United States
                       Securities and Exchange Commission
                             Washington, D.C. 20549
--------------------------------------------------------------------------------
                                   FORM 10-Q/A

(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, 2005

|_|   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 |X| No |_|

                      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: 36,206,013 common shares as of
August 8, 2005.

                                       1
<PAGE>

Explanatory Note

This Amendment on Form 10-Q/A is being filed solely for the purposes of:

      1)    Replacing Exhibit 10.1 with the fully executed Purchase Agreement
            dated as of August 5, 2005; and

      2)    Filing a new Exhibit 31.1 to state the certifications required by
            Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended,
            exactly as set forth in item 601(b)(31) of Regulation S-K.



<PAGE>

                                SPATIALIGHT, INC.

                          Quarterly Report on Form 10-Q
                       For the Quarter Ended June 30, 2005

                                Table of Contents

PART I        FINANCIAL INFORMATION

    Item 1.   Condensed Consolidated Financial Statements (unaudited)

              Condensed Consolidated Balance Sheets as of
              June 30, 2005 and December 31, 2004..............................3

              Condensed Consolidated Statements of Operations
              for the Three and Six Months
              Ended June 30, 2005 and 2004.....................................4

              Condensed Consolidated Statement of Stockholders' Equity
              for the Six Months Ended June 30, 2005...........................5

              Condensed Consolidated Statements of Cash Flows
              for the Six Months Ended June 30, 2005 and 2004..................6

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

    Item 2.   Management's Discussion and Analysis
              of Financial Condition and Results of Operations................18

    Item 3.   Quantitative and Qualitative Disclosures about Market Risks.....37

    Item 4.   Controls and Procedures.........................................38

PART II       OTHER INFORMATION

    Item 2.   Changes in Securities and Use of Proceeds.......................41

    Item 4.   Submission of Matters to a Vote of Security Holders.............41

    Item 5.   Other Information...............................................42

    Item 6.   Exhibits and Reports on Form 8-K................................43

              Signatures......................................................44


                                       2

<PAGE>

PART I.  FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements

                                SPATIALIGHT, INC.
                     CONSDENSED CONSOLIDATED BALANCE SHEETS

<TABLE>
<CAPTION>
                                                                   June 30,      December 31,
                                                                     2005            2004
                                                                 ------------    ------------
                                                                 (unaudited)
<S>                                                              <C>             <C>
ASSETS

Current assets
  Cash and cash equivalents                                      $    390,925    $  9,087,551
  Accounts receivable, net of allowance of $0 and $345,030
    at June 30, 2005 and December 31, 2004, respectively               79,424         264,053
  Inventory                                                         1,190,348       1,173,314
  Prepaids and other current assets                                   942,281         949,711
  Prepaid non-cash interest to related party                        1,157,133         913,889
                                                                 ------------    ------------
          Total current assets                                      3,760,111      12,388,518

Property, plant and equipment, net                                  6,346,064         858,212
Construction in progress                                                   --       2,801,521
Prepaid non-cash interest to related party                          2,892,831       3,474,386
Other assets                                                           73,398         123,774
                                                                 ------------    ------------

               Total assets                                      $ 13,072,404    $ 19,646,411
                                                                 ============    ============

LIABILITIES AND STOCKHOLDERS' EQUITY

Current liabilities
  Accounts payable                                               $  1,452,384    $    601,394
  Note purchase option liability                                        2,102         659,874
  Accrued expenses and other current liabilities                      770,199       2,533,546
                                                                 ------------    ------------
        Total current liabilities                                   2,224,685       3,794,814

Senior secured and other convertible notes                         10,118,126       9,885,140
                                                                 ------------    ------------

               Total liabilities                                   12,342,811      13,679,954
                                                                 ------------    ------------

Commitments

Stockholders' equity
  Common stock, $.01 par value:
     50,000,000 shares authorized;
     36,088,513 and 35,326,436 shares issued and outstanding,
     at June 30, 2005 and December 31, 2004, respectively             360,885         353,264
Additional paid-in capital                                         73,696,122      69,384,146
Notes receivable                                                      (48,496)       (241,462)
Common shares issuable                                                     --       4,038,149
Other comprehensive income                                             35,266          73,562
Accumulated deficit                                               (73,314,184)    (67,641,202)
                                                                 ------------    ------------
        Total stockholders' equity                                    729,593       5,966,457
                                                                 ------------    ------------

Total liabilities and stockholders' equity                       $ 13,072,404    $ 19,646,411
                                                                 ============    ============
</TABLE>

     See accompanying notes to condensed consolidated financial statements.


                                       3
<PAGE>


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

<TABLE>
<CAPTION>
                                                                       Three months ended June 30,        Six months ended June 30,
                                                                            2005            2004            2005            2004
                                                                       ------------    ------------    ------------    ------------
<S>                                                                    <C>             <C>             <C>             <C>
Revenue                                                                $     41,149    $    540,775    $    138,908    $    859,875
Cost of revenue                                                              89,044         425,649         158,888         772,331
                                                                       ------------    ------------    ------------    ------------
       Gross margin                                                         (47,895)        115,126         (19,980)         87,544
                                                                       ------------    ------------    ------------    ------------

Selling, general and administrative expenses:
   Selling, general and administrative expenses                           1,772,227       1,479,858       3,481,792       2,485,803
   Stock-based general and administrative expenses                            8,250         218,250         107,300         261,174
                                                                       ------------    ------------    ------------    ------------
       Total selling, general and administrative expenses                 1,780,477       1,698,108       3,589,092       2,746,977

   Research and development expenses                                      1,165,634         569,798       1,659,130       1,251,558
                                                                       ------------    ------------    ------------    ------------

       Total operating expenses                                           2,946,111       2,267,906       5,248,222       3,998,535
                                                                       ------------    ------------    ------------    ------------

       Operating loss                                                    (2,994,006)     (2,152,780)     (5,268,202)     (3,910,991)
                                                                       ------------    ------------    ------------    ------------

Other income (expenses):
  Interest expense:
       Interest expense                                                    (267,775)        (18,301)       (534,910)        (36,120)
       Non-cash interest expense                                           (277,592)       (187,696)       (555,184)       (375,392)
                                                                       ------------    ------------    ------------    ------------
        Total interest expense                                             (545,367)       (205,997)     (1,090,094)       (411,512)
                                                                       ------------    ------------    ------------    ------------

Other income:
       Gain from the revaluation of note purchase option liability            6,537              --         657,772              --
       Interest and other income                                              8,389          24,800          27,542          42,632
                                                                       ------------    ------------    ------------    ------------
        Total other income                                                   14,926          24,800         685,314          42,632
                                                                       ------------    ------------    ------------    ------------

       Total other income (expenses)                                       (530,441)       (181,197)       (404,780)       (368,880)
                                                                       ------------    ------------    ------------    ------------

Net loss                                                               $ (3,524,447)   $ (2,333,977)   $ (5,672,982)   $ (4,279,871)
                                                                       ============    ============    ============    ============

Net loss per share - basic and diluted                                 $      (0.10)   $      (0.07)   $      (0.16)   $      (0.13)
                                                                       ============    ============    ============    ============

Weighted average shares used in computing
 net loss per share- basic and diluted                                   35,965,774      33,153,429      35,892,277      32,955,434
                                                                       ============    ============    ============    ============
</TABLE>

     See accompanying notes to condensed consolidated financial statements.


                                       4
<PAGE>

                                SPATIALIGHT, INC.
      CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY (unaudited)
                         SIX MONTHS ENDED JUNE 30, 2005

<TABLE>
<CAPTION>
                                                                                          ADDITIONAL
                                                                COMMON STOCK               PAID-IN          NOTES
                                                            SHARES          AMOUNT         CAPITAL        RECEIVABLE
                                                         ------------    ------------    ------------    ------------
<S>                                                      <C>             <C>             <C>             <C>
Balance, January 1, 2005                                   35,326,436    $    353,264    $ 69,384,146    $   (241,462)

Exercise of stock options and warrants                        180,572           1,806          98,955              --

Issuance of common shares issuable                            581,505           5,815       4,032,334              --

Issuance of options below FMV to employees                         --              --          16,500              --

Issuance of warrants for services                                  --              --         164,187              --

Repayment of notes receivable from stockholder                     --              --              --         200,000

Accrued interest on notes receivable from stockholder              --              --              --          (7,034)

Comprehensive loss:

    Foreign currency translation adjustment                        --              --              --              --

    Net loss                                                       --              --              --              --

        Total comprehensive loss                                   --              --              --              --
                                                         ------------    ------------    ------------    ------------
Balance, June 30, 2005                                     36,088,513    $    360,885    $ 73,696,122    $    (48,496)
                                                         ============    ============    ============    ============

<CAPTION>
                                                           COMMON             OTHER                            TOTAL
                                                           STOCK            COMPREHEN-      ACCUMULATED     STOCKHOLDERS'
                                                          ISSUABLE         SIVE INCOME        DEFICIT          EQUITY
                                                         ------------     ------------     ------------     ------------
<S>                                                      <C>              <C>              <C>              <C>
Balance, January 1, 2005                                 $  4,038,149     $     73,562     $(67,641,202)    $  5,966,457

Exercise of stock options and warrants                             --               --               --          100,761

Issuance of common shares issuable                         (4,038,149)              --               --               --

Issuance of options below FMV to employees                         --               --               --           16,500

Issuance of warrants for services                                  --               --               --          164,187

Repayment of notes receivable from stockholder                     --               --               --          200,000

Accrued interest on notes receivable from stockholder              --               --               --           (7,034)

Comprehensive loss:

    Foreign currency translation adjustment                        --          (38,296)              --          (38,296)

    Net loss                                                       --               --       (5,672,982)      (5,672,982)
                                                                                                            ------------
        Total comprehensive loss                                   --               --               --       (5,711,278)
                                                         ------------     ------------     ------------     ------------
Balance, June 30, 2005                                   $         --     $     35,266     $(73,314,184)    $    729,593
                                                         ============     ============     ============     ============
</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,
                                                                                   2005            2004
                                                                               -----------     -----------
<S>                                                                            <C>             <C>
Cash flows from operating activities:
Net loss                                                                       $(5,672,982)    $(4,279,871)
Adjustments to reconcile net loss to net cash used by operating activities:

  Depreciation and amortization                                                    237,563         219,991
  Stock-based general and administrative expenses                                  107,300         261,174
  Non-cash interest expense                                                        555,184         375,392
  Gain from revaluation of note purchase option liability                         (657,772)             --
  Accrued interest on notes receivable from stockholder                             (7,034)        (28,332)
  Changes in operating assets and liabilities:
     Accounts receivable                                                           184,629        (709,400)
     Inventory                                                                     (17,034)       (131,744)
     Prepaid and other current assets                                               96,930        (226,072)
     Other assets                                                                   10,825          (4,100)
     Accounts payable                                                              850,990        (253,792)
     Accrued expenses and other current liabilities                             (1,149,412)         66,209
                                                                               -----------     -----------

             Net cash used in operating activities                              (5,460,813)     (4,710,545)
                                                                               -----------     -----------

Cash flows from investing activities:
  Acquisition of property, plant and equipment                                  (3,537,829)       (244,080)
                                                                               -----------     -----------

           Net cash used in investing activities                                (3,537,829)       (244,080)
                                                                               -----------     -----------

Cash flows from financing activities:
  Payments received from notes receivable                                          200,000              --
  Proceeds from exercise of warrants and options                                   100,761       1,070,210
                                                                               -----------     -----------

           Net cash provided by financing activities                               300,761       1,070,210
                                                                               -----------     -----------

Net decrease in cash and cash equivalents                                       (8,697,881)     (3,884,415)

Effect of exhange rate differences on cash                                           1,255              --

Cash and cash equivalents at beginning of period                                 9,087,551       6,359,969
                                                                               -----------     -----------
Cash and cash equivalents at end of period                                     $   390,925     $ 2,475,554
                                                                               ===========     ===========

Non-cash financing activities:
  Common shares issued upon conversion of interest and notes                   $        --     $ 1,138,374
                                                                               ===========     ===========
  Warrants issued for fundraising services provided                            $    73,387     $        --
                                                                               ===========     ===========
</TABLE>

     See accompanying notes to condensed consolidated financial statements.


