UNITED STATES
SECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549

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FORM 10-K

|(Mark One)                                                    |                                                                                         
|------------------------------------------------------------- | ----------------------------------------------------------------------------------------
|ý                                                             | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934    
|For the fiscal year ended December 31, 2004                  
|or                                                           
|o                                                             | 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: 000-25755

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WorldGate Communications, Inc.(Exact name of registrant as specified in its charter)

|Delaware(State or other jurisdiction of incorporation or organization)            |  | 23-2866697(I.R.S. Employer Identification No.)
|--------------------------------------------------------------------------------- |  | ----------------------------------------------
|3190 Tremont Avenue
Trevose, Pennsylvania(Address of principal executive offices) |  | 19053(Zip Code)                               
|(215) 354-5100(Registrant's telephone number, including area code)               
|Securities registered pursuant to Section 12(b) of the Act:None                  
|Securities registered pursuant to Section 12(g) of the Act:                      
|Common Stock, $0.01 Par Value(Title of Class)                                    

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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 ý    No o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be
contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this
Form 10-K or any amendment to this Form 10-K. Yes ý

Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act
Rule 12b-2) Yes o    No ý

The aggregate market value of the common stock held by non-affiliates of the registrant was approximately $46.7 million as of June 30,
2004, based on the closing sale price of $2.10 per share of common stock, as reported on the NASDAQ Small Cap Market.

The
number of shares of the registrant's common stock outstanding as of March 4, 2005 was 31,705,489.

DOCUMENTS INCORPORATED BY REFERENCE

[None]



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WORLDGATE COMMUNICATIONS, INC.        ANNUAL REPORT ON FORM 10-K  For the Fiscal Year Ended December 31, 2004        TABLE OF CONTENTS

|         |  |                                                                                                              |  | Page
|-------- |  | ------------------------------------------------------------------------------------------------------------ |  | ----
|PART I   |  |                                                                                                             
|Item 1.  |  | Business                                                                                                     |  | 1   
|Item 2.  |  | Properties                                                                                                   |  | 7   
|Item 3.  |  | Legal Proceedings                                                                                            |  | 7   
|Item 4.  |  | Submission of Matters to a Vote of Security Holders                                                          |  | 7   
|PART II  |  |                                                                                                             
|Item 5.  |  | Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities |  | 8   
|Item 6.  |  | Selected Financial Data                                                                                      |  | 11  
|Item 7.  |  | Management's Discussion and Analysis of Financial Condition and Results of Operations                        |  | 12  
|Item 7A. |  | Quantitative and Qualitative Disclosures About Market Risk                                                   |  | 27  
|Item 8.  |  | Financial Statements and Supplementary Data                                                                  |  | F-1 
|Item 9.  |  | Changes in and Disagreements with Accountants on Accounting and Financial Disclosure                         |  | 28  
|Item 9a. |  | Controls and Procedures                                                                                      |  | 28  
|Item 9b. |  | Other Information                                                                                            |  | 28  
|PART III |  |                                                                                                             
|Item 10. |  | Directors and Executive Officers of the Registrant                                                           |  | 28  
|Item 11. |  | Executive Compensation                                                                                       |  | 31  
|Item 12. |  | Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters               |  | 36  
|Item 13. |  | Certain Relationships and Related Transactions                                                               |  | 37  
|Item 14  |  | Principal Accountants Fees and Services                                                                      |  | 38  
|PART IV  |  |                                                                                                             
|Item 15. |  | Exhibits and Financial Statement Schedules                                                                   |  | 39  

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WORLDGATE COMMUNICATIONS, INC.

This report contains forward-looking statements that involve risks and uncertainties. These forward-looking statements are based on management's current
expectations and are subject to a number of uncertainties and risks that could cause actual results to differ significantly from those anticipated in these forward-looking statements. Factors that may
cause such a difference include, but are not limited to, those set forth in the "Management's Discussion and Analysis of Financial Condition and Results of Operations" as well as those discussed
elsewhere in this report.

PART I

Item 1. Business

WorldGate Communications, Inc. was incorporated in Delaware in 1996 to succeed to the business of our predecessor, WorldGate Communications, L.L.C., which
commenced operations in March 1995. In April 1999, we completed our initial public offering of 5,750,000 shares of our common stock. Since January 9, 2003 our common stock has
been listed on the NASDAQ Small Cap Market. Previously our common stock was traded on the NASDAQ National Market. Our common stock is traded under the symbol "WGAT". Our executive offices are located
at 3190 Tremont Avenue, Suite 100, Trevose, Pennsylvania 19053.

Overview

Since our formation in 1995 and until recently, we were in the business of developing and selling interactive television, or ITV, technology, products and
services for use in conjunction with cable TV broadband networks (the "ITV Business"). Using our solutions, cable TV operators branded, marketed, and offered a wide variety of ITV packages to
consumers. These packages included walled gardens of
information, communications solutions complete with Internet-based e-mail and chat, and Web surfing, all presented and engaged on the TV set.

During
the third quarter of 2003, we completed a sale of significant assets, including our ITV intellectual property rights and our membership interest in TVGateway, LLC, for
$3 million in cash to TVGateway, LLC, an ITV oriented company we were instrumental in forming. Our transaction with TVGateway, LLC marked a shift in our business away from the ITV Business and
toward a new video phone product and associated business. Although we continued to support our current ITV Business into the first quarter of 2004, the development of our video phone product became a
primary business focus. The funds we received from the sale of assets to TVGateway, LLC, as well as the funds we subsequently received as a result of several private placements of our securities have
permitted us to fund the development of our new business.

During
2004, we continued development of a video phone, designed specifically for personal video communication over high speed data, or HSD or broadband networks, that we believe is
differentiated, both from competitors and from previous efforts at personal video telephony, by providing: true to life communication, ease of deployment by HSD operators, ease of use by residential
and business end users, a highly styled ergonomic design, and interoperation with the public switched telephone network, or PSTN. The design of our first video phone product was substantially
completed in late 2004 and field trials were commenced. Commercial distribution of this product is expected to commence in the spring 2005 time frame.

On
April 28, 2004, we entered into a multi-year agreement with General Instrument Corporation d/b/a the Broadband Communication Sector of Motorola, Inc. for the
worldwide development and distribution of the Ojo personal video phone. Under the terms of the agreement, our video phone will be co-branded with our trademark, Ojo, and
Motorola will market the Ojo personal video phone as

1

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part
of its "connected home" portfolio of consumer HSD solutions. Motorola plans to distribute Ojo worldwide through HSD service providers, retailers, and distributors of telecommunications products.

HSD
service users provide a large, and we believe conducive, target market for a quality video phone offering. We believe that Motorola, as a worldwide market leader in the HSD market is
well-positioned to assist us with our video phone offering. Initial video phone sales are expected to be derived from new technology adopters and regular long distance communicators such
as families and close friends. We also expect that the business-to-business opportunity will be attractive as a video phone provides means to improve interpersonal
communication and multi-location productivity. Furthermore we expect that the growth in the voice over Internet protocol market (or "VoIP") will also help to drive sales of our video phone since it
can also serve as a VoIP endpoint.

Our
business model is based on the sale of video phones and related products. We expect that our products will be marketed to HSD operators as well as to consumers through traditional
consumer electronics distribution channels. We believe that HSD operators could realize significant recurring revenue streams associated with offering our product to end users. We have also developed
this product to require very minimal capital investment or incremental costs by such operators. Our marketing objective is to have our video phones supplement and hopefully replace ordinary home and
business phones worldwide.



We have developed a video phone, ergonomically designed specifically for in-home and business, personal video communication. We have identified
several issues that have interfered with commercial success and consumer acceptance of video phones and sought to address each of these issues within the Ojo video phone. The Ojo video phone was
designed for use on the existing HSD infrastructure. The Ojo phone will, however, also connect to the analog phone line for interoperability with the voice only communications offered by the existing
PSTN networks. Ojo, therefore, can be used for video calls, for ordinary voice only calls as well as for voice over Internet protocol, or VoIP calls. We believe that Ojo is differentiated, both from
competitors and from previous efforts at personal video telephony, by providing: true to life communication, interoperation with the PSTN, ease of deployment by HSD operators, ease of use by
consumers, and a highly styled ergonomic design. We believe Ojo is further differentiated by the development of a state of the art connectivity infrastructure, which leverages the convergence of the
latest compression technology, processing power and increased bandwidth availability, to help ensure, enable and maintain dedicated high quality end-to-end connections.

The
Ojo solution consists of two primary components:



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Material Developments for WorldGate since December 31, 2003

The following is a summary of material developments for us that have occurred since December 31, 2003:

In
January 2004, during the Consumer Electronics Show we successfully demonstrated the capability of delivering high quality video telephone over the Internet. Using our Ojo PVP,
we demonstrated repeated quality calls between our headquarters in suburban Philadelphia and Las Vegas. Using a data
rate of 150 kbps, we made video calls with full motion video displayed at 30 frames per second, similar to that of broadcast television. The calls provided consistent,
true-to-life, synchronized, voice and video communications during peak Internet usage time periods. We believe this was the first successful demonstration of H.
264-based signal processing technology in a personal video phone.

On
January 21, 2004, we completed a private placement resulting in an issuance of 1,000,000 shares of our common stock at a sale price of $1.50 per share, five-year
warrants to purchase up to 300,000 shares of our common stock at an exercise price of $1.875 per share, and additional investment rights to purchase, for a limited period of time, up to 200,000 shares
of our common stock at an exercise price of $1.50 per share. In addition, we agreed to issue warrants to purchase up to an additional 10,000 shares of our common stock at an exercise price of $1.875
per share upon the exercise of the additional investment rights. The January 2004 private placement resulted in gross proceeds to us of approximately $1.5 million.

On
April 23, 2004, we completed a private placement of 666,666 shares of our common stock with Mototech Inc., at a sale price of $1.50 per share. The private placement
resulted in gross proceeds to us of $1 million.

On
May 3, 2004, we announced that we had entered into a multi-year agreement with Motorola, Inc. for the worldwide development and distribution of the Ojo PVP.
Under the terms of the agreement, Motorola will market the Ojo personal video phone as part of its "connected home" portfolio of consumer HSD solutions. Motorola will distribute Ojo worldwide through
HSD service providers, retailers, and distributors of telecommunications products. Additionally, Motorola and WorldGate will jointly develop future HSD video telephony solutions.

On
June 24, 2004, we completed another private placement that resulted in the issuance of 7,550 shares of Series A preferred stock at a sale price of $1000 per share (which
preferred stock is convertible into our common stock at a conversion price of $2.35 per share,) five-year warrants to purchase up to 803,190 shares of our common stock at an exercise price
of $2.69 per share, and five-year warrants to purchase up to 803,190 shares of our common stock at an exercise price of $3.14

3

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per
share. The investors also received an additional investment right, for a limited period of time, to purchase 1,606,383 additional shares of common stock shares at $3.14 a share. The
June 2004 private placement resulted in gross proceeds to our Company of $7,550,000.

