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 June 30, 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: 34,848,874 common shares as of
August 3, 2004.


                                       1
<PAGE>


                                SPATIALIGHT, INC.

                          Quarterly Report on Form 10-Q
                       For the Quarter Ended June 30, 2004


                                TABLE OF CONTENTS

PART I        FINANCIAL INFORMATION

     Item 1.  Condensed Consolidated Financial Statements (unaudited)

              Condensed Consolidated Balance Sheets dated
              June 30, 2004 and December 31, 2003..............................3

              Condensed Consolidated Statements of Operations
              for the Three months and Six Months
              Ended June 30, 2004 and 2003.....................................4

              Condensed Consolidated Statement of Stockholders' Equity
              for the Six months Ended June 30, 2004...........................5

              Condensed Consolidated Statements of Cash Flows
              for the Six months Ended June 30, 2004 and 2003..................6

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

     Item 2.  Management's Discussion and Analysis
              of Financial Condition and Results of Operations................12

     Item 3.  Quantitative and Qualitative Disclosures about Market Risks.....26

     Item 4.  Controls and Procedures.........................................27

PART II       OTHER INFORMATION

     Item 2.  Changes in Securities and Use of Proceeds.......................28

     Item 4.  Submission of Matters to a Vote of Security Holders.............29

     Item 6.  Exhibits and Reports on Form 8-K................................30


                                       2
<PAGE>

PART I.  FINANCIAL INFORMATION
Item 1.  Condensed Consolidated Financial Statements (unaudited)


<TABLE>
<CAPTION>

                                                                 June 30,     December 31,
                                                                   2004           2003
                                                              ------------    ------------
                                                               (unaudited)
<S>                                                           <C>             <C>
ASSETS
Current assets
  Cash and cash equivalents                                   $  2,475,554    $  6,359,969
  Accounts receivable                                              826,930         117,530
  Inventory                                                        911,361         779,617
  Prepaids and other current assets                                614,799         175,848
  Prepaid non-cash interest to related party                       738,342         177,239
                                                              ------------    ------------
          Total current assets                                   5,566,986       7,610,203

Property and equipment, net                                        662,519         638,430
Other assets                                                       105,163         101,063
                                                              ------------    ------------

               Total assets                                   $  6,334,668    $  8,349,696
                                                              ============    ============

LIABILITIES AND STOCKHOLDERS' EQUITY

Current liabilities
  Accounts payable                                            $    609,492    $    863,284
  Accrued expenses and other current liabilities                   584,346         518,137
                                                              ------------    ------------
        Total current liabilities                                1,193,838       1,381,421

Noncurrent liabilities
  Convertible notes                                              1,166,000       1,155,000
                                                              ------------    ------------

               Total liabilities                                 2,359,838       2,536,421
                                                              ------------    ------------

Commitments

Stockholders' equity:
  Common shares, $.01 par value:
    50,000,000 shares authorized; 34,792,905 and
    33,229,191 shares issued and outstanding at
    June 30, 2004 and December 31, 2003                            347,929         332,292
Additional paid-in capital                                      67,306,231      61,046,425
Notes  receivable                                               (1,125,258)     (1,096,926)
Common shares issuable                                                  --       3,805,685
Accumulated deficit                                            (62,554,072)    (58,274,201)
                                                              ------------    ------------
        Total stockholders' equity                               3,974,830       5,813,275
                                                              ------------    ------------

Total liabilities and stockholders' equity                    $  6,334,668    $  8,349,696
                                                              ============    ============
</TABLE>


See acompanying notes to condensed consolidated financial statements.


                                       3
<PAGE>

SPATIALIGHT, INC.
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS (unaudited)


<TABLE>
<CAPTION>


                                                           Three Months Ended June 30,       Six Months Ended June 30,
                                                          ----------------------------    ------------------------------
                                                              2004            2003            2004            2003
                                                          ------------    ------------    ------------    --------------
<S>                                                       <C>             <C>             <C>             <C>
Revenue                                                   $    540,775    $         --    $    859,875    $           --
Cost of revenue                                                425,649         100,690         772,331           100,690
                                                          ------------    ------------    ------------    --------------
   Gross margin                                                115,126        (100,690)         87,544          (100,690)

Selling, general and administrative expenses:
   Selling, general and administrative expenses              1,479,858         915,166       2,485,003         1,372,828
   Stock-based compensation                                    218,250       1,485,179         261,174         1,658,932
                                                          ------------    ------------    ------------    --------------
       Total selling, general and administrative expenses    1,698,108       2,400,345       2,746,177         3,031,760

   Research and development expenses                           569,798         666,705       1,251,558         1,391,302

          Total operating expenses                           2,267,906       3,067,050       3,997,735         4,423,062
                                                          ------------    ------------    ------------    --------------

          Operating loss                                    (2,152,780)     (3,167,740)     (3,910,191)       (4,523,752)
                                                          ------------    ------------    ------------    --------------

