UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C. 20549





FORM
10-Q





[X]
            QUARTERLY
      REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
      1934


For the
quarterly period ended July 31,
2008


or





[   ]
            TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
      1934


For the
Transition Period from __________ to __________





Commission
      file number: None














PureDepth,
      Inc.


(Exact
      name of registrant as specified in its
charter)








Delaware
              (State or other jurisdiction
      of incorporation or
      organization)
            20-4831825
              (I.R.S.
      Employer Identification No.)




230 Twin
Dolphin Drive, Suite 230D, Redwood City, California 94065


(Address
      of principal executive offices) (Zip
Code)





(650)
      632-0800


(Registrant’s
telephone number, including area code)





255
Shoreline Drive, Suite 610, Redwood City, California 94065


(Registrant’s
former address, if changed since last report)






Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes [X]No [  ]





Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company.  See the definitions of “large accelerated filer,”
“accelerated filer” and “smaller reporting company” in Rule 12b-2 of the
Exchange Act.


[   ]
Large accelerated filer        [   ]
Accelerated filer





[   ]
Non-accelerated filer (Do not check if a smaller reporting company) [X] Smaller reporting
company





Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).


Yes
[  ]            No [X]





As of
September 15, 2008,  68,572,235 shares of Issuer’s common stock,
$0.001 par value, were outstanding.





1


INDEX




PagePART I - FINANCIAL
      INFORMATIONItem
      1
            Financial Statements:
            
            3-
      Condensed Consolidated Balance Sheets (Unaudited)-
      Condensed Consolidated Statements of Operations and Comprehensive Loss
      (Unaudited)-
      Condensed Consolidated Statements of Cash Flows
(Unaudited)-
      Notes to Unaudited Condensed Consolidated Financial
    StatementsItem
      2
            Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
            
            18Item
      3
            Quantitative
      and Qualitative Disclosures about Market Risk
            
            28Item
      4T
            Controls
      and Procedures
            
            28PART II - OTHER
      INFORMATIONItem
      1
            Legal
      Proceedings
            
            29Item
      1A
            Risk
      Factors
            
            29Item
      2
            Unregistered
      Sales of Equity Securities and Use of Proceeds
            
            38Item
      3.
            Defaults
      Upon Senior Securities
            
            38Item
      4.
            Submission
      of Matters to a Vote of Security Holders
            
            38Item
      5.
            Other
      Information
            
            38Item
      6.
            Exhibits
            
            39Signatures
            
            42








2




PART
I – FINANCIAL INFORMATION


Item
1 - Financial Statements


PUREDEPTH,
INC. AND SUBSIDIARIES


CONDENSED
CONSOLIDATED BALANCE SHEETS


(Unaudited)


July
      31,2008
            
            
            January
      31, 2008ASSETSCurrent AssetsCash and cash equivalents
            
            $
            212,635
            
            
            $
            429,726Restricted
      cash
            
            
            79,755
            
            
            
            78,499Accounts
      receivable, net
            
            
            54,486
            
            
            
            12,000Inventory
            
            
            184,312
            
            
            
            -Other current assets
            
            
            95,093
            
            
            
            152,276Total current assets
            
            
            626,281
            
            
            
            672,501Property and Equipment,
      net
            
            
            306,344
            
            
            
            382,300Other AssetsIntellectual
      property, net
            
            
            2,631,891
            
            
            
            2,564,260Other
      assets
            
            
            45,949
            
            
            
            40,000Total
      Assets
            
            $
            3,610,465
            
            
            $
            3,659,061





LIABILITIES
      AND STOCKHOLDERS’ DEFICITCurrent LiabilitiesAccounts
      payable
            
            $
            328,838
            
            
            $
            379,556Accrued expenses
            
            
            363,605
            
            
            
            865,641Accrued interest
            
            
            68,113
            
            
            
            7,253Notes
      payable – current portion
            
            
            131,480
            
            
            
            135,870Deferred revenue – current portion
            
            
            750,000
            
            
            
            750,000Convertible
      debt, net of discount
            
            
            3,294,257
            
            
            
            -Total current liabilities
            
            
            4,936,293
            
            
            
            2,138,320Long Term LiabilitiesNotes
      payable
            
            
            303,720
            
            
            
            312,309Long
      term debt
            
            
            -
            
            
            
            100,000Deferred
      revenue
            
            
            1,658,654
            
            
            
            2,033,654Other
      long term liabilities
            
            
            15,000
            
            
            
            -Total
      Liabilities
            
            
            6,913,667
            
            
            
            4,584,283Commitments
      and contingenciesStockholders' DeficitPreferred
      stock, $0.001 par value, 10,000,000 authorized and no outstanding
      shares
            
            
            -
            
            
            
            -Common stock, $0.001 par value, 190,000,000 sharesauthorized,
      68,572,235 and 68,483,979 issued and outstanding
            
            
            68,573
            
            
            
            68,484Additional
      paid in capital
            
            
            34,735,777
            
            
            
            34,155,297Accumulated
      other comprehensive loss
            
            
            (663,966
            )
            
            
            (706,421
            )Accumulated
      deficit
            
            
            (37,443,586
            )
            
            
            (34,442,582
            )Total
      stockholders' deficit
            
            
            (3,303,202
            )
            
            
            (925,222
            )Total
      Liabilities and Stockholders' Deficit
            
            $
            3,610,465
            
            
            $
            3,659,061





The
accompanying footnotes are an integral part of these unaudited condensed
consolidated financial statements.


3


PUREDEPTH,
INC. AND SUBSIDIARIES


CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS


(Unaudited)





Three
      Months Ended
            
            
            Six
      Months EndedJuly
      31,
            
            
            July
      31,2008
            
            
            2007
            
            
            2008
            
            
            2007RevenueLicensing
            
            $
            189,500
            
            
            $
            187,500
            
            
            $
            377,000
            
            
            $
            375,000Services
            
            
            -
            
            
            
            35,000
            
            
            
            110,052
            
            
            
            35,000Product
      sales
            
            
            51,750
            
            
            
            86,219
            
            
            
            51,750
            
            
            
            130,317Total
      revenue
            
            
            241,250
            
            
            
            308,719
            
            
            
            538,802
            
            
            
            540,317Cost
      of licensing
            
            
            81,475
            
            
            
            77,598
            
            
            
            161,287
            
            
            
            153,969Cost
      of services
            
            
            -
            
            
            
            25,520
            
            
            
            87,473
            
            
            
            25,520Cost
      of product sales
            
            
            60,416
            
            
            
            81,219
            
            
            
            60,416
            
            
            
            119,542Total
      cost of revenue
            
            
            141,891
            
            
            
            184,337
            
            
            
            309,176
            
            
            
            299,031Gross
      margin
            
            
            99,359
            
            
            
            124,382
            
            
            
            229,626
            
            
            
            241,286Operating ExpensesDepreciation
            
            
            32,141
            
            
            
            20,841
            
            
            
            64,353
            
            
            
            38,462Research and development
            
            
            586,806
            
            
            
            653,147
            
            
            
            1,052,842
            
            
            
            1,169,377Sales and marketing
            
            
            49,691
            
            
            
            520,853
            
            
            
            203,064
            
            
            
            896,088General and administrative
            
            
            767,002
            
            
            
            1,725,368
            
            
            
            1,722,254
            
            
            
            2,976,205Total
      operating expenses
            
            
            1,435,640
            
            
            
            2,920,209
            
            
            
            3,042,513
            
            
            
            5,080,132Loss
      from operations
            
            
            (1,336,281
            )
            
            
            (2,795,827
            )
            
            
            (2,812,887
            )
            
            
            (4,838,846
            )Other Income (Expense)Interest income
            
            
            3,472
            
            
            
            55,360
            
            
            
            10,132
            
            
            
            148,170Interest expense
            
            
            (74,985
            )
            
            
            (14,818
            )
            
            
            (134,566
            )
            
            
            (27,763
            )Foreign exchange loss
            
            
            (49,141
            )
            
            
            (51,744
            )
            
            
            (63,683
            )
            
            
            (66,773
            )Other expense
            
            
            -
            
            
            
            (47
            )
            
            
            -
            
            
            
            (108
            )Total
      other income (expense)
            
            
            (120,654
            )
            
            
            (11,249
            )
            
            
            (188,117
            )
            
            
            53,526Loss
      before income taxes
            
            
            (1,456,935
            )
            
            
            (2,808,076
            )
            
            
            (3,001,004
            )
            
            
            (4,785,320
            )Income
      tax provision
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -Net
      loss
            
            $
            (1,456,935
            )
            
            $
            (2,807,076
            )
            
            $
            (3,001,004
            )
            
            $
            (4,785,320
            )Net
      loss per share, basic and diluted
            
            $
            (0.02
            )
            
            $
            (0.04
            )
            
            $
            (0.04
            )
            
            $
            (0.07
            )Weighted
      average shares outstanding
            
            
            68,511,799
            
            
            
            66,799,672
            
            
            
            68,498,042
            
            
            
            66,551,205Comprehensive LossNet
      loss, per statement of operations
            
            $
            (1,456,935
            )
            
            $
            (2,807,076
            )
            
            $
            (3,001,004
            )
            
            $
            (4,785,320
            )Foreign
      exchange gain
            
            
            49,290
            
            
            
            -
            
            
            
            42,455
            
            
            
            -Comprehensive
      net loss
            
            $
            (1,407,645
            )
            
            $
            (2,807,076
            )
            
            $
            (2,958,549
            )
            
            $
            (4,785,320
            )




The
accompanying footnotes are an integral part of these unaudited condensed
consolidated financial statements.


4


PUREDEPTH,
INC. AND SUBSIDIARIES


CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS


(Unaudited)





For
      Six Months EndedJuly
      31, 2008
            
            
            July
      31, 2007CASH
      FLOWS FROM OPERATING ACTIVITIESNet
      loss
            
            $
            (3,001,004
            )
            
            $
            (4,785,320
            )Adjustments
      to reconcile net loss to net cash flows from operating
      activities:Depreciation
      and amortization
            
            
            225,638
            
            
            
            192,431Loss
      on disposal of assets
            
            
            1,318
            
            
            
            -Stock-based
      compensation expense
            
            
            376,907
            
            
            
            386,673Marketable
      securities
            
            
            -
            
            
            
            (44,247
            )Amortization
      of debt discount
            
            
            73,205
            
            
            
            -Changes
      in operating assets and liabilities:Accounts
      receivable
            
            
            (42,486
            )
            
            
            (13,040
            )Restricted
      cash
            
            
            (1,256
            )
            
            
            (16,234
            )Inventory
            
            
            (184,312
            )
            
            
            -Other
      current assets
            
            
            51,234
            
            
            
            12,654Accounts
      payable
            
            
            (50,718
            )
            
            
            48,783Deferred
      revenue
            
            
            (375,000
            )
            
            
            (375,000
            )Accrued
      expenses
            
            
            (502,036
            )
            
            
            354,093Accrued
      interest
            
            
            60,859
            
            
            
            27,736Other
      liabilities
            
            
            15,000
            
            
            
            -Net
      cash used in operating activities
            
            
            (3,352,651
            )
            
            
            (4,211,471
            )CASH
      FLOWS FROM INVESTING ACTIVITIESPurchases
      of securities
            
            
            -
            
            
            
            (999,631
            )Proceeds
      from the maturity of securities
            
            
            -
            
            
            
            3,000,000Proceeds
      from sale of fixed assets
            
            
            14,948
            
            
            
            -Purchases
      of fixed assets
            
            
            (4,660
            )
            
            
            (87,069
            )Expenditures
      for intellectual property
            
            
            (228,916
            )
            
            
            (163,648
            )Net
      cash provided by (used in) investing activities
            
            
            (218,628
            )
            
            
            1,749,652CASH
      FLOWS FROM FINANCING ACTIVITIESIssuance
      of common stock (net)
            
            
            24,712
            
            
            
            409,903Proceeds
      from convertible debt
            
            
            3,300,000
            
            
            
            -Principal
      payments on notes payable
            
            
            (12,979
            )
            
            
            -Net
      cash provided by financing activities
            
            
            3,311,733
            
            
            
            409,903Effect
      of exchange rate on cash
            
            
            42,455
            
            
            
            -Net
      decrease in cash and cash equivalents
            
            
            (217,091
            )
            
            
            (2,051,916
            )Cash
      and cash equivalents at beginning of period
            
            
            429,726
            
            
            
            5,279,878Cash
      and cash equivalents at end of period
            
            $
            212,635
            
            
            $
            3,227,962





NON
      CASH DISCLOSURES:Advance
      on convertible debt
            
            $
            100,000
            
            
            $
            -SUPPLEMENTAL DISCLOSURES:Cash
      paid for interest
            
            $
            -
            
            
            $
            -Cash
      paid for income taxes
            
            $
            -
            
            
            $
            -





The accompanying footnotes are an
integral part of these unaudited condensed consolidated financial
statements.


5


PUREDEPTH,
INC. AND SUBSIDIARIES


Notes
to the Unaudited Condensed Consolidated Financial Statements





Note
1 - Summary of Significant Accounting Policies





Basis
of Presentation





The
accompanying unaudited condensed consolidated financial statements of PureDepth,
Inc. (“the Company") are presented in accordance with the requirements for Form
10-Q and Article 10 of Regulation S-X.  Accordingly, they do not
include all of the disclosures required by accounting principles generally
accepted in the United States of America.   The accompanying
condensed consolidated balance sheet as of January 31, 2008, which has been
derived from the audited consolidated financial statements and the accompanying
unaudited condensed consolidated financial statements have been prepared
pursuant to the rules and regulations of the Securities and Exchange
Commission.  The interim period financial statements should be read in
conjunction with the audited consolidated financial statements for the year
ended January 31, 2008 included in the Company's Annual Report on Form 10-KSB
filed with the Commission on April 30, 2008.  Those statements contain a
summary of significant accounting policies.





In the
opinion of management, all adjustments (all of which were of a normal recurring
nature) considered necessary to fairly present the financial position, results
of operations, and cash flows of the Company on a consistent basis, have been
made.





These
results have been determined on the basis of generally accepted accounting
principles and practices applied consistently with those used in the preparation
of the Company's Annual Consolidated Financial Statements for the years ended
January 31, 2008 and 2007.  Operating results for the three and six
months ended July 31, 2008 are not necessarily indicative of the results that
may be expected for the year ending January 31, 2009.





Certain
balances in the prior periods have been reclassified to conform to the
presentation adopted in the current period.





Going
Concern





The
accompanying condensed consolidated financial statements have been prepared in
conformity with accounting principles generally accepted in the United States of
America, which as of July 31, 2008 contemplated continuation of the Company as a
going concern. The report from the Company’s independent auditors on the
financial statements for the year ended January 31, 2008 includes an explanatory
paragraph indicating there is substantial doubt about the Company’s ability to
continue as a going concern.  The Company’s operations have resulted
in operating losses to date and are expected to continue to have operating
losses in the year ending 2009.





On
September 10, 2008, the Company entered into an amendment (the “Amendment”) to
the Patent and Technology License and Technology Transfer Agreement (“License
Agreement”) with International Game Technology (IGT) dated October 13,
2006.  Pursuant to the terms of the Amendment, among other
consideration, the Company received an advance, non-refundable payment of
licensing fees from IGT in the amount of ten million dollars
($10,000,000).  The Company believes that the advance, non-refundable
payment of licensing fees allows the Company to effectively address its going
concern issues for the remainder of the year ending January 31, 2009 and into
the year ending January 31, 2010.  See Note 10 - Subsequent Events for
further description of the Amendment.





In
addition to its receipt of the advance, non-refundable payment of licensing
fees, the Company raised $3.4 million during the six months ended July 31, 2008
and an additional $0.5 million subsequent to July 31, 2008 in secured
convertible debt from its majority shareholder.  The Company may
continue to consider raising additional funds from a number of sources,
including, but not limited to, additional sales of equity
or convertible debt securities, loans from banks, other financial
institutions or affiliates, or a credit facility.





The funds
from the non-refundable payment of licensing fees under the Amendment and the
secured convertible debt will be used to fund the Company’s operations, continue
the Company’s efforts to fulfill and promote existing customer agreements with
Sanyo Electric Corporation (Sanyo), International Game Technology (IGT) and
Samsung Electronics Company, Ltd (Samsung) and expand the Company’s customer
base to diversify its sources of licensing revenue.  The funds may
also be used to minimize the Company’s current or future debt
obligations.





6





Recently
Issued Accounting Pronouncements




In
February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial
Assets and Financial Liabilities.SFAS No. 159 permits entities to choose
to measure many financial instruments and certain other items at fair value.
SFAS No. 159 was effective at the beginning of 2008. The adoption of this
statement did not have a material impact on the Company’s financial condition,
results of operations, or liquidity.




In
December 2007, the FASB issued SFAS No. 141(R), Business Combinations, which
changes the accounting for business combinations and their effects on the
financial statements. SFAS No. 141(R) will be effective at the beginning of
2009. The adoption of this statement is not expected to have a material impact
on the Company’s financial condition, results of operations, or
liquidity.




