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O2Diesel Corporation
(A Development Stage Company)    UNITED STATES
SECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D.C. 20549 
 FORM 10-KSB
 (Amendment No. 2)
  þ Annual report under section 13 or 15(d) of the Securities Exchange Act
of 1934
  
  o Transition report under section 13 or 15(d) of the Securities Exchange
Act of 1934
 
 O2Diesel Corporation
 
  Delaware
    
    91-2023525(State or other jurisdiction of
incorporation or organization)
    
    (I.R.S. Employer
Identification No.)
  Newark, Delaware
    
    19713(Address of principal executive offices)
    
    (Zip Code)
 
 (Title of Class)
None
    
    Name of exchange on
which registered
None
  
 (Title of class) Check whether the Issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Securities 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               þ
    
    No               o
 Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of registrants knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. þ Registrants revenues for its most recent fiscal year: $127,451 The aggregate market value of the voting stock held by non-affiliates of the
registrant on March 11, 2005, computed by the average bid and asked price as of
March 11, 2005, at which the stock was sold, was $38,861,000, assuming solely
for purposes of this calculation that all directors and executive officers of
the issuer are affiliates. This determination of affiliate status is not
necessarily a conclusive determination for other purposes. On March 24, 2005, the registrant had 29,150,823 shares of common stock, $0.0001
par value per share, issued and outstanding. TRANSITIONAL SMALL BUSINESS DISCLOSURE FORMAT: Yes o No þ DOCUMENTS INCORPORATED BY REFERENCE Certain portions of the registrants Proxy Statement to be filed in connection with its 2005 Annual
Meeting of Shareholders are incorporated by reference into Part III of this Report; provided,
however, that the Compensation Committee Report, the Audit Committee Report, the graph showing the
performance of the Companys stock and any other information in such Proxy Statement that is not
required to be included in this Annual Report on Form 10-KSB shall not be incorporated herein or
filed for the purposes of the Securities Act of 1933, as amended (Securities Act) or the
Securities Exchange Act of 1934, as amended (Exchange Act). Other documents incorporated by
reference are listed in the Exhibit Index.




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O2Diesel Corporation
(A Development Stage Company) INDEX TO
ANNUAL REPORT ON FORM 10-KSB(AMENDMENT NO. 2)
FOR THE YEAR ENDED DECEMBER 31, 2004 PAGEPART IItem 1 Description of Business
    
    
    1Item 2 Description of Property
    
    
    9Item 3 Legal Proceedings
    
    
    9Item 4 Submission of Matters to a Vote of Security Holders
    
    
    9PART IIItem 5 Market for Common Equity and Related Stockholder Matters
    
    
    9Item 6 Managements Discussion and Analysis or Plan of Operation
    
    
    11Item 7 Consolidated Financial Statements
    
    
    16Item 8 Changes In and Disagreements with Accountants on Accounting and Financial Disclosure
    
    
    16Item 8A Control and Procedures
    
    
    16Item 8B Other Information
    
    
    16PART IIIItem 9 Directors, Executive Officers, Promoters and Control Persons; Compliance With Section 16(a) of the Exchange Act
    
    
    16Item 10 Executive Compensation
    
    
    17Item 11 Security Ownership of Certain Beneficial Owners and Management and Related Stockholders Matters
    
    
    17Item 12 Certain Relationships and Related Transactions
    
    
    17Item 13 Exhibits
    
    
    18Item 14 Independent Registered Public Accounting Firm Fees and Services
    
    
    20SIGNATURESExhibit IndexCERTIFICATIONS
 EXPLANATORY NOTE This Amendment No. 2 to our
Annual Report on Form 10-KSB for the year ended December 31, 2004,
Amends and Restates our Form
10-KSB for the year ended December 31,
2004, which was originally filed on March 31, 2005, and Amended by
Amendment No. 1 to Form
10-KSB, which was filed on May 10, 2005.




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O2Diesel Corporation
(A Development Stage Company) NOTE REGARDING FORWARD LOOKING STATEMENTS This annual report on Form 10-KSB contains forward-looking statements concerning O2Diesel
Corporation (O2Diesel, the Company or the Registrant) and the Companys future operations,
plans and other matters. Any statements that involve discussions with respect to predictions,
expectations, beliefs, plans, projections, objectives, assumptions or future events or performance
(often, but not always, using phrases such as expects, or does not expect, is expected,
anticipates or does not anticipate, plans, estimates or intends, or stating that certain
actions, events or results may, could, might, or will be taken or occur or be achieved) are
not statements of historical fact and may be forward looking statements which include
statements relating to, among other things, the ability of O2Diesel to successfully compete
in the fuel additive and fuel distribution businesses. O2Diesel cautions readers not to place undue reliance on any such forward-looking statements, which
speak only as of the date made. Such forward-looking statements are based on the beliefs of
O2Diesels management as well as on assumptions made by and information currently available to
02Diesel at the time such statements were made. Forward-looking statements are subject
to a variety of risks and uncertainties which could cause actual events or results to differ from
those reflected in the forward-looking statements, including, without limitation, the failure to
obtain adequate financing on a timely basis and other risks and uncertainties. Actual results could
differ materially from those projected in the forward-looking statements, as a result of either the
matters set forth or incorporated in this report generally or certain economic and business
factors, some of which may be beyond the control of O2Diesel. These factors include adverse
economic conditions, entry of new and stronger competitors, inadequate capital, unexpected costs,
failure to gain product approval in the United States or foreign countries for the
commercialization and distribution of our products and failure to capitalize upon access to new
markets. O2Diesel disclaims any obligation subsequently to revise any forward-looking statements to
reflect events or circumstances after the date of such statements or to reflect the occurrence of
anticipated or unanticipated events.




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O2Diesel Corporation
(A Development Stage Company) 
 PART I 
 Item 1. Description Of Business (a) Form and Year of Organization O2Diesel Corporation (O2Diesel or the Company) is a development stage company and has developed
a proprietary additive product designed to enable distillate liquid transportation fuels to burn
cleaner by facilitating the addition of ethanol as an oxygenate to these fuels. To date, the
Companys operations continue to be primarily focused on raising capital, performing product
tests and demonstrations and bringing its product to market. O2Diesel Corporations predecessor, Dynamic Ventures, Inc., was incorporated in the State of
Washington on April 24, 2000. Dynamic Ventures, Inc. changed its name to O2 Diesel Corporation
effective June 10, 2003, in contemplation of the reverse acquisition of AAE Technologies
International Plc (AAE). On July 15, 2003, O2Diesel Corporation acquired all of the issued and
outstanding share capital of AAE in exchange for 17,847,039 shares of its common stock (the
Offer). As a result of this transaction, the former shareholders of AAE acquired control of the
combined companies. The acquisition of AAE has been accounted for as a capital transaction followed
by a recapitalization as AAE was considered to be the accounting acquirer. Accordingly, the
consolidated financial statements of AAE are now treated as the base financial statements of
O2Diesel for all periods presented. In conjunction with the Offer, the Company completed a private placement of its common stock
whereby it issued 3,333,333 shares of common stock at $1.50 per share. Of the $5.0 million raised,
approximately $800,000 was used to pay the costs of the reverse acquisition and private placement,
$1.0 million was used to repay a bridge loan that was made in contemplation of the transaction, and
the balance of $3.2 million was used to fund the ongoing developmental activities of the Company. Subsequent to the Offer and during 2003, the Company undertook an effort to raise an additional
$3.5 million through a follow-on private placement. Pursuant to this follow-on financing, the
Company issued 1,025,784 shares of its common stock at $1.50 per share for total proceeds of
$1,535,770. The follow-on private placement was closed as of March 31, 2004. On December 29, 2004, the Company consummated a merger (the Reincorporation Merger) with and into
its wholly owned subsidiary, O2Diesel Delaware Corporation, a Delaware corporation (O2Diesel
Delaware) in order to reincorporate in the State of Delaware (the Reincorporation). The
Reincorporation Merger was affected pursuant to an Agreement and Plan of Merger entered into
between the Company and O2Diesel Delaware on December 29, 2004. The Reincorporation was submitted
to a vote of, and approved by, the Companys shareholders at its annual meeting held on August 16,
2004. As a result of the Reincorporation, the legal domicile of the Company is now Delaware. The merger became effective on December 31, 2004. The Companys audited consolidated financial statements for the year ended December 31, 2004, have
been prepared on a going concern basis, which contemplates the realization of assets and the
settlement of liabilities and commitments in the normal course of business. At December 31, 2004,
the Company has a working capital deficiency of $106,693 and has accumulated losses of $18,626,120.
Further, the Company has been notified by the American Stock Exchange (the AMEX or Exchange)
that it is not in compliance with the listing standards of the AMEX. Management has concluded that
additional equity must be raised in 2005 in order for the Company to have sufficient cash to
execute its business plan, and to be in compliance with the AMEXs listing requirements. In January 2005, the Company retained a third party to raise, in a series of two private placements
of the Companys common stock, $5.0 million at a price of $0.70 per share. The first private
placement is for just under $2.0 million and the second private placement is for just over $3.0
million. As part of this transaction, the Company is obligated to comply with certain conditions
in connection with the first $2.0 million private placement and is also obligated to satisfy still
other conditions applicable to the $3.0 million private placement. Further, the AMEX requires that
shareholder approval be obtained by the Company for the sale of common stock in a transaction if
the price of the shares to be sold is less than the greater of book or market value, and the number
of shares equal 20% or more of the presently outstanding common stock. In order to comply with this
requirement, the Company will seek shareholder approval for the $3.0 million private placement at
its next annual stockholders meeting, which is scheduled to be held in the second quarter of 2005. By March 18, 2005, the Company, under
the terms of the $2.0 million private placement, had
received subscriptions for 2,103,429 shares of its common stock for total proceeds of $1,472,400
and had received cash of $1,379,100, before payment of an 8% commission and other expenses, leaving
subscriptions receivable of $93,300. The parties subscribing to these shares agreed to waive
certain of the conditions to permit the transaction to be closed as to their respective
subscriptions.




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O2Diesel Corporation
(A Development Stage Company) In addition, the Company has received subscriptions under the terms of the remaining
$3.0 million private placement for which the conditions have not yet been satisfied, or waived. As set forth in Part II, Item 5 of this report, management has stated that, as part of its plan
submitted to and accepted by the AMEX, total equity of
approximately $11.0 million, inclusive of the $2.0 million and
$3.0 million private placements, will need
to be raised in order for the Company to be in compliance with the listing standards of the AMEX by
June 2006. If the Company is successful in raising $11.0 million in new equity in 2005, management believes it
will have sufficient cash to execute its business plan through December 31, 2005, and to be in
compliance with the listing standards of the AMEX by June 2006. It is the Companys intention to raise equity of $11.0 million in 2005, but there can
be no assurance that it will be able to do so. (b) Business of O2Diesel Principal Products and Markets: O2Diesel has developed a proprietary additive product designed to improve the performance of
distillate liquid transportation fuels by facilitating the addition to these fuels of ethanol,
which is an oxygenate. More specifically, the Companys core product, O2D05, is a fuel additive
that can be made from soybean oil, other vegetable oils, or animal fats. The additive stabilizes
and enhances the blending of fuel grade ethanol with diesel fuel. Blending O2D05 with ethanol and
various grades of diesel fuel in turn creates a proprietary clean burning fuel called O2Diesel.
Extensive testing in the laboratory and in real world trials has been carried out on O2D05 and
O2Diesel. These tests have demonstrated that the use of the fuel can produce significant and
verifiable reductions in emissions. As an example, test data from a wide range of tests has shown
the following reductions in harmful emissions: Up to a 70% reduction in visible smoke;
Up to a 46% reduction in particulate matter (PM);
Up to a 30% reduction in carbon monoxide; and
Up to a 6% reduction of oxides of nitrogen (NOx). By way of background, fuel ethanol has been blended with gasoline for over 25 years in the U.S. and
even longer in Brazil, with the combined benefits of improving air quality, reducing the use of
petroleum based fuels and increasing the demand for agricultural products. Because of the
incompatibility of diesel fuel and ethanol in a stand-alone environment, it has not been possible
to combine ethanol and diesel fuel to produce a stable motor fuel. The Companys additive, O2D05,
permits diesel fuel to be blended with ethanol to produce a fuel that is suited for use by
centrally fueled truck and bus fleets, off-road diesel equipment and other diesel powered
machinery. However, some changes may be necessary to prepare vehicles and equipment to use the
fuel, as well as to the storage and delivery systems used to dispense it. The Company has identified the U.S., Canada and Brazil as its first target markets, with its
immediate focus on the U.S. and Brazil. O2Diesels strategy, with the support and resources of its
commercial partners, is to create end-user demand from centrally fueled on and off-road diesel
fleets. Potential customers in the U.S. and Canada include:  
    Urban truck and delivery fleets;
    Municipal transit authorities (public and private);
    Government fleets (municipal, state, and federal);
    Port logistical equipment;
    Construction equipment;
    Mobile or stationary power generators;
    Railroads; and
    Military (non-tactical) vehicles. The U.S. market for diesel fuel is large and growing. It has been estimated by the International
Energy Agency that the use of diesel fuel in the U.S. exceeds 60 billion gallons per year, of which
the amount used by on-road and off-road vehicles and other equipment is approximately 39 billion
gallons annually.




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O2Diesel Corporation
(A Development Stage Company) Basic to the success of the Companys sales program is the availability of abundant supplies of
fuel grade ethanol. According to statistics compiled by the Renewable Fuels Association, domestic
ethanol plants in 2004 produced 3.4 billion gallons of ethanol, an increase of 21% over 2003. At
the end of 2004, there were 81 plants producing ethanol with another 16 under construction, which,
at completion, are expected to have an annual capacity of about 4.4 billion gallons. Moreover, production capacity is predicted to rise to 5 billion gallons in 2005, according to a
January 2003 study conducted by the California Energy Commission. At present, the Company does not
anticipate any supply problems in securing sufficient amounts of ethanol for use in the U.S. and
Canada. At the end of 2004, four customers in the U.S. were using the Companys fuel on a trial basis. We
learned during 2004 that first-time users of O2Diesel wanted to test the fuel in a small portion
of their fleets before committing all of their vehicles to it. Usually, these trials ran for a
period of three months or more and involved 10% or less of the vehicles in a prospective fleet. In March 2004, O2Diesel began operations in Brazil through its 75% owned subsidiary, O2Diesel
Químicos Ltda. Brazil is one of the pioneers in the use of ethanol and has a long history of
manufacturing ethanol as a by-product from the production of sugar. Due to the low cost and
availability of ethanol, Brazils transportation sector has used large amounts of this renewable
fuel for the last three decades. Fuel ethanol has become an important fuel in Brazil due to its
positive effects on the creation of jobs in the sugar industry and as a means of reducing the
countrys dependence on imported diesel fuel, of which Brazil is a net importer.
Moreover, both the government and the sugar producers have sought various means to increase the
demand for sugar and sugar derivatives. To assist in the launch of O2D05 and O2Diesel in Brazil, we have formed an alliance with a large
commodities trading firm headquartered in Rio de Janeiro that specializes in trading sugar and
alcohol. However, during 2004, this partner did not perform to our expectations, and this has, in
part, impeded our commercialization efforts in Brazil. Because of this, the Company has determined
that, similar to the U.S., it must hire and train its own sales force to achieve meaningful sales
in Brazil. According to recent market studies, approximately 8.2 billion gallons of diesel fuel are consumed
by Brazils transport sectors. As in the U.S. market, we will initially target centrally fueled
truck and bus fleets as our first customers. Brazil experienced the same profile of testing by potential customers as that found in the U.S.
During 2004, one sugar mill tested O2Diesel in only a small portion of its truck fleet. To summarize, the potential customers for O2Diesel in Brazil include the following:  
    Trucks - sugar / alcohol mills
    Trucks - transport companies; and
    Buses - large municipalities. Later, our Brazilian subsidiary will seek to widen its market to include:  
    Trucks  non-transport companies, and
    Buses  intercity. In the U.S. and Canada, we expect to distribute our product, O2D05, directly to jobbers. Jobbers
is a term in the fuel industry to describe companies that have a supply infrastructure that
facilitates the purchase, blending, storage and delivery of fuel, which may include O2Diesel.
After purchasing our additive, jobbers will be responsible for all of the logistics necessary to
blend the components to produce O2Diesel. In most cases, they will purchase diesel and ethanol
and blend these with our additive. At the time of sale of the O2Diesel, the jobber will deliver
the fuel using its own transportation fleet, common carriers or fuel trucks of its customer. For the U.S., Canada and Brazil, we also intend to have our sales force market O2Diesel directly
to large centrally fueled fleets of vehicles and equipment, where the user would typically have its
own refueling infrastructure. In these cases, we must arrange for the delivery of O2Diesel to the
customers central fueling location. In limited situations, O2D05 by itself may be sold to large,
central fleet customers, but in these cases, the customer must have the proper facilities to blend
diesel fuel with fuel grade ethanol and additive. In most situations, we or the customer will
contract with jobbers or other fuel transportation companies to blend and deliver the O2Diesel.