Other income (expenses):

  Interest expense:
          Interest expense                                     (18,301)        (38,239)        (36,120)         (109,189)
          Non-cash interest expense                           (187,696)       (142,812)       (375,392)         (278,977)
                                                          ------------    ------------    ------------    --------------
            Total interest expense                            (205,997)       (181,051)       (411,512)         (388,166)

  Interest and other income                                     24,800          18,588          42,632            37,976
                                                          ------------    ------------    ------------    --------------

          Total other expenses                                (181,197)       (162,463)       (368,880)         (350,190)
                                                          ------------    ------------    ------------    --------------

  Loss before income tax expense                            (2,333,977)     (3,330,203)     (4,279,071)       (4,873,942)

Income tax expense                                                  --            (808)            800                (8)
                                                          ------------    ------------    ------------    --------------

Net loss                                                  $ (2,333,977)   $ (3,329,395)   $ (4,279,871)   $   (4,873,934)
                                                          ============    ============    ============    ==============

Net loss per share - basic and diluted                    $      (0.07)   $      (0.13)   $      (0.13)   $        (0.19)
                                                          ============    ============    ============    ==============

Weighted average shares used in computing
 net loss per share- basic and diluted                      32,955,434      33,153,429      26,354,526        25,963,626
                                                          ============    ============    ============    ==============


</TABLE>


See accompanying notes to condensed consolidated financial statements.


                                       4
<PAGE>


SPATIALIGHT, INC.
STATEMENT OF STOCKHOLDERS' EQUITY (unaudited)
SIX MONTHS ENDED JUNE 30, 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                 529,596          5,296       1,064,914                                                     1,070,210

Accrued interest
  on notes receivable
  from stockholder                                                            (28,332)             --              --       (28,332)

Issuance of options to
  employees and directors                                      51,174                                                        51,174

Issuance of warrant
  for services                                                210,000                                                       210,000

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                                                                                   (4,279,871)     (4,279,871)
                          ------------   ------------    ------------    ------------    ------------    ------------  ------------
                            34,792,905   $    347,929    $ 67,306,231    ($ 1,125,258)   $(62,554,072)   $         --  $  3,974,830
                          ============   ============    ============    ============    ============    ============  ============
</TABLE>


See accompanying notes to condensed consolidated financial statements.


                                       5
<PAGE>


SPATIALIGHT, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)


<TABLE>
<CAPTION>


                                                                Six Months Ended June 30,
                                                                --------------------------
Cash flows from operating activities:                               2004           2003
                                                                -----------    -----------
<S>                                                             <C>            <C>
Net loss                                                        $(4,279,871)   $(4,873,934)
Adjustments to reconcile net loss to
  net cash used in operating activities:

  Depreciation and amortization                                     219,991        128,728
  Stock-based compensation                                          261,174      1,908,932
  Non-cash interest expense                                         375,392        278,977
  Accrued interest on note receivable from shareholder              (28,332)            --
  Changes in operating assets and liabilities:
     Accounts receivable                                           (709,400)            --
     Inventories                                                   (131,744)      (430,305)
     Prepaid and other current assets                              (226,072)       267,713
     Other assets                                                    (4,100)       (85,795)
     Accounts payable                                              (253,792)    (1,382,406)
     Accrued expenses and other current liabilities                  66,209        259,053
                                                                -----------    -----------
                 Net cash used in operating activities           (4,710,545)    (3,929,037)
                                                                -----------    -----------
Cash flows from investing activities:
  Purchase of property and equipment                               (244,080)       (24,711)
                                                                -----------    -----------
                 Net cash used in investing activities             (244,080)       (24,711)
                                                                -----------    -----------
Cash flows from financing actitivies:
  Proceeds from the sale of common shares                                --      4,974,935
  Proceeds from issuance of short term notes                             --        657,500
  Payments on notes receivable from shareholders                         --         52,500
  Proceeds from exercise of warrants and options                  1,070,210          9,375
                                                                -----------    -----------

                 Net cash provided by financing activities        1,070,210      5,694,310
                                                                -----------    -----------

Net decrease in cash                                             (3,884,415)     1,740,562

Cash and cash equivalents at beginning of period                  6,359,969        575,663
                                                                -----------    -----------
Cash and cash equivalents at end of period                      $ 2,475,554    $ 2,316,225
                                                                ===========    ===========
Supplemental disclosure of cash flow information:

  Income taxes paid during the period                           $       800    $       800
                                                                ===========    ===========
Non cash financing activities:

  Common stock issued for
    prepayment of related party interest                        $ 1,138,374    $   354,477
                                                                ===========    ===========
</TABLE>

See accompanying notes to condensed consolidated financial statements.