In
December 2007, the FASB issued SFAS No. 160, Accounting and Reporting of
Noncontrolling Interests in Consolidated Financial Statements, and amendment of
ARB No. 51. SFAS No. 160 requires entities to report non-controlling
interests in subsidiaries as equity in their consolidated financial statements.
SFAS No. 160 will be effective at the beginning of 2009. The adoption of this
statement is not expected to have a material impact on the Company’s financial
condition, results of operations, or liquidity.




In March
2008, the FASB issued SFAS No. 161, Disclosures about Derivative
Instruments and Hedging Activities – an amendment of FASB Statement
No. 133.  SFAS No. 161 requires enhanced disclosures
about a company’s derivative and hedging activities including: how and why
derivative instruments are utilized; how derivative instruments and related
hedged items are accounted for under SFAS No. 133 and its related
interpretations; and how derivative instruments and related hedged items affect
a company’s financial position, financial performance and cash
flows.  SFAS No. 161 is effective for financial statements issued
for fiscal years and interim periods beginning after November 15,
2008.  The
adoption of this statement is disclosure related and is not expected to have a
material impact on the Company’s financial condition, results of operations, or
liquidity.




In May 2008, the FASB
issued SFAS No. 162,The
Hierarchy of Generally Accepted Accounting Principles.SFAS No. 162 identifies the sources of
accounting principles and the framework for selecting the principles to be used
in the preparation of financial statements of nongovernmental entities that are
presented in conformity with generally accepted accounting principles (GAAP) in
the United States (the GAAP hierarchy).  The GAAP hierarchy is
directed to the entities rather than the auditors as entities are responsible
for selecting accounting principles for financial statements that are presented
in conformity with GAAP. The Board concluded that the GAAP hierarchy should
reside in the accounting literature established by the FASB and is issuing this
Statement to achieve that result.  This Statement is effective 60 days
following the SEC’s approval of the Public Company Accounting Oversight Board
amendments to AU Section 411,The
Meaning ofPresent Fairly in
Conformity With Generally Accepted Accounting Principles.The adoptionof this statement will
not result in a change to the current practice and is not expected to have a
material impact on the Company’sfinancial condition,
results of operations, or liquidity.





In April
2008, the FASB issued Staff Position No. 142-3, Determination of the Useful Life of
Intangible Assets (“FSP No. 142-3”). FSP No. 142-3 amends the
guidance in FASB Statement No. 142, Goodwill and Other Intangible
Assets, for estimating useful lives of recognized intangible assets and
requires additional disclosures related to renewing or extending the terms of a
recognized intangible asset.  In estimating the useful life of a
recognized intangible asset, FSP No. 142-3 requires companies to consider
their historical experience in renewing or extending similar arrangements
together with the asset’s intended use, regardless of whether the arrangements
have explicit renewal or extension provisions.  FSP No. 142-3 is
effective for fiscal years beginning after December 15, 2008 and is to be
applied prospectively to intangible assets acquired after the effective date.
The disclosure requirements are to be applied prospectively to all intangible
assets. The Company is currently evaluating what effect, if any, the adoption of
FSP 142-3 will have on the Company’s financial condition,
results of operations, or liquidity.




Use
of Estimates





The
preparation of the consolidated financial statements in conformity with
accounting principles generally accepted in the United States of America
requires the use of management’s estimates. These estimates are subjective in
nature and involve judgments that affect the reported amounts of assets and
liabilities, the disclosure of contingent assets and liabilities at the date of
the financial statements.  Actual results may differ from these
estimates.





7




Note
2 - Description of Business






PureDepth,
Inc., (PDI) along with its two wholly owned subsidiaries, PureDepth Limited
(PDL) and PureDepth Incorporated Limited (PDIL) develops, markets, licenses, and
supports multi-layer display (MLD) technology.  Unlike other
display-based technologies, the MLD technology was created and designed based on
how humans visualize the world.  Depth is a key component of everyday
visualization and interaction, yet in the world today most of our information is
displayed on technology that can, at best, only provide the visual perception of
depth. Unlike standard two-dimensional (2D) display technologies that utilize
only a single-layer liquid crystal display (LCD), the MLD technology utilizes
two or more LCD panels that are stacked and separated by actual
depth.





The
Company’s technology has application in industries and markets where flat panel
monitors and displays are utilized.  The Company’s goal is to have
their MLD technology become a standard technology for incorporation into these
LCD-based products, which include location-based entertainment devices, computer
monitors, flat panel televisions, mobile devices and other mass market display
devices.





The
accompanying condensed consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States of
America (“U.S. GAAP”).  The condensed consolidated financial
statements include all of the accounts of PureDepth, Inc., a U.S. corporation
based in California, and its wholly-owned subsidiaries, based in Auckland, New
Zealand.





Note
3 - Inventory





The
Company uses a series of subcontractors to manufacture a MLD component part that
is sold to a licensing customer.  The purchases of raw materials, work
in process and finished goods are recorded as inventory until the components are
sold to the licensing customers.  All inventories are located at
subcontractor facilities.   Inventories include materials,
subcontractor expenses and overhead and are stated at the lower of cost or
market.  Cost is determined using the first-in, first out (“FIFO”)
method.  Market is determined based on net realizable
value.  Appropriate consideration is given to obsolescence, excess
quantities, and other factors in evaluation net realizable value.





Inventories:
            
            July
      31,
              2008
            
            
            January
      31,
              2008Raw
      materials
            
            $
            47,036
            
            
            $
            -Work-in-progress
            
            
            101,348
            
            
            
            -Finished
      goods
            
            
            35,928
            
            
            
            -Total
      inventories
            
            $
            184,312
            
            
            $
            -








8




Note
4 - Intellectual Property




Intellectual
property consists of the following:




July
      31,
              2008
            
            
            January
      31,
              2008Acquired
      patent rights
            
            $
            2,299,509
            
            
            $
            2,299,509Software
      development costs
            
            
            70,456
            
            
            
            70,456Patent
      registration costs
            
            
            2,628,798
            
            
            
            2,399,880Less:
      accumulated amortization
            
            
            (2,366,872
            )
            
            
            (2,205,585
            )Intellectual
      property, net
            
            $
            2,631,891
            
            
            $
            2,564,260





Amortization
for six months ended July 31, 2008 and 2007 totaled $161,287 and $153,969,
respectively and is included in licensing cost of sales.  Amortization
expense for the next five years is summarized in the following
table:




Years
      ending January 31,2009
            
            $
            166,7662010
            
            
            328,0512011
            
            
            328,0512012
            
            
            164,2082013
            
            
            131,440Thereafter
            
            
            1,513,375Total
            
            $
            2,631,891




Note
5 - Notes Payable and Convertible Notes




Notes
Payable





The
Company had the following obligations outstanding:




July
      31,
              2008
            
            
            January
      31,
              2008Notes
      payable excluding imputed interest to date at 10%,payable
      in equal annual installments of $175,000 throughJanuary
      31, 2011 and secured by intellectual property
            
            $
            435,200
            
            
            $
            435,200Other
            
            
            -
            
            
            
            12,979Less:
      current portion
            
            
            (131,480
            )
            
            
            (135,870
            )Total
      long term notes payable
            
            $
            303,720
            
            
            $
            312,309





Future
maturities of long term debt excluding imputed interest are as
follows:




Years
      ending January 31,2009
            
            $
            131,4802010
            
            
            144,6282011
            
            
            159,092Total
            
            $
            435,200








9




Secured
Convertible Debt and Related Instruments





On
February 4, 2008 and subsequently amended on July 4, 2008 and August 12, 2008,
the Company executed a Convertible Note Purchase Agreement (“Note Purchase
Agreement” or “notes”) with K One W One Ltd., a majority shareholder and
accredited investor, whereby the Company issued $3.4 million and then subsequent
to July 31, 2008 another $0.5 million for an aggregate of $3.9 million in
secured convertible promissory notes (the “Convertible Notes”). These notes bear
an interest rate of 8% per year, which accrues starting on October 4, 2008, and
mature on February 4, 2009. The Company intends to use the proceeds for general
corporate purposes, including working capital. This financing was a private
placement with an accredited investor and is exempt from registration pursuant
to Section 4(2) of the Securities Act of 1933, as amended. Pursuant to a
Security Agreement dated February 4, 2008, as amended on July 4, 2008 and August
12, 2008, by and between the Company and the Purchaser (the “Security
Agreement”); the Convertible Notes are secured by substantially all of the
assets of the Company, including the Company’s intellectual property. The
principal and interest due on the Convertible Notes are payable on the maturity
date, subject to earlier conversion due to a Qualified Financing event, as
defined in the Convertible Notes. At the option of the holder, principal and
interest due on the Convertible Notes is payable either in cash or in common
stock. The price per share of common stock for any such conversion shall be
equal to an amount equal to 95% of the lower of (i) the average of the daily
volume-weighted average price of the Company’s stock over a period of 10 days
prior to the date of the signing of the Agreement (or, in the case of
Convertible Notes issued on or after July 4, 2008, the date of issuance of such
Convertible Notes), as quoted on the OTCBB or (ii) the average of the daily
volume-weighted average price of the Company’s common stock over a period of ten
trading days prior to the maturity date, as quoted on the OTCBB.





The Notes
contain customary negative covenants for loans of this type, including
limitations on the Company’s ability to incur indebtedness, issue securities,
and dispose of assets. As of July 31, 2008, the Company is not in
default.





Additionally,
the Convertible Notes were issued with embedded and potentially detachable
derivatives which included the conversion feature and warrants (contingent upon
the conclusion of a Qualified Event).





The
Company applied the guidance in SFAS No. 133, “Accounting for Derivative
Instruments and Hedging Activities” (“SFAS No. 133”) and EITF Issue 00-19
“Accounting for Derivative Financial Instruments Indexed to, and Potentially
Settled in, a Company’s Own Stock”, (“EITF 00-19”) in evaluating whether the
debt conversion feature for the secured convertible term note issued to the
holder is an embedded derivative that should be separated from the debt host and
accounted for as a derivative at fair value.  The Company determined
that the Convertible Notes did not meet the definition of conventional
convertible debt in paragraph 4 of EITF 00-19 and EITF 05-02, since the
conversion price is variable.  The Company evaluated the embedded
conversion feature pursuant to paragraphs 12-32 of EITF 00-19, and determined
that conversion feature did not require liability classification. Accordingly,
the value assigned to the embedded conversion feature of the Debentures followed
the guidance of the EITF Issue No. 98-5, “Accounting for Convertible Securities
with Beneficial Conversion Features or Contingently Adjustable Conversion
Ratio”, and EITF Issue No. 00-27, “Application of Issue No. 98-5 to Certain
Convertible Instruments” of the FASB’s Emerging Issues Task
Force.  The debt discount associated with the embedded conversion
feature is amortized to interest expense over the life of the Debenture or upon
earlier conversion of the Debenture using the effective yield
method.




Contingent
Features





The
Convertible Notes include a provision that results in an automatic conversion in
case the Company concludes a Qualified Financing prior to the Maturity Date.
Pursuant to the terms of the Notes, a “Qualified Financing” shall mean the
Company’s first financing transaction after the Initial Closing in which the
Company issues investment instruments of the Company and receives gross proceeds
of at least $3,000,000 for application to several corporate purposes from an
investor or investors (not including proceeds from the conversion of the
Note(s)); and provided that if the proposed investment instruments offered in
such financing transaction are other than capital stock or other equity
instruments (such as convertible debentures or other debt instruments), the
financing transaction shall require the written consent of K1W1 to be considered
a Qualified Financing for purposes of this Agreement. For the avoidance of
doubt, an investment instrument will not be deemed to be an equity instrument
for the purposes of the preceding sentence if such investment instrument is, by
its terms, convertible into or exchangeable for any type of debt instrument,
whether at the option of the Company or the holder.





10




The value
assigned to the Convertible Notes and the related debt features on issuance as
of July 31, 2008 is the following:





Date
      of Note
            
            Amount
      of Notes
            
            
            Debt
      Features
              Value
      at Issuance
            
            
            Initial
              Carrying
      ValueFebruary
      4, 2008
            
            $
            1,000,000
            
            
            $
            52,632
            
            
            $
            947,368March
      14, 2008
            
            
            2,000,000
            
            
            
            105,263
            
            
            
            1,894,737July
      5, 2008
            
            
            400,000
            
            
            
            21,053
            
            
            
            378,947Total
            
            $
            3,400,000
            
            
            $
            178,948
            
            
            $
            3,221,052





The
amortized debt discount associated with the embedded conversion feature was
recorded to interest expense in the amount of $73,205 for the six months ended
July 31, 2008.





If the
aggregate principal amount owing under the Convertible Notes is converted, the
Company will issue 10,890,127 shares of Common Stock, which may be adjusted
based upon the conversion purchase price formula pursuant to the terms of the
Convertible Note.  If the Notes are not converted, the principal and
accrued interest will be due on February 4, 2009.





Warrant





Pursuant
to the Note Purchase Agreement, the Company granted the note holder a warrant
which would become exercisable for shares of its common stock if and only if a
Qualified Financing takes place prior to termination of the
Warrant.  The Warrant will expire on February 4, 2011 or immediately
prior to a change in control pursuant to the terms of the Warrant.  If
the warrants are exercisable due to a Qualified Financing, the Warrants would
permit the Purchasers to purchase Common Stock at an exercise price of an amount
equal to 95% of the lower of (i) the average of the daily volume-weighted
average price of the Company’s stock over a period of 10 days prior to signing
of the Note Purchase Agreement, as quoted on the OTCBB or (ii) the average of
the daily volume-weighted average price of the Company’s common stock over a
period of ten trading days prior to the maturity date, as quoted on the
OTCBB.





Because a
Qualified Financing has not yet taken place and because the warrants are only
exercisable upon a Qualified Financing, the warrant’s exercise price and number
of shares are not yet determinable. As such, the warrants have not been
measured.  If and when a Qualified Financing does occur, the warrants
will be measured and recognized at that time.








Note
6 - Stockholders’ Deficit




Stock
warrants





The
following table summarizes common stock warrant activity for:




Six
      months ended
              July
      31, 2008
            Twelve
      months ended
              January
      31, 2008Warrants
            Weighted
      Average
              Exercise
      Price
            Warrants
            Weighted
      Average
              Exercise
      PriceOutstanding
      at beginning of period
            17,290,468
            $1.15
            19,404,660
            $1.12Issued
            -
            -
            -
            -Exercised
            -
            -
            (205,202)
            $0.87Expired
            -
            -
            (1,908,990)
            $0.87Outstanding
      at July 31, 2008
            17,290,468
            $1.15
            17,290,468
            $1.15Exercisable
      at July 31, 2008
            17,290,468
            $1.15
            17,290,468
            $1.15





Included
in the total outstanding warrants for the six months ended July 31, 2008 and the
twelve months ended January 31, 2008 are A-warrants to purchase 9,147,613 shares
of common stock at $1.20 per share, C-warrants to purchase 1,082,811 shares of
common stock at $0.44 per share, and D-warrants to purchase 7,060,044 shares of
common stock at $1.20 per share.





11




The
Company values warrants issued as compensation at the fair value determined on
the date of grant using the Black-Scholes valuation model and the same
assumptions as used for employee stock-based compensation except for expected
terms which are determined by the respective warrant agreement.  See
Stock option plan note for related discussion and assumptions.





Stock
option plan





At July
31, 2008, the Company had reserved a total of 22,241,260 shares of common stock
for issuance under its 2006 Stock Incentive Plan (the Plan). The Plan is an
amendment of the Second Amended and Restated Executive Share Option Plan
No. 3 (Second Plan).  The Second Plan was as an amendment of the
First Amended and Restated Executive Share Option Plan No. 3 (First Plan), which
was assigned by DVIL in connection with the 2005 restructuring. The
First Plan, in turn, was a successor plan to the Executive Share
Option Plan Number 3 of DVIL. The predecessor options were denominated in
New Zealand dollars; options granted following the assignment are
exercisable in U.S. dollars.  Options granted in each successor plan were
designed to replace, without modification of terms, options of the predecessor
plan. Awards under the successor plans which did result in either a
modification or a new award of executive options were assigned a grant date fair
value which is charged to expense over the expected service period of the
recipient.





Option
awards have generally been granted with an exercise price equal to the market
price of the Company’s stock at the date of grant; the option awards generally
vest over three years with 1/6 vesting at 6 months and 1/12 at quarterly
intervals thereafter.  The options expire in seven years from the date
of grant. Certain option awards included anti-dilution provisions resulting in
the original option grants becoming exercisable for an additional 1,185,022 of
shares of common stock (post merger adjusted additional shares were 2,713,945)
to existing employees as a result of the increase in shares from the private
placement offering.  On December 19, 2006, the stock option agreements
for certain executive officers and directors were amended  pursuant to
which the optionees are required to exercise shares, if at all, in
pre-determined annual allotments and to sell any such exercised shares on a
pre-determined scheduled.  Any portion of the options that are not
exercised pursuant to the exercise schedule set forth in the amendment will
expire. These modifications made the awards less favorable resulting in no
additional stock-based compensation expense.




