markets we
            serve.

      o     Our failure to address these risks may cause us to lose sales or for
            sales to decline.

THE ELECTRONICS INDUSTRY IS HIGHLY COMPETITIVE, WHICH MAY RESULT IN LOST SALES
OR LOWER GROSS MARGINS.

We serve highly competitive industries that are characterized by price erosion,
rapid technological change and competition from major domestic and international
companies. This intense competition could result in pricing pressures, lower
sales, reduced margins and lower market share. Some of our competitors have
greater market recognition, larger customer bases, and substantially greater
financial, technical, marketing, distribution and other resources than we
possess. As a result, they may be able to introduce new products and respond to
customer requirements more quickly and effectively than we can.

Our competitive position could suffer if one or more of our customers decide to
design and manufacture their own microdisplay products, to contract with our
competitors, or to use alternative technologies. In addition, our customers
typically develop a second source. Second source suppliers may win an


                                       20
<PAGE>

increasing share of a program. Our ability to compete successfully depends on a
number of factors, both within and outside our control. These factors include
the following:

      o     our success in designing and manufacturing new display technologies;

      o     our ability to address the needs of customers;

      o     the quality, performance, reliability, features, ease of use,
            pricing, and diversity of our display products;

      o     foreign currency fluctuations, which may cause a foreign
            competitor's products to be priced significantly lower than our
            displays;

      o     the quality of our customer services;

      o     the efficiency of our production sources;

      o     the rate at which customers incorporate our displays into their own
            products; and

      o     products or technologies introduced by our competitors.

OUR BUSINESS IS SIGNIFICANTLY AFFECTED BY CONDITIONS OR EVENTS OCCURRING IN THE
ELECTRONICS INDUSTRY GENERALLY.

The electronics industry has experienced significant economic downturns at
various times, characterized by diminished product demand, accelerated erosion
of average selling prices, and production over-capacity. Since the electronics
industry is cyclical in nature, we may experience substantial period-to-period
fluctuations in future operating results because of general industry conditions
or events occurring in the general economy.

OUR OPERATING RESULTS ARE SUBJECT TO SIGNIFICANT FLUCTUATIONS.

Our results of operations have varied significantly from quarter to quarter in
the past and are likely to vary significantly in the future, which makes it
difficult to predict our future operating results. Accordingly, we believe that
quarter-to-quarter comparisons of our operating results are not meaningful and
should not be relied upon as an indicator of our future performance. Some of the
factors that cause our operating results to fluctuate include the following:

      o     introductions of displays and market acceptance of new generations
            of displays;

      o     timing of expenditures in anticipation of future orders;

      o     changes in our cost structure;

      o     availability of labor and components;

      o     pricing and availability of competitive products and services;

      o     the timing of orders;

      o     the volume of orders relative to the capacity we can contract to
            produce;


                                       21
<PAGE>

      o     evolution in the life cycles of customers' products; and

      o     changes or anticipated changes in economic conditions.

THE MARKET PRICE OF OUR COMMON SHARES IS HIGHLY VOLATILE.

The market price of our common shares has been highly volatile, reflecting
reported losses and receipt of additional financing. Other companies have found
similar volatility correlates with class action securities lawsuits although to
date we have not been a defendant in any such lawsuit. The trading price of our
common shares in the future could continue to be subject to wide fluctuations in
response to various factors, including the following:

      o     quarterly variations in our operating results;

      o     actual or anticipated announcements of technical innovations or new
            product developments by us or our competitors;

      o     public announcements regarding our business developments;

      o     changes in analysts' estimates of our financial performance;

      o     sales of large numbers of our common shares by our shareholders;

      o     general conditions in the electronics industry; and

      o     worldwide economic and financial conditions.

In addition, the stock market has experienced significant price and volume
fluctuations that have particularly affected the market prices for many
high-technology companies and that often have been unrelated to the operating
performance of these companies. These broad market fluctuations and other
factors may adversely affect the market price of our common shares.

BY FURTHER INCREASING THE NUMBER OF OUR COMMON SHARES THAT MAY BE SOLD INTO THE
MARKET, ADDITIONAL OFFERINGS OF OUR EQUITY SECURITIES COULD CAUSE THE MARKET
PRICE OF OUR COMMON SHARES TO DECREASE SIGNIFICANTLY, EVEN IF OUR BUSINESS
OPERATIONS ARE PERFORMING WELL.

The total number of our common shares and warrants to purchase our common
shares, sold in three separate equity financings completed in 2003 represents
approximately 14.43% of the total number of our common shares that are issued
and outstanding as of May 3, 2004. Sales of these shares, into and within the
public market, or the perception that future sales of these common shares could
occur, might adversely affect the prevailing market price of our common shares
in the near future.

OUR COMMON SHARES MAY NOT BE LIQUID.