                                       6
<PAGE>

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

Note 1. Business Description

We are in the business of manufacturing high-resolution liquid crystal on
silicon (LCoS) microdisplays. We are currently offering two types of products,
(i) LCoS Sets and (ii) display units, to our customers and prospective
customers, who are located primarily in Asia. We currently manufacture two
models of our LCoS Sets. The T-3 model has a 1920 pixels by 1080 pixels
configuration, while the T-1 model has a lower resolution of 1280 pixels by 960
pixels configuration. .

Our current customers and current prospective customers are original equipment
manufacturers (OEMs) engaged in the businesses of manufacturing high definition
televisions or manufacturing light engines for incorporation into high
definition televisions. Our products are also suitable for incorporation into
other potential display applications including rear projection computer
monitors, wireless communication devices, portable games and digital assistants,
although we are not currently working with OEMs on any of these products.

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 with accounting principles generally
accepted in the United States of America. In our management's opinion, 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 our Annual
Report on Form 10-K/A, which contains the audited financial statements and notes
thereto, together with the Management's Discussion and Analysis, for the year
ended December 31, 2004. The interim results for the period ended June 30, 2005
are not necessarily indicative of results for the full fiscal year.

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

Note 3. Liquidity

From inception through June 30, 2005, we have sustained recurring net losses
from operations totaling approximately $73.3 million and at June 30, 2005, had
total equity of approximately $0.7 million and net working capital of
approximately $1.5 million. During the three and six months ended June 30, 2005,
we experienced net cash outflows of approximately $3.7 million and $8.7 million,
respectively. We recognized net losses for the three and six months ended June
30, 2005, of approximately $3.5 million and $5.7 million, respectively.

We expect to meet our cash needs and fund our working capital requirements with
our existing cash balances and from certain additional sources. Those sources
include proceeds of approximately $2.7 million that we received from the sale of
500,000 of our common shares on August 5, 2005 from a currently effective
"shelf" registration statement, as more fully described in Note 12. Other
anticipated sources are cash payments from our customers, the exercises of stock
options and warrants and additional sales of our common shares from the "shelf"
registration statement. There can be no assurances with respect to these
potential sources. In addition, the purchasers in the November 2004 Financing
have the option, which expires on August 31, 2005, to lend us an additional $5
million on the same terms as the November 2004 Financing, as more fully
described in Note 7. It is uncertain whether the November 2004 Financing
purchasers will exercise this option. Robert A. Olins, our Chief Executive
Officer and a director and Greenpark Limited, an unaffiliated shareholder,
jointly and severally committed to provide us with additional financing as more
fully described in Note 7. We believe that our current cash and cash equivalents
as of June 30, 2005, combined with the proceeds from the August 2005 Equity
Financing and the financing commitment from Robert A. Olins and Greenpark
Limited will be sufficient to meet our capital and liquidity requirements for
our operations through at least the second quarter of 2006.


                                       7
<PAGE>

Note 4. Stock-Based Compensation

We account for our stock-based compensation arrangements for employees and
directors using the intrinsic value method pursuant to Accounting Principles
Board Opinion (APB) No. 25, "Accounting for Stock Issued to Employees." As such,
compensation expense is recorded when, on the date of grant, the fair value of
the underlying common shares exceeds the exercise price for stock options or the
purchase price for issuances or sales of common shares. Pursuant to Statement of
Financial Accounting Standards (SFAS) No. 123 "Accounting for Stock-Based
Compensation," we disclose the pro forma effects of using the fair value method
of accounting for stock-based employee and director compensation arrangements
and record compensation expense for the fair value of options granted to
non-employees.

If we had elected the fair value method of accounting for employee and director
stock options, 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 and six months ended June
30, 2005 and 2004 as if we had elected the fair value method of accounting for
stock options.

<TABLE>
<CAPTION>
                                                          Three months ended June 30,       Six months ended June 30,
                                                             2005             2004             2005             2004
                                                        ------------     ------------     ------------     ------------
<S>                                                     <C>              <C>              <C>              <C>
Net loss as reported                                    $ (3,524,447)    $ (2,333,977)    $ (5,672,982)    $ (4,279,871)

Add: Stock-based employee/director compensation
  included in reported net loss, net of any
  applicable related tax effects                               8,250            8,250           16,500           51,174
Deduct: total stock-based employee compensation
  determined under fair value method for all awards,
  net of any applicable related tax effects               (1,270,330)        (367,839)      (2,313,430)        (780,528)
                                                        ------------     ------------     ------------     ------------

Proforma net loss, as adjusted                          $ (4,786,527)    $ (2,693,566)    $ (7,969,912)    $ (5,009,225)
                                                        ============     ============     ============     ============

Net loss per share:
Basic and diluted, as reported                          $      (0.10)    $      (0.07)    $      (0.16)    $      (0.13)
Basic and diluted, as adjusted                          $      (0.13)    $      (0.08)    $      (0.22)    $      (0.15)
</TABLE>


                                       8
<PAGE>

Note 5. Per Share Information

Basic net 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. Diluted net 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. The table below reflects potentially
dilutive securities which were excluded from the computation of diluted net loss
per share for the three months and six months ended June 30, 2005 and 2004
because the effect of their assumed exercise would be antidilutive.

<TABLE>
<CAPTION>
                                                         As of June 30,
                                            2005                              2004
                                  --------------------------       -----------------------------
                                                   Weighted                            Weighted
                                   Number of        Average          Number of          Average
                                  Potentially      Exercise/       Potentially         Exercise/
                                    Dilutive      Conversion         Dilutive         Conversion
                                     Shares          Price            Shares             Price
                                    ---------        ------         ---------           ------
<S>                                 <C>              <C>            <C>                 <C>
Stock options and warrants          6,646,211        $ 4.00         5,938,195           $ 2.37
Convertible notes                   3,404,807        $ 3.29         2,376,000           $ 0.50
                                   ----------                       ---------
  Total                            10,051,018                       8,314,195
                                   ==========                       =========
</TABLE>

Note 6. Property, Plant and Equipment

Property, plant and equipment include:

                                                            As of
                                            June 30, 2005    December 31, 2004
                                            -------------    -----------------
Building                                      $ 3,990,410          $        --
Other equipment and instruments                 2,127,571            1,901,333
Machinery and manufacturing equipment           1,224,708                   --
Office furniture and fixtures                     662,851              545,201
Tooling                                           371,700              344,890
Leasehold improvements                            175,654              175,654
Computer software                                 126,803                   --
Computer hardware                                  55,287                   --
                                              -----------          -----------

Total property, plant and equipment             8,734,984            2,967,078
Accumulated depreciation                       (2,388,920)          (2,108,866)
                                              -----------          -----------
Property, plant and equipment, net            $ 6,346,064          $   858,212
                                              ===========          ===========


                                       9
<PAGE>

Note 7. Notes Payable

Convertible notes at June 30, 2005 consist of the following:

Argyle Notes:

In 1998, we received $1,188,000 in cash in exchange for notes payable in that
amount to Argyle Capital Management Corporation (Argyle), a company owned and
controlled by Robert A. Olins, our Chief Executive Officer, Secretary,
Treasurer, and a Director. The notes accrue interest at a contractual rate of 6%
per annum, and are secured by substantially all of our assets. Both principal
and interest are convertible into our 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 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.
This discount, along with the contractual 6% interest rate, resulted in a new
effective interest rate of 72% per annum as of the May 23, 2001 extension date
when compared to the outstanding principal balances. The effective rate prior to
extension had been the 6% per annum contractual rate.

On September 20, 2002, the due date was extended until March 31, 2004.
Accordingly, the remaining unamortized discount at the extension date of
$198,000 was being amortized through March 31, 2004, resulting in a new
effective interest rate of 17% per annum when compared to the outstanding
principal balances. On December 31, 2003, the due date was extended until June
30, 2005. Accordingly, the remaining unamortized discount of $33,000 at the
extension date was being amortized through June 30, 2005, resulting in a new
effective interest rate of 8% per annum when compared to the outstanding
principal balances. On November 30, 2004, the due date was extended until
December 31, 2008. The remaining unamortized discount of $11,000 at the
extension date was amortized through June 30, 2005.

On March 4, 2004, we issued 71,676 common shares with a market value of $338,311
as a prepayment of interest payable on the Argyle notes of $35,640 for the
period January 1, 2005 to June 30, 2005. Prepaid interest was computed using the
closing price of the shares of $4.72 on March 3, 2004. In December 2004, we
issued 50,000 common shares, and in January 2005, we issued 448,764 common
shares, as a prepayment of interest payable on the Argyle notes of $249,480 for
the period July 1, 2005 through December 31, 2008. These shares had a market
value of $4,049,964, based on the closing price of the shares of $8.12 on
December 21, 2004. As of June 30, 2005, total prepaid interest on the Argyle
notes for the period July 1, 2005 to December 31, 2008 is $4,049,964 with
$1,157,133 classified as a current asset, and $2,892,831 classified as a
non-current asset.

At June 30, 2005, the carrying value of the Argyle notes totaled $1,188,000
representing the principal unpaid balance.

The November 2004 Financing:

On November 30, 2004, we completed a non-brokered private placement of $10
million of senior secured notes (the 2004 Senior Secured Convertible Notes). The
2004 Senior Secured Convertible Notes accrue interest at 10%, payable quarterly,
and the interest is payable in cash or common shares, at our option (if certain
conditions are met). The value of the shares for the purposes of calculating
interest payments shall be equal to the 20-day trailing average of the volume
weighted average prices of our common shares at the end of each quarterly
interest period. The 2004 Senior Secured Convertible Notes are due November 30,
2007.


                                       10
<PAGE>

The 2004 Senior Secured Convertible Notes are convertible, at the option of the
holders, into our common shares at the conversion price of $9.72 per share. The
conversion price of the principal amount of the 2004 Senior Secured Convertible
Notes is equal to a 25% premium above the ten-day trailing average of the volume
weighted average price of our common shares for the period ended November 29,
2004, which was $7.78. As part of the November 2004 Financing, the purchasers
required Argyle to enter into an intercreditor and subordination agreement (the
Intercreditor Agreement) pursuant to which Argyle agreed to subordinate our
obligations to Argyle and the senior security interest in substantially all of
our assets that were granted under the Argyle Notes to the interest represented
by the purchasers of the 2004 Senior Secured Convertible Notes. In addition,
under the terms of the November 2004 Financing, we are prohibited from using the
funds to repay debt or to pay dividends.

We are required to file a registration statement for resale of the shares
issuable upon conversion of the notes and have the registration statement
declared effective no later than 120 days after December 21, 2004. Pursuant to
our amended registration rights agreement with the noteholders, if the
registration does not become effective by April 20, 2005, or does not remain
effective, we may be required to pay each noteholder cash equal to 1% of the
purchase price of the notes, and 1% for every 30 days thereafter until the
registration becomes effective. However, each of the noteholders has agreed to
waive its right to these payments in the event that the applicable registration
statement is declared effective no later than July 29, 2005. On July 29, 2005
the SEC declared the registration statement effective pursuant to Section 8(a)
of the Securities Act of 1933, as amended.