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O2Diesel Corporation
(A Development Stage Company) To plan for the logistics necessary to deliver O2Diesel, we are in the process of establishing
a reliable network of ethanol producers and providers of fuel transportation services. Some progress towards creating a network was achieved in 2004, but much needs to be done to arrive
at the point where we have a seamless distribution network to serve our major markets. For large centrally fueled fleets, the methods of distribution will be substantially the same for
customers whether they are in the U.S., Canada or Brazil. However the distribution of fuel in
Brazil poses a potentially greater challenge than that in the U.S. This occurs because there are only a few companies in Brazil that deliver petroleum fuels to the
end user. As such, we have fewer choices from which to select partners in Brazil to establish an
infrastructure for the distribution of our fuel. Competitive business conditions and position in the marketplace: In general, competition to O2Diesels technology may be split into three categories:  1.
    Ethanol-diesel blended fuel technologies (e-diesel);2.
    Exhaust after treatment technologies; and3.
    Other fuels. Within the first category, which comprises e-diesel fuel technologies, we believe there are a
number of competitor companies that have or are attempting to develop fuel additives to compete
with O2D05. Based on limited market information, and even though some of the competing technologies
are owned by larger and better financed corporations, it appears that none of the technologies are
as advanced as that of O2D05. Other cost effective diesel fuel additive technologies, such as
detergents and metallic combustion improvers, are subject to significant regulatory issues that may
affect their commercial viability. Various exhaust after treatment technologies are available in the marketplace to reduce emissions.
Many of these technologies are designed for use on new vehicles, and, as such, may take several
years to have an impact on emissions over a large vehicle population. In addition, these after
treatment technologies may have higher implementation costs including the cost of vehicle
retrofits, which may also be expensive. We do not view exhaust after treatment technologies as
being in direct competition to O2Diesel. Moreover, we are exploring testing these devices with our
fuel to confirm whether additional benefits can be achieved when the two technologies are used
together. Other competing fuels include Ultra-Low Sulfur Diesel (ULSD) and bio-diesel. Beginning in
mid-2006, the diesel fuel specifications for the U.S. will change to require the use of ULSD for all
on-highway use. ULSD is defined as having less than 15 parts per million sulfur, and this low level
is necessary to allow current exhaust after treatment technologies to work effectively. ULSD is
more expensive than regular diesel and is in limited supply in the U.S. because of a lack of
refinery capacity. ULSD is available mostly in California, Texas and the Northeast. We believe that
our product, O2Diesel, may also work effectively with ULSD in a manner that enhances the benefits
of exhaust after treatment technologies. As a long-term strategy, we expect to look for
opportunities to work with refiners and distributors of ULSD as a means of broadening the market
for both fuels - ULSD and O2Diesel. Bio-diesel is a biomass-derived fuel similar in composition and performance to conventional low
sulfur diesel. It has been designated by the Department of Energy as an alternative fuel and is
mostly sold as a 20vol% blend with regular diesel fuel. Bio-diesel has some excellent fuel
characteristics, but it also has a number of significant drawbacks, among which, are its cost, lack
of availability and limited emissions benefits.




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O2Diesel Corporation
(A Development Stage Company) Below is a table which gives a brief overview of the advantages and disadvantages of the broad
ranges of technologies that may be considered as competing with O2Diesels fuel technologies. (This
summary is not intended to be all-inclusive for competing technologies.) Lower EmissionsOptions
    
    Advantages
    
    DisadvantagesBio-diesel
    
    Renewable content
    
    Variable quality, low
availability and high priceExhaust after
Treatment
Technology
    
    Effective; may be required
for 2007 model vehicles
    
    High cost, owner resistance and
usually used in
conjunction with ULSDUltra Low Sulfur
Diesel
    
    No alteration to
infrastructure; enables
after-treatment technology;
important long-term player
    
    Limited availability and more
expensive than regular dieselGas to Liquid &
Fischer Tropsch
    
    Clean fuel and low cost
materials
    
    High production cost, long lead
time, price volatilityHydrogen
Gas/Fuel
Cells
    
    Ultra clean vehicles
    
    Still at early research stageDiesel-Water
emulsions
    
    Reduces both PM and NOx
    
    Poor fuel stability, reduced
power and high cost
 In Brazil, there are both domestic and foreign companies seeking to develop an ethanol diesel
blending additive, but we believe that none of these potential competitors have perfected their
respective technologies. Sources and availability of raw materials: O2Diesel has a cooperation agreement with Cognis Deutschland GmbH (Cognis) for the manufacture
and marketing of the Companys additive globally. Cognis has manufacturing facilities in each
country in which we intend to sell our product. According to Cognis, these plants have sufficient
capacity to produce enough product to allow us to meet our budgeted sales for the United States,
Canada and Brazil for the next twelve months. Cognis has informed us that it does not anticipate
there will be any shortages of raw material over the next twelve months. And to date, Cognis has
supplied all of the additive required and has done so on a timely basis. Dependence on one or a few major customers: At the end of 2004, the Company was still a development stage company. We reported sales of only
$127,451 in 2004, but charged off approximately $26,097 of these sales to support the various tests
of our fuel being run by our customers. Beginning in 2005, we expect to begin selling our products
in commercial volumes. Only then will we start to develop a customer profile sufficiently large
enough to allow us to affirmatively state that we will not be dependent on just one or even a few
major customers. However, given the usage of diesel fuel in our target markets, U.S., Canada and
Brazil, the drive of local and national governments to press for cleaner air legislation, and the
mandates for our potential customers to comply with these legislative requirements, it is unlikely
that we will be dependent in any of these markets on one or even a few large customers.
Notwithstanding the foregoing, we have almost no sales history and cannot yet know for certain what
our likely customer base will be or if one will develop at all. Because of the many fuel distribution companies in the U.S. and Canada, it is unlikely that we will
be dependent upon one or only a few large companies to distribute O2Diesel. However, this may not
be true for Brazil. For example, in Brazil, the countrys fuel distribution network is concentrated
among a small number of large companies. Thus, it is possible, and perhaps likely, that we could
become dependent on one or two large distributors for the sale of O2Diesel in Brazil. In 2004, we
entered into a Memorandum of Understanding with Brazils sixth largest fuel distributor, by which
this company is to be given the exclusive right to distribute O2Diesel in the Southeast and
Southern parts of Brazil.




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O2Diesel Corporation
(A Development Stage Company) Patents/Trademarks: As part of our cooperation agreement with Cognis, we and Cognis are the joint owners of all patents
covering both the use and composition of O2D05. Patent applications have been filed in twelve
countries for O2D05, including the U.S., Canada, Brazil, and Europe. For this purpose, Europe is
counted as one country. As such, the patent application for Europe covers 20 countries, including
the more populous countries of the U.K., France, Germany, Italy and Spain. The patent applications
for the U.S. Brazil and Canada are pending. All legal costs associated with preparing, filing and
administering the jointly owned patents are shared equally by the Company and Cognis. We also have
a number of patents that have been issued that relate to the predecessor technology of O2D05. As a
strategic measure, the Company continues to fund all costs necessary to maintain some of these
patents. O2Diesel is the sole owner of these latter patents, which in general cover the use and
composition of its prior generation technology. We have filed trademark registration applications in the U.S. and the European Union for a mark
which includes the words and numbers O2Diesel as well as a figurative logo of the words. This past year, we developed a new marketing initiative which is styled as CityHome. On November
11, 2004, we filed applications for the trademark CityHome (and design) in eight classes of goods
and services. An application was also filed for the trademark TODAYS CLEAN AIR SOLUTION
TOMORROWS BRIGHTER FUTURE covering one class of goods and services. Government Approvals: In the U.S., O2Diesel is subject to regulation at the federal, state and local levels. In
addition, organizations such as the American Society for Testing & Material (ASTM) and the
National Conference on Weights & Measures (NCWM) set uniform industry product quality standards
and test methods which are often adopted by legislative bodies and regulatory agencies. These laws and regulations can and do change and these changes may favor or disfavor one product
over another. This is particularly true in the case of incentives that are either available or are
becoming available for the expanded use of cleaner-burning fuels like O2Diesel or other emissions
reduction technologies. In the U.S., O2Diesel is continuing the process to obtain regulatory approvals at various levels of
government. At the federal level, the primary regulatory body from which the necessary approvals
are required is the U.S. Environmental Protection Agency (EPA) which, among other things,
regulates the on-highway use of motor fuels. The process of becoming a registered fuel for
on-highway use is complex, costly and time-consuming. In 2003, O2Diesel completed a substantial
portion of the process leading to registration when an independent laboratory completed all testing
necessary to demonstrate that O2Diesel met the EPAs Tier 1 Health Effects Testing requirements.
There is a second battery of test protocols required to comply with the EPAs Tier 2
Health Effects requirements. It is unclear whether the Tier 2 tests will have to be performed. If
Tier 2 testing is required, completing all of the test protocols could require substantial expense
and time. In general, Tier 1 tests are designed to measure and confirm emissions data and their
effects on human health. Tier 2 tests are intended to measure the same factors but to a much
greater degree and in a more thorough manner. As noted below, a new series of tests are being
performed in California during 2005 to meet certain standards mandated by the state. If these
tests are successful, we are hopeful that they will obviate the need to perform the EPAs Tier 2
tests. Pending satisfaction of, or waiving the EPAs Health Effects Testing requirements, O2Diesel may be
sold for on-highway use under the grant of a broad EPA experimental fuel waiver from the
on-highway fuel/fuel additive registration requirements. States set strict requirements for the sale and distribution of motor fuels, and provide certain
incentives for the use of cleaner-burning fuels. Certain states also levy disincentives for the use
of dirtier fuels, often in the form of monetary penalties. With the exception of California,
which is permitted to set stricter state standards, all state motor fuel regulations are ultimately
governed by EPA policies set forth in the Clean Air Act. In 2003, O2Diesel achieved regulatory recognition (known as verification) in California granted
by the California Air Resources Board (CARB) for O2Diesel as an alternative diesel fuel, thus
making the fuel eligible for state and local incentives. During this same period, the Division of
Measurement Standards (DMS) of the California Department of Food & Agriculture designated
O2Diesel as a developmental engine fuel which is a requirement for a fuel to be marketed legally
in the state if it lacks an ASTM specification.




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##### 



O2Diesel Corporation
(A Development Stage Company) O2Diesel does not have an ASTM specification. As a condition to permitting the sale of
O2Diesel in California, CARB mandated, among other things that, in the case of storage or use of
O2Diesel, fuel storage tank vents, vehicle tank vents and fill openings must be fitted with flame
arrestors. In 2005, we plan to conduct a series of tests to qualify O2Diesel as a Diesel Emissions Control
Strategy fuel in California as well as a TxLed equivalent fuel in Texas. If these tests are
successful, we are hopeful that they will overcome the potential requirement to complete the EPAs
Tier 2 test protocols. In August 2004, Nevadas Division of Environmental Regulation approved O2Diesel as an alternative
fuel. Nevada requires that state, county and municipal fleets of 10 or more vehicles must use an
alternative fuel rather than regular transportation fuels such as gasoline or diesel fuel. In Canada, there are fewer limits or restrictions on the introduction of new motor fuel products
like O2Diesel, despite the fact that the key federal regulatory agencies  Environment Canada and
Natural Resources Canada  tend to follow the general policies set by the United States. One
important quasi-governmental organization that serves a regulatory control function is the Canadian
General Standards Board (CGSB), which works in a manner similar to ASTM. Fuels sold in Canada on
a widespread basis will ultimately be subject to an industry and government consensus-based product
specification. Across Canada and among the provinces, various tax and other incentives are in place
to encourage the expanded production and use of biomass-based transportation fuels. O2Diesel may be sold in Canada without obtaining any further approvals as long as sales are
limited to centrally fueled fleets. Various governmental approvals are required to sell O2Diesel in Brazil. These approvals are
administered and granted by two Brazilian agencies  ANP and IBAMA. ANP is the National Fuel
Regulation Agency and IBAMA is the National Environment Protection Agency. Approvals are needed
from both agencies before O2Diesel may be sold in Brazil. In 2004, we submitted applications to
both agencies and received limited, but favorable approvals from each. ANP has classified
O2Diesel as an alternative diesel fuel. In addition, IBAMA, approved O2Diesel for off road (e.g.
in mining) and railroad applications. Also, in response to requests that we submitted to ANP, it
granted approval for O2Diesel to be sold to specific customers and for specific regions in Brazil. Effect of existing or probable governmental regulations: Regulations may affect new motor fuel products by raising barriers to entry (thus keeping out
untested products that lack proof of claims for performance) or by providing incentives for
products that help achieve public policy goals. O2Diesel began an intensive testing program in 1999 which will continue through 2005. For the most
part, this testing is designed to provide proof to federal, state and local regulatory bodies as
well as to the military that O2Diesel has a positive impact in reducing emissions that contribute
to ground-level ozone in urban areas, and that it will reduce toxic particulate matter emissions.
Some of these agencies may provide incentives for the use of such products in cases where the
benefits of using the products can be verified. Regulations for motor fuels may have the effect of limiting competition from products that cannot
prove their claims to regulators, while giving others that can an advantage in the marketplace.
Moreover, the availability of federal, state and local incentives to encourage the use of verified
products may make O2Diesel a cost-effective fuel for fleets seeking to comply with tougher new
air quality regulations. As an example of these incentives, the U.S. government permits a credit
against excise tax for ethanol blended with diesel fuel. In prior years, this incentive was
computed differently, was more complex and was subject to a number of limitations, the most
significant being that it did not apply to ethanol diesel blends used in off-road vehicles and
equipment. On October 22, 2004, President Bush signed into law the American Jobs Creation Act of 2004 (P.L.
108-357). This new law made important changes to the existing law by allowing a refundable excise
tax credit for ethanol blended with diesel fuel. The new law, which is called the Volume Ethanol Excise Tax Credit
(VEETC) extends the credit through December 31, 2010. Generally, it provides that a credit may be
taken at $0.51 per gallon for ethanol blended with diesel fuel used for both on-road and off-road
applications. O2Diesel, when blended with the appropriate
ethanol, qualifies for this new excise tax credit. The Company is not aware of any incentives for the use of its additive or fuel in Brazil.




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O2Diesel Corporation
(A Development Stage Company) Estimate of the amount of time spent during each of the last two fiscal years on research and
development activities: O2Diesel has an agreement with Cognis for the joint development of co-solvency additive products as
well as the joint ownership of patents covering such products. Under the terms of this agreement,
O2Diesel is not required to devote time or incur any research and development expenditures for the
work performed by Cognis, but we are required to share equally in the legal costs to prepare, file
and maintain all patent applications and issued patents. See section below  Costs and effects of
complying with environmental laws. Costs and effects of complying with environmental laws: O2Diesel is faced with very few costs for it to comply with environmental laws and regulations.
However, we have incurred substantial costs in carrying out tests to demonstrate that the use of
our product will enable customers to comply with environmental laws and regulations. In the case of O2Diesel, many of the tests required by the U.S. government have been funded by
governmental appropriations. More specifically, in 2004, we spent about $532,000 in the U.S. in
connection with governmental, sponsored projects and tests. Most of the costs incurred in these
government test programs were reimbursed by appropriations from the U.S. Departments of Energy and
Defense. For a more detailed description of government appropriations, see Note 3 to the Financial
Statements on page F-12. At the start of 2005, the Company had government test programs in progress with total remaining
costs of approximately $2.9 million. A wide array of tests and product demonstrations are being
carried out under these programs. Included are product demonstrations in Nevada to test O2Diesel in non-tactical military equipment,
and in California to use O2Diesel in a fleet of refuse trucks. Other test programs underway
include completing the protocols to allow O2Diesel to be classified as a Diesel Emissions Control
Strategy fuel by the California Air Resources Board. As part of this same work, tests are being
carried out that would allow O2Diesel to become a TxLed equivalent fuel in Texas. Still other
tests will include using O2Diesel in mining equipment as well as seeking to obtain a military
procurement specification for the fuel. Based on the government funding in place, we believe that
approximately 80% of the costs to conduct all of these tests may be funded by appropriations from
the U.S. Departments of Energy and Defense. In 2004, we spent about $22,000 in Brazil for research and development projects and to obtain
approvals for O2Diesel from the agencies that are responsible for the countrys petroleum industry
and environmental laws. Brazils environmental agency, IBAMA has classified O2Diesel as an
alternative diesel fuel, and ANP, Brazils national petroleum agency, has granted approvals in
specific cases for the sale and use of O2Diesel. For 2005, we anticipate spending about $20,000 for various product and vehicles tests in Brazil. Employees: O2Diesel has fifteen full-time employees, twelve of which are in the U.S. and three in Brazil.
During this past year, we have relied on consultants to assist in commercializing our technology
and to help us in key technical areas. We expect to continue this practice in 2005. At present, we
employ fifteen consultants; three in marketing; two for sales; two in business development; four as
field technicians, three as laboratory technicians and one in government contracts. (c) Reports to Security Holders: We are currently subject to the reporting requirements of the Exchange Act, and we file periodic
reports including annual Form 10-KSB and quarterly Form 10-QSB, and other information with the
Securities and Exchange Commission (the SEC). In addition, we will upon request, furnish
stockholders with our Form 10-KSB containing audited consolidated financial statements
and Forms 10-QSB. We will provide without charge to each person who receives a copy of this Form 10-KSB, upon written or oral request, a copy
of any information that is incorporated by reference in this Form 10-KSB (not including exhibits
to the information that is incorporated by reference unless the exhibits are themselves
specifically incorporated by reference). Such request should be directed to O2Diesel Corporation,
Attention: Investor Relations, 100 Commerce Drive, Suite 301, Newark, DE 19713, telephone
302-266-6000. Our web site is www.o2diesel.com. For further information with respect to us, reference is made to all other reports and information
that we have filed with the SEC, which may be inspected and copied at the public reference
facilities of the SEC in Washington D.C.