                                       6
<PAGE>


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

NOTE 1.  BUSINESS DESCRIPTION

SpatiaLight, Inc. and Subsidiary (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.  We are  currently  offering  two types of
products to our customers and prospective customers primarily in the Republic of
Korea,  China  and  Taiwan.  One  product  is sets of three  of our  proprietary
SpatiaLight  imagEngine(TM)  LCoS microdisplays  (LCoS Sets). Our other product,
the display unit, is comprised of three of our LCoS microdisplays  fitted onto a
light engine designed by SpatiaLight and Fuji and manufactured by Fuji. To date,
SpatiaLight  has received  purchase  orders for its  microdisplay  products from
eight Chinese original equipment  manufacturers  (OEMs) and one South Korean OEM
and  has  made  product  shipments  to  customers.   The  Company  is  currently
negotiating  the terms of purchase  orders for its products  with certain  other
prospective   customers,   primarily  in  the  Pacific  Rim  region.  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 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.

NOTE 2.  BASIS OF PRESENTATION

The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial  information and with the  instructions to Form 10-Q and Article 10 of
Regulation  S-X.  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 accounting principles generally accepted
in United States of America.  In the opinion of management of  SpatiaLight,  the
interim condensed  consolidated  financial  statements included herewith contain
all  adjustments  (consisting  of normal  recurring  accruals  and  adjustments)
necessary  for  their  fair   presentation.   The  unaudited  interim  condensed
consolidated  financial  statements  should  be read  in  conjunction  with  the
Company's  Annual  Report on Form 10-K,  which  contains  the audited  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 June 30, 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 June 30, 2004, the Company had net equity of approximately  $3,975,000 and
net working capital of approximately $4,373,000. The Company expects to meet its
cash needs with existing cash  balances,  collections of notes  receivable  from
shareholders of approximately $1,125,000, and from the exercise of warrants held
by existing  investors.  As of June 30, 2004, there were  approximately  770,000
warrants  which are  exercisable  and  in-the-money.  The  total  value of these
warrants,  should they be exercised, is approximately  $3,300,000.  In addition,
the Company expects to fund working capital  requirements with payments received
from its customers in connection with signed purchase  orders,  and by obtaining
additional  financing.  There can be no assurances that SpatiaLight will be able
to  obtain  such  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 and six
months ended June 30, 2004 are 1,346,268 shares of common shares issued but held
in escrow in  connection  with a 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 and six months ended June 30, 2004
and 2003,  respectively,  are options  and  warrants  to acquire  5,938,195  and
5,968,289  shares of common stock,  and  2,376,000  and  3,767,980  common share
equivalents  relating to convertible secured notes,  because the effect of their
assumed exercise would be  antidilutive.  The weighted average exercise price as
of June 30, 2004 for the options and warrants is $2.37 and $3.05,  respectively;
the weighted average  conversion price for the common share equivalents  related
to convertible notes is $.50.

NOTE 5.  NOTES PAYABLE

Convertible notes at June 30, 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. In addition,  on March
4, 2004,  the Company  issued 71,676 common shares on the prepayment of interest
of $338,311 for the six months ended June 30, 2005 in order to coincide with the
maturity date of the notes. Interest was computed using the closing price of the
common shares on March 3, 2004 of $4.72,  and is not currently being  amortized.
At June 30, 2004, the carrying value of the Argyle notes total $1,166,000, which
includes  the  $1,188,000  principal  balance net of  unamortized  discounts  of
$22,000.


                                       8
<PAGE>


Activity in notes payable for the six months ended June 30, 2004 follows:


<TABLE>
<CAPTION>


                                                            (PAYMENT)
                          BALANCE AT                            OR                       BALANCE AT
                         DECEMBER 31,     ADDITION OR        DISCOUNT     CONVERSION       JUNE 30,
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)                 --         11,000            --        (22,000)
                         -----------    ----------------   ------------   -----------    -----------
Total                      1,155,000                  --         11,000            --      1,166,000
                         -----------    ----------------   ------------   -----------    -----------

INTEREST:
Accrued Argyle 6%                 --              35,640             --       (35,640)            --
Beneficial interest               --             364,392             --      (364,392)            --
                         -----------    ----------------   ------------   -----------    -----------
Total                             --             400,032             --      (400,032)            --

                         -----------    ----------------   ------------   -----------    -----------
TOTAL                    $ 1,155,000    $        400,032   $    11,000    $  (400,032)   $ 1,166,000
                         ===========    ================   ============   ===========    ===========

</TABLE>


Non-cash interest expense is as follows:

                                              Six Months Ended June 30,
                                             --------------------------
                                                 2004          2003
                                             ------------   -----------
Amortization of note discounts                     11,000       130,732
Effect of beneficial conversion privileges
   on accrued interest                            364,392       141,598

Other                                        $         --         6,647
                                             ------------   -----------
                                             $    375,392   $   278,977
                                             ============   ===========


NOTE 6.  ISSUANCE OF SECURITIES

Exercise of Stock Options and Warrants in the six months ended June 30, 2004

During the first six months of 2004,  122,500  and  407,096  common  shares were
issued upon the exercise of employee  stock options and warrants,  respectively.
Total cash received was $1,070,210.