In consideration for Argyle entering into the Intercreditor Agreement, our Board
of Directors authorized us to enter into an extension and modification agreement
with Argyle with respect to the Argyle Notes (the Extension Agreement) under
which the due date of the Argyle Notes was extended to December 31, 2008.

Under the terms of the November 2004 Financing, Robert A. Olins and Greenpark
Limited, an unaffiliated shareholder, jointly and severally committed, in the
event that the Board of Directors determines that such financing is necessary,
to provide us with up to an additional $6 million in future financing on terms
and conditions to be determined at the time of any such transaction. That
financing commitment shall be reduced by any funds that we receive from future
sales or exercises of our equity, debt or derivative securities, including the
sale of our common shares under the prospectus that we filed with the SEC on
January 28, 2005, as a part of a "shelf" registration process. As of the date of
this filing, taking into account the August 2005 Equity Financing and stock
option exercises, we had received an aggregate total of $3,761,413 thereby
reducing the commitment by Mr. Olins and Greenpark Limited by an equal aggregate
amount.

Under the terms of the November 2004 Financing, the purchasers received the
right (additional investment rights or AIR) to purchase up to an additional $5
million of senior secured convertible notes subject to the same terms and
conditions, including the same conversion price as the notes issued in the
November 2004 Financing. The AIR originally expired on November 30, 2005, but
was amended on December 21, 2004 to expire on August 31, 2005. The fair value of
the AIR was calculated on the November 30, 2004 issuance date at $1,072,248
using the Black-Scholes option pricing model (see table below.) This AIR is
being treated as a derivative and has been recorded as a note purchase option
liability and as a discount on the 2004 Senior Secured Convertible Notes. The
AIR is not a hedging derivative. The fair value of the derivative will be
recalculated on a quarterly basis until exercise or expiration to reflect the
changing market price of the stock, the remaining contractual term, and the
changing volatility. The objective in entering into the agreement for the AIR
was that it was required by the lenders in order to complete the financing
agreement. Below is a table reflecting the fair value of the AIR at each period
end date and the Black-Scholes assumptions used to calculate the fair value. The
assumptions changed from the November 2004 valuation date in that the market
price of our common shares had changed, the contractual life had changed due to
the December 21, 2004 amendment, and the volatility changed as a result of the
changes in market price and contractual life. Any reduction in the note purchase
option liability due to the revaluation of the AIR is recorded as a gain from
the revaluation of the note purchase option liability and is included in other
income.


                                       11
<PAGE>

<TABLE>
<CAPTION>
                                        Gain Recognized     Cumulative    Current Stock  Volatility      Risk-Free     Contractual
   Fair Value Date*       Fair Value      for Quarter          Gain           Price                    Interest Rate      Term
----------------------------------------------------------------------------------------------------------------------------------
<S>                      <C>            <C>                 <C>            <C>               <C>           <C>          <C>
November 30, 2004        $1,072,248     $       --          $       --     $     8.83        67%           2.50%        1 year
December 31, 2004        $  659,874     $  412,374          $  412,374     $     8.95        52%           2.50%        8 months
March 31, 2005           $    8,639     $  651,235          $1,063,609     $     5.05        49%           2.50%        5 months
June 30, 2005            $    2,102     $    6,537          $1,070,146     $     5.67        54%           3.00%        2 months
</TABLE>

*     Exercise price for all dates is $9.72 per share and dividend yield for all
      dates is zero.

The $1,072,248 discount applied to the 2004 Senior Secured Convertible Notes
gave rise to a beneficial conversion feature of $156,610 resulting from the
excess aggregate value of the common shares issuable upon conversion of the 2004
Senior Secured Convertible Notes into common shares over the discounted carrying
value of the 2004 Senior Secured Convertible Notes at the issuance date. The
resulting beneficial conversion feature is treated as an additional discount to
the 2004 Senior Secured Convertible Notes and an increase in additional paid-in
capital, and will be amortized, along with the original discount related to the
value of the AIR, over the life of the 2004 Senior Secured Convertible Notes. In
addition, $100,000 of legal fees reimbursed to one of the lenders was recorded
as a note discount and is being amortized over the life of the notes. Additional
financing costs of $117,162 were recorded as prepaid expenses and are being
amortized over the life of the notes.

Activity in notes payable for the six months ended June 30, 2005 is as follows:


                                       12
<PAGE>

<TABLE>
<CAPTION>
Debt Principal:                                  Balance at                        (Payment) or                           Balance
                                                December 31,       Addition or       Discount        Conversion to      at June 30,
                                                    2004          New Discount     Amortization         Equity             2005
                                                ------------      ------------     ------------      ------------      ------------
<S>                                             <C>               <C>              <C>               <C>               <C>
Argyle                                          $  1,188,000      $         --     $         --      $         --      $  1,188,000
Argyle discount                                      (11,000)               --           11,000                --                --
November financing                                10,000,000                --               --                --        10,000,000
November financing beneficial conversion            (152,260)               --           26,100                --          (126,160)
Reimbursement of investor's legal fees               (97,222)               --           16,666                --           (80,556)
November financing AIR discount                   (1,042,378)               --          179,220      $         --          (863,158)
                                                ------------      ------------     ------------      ------------      ------------
                  Total                         $  9,885,140      $         --     $    232,986      $         --      $ 10,118,126
                                                ============      ============     ============      ============      ============


Interest:
Accrued Argyle 6%                               $         --      $     35,640     $         --      $    (35,640)     $         --
Beneficial interest                                       --           302,670               --          (302,670)               --
November financing                                    84,932           500,000         (502,740)               --            82,192
                                                ------------      ------------     ------------      ------------      ------------
                  Total                         $     84,932      $    838,310     $   (502,740)     $   (338,310)     $     82,192
                                                ============      ============     ============      ============      ============
</TABLE>

Non-cash interest expense is as follows:

<TABLE>
<CAPTION>
                                                                Six months ended June 30,
                                                                -------------------------
                                                                  2005           2004
                                                                --------       --------
<S>                                                             <C>            <C>
Amortization of note discounts and prepaid financing costs      $252,514       $ 11,000
Effect of beneficial conversion privileges
  on accrued interest                                            302,670        364,392
                                                                --------       --------
                                                                $555,184       $375,392
                                                                ========       ========
</TABLE>

Activity in notes payable for the three months ended June 30, 2005 is as
follows:

<TABLE>
<CAPTION>
Debt Principal:                                  Balance at                        (Payment) or                         Balance at
                                                  March 31,       Addition or        Discount        Conversion to       June 30,
                                                    2005          New Discount     Amortization         Equity             2005
                                                ------------      ------------     ------------      ------------      ------------
<S>                                             <C>               <C>              <C>               <C>               <C>
Argyle                                          $  1,188,000      $         --     $         --      $         --      $  1,188,000
Argyle discount                                       (5,500)               --            5,500                --                --
November financing                                10,000,000                --               --                --        10,000,000
November financing beneficial conversion            (139,210)               --           13,050                --          (126,160)
Reimbursement of investor's legal fees               (88,889)               --            8,333                --           (80,556)
November financing AIR discount                 $   (952,768)     $         --     $     89,610      $         --          (863,158)
                                                ------------      ------------     ------------      ------------      ------------
                  Total                         $ 10,001,633      $         --     $    116,493      $         --      $ 10,118,126
                                                ============      ============     ============      ============      ============


Interest:
Accrued Argyle 6%                               $         --      $     17,820     $         --      $    (17,820)     $         --
Beneficial interest                                       --           151,335               --          (151,335)               --
November financing                                    84,932           250,000         (252,740)               --            82,192
                                                ------------      ------------     ------------      ------------      ------------
                  Total                         $     84,932      $    419,155     $   (252,740)     $   (169,155)     $     82,192
                                                ============      ============     ============      ============      ============
</TABLE>


                                       13
<PAGE>

Non-cash interest expense is as follows:

<TABLE>
<CAPTION>
                                                               Three months ended June 30,
                                                               ---------------------------
                                                                 2005               2004
                                                               --------           --------
<S>                                                            <C>                <C>
Amortization of note discounts and prepaid financing costs     $126,257           $  5,500
Effect of beneficial conversion privileges
  on accrued interest                                           151,335            182,196
                                                               --------           --------
                                                               $277,592           $187,696
                                                               ========           ========
</TABLE>

Note 8. Issuance of Securities

Exercise of Stock Options and Warrants in the Three and Six Months Ended June
30, 2005

During the second quarter of 2005, 57,550 and 105,557 common shares were issued
upon the exercise of employee/director stock options and warrants, respectively.
During the first six months of 2005, 75,015 and 105,557 common shares were
issued upon the exercise of employee/director stock options and warrants,
respectively. The warrant exercises were cashless exercises pursuant to the
warrant agreements. Total cash received from option exercises were for the three
and six months ended June 30, 2005 was $50,563 and $100,761, respectively.

Issuance of Shares, Stock Options and Warrants During the Six Months ended June
30, 2005

In June 2005, we issued a fully vested warrant to purchase 75,000 of our common
shares to an unaffiliated investment bank for compensation for services provided
pursuant to a service agreement. A value of $73,387 was assigned to the warrant
using the Black-Scholes pricing model and the following assumptions: stock price
$5.71, exercise price $7.50, historical volatility 65%, risk free interest rate
3%, dividend yield of 0 and a contractual life of 12 months. This amount is
included in current assets as prepaid fundraising costs and will be capitalized
in the equity section of the balance sheet upon a relevant financing closing or
will be expensed in the event a financing does not occur prior to the expiration
of the warrant.

In February 2005, we issued a fully vested warrant to purchase 75,000 common
shares as payment to a sales agent. A value of $90,800 was assigned to the
warrant using the Black-Scholes pricing model and the following assumptions:
stock price $4.66, exercise price $4.50, historical volatility 64%, risk free
interest rate 2.50%, dividend yield of 0 and a contractual life of 10 months.
This amount is included in stock-based general and administrative expenses.

In January 2005, 581,505 common shares with a value of $4,038,149 previously
recorded as common shares issuable were issued.

Other expenses totaling $8,250 and $16,500 in the three and six months ended
June 30, 2005 relate to the valuation of an employee stock option issued with an
exercise price lower than the market price on the grant date and are included in
stock-based general and administrative expenses. This expense relates to an
option granted in 2003.


                                       14
<PAGE>

Issuance of Shares Under Installment Note

In consideration for the financing commitment by Greenpark Limited, we agreed to
reduce by $600,000 the amount owed by Greenpark Limited to us under that certain
warrant installment agreement, dated as of October 14, 2002. Mr. Olins advised
the Board of Directors that any consideration that the Board of Directors
determined was owed to Mr. Olins for the financing commitment should instead be
given as consideration to Greenpark Limited for its participation in the
financing commitment. As a result, Mr. Olins was not, and is not to be,
compensated for his participation in the financing commitment and the Board of
Directors weighed that fact in their negotiation with Greenpark Limited with
respect to amending the installment agreement described above. Pursuant to that
installment agreement, in November 2002, Greenpark Limited exercised its warrant
to purchase 746,268 common shares at the exercise price of $2.00 per share, for
an aggregate purchase price of $1,492,536. Under the installment agreement,
Greenpark Limited is required to make periodic installment payments towards such
aggregate purchase price. There is a 6% annual interest rate with respect to the
balance of the share purchase price owed to us and all accrued interest is due
with the final payment. We issued all of the 746,268 shares to Greenpark Limited
in 2003. As of June 30, 2005, Greenpark Limited owed to us a remaining adjusted
principal balance of $48,496 (reflecting the purchase price reduction and
principal payments) plus accrued interest, which is due in periodic payments,
with the final payment due on or before May 17, 2005. We will not give any
further financial consideration to Greenpark Limited for such financing
commitment and anticipate collection of the remaining balance plus accrued
interest by the end of the third quarter of 2005.