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##### 



O2Diesel Corporation
(A Development Stage Company) Copies of such material can be obtained from the Public Reference Section of the SEC, 450 Fifth
Street, NW, Washington, D.C. 20549, telephone 1-800-SEC-0330, at prescribed rates and are available
on the World Wide Web at http://www.sec.gov. The SEC maintains information on this web site
regarding reports, proxy and information statements and other information pertaining to issuers
that file electronically with the SEC. Visitors to the site may access such information by
searching the EDGAR database on the SECs web site. 
 Item 2. Description of Property O2Diesel owns no real property. We rent 4,950 square feet of office space located at 100 Commerce
Drive, Suite 301, Newark, Delaware, 19713, under a five-year lease entered into in December 2003.
This space serves as the corporate headquarters of the group. The aggregate cost of this office
space over the lease term is $392,875, plus common area charges that are billed monthly to the
Company. We also have a small laboratory of about 2,500 square feet in Wilmington, Delaware,
rented under a three month lease for $1,063 per month, which expires May 31, 2005. In the first quarter of 2004, we rented office space of about 650 square feet in Sao Paulo, Brazil,
under a lease of 18 months, costing about $700 per month. In addition, we have rented a small
office in Curitiba, Brazil, paying $450 on a month to month lease. Our Curitiba office was
established to serve the local market and to provide technical support for customers in that
region. We own office equipment
costing approximately $154,000 and test and fuel storage equipment costing
about $173,000, for a total of $327,000. Total purchases of test and storage equipment in 2004
amounted to $120,000 and additions to office furniture and equipment totaled about $60,000. Test equipment acquired in 2004, includes $13,000 for our new laboratory and approximately $27,000
for a diesel truck, which we are using in conjunction with our laboratory to test O2Diesel. In
2004, we purchased a fuel storage tank costing $45,000 that is used for our government projects. We
also purchased a pump and peripheral equipment costing $35,000 for a storage tank used by one of
our jobbers in Texas. The additions of $60,000 to furniture and office equipment consisted of
furniture, computers and related equipment. 
 Item 3. Legal Proceedings O2Diesel is not a party to any legal proceedings as of the date of this report. 
 Item 4. Submission of Matters to a Vote of Security Holders No matters were submitted to a vote of the stockholders through solicitation of proxies
or otherwise during the fourth quarter of the year ended December 31, 2004. 
 PART II 
 Item 5. Market for Common Equity and Related Stockholder Matters Market Information: Effective May 16, 2001, the Companys shares of common stock were accepted for quotation on the
National Association of Securities Dealers Over-the-Counter Bulletin Board quotation service. On June 15, 2004, the American Stock Exchange approved our application to list 46,518,898 shares of
our common stock under the symbol OTD. Trading of our shares on the Exchange began July 1, 2004. In December 2004, we were notified by the AMEX that O2Diesel was not in compliance with the
Exchanges listing standards. Specifically, because of continuing losses and the fact that our
shareholders equity had fallen below $2.0 million, we had failed to meet the required listing
standards. In accordance with the procedures of the Exchange, we filed a plan (Plan) with it to demonstrate
the steps we shall take to return to full compliance. On February 15, 2005, the AMEX notified us
that it had accepted our Plan, and that we would be given until June 2006 in which to regain
compliance with the Exchanges listing standards. During this period, we will be subject to
periodic reviews by the AMEX to confirm that we are meeting the goals set forth in our Plan. As of
June 2006, our shareholders equity must be $6.0 million or more in order for us to be in
compliance with the Exchanges listing rules. To achieve that amount, we anticipate having to
raise a total of approximately $11.0 million in new equity during 2005. The Company believes it needs
to raise at least $8.2 million by the end of September
2005 to allow it to execute its business plan for the year 2005. In addition, the Company
believes it will need to raise an additional $2.8 million either in
2005 or prior to June 2006
 to allow it to return to full compliance with the listing standards of the AMEX. If
the Company were to fail to return to full compliance with the
Exchanges listing
standards, the AMEX would likely initiate procedures to de-list its common stock. If the
Companys common stock was to be de-listed by the AMEX, its shares would continue
to be traded as a bulletin board stock.




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##### 



O2Diesel Corporation
(A Development Stage Company) The quotations shown below reflect inter-dealer prices, without retail mark-up, mark-down or
commission and may not necessarily represent actual transactions. Per share common stock bid prices by quarter for the fiscal years ended December 31, 2004, December
31, 2003 and December 31, 2002: Quarter Ended
    
    High (1)
    
    
    Low (1)December 31, 2004(1)
    
    $
    1.88
    
    
    $
    0.75September 30, 2004(1)
    
    
    3.68
    
    
    
    0.64June 30, 2004(1)
    
    
    3.73
    
    
    
    3.60March 31, 2004(1)
    
    
    3.71
    
    
    
    3.55December 31, 2003(1)
    
    
    3.71
    
    
    
    3.35September 30, 2003(2)(1)
    
    
    3.52
    
    
    
    1.20June 30, 2003(1)
    
    
    1.20
    
    
    
    1.01March 31, 2003(1)
    
    
    1.20
    
    
    
    1.15
   (1)
    
    Source of Information: Reuters(2)
    
    First quarter ended after July 15, 2003 transaction with AAE Technologies International Plc. Holders of Common Equity: As of March 23, 2005, there were 29,150,823 shares of our common stock outstanding, held by
in excess of 777 stockholders of record. Dividends; To date, we have not paid any dividends on our common stock and we do not expect to declare or pay
any dividends on our common stock in the foreseeable future. Payment of dividends will depend upon
our future earnings, if any, our financial condition, and other factors as deemed relevant by the
Board of Directors. Recent Sales of Unregistered Securities: As part of the Offer, the Company undertook to raise an additional $3.5 million through a follow-on
private placement of our common stock (the Follow-On Private Placement). In the Follow-On Private
Placement, we raised $1,535,770, before expenses, and issued 1,025,784 shares of our common stock
at a price of $1.50 per share. The Follow-On Private Placement was closed on March 31, 2004. There was no underwriter involved in the Follow-On Private Placement. Sales of common stock under
the Follow-On Private Placement that were completed in non-U.S. transactions were exempt from
registration pursuant to Regulation S promulgated under the Securities Act. The sales of
common stock under the Follow-On Private Placement to accredited U.S. investors were exempt
pursuant to Regulation D promulgated under the Securities Act. As disclosed in our current report on Form 8-K filed with the SEC on March 12, 2004 and
incorporated herein by reference, the Company filed a Certificate of Designation with the Secretary
of State of the State of Washington defining the rights of holders of O2Diesel Series A 0%
Convertible Preferred Stock, par value $.0001 (Series A Preferred Stock). Pursuant to a
Convertible Preferred Stock Purchase Agreement between the Company and the purchaser named therein
(the Series A Purchaser) dated as of March 3, 2004, the Company issued to the Series A Purchaser,
800,000 shares of Series A Preferred Stock. The offering resulted in gross proceeds of approximately $3,200,000 to the Company,
prior to the deduction of fees and commissions. The sale of the Series
A Preferred Stock was exempt from registration pursuant to Regulation S promulgated under the
Securities Act. The Series A Preferred Stock was initially convertible into the Companys common stock at a
variable conversion ratio which was the lesser of (a) $4.00 as adjusted as provided in the Series A
Certificate of Designation (the Series A Fixed Conversion Price) or (b) eighty percent (80%) of
the lowest closing bid price for the Common Stock in the ten business days preceding the date of
conversion, but, in no case, less than 50% of the Series A Fixed Conversion Price. In September
2004, we renegotiated the conversion formula with the holder of these shares. Now the minimum
price at which the shares may be converted is equal to twenty-five percent (25.0%) of the Fixed
Conversion Price, or $1.00 per share. Pursuant to the amended agreement, the Purchaser may not
convert Series A Preferred Stock into our common stock for a period of two (2) years following the
closing date of this transaction. Under the revised agreement, in no event will the Series A
Purchaser receive more than 8,000,000 or less than 2,000,000 shares of the Companys common stock
upon conversion of the Series A Preferred Stock. The Series A Preferred Stock Certificate of
Designation and the Convertible Preferred Stock Purchase Agreement with the Series A Purchaser are
incorporated herein by reference.




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##### 



O2Diesel Corporation
(A Development Stage Company) On March 12, 2004, the Company filed a Certificate of Designation with the Secretary of State
of the State of Washington defining the rights of holders of O2Diesel Series B 0% Convertible
Preferred Stock, par value $.0001 (Series B Preferred Stock). Pursuant to a Convertible Preferred
Stock Purchase Agreement between the Company and the purchaser named therein (the Series B
Purchaser) dated as of March 29, 2004, the Company issued to the Series B Purchaser, 750,000
shares of Series B Preferred Stock. The offering resulted in
gross proceeds of approximately $3,000,000 to the Company, prior
to the deduction of fees and commissions. The sale of the Series B
Preferred Stock was exempt from registration pursuant to Regulation S promulgated under the
Securities Act. The Series B Preferred Stock was initially convertible into the Companys common stock at
a variable conversion ratio which was the lesser of (a) $3.65 as adjusted as provided in the Series
B Certificate of Designation (the Series B Fixed Conversion Price) or (b) eighty percent (80%) of
the lowest closing bid price for the Common Stock in the ten business days preceding the date of
conversion, but, in no case, less than 50% of the Series B Fixed Conversion Price. In September
2004, we renegotiated the conversion formula with the holder of these shares. Now the minimum
price at which the shares may be converted is equal to twenty-seven and four tenths per cent
(27.4%) of the Fixed Conversion Price, or $1.00 per share. Pursuant
to the amended agreement, the
Purchaser may not convert Series B Preferred Stock into our common stock for a period of two (2)
years following the closing date of this transaction. Under the revised agreement, in no event will
the Series B Purchaser receive more than 7,500,000 or less than 2,054,795 shares of the Companys
common stock upon conversion of the Series B Preferred Stock. The Series B Preferred Stock
Certificate of Designation and the Convertible Preferred Stock Purchase Agreement with the Series B
Purchaser are incorporated herein by reference. As of March 18, 2005, in a private placement (the $2.0 million Private Placement) of our common
stock, we had received subscriptions for 2,103,429 shares of our common stock at a price of $0.70 per
share. Also, as of this date, we had received cash of $1,379,100, before payment of an 8% commission due upon
receipt of the cash proceeds, and had a subscription receivable of $93,300. There was no underwriter involved in the $2.0 million Private Placement. Sales of common stock
under the $2.0 million Private Placement are exempt from registration pursuant to Section 4(2) of
the Securities Act, and Regulation D promulgated under the Securities Act. Subscribers to the $2.0 million Private Placement are to receive for each two shares of common
stock purchased one warrant to purchase one additional share of common stock. The warrant expires
twenty-four months following the closing of the $2.0 million Private Placement. Each warrant is
exercisable at a price of $0.70 per share during the first twelve months following the close of the
$2.0 million Private Placement, or at an exercise price of $1.05 per share in the second twelve
months following the close of the $2.0 million Private Placement. 
 Item 6. Managements Discussion and Analysis or Plan Of Operation Business Plan: The Company is classified as a development stage company as shown on our consolidated financial
statements for the year ended December 31, 2004. In 2004, we expected to have sales of our O2D05
additive and O2Diesel in sufficient volumes to cause our status as a development stage company to
terminate. Now, we anticipate that a change in our status as a development stage company will occur
in 2005. During 2005, we intend to devote our efforts to generating sales to our targeted customers
in the U.S., Brazil and to a lesser extent, Canada, expand sales and sponsorship revenues under our
CityHome initiative, and continue to improve our logistics network for the delivery of our
products. In addition, we plan to continue a series of product tests and demonstrations that relate
directly to our sales efforts, including having O2Diesel designated as a Diesel Emissions Control
Strategy fuel in California and a TxLed equivalent fuel for Texas. United States and Canada: Initially, our focus for the U.S. and Canada is to target key geographical areas and specific
diesel markets based upon: Current and projected size of diesel fuel consumption:  
    High-population centers under strict air quality regulations;
    Municipal transit fleets with an emphasis on public policy and a positive environmental image;
    Large concentrations of urban-based, centrally fueled fleets of trucks and buses;
    Off-road diesel powered equipment; and
    Diesel equipment used by port facilities and large-scale mining operations.




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##### 



O2Diesel Corporation
(A Development Stage Company) In the U.S., O2Diesels sales and marketing efforts for fleet sales will be focused on the
states of Texas and California, as well as the northeastern states of New York, New Jersey and
Pennsylvania. Taken together, these three areas account for about one-third of all diesel fuel used in the U.S.
In Canada, we intend to concentrate our efforts on the countrys large population centers in the
Eastern and Western provinces, but until we have commercialized our technology in the US, no
significant resources will be devoted to Canada. In late 2003, when we first began our sales efforts, we intended to rely heavily on our marketing
partner, Octel-Starreon (Octel), to launch O2Diesel in the U.S. and Canadian markets. During
2004, both we and Octel agreed that Octel did not have the ability or the time to take an active
role in selling our products. Until December 2004, Octel served as our exclusive sales
agent for the U.S. and Canada. In December 2004, we terminated our existing agreement with Octel
and entered into a new agreement by which it agreed to become a non-exclusive sales agent for the
same territories. Under this new agreement, Octel will earn a smaller commission on sales than it
would have earned under the previous one. Also, as part of the new agreement, Octel will provide to
us, on an as needed basis, laboratory and other technical assistance, including a quality control
function. As a result of changing our agreement with Octel, we have hired an internal sales force to advance
our sales efforts. During 2004 our sales force identified potential customers that fit the profile
to use O2Diesel. These were mainly centrally fueled fleets that were served by jobbers. In
selling to these customers, we faced several challenges. Almost all of these challenges centered
on the logistics for delivering O2Diesel to the customer. O2Diesel has devised parallel strategies
to meet our sales goals, and we are continuing to perfect these strategies. Under the first element of our strategy, we have signed distribution agreements with 10 jobbers,
who in turn have centrally fueled fleets as their customers. We plan to sell additive to the
jobbers and assist them in purchasing ethanol by either locating ethanol suppliers or purchasing
and reselling ethanol to them. However, we will only purchase ethanol as an accommodation to
a jobber, because we do not wish to tie-up our limited working capital to finance the purchase of
ethanol. The jobbers will blend our additive and ethanol with diesel fuel and then sell O2Diesel
to their customers. O2Diesels sales force and technical staff will work jointly with each jobber
and its customers to assist in the transition from the use of regular diesel fuel to O2Diesel. A
key part of working with each customer is to provide safety and training materials covering the use
of our fuel. In addition, O2Diesels technical staff plans to work with each customer in the
process of purchasing and installing flame arrestors and other devices for customer vehicles and
storage facilities. In some cases, we will be responsible for sourcing and installing these devices
while, in other cases, our technical staff will only have an oversight role. Finally, our
technical staff will work with the customer to insure that its storage facilities are clean and are
compatible for storing and dispensing O2Diesel During 2004, we developed a new sales and marketing concept styled as CityHome. This program
stresses the environmental benefits of our fuel and is designed to improve the air quality in urban
locations. We expect this initiative to be a key component of our sales strategy. In short,
CityHome provides a means for municipal transit agencies to convert their fleets to O2Diesel
without having to pay the higher costs of our fuel. CityHome programs are now being rolled out on
a limited basis, mostly to municipal fleets in smaller cities in the Midwestern states. We have
been successful in attracting fuel distributors to work with us in getting this initiative started. Currently, we have two cities using O2Diesel in CityHome installations, and we are in discussions
with several others to participate in the program. Through an innovative cost sharing concept with
companies that wish to be good corporate citizens (sponsors), we have designed a program which
permits the municipalities to purchase our fuel at costs which are the same as what they pay for
regular diesel fuel. Corporate sponsors, generally with a national or international
presence, will pay sponsorship fees to O2Diesel to take part in a clean air program for one or more
of the communities participating in a CityHome program. In return for sponsorship payments, each
sponsor will be given access to currently unused advertising space on buses and other advertising
assets owned by the municipality. Sponsorship fees will become additional revenue for us and will be recognized as such when a
sponsorship agreement is signed and the fees have been invoiced. Costs that are intended to be supported by the sponsorship fees
are recorded separately in the related expense line in our statement of operations. With regard to the advertising space, since the CityHome program is still in its beginning
phase and since we have been unable to assess the fair market value of the advertising space received, we assign no value to the space
at the time of the receipt. We are recognizing the value associated with the advertising space when we enter into a contractual arrangement
with a third party. The Company will consider assigning a fair value to the advertising space received at the time of the initial sale when
such fair value is more readily determinable, based upon, a history of cash transactions. We believe that CityHome
 will become one of the mainstays of our sales and marketing strategy.
 Following its launch in several smaller cities, CityHome will be marketed to larger municipalities throughout the U.S. As another part of our sales strategy, O2Diesels sales force plans to market and sell O2Diesel
directly to large centrally fueled fleets, government municipalities and others that operate
centrally fueled fleets of diesel powered equipment.




