**UNITED STATES SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-KSB**

 

**ANNUAL REPORT UNDERSECTION 13 OR 15(D) OF THE SECURITIESEXCHANGE ACT OF 1934**

 

**For the fiscal year endedJune 30, 2003**

 

**Commission File number:0-24974**

 

**DiaSys Corporation**

(Exact name of small business issuer asspecified in its charter)

 

| **Incorporated in Delaware** |   | **IRS Employer ID #** |
|------------------------------|--------|-----------------------|
| **81 West Main Street**      |   | **06-1339248**        |
| **Waterbury, CT 06702**      |   |                  |
| **(203) 755-5083**           |   |                  |

 

Securitiesregistered under Section 12(b) or 12(g) of the Exchange Act:

 

| **Title of each class:**       |   | **Name of each exchange on  which registered** |
|--------------------------------|--------|------------------------------------------------|
|                           |   |                                           |
| Common Stock, $0.001 par value |   | American Stock Exchange                        |

 

Checkwhether the issuer (1) has filed all reports required to be filed by Section 13or 15(d) of the Exchange Act of 1934 during the preceding 12 months (or forsuch 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 ý NO o

 

Checkif there is no disclosure of delinquent filers in response to Item 405 ofRegulation S-B is not contained in this form, and no disclosure will becontained, to the best of registrant’s knowledge, in definitive proxy orinformation statements incorporated by reference in Part III of this Form10-KSB or any amendment to this Form 10-KSB. o

 

Registrant’srevenues for the most recent fiscal year were $ 2,711,263.

 

Asof October 6, 2003, the aggregate market value of the registrant’s voting stockheld by non-affiliates was $9,065,427 based upon the closing price of $0.73 onsuch date.

 

Asof October 6, 2003, the Registrant had 12,418,393 shares of common stockoutstanding.

DocumentsIncorporated by Reference: Portions of the Registrant’s proxy statement for theannual stockholders meeting to be held in 2003 are incorporated by referenceinto Part III.

 

 

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PART I

 

ITEM1.  DESCRIPTION OF BUSINESS

 

DiaSysCorporation (“DiaSys”, “Company”) designs, develops, manufactures anddistributes propriety workstation-instruments, consumables, reagents andspecialized test kits to hospital, clinical and private physician laboratoriesworldwide.  The Company’s workstationinstruments standardize, increase the accuracy of, and reduce the cost toperform laboratory analysis of urine sediment, fecal concentrates, cerebral spinalfluid (CSF), fine needle aspirations (FNA), and other cell suspensions comparedto traditional laboratory testing methods. The Company’s consumable products are in some cases combined with theCompany’s workstation instruments to create practical, affordablesystem-solutions, while other consumables provide cost-effective alternativesto similar products offered by other companies.  The Company has also developed a rapid, inexpensive method fordiagnosing Multiple Myeloma cancer; America’s second most prevalent bloodcancer. The Multiple Myeloma test is sold in Europe for research purposes onlyand is in the process of being tested for human applications worldwide.

 

DiaSyswas organized in March 1992 in the State of Connecticut and effected a statutorymerger into a Delaware Corporation of the same name in December 1993.  The Company completed its initial publicoffering (“Offering”) in January 1995 and traded its common shares on NASDAQunder the symbol “DIYS”.  In December of2000, the Company moved its listing from NASDAQ to the American Stock Exchange(AMEX) and currently trades under the symbol “DYX”.

 

TheCompany’s wholly-owned subsidiary, DiaSys Europe Limited, is located inWorkingham, England. DiaSys Europe markets the Company’s urinalysis andparasitology workstations, the full DiaSys line of rapid test kits,consumables, immunology, oncology and virology products and manufacturesreagents. The operating results of the subsidiary are reflected in theaccompanying consolidated financial statements.

 

TheCompany sells and services its products in North America both directly andthrough strategic distribution relationships with Bayer Corporation (NYSE:BAY),Bayer Incorporated (Canada), Cardinal Heath (NYSE:CAL), and Fisher Healthcare,a division of Fisher Scientific International Inc (NYSE:FSH).  The Company also markets its productsthrough numerous relationships with group purchasing organizations (GPO’s)including Broadlane Inc, HealthTrust Purchasing Group, and Premier Inc.

 

TheCompany directly sells and services its products in the United Kingdom throughDiaSys Europe Limited.  Sales andservice throughout Europe, Asia and South America is conducted throughindependent, third party distributors or strategic trading partners such as HuaSin Science Co. Limited in China.  Alldistributors and strategic partners are managed by the Company through eitherof its offices in the United States or United Kingdom.

 

Sinceinception, the Company has: (i) developed, acquired and patented several newproprietary technologies;(ii)erected the infrastructure needed to supportglobal manufacturing and distribution operations; (iii)established market andtechnical acceptance of its initial products among the medical laboratorycommunity; (iv) attracted significant strategic selling partners in majormarkets; and (v) implemented a plan for long term market penetration.  Since its inception, the Company hasoperated at a loss.  However, during itsfourth quarter ended June 30, 2003, the Company reported its first quarterlyprofit of $164,986.

 

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BUSINESSSTRATEGY

 

Sinceits inception, the Company has adhered to the following business strategy: (i)identify gaps in its product offerings of leading medical diagnostic manufacturers;(ii) fill the gaps with proprietary, practical and cost-effective solutions;(iii) protect its intellectual property with broad-based patents andtrademarks; (iv) turn its technology into affordable products; (v) securemarket acceptance of its products; (vi) create strategic sales and distributionalliances with industry and/or territorial leaders (see: STRATEGICRELATIONSHIPS below); and (vii) proceed to global sales and distribution.   The Company currently has products at eachstage of its business strategy.

 

PRODUCTS

 

TheCompany’s products can be broadly classified into two categories: (i)workstation-systems which increase the accuracy and reduce the cost to performroutine laboratory analysis of various body fluids; and (ii) consumablediagnostic products, reagents and test kits which facilitate accurate diagnosisof certain medical conditions.  Eachcategory can be further described as follows:

 

Workstation-Systems

 

TheCompany’s workstation-systems are composed of the “R/S” and “FE” series ofproducts.

 

R/SSeries: The “R/S” series workstations standardize, automate, and reduce thecost to perform routine microscopic analysis of urine sediment.  Users of the “R/S” series workstationsinclude: (i) large scale clinical laboratory chains performing in excess of20,000 urine tests per night; (ii) major medical centers performing severalhundred urine tests per day; and (iii) local hospital laboratories performingapproximately 100 tests per week.

 

The“R/S” series workstations have been the subject of numerous favorableevaluations and publications including those in the Journal of LaboratoryMedicine, Clinical Lab Products magazine, American Clinical Laboratorymagazine, European Clinical Laboratory magazine, College Of American PathologyToday, and Urinalysis News.

 

Webelieve that the “R/S” series workstations are a preferred practice of majorlaboratory networks, health maintenance organizations (HMO’s) and core medicalfacilities such as Quest and Kaiser Permanente.  The Company has also entered into strategic distributionagreements regarding the promotion and sale of its “R/S” series workstationswith and by Bayer Corporation in the United States, Bayer Incorporated inCanada, Cardinal Health (NYSE:CAH), Fisher Healthcare, a division of FisherScientific International Inc. (NYSE:FSH), and Hua Sin Science Co. LTD, theexclusive distributor of Bayer’s urinalysis instruments in China (See:STRATEGIC RELATIONSHIPS below).

 

FESeries:  The “FE” seriesworkstation-systems are composed of the FE-2, and Parasep collection tubes andfecal concentrators.  Theseworkstation-systems automate and reduce the cost of microscopic analysis offecal concentrates; a procedure performed by thousands of hospital, publichealth and private commercial laboratories worldwide in order to detect thepresence of ova (eggs), cysts, and parasites in the lower intestinal tract ofhumans and animals.  The presence ofsuch organisms is critical to the proper care of the patient.  The test is non-invasive, can be performedon an outpatient basis, and quickly provides confirmatory results.

 

DisposableConsumables, Diagnostic Test Products and Kits

 

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Consumables:  The Company manufactures and distributesnumerous consumable diagnostic products, reagents and test kits.  The markets for these products are hospitaland commercial laboratories, biotech and pharmaceutical companies.

 

“DipStick” Test Kits: The Company acquired an inexpensive method for diagnosingmultiple myeloma cancer at or near the patient through its purchase of“Intersep” in 2000.  Multiple Myeloma isAmerica’s most prevalent blood cancer behind leukemia and accounts for 2% ofall known cancer deaths.  The Company iscurrently selling the test in Europe for research applications, and hasannounced its intention to market the product in the United States, China andother markets if and as regulatory approvals are secured.

 

AdditionalProducts

 

TheCompany is in the continuous process of developing new products for the globalhealthcare marketplace.   The Company’scurrent product development plan extends into 2005. DiaSys is currentlydeveloping several new versions of its urinalysis and parasitologyworkstations, and several disposable and consumable products for use inhospitals and clinical laboratories. The company is also in the process ofevaluating the purchase of compatible product lines.

 

SALES,MARKETING AND DISTRIBUTION

 

NorthAmerica

TheCompany sells and services its workstation-systems and consumable productsthrough its office headquarters in Waterbury, Connecticut. The Company hadterminated 3 U.S. regional sales managers in the beginning of the fourthquarter due to an unprofitable sales model and has been selling workstations,consumables and electrophoresis products throughout the fourth quarter whilethe U.S. sales force is being re-organized and trained. DiaSys is now sellingits new line of consumable products, which provide for stronger aftermarketsales. The Company currently has four salespeople to work North America and iscurrently building out the North American sales force.  North American sales efforts are supportedby a Director of Sales, a Manager of National Sales Support and a CustomerService specialist, each located at the Company’s headquarter office.  Each sales manager earns a base salary andcommissions based upon achievement of quarterly and yearly objectives.  Sales in North America are facilitated bystrategic marketing and distribution alliances with Bayer Corporation, CardinalHealth, Fisher Healthcare, Broadlane, HPG, and Premier in the United States andBayer Incorporated in Canada (see: Strategic Relationships below).  Additionally, sales in North America aresupported by telemarketing, direct mail campaigns, advertising in key tradejournals, participation in technical workshops, and exhibitions at nationaltrade shows.

 

Southand Central America

 

Startingin 2001, the Company commenced distribution operations in parts of South andCentral America.  Distribution is conductedby independent, third party distributors and monitored by the Company’sDirector of Sales, Marketing and Service, Rest of World (ROW) based inWaterbury, Connecticut.  Distributorsare exclusive to their assigned territory and are required to meet certainminimum revenue commitments within the terms of the Company’s distribution planand agreement.

 

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Europeand the Middle East

 

TheCompany sells and services its workstation-systems and consumable products inEurope, the Middle East, India, and Africa through its subsidiary based in theUnited Kingdom.  DiaSys Europe, Ltd.sells and services the Company’s products directly in the United Kingdom andthrough independent third party distributors in the balance of theterritory.  Distributors are generallyexclusive to their assigned territory and are required to meet certain minimumrevenue commitments within the terms of the Company’s distribution plan andagreement.

 

Chinaand Pacific Asia

 

Salesand service of the Company’s products in China, Hong Kong, Indo-China,Indonesia, Malaysia and the Philippines is conducted by the Company’s strategictrading partner, Hua Sin Science Company, under the direction and guidance ofthe Company’s President and the Director of Sales, Marketing and Service (ROW)(see: Strategic Relationships below).

 

Philippinesand Korea

 

TheCompany is in the process of qualifying suitable distributors in Philippinesand Korea and is currently selling without a formal distribution agreement inplace.

 

Japan

 

The Company entered intoan exclusive distribution agreement with Finggal Link Co., Ltd., a subsidiaryof Nanbu Irika Corporation. Finggal Link Co., Ltd., promotes, sells andservices the Company’s entire range of clinical laboratory instruments andlaboratory consumables in Japan.

 

STRATEGICRELATIONSHIPS

 

CardinalHealthCare:

 

TheCompany has entered into a multiple year distribution agreement with CardinalHealth, Inc. (NYSE:CAH).  Cardinal is aleading provider of health-care products and cost-management services tohospitals, laboratories and others in health care.  Cardinal is also a primary distributor of urine chemistryanalyzers manufactured and sold by Bayer (see Bayer above).  Under the terms of the agreement, Cardinalpromotes and distributes the Company’s urine workstation-systems through itsnumerous sales reps and supply relationships.