Issuance of Shares,  Stock Options and Warrants in the six months ended June 30,
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 six months ended June 30, 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  $51,174 and are
included in stock-based compensation.

In April 2004,  the Company  issued a fully vested  warrant to purchase  250,000
common  shares as payment to a sales agent.  A value of $210,000 was assigned to
the warrant using a Black-Scholes  pricing model and the following  assumptions:
stock price $3.58,  exercise price $3.75,  historical  volatility 59%, risk free
rate 4%, dividend yield of 0% and a contractual life of 13 months.

Installment Note

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 June
30,  2004,  approximately  $107,700  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 $1,010,758.

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 June 30, 2004 the remaining balance is $127,500.

Stock-based compensation is as follows:

<TABLE>
<CAPTION>

                                                                 Six Months Ended June 30,
                                                                 -------------------------
                                                                     2004          2003
                                                                 ----------     ----------
<S>                                                              <C>            <C>
Common shares and options granted to employees and directors     $   51,174     $   22,005
Common shares and warrants expensed for services                    210,000        283,128
Stock to be issued in connection with stock purchase                     --        326,086
Beneficial pricing on sale of stock and warrants to officers             --        958,913
Other                                                                    --         68,800
                                                                 ----------     ----------
                                                                 $  261,174     $1,658,932
                                                                 ==========     ==========
</TABLE>


NOTE 7.  SEGMENT INFORMATION AND SIGNIFICANT CUSTOMER 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.

During the six months  ended June 30,  2004,  all  revenues  were  derived  from
customers abroad.  Revenues from mainland China totaled $817,000 or 95% of total
revenue.  The remaining 5%, or $42,875 were derived from  customers in Hong Kong
and the Republic of Korea. There were no revenues in 2003.


                                       10
<PAGE>


Revenue from two customers accounted for 67% and 19%, respectively, of our total
revenues for the six months  ended June 30,  2004.  The loss of any one of these
customers  and our inability to obtain new customers to replace the lost revenue
in a timely  manner  could  harm our sales or results  of  operations.  Accounts
receivable from these two customers accounted for 70% and 20%, respectively,  of
total accounts receivable as of June 30, 2004.

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 stock exceeds the exercise price for stock options or the
purchase price for issuances or sales of common stock.  Pursuant to Statement of
Financial  Accounting  Standards  (SFAS) No.  123  "Accounting  for  Stock-Based
Compensation,"  the Company  discloses  the pro forma  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.

If the Company had elected the fair value method of accounting  for  stock-based
compensation,  compensation  cost would have been 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  shows net loss per share for the three  months  and six months
ended June 30, 2004 and 2003 as if the Company had elected the fair value method
of accounting for stock options.


<TABLE>
<CAPTION>


                                                       Three Months Ended June 30,     Six Months Ended June 30,
                                                           2004           2003           2004            2003
                                                       -----------    -----------    -----------    -------------
<S>                                                    <C>            <C>            <C>            <C>
Net loss as reported                                   $(2,333,977)   $(3,329,395)   $(4,279,871)   $  (4,873,934)

Stock-based employee/director compensation
  included in reported net loss, net of
  any applicable related tax effects
                                                             8,250          9,720         51,174           22,005
Deduct: total stock-based employee compensation
  determined under fair value method for all awards,
  net of any applicable related tax effects
                                                          (367,839)      (355,984)      (780,528)        (755,886)
                                                       -----------    -----------    -----------    -------------
Proforma net loss, as adjusted                         $(2,693,566)   $(3,675,659)   $(5,009,225)   $  (5,607,815)
                                                       ===========    ===========    ===========    =============

Loss per share:
Basic and diluted, as reported                         $     (0.07)   $     (0.13)   $     (0.13)   $       (0.19)
Basic and diluted, as adjusted                         $     (0.08)   $     (0.14)   $     (0.15)   $       (0.22)

</TABLE>

                                       11
<PAGE>

NOTE 9.  RECENT ACCOUNTING PRONOUNCEMENTS

In May 2003, the FASB issued  Statement of Financial  Accounting  Standards,  or
SFAS No. 150, Accounting for Certain Financial  Instruments with Characteristics
of both  Liabilities  and Equity.  SFAS No. 150  establishes  standards  for how
companies   classify   and   measure   certain   financial    instruments   with
characteristics  of both  liabilities  and  equity.  It  requires  companies  to
classify a financial  instrument  that is within its scope as a liability or, in
some circumstances, an asset. SpatiaLight adopted the provisions of SFAS No. 150
effective  beginning  with the second  quarter of fiscal 2004, and such adoption
did not have a  significant  impact  on  SpatiaLight's  financial  position  and
results of operations.