The fair
value of each option award was estimated on the date of grant using a
Black-Scholes option valuation model that uses the assumptions noted in the
following table. Expected volatilities were based on historical volatility of
similar companies considering characteristics such as industry, stage of life
cycle, size, financial leverage, and other factors. Expected forfeiture rates
were determined by considering the Company’s historical data to estimate option
exercise and employee termination.  The expected dividend yield is
based on our history of having never paid dividends and our expectation that we
will not pay dividends in the near future.  The expected term of our
employee option grants in the six months ended July 31, 2008 is the simplified
approach as defined by SEC Staff Accounting Bulletin No. 107, Share-Based Payment (SAB
107). This approach resulted in expected terms of 4.5 to 5.0 years for stock
options and 1.5 years for stock warrants.  The risk-free rate for
periods within the contractual life of the option is based on the U.S. Treasury
rate in effect at the time of grant.





Significant
      Assumptions
            Six
      Months Ended
              July
      31, 2008
            Twelve
      Months Ended
              January
      31, 2008Expected
      volatility
            70%
            70%Expected
      forfeiture rate
            30%
            30%Expected
      dividend yield
            0%
            0%Expected
      term (in years)
            4.5
      to 5.0
            3.5
      to 5.0Risk-free
      rate
            2.66%
      to 3.19%
            2.94%
      to 5.03%








12




The
following table summarizes common stock option activity under the plan
for:





Six
      months ended
              July
      31, 2008
            Twelve
      months ended
              January
      31, 2008Option
      Shares
            Shares
            Weighted
      Average
              Exercise
      Price
            Shares
            Weighted
      Average
              Exercise
      PriceOutstanding
      at beginning of period
            12,002,429
            $0.74
            12,815,411
            $0.68Granted
            3,560,000
            $0.28
            4,177,501
            $1.21Exercised
            (88,256)
            $0.27
            (2,121,395)
            $0.28Forfeited
      and cancelled
            (1,401,434)
            $1.67
            (2,869,088)
            $1.48Outstanding
      at July 31, 2008
            14,072,739
            $0.53
            12,002,429
            $0.74Exercisable
      at July 31, 2008
            8,768,719
            $0.48
            8,684,732
            $0.53





The
following table summarizes significant ranges of outstanding and exercisable
options as of July 31, 2008:




Outstanding
            
            ExercisableExercise
      Price Range
            Shares
            Weighted
              Average
              Life*
            Weighted
      Average
              Exercise
              Price
            Aggregate
              Intrinsic
              Value
            
            Shares
            Weighted
              Average
              Exercise
              Price
            Aggregate
              Intrinsic
              Value$0.27
      to $0.44
            11,007,338
            5.05
            $0.28
            $0.0
            
            7,557,755
            $0.28
            $0.0$0.85
      to $2.07
            2,263,400
            6.16
            $1.02
            $0.0
            
            742,684
            $1.08
            $0.0$2.20
      to $2.95
            545,067
            5.36
            $2.26
            $0.0
            
            283,934
            $2.28
            $0.0$3.03
      to $3.51
            256,935
            5.17
            $3.38
            $0.0
            
            184,346
            $3.37
            $0.0Total
            14,072,740
            5.24
            $0.53
            $0.0
            
            8,768,719
            $0.48
            $0.0


*Average
contractual remaining life in years





The
aggregate intrinsic value in the preceding table represents the total pretax
intrinsic value based on stock options with an exercise price less than the
Company’s closing stock price of $0.25 as of July 31, 2008, which would have
been received by the option holders had those option holders exercised their
options as of that date.  There were no in-the-money stock options
exercisable as of July 31, 2008.  At July 31, 2008, 8,768,719 options
were exercisable with a weighted-average exercise price of these options was
$0.48. Of the
22,241,260 shares of common stock reserved for issuance under the Company’s 2006
Stock Incentive Plan, 14,072,739 options were outstanding, 2,798,821 have been
exercised since inception and 5,369,700 options are available for grant as of
July 31, 2008.




The
stock-based compensation cost for options issued in the six months ended July
31, 2008 and 2007 was $376,907 and $386,673, respectively. The total income tax
benefit recognized in the income statement for stock-based compensation
arrangements was zero, due to the Company's net operating loss carry-forwards
and the associated valuation allowance which results in an effective tax rate of
zero. None of the stock-based compensation cost recognized for option issuances
has been capitalized.  Total unrecorded stock-based compensation cost
at July 31, 2008 associated with employee and director stock options was
approximately $1.7 million and is expected to be recognized over a
weighted-average period of 2.4 years.








Note
7 – Major Customer





One
customer accounted for 99% of the Company’s licensing revenues in the six months
ended July 31, 2008 and 100% in the six months ended July, 31
2007.  The same customer accounted for the entire ending balance of
deferred revenue at July 31, 2008 and January 31, 2008.





13




Note
8 – Net Loss per Share





Basic net
loss per share is calculated on the basis of the weighted-average number of
common shares outstanding during the reporting periods. Diluted net loss per
share is calculated on the basis of the weighted-average number of common shares
outstanding and taking into account the dilutive effect of all potential common
stock equivalents outstanding. Potentially dilutive common stock equivalents
primarily consist of convertible debt, warrants and employee stock options.
Diluted net loss per share for the three and six months ended July 31, 2008 and
2007 is equal to basic net loss per share because the effect of all potential
common stock outstanding during the periods, including convertible debt,
warrants and employee stock options is anti-dilutive. The components of basic
and diluted net loss per share were as follows:





Three
      Months Ended
            
            
            Six
      Months EndedJuly
      31,
            
            
            July
      31,2008
            
            
            2007
            
            
            2008
            
            
            2007Numerator:Net
      loss per share, basic and diluted
            
            $
            (1,456,935
            )
            
            $
            (2,807,076
            )
            
            $
            (3,001,004
            )
            
            $
            (4,785,320
            )Denominator:Weighted
      average shares outstanding, basic and diluted
            
            
            68,511,799
            
            
            
            66,799,672
            
            
            
            68,498,042
            
            
            
            66,551,205Net
      loss per share, basic and diluted
            
            $
            (0.02
            )
            
            $
            (0.04
            )
            
            $
            (0.04
            )
            
            $
            (0.07
            )





The
Company excluded the following shares from the denominator of the diluted net
loss per share calculation as the effect of including them would have been
anti-dilutive:





Three
      Months Ended
            Six
      Months EndedJuly
      31,
            July
      31,2008
            2007
            2008
            2007Convertible
      notes
            10,890,127
            -
            10,890,127
            
            
            -Warrants
            17,290,468
            17,290,468
            17,290,468
            
            
            17,290,468Employee
      stock options
            14,072,739
            12,172,090
            14,072,739
            
            
            12,172,090








Note
9 - Related Party Transactions




On
February 4, 2008 and subsequently amended on July 4, 2008 and August 12, 2008,
the Company entered into a convertible note purchase agreement (“Note Purchase
Agreement”) with K One W One (“K1W1”) providing for the purchase by K1W1 of
convertible notes (“Notes”) up to of an aggregate principal amount of $3,900,000
or such greater amount as is approved in writing by the Company’s board of
directors and K1W1.  Under the Note Purchase Agreement, upon the
closing, on February 4, 2008, K1W1 purchased an initial Note of $1,000,000
($100,000 of which was previously funded to the Company on January 30, 2008), on
March 14, 2008 K1W1 purchased another Note of $2,000,000, on July 4, 2008 K1W1
purchased another Note of $400,000 and on August 12, 2008 K1W1 purchased another
Note of $500,000.  The Notes are secured by the assets of the Company
pursuant to a security agreement.  The Notes are convertible at a
discount of five percent (5%) into investment instruments issued by the Company
pursuant to and upon a qualified financing.  If such qualified
financing does not occur, upon maturity of the Notes on February 4, 2011 the
Notes may, at K1W1’s option, convert into common stock of the Company at a five
percent (5%) discount from a formula-derived market price.  The Notes
accrue interest at the annual rate of 8%, commencing October 4,
2008.  In addition, pursuant to the Note Purchase Agreement, K1W1
received in the form of a warrant the right to participate in qualified
financing, for a period of three years, in an amount equal to ten percent (10%)
of the aggregate principal under the Notes, and at a discount of five percent
(5%) of the purchase price of the investment instruments issued in such
qualified financing.





14




On April
10, 2008, the Board of Directors approved stock option grants to employees,
directors and to its recently appointed President, Mr. Jonathan McCaman,
totaling an aggregate of 3,385,000 shares of the Company’s common
stock.  The directors as a group were granted options to purchase
1,025,000 shares of Company common stock and the employees as a group were
granted options to purchase 1,610,000 shares of Company common
stock.  The director and employees’ shares vest 1/6 of their
underlying shares on October 10, 2008 and 1/12 of the remaining underlying
shares on a quarterly basis thereafter over a period of two and a half
years.  Mr. McCaman, was granted an option to purchase 750,000 shares
of Company common stock, vesting on a quarterly basis over a period of two
years.  All granted options were issued with an exercise price equal
to the closing price of the Company’s common stock on April 10, 2008 as reported
by the OTC Bulletin Board, $0.27 per share.  Each option will also be
subject to the terms and conditions of the Company’s 2006 Stock Incentive Plan
and form of stock option agreement, which each individual will be required to
sign as a condition of receiving the option.





On April
29, 2008 the Company and Mr. McCaman entered into an amendment to Mr. McCaman’s
employment agreement in connection with his appointment as President of the
Company.  The amendment provided that Mr. McCaman’s base salary was
increased to $210,000 effective as of March 1, 2008 and that he was eligible for
an executive incentive bonus, in an amount up to $50,000 per quarter, to be
based upon key performance indicators (“KPI’s”) to be mutually determined by Mr.
McCaman and the Board’s Compensation Committee, for the first two quarters,
within 30 days of signing of this Amendment, and thereafter on a schedule
determined by the parties.  On July 7, 2008 the Company paid Mr.
McCaman a $25,000 executive incentive bonus determined and approved by the
Board’s Compensation Committee for the three months ended April 30,
2008.  In addition, the amendment provided for the grant of a stock
option to purchase 750,000 shares of the Company’s common stock, vesting over
two years.  The Board of Directors previously approved Mr. McCaman’s
750,000 stock option grant as part of the stock options granted on April 10,
2008.  Pursuant to the amendment and subject to the approval of the
Board, each quarter Mr. McCaman was to be eligible for additional grants of
stock options to purchase up to 150,000 shares of the Company’s common stock, to
be based upon KPI’s to be mutually determined by Mr. McCaman and the Board’s
Compensation Committee, for the first two quarters, within 30 days of signing of
this Amendment, and thereafter on a schedule determined by the
parties.  On July 7, 2008 the Board of Directors approved a 75,000
stock option grant to Mr. McCaman for the three months ended April 30,
2008.  The exercise price of each of the options granted pursuant to
the foregoing was equal to the closing price of the Company’s common stock on
the option grant date as reported by the OTC Bulletin Board.  These
options will vest quarterly over three (3) years, and will be subject to the
terms and conditions of the Company’s 2006 Stock Incentive Plan and form of
stock option agreement.  The amendment further provided that in the
event of a “Change of Control,” as defined in the amendment, all of Mr.
McCaman’s then-unvested options shall immediately vest.  Mr. McCaman’s
employment agreement was further amended on September 12, 2008.  See
Note 10 – Subsequent Events for further details.





On June 9, 2008, PureDepth,
Inc. (the “Company”) entered into a variation to employment agreement and a
consultancy agreement with Ms. Kristin Bowman, Senior Vice President, Customer
and Business Development of PureDepth Incorporated Limited, the Company’s New
Zealand subsidiary (“PDIL”), and a director of the Company, relating to her
separation from employment with the Company.  The terms of the
variation to employment agreement, which amend her Employment Agreement dated
March 31, 2005, were generally effective as of April 17, 2008 and provide for a
reduction in Ms. Bowman’s work hours to 8 hours per week, with a corresponding
reduction in her salary, and the remainder of her previously scheduled weekly
work hours taken as vacation pay until her accrued vacation pay is
exhausted.  The agreement also provided for the resignation of Ms.
Bowman’s position with, PDIL effective June 14, 2008.  Ms. Bowman did
not resign as a director of the Company.   The terms of the
consultancy agreement were effective after the effective date of Ms. Bowman’s
resignation on June 14, 2008 and call for Ms. Bowman to consult with PureDepth’s
executive management team without charge for up to 20 hours per calendar quarter
with any additional hours to be charged at a rate of USD$150 per hour until
January 31, 2009, after which she will be entitled to $150 per hour for all
consultancy to the Company or it subsidiaries. The agreement may be terminated
by either party with six months notice.  Pursuant to the consultancy
agreement, Ms. Bowman’s option agreement was also amended to provide thatin the event Ms. Bowman ceases to serve as a director, officer, employee
or consultant of the Company, she will have until the earlier of (i) 365
days from the date of such termination or (ii) March 31, 2011 to
exercise all or any part of her vested options.





On July
7, 2008, at the 2008 Annual Meeting of Stockholders of the Company, the
stockholders re-elected Messrs. John Blair, Mark Kalow and John Stringer and Ms.
Kristin Bowman to the Board of Directors of the Company, to hold office until
the 2009 Annual Meeting of Stockholders or until their successors are duly
elected and qualified.





15




Note
10 - Subsequent Events





On August
12, 2008, the Company entered into an amendment no. 2 (the “Amendment to Note
Purchase Agreement”) to that certain convertible note purchase agreement and
security agreement with K One W One (“K1W1”), each dated February 4, 2008 (“the
Note Purchase Agreement”), and previously disclosed on Form 8-K filed February
5, 2008 and in each case as amended by that certain Amendment No. 1 to
Convertible Note Purchase Agreement and Security Agreement dated July 4, 2008 as
previously disclosed on Form 8-K filed July 8, 2008.  Pursuant to the
Amendment to Note Purchase Agreement, the Company may borrow a cumulative
aggregate of US $3,900,000 or such greater amount as is approved in writing by
the Company’s board of directors and K1W1.  Under the Note Purchase
Agreement, as amended on August 12, 2008, K1W1 purchased an additional note for
US $500,000.  All convertible notes issued under the Note Purchase
Agreement, as amended, are secured by the assets of the Company pursuant to the
security agreement on substantially the same terms.  The Company has
issued K1W1 convertible notes under the Note Purchase Agreement, as amended, in
the aggregate principal amount of $3,900,000.





On August
27, 2008, the Board of Directors of PureDepth, Inc. appointed Andrew L. Wood
(‘Andy”) as Chief Executive Officer (CEO) and Director for PureDepth, Inc.
effective September 8, 2008 and entered into an executive employment agreement
with Mr. Wood providing for his future compensation and benefits.  Mr.
Wood will earn an annual base salary of $250,000 per year, he will participate
in a performance-based compensation (“Bonus”) plan, he will be granted options
to purchase 3,400,000 shares of the Company’s common stock (the “Option”) and he
will also be provided customary and usual fringe benefits generally available to
employees of the Company, subject to the terms and conditions of the Company’s
benefit plan documents and policies.  Mr. Wood’s Participation in the
Bonus plan is based on criteria of such performance objectives (the “Goals”) to
be defined by Mr. Wood and the Compensation Committee of the Board within the
first month following Mr. Wood’s commencement of employment.  Although
there is no minimum guaranteed bonus, Mr. Wood will be eligible to earn an
aggregate annual bonus of up to one hundred twenty five thousand dollars
($125,000), payable at Mr. Wood’s election in either cash, a common stock award
under the Company’s 2006 Stock Incentive Plan (the “Stock Plan”) or a
combination of both, in connection with the achievement of the
goals.  Mr. Wood’s option will be granted under the Company’s Stock
Plan, subject to the approval of the Company’s Board at its next regularly
scheduled meeting on September 24 2008.   The option will vest
monthly over four (4) years with the measuring period beginning on August 27,
2008 so long as Mr. Wood continues to be employed by the Company or any of its
subsidiaries.  The exercise price of the option granted will be the
closing price of the Company’s common stock on the date of grant as reported by
the OTC Bulletin Board.  Mr. Wood’s termination benefits are as
follows:  In connection with a termination by the Company of Mr.
Wood’s employment Without Cause (as defined in the Agreement and which may
include a voluntary resignation by Mr. Wood in certain circumstances following a
Material Adverse Change (as defined in the Agreement)), the Company shall pay
Mr. Wood an amount equal to his then effective base salary for a period of six
(6) months, payable in equal installments in accordance with the Company’s
regular payroll schedule; and if such termination Without Cause takes place on
or within twelve (12) months following the effective date of a Change of Control
(as defined in the Agreement), Mr. Wood shall also become vested in 50% of the
shares subject to any options to purchase Company common stock then held by
him.  Receipt of the foregoing termination benefits will be contingent
upon Mr. Wood’s execution of a general release of claims.