 

DiagnosticsDivision of Bayer Corporation:

 

TheCompany has entered into a multiple year Strategic Cooperation Agreement withthe Diagnostics Division of Bayer Corporation, the United States subsidiary ofthe international chemical and health care conglomerate, Bayer AG headquarteredin Germany.  Under the CooperationAgreement, Bayer and DiaSys recommend and refer one another’s urinalysis instrumentsto hospital and commercial laboratory customers in the United States.  The companies also confer on accountstrategy and provide unified network standardization plans through Bayer,Cardinal, Fisher, and Premier (see below) depending upon the customer. Eachcompany installs and services its own equipment.

 

BayerIncorporated:

 

TheCompany has entered into a strategic distribution agreement with Bayer Inc.,the Canadian subsidiary of Bayer AG (Germany). Under the agreement, Bayer’s Health Care Division promotes and sells theCompany’s urinalysis workstations to hospitals and clinical referencelaboratories in Canada.

 

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BroadlaneInc:

 

In2002, the Company was awarded a five-year supply contract by Broadlane Inc.,one of the nations foremost group purchasing organizations (GPO).  Under the award, DiaSys will provide its R/SSeries Urine Sediment Analysis Workstations, FE Series Ova & ParasiteAnalysis Workstations and its proprietary line of Parasep Filter-ConcentratorTubes to Broadlane’s healthcare customers nationwide.  Broadlane customers include leading healthcare providers such asKaiser Permanente, Tenet Healthcare Corporation, Universal Health Services,Continuum Health Partners, The Health Alliance of Greater Cincinnati, KindredHealthcare, Community Health Systems, U.S. Oncology, and Alliance Imaging Inc.

 

FisherHealthCare:

 

OnApril 29, 2002, the Company announced that it had entered into a multiple yeardistribution agreement with Fisher Healthcare., a division of Fisher Scientificinternational Inc. (NYSE:FSH).  Fisheris a leading provider of health-care products and cost-management services tohospitals, laboratories and health care facilities.  Fisher is also a distributor of urine chemistry analyzersmanufactured and sold by Bayer (see Bayer Incorporated, above).  Under the terms of the agreement, Fisherwill promote and distribute all of the Company’s products to customers in theUnited States through its sales representatives and supply relationships.

 

HealthTrustPurchasing Partners:

 

In2001, the Company entered into a two-year supply agreement with HealthTrustPurchasing Group L.P. (HPG), one of the nation’s top healthcare purchasinggroups.  Under the agreement, DiaSys andCardinal (see above) will jointly distribute the Company’s urinalysisworkstations to HPG member facilities nationally through Cardinal sales force.

 

HuaSin Science Co. LTD:

 

In1999, the Company entered into a three year sales and service agreement withHua Sin Science Co. LTD, located in Guangzhou China.  Hua Sin manufactures and distributes instruments and reagents toChina’s 67,000 hospital and medical laboratories.  Hua Sin is also the exclusive distributor of Bayer’s CLINITEKseries urine chemistry analyzers in China (see Bayer above).  The Company officially commenced jointoperations with Hua Sin in April, 1999, and on May 4, 2000, announced thatChina’s Health Ministry, the equivalent of the United States’ Food and DrugAdministration (FDA), certified the Company’s urinalysis and fecal concentrateworkstations for use by all of China’s 67,000 medical laboratories.  In 2002, the Company and Hua Sin expandedtheir relationship to include sales and service operations in Hong Kong,Indo-China, Indonesia, Malaysia and the Philippines. On September 22, 2003, theCompany announced that Hua-Sin renewed its exclusive distribution agreementwith DiaSys for a period of three years.

 

PremierInc:

 

OnMay 8, 2002, the Company announced that had entered into a two-year agreementwith Premier Inc.  Premier is astrategic alliance in US healthcare, entirely owned by more than 200 of thenation’s leading hospital and healthcare systems.  Under the agreement, the Company will provide its urinalysisworkstations to Premier’s approximately 1,600 hospital affiliates locatedthroughout the United States.  TheCompany and Premier launched their joint plan to Premier’s customers in June2002, and are now in the process of implementation.

 

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GovernmentContracts:

 

In1999 and 2000, the Company was awarded two Federal supply contracts: one by theGeneral Services Administration (GSA), and one by the Department of Veteran’sAffairs (FSS). The GSA contract allows government agencies to purchaseworkstations, and the FSS allows the network of veteran and military hospitalsto install workstations on a “cost-per-test” basis.

 

COMPETITION

 

The“R/S” Series:

 

The R/S series urine sediment workstationsautomate and standardize routine urine sediment testing, utilizing a patentedoptic glass flow cell that reduces handling while providing superior imageclarity.  The R/S series workstations are designed to make urine sedimenttesting faster, safer, more standardized and less expensive than conventionalmethodologies.  These workstations can literally pay for themselvesthrough elimination of disposables normally associated with urine sedimenttesting and substantially reducing the waste disposable costs of thesedisposables. The Company knows of no other product, which competes directlywith the “R/S” series workstations. There are, however, five competing technologies for the “R/S” series:(i) traditional use of a microscope to examine a glass slide of urine sediment;(ii) traditional use of a microscope to examine urine sediments introduced intoa pre-formed plastic slide assembly; (iii) a video imaging system whichautomatically “recognizes” and “counts” pre-stored images of “common shapes”found in urine sediment; (iv) a laser based system which detects “abnormal”urines thereby reducing the number which must be manually analyzed; and, (v)pre-screening using chemically treated reagents or “dip” strips.

 

Theoldest technology is the use of a microscope to examine a glass slide of urinesediment.  However, the use ofmicroscope slides and cover slips is time consuming, prone to inconsistencies,and expensive.  Pre-formed plasticslides are easier to handle than glass and provide more standardization.However, the optical quality seen through plastic slides tends to besignificantly inferior to that of glass and the cost is generally higher due tothe shorter product life of plastic slides. The video imaging system currently available on the market provides a“standard procedure” for urinalysis, dispenses with the need for costlyconsumable items such as glass or plastic slides, and, sharply reduces exposureto potentially infectious materials carried in urine.  However, the video imaging systems require expensive proprietaryreagents to operate and cost between $85,000 and $200,000 to acquire.  The Company believes because the systems arecostly, only the largest laboratories can justify the purchase and/or use ofsuch a system.  The laser-based systemscreens-out “normal” urines thereby reducing the number of “abnormal” urinesrequiring manual analysis.  However, inaddition to still requiring manual analysis of some samples, the laser-basedsystems cost approximately $120,000 and require comparatively expensiveproprietary reagents to operate, making the system somewhat expensive fornormal laboratory implementation. Lastly, reagent strips are very efficient fordetermining chemical compositions, but they do not detect the existence of manytypes of particulate matter otherwise having clinical significance.

 

The“FE” Series:

 

TheCompany knows of no other workstation-system, which standardizes, automates andreduces the cost to collect, process, and analyze fecal concentrates fromparasites, eggs and cysts.

 

TheCompany, however, expects to encounter competition in the laboratory equipmentindustry.  While the Company believesthat its “R/S” and “FE” series workstations are currently the only products oftheir type in the market, many of the Company’s competitors and potentialcompetitors have substantially greater resources, including capital, researchand development, personnel and manufacturing and marketing

 

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capabilities,and also may offer well established, broad product lines and ancillary services.  Some of the Company’s competitors havelong-term or preferential supply arrangements with hospitals.  These arrangements may act as a barrier tomarket entry to the Company’s products. Competing companies may succeed in developing products that are moreefficacious or less costly and these companies may also be more successful thanthe Company in production and marketing. Rapid technological development by others may result in the Company’sproducts becoming obsolete before the Company recovers a significant portion ofthe research, development and commercialization expenses incurred by it withrespect to those products. There can be no assurance that the Company will beable to compete successfully against any newly developed or improved products.

 

DisposableDiagnostic Products and Test Kits:

 

Thedisposable diagnostic product and test kit market is a multi-billion dollarindustry made up of a number of companies, many of whom have more financialresources, research and development, marketing, and distribution capabilitiesthan the Company.  The Company thereforebelieves that the commercial success of these products will depend upon theircontinued high quality, competitive advantages (including price, quality,service and the ability to transport product cost efficiently) and thedistribution efforts of the Company’s strategic trading partners.

 

MANUFACTURINGAND WARRANTY OBLIGATIONS

 

TheCompany internally designs and manufactures its workstations in Waterbury,Connecticut.  The Company internally developsits consumable products in both its United States and United Kingdom offices,but manufactures them through a network of molders, machine shops and otherthird party subcontractors.  Allsub-assemblies, parts, consumables and kits manufactured by sub-contractors aremade according to Company specifications. All final assemblies and final tests are conducted by the Company in oneof its two facilities.   The Company hasdeveloped alternate qualified vendors for supply of its critical raw material andsupplies that could fulfill its requirements if needed.  Implementation of this manufacturing planhas resulted in higher manufacturing quality, reduced lead-time-to-delivery andreduced costs in manufacturing.

 

TheCompany provides its customers with a one year “swap out” warranty againstdefects in parts or workmanship on all new or refurbished workstations from thedate of delivery.  This means that inthe event a unit fails due to a defect in parts and/or workmanship during thewarranty period, the Company will replace the unit with a new or refurbishedunit at the Company’s option.  Forservice after the initial year of warranty, the Company offers an optionalextended warranty protection plan, a service plan, and also provides repair andservice at an hourly rate plus parts. The Company experiences minimal additional costs associated with itswarranty obligations.

 

PATENTSAND TRADEMARKS

 

TheCompany’s continued success rests in part on the uniqueness of its intellectualproperty.  The Company, therefore,continues to build and maintain a worldwide network of patents and trademarks.

 

Patents:

 

TheCompany has been granted 20 patents on its R/S, FE, Parasep and Uripreptechnologies.  Four patents have beenissued by the United States Department of Commerce both on the concept andspecific architecture of the Company’s workstation-systems.  The Company has also been granted similarpatent protection in Australia, Brazil, Canada, China, Switzerland, Germany,Spain, France, Great Britain, Greece, Italy, Japan, Portugal, Singapore, andTaiwan. The patents were granted between 1992 and 2002 and will expire 

 

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between2012 and 2022.  The Company hasadditional applications for patents pending, both domestic and abroad.

 

TradeNames:

 

TheCompany has been granted trade name protection for “DiaSys” and the followingproduct names (both domestically and abroad): Urizyme, DiaSys, Uriprep,Parasep, Urisep.

 

Therecan be no assurance that any future applications by the Company for patentprotection will result in patents being issued, or, if issued, that suchpatents will provide a competitive advantage or will afford protection againstcompetitors, with similar technology, or that competitors of the Company will notcircumvent, or challenge the validity of any patents issued or licensed by theCompany.  Moreover, there can be noassurance that the Company’s non-disclosure agreements and other safeguardswill adequately protect its proprietary information and trade secrets orprovide adequate remedies for the Company in the event of unauthorized use ordisclosure of such information, or that others will not be able toindependently develop such information. Additionally, the Company may not be aware of any infringements on itspatents or other protected intellectual property rights.  There can be no assurance that if theCompany becomes aware of any such infringement that it will have adequateresources to defend its patents or other rights or that it would be successfulin such defense.

 

GOVERNMENTREGULATIONS

 

TheCompany has obtained all necessary safety certifications for its products.  The Company’s UK-based operations are ISO9001 certified, and the Company is in the process of qualifying its headquarterfacility for ISO certification as well.

 

OnMay 23, 1995, the Company received clearance from the Food and DrugAdministration (FDA) to release the R/S 2003 and related products tomarket.  In the same letter, the FDAstated that any of the Company’s future products, which are substantiallyequivalent to the new workstations, might be marketed directly without firstsubmitting pre-

marketnotification.