Stock-based compensation is as follows:

<TABLE>
<CAPTION>
                                                  Three months ended June 30,     Six months ended June 30,
                                                    2005            2004            2005            2004
                                                  --------        --------        --------        --------
<S>                                               <C>             <C>             <C>             <C>
Options granted to employees and directors        $  8,250        $  8,250        $ 16,500        $ 51,174
Warrants issued for services                            --         210,000          90,800         210,000
                                                  --------        --------        --------        --------
                                                  $  8,250        $218,250        $107,300        $261,174
                                                  ========        ========        ========        ========
</TABLE>

Note 9. Segment Information and Significant Customer Information

Our chief operating decision-maker is our Chief Executive Officer. The chief
operating decision-maker reviews only financial information prepared on a basis
substantially consistent with the accompanying financial statements of
operations. Therefore, we have determined that we operate in a single business
segment. All of our assets are located at our facilities in the United States at
June 30, 2005, except for the following:

                                       15
<PAGE>

<TABLE>
<CAPTION>
                                                    Korea           Hong Kong           Japan              Total

<S>                                               <C>               <C>               <C>               <C>
Cash                                              $  171,232        $       --        $       --        $  171,232
Building, net                                      3,955,727                --                --         3,955,727
Machinery and manufacturing equipment, net         1,176,093                --                --         1,176,093
Office furniture and fixtures, net                   130,210                --                --           130,210
Other equipment and instruments, net                  89,102                --                --            89,102
Inventory                                             26,628           426,465           454,616           907,709
                                                  ----------        ----------        ----------        ----------
                                                  $5,548,992        $  426,465        $  454,616        $6,430,073
                                                  ==========        ==========        ==========        ==========
</TABLE>

Of our total revenue in 2005, 78% was derived from the sales of our LCoS Sets to
LG Electronics, a customer located in the Republic of Korea. The remaining 22%
was derived from the sales of our LCoS Sets to customers in Hong Kong, Taiwan,
China and the United States. For the three and six months ended June 30, 2005,
98% and 78% of our revenue was derived from LG Electronics, respectively. This
customer made up 100% of our accounts receivable balance at June 30, 2005.

Note 10. Inventory

Inventory consisted of the following:

                                                   As of
                                           June 30,       December 31,
                                             2005             2004
                                          ----------       ----------
            Raw materials                 $  730,848       $  691,168
            Work-in-progress                  16,935           31,684
            Finished goods                   442,565          450,462
                                          ----------       ----------
                                          $1,190,348       $1,173,314
                                          ==========       ==========

Note 11. Recent Accounting Pronouncements

In June 2005, the Financial Accounting Standards Board (FASB) issued Statement
No. 154, "Accounting Changes and Error Corrections" (FAS 154), a replacement of
APB No. 20, "Accounting Changes" and FASB Statement No. 3, "Reporting Accounting
Changes in Interim Financial Statements." FAS 154 applies to all voluntary
changes in accounting principle and changes the requirements for accounting for
and reporting of a change in accounting principle. This statement establishes
that, unless impracticable, retrospective application is the required method for
reporting a change in accounting principle in the absence of explicit transition
requirements specific to the newly adopted accounting principle. It also
requires the reporting of an error correction which involves adjustments to
previously issued financial statements similar to those generally applicable to
reporting an accounting change retrospectively. FAS 154 is effective for
accounting changes and corrections of errors made in fiscal years beginning
after December 15, 2005. We do not expect the adoption of FAS 154 will have a
material impact on our results of operations or financial condition.

In March 2005, the FASB issued Interpretation No. 47, "Accounting for
Conditional Asset Retirement Obligations." Interpretation No. 47 clarifies that
an entity must record a liability for a "conditional" asset retirement
obligation if the fair value of the obligation can be reasonably estimated.
Interpretation No. 47 also clarifies when an entity would have sufficient
information to reasonably estimate the fair value of an asset retirement
obligation. Interpretation No. 47 is effective no later than the end of the
fiscal year ending after December 15, 2005. We are currently evaluating the
provision and do not expect the adoption of Interpretation No. 47 will have a
material impact on our results of operations or financial condition.


                                       16
<PAGE>

In December 2004, the FASB issued SFAS No. 123R, "Share-Based Payment" to revise
SFAS No. 123, "Accounting for Stock-Based Compensation" and supersede APB
Opinion No. 25, "Accounting for Stock Issued to Employees" and its related
implementation guidance. It requires companies to recognize their compensation
costs related to share-based payment transactions in financial statements. These
costs are to be measured based on the fair value of the equity or liability
instruments issued. We will apply SFAS No. 123R in the first quarter of 2006. We
have not yet evaluated the impact that the adoption of SFAS No. 123R will have
on our financial statements; however, the adoption could materially impact our
results of operations.

In December 2004, the FASB issued SFAS No. 153, "Exchanges of Non-monetary
Assets -- an Amendment of APB Opinion No. 29," which eliminates the exception
for non-monetary exchanges of similar productive assets and replaces it with a
general exception for exchanges of non-monetary assets that do not have
commercial substance. A non-monetary exchange has commercial substance if the
future cash flows of the entity are expected to change significantly as a result
of the exchange. SFAS No. 153 will be effective for non-monetary asset exchanges
occurring in fiscal periods beginning after June 15, 2005. We are currently
evaluating SFAS No. 153 and do not expect the adoption will have a material
impact on our results of operations or financial condition.

In November 2004, the FASB issued SFAS No. 151, "Inventory Costs -- an Amendment
of ARB No. 43, Chapter 4," which clarifies that abnormal amounts of idle
facility expense, freight, handling costs and wasted material (spoilage) be
recognized as current period charges. In addition, SFAS No. 151 requires that
allocation of fixed production overheads to the costs of conversion be based on
the normal capacity of the production facilities. SFAS No. 151 will be effective
for inventory costs incurred in fiscal years beginning after June 15, 2005. We
have not evaluated the impact of SFAS No. 151 to our overall result of
operations or financial condition.

Note 12. Subsequent Events

August 2005 Equity Financing

On August 5, 2005, we sold 500,000 of our common shares at a purchase price of
$5.40 per share to certain institutional investors. Those shares were included
in our Form S-3 "shelf" registration statement (File No. 333-122932), which was
declared effective by the SEC in July 2005. We received proceeds of
approximately $2.7 million from the transaction, which we are using for working
capital and other general corporate purposes. The purchasers in the August 2005
Equity Financing have a 30-day option, which expires on September 4, 2005, to
purchase an additional aggregate of 225,000 of our common shares included in the
"shelf" registration statement at a purchase price of $5.50 per share. As of the
date of this filing, 1,500,000 of our common shares included in our currently
effective "shelf" registration statement, including those subject to the 30-day
option described above, have not been sold.


                                       17
<PAGE>

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/A as filed with the
Securities and Exchange Commission on July 13, 2005. 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 condensed consolidated
financial condition as of June 30, 2005, and our results of operations for the
three and six months ended June 30, 2005 and 2004. The following should be read
in conjunction with our unaudited condensed consolidated financial statements
and related notes appearing elsewhere herein.

OVERVIEW

We are in the business of manufacturing high-resolution LCoS microdisplays. Our
current customers and prospective customers are original equipment manufacturers
(OEMs) engaged in the businesses of manufacturing high definition televisions or
manufacturing light engines for incorporation into high definition televisions.
Our products are also suitable for incorporation into other potential display
applications including rear projection computer monitors, wireless communication
devices, portable games and digital assistants, although we are not currently
working with OEMs on any of these products.

Status of Business with LG Electronics, Inc.

In July 2004, we entered into an agreement with LG Electronics (see Exhibit 10.5
to our Annual Report on Form 10-K/A filed with the SEC on July 13, 2005),
providing for us to sell our T-3 LCoS Sets to LG Electronics. Under that
agreement, LG Electronics agreed to purchase from us a minimum of 21,000 LCoS
Sets over an initial six-month delivery period, which was originally scheduled
to commence in January 2005, subject to LG Electronics' completion of
pre-production requirements.

In July 2005, we commenced delivering commercial production LCoS Sets to LG
Electronics, although we delivered a smaller quantity of LCoS Sets than was
contemplated under the July 2004 agreement for the first delivery month. We
delivered those LCoS Sets based upon our expectation that in the immediate
future we will receive a firm purchase order from LG Electronics for its
purchase from us of an aggregate minimum quantity of 9,300 LCoS Sets for the
period July through December 2005. Under the purchase order that we expect to
receive, we will have the option to increase the initial order to an aggregate
maximum quantity of 16,800 LCoS Sets.

Our agreement with LG Electronics states that the parties' rights and
obligations are subject to a limited quantity of trial LCoS Sets, all of which
have been delivered to LG Electronics, meeting certain final technical
specifications for product performance. LG Electronics and we have been
cooperating since July 2004 to assure that the trial LCoS Sets meet the final
specifications called for by the agreement. LG Electronics completed the final
stage integration of our LCoS Sets into their rear projection televisions in
July 2005 and LG Electronics subsequently informally advised us that our product
met the specifications, which enabled us to commence executing commercial
production deliveries to LG Electronics in July. In August 2005, we expect to
receive the formal written qualification letter from LG Electronics stating that
we have met the agreed upon technical specifications. Until we receive that
qualification letter, there can be no assurances that LG Electronics will
purchase any LCoS Sets from us beyond those that we delivered to them in July
2005.


                                       18
<PAGE>

LG Electronics announced in a joint press release with us in January 2005 that
they were planning an initial rollout of 71-inch and 62-inch LCoS televisions
incorporating our LCoS Sets commencing in the second quarter of 2005. Based upon
our discussions with LG Electronics and other public statements by them, we
believe that LG Electronics currently intends to commence this initial rollout
during the third quarter of 2005. LG Electronics also announced that its initial
product rollout will be into the United States, South Korean and Australian
consumer markets, with future plans for expansion into other markets. We
believe, based upon discussions with LG Electronics, that the expected initial
purchase order for 9,300 LCoS Sets will fully enable LG Electronics to
effectively launch their LCoS-based televisions into the intended target markets
on time for the 2005 holiday shopping season.

We are now working and negotiating with LG Electronics to formalize a
constructive amendment and restatement of the original agreement to govern our
anticipated product deliveries going forward. We expect that the most
significant amendment will be reducing the minimum initial six-month quantity
commitment, which will be for the period July through December 2005, to an
aggregate of 9,300 LCoS Sets, with the option for us to increase that amount to
an aggregate maximum quantity of 16,800 LCoS Sets. We believe that the
anticipated revised six-month minimum LCoS Set quantity will be mutually
beneficial for LG Electronics and us. That minimum quantity will allow LG
Electronics to move forward with full execution of its consumer market launch of
high definition televisions incorporating our LCoS Sets, as described above.

We anticipate that the other material terms of our original agreement with LG
Electronics will remain substantially the same when it is amended and restated,
which we expect to consummate in August 2005. Deliveries scheduled under our
agreement with LG Electronics are presently scheduled to follow the July 2005
delivery on a monthly basis. Under the agreement, commencing in the first
delivery month, LG Electronics is required to provide us with rolling monthly
firm purchase orders six months in advance of the scheduled delivery and rolling
twelve-month advance projections of its anticipated future orders. We expect to
receive firm purchase orders for January and February 2006 from LG Electronics
later this month. Although the agreement does not contain any minimum purchase
requirements after the initial six-month delivery period, the agreement projects
that LG Electronics will commence larger mass-production scale purchases of LCoS
Sets from us in the seventh delivery month, which we currently expect to occur
in January 2006. LG Electronics has advised us that it expects the larger mass
production purchases to commence as scheduled in the seventh delivery month
based upon its strategic marketing plans. The agreement is scheduled to have a
two-year delivery term with monthly deliveries of LCoS Sets.