On
November 10, 2004 we announced that the Ojo PVP was awarded a 2005 Consumer Electronics Show (CES) Best of Innovations Award from the Consumer Electronics Association (CEA).

At
the 2005 CES Show, held in Las Vegas on January 6 - 9, we formally introduced our Ojo PVP. The International Consumer Electronics Show (CES) is
one of the world's largest annual consumer technology shows. We conducted live demonstrations to attendees and the press of the Ojo phone transmitting full-motion video with synchronized
audio over a HSD internet connection.

During
December 2004, and through January 2005, we received cash proceeds of $7,565,000 from the exercise of outstanding warrants issued pursuant to the private placements
discussed above, by the exercise of non-executive employees' and prior employees' stock options, and by a private placement of an additional 208,333 shares of our common stock. In
connection with this placement, we granted warrants to Mr. K.Y. Chou to purchase up to 62,500 shares of our common stock at an exercise price of $2.88 per share.

Business Strategy

General.Our business model, as is typical of a consumer electronics product, is based upon the sale of Ojo PVPs and does not
rely upon any service fees or other recurring revenue stream for WorldGate, although such recurring streams may materialize. It is our plan for Ojo PVP to be distributed through and in partnership
with HSD service providers, as well as through traditional electronics distribution channels. Video phone service, using the Ojo PVP, is expected to be offered by HSD service providers as a means of
attracting new HSD subscribers as well as maintaining existing subscribers. We believe that HSD service operators could realize potentially significant recurring revenue streams associated with
offering products such as our Ojo PVP, and accordingly we believe they will embrace the concept and business model. The suggested consumer offering for a video phone service follows the traditional
HSD model. We anticipate that video phone service subscribers will be able to either purchase Ojo or lease a unit from the HSD service provider.

Manufacturing.Ojo PVPs will be manufactured in Asia, to take advantage of the base of lower labor, tooling and component
costing. A formal relationship with Mototech Inc. has already been established for the volume manufacture of Ojo. Mototech, along with U.S. Robotics and SMC Networks, are affiliates of the
Accton Technology Group. Mototech's responsibilities in this role include:



As
part of our agreement with Mototech we retain formal sign-off control over any product, specification, or component changes proposed by Mototech. We also maintain all
rights to the Ojo technology and intellectual property, as well as the right to second source the Ojo product.

Product Sales and Distribution.We have partnered with an experienced distribution partner, Motorola, Inc. to market
and distribute the Ojo PVP. Such partnership is intended to reduce our working capital requirements by minimizing our sales and inventory costs, and provide an entree to more extensive and accelerated
coverage than would be permitted by an internal organization. The name recognition, "shelf-space" potential and technology/product validation provided by Motorola are

4

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also
expected to provide a significant advantage. In addition we believe we will further benefit from the Motorola relationship as a result of their access to broadband and telephony technology as
well as their sourcing expertise. Through Motorola, Ojo will be marketed domestically and internationally to both the residential and business sectors through the standard consumer and business
electronics channels, as well as through HSD providers in a manner similar to broadband modems. Under this relationship, Motorola is our exclusive distribution partner and as such is responsible for
the worldwide marketing and distribution of the Ojo PVP. If they are not successful our operating results could be adversely affected.

Competition

Many of the current video phone manufacturers have focused on two applicationsbusiness video phones and video conferencing. Business video phones are
designed to be located on an executive's desk and used to communicate with colleagues, employees and customers. Video conferencing units are designed for conference rooms where multiple people on one
end engage with multiple people on the other end. The following is a brief description of the potential competitors and their impact on the market.

Business Phone Products.Most of these products are targeted for corporate use and are priced at $650.00 and up per unit.
Generally, the ergonomic design of these units emulates that of a traditional office telephone with the addition of a camera and display. The products use standard corporate gray or black material
colors, familiar button shapes and designs, traditional style handsets for non-speakerphone conversation and often have business feature sets. For connectivity these products use VoIP,
PSTN or ISDN. The main competitors in this sector include Viseon Inc., 8x8 Inc., Motion Media PLC, and Leadtek Research Inc.

Video Conference Products.D-Link Systems, Inc. produces a TV-based video phone product that
is targeted to consumers and promotes its compatibility with DSL and cable modem technologies. D-Link uses the home television as the display device and utilizes either the TV's speaker or
connection to a standard analog phone for the audio portion of the call. The main disadvantages of this product are convenience and non-personal video. The D-Link requires a
television to send and receive calls. In many cases, this would obstruct the ability to watch television while a call is in progress thereby disrupting family television watching for the length of the
call. Numerous video conferencing products exist for the business market. Typically these devices cost $2000 or more and involve complex installations of one or more cameras, monitors, microphones and
speakers within a conference room setting. The videoconference nature of these products eliminates the ability to communicate on a private, one-on-one level. The main
competitors in this sector include Sony, D-Link Systems, Inc., Sorenson Media and Polycom Inc.

Telephone Products.Vialta, Inc. produces the "Beamer", an H.324 (POTS) video phone that is designed for connection to
a standard telephone. The product utilizes a standard analog telephone for connection to the PSTN and as the listening device. Because the unit uses traditional telephone lines for connectivity it
cannot take advantage of the high-speed data systems available through cable and DSL modems.

Web Cam Products.Web cams are different from other competitive products in that they did not arise from either business
video phones or video conferencing. Rather, they began in the early days of the Internet when "techies" were expanding the capabilities of PC-based content and applications with
low-cost attachments to the computer. Currently, web cams are often used to display visual information rather than as a means for personal communication. Many popular web sites use web
cams to show traffic, weather, adult activities and other visually interesting subjects. Software such as Net Meeting, Instant Messenger and MSN messenger are being supported in web cams to enable a
video chat option

5

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to
these Internet-based services. Competitors in this category include Logitech, Inc., Intel Corporation, 3Com Corporation, and Creative Technology, Ltd.

Hybrid Web Cam-Business Phone Products.In recent months, Cisco Systems, Inc. introduced a hybrid video
phone product that is designed for the business phone market. The Cisco product consists of a web cam device and host software that enables video phone functionality when used in conjunction with an
IP phone and call processing hardware. We believe this product requires a significant capital investment for implementing the call processing hardware and IP phones.

Intellectual Property

We plan to rely on patent, trade secret, trademark and copyright law to protect our video phone intellectual property. Although we have filed multiple patent
applications for our technology, our patent position is subject to complex factual and legal issues that may give rise to uncertainty as to the validity, scope and enforceability of a particular
patent. Accordingly, there can be no assurance that any patents will be issued pursuant to our current or future patent applications or that patents issued pursuant to such applications will not be
invalidated, circumvented or challenged. Moreover, there can be no assurance that the rights granted under any such patents will provide competitive advantages to us or be adequate to safeguard and
maintain our proprietary rights. In addition, effective patent, trademark, copyright and trade secret protection may be unavailable, limited or not applied for in certain foreign countries.

Government Regulation

Our Ojo PVP will be required to comply with various laws and government regulations, including Parts 15 and 68 of the FCC's regulations, which relate to radio
frequency devices and to terminal equipment that is connected to the telephone network. The legal and regulatory environment that pertains to our business is uncertain and changing rapidly. New
legislation or regulation could be introduced that could substantially impact our ability to launch and promote the Ojo video phone. For example, in the United States, the FCC and state regulatory
commissions could undertake an examination of whether to impose surcharges or additional regulations upon certain providers of Internet protocol, or IP, based communication services. The imposition of
regulations on IP communications services may negatively impact our business.

Research and Development

To date, our engineering and product development has been a significant focus. The principal focus of our current engineering and development activities is the
continued development and enhancement of our Ojo PVP. Development of the Ojo PVP has required combining technical experience and knowledge from two historically separate industries, cable and
telephony. Our engineering and development expenditures in connection with our Ojo video phone were approximately $0, $3,000 and $4,001 for the years ended December 31, 2002, 2003 and 2004,
respectively.

Employees

As of December 31, 2004, on a consolidated basis, we had approximately 50 full-time employees. All of our employees are located in Trevose,
Pennsylvania. None of our employees are represented by a labor union, and we have no collective bargaining agreement. We consider our employee relations to be good.

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Financial Information Relating to Foreign and Domestic Operations and Export Sales from Continuing Operations

|                                                                     |               | 2002 |        | 2003 |   | 2004   |  
|-------------------------------------------------------------------- | ------------- | ---- | ------ | ---- | - | ------ | -
|
|Revenues from continuing operations by geographic area               |               |      |        |      |   |        |  
|                                                                     | United States |      | $      |     |   | $      | 
|                                                                     | Total         |      | $      |     |   | $      | 
|                                                                     |               |      |        |      |   |        |  
|Loss from continuing operations (all from United States operations)  |               | $    |       |      | $ | (6,497 | )
|Identifiable Assets (all within the United States)                   |               | $    | 14,019 |      | $ | 5,117  |  
|Identifiable foreign assets (hardware and tooling for Manufacturing) |               | $    |       |      | $ |       |  

Item 2. Properties.

Our corporate headquarters is located in Trevose, Pennsylvania in a leased facility consisting of approximately 16,000 square feet. Both we and the landlord,
however, have the right to terminate this lease at any time on 90 days prior written notice to the other party. In March 2005, the property was sold and our lease was transferred to the
new owner. We are currently negotiating a long term lease with the new owner and we anticipate that this facility will be suitable for our needs for the immediate future.

Item 3. Legal Proceedings.

Although from time to time we may be involved in litigation as a routine matter in conducting its business, we are not currently involved in any litigation which
we believe is material to our operations or balance sheet. We comply with the requirements of currently prevailing accounting standards and provides for accruals where a liability is probable and a
reasonable estimate can be made as to the probable amount of such liability.

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

At our annual meeting of stockholders held on October 13, 2004, our stockholders elected six members to our Board of Directors. Those elected to the Board
were Hal M. Krisbergh, Steven C. Davidson, Clarence L. Irving, Jr., Martin Jaffe, Jeff Morris and Lemuel Tarshis. Stockholders also approved the issuance of shares pursuant
to a private placement made during the year, an amendment in the Company's Articles of Incorporation to increase the number of authorized shares, and the WorldGate Communications, Inc. 2003
Equity Incentive Plan.



Nominee

FOR

WITHHELDSteven C. Davidson

26,198,630

75,752Martin Jaffe

26,201,996

72,386Clarence L. Irving, Jr.

26,040,254

234,128Hal M. Krisbergh

26,183,611

90,771Jeff Morris

26,185,945

88,437Lemuel Tarshis

26,199,580

74,802




FOR

AGAINST

ABSTENTION10,809,490

267,947

31,362


7

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FOR

AGAINST

ABSTENTION25,855,524

382,056

36,802




FOR

AGAINST

ABSTENTION10,405,028

623,248

77,413


PART II

Item 5. Market for Registrant's Common Equity and Related Stockholder Matters and Issuer Purchases of Equity Securities.