 

Althoughthe “R/S” and “FE” series workstations are exempt from FDA 510(k) pre-marketnotification requirements, the development, testing, manufacturing andmarketing of the Company’s products in the United States are regulated by theFDA, which generally requires clearance of such products before marketing.  Moreover, regulatory approval, if granted,may include significant limitations on the indicated uses for which a productmay be marketed.  Failure to comply withapplicable regulatory requirements can result in, among other things, fines,suspensions of approvals, product seizures, injunctions, recalls of products,operating restrictions and criminal prosecutions.  There can be no assurance that the Company will be able to obtainthe necessary regulatory clearance for the manufacturing and marketing of otherproducts, which are currently in the development stage, either in the UnitedStates, or in foreign markets on a timely basis or at all.  Certain of the Company’s future diagnosticproducts may require submission to the FDA of an application for Pre-marketApproval.  Delays in receipt of orfailure to receive clearances to commence clinical studies or to marketproducts, or loss of previously received clearances, would adversely affect themarketing of the Company’s proposed products and, as a result, the Company’sfuture operations.

 

Noneof the Company’s rapid tests, including the one for multiple myeloma, have beenFDA approved.

 

The Company’s LeishmaniaRapid Test product for visceral leishmania, also known as kalaazar, receivedFDA 510(k) clearance in the United States in 2003. Visceral leishmania

 

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is the most severe form ofleishmania which, if untreated, has a mortality rate of almost 100 percent. TheCompany is currently selling this product in the United States.

 

Commercialdistribution in most foreign countries is also subject to varying governmentregulations.  In addition, federal,state and international government regulations regarding the manufacture andsale of diagnostic devices are subject to future change, and additionalregulations may be adopted which may prevent the Company from obtaining, oraffect the timing of, future regulatory clearances and may adversely affect theCompany.

 

TheCompany’s manufacturing process is subject to stringent federal, state andlocal regulations governing the use, generation, manufacture, storage, handlingand disposal of certain materials and wastes, and regarding the manufacture,testing, labeling, record keeping, and storage of diagnostic devices, includingcurrent Good Manufacturing Practices regulations and similar foreignregulations.  Although the Companybelieves that it and its subcontractors have complied in all material respectswith such laws and regulations, there can be no assurance that the Company willnot be required to incur significant costs in the future in complying withmanufacturing and environmental regulations.

 

LABORATORYREGULATIONS

 

Regulationsissued under the Clinical Laboratory Improvement Amendments of 1988 (“CLIA”)became effective September 1, 1992. CLIA is intended to increase the quality oflaboratory services and extends these requirements to physician officelaboratories.  CLIA requires laboratorylicensing and written operational and quality control procedures for tests thatare carried out in the laboratory.  Itestablishes personnel standards regarding qualification and training ofindividuals who carry out the tests.  Italso mandates periodic inspection and proficiency evaluation of the performanceof these procedures and individuals. CLIA requires the more complex procedures such as clinical microscopy tobe performed by more skilled medical technologists.  The CLIA requirements have caused more physicians offices totransfer their laboratory testing to local hospital or reference laboratoriesand have also resulted in consolidation of many smaller reference laboratories.

 

TheCompany believes that its workstation-systems and consumables improve theaccuracy and reproducibility of laboratory procedures, and therefore believesthat CLIA regulations are likely to help rather than hinder its sales effortsin the longer term.

 

BIOHAZARDCONTAINMENT

 

OSHAmandates that all necessary precautions be taken to ensure the safety ofclinical laboratory personnel handling biohazardous materials including bodyfluids that may contain life-threatening, blood-borne infectious pathogens suchas tuberculosis, hepatitis B and human immunologic viruses.

 

TheCompany believes OSHA regulations are likely to help rather than hinder salesof the Company’s products since the Company’s workstation-systems andconsumables diminish or eliminate the inherent risks of handling body fluids byproviding a sealed and/or quick method of analysis.

 

THEINDUSTRY

 

Thehealth care industry has experienced fundamental changes over the past severalyears.   Specifically, laboratories weregenerally considered to be cost-centers (i.e. operating profitably is not apriority).   Through global health carereform, however, the “cost-center” mentality has substantially fallen out of favorin most major markets throughout

 

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theworld, and laboratory managers are increasingly concerned about ways toconserve resources and increase cost-efficiency without reducing test accuracyor quality of medicine.  Moreover, thequest for greater laboratory efficiency has put immense pressure on leadingmanufacturers to develop or find new, appropriate technologies for the market.

 

Laboratoriesworld-wide have become significantly more cost-conscious, many imposing moreintense reviews of capital acquisitions, particularly for new systems like theCompany’s workstation-systems, which address areas traditionally not requiringsignificant capital investments.

 

However,laboratories must contend with the aforementioned new OSHA and CLIA regulations.  Since the Company’s products are designed toreduce the amount of labor required to perform laboratory tests and thespecimen biohazard exposure, as well as to standardize and improve theanalytical quality of the test procedure, the Company believes these factorscould enhance its competitive position in the market.  There can be no assurance, however, that continued reductions inreimbursements would not have a material adverse affect on the Company’s salesand results of operations.

 

Atthe present time, the Company is unable to predict what affect, if any, achange in the health care system could have on the Company.  While the Company believes that thecost-effectiveness of its workstation-systems and consumables should benefitmedical and clinical laboratories, medical and clinical laboratories may electto postpone important decisions regarding capital expenditures until anychanges in the health care system are completed and their full scope and effectknown.

 

PRODUCTLIABILITY

 

TheCompany faces potential liability in connection with the use of itsproducts.  The Company has purchasedproduct liability insurance in the amount of $1,000,000.  The Company believes that its presentinsurance is sufficient for its current level of business operations.  There can be no assurance however that suchinsurance will be sufficient to cover potential claims or that the presentlevel of coverage will be available in the future at a reasonable cost.

 

Salesto one foreign customer in China as a percentage of net sales totaled 25% and15% in 2003 and 2002, respectively.

 

RESEARCHAND DEVELOPMENT

 

TheCompany incurs research and development costs as a result of its ongoingefforts to improve existing product and development of new products.  The research and development is an internalprocess to the Company and does not typically include the use of third partiesfor development.

 

BACKLOG

 

TheCompany had unshipped orders totaling $ 198,471 as of June 30, 2003.

 

EMPLOYEES

 

Asof June 30, 2003 the Company employed 22 persons, 6 of whom were engaged insales and marketing, 3 in research and development, 9 in manufacturing, and 4in administrative, finance and other clerical support activities.

 

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ITEM2.  PROPERTIES

 

TheCompany leases 12,000 square feet of space at 81 West Main Street, Waterbury,Connecticut for its headquarters, research and development and assemblyoperations.  The lease rate includes allmanagement fees, real estates taxes, common area charges, heat,air-conditioning, electricity, janitorial services, limited parking and suchother expenses normally incurred by a tenant. The lease expires on January 31, 2006 but may be earlier terminated bythe Company upon six (6) months written notice at any time after August 1,2003.   The lease provides for the leasepayment schedule:

 
| **ANNUAL PERIOD**          |   | **MONTHLY LEASE RATE** |     | **ANNUAL LEASE RATE** |   |
|----------------------------|--------|------------------------|----------|-----------------------|--------|
|                       |   |                   |     |                  |   |
| Feb 1 2003 to Jan 31, 2004 |   | $                      | 9,115.50 |                  | $      | 109,386.00 |   |
| Feb 1 2004 to Jan 31, 2005 |   | $                      | 9,388.96 |                  | $      | 112,667.58 |   |
| Feb 1 2005 to Jan 31, 2006 |   | $                      | 9,388.96 |                  | $      | 112,667.58 |   |

 

DiaSysEurope Limited leases approximately 4,300 square feet of office, final assemblyand warehousing space in Wokingham, England. The lease rate is approximately $36,050 per year, on a triple net basis.  The lease commenced May 1, 2002 and expiresApril 30, 2012.

 
| **ANNUAL PERIOD**            |   | **MONTHLY LEASE RATE** |     | **ANNUAL LEASE RATE** |   |
|------------------------------|--------|------------------------|----------|-----------------------|--------|
|                         |   |                   |     |                  |   |
| May 1 2003 to April 30, 2004 |   | $                      | 3,004.17 |                  | $      | 36,050.00 |   |
| May 1 2004 to April 30, 2005 |   | $                      | 3,004.17 |                  | $      | 36,050.00 |   |
| May 1 2005 to April 30, 2006 |   | $                      | 3,004.17 |                  | $      | 36,050.00 |   |
| May 1 2006 to April 30, 2007 |   | $                      | 3,004.17 |                  | $      | 36,050.00 |   |
| May 1 2007 to April 30, 2008 |   | $                      | 3,004.17 |                  | $      | 36,050.00 |   |
| May 1 2008 to April 30, 2009 |   | $                      | 3,004.17 |                  | $      | 36,050.00 |   |
| May 1 2009 to April 30, 2010 |   | $                      | 3,004.17 |                  | $      | 36,050.00 |   |
| May 1 2010 to April 30, 2011 |   | $                      | 3,004.17 |                  | $      | 36,050.00 |   |
| May 1 2011 to April 30, 2012 |   | $                      | 3,004.17 |                  | $      | 36,050.00 |   |

 

Otherthan the leased properties set forth above, the Company does not invest in realestate interests, real estate mortgages or securities of or interests inpersons primarily engaged in real estate activities.

 

ITEM3.  LEGAL PROCEEDINGS

 

In March 2003, Mr. Todd DeMatteo, theformer President and Chief Executive Officer of the Company, commenced legalproceedings against the Company in Connecticut Superior Court for collection ofa $100,000 promissory note plus interest, late fees and costs ofcollection.  The promissory note wasissued in December of 2002 to reflect a $100,000 loan made by Mr. DeMatteo tothe Company at that time.  Although theCompany has questioned the circumstances of such loan, the Company hasnevertheless elected not to defend such legal proceedings and it is expectedthat judgment has entered or will enter against the Company in the amount of approximately$123,000.

 

Also in March 2003, Mr. DeMatteo commencedadditional legal proceedings in Connecticut Superior Court seeking damages inthe amount of $875,000 for breach of Mr. DeMatteo’s Executive EmploymentAgreement with the Company.  The Companyarranged to have such proceedings stayed pending arbitration of the amounts inquestion as required by the terms of the agreement.  Mr. DeMatteo subsequently commenced an arbitration proceedingagainst the Company relating to the same subject matter.  No arbitrator has been appointed and nohearings have been held with respect to such arbitration proceeding.  In August 2003, Mr. DeMatteo again soughtpreliminary relief in the Connecticut Superior Court by the filing of a Motionfor Order Pendente Lite in Aid of Arbitration seeking attachments of assets ofthe Company in anticipation of an award in such arbitration

 

12

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proceeding.  The Company believes that it has substantial defenses to suchproceedings and intends to defend vigorously.

 

On March 27, 2003, the Companyfiled a complaint for declaratory judgment and other relief against Mr.DeMatteo in the Circuit Court of Cook County, Illinois, DiaSys Corporation v.Todd M. DeMatteo, No. 03 CH 05737 alleging that Mr. DeMatteo convertedproprietary information of the Company and breached his fiduciary duties. Thesuit seeks to recover actual, compensatory and punitive damages suffered as aresult of Mr. DeMatteo’s wrongful conduct.

 

ITEM4.  SUBMISSION OF MATTERS TO AVOTE OF SECURITY HOLDERS

 

None.

 

PART II

 

ITEM5.  MARKET FOR THE REGISTRANT’S COMMONEQUITY AND RELATED SHAREHOLDER MATTERS

 

TheCompany is authorized to issue 99,900,000 shares of Common Stock, $0.001 parvalue, of which 12,418,393 shares were issued and outstanding as of June 30,2003.

 

TheCompany’s common stock is traded on the American Stock Exchange (AMEX) underthe symbol “DYX”.

 

Asof September 30, 2003 the Company’s Common Stock was held by approximately of1,539 beneficial holders.

 

To date, the Company has not declared orpaid any cash dividends on its common stock, nor does is have the currentintention to do so.  The Company anticipates that earnings will be used tofinance the development and expansion of its business.  Further, futurefinancing arrangements may restrict or prohibit the Company’s ability todeclare and pay dividends without prior lender approval.