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##### 



O2Diesel Corporation
(A Development Stage Company) These target customers may initially include truck and bus fleets, construction and mining
companies as well as port facilities, and, later on, railroads, agricultural users, and the
military. In these cases, we will likely be responsible for all logistics required to deliver O2Diesel to
the customer. To achieve this end, we intend to work with fuel distributors that have the ability
to blend diesel fuel, ethanol and additives for delivery to a customers central fueling location.
We will supply our additive and may purchase the ethanol for delivery to the fuel supplier,
although our clear preference is to not finance the purchase of ethanol for our customers. In the
process of transitioning a customers fleet to O2Diesel, we need to put in place the logistical
support to insure that fuel is delivered on a timely basis. In this regard, O2Diesel is seeking to
create a network of ethanol suppliers and fuel transportation providers. With these large fleet
customers, our technical staff will work closely with each in all facets necessary to prepare the
vehicles or other equipment to use O2Diesel. This will include a review of the customers fueling
facilities for cleanliness and compatibility to O2Diesel, arranging for the cleaning of tanks and
filtering systems as necessary, as well as either purchasing and installing flame arrestors and
other devices or assisting the customer to do so. In Brazil, O2Diesel plans to target customers on a very focused basis. In general, these will be
miller fleets (sugar and ethanol producers), municipal bus and other fleets, and to a lesser
extent, centrally fueled truck fleets. We have established a small sales force and technical staff
in Brazil. The roll out of our product has been much slower than planed. Obtaining government
approvals and gaining market awareness has taken longer than we anticipated. In response to these
matters, we have made a decision to follow a less aggressive marketing strategy for Brazil. We
have taken steps to reduce our overhead and will scale back our marketing plans until we have a
solid base of customers in Brazil. Brazils fuel distribution system is more concentrated than that found in the U.S. As a
consequence, O2Diesel must join with one or more large fuel distributors that can blend and deliver
O2Diesel to customers in Brazil. In January 2005, we signed a Memorandum of Understanding with a
company reported to be the sixth largest fuel distributor in Brazil. This company will serve as
our exclusive distributor for O2Diesel in the South and Southeastern regions of Brazil. Failure
to attract distribution partners to cover other parts of Brazil will likely set back our timetable
for achieving market penetration in that country. Cash Requirements and Risk Factors: Based on current projected levels of operations and expenditures, we will need to raise additional
funds over the next twelve months. To date, we have not had any bank trade facilities, except an
overdraft line in the U.K. used to meet operating needs. This overdraft facility was repaid and
cancelled during 2003. However, if the Company achieves significant sales, we plan to apply for
trading lines with banks in the U.S. and Brazil as a means to finance our working capital needs. We
have favorable trade terms with our supplier of additive, but there is no assurance that these will
continue. Recently, the supplier in the U.S. indicated that it
may wish to renegotiate the trade terms for the supply of additive to
us. To the extent
the original terms continue, we expect to be able to purchase and sell our
additive product and match the receipt of sales proceeds to the payment for our additive purchases. Significant technical and logistical issues continued to affect our ability to generate sales in
2004. These issues have led to a need to raise additional funds to be used not only for working
capital, but, also, to allow us to meet the listing standards of the American Stock Exchange. First, as part of the process by which O2Diesel was approved for sale in California, the
California Air Resources Board set a number of conditions that we must adhere to on an ongoing
basis. One of the conditions is that all storage tanks in which O2Diesel is stored and all
vehicles that use the fuel must be fitted with devices known as flame arrestors. Flame arrestors
are safety devices which are intended to prevent a fire in the case that a spark or other type of
ignition might inadvertently enter the fill inlet of a fuel tank. Imposing this requirement has
proven to be a serious issue and has negatively impacted our ability to efficiently commercialize
our technology in the U.S. Even though flame arrestor technology has been used for many years in
other applications, flame arrestors in the required sizes and designs are not yet available as an
off the shelf item for use with O2Diesel. During most of 2004, we had an active research and development effort underway to design flame
arrestors and adaptors for vehicles that use O2Diesel. Some of these devices have undergone and
passed tests to insure that they are capable of complying with all required specifications. As
other flame arrestors are perfected, they will be subjected to the required tests. However, we have
now learned that the time and costs of designing and fitting flame
arrestors are greater than
what we previously thought. Even though we have gained a significant amount of technical knowledge
during 2004, we have still not obtained sufficient experience with sourcing, purchasing and fitting
flame arrestors for all types of vehicles and storage tanks to be able to accurately project the
cost and time of doing so.




---



##### 



O2Diesel Corporation
(A Development Stage Company) Moreover, there is insufficient history for us to be able to predict with certainty the
manpower required to accomplish this work. In addition, we have learned that certain engines
require the fitting of a primer pump to insure that the vehicle starts and runs properly in hot
weather. These devices are simple and readily available and the costs are known, but the necessity of adding
these devices to certain vehicles will increase our costs and is likely to increase the time
required to transition a fleet from using regular diesel fuel to the use of O2Diesel. Lastly, in
some buses, we have had to install safety fueling devices in the fuel inlet that serve the function
of flame arrestors, but are generally more expensive. These particular devices are readily
available in the market. All of these issues have led to a greater lead time than expected to convert a fleet from using
regular diesel to O2Diesel. In fact, the time it takes to do the conversion work may be the most
limiting factor to efficiently bring on more customers to use our fuel. As a means of
mitigating the time required for converting a fleet, we want our customers to do much of this work under our direction.
However, this policy is dependent upon obtaining an agreement from the customer to do the work.
The actual time required to convert a fleet to use O2Diesel is further limited by making
arrangements for the customers vehicles to be in one place long enough to affect the required
changes. In some cases for safety, insurance or union reasons, customers will require that they do
all of the work necessary for their vehicles and diesel powered equipment to use O2Diesel, as well
as arranging to insure that their storage and dispensing facilities are compatible with the use of
the fuel. Another concern we have relates to the logistics and storage of O2Diesel for fleets and other
diesel equipment that may use the fuel. To date, we have not completed the required logistics
arrangements to identify and finalize the best infrastructure to insure that we can arrange for a
supply of ethanol to blend with our additive and then arrange for the timely delivery of O2Diesel
to potential customers and its proper storage once delivered. In particular, it is very important
that storage tanks be cleaned prior to the introduction of O2Diesel into the customers refueling
station. We have made important strides in working with customers to insure that their storage
facilities are compatible with O2Diesel. Even with the experience we have gained over this past
year, we have not fully completed the necessary research and logistics studies to make certain that
the storage facilities of all users are capable of meeting the standards necessary to store and
dispense an ethanol based diesel fuel such as O2Diesel. As part of this on-going learning curve, we have confirmed that it is important to carefully select
ethanol suppliers because there is a wide range of fuel grade ethanol in the marketplace. It is
critical that the ethanol component of O2Diesel be of a consistently high quality and that it meet
certain other specifications. Selection of ethanol suppliers and creating a relationship with those
that can provide the quality of product we require is a critical need, and is a task that we will
devote more time to in 2005. In order to insure quality, we have developed a quality control function that constantly tests the
ethanol used by all customers. We have also learned that it is necessary to test the quality of
diesel blended with our additive and ethanol. Establishing our own laboratory facility has been a
significant help to us in developing quality control standards, and for carrying out the tests that
are necessary in preparing a fleet for conversion to use O2Diesel. None of these tests are time
consuming nor technically difficult, but they are critical to ensuring that our product functions
as intended. As we gain more experience, it may not be necessary to conduct the level and frequency
of tests that we expect to do over this coming year. The technical challenges over this past year have presented significant hurdles to commercializing
our technology. In most cases, we have overcome these obstacles by the application of technical
resources, payments to support our customers and a high level of customer service. All of this has
been time-consuming and has slowed our ability to bring our product to market. But it
has also created a base of knowledge which should prove helpful as we continue our efforts to
commercialize our technology. Given our projected level of expenses and the cash on hand as shown on our consolidated audited
balance sheet at December 31, 2004, it is clear that we lack adequate cash to conduct our business
according to our business plan. On January 21, 2005, we retained the services of a company that
committed to raise $2.0 million at a per share price of $0.70 within 30 days. This transaction did
not close within 30 days, but both parties continued to work towards raising the $2.0 million. As
of March 18, 2005, we completed a series of subscription agreements with investors who subscribed to 2,103,429 shares of our common stock for total proceeds of $1,472,400, of which we
have received cash of $1,379,100 before payment of an 8% commission and other expenses, leaving
subscriptions receivable of $93,300.




---



##### 



O2Diesel Corporation
(A Development Stage Company) The same company that was retained to raise the $2.0 million has also been retained to raise an
additional $3.0 million at a price equal of $0.70 per share. Further, the AMEX requires that shareholder approval be obtained by the Company for the sale of
common stock in a transaction if the price of the shares to be sold is less than the greater of
book or market value, and the number of shares equal 20% or more of the presently outstanding
common stock. In order to comply with this requirement, the Company will seek shareholder approval for the $3.0
million private placement at its next annual stockholders meeting, which is scheduled to be held
in the second quarter of 2005. Even if the $5.0 million is raised, we believe it will be necessary
to raise additional funds of approximately $6.0 million by the end of the third quarter of 2005 to
allow us to execute our business plan and to be in compliance with the AMEXs listing standards. There can be no assurance that we will be successful in our efforts to raise additional funds. Nor
can there be any assurance that the Company will generate sales and collect cash to offset our
operating expenses. As shown in the consolidated audited statements of operations contained in this
report, we have generated only $127,451 in sales for calendar year 2004. And, of this amount,
$26,097 was written off to support tests by potential customers to use our fuel. As of the date of
this report, we have only minimal orders on hand for either O2D05 or O2Diesel. Lastly, there can
be no assurance that actual events will not differ from those anticipated, or that general economic
conditions may not vary significantly in ways that could negatively impact our operations and cash
position. Research & Development: As part of our cooperation agreement with Cognis, we, along with Cognis, are the joint owners of
all patents covering both the use and composition of O2D05. Patent applications have been filed in
twelve countries for O2D05, including the U.S., Canada, Brazil, and Europe. For this purpose,
Europe is counted as one country. As such, the patent application for Europe covers 20 countries,
including the more populous countries of the U.K., France, Germany Italy and Spain. The patent
applications for the U.S. Brazil and Canada are pending. All legal costs associated with preparing,
filing and administering the jointly owned patents are shared equally by the Company and Cognis. We
also have a number of patents that have been issued that relate to the predecessor technology of
O2D05. As a strategic measure, we continue to fund all costs necessary to maintain some of these
patents. O2Diesel is the sole owner of these latter patents, which in general cover the use and
composition of its prior generation technology. We have filed trademark registration applications in the U.S. and the European Union for a mark
which includes the words and numbers O2Diesel as well as a figurative logo of the words. As mentioned earlier, we developed a new marketing initiative in 2004 which is styled as CityHome.
On November 11, 2004, we filed applications for the trademark CityHome (and design) in eight
classes of goods and services. An application was also filed for the trademark TODAYS CLEAN AIR
SOLUTION TOMORROWS BRIGHTER FUTURE covering one class of goods and services. During 2004, we incurred substantial costs in carrying out tests to demonstrate that the use of our
product will enable customers to comply with environmental laws and regulations. More specifically,
in 2004, we spent about $532,000 in the U.S. in connection with governmental sponsored projects and
tests. Most of the costs incurred in these government test programs were reimbursed by
appropriations from the U.S. Departments of Energy and Defense. For a more detailed description of government appropriations, see Note 3 to the Audited Financial
Statements on page F-12. At the start of 2005, we have government test programs in progress with total remaining costs to
complete of approximately $2.9 million. Under these programs a wide array of engine tests and
product demonstrations are to be conducted to further prove the emissions benefits of O2Diesel and
to show that the fuel performs well in specific applications. Included in the foregoing programs are product demonstrations in Nevada to test O2Diesel in
non-tactical military equipment, and to test it in California in a fleet of refuse trucks. Other
programs underway include completing the protocols to allow O2Diesel to be classified as a Diesel
Emissions Control Strategy fuel by the California Air Resources Board. As part of this same work,
tests are being carried out for O2Diesel to be designated as a TxLed equivalent fuel for Texas.
Still other tests will include using O2Diesel in large mining equipment as well as seeking to
obtain a military procurement specification for the fuel. Based on the government funding in place,
we believe that approximately 80% of the costs to conduct these tests may be funded by
appropriations from the U.S. Departments of Energy and Defense.




---



##### 



O2Diesel Corporation
(A Development Stage Company) We will also continue to devote time and to invest in the design and development of flame
arrestor technology. We have found that this is more labor intensive and time consuming rather than
requiring large outlays of capital. Most of the design work has been performed by our own personnel and consultants with the actual
fabrication work contracted out to specialized manufacturers. We expect this work to continue
through most of 2005. In 2004, we spent about $22,000 in Brazil for research and development projects and to obtain
approvals for O2Diesel from the agencies in Brazil responsible for the countrys petroleum
industry and environmental laws. These approvals are administered and granted by two Brazilian agencies - ANP and IBAMA. ANP is the
National Fuel Regulation Agency and IBAMA is the National Environment Protection Agency. Approvals
are needed from both agencies before O2Diesel may be sold in Brazil. In 2004, we submitted
applications to both agencies and received limited, but favorable approvals from each. ANP has
classified O2Diesel as an alternative diesel fuel. In addition, IBAMA, approved O2Diesel for off
road (e.g. in mining) and railroad applications. Also, in response to requests that we submitted
to ANP, it granted approval for O2Diesel to be sold to specific customers and for specific regions
in Brazil. For 2005, we anticipate spending about $20,000 for various product and vehicle tests in Brazil. Employees: At present, O2Diesel has fifteen full-time employees of which twelve are in the U.S. and three are
in Brazil. We have no part-time employees. During this past year, we have relied extensively on
consultants to assist us to commercialize our technology and to help us in key technical areas. At
present, we use fifteen consultants; three in marketing; two for sales; two in business
development; four as field technicians, three as  laboratory technicians and one in government
contracts. For the remainder of the year, we will add new personnel based on the pace of our
commercialization. Under our plan, we may add ten full-time employees in the U.S., but none in
Brazil, bringing our total employee count to twenty-five by the year-end. In the U.S., we plan to
hire one person in a management position, two for sales, four as field technicians, one for
accounting and one for office support. We anticipate continuing to employ ten to twelve consultants
serving in most of the same capacities in 2005 as in 2004. 
 Item 7. Financial Statements The Companys consolidated financial statements are filed with and begin on page F-1 of this
report. 
 Item 8. Changes in Disagreements with Accountants on Accounting and Financial Disclosures There have been no changes in accountants or disagreements with accountants on accounting and
financial disclosures. 
 Item 8A. Controls and Procedures    
 Item 8B. Other Information There were no disclosures of any information required to be filed on Form 8-K during the fourth
quarter of 2004 that were not filed.