Our common stock, $0.01 par value, commenced trading on the NASDAQ National Market under the symbol "WGAT" since our initial public offering in April 15,
1999. We applied for and received permission, effective January 9, 2003 to transfer the listing of our common stock to the NASDAQ Small Cap Market. The following table shows the high and low
sales price as reported by the NASDAQ National Market and the NASDAQ Small Cap Market, as is applicable, for each quarter of 2003 and 2004.

High

LowYear Ended December 31, 2003First Quarter

$
0.58

$
0.22Second Quarter


0.60


0.25Third Quarter


0.74


0.31Fourth Quarter


1.82


0.51Year Ended December 31, 2004First Quarter

$
2.29

$
1.01Second Quarter


3.36


1.35Third Quarter


2.45


1.41Fourth Quarter


6.03


1.52


On
March 4, 2005, the last reported sale price of our common stock as reported on the NASDAQ Small Cap Market was $3.81 per share.

As
of March 4, 2005, we had 342 holders of record of our common stock.

Dividends

We have never paid or declared any cash dividends on our common stock. We do not anticipate paying any cash dividends in the foreseeable future. We currently
expect to retain future earnings, if any, to finance the growth and development of our business.

Sale of Unregistered Securities



8

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9

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10

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Item 6. Selected Financial Data.

The following table represents selected consolidated financial information for the five-year period ended December 31, 2004. This data should
be read in conjunction with our financial statements and notes thereto and "Management's Discussion and Analysis of Financial Condition and Results of Operations" included elsewhere in this report.

|                                                                                            |                               | Year ended December 31,  |           
|------------------------------------------------------------------------------------------- | ----------------------------- | ------------------------ | ----------
|
|
|Statement of operating activities of continuing operations data:                            |                               |                          |           
|Revenues                                                                                    |                               | $                        |          
|Cost of revenues                                                                            |                               |                          |          
|                                                                                            |                               |                          |           
|Gross margins                                                                               |                               | $                        |          
|                                                                                            |                               |                          |           
|Costs and expenses:                                                                         |                               |                          |           
|                                                                                            | Engineering and development   |                          |           
|                                                                                            | Sales and marketing           |                          |           
|                                                                                            | General and administrative    |                          |           
|                                                                                            | Depreciation and amortization |                          |           
|                                                                                            |                               |                          |           
|                                                                                            |                               | Total costs and expenses |           
|                                                                                            |                               |                          |           
|Loss from operating activities of continuing operations                                     |                               |                          |          
|Other interest and other income                                                             |                               |                          |          
|Change in fair value of warrants and conversion options                                     |                               |                          |          
|Interest and other expense                                                                  |                               |                          |          
|                                                                                            |                               |                          |           
|Loss from continuing operations                                                             |                               |                          |          
|Income (loss) from discontinued operations                                                  |                               |                          | (49,597   
|                                                                                            |                               |                          |           
|Net loss                                                                                    |                               |                          | (49,597   
|Accretion on preferred stock and dividends                                                  |                               |                          |          
|                                                                                            |                               |                          |           
|Net loss available to common Stockholders                                                   |                               | $                        | (49,597   
|                                                                                            |                               |                          |           
|Basic and diluted loss from continuing operations per common share                          |                               | $                        | 0.00      
|                                                                                            |                               |                          |           
|Basic and diluted income (loss) from discontinued operations per common share               |                               |                          | (2.23     
|                                                                                            |                               |                          |           
|Basic and diluted net loss per common share                                                 |                               | $                        | (2.23     
|                                                                                            |                               |                          |           
|Basic and diluted net loss available to common shareholders per common share                |                               | $                        | (2.23     
|                                                                                            |                               |                          |           
|Weighted average common stock Outstandingbasic and diluted                                 |                               |                          | 22,246,143
|                                                                                            |                               |                          |           
|As adjusted net loss available to common stockholders(2)                                    |                               | $                        | (49,356   
|As adjusted basic and diluted net loss available to common shareholders per common share(2) |                               | $                        | (2.22     
|                                                                                            |                               |                          |           

11

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|Balance sheet data:                                                   |  |   |            |  |   |            |  |   |            |  |   |            |  |   |            |  
|--------------------------------------------------------------------- |  | - | ---------- |  | - | ---------- |  | - | ---------- |  | - | ---------- |  | - | ---------- | -
|Cash and cash equivalents, restricted cash and short term equivalents |  | $ | 46,505     |  | $ | 14,613     |  | $ | 3,807      |  | $ | 3,365      |  | $ | 11,840     |  
|Total assets                                                          |  |   | 74,841     |  |   | 33,792     |  |   | 14,019     |  |   | 5,117      |  |   | 13,822     |  
|Long-term obligations, including current portion                      |  |   | 421        |  |   | 1          |  |   |           |  |   |           |  |   |           |  
|Redeemable Preferred Stock                                            |  |   |           |  |   |           |  |   |           |  |   |           |  |   | 2,995      |  
|Total stockholders' equity (deficit)                                  |  |   | 55,781     |  |   | 25,415     |  |   | 7,295      |  |   | 3,680      |  |   | (5,572     | )
|Other data:                                                           |  |   |            |  |   |            |  |   |            |  |   |            |  |   |            |  
|Common shares outstanding                                             |  |   | 23,308,196 |  |   | 23,565,295 |  |   | 23,077,963 |  |   | 25,706,843 |  |   | 30,865,777 |  

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Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.(Dollar amounts contained in this
Item 7 are in thousands, except for share and per share amounts)

FORWARD-LOOKING AND CAUTIONARY STATEMENTS

We may from time to time make written or oral forward-looking statements, including those contained in the following Management's Discussion and Analysis of
Financial Condition and Results of Operations. The words "estimate," "project," "believe," "intend," "expect," and similar expressions are intended to identify forward-looking statements, although not
all forward-looking statements contain these identifying words. In order to take advantage of the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995, we are hereby
identifying certain important factors that could cause our actual results, performance or achievement to differ materially from those that may be contained in or implied by any forward-looking
statement made by or on our behalf. The factors, individually or in the aggregate, that could cause such forward-looking statements not to be realized include, without limitation, the following:
(1) difficulty in developing and implementing marketing and business plans, (2) industry competition factors and other uncertainty that a market for our products will develop,
(3) challenges associated with HSD operators (including, uncertainty that they will offer our products, inability to predict the manner in which they will market and price our products and
existence of potential conflicts of interests and contractual limitations impeding their ability to offer our products), (4) continued losses, (5) difficulty or inability to raise
additional financing on terms acceptable to us, (6) departure of one or more key persons, (7) delisting of our Common Stock from the NASDAQ Small Cap Market, (8) changes in
regulatory requirements, and (9) other risks identified in our filings with the Securities and Exchange Commission. We caution you that the foregoing list of important factors is not intended
to be, and is not, exhaustive. We do not undertake to update any forward-looking statement that may be made from time to time by or on our behalf.

Results of Operations:

Critical Accounting Policies and Estimates

Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States. These generally
accepted accounting principles require management to make estimates and assumptions that affect the reported amounts of assets and

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liabilities
and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of net sales and expenses during the reporting period. Actual results
could differ from those estimates.

Our
significant accounting policies are described in note 2 to our consolidated financial statements included elsewhere in this report. We believe that the following discussion
addresses our critical accounting policies, which are those that are most important to the portrayal of our financial condition and results and require management's most difficult, subjective and
complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.

Discontinued Operations.During the first quarter of 2004, we transitioned from the business of developing and selling
interactive television, or ITV, technology, products and services for use in conjunction with cable TV broadband networks (the "ITV business") to the development of our video phone products as our
primary business focus. During the twelve months ended December 31, 2003 and 2004, the Company had revenues from discontinued operations of $3,886 and $82, respectively. Cost of revenues for
the twelve months ended December 31, 2003 and 2004 were $5,849 and $43, respectively. Concurrently, operating expenses, consisting of Research and Development, Marketing, General and
Administration, and Depreciation and Amortization costs were also reduced as a result of the transition from the ITV business. These expenses for discontinued operations were $3,497 and $16 for the
twelve months ended December 31, 2003 and 2004, respectively. For the twelve months ended December 31, 2003 and 2004, other income and other expense relating to discontinued operations
were $2,552 and $13, respectively. Included in 2003 were $484 of losses incurred on the sale of certain property and equipment, and $3,000 from the sale of intellectual property and other assets to TV
Gateway LLC (refer to footnote 13. to our consolidated financial statements).

Revenue Recognition.Revenue is recognized when persuasive evidence of an arrangement exists, the price is fixed or
determinable, the collectibility is reasonably assured, and either the delivery and the acceptance of the equipment has occurred or services have been rendered.

Inventories.Our inventory consists primarily of finished goods equipment to be sold to our customers. The cost is determined
on an average cost basis. A periodic review of inventory quantities on hand is performed in order to determine and record a provision for excess and obsolete inventories. Factors related to current
inventories such as technological obsolescence and market conditions are analyzed to determine estimated net realizable values. A provision is recorded to reduce the cost of inventories to the
estimated net realizable values. Any significant unanticipated changes in the factors noted above could have an impact on the value of our inventories and our reported operating results. With the
current shift in focus to our new video phone business, our inventory balance of $1,668 consisted of $1,622 relating solely to our ITV business, which was fully reserved for at December 31,
2004, and $46 related solely to our new video phone business.

Long-Lived Assets.Our long-lived assets consist of property and equipment. These
long-lived assets are recorded at cost and are depreciated or amortized using the straight-line method over their estimated useful lives. The carrying value of a
long-lived asset is considered impaired when the anticipated undiscounted cash flows from such assets are separately identifiable and are less than the carrying value. In that event, a
loss is recognized based on the amount by which the carrying value exceeds the fair market value of the long-lived asset. Fair market value is determined by using the anticipated cash
flows discounted at a rate commensurate with the risk involved. Measurement of the impairment, if any, will be based upon the difference between carrying value and the fair value of the asset. If
useful life estimates or anticipated cash flows change in the future, we may be required to record an impairment charge.

Accounting for Income Taxes.As part of the process of preparing our consolidated financial statements we are required to
estimate our income taxes in each of the jurisdictions in which we

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operate.
This process involves us estimating our actual current tax exposure together with assessing temporary differences resulting from differing treatment of items, such as depreciation of property
and equipment and valuation of inventories, for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included within our consolidated balance sheet.
We must then assess the likelihood that our deferred tax assets will be recovered from future taxable income and, to the extent we believe that recovery is not more likely than not, we must establish
valuation allowances. To the extent we establish valuation allowances or increase the allowances in a period, we must include an expense within the tax provision in the statement of operations.