 

Thefollowing table sets forth the high and low sales price for the Company’sCommon Stock as reported by The American Stock Exchange for the periodsindicated.

 
|                          |   | **Common Stock** |       |
|-------------------------------|--------|------------------|------------|
| **Year Ended June 30, 2003,** |   | **High**         |       | **Low** |   |
|                          |   |             |       |   |   |
| 4th Quarter                   |   | $                | .80        |   | $ | .40 |   |
| 3rd Quarter                   |   | .88              |       | .40 |   |
| 2nd Quarter                   |   | .66              |       | .42 |   |
| 1st Quarter                   |   | 1.47             |       | .40 |   |
|                          |   |             |       |   |   |
| **Year Ended June 30, 2002,** |   | **High**         | ** ** | **Low** | ** ** |
|                          |   |             |       |   |   |
| 4th Quarter                   |   | $                | 1.250      |   | $ | 0.700 |   |
| 3rd Quarter                   |   | 1.610            |       | 0.750 |   |
| 2nd Quarter                   |   | 1.450            |       | 0.390 |   |
| 1st Quarter                   |   | 0.750            |       | 0.400 |   |

 

13

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EQUITYCOMPENSATION PLAN INFORMATION AS OF JUNE 30, 2003

 
| **Plan Category**                                           |   | **Number of securities  to be issued upon  exercise of  outstanding options  warrants and rights** |   | **Weighted-average  exercise price of  outstanding options,  warrants and rights** |   | **Number of securities  remaining available  for future issuance  under equity  compensation plans** |    |
|-------------------------------------------------------------|--------|----------------------------------------------------------------------------------------------------|--------|------------------------------------------------------------------------------------|--------|------------------------------------------------------------------------------------------------------|---------|
| Equity compensation plans approved by  security holders     |   | 913,000                                                                                            |   | $                                                                                  | 3.01   |                                                                                                 | 587,000 |   |
| Equity compensation plans not approved by  security holders |   | 90,000                                                                                             |   | $                                                                                  | 1.22   |                                                                                                 | 410,000 |   |
| Total                                                       |   | 1,003,000                                                                                          |   | $                                                                                  | 2.41   |                                                                                                 | 997,000 |   |

 

ISSUANCESOF UNREGISTERED SECURITIES

 

On June 30, 2003, the Company issued: (i) 125,000 shares of the Company’s common stock to Mr. Morris Silverman, the Company’s Chairman of the Board, as full repayment for $50,000 loaned to the Company by Mr. Silverman on May 10, 2003; (ii) 125,000 shares of the Company’s common stock to Mr. Marshall Witzel, the Company’s Chief Executive Officer, as full repayment for $50,000 loaned to the Company by Mr. Witzel on May 25, 2003; and (iii) 375,000 shares of the Company’s common stock to Mr. Gregory Witchel the Company’s President, as full repayment for an aggregate of $150,000 loaned to the Company by Mr. Witchel on May 1, 2003 and May 26, 2003. The shares issued were exempt from registration pursuant to Section 4(2) of the Securities Act of 1933, as amended (the “Securities Act”).

 

ITEM6 - MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OFOPERATIONS

 

Certainstatements contained herein are not based on historical facts, but areforward-looking statements that are based upon numerous assumptions aboutfuture conditions that could prove not to be accurate.  Actual events, transactions and results maymaterially differ from the anticipated events, transactions or resultsdescribed in such statements.  TheCompany’s ability to consummate such transactions and achieve such events orresults is subject to certain risks and uncertainties.  Such risks and uncertainties include, butare not limited to: the existence of, demand for, and acceptance of theCompany’s products and services; the ability of the Company to develop new andtimely products; the ability of the Company to maintain and expand its businessrelationship with its distributors and strategic partners (see: STRATEGICRELATIONSHIPS above); the effect of regulatory approvals and developments,economic conditions, the impact of competition; and, other factors affectingthe Company’s business that are beyond the Company’s control.  The Company undertakes no obligation anddoes not intend to update, revise or otherwise publicly release the result ofany revision to these forward-looking statements that may be made to reflectfuture events or circumstances.

 

FORWARDLOOKING STATEMENTS: This Annual Report on Form 10-KSB and the documentsincorporated herein by reference contain forward-looking statements based oncurrent expectations, estimates and projections about the Company’s industry,management’s beliefs and certain assumptions made by management.  All statements, trends, analyses, and otherinformation contained in this report relative to trends in net sales, grossmargin, anticipated expense levels and liquidity and capital resources, as wellas other statements including, but not limited to words such as “anticipate”,“believe”, “plan”, “estimate”, “expect”, “seek”, “intend”, and other similarexpressions, constitute forward looking statements.  These forward-looking statements are not guarantees of futureperformance and are subject to certain risks and uncertainties that are difficultto predict.  Accordingly, actual resultsmay differ materially from those anticipated or

 

14

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expressedin such statements.  Potential risks anduncertainties include, among others, those set forth herein under “AdditionalFactors That May Affect Future Results”, as well as “Management’s Discussionand Analysis of Financial Condition and Results of Operations” and “Liquidityand Capital Resources”.  Particularattention should be paid to the cautionary statements involving the Company’slimited operating history, the unpredictability of its future revenues, theunpredictable and evolving nature of its business model, the intenselycompetitive online commerce and the risks associated with capacity constraints,systems development, management of growth and business expansion.  Except as required by law, whether as aresult of new information, future events or otherwise, readers, however, shouldcarefully review the factors set forth in other reports or documents that theCompany files from time to time with the Securities and Exchange Commission(“SEC”).

 

LIQUIDITYAND CAPITAL RESOURCES

 
|                                 |   | **FISCAL** |      |
|--------------------------------------|--------|------------|-----------|
| **(In dollars,  except for ratios)** |   | **2003**   |      | **2002** |   |
|                                 |   |       |      |   |   |
| TOTAL CURRENT ASSETS                 |   | $          | 1,789,943 |   | $ | 2,154,323 |   |
| TOTAL CURRENT LIABILITIES            |   | 1,013,773  |      | 724,426 |   |
| WORKING CAPITAL                      |   | 776,170    |      | 1,429,897 |   |
|                                 |   |       |      |   |   |
| WORKING CAPITAL RATIO TO 1           |   | 1.8        |      | 3.0 |   |
|                                      |        |            |           |  |  |  |  |

 

The Companyfunds its working capital requirements primarily from its revenues fromoperations.  In addition, during the sixmonths ended June 30, 2003, the Company issued an aggregate of $860,000 ofpromissory notes and a $50,000 unsecured debenture in consideration for amountsloaned to the Company by certain members of management and otherindividuals.  To date, a total of$690,000 in principal amount of these promissory notes has been converted intoshares of common stock of the Company. The Company does not currently have, nordoes it currently plan on entering into, any financing arrangements with anyfinancial institutions and intends to continue to fund its working capitalrequirements from its revenues from operations.  However, if necessary or conditions warrant, the Company mayborrow additional funds from private individuals, including members ofmanagement, or enter into financing arrangements with financial intuitionsshould it become practical or advantageous to do so.  The Company has no other outstanding debt other than customarytrade payables.

 

FISCALYEAR ENDED JUNE 30, 2003 COMPARED TO FISCAL YEAR ENDED JUNE 30, 2002

 

FINANCIALCONDITION

 

Working capital decreased by $653,727 fromJune 30, 2002 to June 30, 2003.  Cashand equivalents as of June 30, 2003 decreased by $355,976 over the sameperiod.  The decrease in cash, cashequivalents and working capital was due primarily to losses from operationsincreased non-recurring legal fees in connection with the 13-D filing ofDecember 17, 2002, inventory and bad debt charges against earnings in thequarter ended March 31, 2003 and the garnishment of $116,197 related to theMarch 2003 legal proceeding in anticipated payment of the DeMatteo promissorynote, fees and interest.

 

Inventorydecreased to $474,770 in fiscal year 2003 compared to $543,083 in fiscal year2002.  This was due in part to a writeoff of obsolete inventory.

 

Managementbelieves that it has sufficient funds and resources on hand to discharge itsobligations for at least the next twelve months.  This determination is based on the current backlog status of andanticipated ship dates of same. The Company had unshipped orders totaling $ 198,471as of June 30, 2003.

 

RESULTSOF OPERATIONS

 

NETSALES

 

The Company’s net sales increased 37.7% or$742,666 from $1,968,597 in fiscal year 2002 to $2,711,263 in fiscal 2003.  The increase in net sales reflects growingcustomer interest in the Company’s products. The increase in net sales is aresult of the Company’s ongoing plan to increase distribution of it’s productlines internationally, the addition of new workstation models and consumableproducts and the preliminary effects of the sales force re-organization in thedomestic market. During fiscal year

 

15

----

 

ended June 30, 2003, the Company changeddistributors in Turkey which resulted in an increase in sales of $74,741. Additionally a new workstation was introduced into the Chinese market. The Chinese market increased sales by $347,475 of which $138,327 was the resultof the introduction of the new workstation.

 

GROSSPROFIT AND GROSS PROFIT MARGINS

 

TheCompany’s gross profit increased by 33.8% or $411,304 from $1,216,162 in fiscalyear 2002 to $1,627,466 for fiscal year 2003. This increase in gross profit results from the increase in netsales.  This increase was offset by adecrease in the Company’s gross profit margins to 60% for fiscal year 2003,from 61.8% for fiscal year 2002. Gross profit margins decreased nominally dueto an increase in the cost of materials used by the Company.

 

SELLING,GENERAL, AND ADMINISTRATIVE (SG&A)

 

TheCompany’s SG&A expenses increased 18.3% or $436,798 from $2,382,771 forfiscal year 2002 to $2,819,569 for fiscal year 2003.  The increase in SG&A was due primarily to non-recurring legal fees in connection withthe 13-D filing on December 17, 2002, non-recurring accounting expenses relatedto the change in management and bad debt expense for a foreign distributor.

 

RESEARCHAND DEVELOPMENT (R&D)

 

R&D expenses decreased to $437,324 forfiscal year 2003 compared to $489,430 for fiscal year 2002.  This decrease was due primarily to the needto control expenses and to focus the Company’s efforts to projects that aremore likely to succeed in the marketplace. The Company incurs research and development costs as a result of itsongoing efforts to improve existing product and development of new products. TheCompany primarily conducts research and development internally and typicallydoes not utilize the services of third parties for such purposes. TheCompany is focusing its research and development on several projects.  Amore powerful, lightweight, smaller and more efficient workstation for both theurinalysis and parasitology markets as well as new proprietary consumableproducts to be used in conjunction with the workstations.  New applications for our technology are alsobeing pursued in the industrial market.

 

NETLOSS

 

TheCompany’s net loss decreased $ 21,059 from $1,641,378 in fiscal year 2002 to$1,620,319 in fiscal year 2003.  Thisdecrease was due primarily to operating efficiencies instituted by newmanagement and the effect of higher margin sales in the fourth quarter endedJune 30, 2003.

 

INFLATION

 

Althoughthe Company believes that inflation has not had a material adverse affect onthe results of operations to date, any increases in costs of raw materials orlabor to the Company could affect the prices charged by the Company to itsclients.

 

ITEM7 - FINANCIAL STATEMENTS

 

SeePage 18

 

16

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ITEM8 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIALDISCLOSURE

 

None.

 

PART III

 

ITEM9 - DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

 

Theinformation under the caption “Election of Directors and Officers” in theCompany’s definitive Proxy Statement, to be filed pursuant to Regulation 14Afor the 2003 Annual Meeting of Shareholders, is hereby incorporated herein byreference.

 

ITEM10 - EXECUTIVE COMPENSATION

 

Theinformation under the caption “Executive Compensation” in the Company’s ProxyStatement to be filed pursuant to Regulation 14A for the 2003 Annual Meeting ofShareholders is hereby incorporated herein by reference.

 

ITEM11 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATEDSTOCKHOLDER MATTERS

 

Theinformation under the caption “Security Ownership of Certain Beneficial Ownersand Management and Related Stockholder Matters” in the Company’s definitiveProxy Statement, to be filed pursuant to Regulation 14A for the 2003 AnnualMeeting of Shareholders, is hereby incorporated herein by reference.

 

ITEM12 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

 

Theinformation under the caption “Certain Relationships and Related Transactions”in the Company’s definitive Proxy Statement, to be filed pursuant to Regulation14A for the 2003 Annual Meeting of Shareholders, is hereby incorporated hereinby reference.