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##### 



O2Diesel Corporation
(A Development Stage Company) PART III Item 9. Directors, Executive Officers, Promoters and Control Persons; Compliance With Section
16(a) of the Exchange Act
  Name
    
    Age
    
    PositionHendrik Rethwilm
    
    
    40
    
    
    DirectorKarim Jobanputra
    
    
    41
    
    
    DirectorRichard J. Roger
    
    
    45
    
    
    DirectorDavid L. Koontz
    
    
    62
    
    
    Chief Financial Officer, Secretary and DirectorAnthony Dean Smith
    
    
    72
    
    
    ChairmanAlan R. Rae
    
    
    46
    
    
    President, Chief Executive Officer and DirectorE. Holt Williams
    
    
    62
    
    
    Nominee for DirectorArthur E. Meyer
    
    
    77
    
    
    Nominee for Director
 Hendrik Rethwilm
 Karim Jobanputra
 Richard J. Roger




---



##### 



David L. Koontz
 Anthony Dean Smith
 Alan R. Rae
 E. Holt Williams has
 Arthur E. Meyer
 Audit Committee




---



##### 



Code of Business Conduct and Ethics
 http:/www.o2diesel.com.
 Section I6(a) Beneficial Ownership Reporting Compliance
   Item 10. Executive Compensation
 Executive Compensation
  Name and Principal
    
    
    
    
    
    Annual 
Compensation
    
    
    All Other
    
    
    Securities UnderlyingPosition
    
    Year
    
    
    Salary($)
    
    
    Compensation
    
    
    OptionsAnthony Dean-Smith
    
    
    2004
    
    
    
    150,000
    (d)Chairman(l)
    
    
    2003
    
    
    
    136,9642002
    
    
    
    0
    (c)
    
    
    
    
    
    
    2,500,000
    (c)Alan R, Rae
    
    
    2004
    
    
    
    254,000
    (d)
    
    
    28,878
    (b)President and Chief
    
    
    2003
    
    
    
    250,000
    
    
    
    66,320
    (a)(b)Executive Officer(2)
    
    
    2002
    
    
    
    172,806
    
    
    
    2,767
    (b)David L. Koontz
    
    
    2004
    
    
    
    200,000
    (d)
    
    
    25,357
    (b)Chief Financial
    
    
    2003
    
    
    
    177,500
    
    
    
    13,356
    (b)Officer and Secretary(3)
    
    
    2002
    
    
    
    27,500
    
    
    
    1,154
    (b)




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##### 



(a)
    
    Mr. Rae received a one-time payment of $50,000 to defray relocation costs for his move from
the United Kingdom to the U.S. in 2002. The amount was finalized and
payment was made to Mr. Rae in 2003. The excess of this
amount represents health and dental premiums paid on behalf of Mr. Rae and are more fully explained in footnote (b).(b)
    
    The Company pays monthly health and dental premiums for Mr. Rae and monthly health premiums
for Mr. Koontz, as well as an auto allowance for both Mr. Rae and Mr. Koontz.(c)
    
    In 2002, Mr. Anthony Dean-Smith was given 2.5 million options on AAE Technologies
International Plc common stock at an exercise price of GBP .04 per share as an incentive for Mr. Anthony Dean Smith to remain with
the Company. In addition, in 2003, the Board agreed to reduce the exercise price on the 2.5 million previously granted
options held by Mr. Anthony Dean-Smith from GBP .04 to GBP.026.(d)
    
    Effective September 2004, Mr. Dean-Smith agreed to defer fifty-percent (50%) and Mr. Rae and
Mr., Koontz agreed to defer one-fourth (25%) of their base salaries and auto allowances for a period of three months which ended
November 30, 2004. Each officer has agreed, on a voluntary basis, to extend the deferral month to month, and this understanding
is still in effect. As of December 31, Mssrs, Dean-Smith, Rae and Koontz were owed deferred compensation of $25,000, $22,167 and
$17,667, respectively. The deferred amounts owed to Mr. Dean-Smith are set forth below.(1)
    
    During 2003, Anthony Dean-Smith was the Chief Executive Officer of AAE Technologies
International, plc, and since July 15, 2003 is the Chairman of the Company.(2)
    
    During 2003, Alan R. Rae was the Chief Operating Officer of AAE Technologies International Plc,
and since July 15, 2003 is the President and Chief Executive Officer of the Company.(3)
    
    Prior to July 15, 2003, David L. Koontz was the Chief Financial Officer of 02Diesel, Inc., and
since July 15, 2003 is the Chief Financial Officer and Secretary of the Company.
 Compensation of Directors
    Options
  Employment
Contracts and Termination of Employment and Change-in-Control
Arrangements




---



##### 








---



##### 



(c)Number ofsecuritiesremaining available(a)
    
    
    
    
    
    
    for future issuanceNumber of
    
    
    (b)
    
    
    under equitysecurities to be
    
    
    Weighted-average
    
    
    compensation plansissued upon exercise
    
    
    exercise price of
    
    
    (excludingof outstanding
    
    
    outstanding
    
    
    securitiesoptions, warrants
    
    
    options, warrants
    
    
    reflected in columnPlan Category
    
    and rights
    
    
    and rights
    
    
    (a)Equity Compensation
Plans approved by
shareholders
    
    
    200,000
    
    
    $
    1.50
    
    
    
    5,587,500Equity Compensation
Plans not approved
by shareholders
    
    
    0
    
    
    
    0
    
    
    
    0Totals
    
    
    200,000
    
    
    $
    1.50
    
    
    
    5,587,500
    Directors, Officers and
    
    Shares Directly and5% Shareholders
    
    Beneficially Owned
    
    
    PercentAnthony Dean Smith
    
    
    4,337,451
    (a)
    
    
    13.96100 Commerce Drive Suite 301
Newark, Delaware 19713Alan R. Rae
    
    
    l,519,022
    (b)
    
    
    4.89100 Commerce Drive Suite 301
Newark, Delaware 19713David L. Koontz
    
    
    90,512
    
    
    
    *100 Commerce Drive Suite 301
Newark, Delaware 19713Karim Jobanputra
    
    
    4,000
    
    
    
    *100 Commerce Drive Suite 301Newark, Delaware 19713All directors and
officers as a group.
    
    
    5,950,985
    
    
    
    18,85




---



##### 






|  |  |              
|- |  | -------------
|* |  | Less than 1%.

(a)
    
    Mr. Anthony Dean-Smith owns directly 2,809,524 shares of the Companys common
stock. Mrs. Dean-Smith (spouse) directly owns 342,323 shares and Mr. Dean-Smiths two adult sons each own 592,802 shares.
Mr. Dean-Smith disclaims beneficial ownership of the shares held by his spouse and two adult sons. Mr. Dean-Smith
holds fully vested options to acquire 500,000 shares of the Companys common stock at an exercise price of $1.50.(b)
    
    A trust of which Mr. Rae is the beneficiary holds 819,787 shares, and Mrs. Victoria
Rae (spouse), owns 699,235 shares of the Companys common stock. Mr. Rae disclaims beneficial ownership of the shares held by
the trust to the extent that they are not attributable to his
proportionate interest in the trust Mr. Rae also disclaims
beneficial ownership of the shares held by Victoria Rae.










---



##### 



O2Diesel Corporation
(A Development Stage Company) 
 Item 13. Exhibits (a) Exhibits Exhibits included or
incorporated by reference in this document are set forth in the Exhibit Index below. 
 EXHIBIT INDEX Exhibit Number

    Description2.1(1)
    
    Agreement and Plan of Merger, between O2Diesel Delaware Corporation, a
Delaware corporation, and O2Diesel Corporation, a Washington corporation, dated as
of December 29, 2004.3.1(1)
    
    Certificate of Incorporation3.2(1)
    
    Bylaws4.1(2)
    
    Specimen Stock Certificate4.2(2)
    
    Stock Subscription Agreement4.3(3)
    
    $100,000 Promissory Note10.1(2)
    
    License Agreement10.2(2)
    
    Assignment of License10.3(4)
    
    Support Agreement10.4(4)
    
    Indemnity Escrow Agreement10.5(4)
    
    Option and Escrow Agreement10.6(4)
    
    Contribution and Cancellation Agreement10.7(4)
    
    Waiver Agreement10.8(4)
    
    Loan Agreement10.9(4)
    
    Form of Convertible Note10.10(4)
    
    Form of Employment Agreement between O2Diesel Corporation and Alan Rae10.11(4)
    
    Form of Employment Agreement
between O2Diesel Corporation and David Koontz10.12(4)(5)
    
    Cooperation agreement between Cognis and AAE10.13(6)
    
    Form of Agreement to Amendment Loan Agreement and Convertible Debenture10.14(7)
    
    Letter dated September 23, 2003 from the California Air Resources Board10.15(7)
    
    Memorandum of Understanding between BASF Aktiengesellschaft and
O2Diesel Corporation dated August 18, 200310.16(11)
    
    Supply and Distribution Agreement between the Company and ALOBAYYA Corporation dated April 20, 200410.17(12)
    
    Form of Subscription Agreement as entered into by and between the Company and each individual investor10.18(12)
    
    Form of Warrant




---



##### 



O2Diesel Corporation
(A Development Stage Company) Exhibit Number

    Description16.1(8)
    
    Letter from Manning Elliot to the Securities and Exchange Commission dated January 23, 200416.2(8)
    
    Letter from Cremin McCarthy & Company to the Securities and Exchange Commission dated February 2, 200431.1
    
    Certification of the Chief
Executive Officer pursuant to Rule 13a-14(a) or Rule
15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (filed
herewith)31.2
    
    Certification of the Chief Financial Officer pursuant to Rule 13a-14(a) or
Rule 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
(filed herewith)32.1
    
    Certification of the Chief Executive Officer and Chief Financial Officer pursuant to
18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002 (filed herewith)99.1(9)
    
    Certificate of Designation of the Rights and Preferences of
Series A 0% Convertible Preferred Stock of O2Diesel Corporation
filed with the Secretary of State of the State of Washington on
March 2, 200499.2(9)
    
    Convertible Preferred Stock Purchase Agreement by and among
O2Diesel Corporation and the Purchaser named therein, dated as of March 3, 200499.3(10)
    
    Certificate of Designation of the Rights and Preferences of
Series B 0% Convertible Preferred Stock of O2Diesel Corporation
filed with the Secretary of State of the State of Washington on
March 12, 2004 (filed herewith)99.4(10)
    
    Convertible Preferred Stock Purchase Agreement by and among
O2Diesel Corporation and the Purchaser named therein, dated as March 29, 2004 (filed herewith)
   (1)
    
    Previously filed as an exhibit to the
Companys current report on Form 8-K on January 5, 2005,
and incorporated herein by reference.(2)
    
    Previously filed as an exhibit to the Companys registration statement on
Form SB-2 on June 30, 2000, as amended September 19, 2000,
November 3, 2000, and
December 22, 2000, and incorporated herein by reference.(3)
    
    Previously filed as an exhibit to the Companys annual report on Form
10-KSB on March 29, 2002, and incorporated herein by reference.(4)
    
    Previously filed as an exhibit to the Companys current report on Form 8-K
on July 30, 2003, and incorporated herein by reference.(5)
    
    O2Diesel applied for, and was granted on February 25, 2004, confidential
treatment with respect to certain portions of this Agreement, which have been
omitted, pursuant to Rule 24b-2 of the Securities Exchange Act of 1934, as
amended.(6)
    
    Previously filed as an exhibit to the Companys quarterly report on Form
10-QSB for the quarter ended June 30, 2003, on August 14,
2003, and incorporated
herein by reference.(7)
    
    Previously filed as an exhibit to the Companys quarterly report on Form
10-QSB for the quarter ended September 30, 2003, on
November 19, 2003, and
incorporated herein by reference.(8)
    
    Previously filed as an exhibit to the Companys current report on Form 8-K
on February 6, 2004, and incorporated herein by reference.(9)
    
    Previously filed as an exhibit to the Companys current report on Form 8-K
on March 12, 2004, and incorporated herein by reference.(10)
    
    Previously filed as an exhibit to the
Companys annual report on Form 10-KSB on March 30, 2004,
and incorporated herein by reference.(11)
    
    Previously filed as Exhibit 16.3 to the Companys quarterly report on Form 10-QSB for the
quarter ended June 30, 2004, on August 13, 2004, and incorporated herein by reference.(12)
    
    Previously filed as an exhibit to the
Companys current report on Form 8-K on March 23, 2005,
and incorporated herein by reference.




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##### 



O2Diesel Corporation
(A Development Stage Company) 
 Item 14. Principal
Accountant Fees and Services &
 Description
    
    2004
    
    
    2003Audit Fees
    
    $
    222,079
    
    
    $
    163,000Audit-Related Fees
    
    $
    0
    
    
    $
    12,140Tax Fees
    
    $
    20,000
    
    
    $
    16,670All Other Fees
    
    $
    0
    
    
    $
    95,475Total Fees
    
    $
    242,079
    
    
    $
    287,285
  
    
    Audit fees are fees paid for professional services for the audit of our consolidated
financial statements.
    
    Audit related fees are for services by Cremin McCarthy & Company for assurance and related
services that are reasonably related to the performance of the audit or review of our
financial statements, including the preparation of a GAAP footnote reconciling UK/Irish GAAP
to US GAAP.
    
    Tax fees are fees primarily for tax compliance in connection with filing US income tax
returns in 2004 and Irish income tax returns in 2003.
 All
other fees are fees billed by Cremin McCarthy &
Company to us for any services not included in the first three
categories, including performing audits on the Companys subsidiary in local jurisdictions as well as rendering of a
 competent person opinion  in connection with the July 15, 2003 transaction and for services in preparing a
long-form and short form report intended to be used as part of the
Companys plan to obtain a listing on the Alternative
 Investment Market of the London Stock Exchange. We did not pay any fees to Ernst & Young during the
 year ended December 31, 2003. We accrued $83,300 for audit-related
and tax fees to Ernst & Young for the year-ended 2004. Non-Audit Services The Audit Committee has considered the compatibility
of non-audit services with the auditors independence. The Audit Committee pre-approves all audit and permissible non-audit services
provided by our independent auditors. 
 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized. O2DIESEL CORPORATIONBy:
    
    /s/ Alan R. RaeAlan R. RaeChief Executive Officer and DirectorMarch 30, 2005
 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons in the capacities and on
the dates indicated. TITLE
    
    DATE/s/ Alan R. Rae

Alan R. Rae
    
    Director and Chief Executive Officer
(Principal Executive Officer)
    
    March 30, 2005/s/ David L. Koontz

David L. Koontz
    
    Chief Financial Officer,Treasurer & Secretary
(Principal Financial and
Accounting Officer)
    
    March 30, 2005/s/ Anthony Dean Smith

Anthony Dean-Smith
    
    Director
    
    March 30, 2005/s/ Karim Jobanputra

Karim Jobanputra
    
    Director
    
    March 30, 2005/s/ Hendrik Rethwilm

Hendrik Rethwilm
    
    Director
    
    March 30, 2005/s/ Richard Roger

Richard Roger
    
    Director
    
    March 30, 2005




---



##### 



O2Diesel Corporation
(A Development Stage Company) INDEX TO CONSOLIDATED FINANCIAL STATEMENTS PAGEReport of Independent Registered Public Accounting Firm
    
    
    F- 1Consolidated Balance Sheet as of December 31, 2004
    
    
    F- 2Consolidated Statements of Operations for the years ended
December 31, 2004 and 2003 and the period from October 14, 2000
(inception) through December 31, 2004
    
    
    F- 3Consolidated Statements of Changes in Stockholders (Deficit) Equity for
the years ended December 31, 2004 and 2003 and the period from
October 14, 2000 (inception) through December 31, 2004
    
    
    F- 4Consolidated Statements of Cash Flows for the years ended
December 31, 2004 and 2003 and the period from October 14, 2000
(inception) through December 31, 2004
    
    
    F- 6Notes to Consolidated Financial Statements
    
    
    F- 7




---



##### 



O2Diesel Corporation
(A Development Stage Company) 
 Report of Independent Registered Public Accounting Firm The Board of Directors and
Shareholders of O2Diesel Corporation We have audited the accompanying consolidated balance sheet of O2Diesel Corporation (a development
stage company) as of December 31, 2004 and the related consolidated statements of operations,
stockholders equity (deficit), and cash flows for each of the two years in the period ended
December 31, 2004 and for the period October 14, 2000 (inception) through December 31, 2004. These
financial statements are the responsibility of the Companys management. Our responsibility is to
express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material misstatement. We
were not engaged to perform an audit of the Companys internal
control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for
designing audit procedures that are appropriate in the circumstances, but not for the purpose of
expressing an opinion on the effectiveness of the Companys internal control over financial
reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a reasonable basis for our
opinion. In our opinion, the financial statements referred to above present fairly, in all material
respects, the consolidated financial position of O2Diesel Corporation at December 31, 2004 and the
consolidated results of its operations and its cash flows for each of the two years in the period
ended December 31, 2004 and for the period October 14, 2000 (inception) through December 31, 2004,
in conformity with U.S. generally accepted accounting principles. The accompanying financial statements have been prepared assuming the Company will continue as a
going concern. As discussed in Note 1 to the consolidated financial statements, the Companys
accumulated losses and working capital deficiency raise substantial doubt about the Companys
ability to continue as a going concern. Managements plans with regard to these matters are also
described in Note 1. The 2004 financial statements do not include any adjustments that might
result from the outcome of this uncertainty. /s/ Ernst & Young LLP Philadelphia, Pennsylvania
March 18, 2005 F - 1




---



##### 



O2Diesel Corporation
(A Development Stage Company) 
 Consolidated Balance Sheet
 December 31, 2004
 ASSETSCURRENT ASSETSCash
    
    $
    1,172,250Accounts receivable
    
    
    16,144Due from related parties
    
    
    21,269Other receivables
    
    
    141,170Inventory
    
    
    83,235Prepaid expenses and deposits
    
    
    217,429Total current assets
    
    
    1,651,497FURNITURE AND EQUIPMENTOffice furniture equipment
    
    
    154,170Fuel and test equipment
    
    
    172,598326,768Less accumulated depreciation
    
    
    (68,353
    )258,415TOTAL ASSETS
    
    $
    1,909,912LIABILITIES AND STOCKHOLDERS EQUITYCURRENT LIABILITIESAccounts payable
    
    $
    589,746Accrued expenses
    
    
    777,313Due to related party
    
    
    157,768Deferred grants
    
    
    138,042Other current liabilities
    
    
    95,321Total current liabilities
    
    
    1,758,190Long-Term Liabilities
    
    
    10,946TOTAL LIABILITIES
    
    $
    1,769,136STOCKHOLDERS EQUITYPreferred stock: par value of $0.0001;
20,000,000 shares authorized; 1,550,000
issued and outstanding.(Liquidation value $15,500,000)
    
    
    155Common stock: par value of $0.0001; 100,000,000
shares authorized; 29,150,823 issued and
outstanding.
    