On
September 10, 2008, the Company entered into an amendment  (the
“Amendment”) to their Patent and Technology License and Technology Transfer
Agreement (“License Agreement”) with International Game Technology (IGT) dated
October 13, 2006.  Pursuant to the Amendment, the Company has agreed
to an automatic renewal term (“Second Term”) of ten (10) years after the initial
five (5) year term of the License Agreement.  Among other amendments,
IGT have agreed to pay an additional nonrefundable prepaid royalty payment in
the amount of ten million dollars ($10,000,000), due upon signing of the
Amendment, modification of the royalty schedule for the Second Term and
redefining the existing limited worldwide license rights of the Company’s
technology and patents to develop, manufacture, market, sell and distribute
products for use in wager-based gaming.





Pursuant
to bonus arrangements approved by the Board of Directors on September 4, 2008,
upon the Company’s execution of the Amendment on September 11, 2008 and its
receipt of a prepaid royalty payment in connection therewith, Mr. McCaman was
paid a cash bonus of $100,000 and was granted an option to purchase 50,000
shares of the Company’s common stock.  The exercise price of the
option was equal to the closing price of the Company’s common stock on the
option grant date as reported by the OTC Bulletin Board, and the option is fully
vested as of the date of grant.





16




On
September 12, 2008, the Company and Mr. McCaman entered into a second amendment
to Mr. McCaman’s employment agreement in connection with his resignation as
President of the Company effective September 12, 2008.  The amendment
provided that Mr. McCaman’s base annual salary will remain at $210,000 and that
effective beginning September 1, 2008, Mr. McCaman will be eligible for an
executive incentive bonus, in an amount up to 12.5% of his then current annual
base salary per fiscal quarter, with payment of any such bonus to be based upon
the achievement of key performance indicators to be mutually determined by Mr.
McCaman and the Board’s Compensation Committee on a schedule determined by the
parties.  Pursuant to the bonus arrangements in the prior agreement
which are being replaced by the amendment, Mr. McCaman will be paid $25,000 in
respect of the three months ended July 31, 2008.  Also pursuant to the
prior agreement and acknowledged in the amendment, Mr. McCaman will be granted,
subject to Board approval at its next regularly scheduled September 24, 2008
meeting, an option to purchase 75,000 shares of the Company’s common stock (the
“Bonus Option”).  The Bonus Option will vest quarterly over three (3)
years, subject to the certain acceleration of vesting described
below.  The Bonus Option will be subject to the terms and conditions
of the Company’s 2006 Stock Incentive Plan and form of stock option
agreement.  Pursuant to the amendment, all unvested options which were
initially granted to Mr. McCaman on or prior to October 1, 2008, including the
Bonus Option, will immediately vest in the event of a “Change of Control” (as
defined in the employment agreement).  Any options which are initially
granted to Mr. McCaman after October 1, 2008 will vest with respect to 50% of
the shares subject to such options in the event that Mr. McCaman is terminated
without Cause (as defined in the employment agreement, and which for these
purposes may include a voluntary resignation by Mr. McCaman in certain
circumstances following a Material Adverse Change (as defined in the Agreement)
on or within twelve months following the effective date of a Change of Control.
The grant of any such subsequent options will be at the sole discretion of the
Board of Directors (or Compensation Committee thereof), and Mr. McCaman waived
any rights to equity of the Company (other than options then held by him and the
Bonus Option) with respect to the prior terms of his employment
agreement.














17




Item
2 - Management’s Discussion and Analysis of Financial Condition
and Results
of Operations




Special
Note Regarding Forward-Looking Information




This Quarterly Report of PureDepth,
Inc. on Form 10-Q contains certain “forward-looking statements” All statements
in this Quarterly Report other than statements of historical fact are
“forward-looking statements” for purposes of these provisions, including any
statements of the plans and objectives for future operations and any statement
of assumptions underlying any of the foregoing. Statements that include the use
of terminology such as “may,” “will,” “expects,” “believes,” “plans,”
“estimates,” “potential,” or “continue,” or the negative thereof or other and
similar expressions are forward-looking statements. Forward-looking statements
in this Quarterly Report include, but are not limited to, statements regarding
expanding the use of our technologies in existing and new markets; demand for
and future revenues from the sale of visual display products incorporating our
technologies; growth opportunities in the visual display market; opportunities
to incorporate our technologies in markets outside the traditional consumer
product markets; the rate of adoption and sales of MLD visual displays;
diversification of sources of licensing revenue; our expected profit margin from
our MLD product sales; the future impact of our critical accounting policies,
including those regarding revenue recognition, allowance for doubtful accounts,
accounting for income taxes, and stock-based compensations; statements regarding
the sufficiency of our cash reserves; and our expected rate of return on
investments. Actual results may differ materially from those discussed in these
forward looking statements due to a number of factors, including: the rate of
growth of the markets for MLD visual displays that include our technologies; the
extent to which our expectations regarding new licensing markets are realized;
whether our competitors are able to develop and sell alternative 3-D or MLD
visual display technologies to our partners; the accuracy of our identification
of critical accounting policies and the accuracy of the assumptions we make in
implementing such policies; the accuracy of our estimates regarding our taxable
income and cash needs for the next twelve months; the accuracy of our
calculations of royalties due to our licensors; and fluctuations in interest
rate and foreign currencies  These forward-looking statements involve
risks and uncertainties, and it is important to note that our actual results
could differ materially from those projected or assumed in such forward-looking
statements. Among the factors that could cause actual results to differ
materially are the factors detailed under the heading “Risk Factors” as well as
elsewhere in this Quarterly Report on Form 10-Q. All forward-looking statements
and risk factors included in this document are made as of the date hereof, based
on information available to us as of the date hereof, and we assume no
obligation to update any forward-looking statement or risk factor. You should
consider the factors affecting results and risk factors listed from time to time
in our filings with the Securities and Exchange Commission (SEC), including our
Annual Report on Form 10-KSB, our Quarterly Reports on Form 10-QSB and 10-Q, our
Current Reports on Form 8-K and amendments to such reports.  Such
filings are available on our website, free of charge, at www.puredepth.com,
but the information on our website does not constitute part of this Quarterly
Report.




Company
and Fiscal Year




As used
herein, unless the context otherwise requires, PureDepth, Inc., together with
its New Zealand subsidiaries PureDepth Limited and PureDepth Incorporated
Limited, are referred to in this Quarterly Report on Form 10-Q as the “Company,”
“we,” “us” and “our.” References herein to year ending 2009, and years ended
2008 and 2007 mean the fiscal year ending January 31, 2009, and the fiscal years
ended January 31, 2008 and January 31, 2007, respectively.








18




Management’s
Discussion and Analysis





The
following discussion and analysis of our financial condition and results of
operations should be read in conjunction with the unaudited condensed
consolidated financial statements and related notes included under Item 1 of
this Part I entitled “Financial Statements” and the above section entitled
“Special Note Regarding Forward-Looking Statements”.





PureDepth,
Inc. is a technology and licensing company focusing on the visual display
experience by delivering award-winning Multi-Layer Display (MLD)
technology.  We derive revenues primarily from the licensing of our
technology to our product partners and LCD manufacturing partners and, to a
lesser extent, from sales of prototype MLD-enabled display devices and MLD
components that we manufacture. Licensees are and will be responsible for the
manufacture and sale of display-based products incorporating our technology and
related software.  In connection with our licensing arrangements, we
may also derive revenues from the sale of software tools and drivers for
market-specific applications and from various support services, including
engineering consulting services, technical services for implementation and
optimization of our technology and software support and training.





Our
efforts are primarily focused on fulfilling the requirements of and supporting
existing customer agreements with Sanyo Electric Corporation
(Sanyo),  International Game Technology (IGT) and Samsung Electronics
Company, Ltd (Samsung).  At the same time, we will continue to seek to
diversify our sources of licensing revenue. We have identified the following
target markets in North America, Asia and Europe that we believe are appropriate
for our MLD technology: location-based entertainment devices, computer monitors,
public information display systems, mobile devices, flat-panel televisions and
other mass market display devices.  Our existing license agreements
pertain to products for the location-based entertainment devices, mass market
display devices and mobile devices.  Our goal is to expand our
business by working with partner companies to develop MLD-based products and
developing demand and a presence for such devices in our identified target
markets.





Our
primary operating costs relate to compensation for employees, including stock
options and other incentives; ongoing research and development of our
technology; legal services including patent applications and defense of
currently-held patents; and rental of premises in both Redwood City, CA and
Auckland, New Zealand. Other than our research and development expenses, no
significant capital equipment purchases are expected during the year ending
2009.





Our
critical research and development activities include: further enhancing our
existing MLD technology and related software; developing, manufacturing and
testing prototype MLD-enabled display devices for our existing licensee partners
and potential licensee partners; designing and customizing features to the
specification of potential licensee partners; and patent defense and application
for our existing and new technology developments. Our goal is to enhance our
existing technology based upon research and development in optics, LCD
technology, backlighting, and component technologies.





We
maintain two facilities, our U.S. corporate headquarters in Redwood City,
California and our research and development center in Auckland, New
Zealand.  Our facility lease in New Zealand expires in October 2008
and we expect to exercise our renewal option for this facility. We signed a four
year lease in a new location in Redwood City, California which started in
February 2008.  Due to our reduction in headcount and our cost
reduction efforts, we subsequently subleased the new office space to a sub
lessee for a two year term commencing in June 2008 at terms similar to our
obligations.  In May 2008 we signed a new two year lease in a new
location in Redwood City, California and we relocated our U.S. corporate
headquarters to this new location.





We have
reduced the number of worldwide employees from a high of 46 employees during the
year ending 2008 to a level of 28 full time employees at July 31,
2008.  Subsequent to July 31, 2008, we hired a Chief Executive Officer
(“CEO”) to fill the vacant CEO position.  The new CEO along with four
continuing employees are located at our U.S. corporate headquarters in Redwood
City, California and the remaining 24 employees are located at our research and
development facility in Auckland, New Zealand.  We believe the current
level of employees is adequate to run our operations and support our existing
customer agreements. We will continue to monitor our staffing levels in both the
U.S. corporate headquarters and our New Zealand research and development
facility and if necessary, make changes in relation to our business strategy and
customer activity.








19





The
report from our independent auditors on our financial statements for the year
ending 2008 includes an explanatory paragraph indicating there is substantial
doubt about our ability to continue as a going concern.  Our
operations have resulted in operating losses to date and are expected to
continue to have operating losses in the year ending 2009.





On
September 10, 2008 we entered into an amendment (the “Amendment”) to the Patent
and Technology License and Technology Transfer Agreement (“License Agreement”)
with International Game Technology (IGT) dated October 13,
2006.  Pursuant to the terms of the Amendment, among other
consideration, we received an advance, non-refundable payment of licensing fees
from IGT in the amount of ten million dollars ($10,000,000).  We
believe that the advance, non-refundable payment of licensing fees allows us to
effectively address our going concern issues for the remainder of the year
ending January 31, 2009 and into the year ending January 31,
2010.  See Note 10 - Subsequent Events in this Quarterly Report on
Form 10-Q for further description of the Amendment.





In
addition to our receipt of the advance, non-refundable payment of licensing
fees, we raised $3.4 million during the six months ended July 31, 2008 and an
additional $0.5 million subsequent to July 31, 2008 in secured convertible debt
from our majority shareholder.  We may also continue to consider
raising additional funds from a number of sources, including, but not limited
to, additional sales of equity or convertible debt securities, loans
from banks, other financial institutions or affiliates, or a credit facility. If
additional funds are raised by the issuance of debt or other equity instruments,
we may become subject to certain operational limitations, and such securities
may have liquidation rights senior to those of the then existing holders of
common stock





The funds
from the non-refundable payment of licensing fees under the Amendment and the
secured convertible debt will be used to fund the our operations, continue our
efforts to fulfill and promote existing customer agreements with Sanyo Electric
Corporation (Sanyo), International Game Technology (IGT) and Samsung
Electronics Company, Ltd (Samsung) and expand our customer base to diversify our
sources of licensing revenue.  The funds may also be used to minimize
the Company’s current or future debt obligations.





Results
of Operations





For the
three months ended July 31, 2008 , we reported net losses of $1.5 million
representing a decrease in our net loss of $1.3 million when compared to the
$2.8 million reported in the three months ended July 31, 2007. For the six
months ended July 31, 2008 , we reported net losses of $3.0 million representing
a decrease in our net loss of $1.8 million when compared to the $4.8 million
reported in the six months ended July 31, 2007.  Our net losses are
primarily derived from total operating expenses and will continue to be so until
our licensing revenues become significant.  Our operations have not
generated net income to date and are not expected to do so in the year ending
2009.





Licensing
Revenue and Cost of Licensing




Three
      Months Ended
            
            
            Six
      Months EndedJuly
      31,
            
            
            Change
            
            
            July
      31,
            
            
            Change($
      in thousands)
            
            2008
            
            
            2007
            
            
            $
            
            
            %
            
            
            2008
            
            
            2007
            
            
            $
            
            
            %Licensing
      revenue
            
            $
            190
            
            
            $
            188
            
            
            $
            2
            
            
            
            1%
            
            
            $
            377
            
            
            $
            375
            
            
            $
            2
            
            
            
            1%Cost
      of licensing
            
            
            81
            
            
            
            78
            
            
            
            3
            
            
            
            4%
            
            
            
            161
            
            
            
            154
            
            
            
            7
            
            
            
            5%Gross
      margin - $
            
            $
            109
            
            
            $
            110
            
            
            $
            1
            
            
            
            
            
            
            $
            216
            
            
            $
            221
            
            
            $
            5Gross
      margin - %
            
            
            57%
            
            
            
            59%
            
            
            
            
            
            
            
            
            
            
            
            57%
            
            
            
            59%





We are a
party to a patent and technology license and technology transfer agreement (the
“IGT Agreement”) with International Game Technology (IGT) that involves the
manufacture and distribution of products by IGT, incorporating MLD technology
for sale in the wagering-based gaming segment of the location-based
entertainment display device market. This agreement grants IGT certain rights of
exclusivity for the development and sale of MLD-based products in the
wagering-based gaming market. We received an advance, non-refundable payment of
license fees of $3.75 million under the terms of the agreement during the year
ended 2007.  Substantially all of our licensing revenue for the three
and six months ended July 31, 2008 consisted of the amortization of this advance
non-refundable payment which began in October 2006.  The amount of
licensing revenue in the three months and six months ended July 31, 2008 is
consistent with the corresponding periods in the prior year.  The
balance of the advance on licensing revenues is recorded as deferred revenue and
will continue to be earned over the remaining term of the
agreement.




20





Our
patent and technology licensing agreements provide royalties to us when our
customers sell or ship products incorporating our MLD
technology.   Except for advanced, non-refundable payments, we do
not recognize licensing revenues until our customers sell or ship their products
incorporating MLD technology.  Therefore, a majority of our potential
licensing revenue is dependent upon our customers’ sales and marketing
programs.  In the three months ending July 31, 2008 we recognized a
nominal amount of licensing revenue from customer shipments in addition to the
amortization of the IGT advance, non-refundable payment.  We will
recognize additional licensing revenue from IGT and may receive additional
licensing revenue from other customers in the remainder of year ending 2009;
however, we have no control over the timing or success of our customers’ sales
or marketing programs.





Cost of
licensing is primarily the amortization of capitalized costs related to our
patents.  The increase in cost of licensing is the result of
additional capitalized patent costs being amortized.  Cost of
licensing is not expected to grow proportionately with revenues as our costs
related to intellectual property (including legal fees, registration costs and
ongoing maintenance costs) are generally capitalized and amortized on a
straight-line basis over the expected statutory lives of the related patents, of
up to 20 years.





Services
Revenue and Cost of Services




Three
      Months Ended
            
            Six
      Months EndedJuly
      31,
            
            Change
            
            July
      31,
            
            Change($
      in thousands)
            
            2008
            
            
            2007
            
            
            $
            %
            
            
            2008
            
            
            2007
            
            
            $
            %Services
      revenue
            $
            -
            
            $
            35
            
            $
            (35)
            (100%)
            
            $
            110
            
            $
            35
            
            $
            75
            214%Cost
      of services
            
            -
            
            
            26
            
            
            
            
            
            
            87
            
            
            26
            
            
            61
            235%Gross
      margin - $
            $
            -
            
            $
            9
            
            $
            (9)
            (100%)
            
            $
            23
            
            $
            9
            
            $
            14Gross
      margin - %
            
            -
            
            
            26%
            
            
            
            
            
            
            21%
            
            
            26%





We had no
services revenue in the three months ended July 31, 2008.  Our
services revenue in the six month ended July 31, 2008 consisted entirely of
billings for technical and professional services provided to IGT.  We
offer professional services to IGT and our other licensees in order for them to
develop, test, and promote MLD applications in their products.  We
believe that services revenues will continue as relationships with new and
existing partners evolve, but will continue to represent a small portion of our
total revenues.