We
have a full valuation allowance against the net deferred tax asset of $79,290 as of December 31, 2004, due to our lack of earnings history and the uncertainty as to the
reliability of the asset. In the future, if sufficient evidence of our ability to generate sufficient future taxable income becomes
apparent, we would be required to reduce our valuation allowance, resulting in a benefit from income tax in the consolidated statement of operations.

Accounting for Contractual Obligation related to Equity Financing.In July 2000, four cable operators purchased our
shares. As part of the financing arrangement, we agreed to provide the four cable operators with a credit to be used to purchase products that pertain to the development and deployment of our service
equal to 25% of the amount they invested. We recorded a liability to satisfy this obligation based on our best estimate of what it would cost to satisfy the credit. Our policy has been not to adjust
the liability after it had been established. When equipment credits are utilized by the cable operators, the value of the equipment is reflected in its entirety in the cost of revenues and a portion
of the recorded contractual obligation is adjusted against additional paid in capital. The equipment credit expired on August 24, 2003. In August 2003, the unused credit balance of
$3,283 was reclassified from the recorded liability to additional paid in capital.

Stock-Based Compensation.The Company accounts for stock-based compensation in accordance with Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees," and related interpretations and has presented the required SFAS No. 123, "Accounting for Stock-Based Compensation," as amended
by SFAS No. 148, "Accounting for Stock-Based CompensationTransition and Disclosure. At December 31, 2004, the Company had stock-based compensation plans, which are described
separately in Note 8. The Company applies Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" and related interpretations in accounting for its plans,
and accordingly, no compensation cost has been recognized for the Company's fixed stock-based compensation.

Accounting for Preferred Shares.The Company accounts for preferred stock in accordance with EITF topic D-98
"Classification and Measurement of Redeemable Securities", the Redeemable Preferred Stock was recorded in the financial statements as temporary equity. Additionally, the fair value of warrants and
preferred stock conversion options were recorded into the financial statements as liabilities as a result of their features that require accounting under FAS 133 "Accounting for Derivative
Instruments and Hedging Activities, as amended." At each reporting balance sheet date, an evaluation is made of these valuations and marked to market.

2004 versus 2003

Revenues

Revenues.Revenues from continuing operations of $231 were realized during the twelve months ended December 31, 2004.
These revenues represent the initial deliveries of video phones for pre-market testing. There were no revenues from continuing operations for the twelve months ended December 31,
2003. Revenue from the sale of equipment is recognized by the Company when the products are shipped.

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Costs and Expenses

Cost of revenues.The cost of revenues from continuing operations relating to the initial deliveries of video phones was $103
for the twelve months ended December 31, 2004. There were no cost of revenues from continuing operations for the twelve months ended December 31, 2003.

Engineering and Development.Engineering and development expenses primarily consist of compensation, and the cost of design,
programming, testing, documentation and support of the Company's video phone product. Engineering and development costs were $4,001 for the twelve months ended December 31, 2004, compared with
$3,000 for the twelve months ended December 31, 2003. This increase in 2004 over 2003 of $1,001 or 33%, reflects our increased shift of efforts of our engineering staff, and related costs, from
our ITV business (discontinued operations) to the continuing development of its video phone product.

Sales and Marketing.Sales and marketing expenses consist primarily of compensation, attendance at conferences and trade
shows, travel costs, promotions and other marketing programs related to the introduction of our video phone product. Sales and marketing costs were $1,362 for the twelve months ended
December 31, 2004, compared with $466 for the twelve months ended December 31, 2003. This increase of $896, or 192%, reflects the increased marketing and promotional expenditures, trade
shows attendance, as well as a shift in efforts from our ITV business to our video phone product.

General and Administrative.General and administrative expenses consist primarily of expenditures for administration, office
and facility operations, finance and general management activities, including legal, accounting and professional fees. General and administrative expenses were $5,399 for the twelve months ended
December 31, 2004, compared with $3,031 for the twelve months ended December 31, 2003. The increase of $2,368, or 78%, is attributable primarily to our transition of nearly all of our
administrative management compensation, facility, legal, finance and professional consulting fees toward the further development of the video phone business, and a non cash charge of $1,332 during
the twelve months ended December 31, 2004, reflecting a Black Scholes estimate of the value of the warrants issued as part of the private placement of our stock to certain investors in January,
June and December 2004, and warrants issued to Motorola in September 2004 in conformity with the terms of the agreement signed in April 2004. For the twelve months ended
December 31, 2003, video phone related costs were $3,031, or 66% of total General and Administrative expense of $4,589 (including $1,558 in discontinued operations).

Interest and Other Income and Interest Expense.Interest and other income and interest expense from continuing operations
consisted of interest earned on cash and cash equivalents, and interest expense on short-term debt. Total interest and other income increased to $1,023 for the twelve months ended
December 31, 2004 from $0 for the twelve months ended December 31, 2003. During the twelve months ended December 31, 2004, we earned interest income of $86 on average cash
balances of approximately $6,601, and incurred interest expense of $6 related to insurance financing. In comparison, during the twelve months ended December 31, 2003, we earned interest on
average cash balances that are consolidated with discontinued operations of approximately $2,222, and incurred interest expense of $6 related to our insurance financing. Included in total interest and
other income is $928 which represents deferred rent credits of $143 and cancelled unpaid rent of $785 relating to the amendment of our facility lease in June 2004. For more details, refer to
Note 11 to our consolidated financial statements.

Non Cash Change in Fair Value of Warrants and Conversion Options.For the twelve months ended December 31, 2004, the
non cash change in fair value of warrants and conversion option was an expense of $10,091. This expense was the result of a marked to market adjustment as of December 31, 2004 related to our
June 23, 2004 private placement of our Series A Convertible Preferred Stock and

15

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Warrants.
Over the life of the instruments, these marked to market adjustment of gains and losses will offset and net to $0.

Income Taxes.We have incurred net operating losses since inception and accordingly have had no income taxes and have not
recorded any income tax benefit for those losses.

2003 versus 2002

Since our formation in 1995 and into January 2004, our company had been in the business of developing and selling interactive television ("ITV")
technology, products and services for use in conjunction with cable TV broadband networks (the "ITV" Business"). Using our solutions, cable TV operators branded, marketed, and offered a wide variety
of ITV packages to consumers. These packages included walled gardens of information, communications solutions complete with Internet-based e-mail and chat, and Web surfing, all presented
and engaged on the TV set.

During
the third quarter of 2003, we completed a sale of certain assets, including our ITV intellectual property rights and our membership interest in TVGateway, LLC, for
$3 million in cash to TVGateway, LLC, a company we were instrumental in forming. Our transaction with TVGateway, LLC marked a shift in our business away from the ITV Business and toward a new
video phone product and associated business. Although we continued to support our current ITV Business during the first quarter of 2004, our new video phone product became our primary product focus.
We advised our ITV customers of our de-emphasis of ITV going forward. We informed them that we were willing to continue our efforts into 2004 as long as we could do so on a profitable
basis. In January, with all our customers having taken steps to terminate their ITV service in their markets, we decided to formally end our ITV business and began to account for our ITV business as a
discontinued operation. The funds we received from the sale of assets to TVGateway, LLC, as well as the funds we received as a result of private placements of our securities on December 1, 2003
and December 4, 2003, have permitted us to fund the development of our new video phone business and our continuing operations in 2004.

Revenues

Revenues.For the years ended December 31, 2003 and December 2002, our revenues from continuing operations were
$0. Revenues from discontinued operations for the year 2003 were primarily the result of first quarter products sales and consulting fees to TVGateway, LLC, a then unconsolidated entity, subscriber
fees from cable operators providing our interactive television products and services, and certain excess inventory and equipment sold during the year. Revenues for the twelve months ended
December 31, 2003 related to the discontinued operations were $3,886, compared to $13,878 for the same period in 2002. This revenue decrease of $9,992 from 2002 to 2003 is primarily
attributable to reduced consulting fees with TVGateway. For the twelve months ended December 31, 2003, TVGateway consulting fees were $794, compared to $11,484 for the twelve months ended
December 31, 2002. During the fourth quarter of 2003, we also sold approximately $300 of excess inventory at auction that was related to the discontinued operations.

Costs and Expenses

Cost of Revenues.Cost of revenues from continuing operations were $0 for the twelve months ended December 31, 2003
and 2002. Cost of revenues for the year 2003 related to discontinued operations consisted of primarily equipment product costs related to commercial deployments, the sale of excess inventory and
equipment, and service fee revenue costs related primarily to the provision of engineering and administrative services. Such discontinued operations costs of equipment product revenues for the twelve
months ended December 31, 2003 were $5,849, or approximately 261% of equipment product revenues, compared to the discontinued operations product costs of revenues of

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$4,537,
or approximately 479% of equipment product revenues, for the twelve months ended December 31, 2002. The decrease in the cost of equipment product revenues as a percent of total
equipment product revenues for the twelve months ended December 31, 2003, as compared to the twelve months ended December 31, 2002, was primarily the result of increased level of
equipment revenues, partially offset by an increase in inventory provisions recorded against the carrying amount of inventory products to adjust them to their net realizable value. For the twelve
months ended December 31, 2003, discontinued operations inventory adjustments were $3,037. For the twelve months ended December 31, 2002, such inventory adjustments were $2,209. Service
fee costs of revenues from discontinued operations for the twelve months ended December 31, 2003 were $807, or approximately 49% of service fee revenues. Comparable service fee costs of
revenues were $11,284 or approximately 87% of service fee revenues for the twelve months ended December 31, 2002. The decrease in service fee cost of revenues of $10,477 for the twelve months
ended December 31, 2003, when compared to the same period in 2002, is primarily attributable to decreased costs related to consulting fees with TVGateway and the additional support costs
relating to a decreased subscriber base.

Engineering and Development.Engineering and development expenses from continuing operations primarily consisted of
compensation, the cost of design, programming, testing, documentation, and support of the Company's video phone product. For the twelve months ended December 31, 2003 and 2002, such expenses
were $3,000 and $0, respectively. This increase in 2003 over 2002 reflected our increased shift of efforts of our engineering staff, and related costs from our discontinued ITV business to the
continuing development of our video phone product. Engineering and development expenses related to discontinued operations primarily consisted of the cost of design, programming, testing,
documentation and support of our ITV related hardware, software and services. For the twelve months ended December 31, 2003, discontinued operation engineering and development costs were $792,
a decrease of approximately 90% when compared to $7,705 for the twelve months ended December 31, 2002. This decrease in expenses of $6,913 is primarily attributable to the shift of efforts and
related costs from the discontinued ITV business to the continuing video phone business.