Our agreement with LG Electronics provides that we will be their exclusive
supplier of three-chip LCoS microdisplay products for twelve months beginning
from the date that we commence shipments under the agreement. Furthermore, our
agreement provides that LG Electronics will have the exclusive right in Korea to
purchase T-3 microdisplay products from us for the twelve months beginning from
the date that we commenced shipments under the agreement. In the event that LG
Electronics purchases more than 60,000 LCoS Sets for delivery between the
seventh (7th) and twelfth (12th) delivery months of our agreement, which we
currently expect will be January through June 2006, LG Electronics has the right
to extend its exclusivity period for twelve additional months. In the event that
LG Electronics does not purchase that quantity of LCoS Sets during that time
period, we have the right under the agreement to continue to be the exclusive
supplier of LCoS products to LG Electronics during the second delivery year.


                                       19
<PAGE>

In the first half of 2005, a substantial percentage of our product deliveries,
which were in small quantities, were made to LG Electronics. Based upon our
agreement with LG Electronics and our present expectations, it is likely that a
substantial percentage of our anticipated future product deliveries in 2005 will
be made to LG Electronics as well. The loss of LG Electronics as a customer or
any delays in our delivery schedule to LG Electronics could harm our future
sales or results of operations; and our substantial dependence on one customer
is subject to risks set forth under the heading "Business Risks and
Uncertainties."

Business in China and Taiwan

To date, we have delivered limited quantities of our microdisplay products to
our Chinese and Taiwanese customers. A substantial portion of our product
deliveries were in 2004. The quantities of our products delivered to our Chinese
and Taiwanese customers are sufficient only for engineering testing and pilot
program purposes. To date, our Chinese and Taiwanese customers have not ordered
quantities of our products that would enable them to launch commercial sales of
LCoS high definition televisions.

We have continuing business relationships with approximately ten customers and
prospective customers in China and Taiwan. Current Chinese and Taiwanese
customers are at different stages in the development and product introduction
processes, and their efforts are progressing at a slower rate than we originally
anticipated. There were no shipments to our Chinese and Taiwanese customers in
the fourth quarter of 2004. We made small shipments to one of these customers in
both the first and second quarter of 2005. We are maintaining our plans to ship
our products to our Chinese and Taiwanese customers, although at a slower rate
of shipment than originally expected. While we have purchase orders in place
with our Chinese and Taiwanese customers, such orders are cancelable at any time
by such customers. We therefore cannot provide assurance concerning the
quantities of our products that we will sell to our Chinese and Taiwanese
customers in the future.

Although our Chinese and Taiwanese customers' progression from product
prototyping to mass production has been far slower than we had anticipated, we
remain positive about our business prospects in China and Taiwan and the
potential for China and Taiwan to become large markets for us. We currently
believe that Chinese and Taiwanese television manufacturers tend to apply a
market strategy of following the successful business models of global television
manufacturing leaders, rather than acting as leaders themselves in terms of
introducing new technologies to the marketplace. We therefore believe that if
the LCoS technology gains greater acceptance in the high definition television
marketplace, and if industry leaders, such as Sony, JVC and LG Electronics,
present their LCoS based televisions to the worldwide consumer markets in a
prominent fashion, it will then be more likely that the Chinese and Taiwanese
television manufacturers will follow these business models and ramp up their own
lines of LCoS high definition televisions. We believe that our present course of
continuing to transact business with major Chinese and Taiwanese television
manufacturers is positioning us to be a leading LCoS supplier in China and
Taiwan in the future.


                                       20
<PAGE>

In May 2004, we opened a representative office in Shanghai, China, for the
purpose of conducting, coordinating and supporting our business relations with
our Chinese customers and prospective customers.

We believe that the addition of our Korean manufacturing plant and the
representative office in Shanghai will improve our ability to effectively
conduct business in South Korea, China, Taiwan and throughout other parts of
Asia as well.

Other Business Development

We are currently developing working relationships with prospective customers,
located primarily in Japan and other parts of the Pacific Rim region. These
prospective customers fall into two general categories: television manufacturers
and light engine suppliers. We have provided samples of our LCoS Sets to certain
of such prospective customers, but we do not have any formal agreements with
such parties. While we have made significant progress with respect to product
integration and negotiating purchase orders with certain of these prospective
customers, we cannot assure that we will receive any purchase orders binding on
any of these companies for their purchase of our 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 and to our
existing customers are subject to certain contingencies described under
"Business Risks and Uncertainties."

Manufacturing Capacity

We completed construction of our Korean manufacturing facility in January 2005.
The Korean facility will serve as our central commercial manufacturing base. The
facility commenced producing products for commercial sale in the second quarter
of 2005. The facility is designed with the capacity, on full employment, to
produce up to 28,000 LCoS Sets per month. The facility has been specially
designed for expansion to a capacity of 120,000 LCoS Sets per month in several
expansion phases. We believe that the facility can be expanded in an efficient
manner in the event that such expansion becomes necessary based upon increased
or perceived increased demand for our products from our customers.

We are currently continuing to install additional manufacturing and related
equipment in the facility and we are actively hiring personnel. We are currently
training our new operators and supervisors in key processes and equipment
familiarization. We believe that this is making our production transition more
efficient and reducing the chances of our incurring unexpected delays in the
transition process. While we cannot provide any assurances against unexpected
delays, we believe that our transition approach constitutes a proactive,
measured and responsible plan to deal with mass production readiness risks and
to prepare ourselves to manage our manufacturing facility in Korea on a basis
consistent with the anticipated demand for our products.

Currently we manufacture our LCoS Sets in limited commercial quantities at our
facilities in California and the Republic of Korea. Once the Korean facility
reaches full-production mode, we intend to transition the California facility to
research and development and special project operations. We will not lay off any
U.S. employees as the result of opening the Korean facility.

Business Strategy

We are currently offering two types of products to our customers and prospective
customers, all of whom are located primarily in Asia. One product is our LCoS
Set, which is comprised of three of our proprietary SpatiaLight imagEngine(TM)
LCoS microdisplays. They are constructed with a silicon chip, a layer of liquid
crystals and a glass cover plate in contrast to the more common construction of
liquid crystals sandwiched between two glass plates. Our displays are also known
as, and commonly referred to as, liquid crystal on silicon (LCoS), liquid
crystal displays (LCD), active matrix liquid crystal displays and spatial light
modulators. Our other product, the display unit, is comprised of LCoS Sets
fitted onto a light engine designed by SpatiaLight and Fuji Photo Optical Co.,
Ltd. (Fuji) and manufactured by Fuji. We do not currently have any formal
agreement in place with Fuji.


                                       21
<PAGE>

We currently manufacture two models of our LCoS Sets. The "T-1" model has a 1280
pixels by 960 pixels configuration and the newer generation "T-3" model has a
higher resolution 1920 pixels by 1080 pixels configuration.

Since we commenced delivering our products to our customers in the third quarter
of 2003, there has been a significant shift in the type of product that we have
delivered to our customers based upon their demand. The shift in deliveries has
been in the direction of more LCoS Sets and less display units. We believe that
this shift is significant because LCoS Sets are a higher margin product line and
require less working capital than display units, although LCoS Sets yield less
revenue than display units per unit sold. It is our short-term strategic
objective to operate primarily as a seller of LCoS Sets and decrease our supply
of display units to our customers. It is our longer-term strategic goal to
exclusively sell LCoS Sets to our customers.

A number of our Chinese customers currently purchase display units because they
have not yet developed their own light engines. We believe that the display
unit, which is a turnkey product offering, has served as a short-term solution
and helped us to capture market share in China because many of our competitors
did not possess a turnkey solution.

While we will continue to offer display units to those current customers who do
not have their own light engine solution, we expect that new customer business
in the future will exclusively be for LCoS Sets rather than display units. Our
supply agreement with LG Electronics is exclusively for LCoS Sets, as LG
Electronics has developed its own light engine designed to incorporate our LCoS
Sets. We expect that there will be a shift in products demanded by our Chinese
customers, over time, from display units to LCoS Sets. These trends are
consistent with our overall product strategy.

We believe that the T-3 model will become the standard for the next generation
of rear projection display devices and will provide the most cost effective,
high-resolution microdisplays in the industry and will position us to be a
potential market leader. We believe that the T-3's ability to deliver 2
megapixel resolution in a high performance, reliable, and cost effective manner
was a key factor in our obtaining the supply agreement with LG Electronics. The
T-3 model is the central component of our ongoing customer acquisition strategy
described above.

LIQUIDITY AND CAPITAL RESOURCES

As of June 30, 2005, we had approximately $391,000 in cash and cash equivalents,
a decrease of approximately $8.7 million from the December 31, 2004 balance of
approximately $9.1 million. Our net working capital at June 30, 2005 was
approximately $1.5 million compared to a net working capital of approximately
$8.6 million at December 31, 2004. This decrease in working capital was
primarily due to the use of cash to fund the construction of our manufacturing
facility in Korea including the purchase of the equipment for that facility, as
well as to fund our operating expenses.


                                       22
<PAGE>

Net cash used in operating activities totaled approximately $3.8 million and
$2.5 million for the three months ended June 30, 2005 and 2004, respectively and
$5.5 million and $4.7 million for the six months ended June 30, 2005 and 2004,
respectively

Net cash used in investing activities totaled approximately $0.2 million and
$0.1 million for the three months ended June 30, 2005 and 2004, respectively and
approximately $3.5 million and $0.2 million for the six months ended June 30,
2005 and 2004.

Net cash provided by financing activities in the three months ended June 30,
2005 and 2004 were approximately $0.3 million and $0.7 million , respectively,
and approximately $0.3 million and $1.1 million for the six months ended June
30, 2005 and 2004, respectively. In the second quarter of 2005, cash was
provided by the partial repayment of notes receivable from a shareholder and
from the exercise of employee stock options and in 2004, cash was provided
primarily from the exercise of employee stock options and warrants.

We expect to meet our cash needs and fund our working capital requirements with
our existing cash balances and from certain additional sources. Those sources
include proceeds of approximately $2.7 million that we received from the sale of
500,000 of our common shares on August 5, 2005 from a currently effective
"shelf" registration statement, as more fully described in Note 12 of our
condensed consolidated financial statements. Other anticipated sources are cash
payments from our customers, the exercises of stock options and warrants and
additional sales of our common shares from the "shelf" registration statement.
There can be no assurances with respect to these potential sources. In addition,
the purchasers in the November 2004 Financing have the option, which expires on
August 31, 2005, to lend us an additional $5 million on the same terms as the
November 2004 Financing, as more fully described in Note 7 of our condensed
consolidated financial statements. It is uncertain whether the November 2004
Financing purchasers will exercise this option. Robert A. Olins, our Chief
Executive Officer and a Director and Greenpark Limited, an unaffiliated
shareholder, jointly and severally committed to provide us with additional
financing as more fully described in Note 7 of our condensed consolidated
financial statements. We believe that our current cash and cash equivalents as
of June 30, 2005, combined with the proceeds from the August 2005 Equity
Financing and the financing commitment from Robert A. Olins and Greenpark
Limited will be sufficient to meet our capital and liquidity requirements for
our operations through at least the second quarter of 2006.