Cost of
services represents direct labor and overhead costs of providing the respective
services.   We expect cost of services to fluctuate with changes in
services revenues and the related gross margins to improve as the volume of
services revenues increase.





Product
Sales Revenue and Cost of Product Sales




Three
      Months Ended
            
            Six
      Months EndedJuly
      31,
            
            Change
            
            July
      31,
            
            Change($
      in thousands)
            
            2008
            
            
            2007
            
            
            $
            %
            
            
            2008
            
            
            2007
            
            
            $
            %Product
      sales revenue
            $
            52
            
            $
            86
            
            $
            (34)
            (40%)
            
            $
            52
            
            $
            130
            
            $
            (78)
            (60%)Cost
      of product sales
            
            60
            
            
            81
            
            
            (21)
            (26%)
            
            
            60
            
            
            120
            
            
            (60)
            (50%)Gross
      margin - $
            $
            (8)
            
            $
            5
            
            $
            (13)
            
            
            $
            (8)
            
            $
            10
            
            $
            (18)Gross
      margin - %
            
            (15%)
            
            
            6%
            
            
            
            
            
            
            (15%)
            
            
            8%





Product
sales represent sales of MLD components and prototypes of MLD-enabled display
devices to existing and potential licensing customers. We design and manufacture
MLD components and MLD prototypes specifically for sale to these customers, who
use them in their manufacturing process or to develop, test and promote MLD
applications in their products.  The decrease in product sales revenue
is due to a decrease in MLD prototype sales as our efforts have been focused on
our existing named customers. IGT and Sanyo purchased prototypes in the past and
are now manufacturing and marketing their own product lines.  Our
entire product sales revenue in the three and six months ended July 31, 2008 was
derived from component sales to an IGT subassembly vendor.  We expect
product sales revenue of our MLD component and prototypes of MLD-enabled display
devices will fluctuate and may increase as our customers launch their MLD
products and as relationships with new and existing partners evolve, but will
continue to represent a small portion of our overall revenues in the year ending
2009.





21


Cost of
product sales represents materials, sub-contractor services, direct labor and
overhead costs of assembling the components or prototypes at subcontractor’s
facilities or at our research and development facility in Auckland, New
Zealand.  We have minimal margins on our product sales as we acquire
small quantities of materials at higher costs than we would have paid had we
been able to buy in bulk and because the engineering for prototype MLD-enabled
display devices has, to date, required the use of non-standard parts and manual
or unique assembly.  As the engineering and material standards for
form factors are finalized, we expect the cost of materials and associated labor
to decline. In addition, we intend to outsource more of the assembly with the
expectation of further reducing our costs. As a result of these factors, we
expect to see our cost of product sales as a percentage of product revenues
decline in the year ending 2009.





Operating
Expenses




Three
      Months Ended
            
            Six
      Months EndedJuly
      31,
            
            Change
            
            July
      31,
            
            Change($
      in thousands)
            
            2008
            %   of
      Total
            
            2007
            %   of
      Total
            
            $
            %
            
            
            2008
            %   of
      Total
            
            2007
            %   of
      Total
            
            $
            %Depreciation
            $
            32
            2%
            $
            21
            1%
            $
            11
            52%
            
            $
            64
            2%
            $
            38
            1%
            $
            26
            68%Research
      and development
            
            587
            41%
            
            653
            22%
            
            (66)
            (10%)
            
            
            1,053
            35%
            
            1,170
            23%
            
            (117)
            (10%)Sales
      and marketing
            
            50
            3%
            
            521
            18%
            
            (471)
            (90%)
            
            
            203
            6%
            
            896
            17%
            
            (693)
            (77%)General
      and administrative
            
            767
            54%
            
            1,725
            59%
            
            (958)
            (56%)
            
            
            1,722
            57%
            
            2,976
            59%
            
            (1,254)
            (42%)Total
      operating expenses
            $
            1,436
            100%
            $
            2,920
            100%
            $
            (1,484)
            (51%)
            
            $
            3,042
            100%
            $
            5,080
            100%
            $
            (2,038)
            (40%)





Included
in our operating expenses are stock-based compensation costs related to the
granting of options to employees and directors.  For the three months
ended July 31, 2008 and 2007, our stock-based compensation totaled $0.2 million
and $0.2 million, respectively.  For the six months ended July 31,
2008 and 2007, our stock-based compensation totaled $0.4 million and $0.4
million, respectively.  We intend to continue to offer stock options
as part of compensation packages to motivate and retain employees.  As
a result, stock-based compensation on existing and new grants will continue to
be recognized.  In the six months ended July 31, 2008, we expensed
stock-based compensation of approximately $75,000 in research and development,
$11,000 in sales and marketing, and $291,000 in general and administrative
operating expense categories.





Depreciation.The
increase in depreciation is primarily the result of depreciation on capitalized
purchases of fixed assets of approximately $175,000 in the prior twelve
months.  Depreciation expense is not expected to increase
proportionately with revenue or total operating expenses as it is unlikely we
will need to make significant purchases of fixed assets in the foreseeable
future.





Research and
development.Research and development expenses consist
primarily of personnel salary and benefits, travel, materials, consultant fees
and stock-based compensation.  The decrease in research and
development expenses for the three and six months ended July 31, 2008 is
primarily due to cost cutting measures implemented at the end of the year ended
2008 for travel, materials and general operating costs.  For the three
and six months ended July 31, 2008, we had decreases of $0.2 million and $0.3
million, respectively, in consultant fees, materials and travel which were
offset by increases of $0.1 million and $0.2 million, respectively, in personnel
salary and benefits and stock-based compensation as we used our employees to
administer our research and development projects in place of outside
consultants.  Patent legal costs increased $15,000 and $25,000 in the
three and six months ended July 31, 2008, respectively, due to a new patent
issuance and additional patent legal reviews related to potential and existing
licensing arrangements.  Other fluctuations in research and
development expenses during the three and six months ended July 31, 2007 were
consistent or slightly below the amounts in the corresponding prior year
periods.





We expect
research and development expenses to be maintained at approximately this level
for the remainder of the year ending 2009 as we are focused on meeting the
immediate needs of our existing customers and maintaining our
technology.  We expect that our long term research and development
activities beyond these two objectives will be more fully understood as we
determine how best to accelerate our strategy with the recently received
funding.





22




Sales and
marketing.Sales and marketing expenses consist primarily of
personnel salary and benefits, travel, tradeshows, consultant fees and
stock-based compensation.  The decrease in sales and marketing
expenses is due to the reduction in employees and cost cutting measures
implemented at the end of the year ended 2008 with additional cost cutting
efforts and staff reductions in the three months ended April 30,
2008.  As of July 31, 2008, we had no full-time sales and marketing
employees.  For the three months ended July 31, 2008, the net decrease
of $0.5 million from the corresponding period of the prior year resulted from a
decrease in personnel salary, travel, stock-based compensation and consultant
fees.  Sales and marketing expenses during the three months ended July
31, 2008 consisted primarily of outside marketing services and a sales
consultant.  For the six months ended July 31, 2008 the net decrease
of $0.7 million from the corresponding period of the prior year resulted from a
decrease in personnel salary, travel, stock-based compensation and consultant
fees.





We expect
sales and marketing expenses to be maintained at approximately this level for
the remainder of year ending 2009.  We expect that sales and marketing
activities will consist primarily of outside services and be narrowly focused on
opportunities with our current customers or identified potential customers with
near term revenue opportunities.  We also expect that all sales and
marketing costs will be minimized until we more fully understand how we will
accelerate our strategy with the recently received funding.





General and
administrative. General and administrative expenses
consist primarily of personnel salary and benefits, travel, capital raising
costs, insurance, stock-based compensation, and professional fees related to our
public company filing requirements.  The decrease in general and
administrative expenses for the three and six months ended July 31, 2008 of $1.0
million and $1.3 million from the prior year corresponding periods is primarily
due to staff reductions, the past vacancy in our CEO position and other
executive level positions, general cost cutting measures, relocation to a
smaller corporate office in Redwood City, California and the resolution of
public filing requirements at the end of the year ended
2008.  Fluctuations in other general and administrative expenses for
the three and six months ended July 31, 2008 were consistent with the prior year
corresponding periods.





As a
public company we have certain unavoidable expenses related to our public filing
requirements, legal obligations, insurance needs, and other necessary
expenditures to fulfill our fiduciary and regulatory
requirements.  These unavoidable expenses could increase depending on
our need to rely upon external professionals for these services.  We
may also experience increased legal and capital raising cost associated with any
capital raising activities we may continue to undertake in the remainder of the
year ending 2009.  We anticipate increases in general and
administrative expenses in the remainder of year ending 2009 related to our
subsequent hiring of a CEO and that the overall cost savings measures introduced
during the year ended 2008 will help us partially offset these and other
increases in our general and administrative expenses in the year ending
2009








23




Other
Income and Expense




Three
      Months Ended
            
            Six
      Months EndedJuly
      31,
            
            Change
            
            July
      31,
            
            Change($
      in thousands)
            
            2008
            
            
            2007
            
            
            $
            %
            
            
            2008
            
            
            2007
            
            
            $
            %Interest
      income
            $
            3
            
            $
            55
            
            $
            (52)
            (95%)
            
            $
            10
            
            $
            148
            
            $
            (138)
            (93%)Interest
      expense
            
            (75)
            
            
            (15)
            
            
            (60)
            (400%)
            
            
            (135)
            
            
            (28)
            
            
            (107)
            (382%)Foreign
      exchange loss
            
            (49)
            
            
            (51)
            
            
            2
            4%
            
            
            (63)
            
            
            (67)
            
            
            4
            6%Other
      expense
            
            -
            
            
            -
            
            
            -
            -
            
            
            -
            
            
            -
            
            
            -
            -Total
      other income(expense), net
            $
            (121)
            
            $
            (11)
            
            $
            (110)
            (1,000%)
            
            $
            (188)
            
            $
            53
            
            $
            (241)
            455%





Other
income and expense consists of interest income, interest expense, foreign
exchange gain or loss and other miscellaneous items.  Interest income
is earned on our cash balances.  Interest income was significantly
lower in the three and six months ended July 31, 2008 due to the decrease in our
cash resources resulting from our ongoing operating expenses. We expect interest
income to fluctuate in the year ending 2009 depending on the amount and timing
of any capital raised, advanced licensing payments received or royalty payments
received and the rate at which we use such funds to pay our ongoing operating
expenses.  Interest expense is incurred on our notes payable and
convertible debt.  Included in interest expense is the amortization of
the debt discount associated with the embedded conversion feature of our
convertible notes and is amortized over the life of the debenture or upon
earlier conversion of the debenture using the effective yield
method.  The increase in interest expense relates to our issuance of
secured convertible notes in the three and six months ended July 31, 2008 for
the aggregate principal amount of $3.4 million.  We expect interest
expense to increase in the year ending 2009 as a result of the continuation of
and increases in the aggregate principal outstanding under the Convertible Notes
or due to potential additional funding arrangements with interest
requirements.  Our foreign exchange gains and losses result from
transactions with our New Zealand subsidiaries, with our overseas customers and
translation of our New Zealand subsidiaries into U.S.
dollars.   Foreign exchange loss is consistent with the prior
year and is expected to be immaterial in the year ending 2009.  Other
expense was immaterial for the three and six months ended July 31, 2008 and 2007
and is expected to be immaterial in the year ending 2009.




Liquidity
and Capital Resources





We have
funded our operations from inception through July 31, 2008 primarily through the
sale and exercise of common stock and warrants, the use of an advance,
non-refundable payment of licensing fees and the issuance of secured convertible
notes.  In the six months ended July 31, 2008, net cash used in
operating activities was $3.3 million and an additional $0.2 million was used
for investment in fixed assets and intellectual property.  Our
operating activities and asset purchasing activity were primarily funded by
available cash of $0.4 million and the issuance of $3.3 million in secured
convertible notes during the six months ended July 31, 2008.  Our
ending cash balance at July 31, 2008 was $0.2 million.





On
September 10, 2008 we entered into an amendment (the “Amendment”) to the Patent
and Technology License and Technology Transfer Agreement (“License Agreement”)
with International Game Technology (IGT) dated October 13,
2006.  Pursuant to the terms of the Amendment, among other
considerations, we received an advance, non-refundable payment of licensing fees
from IGT in the amount of ten million dollars ($10,000,000).  See Note
10 - Subsequent Events in our interim financial statements in this Quarterly
Report on Form 10-Q for further description of the Amendment.  The
funds received pursuant to the Amendment and the secured convertible debt will
be used to fund our operations, continue our efforts on fulfilling and promoting
the existing customer agreements with Sanyo Electric Corporation (Sanyo), 
International Game Technology (IGT) and Samsung Electronics Company, Ltd
(Samsung) and expand our customer base to diversify our sources of licensing
revenue. The funds may also be used to minimize our current or future debt
obligations.





We have
issued options to purchase 3,560,000 shares of our commons stock to employees
and directors during the six months ended July 31, 2008 pursuant to our 2006
Stock Incentive Plan.  As of July 31, 2008, we had options to purchase
14,072,739 shares of our common stock outstanding under our 2006 Stock Incentive
Plan with a weighted exercise price of $0.53.  A total of 8,768,719 of
the shares underlying such outstanding options are exercisable at July 31,
2008.  We had no in-the-money options at July 31,
2008.   We also have outstanding warrants to purchase 17,290,468
shares of common stock at a weighted average exercise price of
$1.15.





24




Subject
to approval of our Board of Directors, the 2006 Stock Incentive Plan allows
option holders to exercise options using a “cashless exercise,” whereby vested
shares would be used as payment for the exercise of options.  While
the exercise of stock options for cash will generally increase immediate working
capital, the approval of a cashless exercise by our Board of Directors would
impact directly on the extent of this working capital and our ability to use
existing options as a capital resource.





Provision
for State and Federal Income Taxes





From
inception through July 31, 2008, we have incurred net losses for federal and
state tax purposes. We have also incurred foreign net losses in respect of our
predecessor entity and two foreign subsidiaries.





We have
not recorded a tax benefit for domestic tax losses because of the uncertainty of
realization. We adhere to SFAS No. 109 Accounting for Income Taxes(“SFAS 109”), which requires an asset and liability approach to financial
accounting and reporting for income taxes. Valuation allowances are established
when necessary to reduce deferred tax assets to the amount expected to be
realized. Under paragraph 17e of SFAS 109, deferred tax assets are reduced by a
valuation allowance if the weight of the available positive and negative
evidence suggests that it is more likely than not some portion or all of the
deferred tax asset will not be realized.




We have
generated net losses since our inception, and since our current projections are
based upon predictions that cannot ensure sustained profitability in future
years, we have provided a full valuation allowance against the deferred tax
assets at July 31, 2008 and 2007.




As a
result of the adoption of FIN 48, there was no impact to our consolidated
financial position, results of operations or cash flows for the three and six
months ended July 31, 2008.  In accordance with FIN 48, we recognize
interest and penalties related to unrecognized tax benefits as a component of
income taxes.  At July 31, 2008 no interest or penalties related to
unrecognized tax benefits had been recorded.  There was no change to
our unrecognized tax benefits for the three and six months ended July 31,
2008.





We are
subject to taxation in the U.S. and California. Our subsidiaries are subject to
taxation in New Zealand.  All of our tax years in the U.S. will be
open to examination by the federal and California tax authorities because the
statute of limitations are open and due to our overall net operating loss
carryforward position.  Our subsidiaries are subject to examination by
foreign tax authorities for all tax years.





Obligations





Our
obligations as of July 31, 2008 consisted of operating leases for facilities, a
settlement agreement obligation accounted for as a note payable and secured
convertible notes.  At July 31, 2008, minimum lease payments required
under the operating leases amounted to $0.6 million and are payable through
2012. The note payable has a balance, including future interest, of
approximately $0.5 million and is payable in equal annual installments of
$175,000 through 2010. The aggregate principal amount of the secured convertible
notes at July 31, 2008 totaled $3.4 million and are convertible at a discount of
five percent (5%) into investment instruments issued by us pursuant to and upon
a qualified financing.  If such qualified financing does not occur,
upon maturity one year from the date of issuance the secured convertible notes
may, at the holder’s option, convert into our common stock at a five percent
(5%) discount from a formula-derived market price.  The secured
convertible notes will accrue interest at the annual rate of 8%, commencing
October 4, 2008.  In addition, pursuant to the secured convertible
note purchase agreement, each note holder has received in the form of a warrant
the right to participate in qualified financing, for a period of three years, in
an amount equal to ten percent (10%) of the aggregate principal under the
secured convertible notes, and at a discount of five percent (5%) of the
purchase price of the investment instruments issued in such qualified
financing.  The secured convertible notes are secured by our
assets.





We intend
to fund our obligations from our ongoing operations, existing cash resources,
subleasing agreements, and other capital raising activities.





We
anticipate that our existing licensing contracts will require limited capital
investment and will be supported by our current staff levels.