Our common shares are currently traded on The NASDAQ SmallCap Market. Our
shareholders may find that it is more difficult to sell our common shares than
shares that are listed on The NASDAQ National Market, American Stock Exchange or
New York Stock Exchange. The trading volume of our common shares may be
adversely affected due to the limited marketability of our common shares. Any
substantial sales of our common shares may result in a material reduction in
price because relatively few buyers may be available to purchase our common
shares.


                                       22
<PAGE>

IF WE LOSE OUR KEY PERSONNEL OR ARE UNABLE TO ATTRACT AND RETAIN ADDITIONAL
PERSONNEL, OUR ABILITY TO COMPETE COULD BE HARMED.

Our development and operations depend substantially on the efforts and abilities
of our senior management and qualified technical personnel. Our products require
sophisticated production, research and development and technical support. The
competition for qualified management and technical personnel is intense. The
loss of services of one or more of our key employees or the inability to add key
personnel could have a material adverse affect on us; particularly since
currently we do not have any insurance policies in place to cover that
contingency. Our success will depend upon our ability to attract and retain
highly qualified scientific, marketing, manufacturing, financial and other key
management personnel. We face intense competition for the limited number of
people available with the necessary technical skills and understanding of our
products and technology. We cannot assure you that we will be able to attract or
retain such personnel or not incur significant costs in order to do so. If we
are unable to protect our intellectual property from use by third parties, our
ability to compete in the industry will be harmed.

We believe that our success depends in part on protecting our proprietary
technology. We rely on a combination of patent, copyright, trademark and trade
secret laws, as well as confidentiality and assignment of inventions agreements
from our employees, consultants and advisors and other contractual provisions,
to establish and protect our intellectual property rights. Policing unauthorized
use of our products and technology is difficult, however. Despite our efforts to
protect our proprietary rights, we face the following risks:

      o     pending patent applications may not be issued;

      o     patents issued to us may be challenged, invalidated, or
            circumvented;

      o     unauthorized parties may obtain and use information that we regard
            as proprietary despite our efforts to protect our proprietary
            rights;

      o     others may independently develop similar technology or design around
            any patents issued to us;

      o     breach of confidentiality agreements;

      o     intellectual property laws may not protect our intellectual
            property; and

      o     effective protection of intellectual property rights may be limited
            or unavailable in some foreign countries, such as China, in which we
            may operate. Specifically, although we consider the following
            unlikely because of the complex technological structure of our
            products, one or more of our current or prospective Chinese or
            Korean customers, or their respective employees or other persons
            including our competitors, that have or gain access to our products
            for testing purposes, may seek to misappropriate or improperly
            convert to their own use our intellectual property and a lack of
            adequate remedies and impartiality under the Chinese and Korean
            legal systems may adversely impact our ability to protect our
            intellectual property.

There can be no assurance that we will have adequate remedies in the event any
of the foregoing materializes. Failure to protect our intellectual property
would limit our ability to produce and market our products in the future, which
would materially adversely affect our revenues generated by the sale of such
products. In addition, third parties could assert that our products and
technology infringe their


                                       23
<PAGE>

patents or other intellectual property rights. As a result, we may become
subject to future patent infringement claims or litigation, the defense of which
is costly, time-consuming and diverts the attention of management and other
personnel.

POLITICAL, ECONOMIC AND REGULATORY RISKS ASSOCIATED WITH INTERNATIONAL
OPERATIONS MAY LIMIT OUR ABILITY TO DO BUSINESS ABROAD.

A substantial number of our customers, manufacturers and suppliers are located
outside of the United States, principally in the Far East. Our international
operations are subject to political and economic conditions abroad, and
protectionist trade legislation in either the United States or foreign
countries, such as a change in the current tariff structures, export or import
compliance laws, or other trade policies, any of which could adversely affect
our ability to manufacture or sell displays in foreign markets and to purchase
materials or equipment from foreign suppliers. All of our current purchase order
agreements with customers are governed by foreign law and therefore, are subject
to uncertainty with regard to their enforceability.

RISKS RELATED TO DOING BUSINESS IN CHINA MAY NEGATIVELY AFFECT OUR BUSINESS.

Our business is subject to significant political and economic uncertainties and
may be adversely affected by political, economic and social developments in
China. Over the past several years, the Chinese government has pursued economic
reform policies including the encouragement of private economic activity and
greater economic decentralization. The Chinese government may not continue to
pursue these policies or may significantly alter them to our detriment from time
to time with little, if any, prior notice.

A lack of adequate remedies and impartiality under the Chinese legal system may
adversely impact our ability to do business in China and to enforce the
agreements or purchase orders to which we are, or may become, a party.

At various times during recent years, the United States and China have had
significant disagreements over political, economic and social issues.
Controversies may arise in the future between these two countries. Any political
or trade controversies between the United States and China, whether or not
directly related to our business, could adversely affect our ability to do
business in China.

WE DO NOT PAY CASH DIVIDENDS.