In November 2003, the Emerging  Issues Task Force ("EITF")  issued EITF No. 03-6
"Participating  Securities  and the  Two-Class  Method under FASB  Statement No.
128," which provides for a two-class  method of  calculating  earnings per share
computations  that relate to certain  securities  that would be considered to be
participating  in conjunction  with certain  common stock rights.  This guidance
would be  applicable to the Company  starting  with the third quarter  beginning
July 1, 2004. The Company is currently  evaluating the potential  impact of this
pronouncement on its financial statements.

NOTE 10. SUBSEQUENT EVENTS

In July 2004, the Company  entered into an agreement with LG  Electronics,  Inc.
(LGE), a worldwide leader in electronics and television  manufacturing  based in
the  Republic  of  Korea,  providing  for  the  Company  to sell  sets of  three
imagEngine(TM)  LCoS  microdisplays with an active matrix of 1920 pixels by 1080
pixels (LCoS Sets) to LGE. See Item 2.  Management's  Discussion and Analysis of
Financial  Condition and Results of Operations for a more detailed discussion of
the agreement with LGE.

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 our  consolidated  financial
condition as of June 30, 2004,  and the results of our  operations for the three
months and six months ended June 30, 2004 and 2003. The following should be read
in  conjunction  with the  unaudited  financial  statements  and  related  notes
appearing elsewhere herein.


                                       12
<PAGE>

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 imagEngine(TM)
microdisplays  are  designed  for  use in end  products  of  original  equipment
manufacturers,  and  therefore we work closely with  customers  and  prospective
customers  to  incorporate  our  microdisplays  into their  final  products.  We
currently   lease  clean  room  space  where  we  manufacture   our  SpatiaLight
imagEngine(TM) microdisplays.  In January 2004, we expanded our clean room space
to address current and anticipated  increased  manufacturing  demand. We believe
that 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 are in the final stages of negotiating a long-term lease in Jinsa,
Gyeongnam province, in the Republic of Korea, where we will immediately commence
operations to construct  our  state-of-the-art  manufacturing  facility with the
capacity to meet mass production-scale demand from our customers and prospective
customers.  Internal  manufacturing  is subject to certain risks described under
"Business Risks and Uncertainties."

We are currently offering two types of products to our customers and prospective
customers  primarily in the Republic of Korea,  China and Taiwan. One product is
sets of three of our proprietary  SpatiaLight  imagEngine(TM) LCoS microdisplays
(LCoS Sets).  Our other product,  the display unit, is comprised of three of our
LCoS  microdisplays  fitted onto a light engine designed by SpatiaLight and Fuji
and  manufactured  by Fuji.  We  currently  manufacture  two  models of our LCoS
microdisplays. The "T-1" model has an active matrix of 1280 pixels by 960 pixels
configuration  and the newer generation "T-3" model has an active matrix of 1920
pixels by 1080 pixels configuration.

We recently formed  SpatiaLight Korea, Inc. (SLK), a corporation of the Republic
of Korea and our  wholly-owned  subsidiary  for the  purpose of  establishing  a
large-scale  manufacturing  facility  in  Korea  and for  facilitating  business
relationships in Korea and throughout all of Asia. SLK is in the final stages of
negotiating  a  long-term  lease  for 8.3  acres  of land  in  Jinsa,  Gyeongnam
province,  in the  Republic  of  Korea,  on which we will  immediately  commence
operations  to  construct  our  expandable,  approximately  25,000  square  foot
state-of-the-art   manufacturing   facility  with  the  capacity  to  meet  mass
production-scale  demand from our customers and prospective customers. We expect
to commence  physical  construction  for building the facility by the end of the
third quarter of 2004.  We expect the  aggregate  cost of building and equipping
the  facility  to  be   approximately   $11,000,000.   The  opening  of  such  a
manufacturing  facility will be for the purpose of expanding  our  manufacturing
capacity and we do not intend to layoff or otherwise terminate the employment of
any employees in the United States as the result of opening such a manufacturing
facility in Korea.

In July 2004, we entered into an agreement with LG  Electronics,  Inc.  (LGE), a
worldwide  leader  in  electronics  and  television  manufacturing  based in the
Republic of Korea,  providing for us to sell a specially tailored version of our
T-3 LCoS Sets to LGE.  Under the terms of the  agreement,  LGE has  committed to
purchase a minimum of 21,000 LCoS Sets from us over an initial six-month ramp-up
delivery  period  commencing in January 2005.  The agreement  forecasts that LGE
will commence mass production-scale purchases of LCoS Sets from us in the second
half of 2005. The agreement has a two-year  delivery term ending on December 31,
2006.  All of the rights and  obligations of the parties under the agreement are
subject to a limited  quantity of trial LCoS Sets,  a portion of which have been
delivered to LGE,  meeting  certain final  technical  specifications.  Under the
agreement,  LGE and we have agreed to work  together to the extent  necessary to
ensure that the trial LCoS Sets meet the final specifications.


                                       13
<PAGE>

The agreement provides that we will be the exclusive supplier of three-chip LCoS
microdisplay  products to LGE in 2005 and  potentially in 2006 as well. LGE will
have the exclusive right in Korea to purchase T-3 microdisplay  products from us
in 2005 and potentially in 2006 as well.