Off-Balance
Sheet Arrangements





We
do not have any off-balance sheet arrangements.




25


Critical
Accounting Policies





There
have been no significant changes in our critical accounting policies included in
our Annual Report on Form 10-KSB for the year ended 2008.




The
discussion and analysis of our financial condition and results of operations are
based on our consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States of
America, (“U.S. GAAP”). The preparation of these financial statements in
accordance with U.S. GAAP requires us to utilize accounting policies and make
certain estimates and assumptions that affect the reported amounts of assets and
liabilities, the disclosure of contingencies as of the date of the financial
statements and the reported amounts of revenue and expenses during a fiscal
period. We have described our accounting policies in Note 1 to our condensed
consolidated financial statements included in the Form 10-KSB under Item 7
of  Part II entitled “Financial Statements”.  The SEC
considers an accounting policy to be critical if it is both important to a
company’s financial condition and results of operations and it requires
significant judgment and estimates on the part of management in its
application.




We have
discussed the selection and development of the critical accounting policies with
the audit committee of our board of directors, and the audit committee has
reviewed our related disclosures in this Quarterly Report on Form 10-Q. Although
we believe that our judgments and estimates are appropriate and correct, actual
results may differ from those estimates.  See also the section
entitled “Risk Factors” for certain matters which may affect our future results
of operations.




Revenue
Recognition.  We evaluate revenue recognition for transactions
to sell products and services and to license technology, trademarks and know-how
using the criteria set forth by the SEC in Staff Accounting Bulletin 104,
Revenue Recognition (SAB 104). For revenue transactions that involve software or
software-related products, we recognize revenue under the guidance established
by Statement of Position No. 97-2, Software Revenue Recognition (SOP
97-2).  Both SAB 104 and SOP 97-2 state that revenue is recognized
when each of the following criteria is met: persuasive evidence of an
arrangement exists, delivery has occurred or services have been rendered, the
seller’s price to the buyer is fixed or determinable, and collectibility is
reasonably assured.  If we make different judgments or utilize
different evidence in relation to the revenue recognition criteria, the amount
and timing of our revenue could be materially affected.




Licensing.
Licensing revenue is primarily derived from royalties received from licensees of
our intellectual property rights, including patents, trademarks and know-how.
Royalties are recognized when all revenue recognition criteria have been met.
Judgments are made as to whether collectibility can be reasonably assured based
on the licensee’s recent payment history and credit worthiness.





Deferred revenue related to agreements
involving both an exclusive license for a term and a provision for royalty
payments per units beyond a minimum threshold will be recognized as follows: the
initial payment amount will be either (a) recognized equally over the term or
(b) based upon customer license usage, whichever cumulative figure is
higher.





If we
were to make different judgments or utilize different evidence in relation to
licensing revenue agreements, collectibility and the amount of deferred revenue
related to the agreements and the terms, the amount and timing of our revenue
could be materially affected.




Research
and Development Costs.Research and
development costs are recognized in the period incurred in accordance with SFAS
No. 2 Accounting for Research and Development Costs. Research and development
expenses primarily include prototype development costs, contractor fees, and
administrative expenses directly related to research and development
support.  If we make different judgments in relation to the nature of
research and development costs, the amount of research and development costs and
operating expenses could be affected.





Intellectual
Property.  Intangible assets (intellectual property) consist of
acquired technology and patents, and internally developed patents and software
costs.  All of the acquired technology was transferred to the Company
from its predecessor company and are recorded at the predecessor’s original
cost.  Acquired technology is amortized on a straight-line basis over
the life of the original agreement.





The costs
of internally developing intellectual property that are not specifically
identifiable, have indeterminate lives, or are inherent in a continuing business
and related to an entity as a whole have been expensed as incurred pursuant to
the requirements of SFAS No. 142, Goodwill and Other Intangible Assets. Legal
fees, registration costs, and ongoing maintenance costs relating to intellectual
property are capitalized as incurred and are amortized on a straight line basis
over the estimated remaining statutory lives of the patents, ranging from one to
twenty years. We evaluate the recoverability of our intellectual property
periodically and take into account events or circumstances that warrant revised
estimates of useful lives or that indicate that impairment exists. No
impairments of intellectual property have been identified during the periods
presented.




26


Our
impairment analysis contains judgments, uncertainties and estimates in order to
estimate future cash flows and fair values, if we were to make different
judgments and estimates, the outcome of the impairment analysis could be
materially affected.





Foreign
Operations and Foreign Currency.  We have two wholly-owned
subsidiaries incorporated in New Zealand. Our direct subsidiary, PureDepth Ltd.,
is the holding entity for the intellectual property portfolio, which is subject
to an exclusive license with us for its use, exploitation and future
development. Our indirect subsidiary, PureDepth Incorporated Ltd., undertakes
the operations in respect of any future research and development of the
intellectual property portfolio on our behalf. This activity is governed by a
development agreement with us pursuant to which an annual development fee of
cost plus 7.5% is calculated at the end of each quarter.  Income and
expenditures relating to the license and future development of the intellectual
property are inter-company transactions and are eliminated on consolidation.
Therefore, these amounts are not shown in the financial statements. We
(including our subsidiaries) use the U.S. dollar as our functional currency. We
determined that the cash flow, sales price, sales market, expense, financing and
intercompany transaction indicators had reached a significant level where under
SFAS 52 each of the entities would be best represented by the U.S. dollar as the
functional currency.  Our currency decisions contain judgments and
uncertainties that if we were to make different judgments, the outcome could
have a material affect to our operating results and fiscal period ending
balances.





Accounting
for Income Taxes.  In preparing our consolidated financial
statements, we are required to make estimates and judgments that affect our
accounting for income taxes. This process includes estimating actual current tax
exposure together with assessing temporary differences resulting from differing
treatment of items for tax and accounting purposes. These differences, including
differences in the timing of recognition of stock-based compensation expense,
result in deferred tax assets and liabilities, which are included in our
consolidated balance sheets. We also assess the likelihood that our deferred tax
assets will be recovered from future taxable income and, to the extent that we
believe that recovery is not likely, we have established a valuation
allowance.





During
year ended 2008, we adopted the provisions of Financial Accounting Standards
Board (“FASB”) Interpretation No. 48, “Accounting for Uncertain Income Taxes –
An Interpretation of FASB Statement No. 109” (“FIN 48”).  FIN 48
clarifies the accounting for uncertainty in income taxes recognized in an
entity’s financial statements in accordance with FASB Statement No. 109,
“Accounting for Income Taxes” (“FAS 109”) and prescribes a recognition threshold
and measurement attributes for financial statement disclosure of tax positions
taken or expected to be taken on a tax return.  There was no impact to
our consolidated financial position, results of operations or cash flows for the
year ended 2008.




Significant
judgment is required in determining the provision for income taxes, deferred tax
assets and liabilities and the valuation allowance against our deferred tax
assets. Our financial position and results of operations may be materially
affected if actual results significantly differ from these estimates or the
estimates are adjusted in future periods.




Stock-Based
Compensation.  We follow the provisions of Statement of
Financial Accounting Standards No. 123(R), Share-Based Payment(SFAS
123R). SFAS 123R requires measurement of all employee and non-employee
stock-based compensation awards using a fair-value method and recording of such
expense in the consolidated financial statements over the requisite service
period.  We estimate our stock-based compensation using the
Black-Scholes option-pricing model.  The Black-Scholes option-pricing
model requires judgmental assumptions including expected option life,
volatility, and forfeiture rates.  If we make or utilize different
assumptions used in the Black-Scholes option-pricing model, the amount of
stock-based compensation expense could be materially affected.






27




Item
3 – Qualitative and Quantitative Disclosures about Market Risk





The
primary objectives of our investment activity are to preserve principal, provide
liquidity and maximize income without significantly increasing the risk. Some of
the securities we invest in are subject to market risk. To minimize this risk,
we maintain our portfolio of cash equivalents and short term investments in
money market funds, and certificates of deposit.  Since our results of
operations are not dependent on investment performance, we believe that such
risks would not have a significant impact on our results from
operations.





Transactions
with our New Zealand research facility and with suppliers and manufacturers in
Asia are denominated in local currencies and thus, we are subject to foreign
currency exchange fluctuations associated with re-measurement to U.S. dollars.
Such fluctuations have not been significant historically. We are prepared to
hedge against any fluctuations in foreign currencies should such fluctuations
have a material economic impact on us, although we have not engaged in hedging
activities to date.







Item
4T - Controls and Procedures





Evaluation
of Disclosure Controls and Procedures





Under the
supervision and with the participation of our management, including our
principal executive and principal financial officer, we have evaluated the
effectiveness of our disclosure controls and procedures (as defined in Rules
13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended (the
“Exchange Act”)), as of July 31, 2008.  Disclosure controls and
procedures are designed to ensure that information required to be disclosed in
reports filed or submitted under the Exchange Act is recorded, processed,
summarized, and reported within the time periods specified in SEC rules and
forms and that such information is accumulated and communicated to management,
including the principal executive and principal financial officer, to allow
timely decisions regarding required disclosures.  Based on that
evaluation, and in light of the previously identified material weaknesses in our
internal control over financial reporting, as of January 31, 2008, relating to
ineffective control environment for inadequate segregation of duties and
information technology access as described in the our Annual Report on Form
10-KSB, our principal executive officer and our principal financial officer have
concluded that our disclosure controls and procedures were not effective as of
July 31, 2008.





Changes
in Internal Control over Financial Reporting





We
continue to improve our internal control over financial reporting and disclosure
controls and procedures related to our financial reporting.  One of
the two material weaknesses identified by management in our Annual Report on
Form 10-KSB for the year ended 2008 relating to inadequate controls to monitor
management override was remediated as of April 30, 2008 with the implementation
of a formal whistle blower policy and an employee notification and
acknowledgment process.  Other than the foregoing, there has been no
change in our internal control over financial reporting that occurred during the
three months ended July 31, 2008 that has materially affected, or is reasonably
likely to materially affect, our internal control over financial
reporting.





Inherent
Limitations of Any Control System





We do not
expect that our disclosure controls and procedures or our internal control over
financial reporting will prevent all error and all fraud. A control system, no
matter how well designed and operated, can provide only reasonable, not
absolute, assurance that the control system’s objectives will be met. Further,
the design of a control system must reflect the fact that there are resource
constraints, and the benefits of controls must be considered relative to their
costs. Because of the inherent limitations in all control systems, no evaluation
of controls can provide absolute assurance that all control issues and instances
of fraud, if any, within the company have been detected.





28




PART
II – OTHER INFORMATION





Item
1 - Legal Proceedings




We are not currently involved in any
legal proceedings.







Item
1A - Risk Factors





The Risk
Factors included in our Annual Report on Form 10-KSB for the year ended 2008
have not materially changed, other than the following:





·
            The
      Risk Factor entitled “WE
      HAVE OBTAINED FINANCING, AND MAY CONTINUE TO CONSIDER ADDITIONAL
      FINANCING, THAT WILL DILUTE SHAREHOLDINGS, AND OUR FAILURE TO OBTAIN
      ADDITIONAL FINANCING AS AND IF NEEDED WILL RESTRICT OUR OPERATIONS AND MAY
      CAUSE US TO CEASE OPERATIONS ALTOGETHER”has been updated to
      reflect our recent receipt of an advance, non-refundable payment of
      certain license fees.





You
should carefully consider the risks described below before making an investment
decision. If any of the following risks actually occur, our business, financial
condition or results of operations could be materially and adversely affected.
In such case, the trading price of our common stock could decline, and you may
lose all or part of your investment.




WE
HAVE OBTAINED FINANCING, AND MAY CONTINUE TO CONSIDER ADDITIONAL FINANCING, THAT
WILL DILUTE SHAREHOLDINGS, AND OUR FAILURE TO OBTAIN ADDITIONAL FINANCING AS AND
IF NEEDED WILL RESTRICT OUR OPERATIONS AND MAY CAUSE US TO CEASE OPERATIONS
ALTOGETHER.





Because
our cash balance and cash flow may not be sufficient to fund our future
long-term operating expenses and the growth of our business, we may continue to
consider additional financing or funding in order to finance our future
losses.  Additional financing could be sought from a number of sources,
including, but not limited to, additional sales of equity
or convertible debt securities, loans from banks, other financial
institutions or our affiliates, or a credit facility.  In addition,
additional funding could be sought from new or existing license partners in the
form of royalty advances or other prepayment. In the six months ended July 31,
2008, we entered into a Note Purchase Agreement with K1W1, our majority
stockholder, which was subsequently amended on July 4, 2008 and August 12, 2008,
pursuant to which we issued K1W1 notes in the aggregate principal amount of
$3,400,000 and subsequently another $500,000 in August 2008.  The
notes will be convertible at a discount of five percent into the investment
instruments we would issue pursuant to and upon any subsequent qualified
financing.  If such qualified financing does not occur, upon maturity
one year from the date of issuance the notes may, at K1W1’s option, convert into
our common stock at a five percent discount from a formula-derived market price,
which will dilute existing shareholders.  In addition, pursuant to the
Note Purchase Agreement, K1W1 received a three-year warrant to purchase a number
of the instruments that are issued in the qualified financing equal to 10% of
the aggregate principal under the Notes divided by the discounted price at which
such Notes convert in a qualified financing.  If this warrant is exercised,
the resulting issuance of instruments would also dilute the existing
shareholders, including those investors which participated in the qualified
financing.  In September 2008, we entered into an amendment to the
Patent and Technology License and Technology Transfer Agreement with
International Game Technology dated October 13, 2006, pursuant to which we
received an advance, non-refundable payment of licensing fees in the amount of
$10,000,000.





We cannot
be certain that any additional financing or funding will be available on terms
favorable to us, or if such financing or funding will be available to us at all.
If additional funds are raised by the issuance of our equity securities, such as
through the issuance of stock, convertible securities, or the issuance and
exercise of warrants, then the ownership interest of our existing stockholders
would be further diluted. If additional funds are raised by the issuance of debt
or other equity instruments, we may become subject to certain operational
limitations, and such securities may have liquidation rights senior to those of
the then existing holders of common stock.








29


Ultimately, if no additional financing
or funding is obtained as and when needed, we may be required
to significantly reduce our level of operations, including by
slowing our growth, delaying  hiring, abandoning certain product
development including product development on which we may have already spent
considerable resources and otherwise reducing expenses, or eventually, if
necessary, cease operations altogether.  Further, if we do not
enter into a qualified financing resulting in the conversion of the notes issued
to K1W1, or do not satisfy the payment obligations under the notes, K1W1 may
elect to exercise its remedies with respect to its security interest described
below under the heading “We have granted our lender a security interest in our
assets and a default of our obligations under our outstanding convertible notes
could result in the seizure or forced sale of our assets.”





WE
HAVE GRANTED OUR LENDER A SECURITY INTEREST IN OUR ASSETS, AND A DEFAULT OF OUR
OBLIGATIONS UNDER OUR OUTSTANDING CONVERTIBLE NOTES COULD RESULT IN THE SEIZURE
OR FORCED SALE OF OUR ASSETS.





Our
obligations under the Note Purchase Agreement and Security Agreement, under
which the Company raised $3,900,000, are secured by a first priority security
interest in substantially all of our assets, including patents and intellectual
property.  If there is an event of default under the loan and/or
security agreements, including of the Company’s fault to meet its payment
obligations, is liquidated or becomes insolvent, K1W1 would be entitled to
exercise the remedies available to a secured lender under applicable law and/or
pursuant to the applicable loan and security agreements, including its ability
to exercise its rights associated with the security interests in the Company’s
assets.  See the description of the Note Purchase Agreement transaction in
“Note 5 – Notes Payable – Convertible Notes” of the Notes to the condensed
consolidated financial statements included with this Quarterly
Report.





WE
ARE NOT CURRENTLY PROFITABLE AND MAY NEVER BECOME PROFITABLE.





We have a
history of losses and expect to incur substantial losses and negative operating
cash flow for the foreseeable future. In fact, we expect that our expenses will
increase significantly in absolute dollars in future periods.  As a
result, we will need to generate significant revenue in order to achieve and
maintain profitability. Currently, we have limited sources of revenue. Even if
we succeed in developing and commercializing our current and additional
products, we expect that we will continue to incur substantial losses for the
foreseeable future. In sum, we may never achieve or maintain profitability. Our
failure to achieve or maintain profitability will likely negatively impact the
value of our securities.




WE
HAVE A LIMITED OPERATING HISTORY UPON WHICH TO BASE AN INVESTMENT
DECISION.




We are an
early-stage company with a limited operating history upon which to evaluate the
viability of our business and long-term prospects for success. Accordingly,
potential investors should carefully consider the risks, expenses and unforeseen
difficulties generally encountered in the operation and development of an
early-stage business, including the risks and uncertainties frequently
encountered by companies whose business and viability is dependent upon new
technologies.