Sales and Marketing.Sales and marketing expenses from continuing operations consisted primarily of compensation, attendance
at conferences, trade shows, travel costs, promotions and other marketing programs related to the introduction of the Company's video phone product. For the twelve months ended December 31,
2003 and 2002, such expenses were $466 and $0, respectively. This increase in 2003 over 2002 reflected our marketing and promotional expenditures, trade show attendance, as well as a shift in efforts
from our ITV business to the continuing marketing of our video phone product. Sales and marketing costs from discontinued operations consisted primarily of compensation, attendance at conferences and
trade shows, travel costs necessary to cover a domestic and international customer market base, promotions and other marketing programs substantially related to ITV trial installations and commercial
deployments. For the twelve months ended December 31, 2003 sales and marketing
expenses from the discontinued ITV business were $405. This represents a decrease of approximately 84% when compared to such sales and marketing expenses of $2,585 for the twelve months ended
December 31, 2002. This decrease in expenses is primarily attributable to our shift in efforts to Ojo video phone marketing and promotional expenditures, trade show attendance as well as a
shift in efforts from our ITV business to the continuing video phone business.

General and Administrative.General and administrative expenses from continuing operations were $3,031 and $0 for the twelve
months ended December 31, 2003 and 2002, respectively. This increase in 2003 over 2002 reflects our transition of our administrative management compensation, facility, legal, finance and
professional consulting fees toward the further development of the video phone business. General and administrative expenses from discontinued operations consisted primarily of expenditures for
administration, office and facility operations, finance and general management activities, including legal, accounting, insurance and other professional fees. General and administrative expenses from
discontinued operations were $1,558 for the twelve months ended December 31, 2003, a decrease of

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49%
when compared to expenses of $3,069 for the same period in 2002. This decrease in expenses is primarily attributable to our transition of our management compensation, facility costs, and
professional fees from our ITV business to the video phone business.

Goodwill Impairment.During the second quarter of 2002, in an effort to cut costs and achieve operational efficiencies, we
commenced the termination of all personnel of the former DVA, which performed engineering development services. In conjunction with this action, it was determined that the carrying amount of the
Company's remaining goodwill, which was originally recorded with our acquisition of DVA and related to our discontinued operations, exceeded its fair value. As such, we measured the impairment loss by
the amount the carrying value exceeded the implied fair value of the goodwill. The amount of the non-cash impairment loss was $3,006. The fair value of goodwill was estimated using the
expected present value of future cash flows.

Interest and Other Income and Interest Expense.Interest and other income and interest expense were from discontinued
operations and consisted of interest earned on cash and cash equivalents and short-term investments, and interest expense on equipment financing and short-term debt. Interest
and other income decreased from $462 for the twelve months ended December 31, 2002 to $75 for the twelve months ended December 31, 2003, primarily due to declining average cash and short
term investment balances and to declining interest rates. During the twelve months ended December 31, 2002, we earned interest on average cash balances solely from discontinued operations of
approximately $8,311 and incurred interest expense related to our equipment financing facility in the amount of $7. In comparison, during the twelve months ended December 31, 2003 we earned
interest on average cash balances that are consolidated with discontinued operations, of approximately $2,222 and incurred interest expense related to our insurance financing in the amount of $6.

Gain on sale of intellectual property and investment in TVGateway.On September 30, 2003, we sold certain intellectual
property rights and certain software and equipment related to our discontinued ITV operations to TVGateway, LLC, for $2.4 million in cash, pursuant to an Asset Purchase Agreement (the "Purchase
Agreement"), which we executed with TVGateway in August 2003. Pursuant to the Purchase Agreement we retained a royalty-free license to the intellectual property rights that were
sold, enabling us to use the intellectual property rights to continue to conduct our business as then being conducted. Concurrently with the execution of the Purchase Agreement, we and TVGateway also
entered into a redemption agreement pursuant to which we redeemed our equity interest in TVGateway for $600,000 in cash, paid concurrently with the execution of the redemption agreement. The
intellectual property rights had previously been expensed as incurred. Similarly, we did not carry an equity balance for our interest in TVGateway. The aggregate effect of these transactions was a
gain of $3 million, which is reported in the loss from discontinued operations in 2003.

Income Taxes.The Company has incurred net operating losses since inception and accordingly had no income taxes and has not
recorded any income tax benefit for those losses.

Liquidity and Capital Resources

As of December 31, 2004, our primary source of liquidity consisted of cash and cash equivalents that are highly liquid, are of high quality investment
grade and have original maturities of less than three months.

At
December 31, 2004, we had cash and cash equivalents of $11,840 (and no short-term investments) as compared to cash and equivalents of $3,365 (and no
short-term investments) at December 31, 2003. Net cash used in continuing operations was $7,084 for the twelve months ended December 31, 2004, as compared to $3,644 used for
the same period in 2003. This increase in net cash used for continuing operations was primarily attributable to our increase in expenditures during the twelve months ended December 31, 2004,
related to the video phone business. We recorded bad debt

18

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expense
in the amount of $16 from discontinued operations in 2004 to reflect our current assessment of the collectability of certain receivables.

Cash
provided by financing activities from continuing operations during the twelve months ended December 31, 2004, totaled $16,349 compared to $1,490 provided during the same
period in 2003. Pursuant to the Purchase Agreement we retained a royalty-free license to the intellectual property rights that were sold, enabling us to use the intellectual property
rights to continue to conduct our business as then being conducted. Concurrently with the execution of the Purchase Agreement, we and TVGateway also entered into a redemption agreement pursuant to
which we
redeemed our equity interest in TVGateway for $600,000 in cash, paid concurrently with the execution of the redemption agreement. The intellectual property rights had previously been expensed as
incurred. Similarly, we did not carry an equity balance for our interest in TVGateway. The aggregate effect of these transactions was a gain of $3 million, which is reported in the loss from
discontinued operations in 2003.

Operations and Liquidity.

To
date, we have funded operations primarily through private sales of equity securities and through an initial public offering of common stock in April 1999. As of
December 31, 2004 the Company had cash and cash equivalents of $11,840. The operating cash usage from continuing operations for the twelve months ended December 31, 2004 and 2003 was
$7,084 and $3,644, respectively. As of December 31, 2004 we have $37 of outstanding debt and our assets are not pledged as collateral. We continue to evaluate the possibilities to obtain
additional financing through public or private equity or debt offerings, bank debt financing, asset securitizations, or from other sources. Such additional financing would be subject to the risk of
availability, may be dilutive to our shareholders, or could impose restrictions on operating activities. There can be no assurance that this additional financing will be available on terms acceptable
to us, if at all.

With
the private placement of our common stock, together with additional rights and warrants, aggregate gross proceeds received of $1.5 million in January 2004, the private
placement of our common stock in April 2004 providing proceeds of $1.0 million, the June 2004 private placement of our redeemable preferred stock aggregating proceeds received of
$7.55 million, the December 2004 private placement of common stock of $500, the exercise of additional investment rights and warrants of $6.2 million in December 2004,
January and February 2005, and the exercise by employees and former employees of options throughout 2004, January and February 2005 aggregating gross proceeds of $900; we project we will
have sufficient funding to continue operations through 2005, assuming no additional funding is received and assuming no impact from sales. Depending on the timing and magnitude of the ramp up of video
phone sales, it is possible that our current cash may be sufficient to get us to a cash break even position. We do however have an obligation to pay individuals on, as well as to redeem our
outstanding Series A Preferred Stock (see Part II, Item 5, Sale of Unregistered Securities (3) for additional information) upon maturity, or at the earlier option of a
holder of these securities. Under certain limited circumstances, however, we may be forced to make such payments and redemptions with cash instead of shares of our common stock. In such event our
ability to fund continuing operations would be negatively impacted. No assurances can be given that sufficient sales, if any, will materialize, or that a funding transaction can be consummated prior
to the depletion of our available cash. We however remain hopeful that sales will materialize and/or that sufficient funding can be developed through funding or ongoing operations to continue our
operations.

Quantitative and Qualitative Disclosures About Market Risk.

Interest
Rate Risk.    Our exposure to market risk related to changes in interest rates relates primarily to our investment portfolio. We invest in instruments that meet high
credit quality standards, and we limit the amount of credit exposure with respect to any one issue, issuer and type of investment.

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As
of December 31, 2004, our cash and cash equivalents were $11,840, most of which were securities having a maturity of less than three months. Due to the average maturity and
conservative nature of our investment portfolio, management believes a sudden change in interest rates would not have a material effect on the value of the portfolio. Management estimates that had the
average yield of our investments decreased by 100 basis points, our interest income for the twelve months ended December 31, 2004 would have decreased by approximately $95. This estimate
assumes that the decrease occurred on the first day of 2004 and reduced the yield of each investment instrument by 100 basis points. The impact on our future interest income of future changes in
investment yields will depend largely on our total investments.

Foreign
Currency Exchange Risk.    Although we transact business in various foreign countries, the principal portion of our business is in the United States and substantially
all of our revenues and costs to date have been denominated in U.S. dollars. Although our agreement with Mototech, our contract manufacturer in Taiwan, is denominated in U.S. dollars, their material
acquisition costs are subject to exchange rate changes that could impact our product costs.

Disclosure of Contractual Obligations

Total

Less than 1 year

1 - 3 years

3 - 5 years

Over 5 yearsOperating lease

$
23

$
6

$
12

$
5

$



Recent Accounting Pronouncements

In January 2003, the FASB issued Interpretation (FIN) No. 46,Consolidation of Variable Interest
Entities. FIN 46 addresses consolidation by business enterprises of variable interest entities, which are entities that either (a) do not have equity investors
with vesting rights or (b) have equity investors that do not provide sufficient financial resources for the entity to support its activities. The interpretation is effective immediately for
variable interest entities created after February 1, 2003. In December 2003, the FASB published FASB FIN 46(R),Consolidation of Variable Interest
Entities. FIN 46(R), among other things, defers the effective date of implementation for certain entities. The revised interpretation is effective for the first interim
or annual reporting period ending after March 15, 2004, with the exception of structures that are commonly referred to as special-purpose entities, for which the statement is effective for
periods ending after December 15, 2003. The adoption of FIN 46 did not have a material impact on WorldGate's results of operations or financial position.

In
November 2004, the FASB issued SFAS No. 151 "Inventory Costs" which amends the guidance in ARB No. 43, Chapter 4 "Inventory Pricing," to clarify the
accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage). Paragraph 5 of ARB 43, Chapter 4, previously stated that under some
circumstances, items such as idle facility expense, excessive spoilage, double freight, and rehandling costs may be so abnormal as to require treatment as current period charges." SFAS No. 151
requires that those items be recognized as current-period charges regardless of whether they meet the criterion of "so abnormal." In addition, SFAS No. 151 requires that allocation of fixed
production overheads to the costs of conversion be based on the normal capacity of the production facilities. SFAS No. 151 shall be effective for inventory costs incurred during fiscal years
beginning after June 15, 2005. Earlier application is permitted for inventory costs incurred during fiscal years beginning after the date SFAS No. 151 was issued. SFAS No. 151
shall be applied prospectively. The Company does not expect the adoption of SFAS No. 151 to have a material effect on its consolidated financial statements.