The agreement  with LGE occurred as the result of our working  together with LGE
pursuant to a joint  development  agreement entered into in May 2003. During the
course  of  that  work,  we made  specially  tailored  modifications  to our new
generation  of  T-3  microdisplays  for  LGE's  development  of a  new  line  of
state-of-the-art high definition products. LGE has advised us that it intends to
sell high definition LCoS products to the worldwide  consumer market  commencing
in early 2005.

In March 2004, we entered into a purchase order  agreement with SVA  Information
Industry  Co.,  Ltd.  (SVA) 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 provided SVA with two prototype display units in the second quarter
of 2004.  Pursuant to the terms of the purchase order, future 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.

In December 2003, we entered into a purchase order agreement with Shanghai China
Display Co., Ltd. (China  Display).  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 and a third  delivery  of 200
microdisplay sets in June 2004. We expect to continue shipping microdisplay sets
to China Display in the third 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 September  2003, we announced that we signed a purchase order  agreement with
China  Electronics  Corporation  (CEC), 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 was  cancelable  by CEC after  delivery of 110 units but CEC has
elected to proceed with additional deliveries. The agreement is subject to other
customary terms and conditions.


                                       14
<PAGE>

In January 2003, we announced  that we signed a purchase  order  agreement  with
Skyworth  Display,  Ltd.  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
with larger monthly deliveries thereafter until the order is completed. 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 had  decided to change the
target market for its LCoS televisions that it intended to manufacture using our
display units, which caused serious delays to the delivery schedule set forth in
the purchase  order  agreement.  We shipped 400 display units to Skyworth in the
second quarter of 2004. The purchase order agreement, by its terms, is currently
cancelable by Skyworth.

In October 2003, we announced that we had signed a purchase order agreement with
Nanjing Panda  Electronics Co. (Panda),  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  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 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.  We worked
with Global Display during the second quarter of 2004 on integrating our display
units with Global  Display's  technology.  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 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 May 2004, we entered into a purchase order and  development  agreement with a
leading light engine manufacturing  company based in Taiwan. We have agreed with
such customer not to disclose its name at this time.  The purchase  order is for
2000 of our LCoS Sets. We shipped one  prototype  display unit and one prototype
LCoS Set to this  customer  in the  second  quarter  of 2004 and we are  working
closely with them on technology integration. The purchase order is cancelable by
the customer and is subject to other customary terms and conditions.

We are currently  negotiating the terms of purchase orders for our products with
certain other prospective  customers,  primarily in China. 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
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  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 "Risks Factors."


                                       15
<PAGE>

LIQUIDITY AND CAPITAL RESOURCES

As of  June  30,  2004,  we  had  approximately  $2,476,000  in  cash  and  cash
equivalents,  a decrease of approximately  $3,884,000 from the December 31, 2003
amount of $6,360,000. Our net working capital at June 30, 2004 was approximately
$4,373,000  compared  to net  working  capital of  approximately  $6,229,000  at
December  31,  2003.  This  change  is due to the use of cash to fund  operating
expenses, offset by an increase in accounts receivable and non-cash prepaids.

Net cash used in  operating  activities  totaled  approximately  $4,711,000  and
$3,930,000 for the six months ended June 30, 2004 and 2003,  respectively.  Cash
was used primarily to fund the operating loss.

Net cash provided by financing  activities in the six months ended June 30, 2004
was approximately $1,070,000 as compared to approximately $5,700,000 for the six
months ended June 30,  2003.  In the second  quarter of 2004,  cash was provided
primarily from the exercise of employee stock options and warrants.  In the same
period in 2003,  cash was provided  primarily from the sale of common shares and
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 $1,125,000 and from the
exercise of warrants held by existing investors. As of June 30, 2004, there were
approximately 770,000 warrants which are exercisable and in-the-money. The total
value of these warrants,  should they be exercised, is approximately $3,300,000.
In  addition,  we expect to fund  working  capital  requirements  with  payments
received from our customers in connection  with current  purchase  orders and by
obtaining additional financing.  There can be no assurances that we will be able
to  obtain  such  financing  or that  existing  investors  will  exercise  their
warrants.

RESULTS OF OPERATIONS

Revenue.  We recognized  revenue of  approximately  $541,000 and $860,000 in the
three and six months ended June 30, 2004, respectively.  The increase in revenue
in the second quarter was related  primarily to an increase in shipments against
purchase  orders entered into in 2003 and 2004. No revenue was recognized in the
three months or six months ended June 30, 2003.

Revenue from two customers accounted for 67% and 19%, respectively, of our total
revenue for the six months ended June 30, 2004.  Revenue  recognized  from these
customers was pursuant to purchase  agreements entered into in 2003. The loss of
any one of these  customers and our inability to obtain new customers to replace
the lost  revenue  in a timely  manner  could  harm our  sales  and  results  of
operations.  Accounts  receivable  from these two customers,  Skyworth and China
Display,  accounted for 70% and 20%, respectively,  of total accounts receivable
as of June 30, 2004.