 

PART IV

 

ITEM13 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8K

 

(a)Exhibits

 
| **Number** |   | **Description  of Document**                                                                               |
|------------|--------|------------------------------------------------------------------------------------------------------------|
| 10.1       |   | Witzel  Demand Promissory Note (1)                                                                         |
| 10.2       |   | Silverman  Demand Promissory Note ($200,000) (1)                                                           |
| 10.3       |   | Silverman  Demand Promissory Note ($140,000) (1)                                                           |
| 10.4       |   | Robbins  Demand Promissory Note (1)                                                                        |
| 21.1       |   | Subsidiaries  of the Registrant*                                                                           |
| 31.1       |   | Certification  of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act  of 2002.*     |
| 31.2       |   | Certification  of the Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley  Act of 2002.* |
| 32.1       |   | Certification  of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act  of 2002.*     |
| 32.2       |   | Certification  of Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act  of 2002.*     |

 

17

----

 

----

*Filed herewith

(1)Incorporated by reference from the Registrant’s quarterly report on Form10Q-SB, for the quarter ended March 31, 2003

 

(b)Reports Filed on Form 8-K

 

Duringthe quarter ended June 30, 2003, the Registrant filed a Current Report on Form8-K, dated September 8, 2003, reporting Item No. 12 therein.

 

ITEM14 - CONTROLS AND PROCEDURES

 

TheCompany’s chief executive officer and chief financial officer have concluded,based on their evaluation within 90 days of the end of the period, that theCompany’s disclosure controls and procedures are effective for gathering,analyzing and disclosing the information the Company is required to disclose inits reports filed under the Securities Exchange Act of 1934.  There have been no significant changes inthe Company’s internal controls or in other factors that could significantlyaffect these controls subsequent to the date of the previously mentionedevaluation.

 

ITEM15 - PRINCIPAL ACCOUNTANT FEES AND SERVICES

 

Theinformation under the caption “Principal Accountant Fees and Services” in theCompany’s definitive Proxy Statement, to be filed pursuant to Regulation 14Afor the 2003 Annual Meeting of Shareholders, is hereby incorporated herein byreference.

 

SIGNATURES

 

Inaccordance with Section 13 or 15(d) of the Securities Exchange Act of 1934, theRegistrant has duly caused this report to be signed on its behalf by theundersigned, thereunto duly authorized.

 
| Dated  October 8, 2003 | DiaSys  Corporation                       |
|------------------------|-------------------------------------------|
|                   |                                      |
|                   | By:  Marshall  Witzel           |   |
|                   | Marshal  Witzel,  Chief Executive Officer |
|                        |                                           |  |  |

 

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

 
| Dated  October 8, 2003 | DiaSys  Corporation      |
|------------------------|--------------------------|
|                   |                     |
|                   | By:  Jeffrey Aaronson    |   |
|                   | Chief  Financial Officer |
|                        |                          |  |  |

 

Inaccordance with the Securities Exchange Act of 1934, this report has beensigned below by the following persons on behalf of the registrant and in thecapacities and on the dates indicated.

 
| /s/  Marshall Witzel                        |                   |   |
|---------------------------------------------|------------------------|--------|
| Marshall  Witzel,   Chief Executive Officer | Date:  October 8, 2003 |

 

18

----

 
| /s/  Jeffrey Aaronson    |                   |   |
|--------------------------|------------------------|--------|
| Jeffrey  Aaronson        |                   |
| Chief  Financial Officer | Date:  October 8, 2003 |
|                     |                   |
| /s/  Morris Silverman    |                   |   |
| Morris  Silverman        |                   |
| Chairman  of the Board   | Date:  October 8, 2003 |
|                     |                   |
| /s/  Robert Wigoda       |                   |   |
| Robert  Wigoda           |                   |
| Secretary  and Director  | Date:  October 8, 2003 |
|                     |                   |
| /s/  Sherwin Gilbert     |                   |   |
| Sherwin  Gilbert         |                   |
| Director                 | Date:  October 8, 2003 |
|                     |                   |
| /s/  Kenneth Grossman    |                   |   |
| Kenneth  Grossman        |                   |
| Director                 | Date:  October 8, 2003 |
|                     |                   |
| /s/  Gregory Witchel     |                   |   |
| Gregory  Witchel         |                   |
| Director                 | Date:  October 8, 2003 |

 

19

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INDEXTO CONSOLIDATED FINANCIAL STATEMENTS

 
| Reports of Independent  Auditors:                                                                                                                  |
|----------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                                                                                                               |
| Deloitte & Touche LLP                                                                                                                          |
| Wiss & Company LLP                                                                                                                             |
|                                                                                                                                               |
| Consolidated  Financial Statements:                                                                                                                |
|                                                                                                                                               |
| Consolidated balance sheet  at June 30, 2003                                                                                                       |
|                                                                                                                                               |
| Consolidated  statements of operations for the years ended June 30, 2003 and 2002                                                                  |
|                                                                                                                                               |
| Consolidated  statements of changes in stockholders’ equity and other comprehensive income  (loss) for the years ended June 30, 2003 and 2002 |
|                                                                                                                                               |
| Consolidated statements  of cash flows for the years ended June 30, 2003 and 2002                                                                  |
|                                                                                                                                               |
| Consolidated  notes to consolidated financial statements                                                                                           |

 

 

20

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INDEPENDENT AUDITORS’ REPORT

 

Boardof Directors

DiaSysCorporation and Subsidiary

 

Wehave audited the accompanying consolidated balance sheet of DiaSys Corporationand subsidiary as of June 30, 2003 and the related consolidated statements ofoperations, changes in stockholders’ equity and other comprehensive income(loss)and cash flows for the year then ended. These consolidated financial statements are the responsibility of theCompany’s management. Our responsibility is to express an opinion on theseconsolidated financial statements based on our audit.

 

Weconducted our audit in accordance with auditing standards generally accepted inthe United States of America.  Thosestandards require that we plan and perform the audit to obtain reasonableassurance about whether the financial statements are free of materialmisstatement.  An audit includesexamining, on a test basis, evidence supporting the amounts and disclosures inthe financial statements.  An audit alsoincludes assessing the accounting principles used and significant estimatesmade by management, as well as evaluating the overall financial statementpresentation.  We believe that our auditprovides a reasonable basis for our opinion.

 

Inour opinion, the consolidated financial statements referred to above presentfairly, in all material respects, the financial position of DiaSys Corporationand subsidiary at June 30, 2003, and the results of their operations and theircash flows for the year then ended, in conformity with accounting principlesgenerally accepted in the United States of America.

 

Deloitte & Touche, LLP

Hartford, CT

October 3, 2003

 

 

21

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INDEPENDENTAUDITORS’ REPORT

 

Board of Directors

DiaSys Corporation and Subsidiary

 

We have audited the accompanyingconsolidated balance sheet of DiaSys Corporation and subsidiary as of June 30,2002 (not presented herein) and the related consolidated statements ofoperations, changes in stockholders’ equity and cash flows for  the year then ended.  These financial statements are theresponsibility of the Company’s management. Our responsibility is to express anopinion on these financial statements based on our audit.

 

We conducted our audit in accordancewith auditing standards generally accepted in the United States ofAmerica.  Those standards require thatwe plan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement.  An audit includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financial statements.  An audit also includes assessing theaccounting principles used and significant estimates made by management, aswell as evaluating the overall financial statement presentation.  We believe that our audit provides areasonable basis for our opinion.

 

In our opinion, the consolidatedfinancial statements referred to above present fairly, in all materialrespects, the consolidated financial position of DiaSys Corporation andsubsidiary at June 30, 2002, and the consolidated results of its operations andits cash flows for the year then ended, in conformity with accountingprinciples generally accepted in the United States of America.

 

WISS AND COMPANY, LLP

Livingston, NJ

September 5, 2002

 

 

22

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DIASYSCORPORATION and SUBSIDIARY

CONSOLIDATEDBALANCE SHEET

JUNE30, 2003

 
| ASSETS                                                                        |   |        |      |
|-------------------------------------------------------------------------------|--------|-------------|-----------|
|                                                                          |   |        |      |
| CURRENT ASSETS:                                                               |   |        |      |
| Cash and equivalents                                                          |   | $           | 72,019    |   |
| Restricted cash                                                               |   | 116,197     |      |
| Accounts receivable, less  allowance for doubtful accounts of $360,000        |   | 900,959     |      |
| Finance receivables, net                                                      |   | 90,573      |      |
| Inventories                                                                   |   | 474,770     |      |
| Prepaid expenses and other current  assets                                    |   | 135,423     |      |
| Total Current Assets                                                          |   | 1,789,941   |      |
|                                                                          |   |        |      |
| EQUIPMENT, FURNITURE AND FIXTURES,  LESS ACCUMULATED DEPRECIATION of $412,881 |   | 221,608     |      |
|                                                                          |   |        |      |
| OTHER ASSETS:                                                                 |   |        |      |
| Computer software, less  accumulated amortization of $23,986                  |   | 16,325      |      |
| Patents, less accumulated  amortization of $744,509                           |   | 2,216,312   |      |
| Other assets-non-current                                                      |   | 46,135      |      |
| Long-term finance receivables, net                                            |   | 78,107      |      |
| Total Other Assets                                                            |   | 2,356,879   |      |
| TOTAL ASSETS                                                                  |   | $           | 4,368,428 |   |
|                                                                          |   |        |      |
| LIABILITIES  AND STOCKHOLDERS’ EQUITY                                    |   |        |      |
|                                                                          |   |        |      |
| CURRENT LIABILITIES:                                                          |   |        |      |
| Accounts payable                                                              |   | $           | 555,815   |   |
| Accrued expenses                                                              |   | 126,827     |      |
| Due to bank                                                                   |   | 11,131      |      |
| Loans payable from shareholders                                               |   | 320,000     |      |
| Total Current Liabilities                                                     |   | 1,013,773   |      |
|                                                                          |   |        |      |
| COMMITMENTS AND CONTINGENCIES  (NOTES 11 AND 14)                              |   |        |      |
|                                                                          |   |        |      |
| STOCKHOLDERS’ EQUITY:                                                    |   |        |      |
| Common stock $.001 par value:                                                 |   |        |      |
| Authorized 99,900,000 shares                                                  |   | 12,418      |      |
| 12,418,393 issued and outstanding                                             |   |        |      |
| Additional paid-in-capital                                                    |   | 16,403,927  |      |
| Accumulated deficit                                                           |   | (13,104,009 | )         |
| Accumulated other comprehensive  income                                       |   | 42,319      |      |
| Total Stockholders’ Equity                                               |   | 3,354,655   |      |
|                                                                          |   |        |      |
| Total Liabilities and  Stockholders’ Equity                              |   | $           | 4,368,428 |   |

 

See accompanying notes toconsolidated financial statements.

 

23

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DIASYSCORPORATION and SUBSIDIARY

CONSOLIDATEDSTATEMENTS OF OPERATIONS

 
|                                        |   | **Year Ended June 30,** |       |
|---------------------------------------------|--------|-------------------------|------------|
|                                        |   | **2003**                |       | **2002** |   |
|                                        |   |                    |       |   |   |
| NET SALES                                   |   | $                       | 2,711,263  |   | $ | 1,968,597 |   |
|                                        |   |                    |       |   |   |
| COST OF GOODS SOLD                          |   | 1,083,797               |       | 752,435 |   |
|                                        |   |                    |       |   |   |
| GROSS PROFIT                                |   | 1,627,466               |       | 1,216,162 |   |
|                                        |   |                    |       |   |   |
| OPERATING EXPENSES                          |   |                    |       |   |   |
| Selling                                     |   | 1,195,896               |       | 1,043,084 |   |
| General & administrative                |   | 1,623,673               |       | 1,339,687 |   |
| Research & development                  |   | 437,324                 |       | 489,430 |   |
|                                        |   | 3,256,893               |       | 2,872,201 |   |
|                                        |   |                    |       |   |   |
| LOSS FROM OPERATIONS                        |   | (1,629,427              | )          | (1,656,039 | ) |
|                                        |   |                    |       |   |   |
| OTHER INCOME:                               |   |                    |       |   |   |
| Interest income                             |   | 16,589                  |       | 22,634 |   |
| Interest expense                            |   | (5,537                  | )          | (4,828 | ) |
| Gain on sale of property and  equipment     |   | —                  |       | 2,482 |   |
|                                        |   |                    |       |   |   |
| NET LOSS BEFORE INCOME TAXES                |   | (1,618,375              | )          | (1,635,751 | ) |
|                                        |   |                    |       |   |   |
| INCOME TAXES                                |   | 1,944                   |       | 5,627 |   |
|                                        |   |                    |       |   |   |
| NET LOSS                                    |   | $                       | (1,620,319 | ) | $ | 1,641,378 | ) |
|                                        |   |                    |       |   |   |
| WEIGHTED AVERAGE COMMON SHARES  OUTSTANDING |   | 10,904,694              |       | 7,693,888 |   |
|                                        |   |                    |       |   |   |
| BASIC AND DILUTED LOSS PER COMMON  SHARE    |   | $                       | (0.15      | ) | $ | (0.21 | ) |

 

See accompanying notes toconsolidated financial statements.