We have never paid any cash dividends on our common shares and do not anticipate
that we will pay cash dividends in the near future. Instead, we intend to apply
any future earnings to the expansion and development of our business.


                                       24
<PAGE>

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS

We place all of our excess cash and cash equivalents in a checking account or
money market account with a nationally reputable bank. As of March 31, 2004, our
cash and cash equivalents totaled approximately $4,440,000.

ITEM 4. CONTROLS AND PROCEDURES

Quarterly evaluation of the Company's Disclosure Controls. As of the end of the
quarterly fiscal period related to this Quarterly Report on Form 10-Q, we
evaluated the effectiveness of the design and operation of our "disclosure
controls and procedures" (Disclosure Controls), and our "internal controls and
procedures for financial reporting" (Internal Controls). This evaluation (the
Controls Evaluation) was done under the supervision and with the participation
of our principal executive officer (CEO) and principal financial officer (CFO).

Limitations on the Effectiveness of Controls. Our CEO and CFO do not expect that
our Disclosure Controls or our internal control over financial reporting will
prevent all error and all fraud. A control system, no matter how well conceived
and operated, can provide only reasonable, not absolute, assurance that the
control system's objectives will be met. Further, the design of a control system
must reflect the fact that there are resource constraints, and the benefits of
controls must be considered relative to their costs. We have only had limited
revenue derived from the sale of our microdisplay products in the current
reporting period. While the Controls Evaluation has accounted for such limited
sales and revenue, new or additional controls may or may not be required once we
begin selling our microdisplay products in increased volume in the ordinary
course of business. Because of the inherent limitations in all control systems,
no evaluation of controls can provide absolute assurance that all control issues
and instances of fraud, if any, within the Company have been detected. These
inherent limitations include the realities that judgments in decision-making can
be faulty, and that breakdowns can occur because of simple error or honest
mistake. Additionally, controls can be circumvented by the individual acts of
some persons, by collusion of two or more persons, or by management override of
the controls. The design of any system of controls also is based in part upon
certain assumptions about the likelihood of future events, and there can be no
assurance that any design will succeed in achieving its stated goals under all
potential future conditions. Over time, specific controls may or may not become
inadequate (e.g., when we commence to sell our products in increased volume in
the ordinary course of business) because of changes in conditions or
deterioration in the degree of compliance with policies or procedures. Because
of the inherent limitations in a cost-effective control system, misstatements
due to error or fraud may occur and not be detected. During the first quarter of
2004, we were advised by our independent public accountants of a "reportable
condition" in our system of Internal Controls pertaining to consistency of
procedures and documentation applied to certain personnel-related expenditures.
Management of the Company is currently addressing this condition through its
ongoing evaluation of Internal Controls.

Conclusions. Based upon the Controls Evaluation, our CEO and CFO have concluded
that, subject to the limitations mentioned in Limitations on Effectiveness of
Controls above, our Disclosure Controls are effective to ensure that material
information relating to the Company is made known to the CEO and CFO,
particularly during the period when our periodic reports are being prepared.
There have been no significant changes in the Company's internal control over
financial reporting that occurred during the quarter covered by this report that
have materially affected, or are reasonably likely to materially affect, the
Company's internal control over financial reporting.


                                       25
<PAGE>

PART II. OTHER INFORMATION

ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS

In December 2003, we completed a private placement of 1,000,000 common shares
that were registered with the SEC in a "Shelf" Registration Statement at a price
of $5.00 per share for net proceeds of $4,955,255 received in December 2003.
300,000 of these shares were issued in December 2003, and the remaining shares
were issued in January 2004. We have used proceeds from this transaction to
reduce our liabilities, for working capital purposes and for other general
corporate purposes.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

      (a)   Exhibits

            4.1   Amended and Restated Certificate of Incorporation.*

            4.2   Bylaws.*

            10.1  Amended and Restated Time Accelerated Restricted Stock Award
                  Plan (TARSAP) between SpatiaLight, Inc. and Theodore H.
                  Banzhaf, dated as of April 1, 2004.

            31.1  Rule 13a-14(a)/15d-14(a) Certification of Robert A. Olins.

            31.2  Rule 13a-14(a)/15d-14(a) Certification of Timothy Descamps.

            32.1  Certifications of Robert A. Olins and Timothy V. Descamps
                  Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to
                  Section 906 of the Sarbanes-Oxley Act of 2002.

      (b)   Report on Form 8-K:

            None.

*Previously filed.


                                       26
<PAGE>

SIGNATURES

      In accordance with the requirements of the Securities Exchange Act of
1934, as amended, the Registrant has duly caused the report to be signed on its
behalf by the undersigned, thereunto duly authorized.

                                        Date: May 12, 2004

                                        SpatiaLight, Inc.

                                        By: /s/ROBERT A. OLINS
                                           -------------------------------------
                                           Robert A. Olins
                                           Chief Executive Officer


                                       27