Cost of revenue.  Cost of revenue was $426,000 and $772,000 in the three and six
months  ended June 30,  2004,  respectively  and  $100,690  in the three and six
months ended June 30, 2003. Cost of revenue consists  primarily of product costs
and the  increase  in the second  quarter of 2004 is related to the  increase in
shipments of our  products.  Cost of revenue in 2003 relates to an adjustment to
restate  inventory at the lower of cost or market as our initial  purchases were
at a cost higher than we expected to incur for future purposes.


                                       16
<PAGE>

Selling,  general and administrative costs. Selling,  general and administrative
costs were approximately  $1,480,000 and $915,000 in the three months ended June
30, 2004 and 2003,  respectively and $2,485,000 and $1,373,000 in the six months
ended June 30, 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  $1,090,000  as a result of the  reassignment  of  employees  from
research and development to general and  administrative  duties and the increase
in the number of  administrative  staff,  which was due to the transition toward
commercial-scale  manufacturing of our  microdisplay  products and the hiring of
technical  support  staff in Asia.  In  addition,  travel and  lodging  expenses
increased by approximately $175,000 due to increase in travel to Asia in the six
months  ended  June 30,  2004,  related to work  performed  in  connection  with
purchase  order   agreements   entered  into  during  2003  and  other  business
development  matters.  These  increases  were  offset by a one time  expense  of
$250,000 in 2003 related to costs of obtaining  financing that had no comparable
expense in 2004.

Stock-based  compensation.  Stock-based  compensation was approximately $218,000
and  $1,485,000 in the three months ended June 30, 2004 and 2003,  respectively,
and approximately  $261,000 and $1,659,000 in the six months ended June 30, 2004
and 2003,  respectively.  The amounts  incurred  relate to common shares,  stock
options, and warrants issued. The decrease in stock-based compensation is due to
expenses  totaling  approximately  $960,000  incurred in 2003 related to the May
financing  and the  beneficial  pricing  received  by  Robert  A.  Olins,  Chief
Executive Officer, that had no comparable expense in 2004.

Research  and   development   costs.   Research  and   development   costs  were
approximately  $1,251,000  and  $1,391,000 in the six months ended June 30, 2004
and 2003,  respectively  and  $570,000  and $667,000 in each of the three months
ended  June 30,  2004 and 2003,  respectively.  Salaries  and  related  benefits
decreased  approximately  $900,000 due to the reclassification of employees from
research and development to selling, general and administrative.  Other research
and development expenses increased  approximately $600,000 due to an increase in
consulting  services as well as costs  associated  with the development of newer
generation  LCoS  microdisplay.  These costs  include  primarily  materials  and
equipment.

Interest  expense.  Interest  expense  for the six months  ended  June 30,  2004
decreased  approximately  $74,000  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 $375,000
and  $279,000  for the six months  ended June 30,  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 $222,000 due to the increase in the price of our
common shares from 2003 to 2004. Also included in non-cash  interest  expense is
the amortization of note discounts. This amount decreased approximately $126,000
due primarily to the conversion of the Alabama Group notes in November 2003.

Critical Accounting Policies


                                       17
<PAGE>

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):

     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,  which, for us, is generally when
          product has been delivered to a common carrier.

     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.

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.

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 six
months ended June 30, 2004, we incurred net losses of approximately  $4,280,000.
In addition,  we had an accumulated  deficit of approximately  $62,554,000 as of
June  30,  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.


                                       18
<PAGE>

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
$1,070,000  raised through  exercises of stock options and warrants during 2004,
we will 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 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.

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

We  currently   have  eleven   full-time   engineering   and  eleven   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.


                                       19
<PAGE>

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 additional clean room space 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 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.

WHILE WE INTEND TO OPEN A MANUFACTURING FACILITY IN THE REPUBLIC OF KOREA AS THE
PRINCIPAL FACILITY FOR MANUFACTURING OUR MICRODISPLAY PRODUCTS, WE MAY ENCOUNTER
DELAYS  IN  BUILDING  SUCH  A  FACILITY,   DIFFICULTIES  IN  TRANSITIONING   OUR
MANUFACTURING  OPERATIONS AND  DIFFICULTIES IN MAINTAINING OUR QUALITY  CONTROLS
OVER THE MANUFACTURING AND PRODUCTION PROCESSES, ANY OF WHICH WOULD BE LIKELY TO
CAUSE SIGNIFICANT HARM TO OUR BUSINESS.