 

24

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DIASYSCORPORATION and SUBSIDIARY

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’EQUITY AND OTHER COMPREHENSIVE INCOME (LOSS)

 
|                                                                               |   |             |   |                |   |           |   | **Other**         |   |                |   |             |       |
|------------------------------------------------------------------------------------|--------|------------------|--------|---------------------|--------|----------------|--------|-------------------|--------|---------------------|--------|------------------|------------|
|                                                                               |   | **Common Stock** |   | **Preferred Stock** |   | **Additional** |   | **Comprehensive** |   | **Accumulated**     |   | **Total**        |       |
|                                                                               |   | **Shares**       |   | **Par Value**       |   | **Shares**     |   | **Par Value**     |   | **Paid in Capital** |   | **Income(loss)** |       | **Deficit** |   | **Equity** |   |
|                                                                               |   |             |   |                |   |           |   |              |   |                |   |             |       |   |   |   |   |
| BALANCE JULY 1, 2001                                                               |   | 6,874,597        |   | $                   | 6,875  |           | 1,890  |              | $      | 2                   |   | $                | 15,249,592 |   | $ | (16,026 | ) | $ | (9,842,312 | ) | $ | 5,398,131 |   |
|                                                                               |   |             |   |                |   |           |   |              |   |                |   |             |       |   |   |   |   |
| Conversion of 120 shares of  preferred stock to 290,312 shares of common stock     |   | 290,312          |   | 290                 |   | (120           | )      | —            |   | (290                | )      | —           |       | — |   | — |   |
| Conversion of 52 shares of  preferred stock to 200,000 shares of common stock      |   | 200,000          |   | 200                 |   | (52            | )      | —            |   | (200                | )      | —           |       | — |   | — |   |
| Adjustment of preferred shares                                                     |   | —           |   | —              |   | 126            |   | —            |   | —              |   | —           |       | — |   | — |   |
| Conversion of 1,844 shares of  preferred stock to 2,528,812 shares of common stock |   | 2,528,812        |   | 2,529               |   | (1,844         | )      | (2                | )      | (2,527              | )      | —           |       | — |   | — |   |
| Private placement                                                                  |   | 781,250          |   | 781                 |   | —         |   | —            |   | 459,218             |   | —           |       | — |   | 459,999 |   |
| Options issued to consultants                                                      |   | —           |   | —              |   | —         |   | —            |   | 2,513               |   | —           |       | — |   | 2,513 |   |
| Net loss                                                                           |   | —           |   | —              |   | —         |   | —            |   | —              |   | —           |       | (1,641,378 | ) | (1,641,378 | ) |
| Foreign currency translation  adjustment                                           |   | —           |   | —              |   | —         |   | —            |   | —              |   | 37,834           |       | — |   | 37,834 |   |
|                                                                               |   |             |   |                |   |           |   |              |   |                |   |             |       |   |   |   |   |
| BALANCE JULY 1, 2002                                                               |   | 10,674,971       |   | $                   | 10,675 |           | — |              | — |                | $      | 15,708,306       |       | $ | 21,808 |   | $ | (11,483,690 | ) | $ | 4,257,099 |   |
|                                                                               |   |             |   |                |   |           |   |              |   |                |   |             |       |   |   |   |   |
| Issuance of common stock for note  payable                                         |   | 863,874          |   | 864                 |   | —         |   | —            |   | 344,686             |   | —           |       | — |   | 345,550 |   |
| Issuance of common stock for note  payable                                         |   | 254,548          |   | 254                 |   | —         |   | —            |   | 101,560             |   | —           |       | — |   | 101,814 |   |
| Issuance of common stock for note  payable                                         |   | 250,000          |   | 250                 |   | —         |   | —            |   | 99,750              |   | —           |       | — |   | 100,000 |   |
| Issuance of common stock for note  payable                                         |   | 125,000          |   | 125                 |   | —         |   | —            |   | 49,875              |   | —           |       | — |   | 50,000 |   |
| Issuance of common stock for note  payable                                         |   | 125,000          |   | 125                 |   | —         |   | —            |   | 49,875              |   | —           |       | — |   | 50,000 |   |
| Issuance of common stock for note  payable                                         |   | 125,000          |   | 125                 |   | —         |   | —            |   | 49,875              |   | —           |       | — |   | 50,000 |   |
| Net loss                                                                           |   | —           |   | —              |   | —         |   | —            |   | —              |   | —           |       | (1,620,319 | ) | (1,620,319 | ) |
| Foreign currency translation  adjustment                                           |   | —           |   | —              |   | —         |   | —            |   | —              |   | 20,511           |       | — |   | 20,511 |   |
|                                                                               |   |             |   |                |   |           |   |              |   |                |   |             |       |   |   |   |   |
| BALANCE JUNE 30, 2003                                                              |   | 12,418,393       |   | $                   | 12,418 |           | — |              | $      | —              |   | $                | 16,403,927 |   | $ | 42,319 |   | $ | (13,104,009 | ) | $ | 3,354,655 |   |

 

Comprehensiveloss, i.e., net loss plus other comprehensive income (loss) totals

 

$  (1,599,808) in 2003 and $ (1,603,544) in 2002.

 

See accompanying notes toconsolidated financial statements.

 

25

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DIASYSCORPORATION and SUBSIDIARY

CONSOLIDATED STATEMENTS OF CASH FLOWS

 
|                                                                               |   | **Year Ended June 30,** |       |
|------------------------------------------------------------------------------------|--------|-------------------------|------------|
|                                                                               |   | **2003**                |       | **2002** |   |
| CASH FLOWS FROM OPERATING  ACTIVITIES:                                             |   |                    |       |   |   |
| Net Loss                                                                           |   | $                       | (1,620,319 | ) | $ | (1,641,378 | ) |
| Adjustments to reconcile net loss  to net cash flows used in operating activities: |   |                    |       |   |   |
|                                                                               |   |                    |       |   |   |
| Amortization of patents and  software                                              |   | 192,807                 |       | 167,478 |   |
| Depreciation of equipment,  furniture and fixtures                                 |   | 65,751                  |       | 82,292 |   |
| Bad debt expense                                                                   |   | 274,385                 |       | 18,890 |   |
| Issuance of options to  non-employees                                              |   | —                  |       | 2,512 |   |
| Gain on sale of property and  equipment                                            |   | —                  |       | (2,482 | ) |
| Changes in assets and liabilities:                                                 |   |                    |       |   |   |
| Accounts receivable                                                                |   | (415,859                | )          | (71,374 | ) |
| Inventories                                                                        |   | 68,313                  |       | (31,246 | ) |
| Prepaid expenses and other current  assets                                         |   | (27,920                 | )          | 11,490 |   |
| Other assets                                                                       |   | 37,438                  |       | (15,384 | ) |
| Accounts payable and accrued  expenses                                             |   | (30,651                 | )          | 413,599 |   |
|                                                                               |   |                    |       |   |   |
| Net cash flows used in operating  activities                                       |   | (1,456,056              | )          | (1,065,603 | ) |
|                                                                               |   |                    |       |   |   |
| CASH FLOWS FROM INVESTING ACTIVITIES:                                              |   |                    |       |   |   |
| Purchases of equipment, furniture  and fixtures                                    |   | (24,443                 | )          | (67,481 | ) |
| Decrease (Increase) in finance  receivables                                        |   | 137,494                 |       | (35,774 | ) |
| Costs of computer software                                                         |   | (22,163                 | )          | (5,926 | ) |
| Costs of patents                                                                   |   | (28,683                 | )          | (33,172 | ) |
| Proceeds from sale of fixed assets                                                 |   | —                  |       | 55,607 |   |
| Increase in restricted cash                                                        |   | (116,197                | )          | — |   |
| Net cash flows used in investing  activities                                       |   | (53,992                 | )          | (86,746 | ) |
|                                                                               |   |                    |       |   |   |
| CASH FLOWS FROM FINANCING  ACTIVITIES:                                             |   |                    |       |   |   |
| Proceeds from the issuance of  common stock                                        |   | —                  |       | 460,000 |   |
| Increase in loans from shareholders                                                |   | 1,017,364               |       | — |   |
|                                                                               |   |                    |       |   |   |
| Net cash flows provided by  financing activities                                   |   | 1,017,364               |       | 460,000 |   |
|                                                                               |   |                    |       |   |   |
| Effect of foreign currency  translation on cash                                    |   | 20,511                  |       | 37,834 |   |
|                                                                               |   |                    |       |   |   |
| NET CHANGE IN CASH AND CASH  EQUIVALENTS                                           |   | (472,173                | )          | (654,515 | ) |
|                                                                               |   |                    |       |   |   |
| CASH AND EQUIVALENTS, BEGINNING OF  YEAR                                           |   | 544,192                 |       | 1,198,707 |   |
|                                                                               |   |                    |       |   |   |
| CASH AND EQUIVALENTS, END OF YEAR                                                  |   | $                       | 72,019     |   | $ | 544,192 |   |
|                                                                               |   |                    |       |   |   |
| SUPPLEMENTAL CASH FLOW INFORMATION:                                                |   |                    |       |   |   |
| Interest paid                                                                      |   | $                       | 15,466     |   | $ | 12,929 |   |
| Income taxes paid                                                                  |   | $                       | 1,963      |   | $ | 5,627 |   |
|                                                                               |   |                    |       |   |   |
| SUPPLEMENTAL NON CASH FLOW  INFORMATION:                                           |   |                    |       |   |   |
| Preferred shares converted to  common stock                                        |   | $                       | —     |   | $ | 3,019 |   |
| Notes payable converted to common  stock                                           |   | $                       | 697,364    |   | $ | — |   |

 

See accompanying notes to consolidatedfinancial statements.

 

26

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

NOTE 1 - NATURE OF THE BUSINESS:

 

**Nature of theBusiness: **DiaSysCorporation (“the Company”), designs, develops, manufactures, and distributesproprietary workstation and consumable products for medical and clinicallaboratory applications.  The Companycurrently conducts business within one business segment.  The Company distributes its productsprimarily through sales managers employed by the Company and throughdistributors in North America, Europe, Middle East, Africa, China and PacificAsia.

 

NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTINGPOLICIES:

 

**Principles of Consolidation: **Theconsolidated financial statements include the accounts of the Company and itswholly owned subsidiary.  AllSignificant intercompany accounts and transactions have been eliminated.

 

**RevenueRecognition:** The Company records revenue whenmerchandise is shipped to its customers and the Company has no further obligationto provide services related to such merchandise.  These revenues are recorded net of sales returns andallowances.  The Company recognizessales returns as a reduction of revenue and cost of sales for the sales priceand cost, respectively, when the products are returned.  The Company’s customer return policy allowscustomers to return products only if the products have the ability to be addedback to inventory and resold at full value or can be returned to vendors forcredit.

 

**Foreign Currency Translation:**  Assets and liabilities of the Company’s whollyowned foreign subsidiary are translated into U.S. dollars at year-end exchangerates, and revenues and expenses are translated at average rates prevailingduring the year.  Translationadjustments are included as other comprehensive income (loss).  Foreign currency transaction gains andlosses, which have been immaterial, are included in results of operations.