RESULTS OF OPERATIONS

Revenue. We recognized revenue of approximately $41,000 and $139,000 in the
three and six months ended June 30, 2005 and approximately $541,000 and $860,000
for the three and six months ended June 30, 2004, respectively. Revenue for the
six-month period in 2005 was from the sale of LCoS Sets and supporting
electronics. Revenue in the same period of 2004 was primarily from the sale of
display units. Our revenue for the first half of 2005 was lower than the
comparable period in 2004 because LCoS Sets have a lower sales price than
display units and because our sales strategy has changed, as more fully
described under the heading "Business Strategy" above. The second quarter 2005
revenue was derived primarily from sales of LCoS Sets to LG Electronics in order
to reach the specifications required to fulfill the our agreement with LG
Electronics. During the same period for 2004, we recognized sales of display
units to our Chinese customers, of which a portion was later written off as
uncollectible.

Revenue from one customer, LG Electronics, accounted for 78% of our total
revenue for the six months ended June 30, 2005. The loss of this customer and
our inability to obtain additional purchase orders from our current or
prospective customers to replace the lost expected revenue in a timely manner
could harm our sales or results of operations. Accounts receivable from this
customer accounted for 100% of total accounts receivable as of June 30, 2005.


                                       23
<PAGE>

Cost of revenue. Cost of revenue was approximately $89,000 and $159,000 in the
three and six months ended June 30, 2005 and approximately $426,000 and $772,000
for the three and six months ended June 30, 2004, respectively. In the second
quarter of 2005, the cost of revenue doubled per the revenue earned due to items
returned and remade for LG Electronics as LG Electronics refined and changed
their specifications. Cost of revenue in the first half of 2004 includes 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 recover from future sales.

Gross margin. Gross margin was approximately $(48,000) and $(20,000) for the
three and six months ended June 30, 2005 and approximately $115,000 and $88,000
for the three and six months ended June 30, 2004, respectively. The gross margin
decreased approximately $163,000 and $108,000 for the three and six months ended
June 30, 2005 from our gross margin for the same periods in 2004. The decrease
in gross margins for the three and six month periods was primarily due to the
increase in costs in meeting changing specification plans required by LG
Electronics and the fixed sales price of the LCoS sets per the LG Electronics
agreement.

Selling, general and administrative costs. Selling, general and administrative
costs were approximately $1,772,000 and $1,480,000 in the three months ended
June 30, 2005 and 2004, respectively and $3,482,000 and $2,486,000 in the six
months ended June 30, 2005 and 2004, respectively, and included professional
services, sales and administrative salaries and related taxes and benefits,
rent, depreciation, travel, insurance and office expenses. Professional services
increased by approximately $300,000 in the six months ended June 30, 2005 from
2004 due to the various Securities and Exchange (SEC) filings related to a
routine SEC review of our Forms S-3, Form 10K for the year ended December 31,
2004 and Form 10Q for the quarter ended March 31, 2005. Rent increased by
approximately $44,000, medical insurance (caused by additional staff) increase
by approximately $39,000 and auto expense increase by approximately $49,000,
while office supplies and other general and administrative expenses related to
our new Korean facility were incurred that had no comparable expense in the
second half of 2004. During the second quarter of 2005, there was an
approximately $193,000 increase in selling, general and administration cost from
the same period in 2004. The increase was the result of an approximately $30,000
increase in salary and wages expense for the sales department, an approximately
$41,000 increase in automobile expense due to increase travel by our sales
personnel, an approximately $64,000 increase in freight expense due to the
shipment of equipment from our California facility to our Korean manufacturing
plant, accounting costs increased by approximately $115,000 due to the support
needed for the routine SEC review and an approximate $56,000 increase in
consulting due to the additional requirements necessitated by the Sarbanes Oxley
Act of 2002 along with research related to the implementation of our Navision
software. These expenses were partially offset by decreases in administration
travel of approximately $73,000 and of salary and wages for administrative
personnel of approximately $94,000.

Stock-based compensation. Stock-based compensation was approximately $8,000 and
$218,000 in the three months ended June 30, 2005 and 2004, respectively and
approximately $107,000 and $261,000 in the six months ended June 30, 2005 and
2004, respectively. The amounts incurred relate to common shares, stock options,
and warrants issued. Expenses in the first half of 2005 and 2004 include the
issuance of stock options to an employee in 2003 at an exercise price lower than
the fair market value of the stock on the date of grant that are being expensed
over the vesting period. Expenses in the second quarter of 2005 include the
value of a warrant issued for sales services. Expenses in the second quarter of
2004 relate primarily to 250,000 warrants issued to a sales consultant in April
2004 valued at $210,000.


                                       24
<PAGE>

Research and development costs. Research and development costs were
approximately $1,166,000 and $570,000 in the three months ended June 30, 2005
and 2004, respectively and $1,659,000 and $1,252,000 in the six months ended
June 30, 2005 and 2004, respectively. During the second quarter of 2005,
significant effort has been expended on developing the LCoS sets to meet LG
Electronics' new specifications and there has been a ramping up of the Korean
plant to prepare for commercial scale production. However, certain expenses for
the first half of 2005 decreased by approximately $91,000 from the same period
in 2004. The decrease was the result of a reduction of travel expenses incurred
by our research and development group of approximately $68,000 and a reduction
of consulting expenses of approximately $37,000.

Interest expense. Interest expense for the three months ended June 30, 2005
increased approximately $250,000 from the same period in 2004 due to the
issuance of the $10 million of Senior Secured Convertible Notes in November
2004, which accrues interest at 10% annually. For the six months ended June 30,
2005, interest expense totaled approximately $535,000, resulting in an
approximate $499,000 increase over the same period in 2004. The increase was the
result of the November 2004 Senior Secured Convertible Notes

Non-cash interest expense.. Non-cash interest expense was approximately $555,000
and $375,000 for the six months ended June 30, 2005 and 2004, respectively.
Non-cash interest expense was approximately $278,000 and $188,000 for the three
months ended June 30, 2005 and 2004, 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, our Chief Executive Officer and Director. 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.
Also included in non-cash interest expense is the amortization of note discounts
and note financing costs. The increase in the three and six months ended June
30, 2005 as compared to the same periods in 2004 primarily related to the
amortization of note discounts and note financing costs from the November 2004
Senior Secured Convertible Notes.

Critical Accounting Policies

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. Contracts are used for specialized
      arrangements with customers, including deliveries over an extended period
      of time, and arrangements for letters of credit. Standard agreements
      require receipt of a purchase order.

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.


                                       25
<PAGE>

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, 2005, we incurred net losses of approximately $5.7
million. In addition, we had an accumulated deficit of approximately $73.3
million as of June 30, 2005. We expect additional losses as we continue spending
for commercial scale 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.

While we have obtained financing and financing commitments that we expect will
be sufficient to fund our currently anticipated financial needs at least through
the second quarter of 2006, if we are unable to obtain further financing in the
future or generate required working capital for future capital needs, our
ability to operate could suffer or cease.


                                       26
<PAGE>

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 further investments in research
and development, equipment, facilities and production activities. Our financial
condition and liquidity have been strongly assisted through: private sales of
our common shares including approximately $2.7 million received from the sale of
our common shares under a "shelf" registration on August 5, 2005; the $10.0
million, less expenses, raised by us in the November 2004 Financing; the
approximately $5.0 million raised from the sale in December 2003 of 1,000,000 of
our common shares which were registered for sale by means of a "shelf"
registration; and approximately $3.0 million raised through exercises of stock
options and warrants through 2004 and the first half of 2005. The August 2005
Equity Financing purchasers have a 30-day option, which expires on September 4,
2005, to purchase an additional 225,000 shares under our "shelf" registration at
a purchase price of $5.50 per share. The purchasers in the November 2004
Financing have the option, which expires on August 31, 2005, to lend us an
additional $5 million on the same terms as the November 2004 Financing as more
fully described in Note 7 to our condensed consolidated financial statements. It
is uncertain whether either our August 2005 Equity Financing purchasers or our
November 2004 Financing purchasers will exercise these options. We have no
assurance that outstanding stock options and warrants will be exercised. Robert
A. Olins, our Chief Executive Officer and a Director and Greenpark Limited, an
unaffiliated shareholder, jointly and severally committed to provide us with
additional financing as more fully described in Note 7 to our condensed
consolidated financial statements. Taking into account our current financial
condition, our financing commitments and the August 2005 Equity Financing, we
will still require additional financing to satisfy our increasing working
capital requirements in the future. Reliance on private equity purchase
agreements and public offerings and exercises of derivative securities to
finance our future operations entails the additional risks of default by
purchasers under such equity purchase agreements or our inability to sell
publicly registered shares and an insufficient number of warrants being
exercised owing to the prevailing market prices of our underlying common shares.
In the event that we require additional financing in the future and 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 increase the
size of 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.

The obligations arising from the November 2004 Financing restricts our future
financing alternatives and may result in financial difficulties for us in the
future.


                                       27
<PAGE>

The $10 million 2004 Senior Secured Convertible Notes issued pursuant to the
November 2004 Financing bear a 10% rate of interest and are not prepayable, in
whole or in part, prior to their maturity on November 30, 2007. Therefore, we do
not have the ability to refinance the 2004 Senior Secured Convertible Notes with
debt obligations bearing more favorable terms to us or out of the proceeds of an
equity financing until their above-noted maturity date. However, after the first
anniversary of the November 2004 Financing's closing, we have the right to force
conversion of the 2004 Senior Secured Convertible Notes into our common shares
in the event that our common shares trade at or above $14.58 (150% of the $9.72
conversion price of the 2004 Senior Secured Convertible Notes) for twenty
consecutive trading days. Furthermore, the 2004 Senior Secured Convertible Notes
are secured by virtually all of the assets of our Company, other than those
located in Korea, and it may therefore be difficult for us to obtain future debt
financing; however, the terms of the November 2004 Financing allow us to
subordinate the security interests of the 2004 Senior Secured Convertible Notes
to a security interest given to a bank or other institution arising from
accounts receivable, contractual rights, inventory or similar financing. If we
default in meeting our obligations under the 2004 Senior Secured Convertible
Notes, the indebtedness which they evidence will become immediately due and
payable, and the holders of such 2004 Senior Secured Convertible Notes will be
entitled to foreclose on our assets to the serious detriment of our future
operations. As noted elsewhere in this 10-Q, the 2004 Senior Secured Convertible
Notes are convertible into our common shares and the issuance of such shares
(including any shares issued in payment of interest on such notes) may have a
dilutive effect on the value of our outstanding common shares.

We are required to file a registration statement for resale of the shares
issuable upon conversion of the 2004 Senior Secured Convertible Notes and have
the registration statement declared effective no later than 120 days after
December 21, 2004. Pursuant to our amended registration rights agreement with
the noteholders, because the registration did not become effective by April 20,
2005, we are subject to the obligation to pay each noteholder cash equal to 1%
of the purchase price of the notes (which equals an aggregate total amount of
$100,000), and 1% for every 30 days thereafter until the registration becomes
effective. However, each of the noteholders has agreed to waive its right to
these payments in the event that the applicable registration statement is
declared effective no later than July 29, 2005. On July 29, 2005 the SEC
declared the registration statement effective pursuant to Section 8(a) of the
Securities Act of 1933, as amended.

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 LCoS Sets and/or display units in bulk,
and sell the resulting LCoS Sets and/or display units to OEMs that will then
incorporate them into their products. OEMs make the determination during their
product development programs whether to incorporate our LCoS Sets and/or display
units in their products. This requires us to invest significant amounts of time
and capital in designing our LCoS Sets 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 LCoS Sets
and/or display units, it could seriously harm our financial condition. In
addition, the time period that our products may be demanded by our customers
could be limited by the acceptance of new technologies developed by our
competitors.