                                       20
<PAGE>

Our decision to locate our principal manufacturing operations in the Republic of
Korea  may cause us to  encounter  one or more  potential  problems  that  could
severely harm our business.  Such  potential  problems could arise in connection
with constructing the facility to our specifications in a timely manner to allow
us to meet the product demand from our customers,  which would negatively impact
our ability to sustain current purchase orders and enter into new purchase order
arrangements  with our current and  prospective  customers.  Other  problems may
arise in the training of employees, which may occur as the result of cultural or
language differences, which may create misunderstandings or cause inefficiencies
in our operations.  The geographic  separation  between our corporate offices in
the United  States and our  principal  manufacturing  operation  in Korea  could
result in  managerial  or  supervisory  problems,  which could lead to decreased
quality controls and a subsequent material harm to our business.


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 MAY BECOME  LARGELY  DEPENDENT ON ONE  CUSTOMER  FOR OUR FUTURE  REVENUES AND
FAILURE  TO EXPAND  OUR  CUSTOMER  BASE OR RECEIVE  ADDITIONAL  ORDERS  FROM OUR
EXISTING  CUSTOMER BASE WILL MAKE US VULNERABLE TO SUBSTANTIAL LOSS OF POTENTIAL
REVENUES.


                                       21
<PAGE>

Commencing in January 2005, it is possible that a substantial  percentage of our
anticipated  revenues will be derived from LG Electronics,  Inc., based upon our
agreement  with LGE  discussed  in Note 10 to the  financial  statements.  If we
cannot  diversify  our  customer  base or  derive  increased  revenues  from our
existing   customer  base  through   additional   purchase  orders  and  product
deliveries,  and  therefore  we rely  on only  one  customer  for a  substantial
percentage of our anticipated  revenues,  we will be vulnerable to a substantial
decline in  anticipated  revenues if we lose LGE as a customer for any reason or
if LGE were to  otherwise  reduce,  delay or cancel its orders.  Any such events
could  cause a material  and  adverse  effect on our  business,  operations  and
financial   condition   and  the  value  of  our  common  shares  could  decline
substantially.

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.

Even though we have received purchase orders for our microdisplay  products from
a major  Korean OEM and from eight  Chinese  OEMs and we may receive  additional
purchase   orders  from  our  prospective   customers,   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,  despite
the purchase  orders  received from current  customers and other purchase orders
that we may receive from 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.

     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.


                                       22
<PAGE>

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 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;


                                       23
<PAGE>


     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;

     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,  ANY FUTURE  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  14.37% of the total  number of our common  shares that are issued
and outstanding as of August 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.


                                       24
<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.


                                       25
<PAGE>

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 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.

ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS


                                       26
<PAGE>

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 June 30, 2004, our
cash and cash equivalents totaled approximately $2,476,000.


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.


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<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.


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

At the Annual Meeting of Shareholders held on June 16, 2004 and at the Adjourned
Annual Meeting of Shareholders  held on July 7, 2004, the shareholders  approved
the following:

PROPOSAL NO. 1

1.   The election of Lawrence J.  Matteson as a director of the  Corporation  to
     serve for the  ensuing  year and until his  successor  is duly  elected and
     qualified.

     For:  33,873,068     Against:  42,415    Abstain:  0

2.   The election of Robert C. Munro as a director of the  Corporation  to serve
     for the ensuing year and until his successor is duly elected and qualified.

     For:  33,873,068     Against:  42,415    Abstain:  0

3.   The election of Robert A. Olins as a director of the  Corporation  to serve
     for the ensuing year and until his successor is duly elected and qualified.

     For:  33,873,068     Against:  42,415    Abstain:  0

4.   The election of Claude Piaget as a director of the Corporation to serve for
     the ensuing year and until his successor is duly elected and qualified.

     For:  33,873,068     Against:  42,415    Abstain:  0

PROPOSAL NO. 2

5.   To adopt an  amendment  to the  Corporation's  1999  Stock  Option  Plan to
     increase  the  number  of the  Corporation's  common  shares  reserved  for
     issuance thereunder.

     For:  18,587,103     Against:  946,646   Abstain:  127,653

PROPOSAL NO. 3

6.   To approve the sale by the Corporation to Robert A. Olins,  Chief Executive
     Officer  and  a  Director  of  the   Corporation,   of   1,357,441  of  the
     Corporation's  common  shares  and a Warrant  to  purchase  339,360  common
     shares.

     For:  18,568,283     Against:  973,889   Abstain:  119,230

PROPOSAL NO. 4

7.   The   ratification  of  the   appointment  of  BDO  Seidman,   LLP  as  the
     Corporation's  independent  public  accountants  for the fiscal year ending
     December 31, 2004.

     For:  33,833,775     Against:  31,737    Abstain:  49,971


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ITEM 6.  EXHIBITS AND REPORTS ON FORM 8-K

     (a)  Exhibits

          4.1  Amended and Restated Certificate of Incorporation. *

          4.2  Bylaws. *

          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 Sidney B. Landman.

          32.1 Certifications  of Robert A. Olins and Sidney B. Landman 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.


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<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:  August 11, 2004
                                                  ------------------------------


                                              SPATIALIGHT, INC.


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


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