 

**Income Taxes:**  Deferred income taxesare provided based on the difference between the financial statement and incometax benefit of assets and liabilities, principally bad debt expense and netoperating loss carry-forwards, at currently enacted tax rates.

 

**FinancingTransactions:** Certain of the Company’s lease and “use” based receivables are recordedutilizing the sales-type method.  When afinance transaction is consummated, the Company records the minimum leasepayments receivable and the unearned income arising from the lease.  The unearned income is recognized over theterm of the lease using the interest method.

 

**FinancialInstruments:** Financial instruments include cash and equivalents, accounts receivable,finance receivables, accounts payable and accrued expenses.  The amounts reported for financial instrumentsare considered to be reasonable approximations of their fair values based onmarket information available to management. The use of different market assumptions and/or estimation methodologiescould have a material effect on the estimated fair value amounts.

 

**Cash and CashEquivalents:** The Company considers money market funds and all other highly liquiddebt instruments purchased with an original maturity of three months or less tobe cash equivalents.

 

27

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**Restricted Cash:**  Restricted cash includes cash and cashequivalents that have been restricted by legal order (see Note 14).

 

**Inventories:**  Inventories are stated at the lower of cost(first in, first out method) or market and consist of products manufactured bythe Company, in addition to products manufactured by subcontractors to Companyspecifications.

 

**Property andEquipment:**  Property and Equipmentare recorded at cost and are depreciated primarily using the straight-linemethod over their estimated useful lives of 3 to 10 years (see Note 6).

 

**Computer Software:** Computersoftware is recorded at cost and is amortized over a 3-year lives.

 

**Patent Costs:** The costsof obtaining patents are amortized over their respective useful life.

 

**Warranty Costs:**  The Company assembles its finished goods,and will repair or replace any unit which fails to operate due to defectiveparts or workmanship within one year from the purchase date.  As warranty costs remain and are expected toremain insignificant, no accrual for warranty costs is appropriate.

 

**Loss Per Share:** Basicloss per share is based upon the weighted average of all common sharesoutstanding.  The computation of dilutedloss per share does not assume the conversion, exercise or contingent issuanceof securities that would have an anti-dilutive effect loss per share.  If the assumed exercise of certain stockoptions had been dilutive, the incremental average shares outstanding wouldhave been 905,250 and 642,500 for 2003 and 2002, respectively.

 

**Stock Options:** TheCompany accounts for stock option grants using the intrinsic value basedmethod prescribed by Accounting Principles Board (“APB”) Opinion No. 25.  Since the exercise price equaled or exceededthe estimated fair value of the underlying shares at the date of grant, nocompensation was recognized in 2003 and 2002. In December 2002, the Financial Accounting Standards Board (“FASB”)issued SFAS No. 148, “Accounting for Stock-Based Compensation - Transition andDisclosure an amendment of FAS 123”. FAS No. 148 provides additional transitionguidance for those entities that elect to voluntary adopt the accountingprovisions of FAS No. 123, “Accounting for Stock-Based Compensation”.  FAS No. 148 also mandates certain newdisclosures that are incremental to those required by FAS No. 123.  The provisions of FAS No. 148 are effectivefor fiscal years ending after December 15, 2002, and for interim periodsbeginning after December 15, 2002.  TheCompany adopted the disclosure provisions of FAS No. 148 during the thirdquarter of fiscal 2003.

 

SFAS No. 123 requires themeasurement of the fair value of stock options or warrants to be disclosed inthe notes to financial statements.  TheCompany has computed the pro forma disclosure required under SFAS No. 123 foroptions granted using the Black-Scholes option pricing model prescribed by SFASNo. 123.  The assumptions used are asfollows:

 
|                     |   | **2003** |   | **2002** |   |
|--------------------------|--------|----------|--------|----------|--------|
| Risk  free interest rate |   | 3.42     | %      | 4.68     | %      |
| Expected  dividend yield |   | 0.0      | %      | 0.0      | %      |
| Expected  lives          |   | 8  years |   | 8  years |   |
| Expected  volatility     |   | 88.21    | %      | 139.72   | %      |

 

28

----

 

Had compensation cost for theCompany’s stock option plans been determined based on the fair value at thegrant dates of awards under these plans consistent with the method of SFAS No.123, the Company’s net loss and pro-forma net loss per common share would haveincreased to the pro-forma amounts indicated below:

 
|                                                                                                              |   | **2003** |       | **2002** |   |
|-------------------------------------------------------------------------------------------------------------------|--------|----------|------------|----------|--------|
|                                                                                                              |   |     |       |     |   |
| Net loss, as reported                                                                                             |   | $        | (1,620,319 | )        | $      | (1,641,378 | ) |
| Add:  Stock based employee compensation expense included in reported  net loss                               |   | —   |       | 2,513    |   |
| Deduct: Total stock-based employee  compensation expense determined under fair value based method for all awards. |   | (893,671 | )          | (702,091 | )      |
| Pro forma net loss                                                                                                |   | $        | (2,513,990 | )        | $      | (2,340,956 | ) |
|                                                                                                              |   |     |       |     |   |
| Net loss per share:                                                                                               |   |     |       |     |   |
| Basic and diluted - as reported                                                                                   |   | $        | (0.15      | )        | $      | (0.21 | ) |
|                                                                                                              |   |     |       |     |   |
| Basic and diluted - pro forma                                                                                     |   | $        | (0.23      | )        | $      | (0.30 | ) |

 

Other disclosures required by SFASNo. 123 have been included in Note 10.

 

**AdvertisingExpense:** Advertising costs are expensed as incurred. Advertising expensefor the years ended June 30, 2003 and 2002 amounted to approximately $40,087and $82,190, respectively.

 

**New Accounting Pronouncements:**In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.”  SFAS No. 149 amends and clarifies accounting for derivative instruments, including certain derivative instruments embedded on other contracts, and for hedging activities under Statement 133.  This statement is effective for contracts entered into or modified after June 30, 2003.  Management is currently evaluating the provisions of this statement, and does not believe that it will have significant impact on the Company’s consolidated financial statements.

 

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.”  This statement requires that an issuer classify financial instruments that are within its scope as a liability.  Many of those instruments were classified as equity under previous guidance.  Most of the guidance in SFAS No. 150 is effective for all financial instruments entered into or modified after May 31, 2003, and otherwise effective at the beginning of the first interim period beginning after June 15, 2003.  Management has evaluated the provisions of this statement, and does not believe that it has an impact on the Company’s consolidated financial statements.

 

In November 2002, the FASB issued FASB interpretation (“FIN”) No. 45 “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others.”  FIN No. 45 clarifies and expands existing disclosure requirements for guarantees, including loan guarantees.

 

29

 

In January 2003, the FASB issued FIN No. 46, “Consolidation of Variable Interest Entities - an Interpretation of Accounting Research Bulletin No. 51.”  FIN No. 46 clarifies rules for consolidation of special purpose entities.

 

FIN No’s. 45 and 46 became effective for the Company during fiscal year 2003.  These statements did not have a material impact on its consolidated financial statements.

 

**Estimates andUncertainties:**The preparation of financial statements inconformity with generally accepted accounting principles requires management tomake estimates and assumptions that affect the reported amounts of assets andliabilities and disclosure of contingent assets and liabilities at the date ofthe financial statements and the reported amounts of revenues and expensesduring the reporting period.  Actualresults, as determined at a later date, could differ from those estimates.

 

NOTE 3 - FINANCE RECEIVABLES:

 

Net investment in sales-type leasesare summarized as follows as of June 30, 2003:

 
| Minimum  lease payments receivable   |   | $       | 187,860 |   |
|--------------------------------------|--------|---------|---------|--------|
| Unearned  income                     |   | (19,180 | )       |
| Net  investment in sales-type leases |   | 168,680 |    |
| Less:  current portion               |   | (90,573 | )       |
|                                 |   |    |    |
| Long-term  Finance receivable        |   | $       | 78,107  |   |

 

Minimum lease payments to be receivedunder the above lease agreements as of June 30, 2003, are as follows:

 
| **Year Ended June  30:** |   |   |    |
|--------------------------|--------|--------|---------|
| 2004                     |   | $      | 105,941 |   |
| 2005                     |   | 73,503 |    |
| 2006                     |   | 7,242  |    |
| 2007                     |   | 1,174  |    |
|                     |   | $      | 187,860 |   |

 

NOTE 4 - INVENTORIES:

 

Inventories at June 30, 2003 consistof the following:

 
| Raw  material   |   | $       | 363,276 |   |
|-----------------|--------|---------|---------|--------|
| Finished  goods |   | 111,494 |    |
|            |   | $       | 474,770 |   |

 

NOTE 5 - CONCENTRATION OF CREDITRISK:

 

Net finance receivables due withinone year total $90,573 excluding interest, with net long-term financereceivables due in more than one year

 

30

----

 

total $78,107, excludinginterest.  The Company performs creditevaluations and acquires a security interest in each finance receivable andtrade receivable pursuant to the Uniform Commercial Code (see Note 12).

 

NOTE 6 - PROPERTY AND EQUIPMENT:

 

Property and Equipment at June 30,2003 are summarized as follows:

 
|                             |   |    |    | **Estimated Useful  Life**    |     |
|----------------------------------|--------|---------|---------|-------------------------------|----------|
| Machinery  and equipment         |   | $       | 483,544 |                          | 10 years |   |
| Furniture  and fixtures          |   | 107,776 |    | 3 to 5 years                  |     |
| Leasehold  improvements of lease |   | 43,169  |    | lesser of useful life or life |     |
|                             |   | 634,489 |    |                          |     |
| Less  accumulated depreciation   |   | 412,881 |    |                          |     |
|                             |   | $       | 221,608 |                          |     |   |

 

NOTE 7 - ACCOUNTS PAYABLE ANDACCRUED EXPENSES

 

Accounts Payable and Accrued Expenses are summarized as follows:

 
| Accounts payable             |   | $      | 555,815 |   |
|------------------------------|--------|--------|---------|--------|
| Accrued  payroll             |   | 35,748 |    |
| Accrued  inventory purchases |   | 45,490 |    |
| Other  accrued expenses      |   | 45,589 |    |
| Total                        |   | $      | 682,642 |   |

 

NOTE 8 - INCOME TAXES:

 

For income tax reporting purposes,the Company has a December 31 year-end. The Company has a net operating loss carry-forward of approximately$12,000,000 at June 30, 2003 (including net losses for the six months endedJune 30, 2003), which can be used to offset future federal taxable incomethrough 2024.

 

The Company follows SFAS No. 109,“Accounting for Income Taxes”.  Thisstatement requires that deferred income tax assets and liabilities reflect theimpact of “temporary differences” between the amount of assets and liabilitiesfor financial reporting purposes and such amounts as measured by tax laws andregulations.

 

The significant components of theCompany’s deferred tax assets at June 30, are summarized below:

 
|                                   |   | **2003**   |   | **2002**   |   |
|----------------------------------------|--------|------------|--------|------------|--------|
|                                   |   |       |   |       |   |
| Allowance  for doubtful accounts       |   | $          | 81,600 |       | $      | 48,000 |   |
| Net  operating loss tax carry forwards |   | 4,826,400  |   | 4,284,000  |   |
|                                   |   | 4,908,000  |   | 4,332,000  |   |
| Valuation  allowance                   |   | (4,908,000 | )      | (4,332,000 | )      |
|                                   |   | $          | — |       | $      | — |   |

 

31

----

 

The Company also has federal andstate research and development credit carry-forwards of approximately $47,000which begin to expire in fiscal 2015. The Tax Reform Act of 1986 contains certain provisions that limit theCompany’s ability to utilize net operating loss and tax credit carry-forwardsin any given year resulting from cumulative changes in ownership interests inexcess of 50% over a three-year period.

 

A valuation allowance is providedwhen it is more likely than not that some portion of the deferred tax assetwill not be realized.  The Company hasdetermined, based on the Company’s recent net loss, that a full valuationallowance is appropriate at June 30, 2003.