    
    2,915Additional paid-in capital
    
    
    18,760,144Accumulated other comprehensive income
    
    
    3,682Deficit accumulated during the development stage
    
    
    (18,626,120
    )Total stockholders equity
    
    
    140,776TOTAL LIABILITIES AND STOCKHOLDERS EQUITY
    
    $
    1,909,912
 F - 2 See Notes to Financial Statements




---



##### 



O2Diesel Corporation
(A Development Stage Company) 
 Consolidated Statements of Operations
 October 14, 2000(inception)Years Ended December 31,
    
    
    through2004
    
    
    2003
    
    
    December 31, 2004Revenue
    
    $
    127,451
    
    
    
    12,204
    
    
    $
    139,655Expenses:Cost of goods sold
    
    
    94,392
    
    
    
    11,271
    
    
    
    105,663Selling and marketing
    
    
    1,892,044
    
    
    
    980,780
    
    
    
    4,641,586Product testing and government grants, net
    
    
    305,443
    
    
    
    106,478
    
    
    
    934,679General and administrative
    
    
    4,744,233
    
    
    
    3,187,345
    
    
    
    13,663,394Total operating expense
    
    
    7,036,112
    
    
    
    4,285,874
    
    
    
    19,345,322Operating loss
    
    
    (6,908,661
    )
    
    
    (4,273,670
    )
    
    
    (19,205,667
    )Other income (expense):Interest expense
    
    
    (13,156
    )
    
    
    (41,813
    )
    
    
    (103,679
    )Interest income
    
    
    23,295
    
    
    
    3,817
    
    
    
    36,477Foreign currency gain, net
    
    
    88,042
    
    
    
    15,692
    
    
    
    152,660Other income, net
    
    
    82,466
    
    
    
    17,469
    
    
    
    348,447Total other income (expense)
    
    
    180,647
    
    
    
    (4,835
    )
    
    
    433,905Loss before benefit for income taxes
    
    
    (6,728,014
    )
    
    
    (4,278,505
    )
    
    
    (18,771,762
    )Benefit for income taxes
    
    
    
    
    
    
    (48,209
    )
    
    
    (145,642
    )Net loss
    
    $
    (6,728,014
    )
    
    $
    (4,230,296
    )
    
    $
    (18,626,120
    )Net loss per share (basic and diluted)
    
    $
    (0.23
    )
    
    $
    (0.20
    )
    
    $
    (1.15
    )Weighted average shares of common shares outstanding
    
    
    29,039,458
    
    
    
    52,614,550
    
    
    
    54,292,816Recapitalization resulting from the AAE
Technologies International PLC acquisition
    
    
    
    
    
    
    (31,655,936
    )
    
    
    (38,081,080
    )Weighted average shares of common shares
outstanding  giving effect to the recapitalization
    
    
    29,039,458
    
    
    
    20,958,614
    
    
    
    16,211,736
 F - 3 See Notes to Financial Statements




---



##### 



O2Diesel Corporation
(A Development Stage Company) 
 Statement of Changes in Stockholders (Deficit) Equity October 14, 2000 (Inception) through December 31, 2004
 Common
    
    
    AdditionalPreferred Stock
    
    
    Common Stock
    

    
    Stock
    
    
    Paid - InShares
    
    
    Amount
    
    
    Shares
    
    
    Amount
    
    
    Subscribed
    
    
    CapitalBalance at October 14, 2000 (Inception)Common stock issued in exchange for
interest in wholly owned subsidiaries
    
    
    
    
    
    
    
    
    
    
    43,008,772
    
    
    $
    430,088
    
    
    $
    
    
    
    $
    3,603,415Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Foreign currency translation adjustment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Comprehensive loss:Common stock issued on various dates
during 2001
    
    
    
    
    
    
    
    
    
    
    24,181,038
    
    
    
    241,810
    
    
    
    
    
    
    
    1,268,031Balance at December 31, 2001
    
    
    
    
    
    
    
    
    
    
    67,189,810
    
    
    
    671,898
    
    
    
    
    
    
    
    4,871,446Net lossForeign currency translation adjustment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Comprehensive loss:Common stock issued at $0.225 per
share on various dates during 2002
    
    
    
    
    
    
    
    
    
    
    703,282
    
    
    
    7,033
    
    
    
    
    
    
    
    515,657Balance at December 31, 2002
    
    
    
    
    
    
    
    
    
    
    67,893,092
    
    
    
    678,931
    
    
    
    
    
    
    
    5,387,103Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Foreign currency translation adjustment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Comprehensive loss:Common stock issued on various dates
during 2003
    
    
    
    
    
    
    
    
    
    
    555,556
    
    
    
    5,556
    
    
    
    
    
    
    
    119,444Common stock issued for consulting
services
    
    
    
    
    
    
    
    
    
    
    200,000
    
    
    
    2,000
    
    
    
    
    
    
    
    43,000Common stock issued for remaining
interest in subsidiaries on July 15,
2003
    
    
    
    
    
    
    
    
    
    
    4,356,200
    
    
    
    43,562
    
    
    
    
    
    
    
    46,323Common stock issued upon exercise of
stock options on various dates during
2003
    
    
    
    
    
    
    
    
    
    
    8,670,881
    
    
    
    86,709
    
    
    
    
    
    
    
    1,131,595Recapitalization resulting from AAE
acquisition on July 15, 2003
    
    
    
    
    
    
    
    
    
    
    (56,928,690
    )
    
    
    (814,283
    )
    
    
    
    
    
    
    814,283Common stock issued at $1.50 per share
on various dates during 2003
    
    
    
    
    
    
    
    
    
    
    3,333,333
    
    
    
    333
    
    
    
    
    
    
    
    4,999,667Expenses related to 2003 issuance of
common stock and recapitalization
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (795,650
    )Subscriptions for 754,900 shares of
common stock at $1.50 per share on
various dates during 2003
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,132,350
    
    
    
    Balance at December 31, 2003
    
    
    
    
    
    
    
    
    
    
    28,080,372
    
    
    
    2,808
    
    
    
    1,132,350
    
    
    
    11,745,765Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Foreign currency translation adjustment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Comprehensive loss:Common stock issued at $1.50 per share
on various dates in 2004
    
    
    
    
    
    
    
    
    
    
    1,070,451
    
    
    
    107
    
    
    
    (1,132,350
    )
    
    
    1,535,770Preferred stock issued on various
dates during 2004
    
    
    1,550,000
    
    
    
    155
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,478,609Balance - December 31, 2004
    
    
    1,550,000
    
    
    $
    155
    
    
    
    29,150,823
    
    
    $
    2,915
    
    
    
    
    
    
    $
    18,760,144
 F - 4 See Notes to Financial Statements




---



##### 



O2Diesel Corporation
(A Development Stage Company) Statement of Changes in Stockholders (Deficit) Equity
October 14, 2000 (Inception) through December 31, 2004 DeficitCommon
    
    
    Accumulated
    
    
    Accumulated
    
    
    TotalStock
    
    
    Other
    
    
    During the
    
    
    StockholdersSubscriptions
    
    
    Comprehensive
    
    
    Development
    
    
    EquityReceivable
    
    
    Income (Loss)
    
    
    Stage
    
    
    (Deficit)Balance at October 14, 2000 (Inception)Common stock issued in exchange for interest in
wholly owned subsidiaries
    
    $
    
    
    
    $
    
    
    
    $
    (4,138,684
    )
    
    $
    (105,181
    )Net loss
    
    
    
    
    
    
    
    
    
    
    (1,406,709
    )
    
    
    (1,406,709
    )Foreign currency translation adjustment
    
    
    
    
    
    
    (4,476
    )
    
    
    
    
    
    
    (4,476
    )Comprehensive Loss:
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,411,185
    )Common stock issued on various dates during 2001
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,509,841Balance at December 31, 2001
    
    
    
    
    
    
    (4,476
    )
    
    
    (5,545,393
    )
    
    
    (6,525
    )Net loss
    
    
    
    
    
    
    
    
    
    
    (1,712,803
    )
    
    
    (1,712,803
    )Foreign currency translation adjustment
    
    
    
    
    
    
    (74,085
    )
    
    
    
    
    
    
    (74,085
    )Comprehensive loss:
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,786,888
    )Common stock issued at $0.225 per share on various
dates during 2002
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    522,690Balance at December 31, 2002
    
    
    
    
    
    
    (78,561
    )
    
    
    (7,258,196
    )
    
    
    (1,270,723
    )Net loss
    
    
    
    
    
    
    
    
    
    
    (4,230,296
    )
    
    
    (4,230,296
    )Foreign currency translation adjustment
    
    
    
    
    
    
    179,689
    
    
    
    
    
    
    
    179,689Comprehensive loss:
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (4,050,607
    )Common stock issued on various dates during 2003
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    125,000Common stock issued for consulting services
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    45,000Common stock issued for remaining interest in
subsidiaries on July 15, 2003
    
    
    
    
    
    
    
    
    
    
    (409,614
    )
    
    
    (319,729
    )Common stock issued upon exercise of stock options
on various dates during 2003
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,218,304Recapitalization resulting from AAE acquisition
on July 15, 2003
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Common stock issued at $1.50 per share on various
dates during 2003
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,000,000Expenses related to 2003 issuance of common stock
and recapitalization
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (795,650
    )Subscriptions for 754,900 shares of common stock
at $1.50 per share on various dates during 2003
    
    
    (180,000
    )
    
    
    
    
    
    
    
    
    
    
    952,350Balance at December 31, 2003
    
    
    (180,000
    )
    
    
    101,128
    
    
    
    (11,898,106
    )
    
    
    903,945Net loss
    
    
    
    
    
    
    
    
    
    
    (6,728,014
    )
    
    
    (6,728,014
    )Foreign currency translation adjustment
    
    
    
    
    
    
    (97,446
    )
    
    
    
    
    
    
    (97,446
    )Comprehensive loss:
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (6,825,460
    )Common stock issued at $1.50 per share on various
dates in 2004
    
    
    180,000
    
    
    
    
    
    
    
    
    
    
    
    583,527Preferred stock issued on various dates during 2004
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,478,764Balance -  December 31, 2004
    
    
    
    
    
    $
    3,682
    
    
    $
    (18,626,120
    )
    
    $
    140,776
 F - 5 See Notes to Financial Statements




---



##### 



O2Diesel Corporation
(A Development Stage Company) 
 Consolidated Statements of Cash Flows October 14, 2000Years Ended December 31,
    
    
    (inception) through2004
    
    
    2003
    
    
    December 31, 2004Cash
flows from operating activitiesNet loss
    
    $
    (6,728,014
    )
    
    
    (4,230,296
    )
    
    
    (18,626,120
    )Adjustments
to reconcile loss to net cash used in operating activities:Depreciation
    
    
    39,057
    
    
    
    17,936
    
    
    
    124,080Amortization
    
    
    
    
    
    
    
    
    
    
    7,786Write off of patent
    
    
    
    
    
    
    
    
    
    
    337,329Common stock issued for consulting services
    
    
    
    
    
    
    45,000
    
    
    
    45,000Write off of equipment
    
    
    
    
    
    
    1,538
    
    
    
    1,538Changes in
operating assets and liabilities:Accounts receivable
    
    
    (3,940
    )
    
    
    (12,204
    )
    
    
    (16,144
    )Due from related parties
    
    
    172,166
    
    
    
    (35,667
    )
    
    
    136,499Other receivables
    
    
    135,489
    
    
    
    (220,885
    )
    
    
    (141,170
    )Inventory, prepaid expenses and other current assets

    
    
    (161,296
    )
    
    
    (2,200
    )
    
    
    (300,664
    )Accounts payable
    
    
    59,823
    
    
    
    (5,507
    )
    
    
    589,746Accrued expenses
    
    
    (106,765
    )
    
    
    626,905
    
    
    
    777,313Deferred grants
    
    
    72,170
    
    
    
    65,872
    
    
    
    138,042Other current liabilities
    
    
    29,824
    
    
    
    54,339
    
    
    
    84,163Cash flows used in operating activities
    
    
    (6,491,486
    )
    
    
    (3,695,169
    )
    
    
    (16,842,602
    )Cash flows from investing activitiesRestricted cash
    
    
    750,000
    
    
    
    (750,000
    )
    
    
    Purchase of furniture and equipment
    
    
    (158,089
    )
    
    
    (142,590
    )
    
    
    (384,033
    )Purchase of Patent
    
    
    
    
    
    
    
    
    
    
    (345,115
    )Cash flows provided by (used in) investing activities
    
    
    591,911
    
    
    
    (892,590
    )
    
    
    (729,148
    )Cash flows from financing activitiesNet proceeds from issuance of preferred stock
    
    
    5,478,764
    
    
    
    
    
    
    
    5,478,764Net proceeds from follow-on private placement
    
    
    583,527
    
    
    
    
    
    
    
    2,916,027Net proceeds from issuance of common stock
    
    
    
    
    
    
    3,847,775
    
    
    
    10,323,423Net borrowings of bank debt
    
    
    22,104
    
    
    
    1,526,032
    
    
    
    22,104Cash flows provided by financing activities
    
    
    6,084,395
    
    
    
    5,373,807
    
    
    
    18,740,318Effect of exchange rate changes on cash
    
    
    (97,446
    )
    
    
    179,689
    
    
    
    3,682Net increase in cash
    
    
    87,374
    
    
    
    965,737
    
    
    
    1,172,250Cash at beginning of period
    
    
    1,084,876
    
    
    
    119,139
    
    
    
    Cash at end of period
    
    $
    1,172,250
    
    
    
    1,084,876
    
    
    
    1,172,250Cash paid for interest -
    
    $
    7,700
    
    
    $
    42,000
    
    
    $
    96,700Cash paid for income taxes -
    

    None
    
    
    None
    
    
    None
 Non-cash transactions: Conversion of Bridge loan to common stock at 9/30/2003, $2,322,500. F - 6 See Notes to Financial Statements




---



##### 



O2Diesel Corporation
(A Development Stage Company) 
 Notes to Financial Statements
  1.
    The Company and Basis of Presentation The Company O2Diesel Corporation (O2Diesel or the Company) is in the development stage and has
developed a proprietary additive product designed to enable distillate liquid transportation
fuels to burn cleaner by facilitating the addition of ethanol as an oxygenate to these fuels.
To date, the Companys operations have continued to be focused on raising capital,
performing research and development, and bringing its product to market. O2Diesel Corporations predecessor, Dynamic Ventures, Inc., was incorporated in the State of
Washington on April 24, 2000. Dynamic Ventures, Inc. changed its name to O2Diesel
Corporation effective June 10, 2003, in contemplation of the reverse acquisition of AAE
Technologies International Plc (AAE). On July 15, 2003, O2Diesel Corporation acquired all of
the issued and outstanding shares of AAE in exchange for 17,847,039 shares of its common
stock. As a result of this transaction, the former shareholders of AAE acquired control of
the combined companies. The acquisition of AAE has been accounted for as a capital
transaction followed by a recapitalization. AAE was considered to be the accounting
acquirer. Accordingly, the historical financial statements of AAE are considered to be those
of O2Diesel Corporation for all periods presented. In conjunction with the reverse acquisition, the Company completed a private placement of its
common stock whereby it issued 3,333,333 shares of common stock at $1.50 per share. Of the
$5.0 million raised, approximately $800,000 was used to pay cost of the reverse acquisition
and private placement, $1.0 million was used to repay a bridge loan that was made in
contemplation of the transaction, and the balance of $3.2 million was used to fund the
ongoing developmental activities of the Company. O2Diesel was reincorporated in the state of Delaware in a transaction that became effective
on December 31, 2004. Basis of presentation The Companys consolidated financial statements for the year ended December 31, 2004, have
been prepared on a going concern basis, which contemplates the realization of assets and the
settlement of liabilities and commitments in the normal course of business. At December 31,
2004, the Company has a working capital deficiency of $106,693 and has accumulated losses of
$18,626,120. Further the Company has received notice that it is not in compliance with the
listing standards of the American Stock Exchange, (the AMEX or Exchange). Management has
concluded that additional equity capital must be raised in 2005 in order for the Company to
have sufficient cash to both execute its business plan and to be in compliance with the
AMEXs listing standards. In January 2005, the Company retained a third party to raise $5.0 million in a series of two
private placements of the Companys common stock at a price of $0.70 per share. The first
private placement is for just under $2.0 million and the second private placement is for just
over $3.0 million. As part of these private placements, the Company is obligated to comply with
certain conditions in connection with the $2.0 million private placement and is also
obligated to satisfy still other conditions applicable to the $3.0 million private placement. F - 7