IF
OUR PARTNERS ARE UNABLE TO INNOVATE, DEVELOP AND MARKET ATTRACTIVE NEW PRODUCTS
INTO WHICH OUR TECHNOLOGY CAN BE INCORPORATED, OUR BUSINESS MAY BE ADVERSELY
AFFECTED.




We do not
manufacture, market or sell visual display consumer products, other than
prototypes, and expect to derive a substantial portion of our future revenues
from the licensing of our MLD technology to our partners for their incorporation
into innovative new products for sale.  We expect that these revenues
will generally be based on royalty payments calculated on a per unit sold or
shipped basis.  Accordingly, our licensing revenues depend on the
success of our licensees in launching products in volume that incorporate our
technology. We cannot control these manufacturer’s product development or
commercialization efforts or predict their success. The process of
developing and marketing new products is generally complex and uncertain, and
involves a number of risks including, without limitation, the
following:




▪
            our
      partners may be unable to obtain adequate funding and resources necessary
      for investments in new products and
  technologies;




▪
            our
      partners’ investments and commitment of significant resources may not
      result in successful new products or
  technologies;




▪
            our
      partners may misunderstand their customers’ product needs and
      desires;




30


▪
            our
      partners may not be able to successfully anticipate the new products and
      technologies which will gain market acceptance, especially since the
      industry in which they operate is characterized by rapid changes,
      including technological changes;





▪
            our
      partners’ technology may become obsolete earlier than expected due to
      rapid advancements in technology and changes in consumer preferences,
      and




▪
            delays
      in being first to market with new technologies and products may prevent
      our partners from successfully competing with their
  rivals.




If our
partners fail to develop and market innovative new products, or if any of the
risks described above materialize, our licensing revenues from our arrangements
with these partners will decline and our business may be negatively and
adversely affected.




OUR
LICENSING ARRANGEMENTS HAVE LENGTHY SALES CYCLES THAT MAKE IT DIFFICULT TO PLAN
OUR EXPENSES AND FORECAST RESULTS.




Our
technology is generally incorporated in our partners’ products at the design
stage.  However, their decision to use our technology often requires
significant expenditures by us for engineering, prototype manufacturing and
sales consultation without any assurance of success, and often precedes volume
sales of products incorporating our technology, if any, by a year or
more.  If a partner decides at the design stage not to incorporate our
technology into their products, we may not have another opportunity for a design
win with respect to that customer's product for many months or years, if at all.
Our sales cycle can take up to 24 months to complete and because of this
lengthy sales cycle, we may experience a delay between increasing expenses for
research and development and our sales and marketing efforts and the generation
of volume licensing revenues, if any, from these expenditures. Moreover, the
value of any design win will largely depend on the commercial success of our
product and LCD manufacturing partners' products. There can be no assurance that
we will continue to achieve licensing wins or that any licensing win will result
in future revenues.




A
SMALL NUMBER OF PARTNERS ACCOUNT FOR A SIGNIFICANT PORTION OF OUR REVENUES AND
ACCOUNTS RECEIVABLE IN ANY PERIOD, AND IF ANY ONE OF THEM FAILS TO SHIP PRODUCTS
INCORPORATING OUR TECHNOLOGY OR FAILS TO PAY US, OUR OPERATING RESULTS WILL
SUFFER.




We
currently have licensing arrangements only with IGT, Sanyo, Samsung, and DRS,
and expect to derive a majority of our revenues for the year ending 2009 in the
form of deferred revenue resulting from prepaid royalties under our licensing
agreement with IGT.  We are not expecting significant additional
revenue from Samsung, Sanyo or DRS, or revenues resulting in cash, during the
year ending 2009 as we cannot control our other partner’s product development or
commercialization efforts.  If for any reason our partners do not ship
products incorporating our technology, we will not receive additional licensing
revenues and our operating results will suffer.




At any
given time, the majority of our accounts receivable will be comprised of amounts
due from a small number of these partners.  Generally, we do not
require collateral from our partners.   If any of our partners do
not pay us, our operating results will be harmed.





EVEN
WITH SIGNIFICANT CAPITAL SPENDING IN THE FUTURE TO KEEP PACE WITH TECHNOLOGICAL
CHANGES, WE MAY NOT BE ABLE TO DEVELOP NEW TECHNOLOGIES THAT ARE ACCEPTED BY THE
MARKET.




Advances
in technology typically lead to a decline in sales volumes for products made
with older technologies and may even lead to those products becoming obsolete.
As a result, we will likely be required to make significant expenditures to
enhance our existing technology or to develop or acquire new technologies to be
incorporated into our partners’ products, including technologies that may cause
our MLD technology to obsolesce. We may not be able to successfully enhance our
technology or develop new technologies that keep pace with technological changes
through our own research and development efforts or through our acquisition of
technology licenses. This may be true even after we have spent significant
amounts of capital. Furthermore, even if we are successful in enhancing,
developing or acquiring any particular technology, we may not be able to
effectively market and license our technology to our partners, or our partners
may not be able to effectively commercialize or market the resulting MLD based
products into which our technology has been incorporated.





31


THE
AVERAGE SELLING PRICES OF DISPLAYS USING OUR TECHNOLOGY MAY DECLINE OVER TIME
AND NEGATIVELY AFFECT OUR OPERATING RESULTS.




The
average selling prices of displaysusing
our technology are expected to continually decline over time as a result of,
among other factors, technology advances, cost reductions and increased
competition. Although we may initially be able to take advantage of higher
selling prices that may be associated with the new MLD-based products that our
partners may bring to market, we cannot provide assurance that we will be able
to maintain licensing royalty rates with our partners in the face of market
competition for these products. If we are unable to effectively anticipate and
counter the price erosion that accompanies our partners’ products and may affect
our licensing royalty rates, our profit margins will be negatively
affected.





WE
OPERATE IN A HIGHLY COMPETITIVE ENVIRONMENT AND OUR OPERATING RESULTS MAY BE
ADVERSELY AFFECTED IF WE CANNOT COMPETE EFFECTIVELY.




Our
ability to compete successfully depends on factors both within and outside our
control, including: the end-product pricing of our partners and its impact on
our licensing royalty rates, the performance and reliability of our technology
and the products of our partners which incorporate our technology, our
successful and timely investment in technology development, the success or
failure of our partners in marketing their brands and the products into which
our technology is incorporated, component and raw material supply costs for our
prototypes and our partners’ products, market acceptance of alternative
technologies and general economic and industry conditions. Some prospective
customers for our partners’ products may perceive the quality of certain
products utilizing our competitors’ technologies to be equivalent or superior to
MLD-based products. Our competitors from time to time may have greater
financial, sales and marketing, manufacturing, research and development or
technological resources than us. In particular, competitors with greater
resources may be able to license or manufacture competitive products on a larger
scale or with greater cost efficiencies than us. Alternatively, because
innovation in our industry often creates wide scale change in technologies and
resulting products, our competitors may develop superior technologies and obtain
exclusive rights to those technologies. The number of our competitors may
increase in the future. If any technology that is competing with ours is or
becomes more reliable, higher performing, less expensive or has other advantages
over our technology, then the demand for our technology and related products and
services would decrease.  Any of the foregoing factors could harm our
business





OUR
BUSINESS MAY BE ADVERSELY AFFECTED IF ALTERNATIVE VISUAL DISPLAY PANEL
TECHNOLOGIES ERODE FUTURE SALES OF PRODUCTS BASED ON OUR MLD TECHNOLOGY.




The
successful marketing and sale of currently available alternative visual display
panel technologies, or the introduction of new alternative visual display panel
technologies, including those that may be currently under development by our
competitors and us, may erode future sales of MLD technology and may have a
material adverse effect on our business.





GOVERNMENTAL REGULATION MAY LIMIT OUR
ACTIVITIES OR INCREASE OUR COST OF OPERATIONS.




Our
business and operations are subject to various forms of government regulation in
the various countries in which we do business, including required
business/investment approvals, export regulations based on national security or
other reasons, and other export/import regulations such as tariffs. Currently,
we design our technology and products to meet rigid governmental requirements.
However, because the final product will generally be produced and manufactured
by our partners, the actual approval process is the responsibility of the
partner for the specific market. Many of the products manufactured by our
licensees and the prototypes we manufacture are subject to certain environmental
and recycling laws and regulations relating to the disposal of electronics.
These laws are constantly subject to revision and amendment. If we or our
partners cannot comply with these regulations without great cost, our financial
performance may suffer.





GENERAL ECONOMIC CONDITIONS MAY
ADVERSELY AFFECT OUR SALES AND PROFITABILITY.




For the
most part, purchases of the products into which our technology is incorporated
are discretionary. As a result, demand for consumer electronics products, which
we believe will account for a significant proportion of our worldwide operating
revenue will likely be affected by general economic trends in the countries or
regions in which the products into which our technology is incorporated are
sold. Similarly, demand for business use products and for components we may
manufacture that go into products of third parties will also likely be affected
by general economic trends in the various markets in which we sell our products.
In sum, economic downturns and resulting declines of demand in our major markets
and those of our product and LCD manufacturing partners, including North
America, Asia, and Europe, may adversely affect our sales and operating
results.







32


AS
WE MATERIALLY RELY ON A LIMITED NUMBER OF THIRD-PARTY SUPPLIERS FOR KEY RAW
MATERIALS AND COMPONENTS, AND ANY DISRUPTION IN THEIR SUPPLY WILL NEGATIVELY
AFFECT OUR BUSINESS.




Our
development and sale of MLD prototype products depend in part on obtaining
adequate supplies of quality raw materials and components, which are in many
cases with non-standard or customized specifications, on a timely basis.
Similarly, our third party licensors also depend on adequate supplies of quality
raw materials and components to manufacture MLD products, including without
limitation, polarized and/or laminated film.  In general, most of the
raw materials as well as key components of these MLD products are sourced from
two or three suppliers for each key component. The high volume, lower cost
manufacturers of these materials generally will not sell in smaller quantities,
nor will they generally build non-standard or customized materials. We, and our
third-party licensors, may experience shortages in the supply of these and other
components or raw materials as a result of, among other things, anticipated
capacity expansion in the MLD and competitive industries. If we or our
third-party licensors are unable to obtain adequate supplies of high quality raw
materials or components at a reasonable cost or in a timely manner, or are
unable to make alternative arrangements for such supplies, our operating results
could be negatively impacted.





OUR
BUSINESS MATERIALLY RELIES ON PATENT RIGHTS THAT MAY BE NARROWED IN SCOPE OR
FOUND TO BE INVALID OR OTHERWISE UNENFORCEABLE.




Our success will
materially depend on our ability to obtain, defend and enforce our patent rights
worldwide. The coverage claimed in a patent application can be significantly
reduced before a patent is issued. Consequently, our pending or future patent
applications may not result in the issuance of patents. Patents issued to us may
be subjected to further proceedings limiting their scope and may not provide
significant proprietary protection or a competitive advantage. Our patents also
may be challenged, circumvented, invalidated or deemed unenforceable. In
addition, because (i) patent applications in various countries publish at
different times, (ii) it is difficult to monitor patent applications that may be
filed in other countries by third parties, and (iii) the publication of
discoveries in scientific or patent literature often lags behind actual
discoveries, we generally cannot be certain that (i) we were the first creator
of inventions covered by our pending patent applications, (ii) that we or any of
our licensors will be entitled to any rights in purported inventions claimed in
pending or future patent applications, or (iii) that we were the first to file
patent applications on such inventions.





FAILURE
TO PROTECT OUR INTELLECTUAL PROPERTY RIGHTS COULD IMPAIR OUR COMPETITIVENESS AND
HARM OUR BUSINESS AND FUTURE PROSPECTS.




We
believe that developing new products and technologies that can be differentiated
from those of our competitors is critical to the success of our business. We
intend to take active measures to obtain international protection of our
intellectual property by obtaining patents and undertaking monitoring activities
in our major markets. Nevertheless, we may not be able to effectively deter
competitors from improper use of our proprietary technologies. For instance, our
competitors may misappropriate our intellectual property, disputes as to
ownership of intellectual property may arise, and our intellectual property may
otherwise become known or independently developed by our competitors. Our
technology may be accessible in markets, such as Asia, where the practical legal
protections for intellectual property may be considerably less than in North
America or Europe. As a result, we may have to litigate to enforce and protect
our intellectual-property rights to determine their scope, validity or
enforceability. Intellectual property litigation is particularly expensive,
could cause a diversion of financial resources and the time and attention of our
management, and may not prove successful. The loss of intellectual property
protection, or the inability to secure or enforce intellectual property
protection, could materially harm our business and ability to
compete.








33




IF
WE INFRINGE THE RIGHTS OF THIRD PARTIES, WE COULD BE PREVENTED FROM SELLING
PRODUCTS, FORCED TO PAY DAMAGES, OR FORCED TO DEFEND AGAINST LITIGATION, WHICH
WOULD ADVERSELY AFFECT OUR BUSINESS.




If our
products, methods, processes or other technologies infringe the proprietary
rights of other parties, we could incur substantial costs and we may have
to:




▪
            obtain
      licenses, which may not be available on commercially reasonable terms, if
      at all;




▪
            abandon
      an infringing implementation or
product;





▪
            redesign
      our products or processes to avoid
infringement;




▪
            stop
      using the subject matter claimed in the patents held by
      others;




▪
            pay
      damages; or




▪
            defend
      litigation or administrative proceedings which may be costly whether we
      win or lose, and which could result in a substantial diversion of our
      valuable management resources.




WE RELY UPON TRADE SECRETS AND OTHER
UNPATENTED PROPRIETARY KNOW-HOW TO MAINTAIN OUR COMPETITIVE POSITION IN OUR
INDUSTRY, AND ANY LOSS OF OUR RIGHTS TO, OR UNAUTHORIZED DISCLOSURE OF, OUR
TRADE SECRETS OR OTHER UNPATENTED PROPRIETARY KNOW-HOW COULD NEGATIVELY AFFECT
OUR BUSINESS.




We also
rely upon trade secrets, unpatented proprietary know-how and continuing
technological innovation in our business. We typically enter into
confidentiality agreements with each of our employees and consultants upon the
commencement of an employment or consulting relationship, whereby each employee
or consultant agrees to maintain the confidentiality of our trade secrets and
certain other proprietary information on a perpetual basis. However, these
agreements may be breached and in certain circumstances we may not be able to
enforce them. Moreover, even if we can enforce such an agreement, we may not
have an adequate remedy for any such breach. The mere disclosure of our trade
secrets or other know-how as a result of such a breach could adversely and
irreparably affect our business.




OUR
BUSINESS WILL SUBJECT US TO POTENTIAL PRODUCT-LIABILITY CLAIMS THAT COULD
ADVERSELY AFFECT OUR OPERATING RESULTS, FINANCIAL CONDITION AND BUSINESS
REPUTATION.




We
currently manufacture only prototype MLD visual display products for sale to and
use by our partners.We may in the future
manufacture various products or components for incorporation into our partners’
products. We cannot be certain, however, that our prototypes, components we may
manufacture and products incorporating our technology will be defect-free and
will not be recalled at some later date. Furthermore, although we maintain
insurance against product-liability claims, we cannot be certain that such
insurance can adequately satisfy the liabilities that may ultimately be
incurred. In addition, insurance may not continue to be available on terms
acceptable to us. A large-scale product recall or a successful product-liability
claim against us could result in significant costs or have a negative impact on
our reputation, which may in turn lead to a decrease in sales, adversely
affecting our results of operations.





WE
RELY ON KEY ENGINEERS, SENIOR MANAGEMENT AND OTHER PERSONNEL, AND THE LOSS OF
THE SERVICES OF ANY SUCH PERSONNEL OR THE INABILITY TO ATTRACT AND RETAIN
SUITABLE REPLACEMENTS MAY NEGATIVELY AFFECT OUR BUSINESS.




Our
success depends to a significant extent upon the continued service of our
research and development and engineering personnel, and on our ability to
continue to attract, retain and motivate qualified researchers and engineers,
especially during periods of rapid growth. The loss of the services of any of
our key research and development and engineering personnel or senior management,
without adequate and timely replacement, could result in delays in product
development, loss of customers, partners and sales, and a diversion of
management resources, each of which could have a material adverse effect on our
business.  The current cash position of the Company, and our publicly
identified need for funding, may increase the risk of loss of employees,
including without limitation, loss resulting from employee concerns about their
job security or loss resulting from other companies identifying the employees as
suitable and susceptible hire candidates.




34


IF
WE ARE UNABLE TO HIRE ADDITIONAL QUALIFIED PERSONNEL, OUR ABILITY TO GROW OUR
BUSINESS MAY BE HARMED.




As we
attempt to grow our business, we will need to hire additional qualified
personnel with expertise in software development, testing, research, technology
development and manufacturing, as well as sales and marketing. We believe that
attracting and retaining qualified personnel will be critical to our success. In
this regard, we compete for qualified individuals with numerous other
enterprises. Competition for individuals with the expertise we require in
Redwood City, California and in Auckland, New Zealand is intense, and we may not
be able to attract and retain qualified personnel.