 

NOTE 9 - PREFERRED STOCK:

 

The Board of Directors is authorizedto issue 100,000 shares of Preferred Stock, $.001 par value, in one or moreseries and, to the extent now or hereafter permitted by the laws of the Stateof Delaware, to fix and determine the preferences, voting powers,qualifications and special and relative rights or privileges of each seriesincluding, but not limited to:

(i)                                     the numberof shares to constitute such series and the distinguishing designation thereof;

(ii)                                  (ii) thedividend rate on the shares of such series and the preferences, if any, and thespecial and relative rights of such shares of such series as to dividends;(iii) whether or not the shares of such series shall be redeemable and, ifredeemable, the price, terms and manner of redemption; (iv) the preferences, ifany, and the special and relative rights of the shares of such series uponliquidation of the Company; (v) whether or not shares of such series shall besubject to the operation of a sinking fund and, if so, the terms and provisionsof such fund; (vi) whether or not such series shall be convertible into sharesof any other class or other series of the same class of stock of the Company and,if so, the conversion price or ratio and other conversion rights;

(vii) the conditions under which theshares of such series shall have separate voting rights or no voting rights;and (viii) such other designations, preferences and relative, participating,optional or other special rights and qualifications, limitations orrestrictions of such series to the full extent now or hereafter permitted bythe laws of the State of Delaware. Notwithstanding the fixing of the number of shares constituting aparticular series, the Board of Directors may at any time authorize theissuance of additional shares of the same series.

 

Of the 100,000 shares of authorizedbut undesignated Preferred Stock, 4,000 shares are Series A ConvertiblePreferred Stock, with a par value of $.001 per share.  On February 7, 2000, the Company entered into an Agreementpursuant to which it agreed to sell up to 4,000 Series “A” ConvertiblePreferred Shares (the “Preferred”) and accompanying 5 year warrants (the“Warrants”) to purchase common shares, to two unaffiliated accreditedinvestors, B.H. Capital Investments, L.P. and Excalibur Limited Partnership,both of Toronto, Ontario, Canada.  Theterms of the Preferred were provided for in Certificate of Designations filedwith the Secretary of the State of Delaware. Under the Agreement, the investorspurchased all tranches as of November 17, 2000.

 

On April 4, 2002, a group ofinvestors, led by the Company’s officers and directors, entered into a stockpurchase agreement with BH Capital and Excalibur Partners to retire all of theConvertible Preferred and underlying common shares.  Under the stock purchase agreement, BH and Excalibur agreed toexercise, in several conversions, all of the Preferred at a stipulated price of$0.82 per share, yielding 2,528,812 commons shares.  The purchasers agreed to buy 2,228,812 common shares from BH andExcalibur for total consideration 

 

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of $1.5 million, or $0.673 pershare, so long as BH and Excalibur would also forfeit any warrants they held inthe Company’s common stock and any rights to acquire warrants in the future byvirtue of this transaction.  On April26, 2002, all transactions under the stock purchase agreement were completedand the Preferred was removed from the Company’s outstanding equity.

 

NOTE 10 - INCENTIVE STOCK OPTIONPLANS:

 

The Company maintains three stockoption plans, its 1993 Incentive Stock Option Plan (the “1993 ISO Plan”), its2000 Incentive Stock Option Plan (the “2000 ISO Plan” and together with the1993 ISO Plan, the “ISO Plans”) and its 2000 Non-qualified Incentive StockOption Plan (the “2000 NQSO Plan” and, together with the ISO Plans, the “Plans”and individually, a “Plan”). The ISO Plans are maintained under Section 422 ofthe Internal Revenue Code.  The Companyhas reserved 1,000,000 shares of its common stock for the purpose of grantingoptions (the “Options”) under each of the 1993 ISO Plan and the 2000 NQSO Plan.  The Company has reserved 500,000 shares ofits common stock for the purpose of granting Options under the 2000 ISOPlan.  Under each Plan, Options aregranted to the Company’s officers and employees by the Board of Directors andto members of the Board on a non-discretionary basis. No Options may be grantedunder the 1993 ISO Plan after November 14, 2003, and no Options may be grantedunder the 2000 ISO Plan after January 18, 2011.  Under each Plan, no Options may be exercised until thetwenty-fourth month following the date the Option was granted.  At such time, 50% of the shares of commonstock covered by the Option may be exercised, the remaining 50% balance areexercisable thirty-six months after issuance of the Option.  Options may not be exercisable more than tenyears after the date of grant (five years if held by a person holding more than10% of total voting rights of the Company’s outstanding capital stock at thedate of grant).

 

Unless otherwise provided, noOptions granted under the Plans are transferable by the Optionee other than bywill or by the law of descent and distribution.  Options granted under the Plans terminate within a specifiedperiod of time following termination of an Optionee’s employment.

 

Under each Plan, the exercise priceof the Options shall be equal to or greater than the fair market price of theCompany’s common stock on the date the Option is granted.  With respect to an Option granted to aperson who possesses more than 10% of the voting rights of the Company’soutstanding capital stock on the date of grant, the exercise price of theOption must be at least equal to 110% of the fair market value of the sharessubject to the Option on the date of the grant.

 

The aggregate fair market value ofthe common stock (determined at the date of the Option grant) for which stockoptions granted under the ISO Plans that may become first exercisable in acalendar year may not exceed $100,000.

 

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Options under the ISO Plans aresummarized as follows:

 
|                                                            |   | **Year Ended June  30, 2003** |   | **Year Ended June  30, 2002**         |   |
|-----------------------------------------------------------------|--------|-------------------------------|--------|---------------------------------------|--------|
|                                                            |   | **Shares  Under Option**      |   | **Weighted  Average  Exercise Price** |   | **Shares  Under Option** |   | **Weighted  Average  Exercise Price** |   |
| Options  outstanding at beginning of year                       |   | 1,412,000                     |   | $                                     | 3.24   |   | 1,158,000 |   | $ | 4.14 |   |
| Options  granted                                                |   | 18,000                        |   | .70                                   |   | 420,000 |   | 1.01 |   |
| Options  expired/withdrawn                                      |   | (517,000                      | )      | 3.62                                  |   | (166,500 | ) | 3.84 |   |
| Options  outstanding at end of year                             |   | 913,000                       |   | $                                     | 3.01   |   | 1,412,000 |   | $ | 3.24 |   |
| Options  exercisable:                                           |   |                          |   |                                  |   |   |   |   |   |
| Number  of shares                                               |   | 815,250                       |   | $                                     | 3.18   |   | 642,500 |   | $ | 4.20 |   |
| Weighted  average fair value of options granted during the year |   |                          |   | $                                     | .57    |   |   |   | $ | .47 |   |

 

The Company accounts for optionsgranted to consultants using the Black-Scholes method prescribed by SFAS No.123 and in accordance with Emerging Issues Task Force Consensus No. 96 - 18. OnApril 1, 2002, the Board of Directors approved the issuance of 40,000 optionsunder the Company’s non-qualified stock option plan to two employees of apublic relations firm that performs relations work for the Company.  These options were issued in appreciationfor the work that was performed.  TheCompany recorded consulting expense of $2,513 in 2002 related to these options.

 

No Options were granted under theNQSO Plan during the fiscal year ended June 30, 2003.  As of such date, there were 90,000 Options issued under the NQSOPlan having a weighted average exercise price of $1.22.

 

The following table summarizesoption data as of June 30, 2003 with respect to all outstanding Options:

 
| **Range of  Exercise   Prices** |   | **Number  Outstanding** |   | **Weighted  Average  Remaining  Contractual  Life** |   | **Weighted  Average  Exercise  Price** |   | **Number  Exercisable** |    | **Weighted  Average  Exercise  Price** |   |
|---------------------------------|--------|-------------------------|--------|-----------------------------------------------------|--------|----------------------------------------|--------|-------------------------|---------|----------------------------------------|--------|
| $0.46 - $2.50                   |   | 464,000                 |   | 4.01                                                |   | $                                      | 1.11   |                    | 371,250 |                                   | $      | 1.12 |   |
| $2.51 - $5.00                   |   | 434,000                 |   | 1.75                                                |   | $                                      | 3.64   |                    | 434,000 |                                   | $      | 3.64 |   |
| $5.01 - $7.50                   |   | 60,000                  |   | 1.08                                                |   | $                                      | 6.25   |                    | 60,000  |                                   | $      | 6.25 |   |
| $7.51 - $10.00                  |   | 45,000                  |   | 6.59                                                |   | $                                      | 8.94   |                    | 40,000  |                                   | $      | 9.02 |   |
| Total                           |   | 1,003,000               |   |                                                |   |                                   |   | 905,250                 |    |                                   |   |

 

On July 10, 2003, the Board ofDirectors approved the issuance of 185,000 options under the Company’s 2000 ISOPlan and 530,000 options under the Company’s 2000 NQSO Plan to certain officersand directors of the Company.  Theexercise price for all of the options issued was $0.77 per share.

 

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NOTE 11 - COMMITMENTS:

 

Leases:  The following is the future minimum rental payment required forall non-cancelable operating leases:

 
| **Year Ended June 30:** |   |    |    |
|-------------------------|--------|---------|---------|
| 2004                    |   | 146,803 |    |
| 2005                    |   | 148,718 |    |
| 2006                    |   | 101,773 |    |
| 2007                    |   | 36,050  |    |
| 2008                    |   | 36,050  |    |
| 2009  and thereafter    |   | 138,192 |    |
|                    |   | $       | 607,586 |   |
|                         |        |         |         |  |

 

The rent expense for the year endedJune 30, 2003 was $147,439, rent expense for the year ended June 30, 2002 was$117,303.

 

Officer’s And EmployeeCompensation:  One of the Company’sofficers had an employment agreement for a one year term that expired onDecember 31, 2002.  For the years endedJune 30, 2003, and 2002, the officer earned annual base compensation of $130,657 and $250,000 respectively.

 

NOTE 12 - MAJOR CUSTOMERS:

 

Sales to one foreign customer inChina as a percentage of net sales totaled 25% and 15% in 2003 and 2002,respectively.  The total accountsreceivable for this customer accounted for 29% and 11% of the total accountsreceivable as of June 30, 2003 and 2002 respectively.

 

NOTE 13 - VENDOR CONCENTRATION:

 

Purchases from three unaffiliatedsuppliers comprised approximately 15% of the Company’s net purchases in 2002.

 

Note 14 - LITIGATION

 

In March 2003, Mr. Todd DeMatteo, the former President and ChiefExecutive Officer of the Company, commenced legal proceedings against theCompany in Connecticut Superior Court for collection of a $100,000 promissorynote plus interest, late fees and costs of collection.  The promissory note was issued in Decemberof 2002 to reflect a $100,000 loan made by Mr. DeMatteo to the Company at thattime.  Although the Company hasquestioned the circumstances of such loan, the Company has nevertheless electednot to defend such legal proceedings and it is expected that judgment hasentered or will enter against the Company in the amount of approximately $123,000.  A garnishment of $116,197 related to theMarch 2003 legal proceeding has been imposed restricting cash in banks inanticipated payment of the DeMatteo promissory note, fees and interest.

 

Also inMarch 2003, Mr. DeMatteo commenced additional legal proceedings in ConnecticutSuperior Court seeking damages in the amount of $875,000 for breach of Mr.DeMatteo’s Executive Employment Agreement with the Company.  The Company arranged to have suchproceedings stayed pending arbitration of the amounts in question as requiredby the 

 

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terms ofthe agreement.  Mr. DeMatteosubsequently commenced an arbitration proceeding against the Company relatingto the same subject matter.  Noarbitrator has been appointed and no hearings have been held with respect tosuch arbitration proceeding.  In August2003, Mr. DeMatteo again sought preliminary relief in the Connecticut SuperiorCourt by the filing of a Motion for Order Pendente Lite in Aid of Arbitrationseeking attachments of assets of the Company in anticipation of an award insuch arbitration proceeding.  TheCompany believes that it has substantial defenses to such proceedings andintends to defend vigorously.

 

On March 27, 2003, the Company filed a complaint for declaratory judgment and other relief against Mr. DeMatteo in the Circuit Court of Cook County, Illinois, DiaSys Corporation v. Todd M. DeMatteo, No. 03 CH 05737 alleging that Mr. DeMatteo converted proprietary information of the Company and breached his fiduciary duties. The suit seeks to recover actual, compensatory and punitive damages suffered as a result of Mr. DeMatteo’s wrongful conduct.

 

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