In
December 2004, the FASB issued SFAS No. 153 "Exchanges of Nonmonetary Assets" which amends APB Opinion No. 29, "Accounting for Nonmonetary Transactions." APB
No. 29 is based on the principle that exchanges of nonmonetary assets should be measured based on the fair value of the assets exchanged. The guidance in that Opinion, however, included certain
exceptions to that principle.

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SFAS
No. 153 amends APB No. 29 to eliminate the exception for nonmonetary exchanges of similar productive assets and replaces it with a general exception for exchanges of nonmonetary
assets that do not have commercial substance. A nonmonetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange.
SFAS No. 153 shall be effective for nonmonetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. Earlier application is permitted for nonmonetary asset
exchanges occurring in fiscal periods beginning after the date SFAS No. 153 was issued. SFAS No. 153 shall be applied prospectively. The Company does not expect the adoption of SFAS
No. 153 to have a material effect on its consolidated financial statements.

In
December 2004, the FASB issued SFAS No. 123(R), "Share-Based Payment" that focuses primarily on accounting for transactions in which an entity obtains employee services
in share-based payment transactions. This statement replaces SFAS No. 123, "Accounting for Stock-Based Compensation", and supersedes APB Opinion No. 25, "Accounting for Stock Issued to
Employees." Beginning with our quarterly period that begins after June 15, 2005, we will be required to expense the fair value of employee stock options and similar awards. As a public company,
we are allowed to select from two alternative transition methods, each having different reporting implications. The impact of SFAS No. 123R has not been determined at this time.

FACTORS AFFECTING OUR BUSINESS CONDITION

In addition to other information in this Form 10-K, the following risk factors should be carefully considered in
evaluating our company and our business. Investing in our common stock involves a high degree of risk, and you should be able to bear the complete loss of your investment. We also caution you that
this Form 10-K includes forward-looking statements that are based on management's beliefs and assumptions and on information currently available to management. Future events and
circumstances and our actual results could differ materially from those projected in any forward-looking statements. You should carefully consider the risks described below, the other information in
this Form 10-K, the documents incorporated by reference herein and the risk factors discussed in our other filings with the Securities and Exchange Commission when evaluating our
company and our business. The risks and uncertainties described below are not the only ones we face. Additional risks and uncertainties not presently known by us or that we currently deem immaterial
also may impair our business operations. If any of the following risks actually occur, our business could be harmed. In such case, the trading price of our common stock would
decline.

Our ITV Business has accounted for most of our revenues to date; we cannot reliably project our continued revenues, and we expect to incur significant losses for an indefinite
period of time.

The ITV Business, including the assets we sold in the TVGateway transaction, has historically accounted for substantially all of our revenue. Since we have
discontinued the ITV Business and transitioned to become a developer, manufacturer and seller of video phone products we cannot reliably predict our future revenues, and no assurances can be provided
as to the amount of ongoing revenues, if any, or to the periods in which any such revenues may be received. Our video phone business involves the development of a new product line with no market
penetration in an undeveloped market sector. We do not expect our video phone business to produce any significant revenues in the near term, and we plan to operate at a loss for at least the near
term. We cannot predict to what extent our video phone product will begin to produce revenues, or whether we will ever reach profitability. If we are unable to achieve significant levels of recurring
revenue from our video phone business, our losses will likely continue indefinitely. If this occurs, the market price of our common stock and our viability as a going concern could suffer.

21

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We expect to be increasingly dependent on a single line of business that currently has no history of revenues. We cannot predict our future results because our video phone
business has no operating history.

Our primary line of business has become the development of video phone products and technology. We are still in the process of launching our first product based
on this technology and consequently there are currently no substantial revenues from this line of business. Given the lack of operating history in the video phone business, it is difficult to predict
our future results. Investors should consider the risks and uncertainties that we may encounter as a pre-revenue-stage company in a new and unproven market. These uncertainties include:



Our video phone technology and products remain subject to significant uncertainty.

Our video phone technology and products are in the early commercialization stage and have not been fully proven. The market for products related to video
telephony is characterized by uncertain user and customer requirements, and the emergence of new communications standards and practices. Each of these characteristics could impact our video phone
products, intellectual property and system designs. The successful development of our products is subject to the risks that:



Significant
undetected errors or delays in new products or releases may affect market acceptance of our product. There can be no assurance that, despite our testing, errors will not be
found in the initial product or subsequent releases after the commencement of commercial shipments, resulting in loss of customers or failure to achieve market acceptance.

In
addition, our video phone technology and product will need to be compatible with a broad array of disparate technologies in order to be interoperable with other products routinely
used in HSD operations such as routers, switches, operating systems and billing systems software. Without compatibility, we may not achieve market acceptance or demand for our products within our
target base of customers because our products will not operate with many of the applications the target customers currently use.

22

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We will rely on third parties to provide certain components and services for our video phone products. If our vendors fail to deliver their products in a reliable, timely and
cost-efficient manner, our business will suffer.

We expect to depend on relationships with third parties such as contract manufacturing companies, chip design companies and others who may be sole source
providers of key components and services critical for the product we are developing in our video phone business. A formal relationship with Mototech, Inc. has been established for the volume
manufacture of Ojo. If Mototech, Inc. or other providers of components and/or manufacturing services do not produce these components or provide their services on a timely basis, if the
components or services do not meet our specifications and quality control standards, or if the components or services are otherwise flawed, we may have to delay product delivery, or recall or replace
unacceptable products. In addition, such failures could damage our reputation and could adversely affect our operating results. As a result, we could lose potential customers and any revenues that we
may have at that time may decline dramatically.

We will rely on third parties to provide certain marketing and distribution services for our video phone products. If our vendors fail to deliver their services in a reliable,
timely and cost-efficient manner, our business will suffer.

We have a formal distribution agreement with Motorola, Inc. for the marketing and distribution of our Ojo video phone. Under this agreement, Motorola and
its distribution partners are responsible for the worldwide marketing and distribution of the Ojo video phone. If they are not successful, our operating results will be adversely affected, our revenue
could be significantly reduced and we could lose potential customers.

We may not be able to meet our product development objectives or market expectations.

Our video phone product development efforts are inherently difficult to manage and keep on schedule and there can be no assurance that we will be able to meet our
development objectives or to meet market expectations. In addition to development delays, we may experience substantial cost overruns in completing development of our product. The technological
feasibility for some aspects of the product that we envision is not completely established. The product being developed by us may contain undetected flaws when introduced. There can be no assurance
that, despite testing by us and by potential customers, flaws will not be found in the product, resulting in loss of or delay in market acceptance. We may be unable, for technological or other
reasons, to develop and introduce the product in a timely manner in response to changing customer requirements. Further, there can be no assurance that while we are attempting to finish development of
our product, a competitor will not introduce a similar product. The introduction by a competitor of either a similar product before we introduce our product, or a superior alternative to our product,
may diminish our technological advantage, render our product and technologies partially or wholly obsolete, or require substantial re-engineering of our product in order to become
commercially acceptable. Our failure to maintain our product development schedules, avoid cost overruns and undetected errors or introduce a product that is superior to competing products would have a
materially adverse effect on our business, financial condition and results of operations.

We may not be able to achieve competitive pricing in the marketplace.

Because video phone products are relatively new to the marketplace there is no established market pricing. Our pricing for the Ojo video phone may be considered
high for a consumer product offering. Although we anticipate cost reductions and volume manufacturing will reduce the price of our products we cannot be assured that reductions in our pricing will
occur or if such reductions are achieved whether the extent of such reductions will provide competitive market pricing.

23

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We are highly dependent on our key personnel to manage our business, and because of competition for qualified personnel we may not be able to recruit or retain necessary
personnel.

Our continued growth and success depend to a significant degree on the continued services of our senior management and other key employees and our ability to
attract and retain highly skilled and experienced technical, managerial, sales and marketing personnel. We have historically been a developer of products related to ITV. Our video phone business
represents an expansion into the development of HSD communications hardware and software products in which we have limited
experience. As we enter this new line of business, we also expect to encounter new product development challenges, new customer requirements, new competitors and other new business challenges, with
which our existing management may be unfamiliar. There can be no assurance that we will be successful in recruiting new personnel or in retaining existing personnel. None of our employees is subject
to a long-term employment agreement. The loss of one or more key employees or our inability to attract additional qualified employees could have a material adverse effect on our business,
results of operations and financial condition. In addition, we may experience increased compensation costs in order to attract and retain skilled employees.

We may not be successful in developing or maintaining strong distribution channels for our video phone products.

The success of the video phone business depends on developing strong relationships with cable operators and other HSD communications providers and distribution
channel partners who are selling services to end-users. We plan to rely primarily on Motorola and our HSD operator and electronics distribution channel relationships to market our video
phone products. If we are not successful in creating a strong distribution channel in a timely manner, we may not gain significant sales.

We may not be able to compete successfully in the highly competitive and rapidly evolving HSD communications market.

The market for products that utilize HSD communications is still developing and there can be no assurance that our product will ever achieve market acceptance.
Since we have no existing customers for our video phone business, cable operators and other HSD network providers must be convinced to buy our video phone product. To the extent we do not achieve
growth, it will be difficult for us to generate meaningful revenue or to achieve profitability.

We may not be able to protect intellectual property of our video phone business against third-party infringements or claims of infringement.

Failure to protect our intellectual property rights may result in a loss of our exclusivity or the right to use our video phone technology. We plan to rely on
patent, trade secret, trademark and copyright law to protect our video phone intellectual property. Although we have filed multiple patent applications for our technology, our patent position is
subject to complex factual and legal issues that may give rise to uncertainty as to the validity, scope and enforceability of a particular patent. Accordingly, there can be no assurance that any
patents will be issued pursuant to our current or future patent applications or that patents issued pursuant to such applications will not be invalidated, circumvented or challenged. Moreover, there
can be no assurance that the rights granted under any such patents will provide
competitive advantages to us or be adequate to safeguard and maintain our proprietary rights. In addition, effective patent, trademark, copyright and trade secret protection may be unavailable,
limited or not applied for in certain foreign countries.

We
also seek to protect our proprietary intellectual property, including intellectual property that may not be patented or patentable, in part by confidentiality agreements and, if
applicable, inventor's rights agreements with our current and future strategic partners and employees. We cannot assure you

24

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that
these agreements will not be breached, that we will have adequate remedies for any breach or that such persons or institutions will not assert rights to intellectual property arising out of these
relationships.