We incur substantial operational and research and development costs in
connection with products and technologies that may not be successful.

We currently have nine full-time engineering and ten full-time manufacturing
personnel based in California working on microdisplays. We are currently
actively hiring personnel for our manufacturing facility located in the Republic
of Korea. We currently have 6 full-time engineering and 27 full-time
manufacturing personnel based in the Republic of Korea and we expect to hire an
additional 5 engineers and 150 manufacturing personnel by the end of 2005. This
staffing creates significant operational and research and development costs that
may not be recouped. Even if our current LCoS Sets become accepted and/or
successful, we must continue to use, and may increase in number, our engineering
and manufacturing personnel to develop future generations of our microdisplays
because of the rapid technological changes in our industry. As a result, we
expect to continue incurring significant operational and research and
development costs.

We are currently manufacturing and shipping our products in limited commercial
quantities, but unanticipated difficulties in manufacturing our products in
larger quantities may make it difficult to meet customer demands from time to
time and our operating results could be significantly harmed by such
difficulties.


                                       28
<PAGE>

Problems in production of our LCoS Sets or display units 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
current and prospective 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 LCoS Sets are assembled by combining the silicon backplanes with electronic
components. The design and manufacture of LCoS Sets 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 and have built a manufacturing plant in the Republic of
Korea where we currently manufacture our LCoS Sets. 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 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 has a known shortage of critical material.

Because the manufacture of our LCoS Sets involves highly complex processes and
technical problems may arise as we manufacture our liquid crystal microdisplays,
we cannot assure the manufacturing yields of our products. Current purchase
orders and anticipated future purchase orders, which we cannot assure, will
require us to produce greater quantities of our LCoS Sets 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 LCoS Sets and display units increases, and such complexities may lend to
similar difficulties that could harm our business and operating results.
Although we believe that we will be able to mass produce our LCoS Sets, other
companies, including some with substantially greater resources than us, have
found great difficulty or failed to do so. We do not have reliable information
about why other companies have failed to manufacture similar liquid crystal
microdisplays and can therefore make no assurances that we will not encounter
similar problems.

While we commenced producing products in our new manufacturing facility in the
Republic of Korea, which will serve as our principal facility for manufacturing
our microdisplay products, we may encounter 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.


                                       29
<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 harm
our business. Such potential problems could arise in connection with
transitioning our manufacturing operations to the new facility in the Republic
of Korea. 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 the Republic of Korea could result in managerial or
supervisory problems, which could lead to decreased quality controls and a
subsequent material harm to our business.

Geopolitical conditions or potential military conflicts between allies, the
United States and the Republic of Korea, and North Korea may negatively impact
our business.

We commenced producing products in our principal manufacturing operations in the
Republic of Korea during the second quarter of 2005 and our largest expected
customer, LG Electronics, resides in the Republic of Korea. The Republic of
Korea and North Korea are technically at war with each other, despite the
mutually agreed upon existence of the Demilitarized Zone and the relative
absence of physical conflict for several decades. Any escalation in the existing
conflict between these countries or any commencement, or perceived commencement
of a military conflict between the United States and North Korea, may limit our
ability to effectively operate our manufacturing facility in the Republic of
Korea and also may substantially limit our ability to sell products into the
Republic of Korea because of the negative economic, physical or other
destructive impact that such a conflict could have on our most important
customer. Any such disruptions to our manufacturing operations and/or ability to
consummate sales to a substantial customer could adversely affect the
development of our business and our financial condition.

If the high definition television market does not continue to develop and if
other potential markets for our products do not materialize, then our business
will likely be significantly harmed.

High definition television programming has only recently become available to
consumers, and widespread market acceptance, although anticipated, is uncertain
at this time. The market demand for high definition televisions is considered
contingent upon such widespread acceptance of high definition television
programming. Our current sales and marketing efforts are focused on OEMs of high
definition televisions and OEMs of light engines designed for incorporation into
high definition televisions. Therefore, if the market for high definition
televisions does not continue to grow and develop, then we will have significant
difficulty selling our products, which will have a material adverse effect on
our results of operations.

Various potential target markets for our products, including projectors,
monitors, and portable microdisplays, are uncertain and may be slow to develop.
In addition, companies in those markets could utilize competing technologies.
For us to succeed in selling our products into these potential markets we must
offer end-product manufacturers better and less expensive microdisplay products
than our competitors, and the manufacturers themselves will also have to develop
commercially successful products using our products. In the event that we
attempt to market and sell our products into these potential target markets, if
we are not able to succeed in selling our products into these potential markets,
then our results of operations and overall business may be negatively affected.


                                       30
<PAGE>

If our products do not become widely accepted by our customers or the end-users,
our business could be significantly harmed.

      Our LCoS Sets and/or display units 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.

In the first half of 2005, a substantial percentage of our revenue was derived
from LG Electronics. Based upon our agreement with LG Electronics, it is likely
that a substantial percentage of our anticipated future revenues will be derived
from LG Electronics as well. 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 become primarily reliant 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 LG
Electronics as a customer for any reason or if LG Electronics were to otherwise
reduce, delay or cancel its orders. Any such events could cause a material
adverse effect on our business, operations and financial condition and the value
of our common shares could decline substantially.

Our ability to retain and receive additional purchase orders from our current
customers and to attract and receive purchase orders from prospective customers
may depend upon the acceptance of LG Electronics' products in the consumer
marketplace. If LG Electronics' television products incorporating our LCoS
technology are not commercially successful, demand for our products from our
current and prospective customers may not materialize, which could negatively
impact our results of operations and our financial condition.

We cannot assure you that we will obtain additional purchase orders from our
current or prospective customers, or, if we do, that such orders will generate
significant revenues.

Even though we have received purchase orders for our LCoS Sets and/or display
units from LG Electronics and from several Chinese OEMs and we may receive
additional purchase orders from our prospective customers, we may have problems
implementing volume production of our products. Furthermore, sales to
manufacturers in the electronics industry are subject to severe competitive
pressures, rapid technological change and product obsolescence. Customers may,
at any time, cancel purchase orders or commitments or reduce or delay orders,
thereby increasing our inventory and overhead risks. In addition, purchase
orders received from our Chinese customers are for limited quantities of our
products. 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.


                                       31
<PAGE>

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 absence of, or 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 high definition television industry is highly competitive, which may result
in lost sales or lower gross margins.

We serve the highly competitive high definition television industry that is
characterized by price erosion, rapid technological change and competition from
major domestic and international companies. This intense competition could
result in downward pricing pressures, lower sales, reduced margins and lower
market share.

Companies competing in the LCoS microdisplay market include Sony and JVC,
although we presently believe that Sony has developed LCoS microdisplays for its
own use and not for sale to other OEM's. A major competitor of ours in the
reflective microdisplay market, although not using liquid crystals in the
display, is Texas Instruments, which is producing a micro-mechanical structure
of moving mirrors on a silicon backplane, a technology known as digital light
processing, or DLP. Texas Instruments has had significant success selling its
DLP products to its customers in the business front projector market and the
rear projection high definition television market. Some of our competitors,
including Texas Instruments and JVC, 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.


                                       32
<PAGE>

Rapid and significant technological advances have characterized the microdisplay
market. There can be no assurance that we will be able to effect any of such
technological advances or that we will have sufficient funds to invest in new
technologies or products or processes. Although we believe that our displays
have specifications and capabilities, which equal or exceed that of commercially
available LCD, cathode ray tube (CRT) and DLP based display products, the
manufacturers of these products may develop further improvements of their
existing technology that would eliminate or diminish our anticipated advantage.
In addition, numerous competitors have substantially greater financial,
technical, marketing, distribution and other resources than we have. The
acceptance of our LCoS Sets and/or display units will be dependent upon the
pricing, quality, reliability and useful life of these products compared to
competing technologies, as to which there can be no assurance.

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, customers in the
television manufacturing industry typically develop a second source. Second
source suppliers may win an increasing share of our customer's product demands.
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; and

o     the rate at which customers incorporate our displays into their own
      products; and products or technologies introduced by our competitors.

Fluctuations in the exchange rate of the United States dollar and foreign
currencies could have a material adverse effect on our financial performance and
profitability.

A portion of our costs is denominated in foreign currencies, including the
Korean Won, the Euro and the Japanese Yen. As a result, changes in the exchange
rates of these currencies or any other applicable currencies to the U.S. dollar
will affect our costs of good sold and operating margins, and could result in
exchange losses. We cannot fully predict the impact of future exchange rate
fluctuations on our profitability. From time to time, we may engage in exchange
rate-hedging activities in an effort to mitigate the impact of exchange rate
fluctuations, although we have not engaged in any such hedging activities to
date. However, we cannot offer assurance that any hedging technique we may
implement will be effective. If it is not effective, we may experience reduced
operating margins.

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.


                                       33
<PAGE>

Our operating results are subject to significant fluctuations.

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

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

o     timing of expenditures in anticipation of future orders;

o     changes in our cost structure;

o     availability of labor and components;

o     pricing and availability of competitive products and services;

o     the timing of orders;

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

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 among
other things reported losses, receipts of additional financing and investors'
perceptions about our business prospects. Some research has shown that similar
volatility in other companies 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;


                                       34
<PAGE>

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 common shares included in the Amendment No. 6 to Form S-3
Registration Statement that we filed with the SEC on July 27, 2005 (Registration
Number 333-122391), principally relating to the November 2004 Financing plus the
2,000,000 common shares included in the Amendment No. 4 to Form S-3 "Shelf"
Registration Statement filed by us with the SEC on July 27, 2005 represents
approximately 11% of the total number of our common shares that were issued and
outstanding as of August 1, 2005. Sales of these shares, into 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. On July 29, 2005 the SEC declared the registration statements effective
pursuant to Section 8(a) of the Securities Act of 1933, as amended. On August 5,
2005, we sold 500,000 of our common shares at $5.40 per share under our "shelf"
registration, which became effective on July 29, 2005. These purchasers have a
30-day option, which expires on September 4, 2005, to purchase an additional
225,000 shares under our "shelf" registration at a purchase price of $5.50 per
share. As of the date of this filing, 1,500,000 of our common shares included in
our currently effective "shelf" registration statement, including those subject
to the 30-day option described in Note 12 of our condensed consolidated
financial statements, have not been sold.

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 has
historically been adversely affected due to their limited marketability, but
such volume has increased significantly in recent periods. Nevertheless, any
substantial sales of our common shares may result in a material reduction in
price, reflecting the volatility of the trading market for our common shares.

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.


                                       35
<PAGE>

Our future success depends on our ability to protect our proprietary technology
and our registered intellectual property.

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. If we are unable to
protect our intellectual property from use by third parties, our ability to
compete in the industry will be harmed. 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, Korean
            or Taiwanese 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, Korean
            and other foreign legal systems may adversely impact our ability to
            protect our intellectual property.

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


                                       36
<PAGE>

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. Certain 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. Moreover, under the terms of
the November 2004 Financing, we are prohibited from paying cash dividends while
the 2004 Senior Secured Convertible Notes issued in the November 2004 Financing
remain outstanding. Instead, we intend to apply any future earnings to the
expansion and development of our business.

Our reported financial results may be adversely affected by changes in
accounting principles generally accepted in the United States.