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##### 



O2Diesel Corporation
(A Development Stage Company)
Notes to Financial Statements (continued)  1.
    The Company and Basis of Presentation (continued) Further, the AMEX requires that shareholder approval be obtained by the Company for the sale
of common stock in a transaction if the price of the shares to be sold is less than the
greater of book or market value, and the number of shares equal 20% or more of the presently
outstanding common stock. In order to comply with this requirement, the Company will seek
shareholder approval for the $3.0 million private placement at its next annual stockholders
meeting, which is scheduled to be held in the second quarter of 2005. As of March 18, 2005 the Company had received subscriptions under the terms of the $2.0 million
private placement for 2,103,429 shares of its common stock for total proceeds of $1,472,400
and had received cash of $1,379,100, before payment of an 8% commission and other expenses,
leaving subscriptions receivable of $93,300. The parties subscribing to these shares agreed
to waive certain of the conditions to permit the transaction to be closed as to their
respective subscriptions. In addition, the Company has received subscriptions under the
$3.0 million private placement for which the conditions have not yet been satisfied, or
waived. Subscribers to the $2.0 and $3.0 million private placements are to receive for each two shares of common stock purchased one warrant to purchase one additional share of common
stock. The warrant expires twenty-four months following the close of each transaction, and
is exercisable at a price of $0.70 per share during the following twelve months following the
close of each respective transaction, or at an exercise price of $1.05 per share in the
second twelve months following the close of each respective transaction. Further, as set forth in its plan filed with and accepted by the AMEX, management believes
that total equity of approximately $11.0 million, inclusive of
the $2 million and $3 million private placements, will need to be raised in order for the
Company to be in compliance with the listing standards of the AMEX by June 2006. It is the
Companys intention to raise equity of $11.0 million in 2005, but there can be no assurance
that it will be able to do so. If the Company is successful in raising $11.0 million in new
equity, management believes it will have sufficient cash to execute its business plan through
December 31, 2005, and be in compliance with the listing standards of the AMEX by June 2006. The consolidated financial statements in this report do not include any adjustments to
reflect the private placements or the possible future effects on the recoverability and
classification of assets or the amounts and classification of liabilities that may result
should management be unsuccessful in obtaining financing on terms acceptable to the Company.  2.
    Summary of Significant Accounting Policies Principles of Consolidation The consolidated financial statements include the accounts of the Company and all affiliated
subsidiaries. All significant inter-company balances and transactions have been eliminated in
consolidation. Cash and Cash Equivalents The Company considers all highly liquid instruments with a maturity of three months or less
at the time of issuance to be cash equivalents. F - 8




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##### 



O2Diesel Corporation
(A Development Stage Company)
Notes to Financial Statements (continued) 2. Summary of Significant Accounting Policies (continued) Restricted Cash Restricted cash consisted of cash held in the Companys bank account pursuant to the
provisions set forth in documents to the acquisition of AAE on July 15, 2003. The restricted funds
were released in equal amounts on October 15, 2003, and January 15, 2004. Fair Value of Financial Instruments The carrying amounts of cash and cash equivalents, accounts receivable, due to/from related
parties, other receivables, accounts payable, accrued expenses and deferred grants
approximate fair value because of their short-term nature. Concentration of Credit Risk and Allowance for Doubtful Accounts The Company provides an allowance for doubtful accounts for estimated losses resulting from
the inability of customers to make required payments. The Company does not require collateral and
it does not charge finance fees on outstanding trade receivables. The allowance is determined by
analyzing historical data and trends, as well as specific customers financial condition. Past-due
or delinquency status is based upon the credit terms of that specific customer from the date of
delivery. Charges for doubtful accounts are recorded in selling and marketing expenses. Trade
accounts receivables are written off to the allowance of doubtful accounts when collection appears
unlikely. Specific accounts receivable of $26,097 were written-off during 2004. Inventories Inventories, consisting of fuel additive held at third party locations, are stated at the
lower of cost as determined using the first in, first out (FIFO) method, or market value. Furniture and Equipment and Depreciation Furniture and Equipment are stated at cost, less accumulated depreciation. Depreciation is
provided over the estimated useful lives of the assets on a straight-line basis. The
estimated useful lives of fixed assets are as follows: Office furniture and equipment
    
    3 to 5 yearsFuel and test equipment
    
    5 years
 Depreciation expense recorded in the accompanying Consolidated Statement of Operations was
$39,057, $17,936 and $124,080 for the years ending December 31,
2004, and 2003, and the period
October 14, 2000 (inception) through December 31, 2004. Accounting for Impairment of Long-Lived Assets The carrying value of intangible assets and other long-lived assets are reviewed on a regular
basis for the existence of facts or circumstances that may suggest impairment. The Company recognizes
impairment when the sum of the expected undiscounted future cash flows is less than the
carrying amount of the asset. Impairment losses, if any, are measured as the excess of the
carrying amount of the asset over its estimated fair value. F - 9




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##### 



O2Diesel Corporation
(A Development Stage Company)
Notes to Financial Statements (continued) 2. Summary of Significant Accounting Policies (continued) Revenue Recognition The Company sells its products directly to customers and through
its non-exclusive sales agent for the United States and Canada. On sales through its non-exclusive sales agent,

the Company is paid its manufacturers cost plus a share of the gross profit realized by the non-exclusive sales agent on
 sales to the end user. The sales agent is
 obligated to pay the Company a price utilizing a formula based upon the selling price to the end user. Revenue on such sales
are recorded gross at the price determined by this formula. In both types of sales transactions, revenue from the sales of product
is recognized and recorded upon the passage of title of the product to the customer and following confirmation that the customer is
 utilizing the final blended fuel. Shipping and Handling Costs The Company classifies costs associated with shipping and handling activities within cost of
goods sold in the consolidated statement of operations. Shipping and handling costs for the
years ended December 31, 2004, and 2003, and the period
October 14, 2000, (inception) through
December 31, 2004, were $24,498, $1,941 and $26,439, respectively. Research and Development Costs Research and development costs are expensed as incurred. However, the Company receives
appropriations from governmental agencies to fund certain if its research and development
efforts. The Company evaluates the conditions of the appropriation and either increases
revenue, decreases expenses or reduces the cost of fixed assets depending upon the attributes
of the underlying grant. Appropriations are not recognized until there is reasonable
assurance that the Company will comply with the conditions of the grant and that the grant
will be received. Advertising Expenses Advertising costs are expensed as incurred. Advertising expense was $500,000 for the year
ended December 31, 2003, and $450,000 the period October 14, 2000 (inception) to December 31,
2004. There were no advertising expenditures in 2004 or prior to
2003. In 2004, the Company
terminated the contract and recovered $50,000 of the expense. Net Loss Per Common Share (Basic and Diluted) Basic net loss per common share is computed by dividing the net loss available to common
stockholders by the weighted average number of common shares outstanding during the period.
Diluted net loss per share gives effect to all dilutive potential common shares outstanding
during the period using the if-converted method. Diluted net loss per share excludes all
potential dilutive common shares if their effect is anti-dilutive. The weighted average
number of shares used to compute basic and diluted loss per share is the same since the
effect of the dilutive securities is anti-dilutive. Accounting for Stock-Based Compensation Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation
(SFAS 123) provides companies with a choice to follow the provisions of SFAS 123 in
determination of stock-based compensation expenses or to continue with the provisions of
Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (APB
25). The Company continues to follow APB 25. Pro forma effects of SFAS 123 were immaterial
for the years ended December 31, 2004, and 2003, and for the
period October 14, 2000,
(inception) through December 31, 2004. F - 10




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##### 



O2Diesel Corporation
(A Development Stage Company)
Notes to Financial Statements (continued) 2. Summary of Significant Accounting Policies (continued) In December 2004, the FASB issued SFAS No. 123 (revised 2004), Share-Based Payment (SFAS
No. 123(R)), which replaces SFAS No. 123 and supersedes APB
Opinion No. 25. SFAS No 123(R)
requires all share-based payments to employees, including grants of employee stock options,
to be recognized in the financial statements based on their fair values beginning with the
first interim period after June 15, 2005, with early adoption encouraged. The pro forma
disclosures previously permitted under SFAS No. 123 will no longer be an alternative to
financial statement recognition. The Company is required to adopt SFAS No. 123(R) in the
third quarter of 2005. Under SFAS No. 123(R), the Company must determine the appropriate fair
value model to be used for valuing share-based payments, the amortization method for
compensation cost and the transition method to be used at the date of adoption. The
permitted transition methods include either retrospective or prospective adoption. Under the
retrospective option, prior periods may be restated either as of the beginning of the year of
adoption or for all periods presented. The prospective methods requires that compensation
expense be recorded for all unvested stock options at the beginning of the first quarter of
adoption of SFAS No.123(R), while the retrospective methods would record compensation
expense for all unvested stock options beginning with the first period presented. The
Company is currently evaluating the requirements of SFAS No. 123(R) and expects that adoption
of SFAS No. 123(R) may have a material impact on the Companys consolidated financial
position and consolidated results of operations. The Company has not yet determined the
method of adoption or the effect of adopting SFAS No. 123(R), and it has not determined
whether the adoption will result in amounts that are similar to the current pro forma
disclosures under SFAS No. 123(R). Income taxes Income taxes are accounted for using the liability method in accordance with SFAS No. 109,
Accounting for Income Taxes. Under SFAS 109, deferred tax assets or liabilities are
computed based upon the difference between the financial statement and income tax bases of
assets and liabilities using the enacted marginal tax rate applicable when the related asset
or liability is expected to be realized or settled. Deferred income tax expense or benefits
are based on the changes in the asset or liability from period to period. If available
evidence suggests that it is more likely than not that some portion or all of a deferred tax
asset will not be realized, a valuation allowance is recorded to reduce the deferred tax
assets to the amount that is more likely than not to be realized. Future changes in such
valuation allowance would be included in the provision for deferred income taxes in the
period of change. Use of Estimates The preparation of financial statements in conformity with accounting principles generally
accepted in the United States requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of revenues and
expenses during the reporting periods. Actual results could differ from those estimates. F - 11




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##### 



O2Diesel Corporation
(A Development Stage Company)
Notes to Financial Statements (continued)  2.
    Summary of Significant Accounting Policies (continued) Foreign Subsidiaries The Company has foreign subsidiaries whose local currency has been determined to be the
functional currency. For these foreign subsidiaries, the assets and liabilities have been
translated using the current exchange rates, and the income and expenses have been translated
using the weighted average of historical exchange rates during the reporting period. The
adjustments resulting from translation have been recorded separately in shareholders
(deficit) equity as other comprehensive income (loss) and are not included in determining
the consolidated net loss. As of December 31, 2004, other comprehensive income included
$97,446 of cumulative income from foreign currency translation. On December 31, 2004, the Company ceased operations at two of its wholly-owned subsidiaries
in the United Kingdom. In connection with the cessation, the Company recorded an exchange
gain in the 2004 consolidated statement of operations of $94,396 to write-off cumulative
translation gains recorded in other comprehensive income (loss) recorded in stockholders
(deficit) equity. The subsidiaries were primarily holding companies and had no assets or
liabilities as of December 31, 2004. For the year ended December 31, 2004, these
subsidiaries had net losses of $16,975. The Company began operations in Brazil in March of 2004 by establishing a 75% owned
subsidiary. During 2004, the Brazilian subsidiary recognized $2,487 of revenue and at
December 31, 2004 had net assets of $26,930. Transactions in Brazil are denominated in and
the functional currency is the Brazilian Real, accordingly, no currency exchange rate gains
or losses are recorded in the accompanying consolidated statement of operations for Brazilian
operations. At December 31, 2004, the Brazilian operations had aggregate losses of $714,237.
The minority stockholders portion of aggregate losses is not recorded in the consolidated
balance sheet since reimbursement of this amount from the minority stockholders is not
assured. Segment Reporting The Company is a development stage company and has not made sales of its products in
commercial volumes. Management believes that the Company currently operates and manages the
business as one business segment. Impairment of Intellectual Property Rights Prior to the fourth quarter of 2002, the Company was pursuing the marketability of a
technology it had acquired for $424,659. In December 2002, the Company determined that the
related product was no longer commercially viable and would no longer be pursued. As a
result of this decision, it was determined that the asset would not be recoverable as there
was no alternative market for the technology. Accordingly, the net book value of $345,115
was charged to general and administrative expenses during 2002. F - 12




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##### 



O2Diesel Corporation
(A Development Stage Company)
Notes to Financial Statements (continued)  3.
    Government Appropriations Appropriation from the U.S. Department of Energy In 2002, the Company received an appropriation of $1,107,734, which was increased to
$2,039,650 as of September 15, 2004, from the U.S. Department of Energy (DOE) to test the
Companys fuel additive as well as its blended fuel, O2Diesel. This appropriation is managed
for the DOE by the National Renewable Energy Laboratory (NREL) under a contract which, as
amended, continues until December 31, 2005. Under the terms of the contract, the Company is
reimbursed by NREL for 80% of the costs incurred to complete the Statement of Work as set
forth in the contract. The Company charges all expenses as incurred to operations and accrues
all amounts receivable under the contract as a reduction to contract expenses. As of December 31, 2004, the Company had
incurred costs of $989,850 towards completion of the contract, leaving a balance of
$1,049,800 in costs to complete the contract. From the inception of the contract in December
2002 through December 31, 2004, the Company billed NREL $791,935 of which $99,591 is included
in other receivables as of December 31, 2004. Appropriation from the U.S. Department of Defense (1): In 2003, the Company received an appropriation of $1,000,000 from the U.S. Department of
Defense to test O2Diesel fuel in non-strategic military vehicles operated by the U.S. Air
Force at Nellis Air Force Base in Las Vegas, Nevada. Under the terms of this Appropriation, a
third party is to be paid $200,000 to administer this program on behalf of the Department of Defense. The remaining
$800,000 is to be used to fund purchases of O2Diesel fuel, certain capital equipment and to
reimburse the Company for its labor, overhead and out-of-pocket costs required to complete
this project. Under this program, the Company is required to meet certain milestones as a
condition to receiving reimbursements for its costs. Thus, upon achieving a milestone, the
Company accrues the amount due and submits an invoice for reimbursement. All amounts are
expensed as incurred, and all amounts receivable for work done are treated as a reduction to
expense over the period earned. The period of performance for this program ran from October
7, 2003 to December 31, 2004. Through December 31, 2004, the Company had achieved three milestones and, since inception, has billed
$200,000 related to this appropriation. Through December 31, 2004, the Company has received
cash in excess of costs incurred of $138,042 and has recorded Deferred Grants at December 31,
2004 in the Consolidated Balance Sheet. All amounts billed had been received as of December
31, 2004. Appropriation from the U.S. Department of Defense (2): On January 11, 2005, the Company entered into a contract with a value of $1,085,000 from the
U.S. Department of Defense. Under this contract, the Companys O2Diesel fuel is to be
tested in a maximum of forty (40) non-tactical vehicles at US Air Force bases in Nevada for
an 18 month period. Furthermore, the Company is to complete certain engine testing and other
work required for the acceptance of O2Diesel as a viable alternative fuel for use by the Air
Force. Work on this contract commenced on November 1, 2004 and is to continue through
November 30, 2006. Notwithstanding that the agreement for this contract was signed in January
2005, the Company was asked to begin work in 2004 and, by a letter from the Administrator,
was authorized to incur costs in an amount not to exceed $75,000. This is a time and
materials contract that is administered for the U.S. Department of Defense by a third party
contractor. The Company charges all costs as incurred to expense and accrues all amounts
receivable under the contract as a reduction to contract expenses. Billings under this
contract are to be made monthly. As of December 31, 2004, costs totaling $43,938 had been
incurred, and, of this amount, $38,165 had been billed and was outstanding as of the
year-end. F - 13




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##### 



O2Diesel Corporation
(A Development Stage Company)
Notes to Financial Statements (continued)  5.
    Other Receivables Other receivables consisted of the following at December 31, 2004: NREL
Appropriation
    
    $
    99,591ITC Appropriation
    
    
    38,165Reimbursement due from Cognis
    
    
    3,414$
    141,170
  6.
    Accrued Liabilities Accrued liabilities consisted of the following at December 31, 2004: Legal and professional
    
    $
    498,262Investor
Relations*
    
    
    250,723Other
    
    
    28,328$
    777,313
 
 * NOTE: Within Investor
Relations, the Company recorded an accrual for both an investor
relation outsourcing contract ($150,000) and costs associated with
raising capital ($100,723).  7.
    Deferred Financing and Business Acquisition Costs During 2003, management began
the process to list its common stock on the Alternative Investment Market
(AIM) in London, England. All legal, accounting, and other related costs incurred in
connection with the AIM listing were capitalized as deferred financing costs. In December
2003, management determined that the Company would terminate its plan to seek an AIM listing.
Accordingly, deferred financing costs of $517,000, were charged to expense for the year ended December 31, 2003. The Company records the cost of equity financings as a reduction of the associated proceeds.  8.
    Income Taxes No provision for Federal and state income taxes has been recorded during the periods
presented due to the Companys significant operating losses in each year. The income tax
benefit reflected in the accompanying consolidated statement of
operations is the benefit recognized in Ireland for the periods presented. Deferred income taxes reflect the net tax effects of temporary differences between the
carrying amounts of assets and liabilities for financial reporting purposes and the amounts
used for income tax reporting purposes. Significant components of the Companys deferred tax
asset as of December 31, 2004 are as follows: Net operating loss carryforwards
    