Some
of our video phone intellectual property includes technologies and processes that may be similar to the patented technologies and processes of third parties. If we do not adequately
secure our freedom to use our video phone technology, we may have to pay others for rights to use their intellectual property, pay damages for infringement or misappropriation or be enjoined from
using such intellectual property. If we are found to be infringing third-party patents, we do not know whether we will be able to obtain licenses to use such patents on acceptable terms, if at all.
While we are not currently engaged in any material intellectual property disputes or litigation, we could become subject to lawsuits in which it is alleged that we have infringed the intellectual
property rights of others or commence lawsuits against others who we believe are infringing upon our rights. Our involvement in intellectual property litigation could result in significant expense to
us, adversely affecting the development of the challenged product or intellectual property and diverting the efforts of our technical and management personnel, whether or not such litigation concludes
favorably for our company.

Legal and regulatory developments could have adverse consequences for our business.

The legal and regulatory environment that pertains to our business is uncertain and changing rapidly. New legislation or regulations could be introduced that
could substantially impact our ability to launch and promote the Ojo video phone. For example, in the United States, the Federal Communications Commission (FCC) could undertake an examination of
whether to impose surcharges or additional regulations upon certain providers of Internet protocol, or IP, based communication services. The imposition of regulations on IP communications services may
negatively impact our business.

The use of the high speed data infrastructure as a commercial marketplace is at an early stage of development.

Demand and market acceptance for recently introduced products and services over the high speed data, or HSD, infrastructure are still uncertain. We cannot predict
whether customers will be willing to shift their traditional telephone activities online. The HSD infrastructure may not prove to be a viable commercial marketplace for a number of reasons, including:



If
the use of the HSD infrastructure as a commercial marketplace does not continue to grow, we may not be able to grow our customer base, which may prevent us from achieving
profitability.

We may not have sufficient working capital to fund our continuing video phone business, and we may be unable to obtain additional capital. If we obtain additional financing,
you may suffer significant dilution.

Despite the receipt of proceeds from the TVGateway transaction and several private placements of our securities, we may need to seek additional third party
investment during 2005 in order to provide additional working capital for our video phone business. We cannot be certain that financing from third

25

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parties
will be available on acceptable terms to us or at all. The extent and timing of our future capital requirements will depend upon several factors, including the rate of market acceptance of our
products, the degree of competition for our products, and our level of expenditures, including those for product development, sales and marketing. If our capital requirements vary materially from
those currently planned, we may require additional financing sooner than anticipated. The levels of funding of pre-revenue-stage companies generally by both venture funds and strategic
investors have fallen dramatically in the past few years. If we cannot raise funds on acceptable terms, we may not be able to develop our products and services, take advantage of future opportunities
or respond to competitive pressures or unanticipated requirements, any of which could have a material adverse effect on our ability to grow our business. If we are unable to secure such additional
financing, we will have to curtail or suspend our business activities and may have to seek protection of the bankruptcy courts. If that happens, you could lose your entire investment. If we cannot
raise additional financing on acceptable terms, we may not be able to continue to operate our business as a going concern. Further, if we issue equity securities, our shareholders may experience
severe dilution of their ownership percentage, and the new equity securities may have rights, preferences or privileges senior to those of our common stock. If our common stock is listed on The NASDAQ
National Market or The NASDAQ SmallCap Market at the time of the proposed equity financing resulting in the sale and issuance of twenty percent or more of the outstanding shares of our capital stock,
we may be required to obtain stockholder approval of such issuance. There can be no assurance that we will be able to obtain any necessary stockholder approval, and the failure to obtain such approval
could limit our ability to obtain needed capital. Due to the factors mentioned herein, our accountants have stated in their audit report that there is substantial doubt about our ability to continue
as a going concern.

In the event that our common stock is delisted from NASDAQ SmallCap Market, it may be subject to the requirements of the rules relating to "penny stocks."

Our common stock is currently listed on the NASDAQ SmallCap Market, which has requirements for the continued listing of stock. If we fail to continue to meet
these listing requirements we will become subject to delisting. For example, if our common stock trades below $1.00 for 30 consecutive trading days, or if we fail to meet any of the other listing
requirements including the market capitalization and minimum stockholders equity requirements, our common stock may be delisted from the NASDAQ SmallCap Market. If our shares are delisted from the
NASDAQ SmallCap Market, they are likely to become subject to the SEC penny stock rules, which could adversely affect the market liquidity of our
common stock. These rules impose additional sales practice requirements on broker-dealers that sell low-priced securities to persons other than established customers and institutional
accredited investors; and require the delivery of a disclosure schedule explaining the nature and risks of the penny stock market. As a result, the ability or willingness of broker-dealers to sell or
make a market in our common stock might decline, and you could find it more difficult to sell your stock.

Our stock price is volatile.

The trading price for our common stock has been volatile, ranging from a sales price of $0.22 in April 2003, to a sales price of over $6.00 per share in
December 2004. The price has changed dramatically over short periods with changes of over 60% percent in a single day. An investment in our stock is subject to such volatility and,
consequently, is subject to significant risk.

Prior offerings of our common stock may have an adverse impact on the market value of our stock.

During 2003 and 2004 we issued shares of our common stock as part of various private placements to certain institutional investors and as part of that transaction
filed three registration statements, which provided for the sale or distribution of these shares by these institutional investors. When these investors sell their shares we will not receive any
proceeds from the sales. The sale of these blocks of

26

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stock,
or even the possibility of its sale, may adversely affect the trading market for our common stock and reduce the price available in that market.

In
connection with these private placements, we also issued warrants and additional investment rights to purchase shares of common stock. The existence of such rights to acquire common
stock at fixed prices may prove a hindrance to our efforts to raise future equity and debt funding, and the exercise of such rights will dilute the percentage ownership interest of our stockholders
and may dilute the value of their ownership. The possible future sale of shares issuable on the exercise of outstanding warrants and additional investment rights could adversely affect the prevailing
market price of our common stock. Further, the holders of the outstanding warrants and additional investment rights may exercise them at a time when we would otherwise be able to obtain additional
equity capital on terms more favorable to us.

Our board of directors' right to authorize additional shares of preferred stock could adversely impact the rights of holders of our common stock.

Our board of directors currently has the right to designate and authorize the issuance of one or more series of our preferred stock with such voting, dividend and
other rights as our directors may determine. The board of directors can designate new series of preferred stock without the approval of the holders of our common stock. The rights of holders of our
common stock may be adversely affected by the rights of any holders of shares of preferred stock that may be issued in the future, including without limitation dilution of the equity ownership
percentage of our holders of common stock and their voting power if we issue preferred stock with voting rights. Additionally, the issuance of preferred stock could make it more difficult for a third
party to acquire a majority of our outstanding voting stock.

Item 7A. Quantitative and Qualitative Disclosures about Market Risk.

Refer to Interest Rate Risk and Foreign Currency Exchange Risk on page 19 for a discussion of this item.

27

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Item 8. Financial Statements and Supplementary Data.

WORLDGATE COMMUNICATIONS, INC.        INDEX TO FINANCIAL STATEMENTS

|                                                                                                                  |  | Page
|----------------------------------------------------------------------------------------------------------------- |  | ----
|Report of Grant Thornton LLP, Independent Registered Public Accounting Firm                                       |  | F-2 
|Report of PricewaterhouseCoopers LLP, Independent Registered Public Accounting Firm                               |  | F-3 
|Consolidated Balance Sheets as of December 31, 2003 and 2004                                                      |  | F-4 
|Consolidated Statements of Operations for the years ended December 31, 2002, 2003 and 2004                        |  | F-5 
|Consolidated Statements of Stockholders' (Deficiency) Equity for the years ended December 31, 2002, 2003 and 2004 |  | F-6 
|Consolidated Statements of Cash Flows for the years ended December 31, 2002, 2003 and 2004                        |  | F-7 
|Notes to Consolidated Financial Statements                                                                        |  | F-8 
|Schedule IIValuation and Qualifying Accounts*                                                                    |  | 33  

---

F-1

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Report of Independent Registered Public Accounting Firm

To
the Shareholders and Board of Directors
WorldGate Communications, Inc. and Subsidiaries

We
have audited the accompanying consolidated balance sheets of WorldGate Communications, Inc. and subsidiaries as of December 31, 2004 and 2003, and the related
consolidated statements of operations, stockholders equity, and cash flows for the years then ended. These financial statements are the responsibility of the Company's management. Our responsibility
is to express an opinion on these financial statements based on our audits.

We
conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform an audit of its internal
control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances,
but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements assessing the accounting principles used and significant estimates made by management, as well
as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In
our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of WorldGate Communications, Inc. and
subsidiaries as of December 31, 2004 and 2003, and the results of their operations and their cash flows for the years then ended, in conformity with accounting principles generally accepted in
the United States.

Our
audit was conducted for the purpose of forming an opinion on the basic financial statements taken as a whole. Schedule II is presented for purposes of additional analysis and
is not a required part of the basic financial statements. This schedule has been subjected to the auditing procedures applied in the
audit of the basic financial statements and, in our opinion, is fairly stated in all material respects in relation to the basic financial statements taken as a whole.

The
accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 2 to the financial statements, the
Company has suffered recurring losses from operations and has a net accumulated deficiency of $220 million that raises substantial doubt about its ability to continue as a going concern.
Management's plans in regard to these matters are also described in Note 2. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.

/s/
Grant Thornton LLP

Philadelphia,
Pennsylvania
February 24, 2005

F-2

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Report of Independent Registered Public Accounting Firm

To
the Shareholders and Board of Directors of
WorldGate Communications, Inc.:

In
our opinion, the consolidated statements of operations, stockholders' (deficiency) equity and of cash flows for the year ended December 31, 2002 listed in the accompanying
index present fairly, in all material respects, the results of operations and cash flows of WorldGate Communications, Inc. and its Subsidiaries for the year ended December 31, 2002, in
conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule listed in the accompanying index for the year
ending December 31, 2002 presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These
financial statements and financial statement schedule are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements and financial
statement schedule based on our audits. We conducted our audits of these statements in
accordance with the standards of the Public Company Accounting Oversight Board (United States), which require that we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our
opinion.

The
consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 2 to the financial statements, which
appears in the financial statements included in the Company's Form 10-K for the year ended December 31, 2002 and not presented herein, the Company has incurred recurring
losses from operations that raise substantial doubt about its ability to continue as a going concern. Management's plans in regard to these matters are also described in Note 2, which appears
in the financial statements included in the Company's Form 10-K for the year ended December 31, 2002 and not presented herein. The financial statements do not include any
adjustments that might result from the outcome of this uncertainty.

/s/
PricewaterhouseCoopers LLP

Philadelphia,
PA
February 14, 2003, except as to the discontinued operations described in Note 18 as to which the date is March 21, 2005.