We prepare our consolidated financial statements in conformity with accounting
principles generally accepted in the U.S. These accounting principles are
subject to interpretation by the Financial Accounting Standards Board, the
American Institute of Certified Public Accountants, the SEC and various bodies
formed to interpret and create appropriate accounting policies. A change in
these policies or interpretations could have a significant effect on our
reported financial results, and could affect the reporting of transactions
completed before the announcement of a change. For example, the Financial
Accounting Standards Board has implemented changes to United States Generally
Accepted Accounting Principles that require us to record a charge to earnings
for employee stock option grants for all awards unvested at and granted after
December 31, 2005. This regulation will negatively impact our earnings.
Technology companies generally, and our Company, specifically, rely on stock
options as a major component of our employee compensation packages. Due to the
new requirement to expense options, we are less likely to achieve profitability
and we may consider decreasing or eliminating option grants. Decreasing or
eliminating option grants may negatively impact our ability to attract and
retain qualified employees.


                                       37
<PAGE>

Item 3. Quantitative and Qualitative Disclosures About Market Risks.

We are exposed to the impact of interest rate changes and foreign currency
fluctuations.

Interest Rate Risk. Our exposure to market rate risk for changes in interest
rates relates primarily to our cash accounts. We invest excess cash and cash
equivalents in a checking account or money market account with reputable banks
both in the United States and the Republic of Korea. Our cash accounts in the
United States are not FDIC or otherwise insured, to the extent that the accounts
exceed $100,000; and our cash accounts in the Republic of Korea are not insured.
As of June 30, 2005, our cash and cash equivalents totaled approximately
$391,000.

Foreign Currency Risk. We are exposed to foreign exchange rates fluctuations as
we convert the financial statements of our foreign subsidiary into U.S. dollars
in consolidation. If there is a change in foreign currency exchange rates, the
conversion of the foreign subsidiary's financial statements into U.S. dollars
will lead to a translation gain or loss which is recorded as a component of
other comprehensive income or loss. In addition, we have certain assets and
liabilities that are denominated in currencies other than the relevant entity's
functional currency. Changes in the functional currency value of these assets
and liabilities create fluctuations that will lead to a transaction gain or
loss. During the second quarter of 2005, the foreign currency transaction gains,
realized and unrealized, were not material.

Item 4. Controls and Procedures.

Disclosure Controls and Procedures. As of June 30, 2005, management of our
Company, under the supervision of our principal executive officer (CEO) and our
principal financial and accounting officer (Controller), evaluated (the Controls
Evaluation) the effectiveness of the design and operation of our "disclosure
controls and procedures", as such term is defined under Rule 13a-15(e)
promulgated under the Securities Exchange Act of 1934, as amended (Disclosure
Controls), and whether any changes in the Company's internal control over
financial reporting (Internal Controls), as such term is defined in Rule
13a-15(f) under the Exchange Act, during the most recent fiscal quarter have
materially affected, or are reasonably likely to materially affect, our Internal
Controls .

Limitations on the Effectiveness of Controls. Our CEO and our Controller 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 and since we commenced operations. 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 our 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.


                                       38
<PAGE>

Conclusion regarding the Effectiveness of Disclosure Controls and Procedures

Based on all of the material weaknesses related to our internal control over
financial reporting, which are set forth below, and which were identified during
the Controls Evaluation, our CEO and our Controller concluded that our
disclosure controls and procedures were not effective as of the end of the
period covered by this Form 10-Q.

Changes in Internal Controls

Due to the hiring of our permanent, full-time corporate controller in June 2005,
we believe that our internal controls over financial reporting have
significantly improved.

Controls Evaluation

Our management assessed the effectiveness of our internal control over financial
reporting as of June 30, 2005, and this assessment identified the following
material weaknesses in the company's internal control over financial reporting.

      The material weaknesses identified were:

      o     Our corporate governance is deficient because:

            o     We do not have a corporate governance or formal disclosure
                  committee.

            o     Our Audit Committee does not have a financial expert (as
                  defined by SEC rules.)

      o     We have inadequate controls and procedures (1) to monitor the
            tracking and movement of inventory, and (2) to prevent and detect
            the unauthorized use of inventory due to an inadequate segregation
            of duties.

      o     We lack information technology controls and procedures that would
            likely prevent unauthorized access to the accounting and financial
            systems, and ensure that the accounting and financial records are
            recoverable in the event of a disaster.

In making its assessment of internal control over financial reporting,
management used the criteria issued by the Committee of Sponsoring Organizations
of the Treadway Commission (COSO) in Internal Control-Integrated Framework.

Each of the material weaknesses identified by management during the control
evaluation for the period ended December 31, 2004 and March 31, 2005, was
reported in Item 9A of our Form 10-K/A and Item 4 of our Form 10Q/A,
respectively, both of which were filed with the SEC on July 13, 2005.


                                       39
<PAGE>

Management has taken the following steps to address the material weaknesses set
forth in our Form 10K/A for the year ended December 31, 2004 and our Form 10Q/A
for the quarter ended March 31, 2005 referenced above:

      Fraud training program - We have implemented a procedure for the reporting
of fraud to the Audit Committee of the Board of Directors. All of our employees
have been trained on understanding what constitutes corporate fraud and the
procedures for reporting corporate fraud. Our Audit Committee and management
have established related procedures for the receipt, retention and treatment of
complaints regarding accounting, internal accounting controls or auditing
matters and the Audit Committee has established procedures that will provide a
mechanism for the confidential, anonymous submission by employees of concerns
regarding questionable accounting or auditing matters. These procedures were
implemented during the second quarter of 2005.

      Procedures for archiving Audit Committee meeting minutes - During the
first quarter of 2005 we implemented procedures for archiving minutes of
meetings of the Audit Committee

      Issuance of common shares to a company wholly owned by our Chief Executive
Officer - The material weakness relating to issuance of common shares arose in
connection with a situation where our Board of Directors, in November 2004,
authorized the issuance of common shares to Argyle in January 2005, but a
portion of the authorized common shares were delivered to Argyle in December
2004. Through action taken by our Board of Directors in March 2005, we have
implemented new controls over the process for issuance of common shares to
Robert Olins, our CEO, Secretary, Treasurer and Director, and to Argyle Capital
Management Corporation (Argyle), a company wholly-owned by Mr. Olins, whereby
American Stock Transfer & Trust Company, our transfer agent, is not permitted to
transfer any shares from our treasury account to Mr. Olins or to Argyle, without
prior written authorization executed by a majority of the Board of Directors
excluding Mr. Olins.

      Safeguarding of our common shares held in connection with notes receivable
- Through action taken by our Board of Directors in March 2005, we have
implemented new procedures with respect to the safeguarding of our common shares
held in connection with notes receivable. We have established controls and
procedures for maintaining escrow accounts for common shares that are
deliverable to other parties upon the performance of certain future conditions,
such as fulfillments of payments under notes receivable.

      Our management believes that the actions described in the two immediately
preceding paragraphs have fully and adequately addressed the material weakness
"We do not have adequate controls over (1) the process for issuance of common
shares to a company wholly-owned by the Company's chief executive officer; and
(2) the safeguarding of its common shares held in connection with notes
receivable." That material weakness was disclosed in our Form 10-K/A filed with
the SEC on July 13, 2005.

      Chief Financial Officer (CFO) and Corporate Controller - During the second
quarter of 2005, we hired a Corporate Controller, Assistant Vice President of
Accounting and Finance. We have discontinued our search for a CFO. Management
believes that because we have hired a highly qualified full-time corporate
controller, such person will obviate the need for us to hire a CFO.

      Information technology controls and procedures - In March 2005, we entered
into an International Program License Agreement with Microsoft Business
Solutions Corporation, pursuant to which we are licensing the Microsoft Business
Solutions Navision software system (Navision). Navision is an advanced
information technology - enterprise resource planning system that has the
capability to support our management's accounting and financial systems. We also
have contracted with a reputable company to lead the company-wide implementation
of the Navision system. In connection with the implementation of Navision, we
are implementing systematic controls designed to prevent unauthorized access to
our accounting and financial systems, which we believe that Navision will
facilitate. We are also implementing physical and electronic back-up and storage
procedures to help ensure that our accounting and financial records will be
recoverable in the event of a disaster.


                                       40
<PAGE>

      The implementation of Navision in our California office has been completed
in July 2005 and our management anticipates that Navision in our offices in the
Republic of Korea will become active by the end of the third quarter of 2005.

Management has taken the following steps to address the material weaknesses set
forth in our Form 10Q for the quarter ended June 30, 2005:

      Controls and procedures of inventory - The Navision software
implementation has required that additional policies and procedures be adopted
and our management believes that this will assist in addressing the identified
inadequate controls and procedures described in the Controls Evaluation.

      Controls and procedures of information technology - In connection with the
implementation of Navision, we are implementing systematic controls designed to
prevent unauthorized access to our accounting and financial systems, which we
believe that Navision will facilitate. We have hired a full-time Network
Administrator and we are in the process of improving our physical and electronic
back-up and storage procedures to help ensure that our accounting and financial
records will be recoverable in the event of a disaster.

      We have not taken any steps, as of the date of this filing, to address the
material weaknesses relating to the facts that we do not have a corporate
governance or formal disclosure committee, and that the audit committee does not
have a financial expert, as defined by SEC rules. We do not presently have
specific plans with respect to adding a director who would constitute a
financial expert or with respect to establishing a corporate governance or
formal disclosure committee.

PART II. OTHER INFORMATION

ITEM 2 Changes in Securities and Use of Proceeds.

In June 2005, we issued a fully vested warrant to purchase 75,000 common shares
at an exercise price of $7.50 per share, which was not registered with the SEC.
This warrant was issued as a payment to an investment bank in consideration for
services rendered. As of the date of this filing, the investment bank has not
exercised the warrant and therefore we have not received any proceeds from that
transaction. In issuing this warrant, we relied upon the exemption from
securities registration afforded by Section 4(2) of the Securities Act of 1933,
as amended.

ITEM 4 Submission of Matters to a Vote of Security Holders.

At the Annual Meeting of Shareholders held on June 1, 2005, our shareholders
approved the following:


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Proposal 1:

The election of the following individuals as our directors to serve for the
ensuing year and until his successor is duly elected and qualified:

                                         For          Against      Abstain
                                         ---          -------      -------

           Lawrence J. Matteson      33,922,701         None       177,696

           Robert A. Olins           33,957,689         None       142,708

           Claude Piaget             33,931,541         None       168,856

           Robert C. Munro           33,965,508         None       134,889

Proposal 2:

      The ratification of the appointment of Odenberg, Ullakko, Muranishi & Co.,
      LLP as our independent registered public accountants for the fiscal year
      ending December 31, 2005.

              For: 34,090,957      Against: 9,040      Abstain: 400

ITEM 5 Other Information.

On August 5, 2005, we sold 500,000 of our common shares at $5.40 per share under
our "shelf" registration, which became effective on July 29, 2005. Our proceeds
from the sale totaled approximately $2.7 million. These purchasers have a 30-day
option, which expires on September 4, 2005, to purchase an additional 225,000
shares under our "shelf" registration at a purchase price of $5.50 per share.
Proceeds from this financing will go towards working capital and other general
corporate purposes. As of the date of this filing, 1,500,000 of our common
shares included in our currently effective "shelf" registration, including those
subject to the 30-day option described in Note 12 of our condensed consolidated
financial statements, have not been sold.


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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*

            10.1  Purchase Agreement

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

            32.1  Certification of Robert A. Olins 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:

      The Company filed no reports on Form 8-K during the quarter ended June 30,
      2005.

*Previously filed.


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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:  September 28, 2005

                               SpatiaLight, Inc.


                               By:    /s/ ROBERT A. OLINS
                                      ------------------------------------------
                                      Robert A. Olins
                                      Chief Executive Officer and
                                      Principal Financial and Accounting Officer


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