    $
    4,332,273Deferred revenue
    
    
    87,000Accrued expenses
    
    
    60,000Total deferred tax asset
    
    
    4,479,273Valuation allowance
    
    
    (4,479,273
    )Net deferred tax asset
    
    $
    
 F - 14




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##### 



O2Diesel Corporation
(A Development Stage Company)
Notes to Financial Statements (continued)  8.
    Income Taxes (continued) Management has determined that a valuation allowance equal to 100% of the existing deferred
tax assets is appropriate given the uncertainty regarding the ultimate realization of these
assets. At December 31, 2004, the Company had Federal and state net operating loss
carryforwards of approximately $10.1 million for income tax purposes. If not used, these
carryforwards begin to expire in 2021 for Federal and state tax purposes. Federal tax rules
impose limitations on the use of net operating losses following certain changes in ownership.
If such a change occurs, the limitation would reduce the amount of the benefits that would be
available to offset future taxable income each year, starting with the year of ownership
change. As of December 31, 2004, the Company had an Irish net operating loss carryforward of
approximately $304,000 which can be carried forward indefinitely, and a Brazilian net
operating loss of approximately $527,000 that may be carried forward indefinitely, but which
is subject to annual usage limitations.  9.
    Stockholders Equity Recapitalization On July 15, 2003, O2Diesel Corporation and AAE Technologies International Plc (AAE) entered
into a merger transaction whereby O2Diesel acquired all of the issued and outstanding share capital
of AAE in exchange for the issuance of 17,847,039 shares of common stock of O2Diesel. Although
O2Diesel was the legal acquirer, AAE was deemed to be the accounting acquirer. The transaction
was accounted for as an AAE capital transaction, accompanied by a recapitalization. As a result of the transaction, the historical financial statements of AAE are deemed to be
those of the Company for financial reporting purposes. The equity accounts of AAE have been
adjusted for the recapitalization to reflect the equity structure of O2Diesel, the legal acquirer.
Specifically, the historical stockholders equity of AAE prior to the transaction has been affected
for the equivalent number of shares of O2Diesel common stock received in the transaction, with an
offset to paid-in capital; the accumulated deficit of AAE was carried forward after the
transaction; and the loss per share for all periods prior to the transaction was restated to
reflect the number of equivalent common shares received by AAE in the transaction. Issuances of Common Stock In connection with the merger between O2Diesel and AAE in July 2003, the Company completed a
private placement of 3,333,333 shares of common stock at $1.50 per share. The private placement was
partially effectuated through the issuance of a $4 million convertible note that was convertible
into the Companys common stock at $1.50 per share. In October 2003, the Company repaid $1,677,500
of the note and the $2,322,500 balance was converted into 1,548,333 shares of common stock. The
remaining 1,785,000 shares of common stock issuable under the private placement were issued to
other parties in exchange for cash proceeds of $2,677,500. The expenses associated with the merger
and subsequent issuances of shares were $795,650 and have been reflected as a reduction of paid-in
capital. F - 15




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##### 



O2Diesel Corporation
(A Development Stage Company)
Notes to Financial Statements (continued)  9.
    Stockholders Equity (continued) During the second half of 2003, the Company received subscriptions for the issuance of 754,900
additional shares of common stock in conjunction with a follow-on private placement. The Company
received $952,350 in gross proceeds related to the subscriptions for 634,900 shares and recorded a
subscription receivable of $180,000 related to the subscriptions for the remaining 120,000 shares.
In the first quarter of 2004, the Company received subscriptions for the issuance of 390,884
additional shares of common stock pursuant to the follow-on private placement. The Company received
$386,325 in gross proceeds related to the subscriptions for the 390,884 shares, and it collected
gross proceeds of $150,000 for subscriptions that it received in calendar year 2003. A subscription
receivable of $230,001 was recorded as of March 31, 2004 to reflect advances of $30,000 for
subscriptions received in calendar year 2003 and $200,001 for subscriptions received in the first
quarter of 2004. In the second quarter of 2004,the Company received gross proceeds of $50,001
related to subscriptions received in the first quarter of 2004, and cancelled and reversed the
remaining balance of $180,000 in the subscription receivable account as of June 30, 2004. In total,
the Company received $1,535,877 and issued 1,025,784 shares of common stock pursuant to the
follow-on private placement. Issuances of Preferred Stock: In March 2004, the Company approved the designation of two new series of preferred shares. The
new preferred shares, which consist of one million five hundred and fifty thousand (1,550,000)
shares of Preferred Stock, are Series A and B 0% Convertible Preferred Stock, par value $.0001 (the
Series A Preferred Stock and Series B Preferred Stock). Subsequent to approving the new Series
A and Series B Preferred Stock, the Company immediately completed a transaction with a publicly
traded investment trust on the London Stock Exchange in which it received approximately $2.8
million, net of all expenses, in exchange for all of the 800,000 shares of its Series A Preferred
Stock. Effective March 29, 2004, the Company completed a second transaction with another publicly
traded investment trust on the London Stock Exchange in which it received approximately $2.1 million
in May 2004, net of all expenses, in exchange for 600,000 shares of its Series B Preferred Stock.
As part of the Series B transaction, the remaining 150,000 shares of Series B Preferred Stock were
released from escrow to the same publicly traded investment trust, for which the Company received
approximately $536,000, net of all expenses. The Series A and B Preferred Stock do not pay dividends and shall have no voting power,
except as may be provided by state law. The stated value of both the Series A and B
Preferred Stock is $10.00 per share (Stated Value), and the liquidation preference with
respect to a share of the Series A and B Preferred Stock shall be its Stated Value. The
Series A and B Preferred Stock shall, as to redemptions and distribution of assets,
dissolution, or winding up of the Company, rank (i) prior to any class of the Companys
common stock, (ii) prior to any class or series of capital stock hereafter created that, by
its terms, ranks junior to the Series A and B preferred Stock, (iii) junior to any class or
series of capital stock of the Company hereafter created which by its terms ranks senior to
the Series A and B preferred stock. The Series A and B Preferred Stock shall rank pari passu
as to one another. F - 16




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##### 



O2Diesel Corporation
(A Development Stage Company)
Notes to Financial Statements (continued)  9.
    Stockholders Equity (continued) The Series A and B Preferred Stock may be converted at the option of the holder at any time
following two years from the Closing dates for the purchases of the preferred shares, which
were March 3, 2004 and March 29, 2004, respectively. Except as specified in the Certificates
of Designation, neither the holders of the Series A and Series B Preferred Stock nor the
Company may demand that the preferred shares be redeemed. In the event that the Company
engages in a transaction or a series of transactions that cause it to consolidate or merge
with or into another entity, or permit any other entity to consolidate or merge with or into
it, or undergo a change in control, the Company may demand that the holders convert all shares of the Series A and B Preferred Stock into shares of the Companys common stock. If
the holders do not comply with such demand, the Company may redeem all shares of the Series A
and B Preferred Stock at the Stated Value of each. Each share of Series A Preferred Stock is convertible into shares of the Companys common
stock, at a variable conversion ratio which is the lesser of (a) $4.00 as adjusted (the Series A
Fixed Conversion Price) or (b) eighty percent (80%) of the lowest closing bid price for the
common stock in the ten business days preceding the date of conversion, but, in no case, less
than twenty-five percent (25.0%) of the Fixed Conversion Price, as adjusted, or $1.00 per
share. Based on the conversion ratio the holder of Series A Preferred Stock will never
receive more than 8,000,000 or less than 2,000,000 shares of the Companys common stock upon
conversion of the Series A Preferred Stock. Each share of Series B Preferred Stock is convertible into shares of the Companys common
stock, at a variable conversion ratio which is the lesser of (a) $3.65 as adjusted (the Series B
Fixed Conversion Price) or (b) eighty percent (80%) of the lowest closing bid price for the
common stock in the ten business days preceding the date of conversion, but, in no case, less
than twenty-seven and four tenths percent (27.4%) of the Fixed Conversion Price, as adjusted,
or $1.00 per share. Based on the conversion ratio the holder of Series B Preferred Stock
will never receive more than 7,500,000 or less than 2,054,795 shares of the Companys common
stock upon conversion of the Series B Preferred Stock. The purchaser of the Series A Preferred Stock was granted an option to purchase additional shares of the Companys common stock equal to the difference between the number of shares of
common stock actually received upon conversion and the number of shares that would have been
received at a conversion price of $1.82. The exercise price shall be the Fixed Conversion
Price, which in the case of the Series A Preferred Stock is $4.00 per share. The purchaser of the Series B Preferred Stock was granted an option to purchase additional shares of the Companys common stock equal to the difference between the number of shares of
common stock actually received upon conversion and the number of shares that would have been
received at a conversion price of $1.82. The exercise price shall be the Fixed Conversion
Price, which in the case of the Series B Preferred Shares is $3.65 per share. F - 17




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##### 



O2Diesel Corporation
(A Development Stage Company)
Notes to Financial Statements (continued)  9.
    Stockholders Equity (continued) Warrants A wholly-owned subsidiary of the Company entered into a supply and distribution agreement
(the Agreement) with a distributor dated July 10, 2001 that granted the distributor the
right to purchase up to 10% of the outstanding common stock of the Company for $1.00 should
certain sales targets be achieved. The warrant expires on July 10, 2006. None of the sales
targets have been achieved under the Agreement. As of December 10, 2004 this Agreement was
terminated and replaced by a New Agreement. Under this New Agreement, the distributor received a warrant to purchase
600,000 shares of O2Diesel Corporations common stock at a price of $2.00 per share. The
Holder may exercise this warrant in whole or in part at any time before 5:00 pm Eastern time
on May 5, 2007.  10.
    Related Party Transactions A company controlled by the Chairman of the Board provides office space, accounting and other
services to the Company at a cost of approximately $2,300 per month. For the years ending
December 31, 2004, and 2003, and for the period October 14,
2000, (inception) through December
31, 2004, the Company paid $31,332, $29,042, and $133,298, respectively to the company
controlled by the Chairman. At December 31, 2004, the Company recorded $2,692 which is
payable to this related party. Included in receivables due from related parties at December 31, 2004 is $23,109 due from
former Directors for the individual tax liability in Ireland attributable to certain
consultancy fees paid during 2003 and $21,269 is related to travel advances made to
employees. The Company recorded an allowance for doubtful accounts equal to 100% of the
amounts due from former Directors for amounts that are uncertain of collection.  11.
    Commitments Operating leases The Company leases certain office equipment under agreements that are accounted for as
operating leases. As at December 31, 2004, future minimum lease payments under
non-cancelable operating leases were as follows: 2005
    
    
    79,2852006
    
    
    81,5302007
    
    
    83,7752008
    
    
    78,680Total
    
    $
    323,270
 Rent expense under the leases
with unrelated parties for the years ended December 31, 2004,
and 2003, and the period October 14, 2000,
(inception) through December 31, 2004, were $76,271,
$4,262 and $80,533 respectively. The leases did not exist prior to 2003. F - 18




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##### 



O2Diesel Corporation
(A Development Stage Company)
Notes to Financial Statements (continued)  11.
    Commitments (continued) Truck Loan On November 4, 2004, the
Company purchased a diesel truck in which to use its
02DieselTM
fuel to perform additional
testing and analysis. The cost of this vehicle was $26,545. Subsequent to this purchase the
Company financed $23,000 of the purchase price with a bank. The loan is secured by the truck.
The note bears interest at 7.00 % and is payable in 24 monthly installments of $1,031 with
the final payment due in November of 2006. Maturities on the truck loan are as follows; 2005
 - $10,946 and 2006 - $11,158. Options The Company has made commitments to grant three of its Directors the right to purchase
2,000,000 shares, two of its officers, who are also directors, the right to purchase
2,100,000 shares, three employees the right to purchase 950,000 shares and two consultants
the right to purchase 300,000 each of the Companys common stock at $1.50 per share.
Generally, the options will vest over three years and will expire 10 years from the effective
date. The Company will record a compensation charge for the difference between the fair value
of the common stock and the exercise price of the option on the date of issuance if the fair value
of the common stock exceeds the exercise price of the option on that date. On October 15, 2004, one Director was issued incentive stock options for 200,000
shares of common stock at an exercise price of $1.50 per share. This option vests over two
years and expires ten years from the date of the grant. As part of the matters submitted to
the shareholders for approval, the Companys stock option plan was approved by its
shareholders on August 17, 2004. F - 19




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##### 



O2Diesel Corporation
(A Development Stage Company) Exhibit Number

    Description2.1(1)
    
    Agreement and Plan of Merger, between O2Diesel Delaware Corporation, a
Delaware corporation, and O2Diesel Corporation, a Washington corporation, dated as
of December 29, 2004.3.1(1)
    
    Certificate of Incorporation3.2(1)
    
    Bylaws4.1(2)
    
    Specimen Stock Certificate4.2(2)
    
    Stock Subscription Agreement4.3(3)
    
    $100,000 Promissory Note10.1(2)
    
    License Agreement10.2(2)
    
    Assignment of License10.3(4)
    
    Support Agreement10.4(4)
    
    Indemnity Escrow Agreement10.5(4)
    
    Option and Escrow Agreement10.6(4)
    
    Contribution and Cancellation Agreement10.7(4)
    
    Waiver Agreement10.8(4)
    
    Loan Agreement10.9(4)
    
    Form of Convertible Note10.10(4)
    
    Form of Employment Agreement between O2Diesel Corporation and Alan Rae10.11(4)
    
    Form of Employment Agreement
between O2Diesel Corporation and David Koontz10.12(4)(5)
    
    Cooperation agreement between Cognis and AAE10.13(6)
    
    Form of Agreement to Amendment Loan Agreement and Convertible Debenture10.14(7)
    
    Letter dated September 23, 2003 from the California Air Resources Board10.15(7)
    
    Memorandum of Understanding between BASF Aktiengesellschaft and
O2Diesel Corporation dated August 18, 200310.16(11)
    
    Supply and Distribution Agreement between the Company and ALOBAYYA Corporation dated April 20, 200410.17(12)
    
    Form of Subscription Agreement as entered into by and between the Company and each individual investor10.18(12)
    
    Form of Warrant




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##### 



O2Diesel Corporation
(A Development Stage Company) Exhibit Number

    Description16.1(8)
    
    Letter from Manning Elliot to the Securities and Exchange Commission dated January 23, 200416.2(8)
    
    Letter from Cremin McCarthy & Company to the Securities and Exchange Commission dated February 2, 200431.1
    
    Certification of the Chief
Executive Officer pursuant to Rule 13a-14(a) or Rule
15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (filed
herewith)31.2
    
    Certification of the Chief Financial Officer pursuant to Rule 13a-14(a) or
Rule 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
(filed herewith)32.1
    
    Certification of the Chief Executive Officer and Chief Financial Officer pursuant to
18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002 (filed herewith)99.1(9)
    
    Certificate of Designation of the Rights and Preferences of
Series A 0% Convertible Preferred Stock of O2Diesel Corporation
filed with the Secretary of State of the State of Washington on
March 2, 200499.2(9)
    
    Convertible Preferred Stock Purchase Agreement by and among
O2Diesel Corporation and the Purchaser named therein, dated as of March 3, 200499.3(10)
    
    Certificate of Designation of the Rights and Preferences of
Series B 0% Convertible Preferred Stock of O2Diesel Corporation
filed with the Secretary of State of the State of Washington on
March 12, 2004 (filed herewith)99.4(10)
    
    Convertible Preferred Stock Purchase Agreement by and among
O2Diesel Corporation and the Purchaser named therein, dated as March 29, 2004 (filed herewith)
   (1)
    
    Previously filed as an exhibit to the
Companys current report on Form 8-K on January 5, 2005,
and incorporated herein by reference.(2)
    
    Previously filed as an exhibit to the Companys registration statement on
Form SB-2 on June 30, 2000, as amended September 19, 2000,
November 3, 2000, and
December 22, 2000, and incorporated herein by reference.(3)
    
    Previously filed as an exhibit to the Companys annual report on Form
10-KSB on March 29, 2002, and incorporated herein by reference.(4)
    
    Previously filed as an exhibit to the Companys current report on Form 8-K
on July 30, 2003, and incorporated herein by reference.(5)
    
    O2Diesel applied for, and was granted on February 25, 2004, confidential
treatment with respect to certain portions of this Agreement, which have been
omitted, pursuant to Rule 24b-2 of the Securities Exchange Act of 1934, as
amended.(6)
    
    Previously filed as an exhibit to the Companys quarterly report on Form
10-QSB for the quarter ended June 30, 2003, on August 14,
2003, and incorporated
herein by reference.(7)
    
    Previously filed as an exhibit to the Companys quarterly report on Form
10-QSB for the quarter ended September 30, 2003, on
November 19, 2003, and
incorporated herein by reference.(8)
    
    Previously filed as an exhibit to the Companys current report on Form 8-K
on February 6, 2004, and incorporated herein by reference.(9)
    
    Previously filed as an exhibit to the Companys current report on Form 8-K
on March 12, 2004, and incorporated herein by reference.(10)
    
    Previously filed as an exhibit to the
Companys annual report on Form 10-KSB on March 30, 2004,
and incorporated herein by reference.(11)
    
    Previously filed as Exhibit 16.3 to the Companys quarterly report on Form 10-QSB for the
quarter ended June 30, 2004, on August 13, 2004, and incorporated herein by reference.(12)
    
    Previously filed as an exhibit to the
Companys current report on Form 8-K on March 23, 2005,
and incorporated herein by reference.