WE
EXPECT TO HAVE SIGNIFICANT INTERNATIONAL OPERATIONS, WHICH WILL POSE UNIQUE
RISKS TO OUR BUSINESS.




We expect
that a substantial portion of our operational activity and the operational
activity of our partners will be conducted outside of the United States and
particularly in Asia. There are a number of risks inherent for us and our LCD
product and LCD manufacturing partners in doing business in overseas markets,
including the following:




▪
            unexpected
      legal or regulatory changes;




▪
            unfavorable
      political or economic factors;




▪
            difficulties
      in recruiting and retaining personnel;▪
            labor
      disputes, including strikes;▪
            less
      developed technological infrastructure, which can affect our production or
      other activities or result in lower customer acceptance of our products
      and services;




▪
            potentially
      adverse tax consequences; or




▪
            social,
      political or economic turmoil due to terrorism, war, or other
      factors.




Our
failure to adequately address these risks may harm our business.





WE
MAY BE UNABLE TO SUCCESSFULLY MANAGE AND SUSTAIN OUR GROWTH, WHICH COULD HARM
OUR BUSINESS.




Since the
founding of DVIL, we have experienced, and expect to continue to experience,
growth in the scope and complexity of our operations. This growth may strain our
managerial, financial, manufacturing and other resources, impairing our ability
to effectively execute our business plans. The materialization of these risks
could adversely affect our operating results.




OUR
MAJORITY STOCKHOLDER POSSESSES A CONTROLLING PORTION OF THE VOTING POWER OF OUR
COMMON STOCK, WHICH COULD ADVERSELY AFFECT THE MARKET PRICE OF OUR COMMON
STOCK.




As
of September 15, 2008, K1W1, our majority stockholder, possessed beneficial
ownership of 36,664,355 shares of our common stock, or approximately 53% of our
outstanding common stock, including 884,349 shares of common stock issuable
upon exercise of warrants.  This represents a significant and controlling
portion of the outstanding voting power of our securities, and enables K1W1 to
control our management and affairs through the election and removal of our
entire Board of Directors, and all other matters requiring stockholder approval,
including any future merger, consolidation or sale of all or substantially all
of our assets. This concentrated control could discourage others from initiating
any potential merger, takeover or other change-of-control transaction that may
otherwise be beneficial to our stockholders. As a result, the return on an
investment in our common stock through the market price of our common stock or
ultimate sale of our business could be adversely affected.





35


SINCE
TRANSFER RESTRICTIONS HAVE ELAPSED ON CERTAIN SHARES OF OUR OUTSTANDING COMMON
STOCK, AND AS OUR SECURITY REGISTRATIONS HAVE BECOME EFFECTIVE, THE AVAILABILITY
OF SHARES MAY DEPRESS THE MARKET PRICE OF OUR COMMON STOCK.





In the year ending 2008, the
number of shares available for resale on the OTC Bulletin Board increased and
may continue to increase in the future.  Shares of our outstanding
common stock totaling 68,572,235 are now eligible for resale without
registration under Rule 144 of the Securities Act, subject to the limitations of
that rule.  Additionally, we have registered on Form S-8 22,241,260
shares of our common stock for issuance upon exercise of options granted under
our 2006 Stock Incentive Plan, including most recently 8.5 million shares
pursuant to a Form S-8 filed on September 5, 2007.  In connection with
our prior private placements and other arrangements with certain of our security
holders, we have registered on Form SB-2/A, 21,463,423 shares of our outstanding
common stock and 16,406,119 shares underlying outstanding warrants to purchase
our common stock.  Any increase in the number of shares available on
the market resulting from the above factors may have an adverse effect on the
trading price of the stock.





TRADING
OF OUR COMMON STOCK ON AN ILLIQUID MARKET MAY RESULT IN LOWER MARKET
PRICES.




Trading
of our common stock is conducted on the OTC Bulletin Board. This has an adverse
effect on the liquidity of our common stock, not only in terms of the number of
shares that can be bought and sold at a given price, but also through delays in
the timing of transactions and reductions in security analysts’ and the media’s
coverage of our operations and our common stock. This may result in lower prices
for our common stock than might otherwise be obtained and could also result in a
larger spread between the bid and asked prices for our common
stock.





THERE
IS CURRENTLY LITTLE TRADING VOLUME IN OUR COMMON STOCK, WHICH WILL MAKE IT
DIFFICULT TO SELL SHARES OF OUR COMMON STOCK.




In general, there has
not been substantial trading activity in shares of our common stock. The small
trading volume will likely make it difficult for our stockholders to sell their
shares as and when they choose. Furthermore, small trading volumes generally
depress market prices. As a result, our stockholders may not always be able to
resell shares of our common stock publicly at times and prices that they feel
are fair or appropriate.





WE
MAY NOT SUCCEED IN EFFORTS TO HAVE OUR COMMON STOCK LISTED ON THE NASDAQ GLOBAL
MARKET OR A SECURITIES EXCHANGE.




We plan
to seek listing of our common stock on a national securities exchange. However,
we cannot assure you that we will be able to meet the initial listing standards
of any stock exchange.





THERE
HAS BEEN ONLY A LIMITED PUBLIC MARKET FOR OUR COMMON STOCK TO DATE.




To date,
there has been only a limited public market for our common stock on the OTC
Bulletin Board. Our common stock is currently not listed on any national
exchange. If an active trading market for our common stock does not develop, the
market price and liquidity of our common stock will be materially and adversely
affected.





BECAUSE
WE BECAME PUBLIC BY MEANS OF A REVERSE MERGER, WE MAY NOT BE ABLE TO ATTRACT THE
ATTENTION OF MAJOR BROKERAGE FIRMS.




Additional
risks may exist as a result of our becoming a public reporting company through a
reverse merger transaction, as opposed to a traditional initial public offering.
Because we did not engage in a more traditional and publicized initial public
offering, security analysts of major brokerage firms may not provide us research
coverage. In addition, there is no incentive to brokerage firms to recommend the
purchase of our common stock. The failure of brokerage firms to provide analyst
coverage will be likely to slow the dissemination of awareness and knowledge of
our business. As a result, the trading price of our common stock may be
adversely affected.








36




OUR
CERTIFICATE OF INCORPORATION GRANTS THE COMPANY’S BOARD OF DIRECTORS WITH THE
POWER TO DESIGNATE AND ISSUE ADDITIONAL SHARES OF COMMON AND/OR PREFERRED
STOCK.




Our
authorized capital consists of 200,000,000 shares, of which 190,000,000 shares
are designated as common stock, par value $0.001 per share, and 10,000,000
shares are designated as preferred stock, par value $0.001 per share. Pursuant
to authority granted by our certificate of incorporation, our Board of
Directors, without any action by the stockholders, may designate and issue
shares in such classes or series (including classes or series of common stock
and/or preferred stock) as it deems appropriate and establish the rights,
preferences, and privileges of such shares, including dividends, liquidation and
voting rights. The rights of holders of classes or series of common stock or
preferred stock that may be issued could be superior to the rights of the common
stock offered hereby. Our Board of Directors’ ability to designate and issue
shares could impede or deter an unsolicited tender offer or takeover proposal.
Further, the issuance of additional shares having preferential rights could
adversely affect other rights appurtenant to the shares of common stock offered
hereby. Any such issuances will dilute the percentage of ownership interest of
our stockholders and may dilute our book value.




WE
ARE SUBJECT TO THE SARBANES-OXLEY ACT AND THE REPORTING REQUIREMENTS OF FEDERAL
SECURITIES LAWS, WHICH CAN BE EXPENSIVE.




As a
public reporting company, we are subject to the Sarbanes-Oxley Act of 2002, as
well as the information and reporting requirements of the Securities Exchange
Act of 1934 and other federal securities laws. The costs of compliance with the
Sarbanes-Oxley Act and of preparing and filing annual, quarterly and current
reports and other information with the SEC, will cause our expenses to be higher
than they would be had we remained privately held.




WE HAVE NEVER PAID DIVIDENDS ON OUR
CAPITAL STOCK AND DO NOT INTEND TO DO SO FOR THE FORESEEABLE
FUTURE.




We have
never paid dividends on our capital stock and we do not anticipate that we will
pay any dividends for the foreseeable future. Accordingly, any return on an
investment in us will be realized, if at all, only when an investor sells shares
of our common stock.








37




Item
2 - Unregistered Sales of Equity Securities and Use of Proceeds





None








Item
3 - Defaults Upon Senior Securities





None







Item
4 - Submission of Matters to a Vote of Security Holders





The
Annual Meeting of Stockholders was held on July 7, 2008 for the following
purposes: (1) to elect four directors to serve until the 2009 Annual
Meeting of Stockholders, or until their successors are duly elected and
qualified, and (2) to ratify the appointment of Stonefield Josephson, Inc.
as our independent registered public accounting firm for the year ending January
31, 2009.





The
following persons were elected as directors of the Company to serve until the
2009 Annual Stockholders’ Meeting, or until their successors are duly elected
and qualified, with the votes indicated below:





Director
            
            Votes
              For
            
            Votes
              WithheldJohn
      Blair
            
            36,445,249
            
            0Kristin
      Bowman
            
            36,445,249
            
            0Mark
      Kalow
            
            36,445,249
            
            0John
      Stringer
            
            36,445,249
            
            0





The
proposal to ratify the appointment of Stonefield Josephson, Inc. as our
independent registered public accounting firm for the fiscal year ending January
31, 2009 was approved and ratified by a vote of 36,445,249 shares for and no
shares against.







Item
5 - Other Information





None








38




Item
6 - Exhibits




EXHIBIT
INDEX




Exhibit
      No.
            
            Description
            
            Filed
      with this
              Quarterly
      Report2.1
            
            Agreement
      and Plan of Merger dated March 16, 2006 by and among PureDepth, Inc.,
      PureDepth Technologies, Inc. and Diamond One, Inc.*(1)3.1
            
            Certificate
      of Incorporation*(1)3.2
            
            Certificate
      of Merger relating to the merger of PureDepth, Inc. (California) with and
      into PureDepth Technologies, Inc. *(1)3.3
            
            Certificate
      of Merger relating to short-form merger of PureDepth, Inc. (f/k/a Diamond
      One, Inc.) with and into PureDepth, Inc. (f/k/a PureDepth Technologies,
      Inc.)*(1)3.4
            
            Certificate
      of Designation of Series A Convertible Preferred Stock *(1)3.5
            
            Bylaws
      of the Company *(1)4.1
            
            Form
      of A-Warrant *(1)4.2
            
            Form
      of B-Warrant *(1)4.3
            
            Form
      of Agent/C-Warrant*(1)4.4
            
            Form
      of D-Warrant *(2)10.1
            
            Employment
      Agreement with Fred Angelopoulos dated March 31, 2005 *(1)10.2
            
            Employment
      Agreement with Kristin Bowman dated March 31, 2005*(1)10.3
            
            Letter
      Offer Agreement with David Hancock dated May 30, 2006*(1)10.4
            
            Master
      License Agreement between PureDepth Limited and PureDepth, Inc. *(1)10.5
            
            Agreement
      dated May 16, 2005 by and among the Company, DRS Electronic Systems, Inc.
      and DRS Laurel Technologies (++)*(1)10.6
            
            Exclusive
      Sales and Distribution License Agreement by and among the Company, Sanyo
      Sales and Marketing Corporation and SANYO Electric System Solutions Co.,
      Ltd. (++)*(1)10.7
            
            2006
      Stock Option Plan (as amended) (13)10.8
            
            Form
      of Stock Option Agreement *(4)10.9
            
            Director
      Contract - John Floisand *(4)10.10
            
            Director
      Contract - Tom Marcus *(4)




10.11
            
            Executive
      Employment Agreement - O’Callahan *(5)10.12
            
            Executive
      Employment Agreement - Angelopoulos *(6)10.13
            
            Form
      of Directors and Officers Indemnity Agreement*(7)10.14
            
            Amendment
      of Stock Option Agreement – David Hancock *(7)10.15
            
            Amendment
      of Stock Option Agreement – Fred Angelopoulos *(7)10.16
            
            Amendment
      of Stock Option Agreement – Mark Yahiro *(7)10.17
            
            Patent
      and Technology License and Technology Transfer Agreement (++) *(8)




39


10.18
            
            Executive
      Employment Agreement – McCaman *(9)10.19
            
            Separation
      Agreement – Angelopoulos *(10)10.20
            
            Waiver
      Agreement with K1W1 *(11)10.21
            
            Executive
      Employment Agreement – Credelle *(13)10.22
            
            Executive
      Employment Agreement – Marcus *(14)10.23
            
            Samsung
      License Agreement (++)*(15)10.24
            
            Office
      Lease – Twin Dolphin Drive, California*(16)10.25
            
            Amendment
      No. 2 of Stock Option Agreement – Yahiro *(17)10.27
            
            Secured
      Note Purchase Agreement*(18)10.28
            
            Security
      Agreement*(18)10.29
            
            IGT
      Patent and Technology License and Technology Transfer Agreement(++)*(19)10.30
            
            Amendment
      to Executive Employment Agreement – McCaman*(18)10.31
            
            Sublease
      Agreement – Twin Dolphin Drive, California*(18)10.32
            
            Office
      Lease – 230 D Twin Dolphin Drive, Redwood City, California*(20)10.33
            
            Variation
      to Employment Agreement – Bowman *(21)10.34
            
            Consultancy
      Agreement - Bowman*(21)10.35
            
            Amendment
      no. 1 to Convertible Note Purchase Agreement and Security Agreement*(22)10.36
            
            Amendment
      no. 2 to Convertible Note Purchase Agreement and Security Agreement*(23)10.37
            
            Amendment
      no 1. to Exclusive Sales and Distribution License Agreement by and among
      the Company, Sanyo Sales and Marketing Corporation and SANYO Electric
      System Solutions Co., Ltd. (++)
            
            X10.38
            
            Executive
      Employment Agreement – Andrew L. Wood *(24)10.39
            
            Amendment
      No. 2 to Executive Employment Agreement – Jonathan J. McCaman *(24)14.1
            
            Code
      of Business Conduct and Ethics *(18)16.1
            
            Letter
      of Comiskey & Company P.C. dated April 13, 2006 *(3)16.2
            
            Letter
      of Mark Bailey & Company *(12)31.1
            
            Section
      302 Certification of Chief Executive Officer
            
            X31.2
            
            Section
      302 Certification of Chief Financial Officer
            
            X32.1
            
            Section
      906 Certification of Chief Executive Officer and Chief Financial
      Officer
            
            X







40







(++)
            Confidential
      treatment has been requested as to certain portions of this exhibit
      pursuant to Rule 406 of the Securities Exchange Act of 1933, as
      amended.*(1)
            Previously
      filed with the Commission in the Company’s SB-2 filed on May 30,
      2006*(2)
            Previously
      filed with the Commission in the Company’s Current Reports on Form 8-K
      filed on August 3, 2006*(3)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K
      filed on April 14, 2006*(4)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K
      filed on September 12, 2006*(5)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K
      filed on November 7, 2006*(6)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K
      filed on November 16, 2006*(7)
            Previously
      filed with the Commission in the Company’s Annual Report on Form 10-KSB
      filed on May 31, 2007*(8)
            Previously
      filed with the Commission in the Company’s Quarterly Report on Form 10-QSB
      filed on December 15, 2006*(9)
            Previously
      filed with the Commission in the Company’s Quarterly Report on Form 10-QSB
      filed on June 14, 2007*(10)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K
      filed on July 26, 2007*(11)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K
      filed on August 8, 2007*(12)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K/A
      filed on June 20, 2007*(13)
            Previously
      filed with the Commission in the Company’s SB-2/A filed on August 28,
      2007*(14)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K/A
      filed on September 19, 2007*(15)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K/A
      filed on October 15, 2007*(16)
            Previously
      filed with the Commission in the Company’s Quarterly Report on Form 10-QSB
      filed on December 14, 2007*(17)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K
      filed on December 27, 2007*(18)
            Previously
      filed with the Commission in the Company’s Current Report on Form 10-KSB
      filed on April 30, 2008*(19)
            Previously
      filed with the Commission in the Company’s Current Report on Form 10-QSB/A
      filed on December 5, 2007*(20)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K
      filed on May 27, 2008*(21)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K
      filed on June 11, 2008*(22)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K
      filed on July 7, 2008*(23)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K
      filed on August 15, 2008*(24)
            Previously
      filed with the Commission in the Company’s Current Report on Form 8-K
      filed on September 15, 2008











41




SIGNATURES





In
accordance with the requirements of the Exchange Act of 1934, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.




PUREDEPTH,
      INC.Date: September
      15, 2008
            By:
            /s/ Andrew
      L. WoodMr.
      Andrew L. Wood
              Chief
      Executive Officer and Director







By:
            /s/ Jonathan
      J. McCamanJonathan
      J. McCaman
              Mr.
      Jonathan J. McCaman
              Chief
      Financial Officer and Secretary
              (Principal
      Accounting and Financial Officer)