F-3

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WORLDGATE COMMUNICATIONS, INC.        CONSOLIDATED BALANCE SHEETS        (DOLLARS IN THOUSANDS, EXCEPT SHARE AMOUNTS)

|                                                                                                                                                                                            |                                                                                                                         | December 31                                             |         
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ----------------------------------------------------------------------------------------------------------------------- | ------------------------------------------------------- | --------
|
|ASSETS                                                                                                                                                                                      |                                                                                                                         |                                                         |         
|Current assets:                                                                                                                                                                             |                                                                                                                         |                                                         |         
|                                                                                                                                                                                            | Cash and cash equivalents                                                                                               |                                                         | $       
|                                                                                                                                                                                            | Trade accounts receivable less allowance for doubtful accounts of $0 at December 31, 2004 and $381 at December 31, 2003 |                                                         |         
|                                                                                                                                                                                            | Other receivables                                                                                                       |                                                         |         
|                                                                                                                                                                                            | Inventory                                                                                                               |                                                         |         
|                                                                                                                                                                                            | Prepaid and other assets                                                                                                |                                                         |         
|                                                                                                                                                                                            |                                                                                                                         |                                                         |         
|                                                                                                                                                                                            |                                                                                                                         | Total current assets                                    |         
|                                                                                                                                                                                            |                                                                                                                         |                                                         |         
|Property and equipment                                                                                                                                                                      |                                                                                                                         |                                                         | 2,605   
|                                                                                                                                                                                            | Less: accumulated depreciation and amortization                                                                         |                                                         |         
|                                                                                                                                                                                            |                                                                                                                         |                                                         |         
|                                                                                                                                                                                            |                                                                                                                         | Property and equipment, net                             |         
|Deposits and other assets                                                                                                                                                                   |                                                                                                                         |                                                         | 140     
|                                                                                                                                                                                            |                                                                                                                         |                                                         |         
|                                                                                                                                                                                            |                                                                                                                         | Total assets                                            |         
|                                                                                                                                                                                            |                                                                                                                         |                                                         |         
|LIABILITIES AND STOCKHOLDERS' (DEFICIENCY) EQUITY                                                                                                                                           |                                                                                                                         |                                                         |         
|Current liabilities:                                                                                                                                                                        |                                                                                                                         |                                                         |         
|                                                                                                                                                                                            | Accounts payable                                                                                                        |                                                         | $       
|                                                                                                                                                                                            | Accrued expenses                                                                                                        |                                                         |         
|                                                                                                                                                                                            | Accrued compensation and benefits                                                                                       |                                                         |         
|                                                                                                                                                                                            | Dividend payable on Preferred Stock                                                                                     |                                                         |         
|                                                                                                                                                                                            | Detachable Warrants                                                                                                     |                                                         |         
|                                                                                                                                                                                            | Notes payable                                                                                                           |                                                         |         
|                                                                                                                                                                                            | Conversion option on Preferred Stock                                                                                    |                                                         |         
|                                                                                                                                                                                            | Deferred revenues                                                                                                       |                                                         |         
|                                                                                                                                                                                            | Deferred rent credit                                                                                                    |                                                         |         
|                                                                                                                                                                                            |                                                                                                                         |                                                         |         
|                                                                                                                                                                                            |                                                                                                                         | Total current liabilities                               |         
|Deferred rent credit                                                                                                                                                                        |                                                                                                                         |                                                         | 135     
|                                                                                                                                                                                            |                                                                                                                         |                                                         |         
|                                                                                                                                                                                            |                                                                                                                         | Total liabilities                                       |         
|                                                                                                                                                                                            |                                                                                                                         |                                                         |         
|Commitments                                                                                                                                                                                 |                                                                                                                         | $                                                       |        
|                                                                                                                                                                                            |                                                                                                                         |                                                         |         
|Redeemable Preferred Stock; 7,550,000 shares authorized, 0 shares issued and outstanding at December 31, 2003, and 6,775,000 outstanding at December 31, 2004                               |                                                                                                                         | $                                                       | 0       
|                                                                                                                                                                                            |                                                                                                                         |                                                         |         
|Total Stockholders' (deficiency) equity:                                                                                                                                                    |                                                                                                                         |                                                         |         
|Preferred Stock, $.01 par value, 5,950,000 shares authorized                                                                                                                                |                                                                                                                         | $                                                       | 0       
|Common Stock, $.01 par value; 80,000,000 shares authorized, 25,706,843 shares issued and outstanding at December 31, 2003 and 30,865,777 shares issued and outstanding at December 31, 2004 |                                                                                                                         |                                                         | 262     
|Additional paid-in capital                                                                                                                                                                  |                                                                                                                         |                                                         | 202,466 
|Unearned compensation                                                                                                                                                                       |                                                                                                                         |                                                         | (400    
|Accumulated deficit                                                                                                                                                                         |                                                                                                                         |                                                         | (198,643
|Less Treasury Stock, at cost 0 and 500,000 shares as of December 31, 2003 and 2004, respectively                                                                                            |                                                                                                                         |                                                         | (5      
|                                                                                                                                                                                            |                                                                                                                         |                                                         |         
|                                                                                                                                                                                            |                                                                                                                         | Total stockholders' (deficiency) equity                 |         
|                                                                                                                                                                                            |                                                                                                                         |                                                         |         
|                                                                                                                                                                                            |                                                                                                                         | Total liabilities and stockholders' (deficiency) equity |         
|                                                                                                                                                                                            |                                                                                                                         |                                                         |         

The accompanying notes are an integral part of these consolidated financial statements.

F-4

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WORLDGATE COMMUNICATIONS, INC.        CONSOLIDATED STATEMENTS OF OPERATIONS        (DOLLARS IN THOUSANDS, EXCEPT SHARE AMOUNTS)

|                                                                                |                                                                                                                 | 2002                                      |            | 2003 |   | 2004       |      
|------------------------------------------------------------------------------- | --------------------------------------------------------------------------------------------------------------- | ----------------------------------------- | ---------- | ---- | - | ---------- | -----
|Revenues                                                                        |                                                                                                                 | $                                         | 0          |      | $ | 0          |      
|Cost of revenues                                                                |                                                                                                                 |                                           | 0          |      |   | 0          |      
|                                                                                |                                                                                                                 |                                           |            |      |   |            |      
|Gross margins                                                                   |                                                                                                                 |                                           | 0          |      |   | 0          |      
|                                                                                |                                                                                                                 |                                           |            |      |   |            |      
|                                                                                | Engineering and development (excluding depreciation and amortization amounts of $0, $0, and $64, respectively). |                                           |            | 0    |   |            | 3,000
|                                                                                | Sales and marketing (excluding depreciation and amortization amounts of $0, $0 and $13, respectively).          |                                           |            | 0    |   |            | 466  
|                                                                                | General and administrative (excluding depreciation and amortization amounts of $0, $0 and $400, respectively).  |                                           |            | 0    |   |            | 3,031
|                                                                                | Depreciation and amortization                                                                                   |                                           |            | 0    |   |            | 0    
|                                                                                |                                                                                                                 |                                           |            |      |   |            |      
|                                                                                |                                                                                                                 | Total expenses from continuing operations |            |      | 0 |            |      
|                                                                                |                                                                                                                 |                                           |            |      |   |            |      
|Loss from operating activities of continuing operations                         |                                                                                                                 |                                           | 0          |      |   | (6,497     | )    
|Interest and other income                                                       |                                                                                                                 |                                           | 0          |      |   | 0          |      
|Change in fair value of warrants and conversion options                         |                                                                                                                 |                                           | 0          |      |   | 0          |      
|Interest and other expense                                                      |                                                                                                                 |                                           | 0          |      |   | 0          |      
|                                                                                |                                                                                                                 |                                           |            |      |   |            |      
|Loss from continuing operations                                                 |                                                                                                                 | $                                         | 0          |      | $ | (6,497     | )    
|Income (loss) from discontinued operations                                      |                                                                                                                 |                                           | (19,210    | )    |   | (2,908     | )    
|                                                                                |                                                                                                                 |                                           |            |      |   |            |      
|Net loss                                                                        |                                                                                                                 |                                           | (19,210    | )    |   | (9,405     | )    
|Accretion on preferred stock and dividends                                      |                                                                                                                 |                                           | 0          |      |   | 0          |      
|                                                                                |                                                                                                                 |                                           |            |      |   |            |      
|Net loss available to common stockholders                                       |                                                                                                                 | $                                         | (19,210    | )    | $ | (9,405     | )    
|                                                                                |                                                                                                                 |                                           |            |      |   |            |      
|Loss from continuing operations per common share (Basic and Diluted)            |                                                                                                                 | $                                         | 0.00       |      | $ | (0.28      | )    
|Income (loss) from discontinued operations per common share (Basic and Diluted) |                                                                                                                 |                                           | (0.81      | )    |   | (0.12      | )    
|                                                                                |                                                                                                                 |                                           |            |      |   |            |      
|Net loss per common share (Basic and Diluted)                                   |                                                                                                                 | $                                         | (0.81      | )    | $ | (0.40      | )    
|                                                                                |                                                                                                                 |                                           |            |      |   |            |      
|Net loss available to common shareholders per common share (Basic and Diluted)  |                                                                                                                 | $                                         | (0.81      | )    | $ | (0.40      | )    
|                                                                                |                                                                                                                 |                                           |            |      |   |            |      
|Weighted average common shares outstanding (Basic and Diluted)                  |                                                                                                                 |                                           | 23,573,935 |      |   | 23,259,611 |      
|                                                                                |                                                                                                                 |                                           |            |      |   |            |      

The
accompanying notes are an integral part of these consolidated financial statements.

F-5

---





WORLDGATE COMMUNICATIONS, INC.    CONSOLIDATED STATEMENTS OF STOCKHOLDERS' (DEFICIENCY) EQUITY    (DOLLARS AND SHARES IN THOUSANDS)

|                                                                  |  | Common Stock |   |   |     |   |   |         |  |   |        |   |   |          |  
|----------------------------------------------------------------- |  | ------------ | - | - | --- | - | - | ------- |  | - | ------ | - | - | -------- | -
|
|
|
|Balance at December 31, 2001                                      |  | 25,565       |   | $ | 236 |   | $ | 193,488 |  | $ | 1,911  |   | $ | (170,028 | )
|Authorization of deferred Compensation                            |  |              |   |   |     |   |   |         |  |   |        |   |   |          |  
|Sale of Common Stock                                              |  | 13           |   |   |     |   |   | 15      |  |   |        |   |   |          |  
|Acquisition of Treasury Stock                                     |  |              |   |   |     |   |   |         |  |   |        |   |   |          |  
|Otherincludes partial Contractual Obligation termination of $801 |  |              |   |   |     |   |   | 888     |  |   |        |   |   |          |  
|Net Loss for the year                                             |  |              |   |   |     |   |   |         |  |   |        |   |   | (19,210  | )
|                                                                  |  |              |   |   |     |   |   |         |  |   |        |   |   |          |  
|Balance at December 31, 2002                                      |  | 23,578       |   |   | 236 |   |   | 194,391 |  |   | 1,911  |   |   | (189,238 | )
|                                                                  |  |              |   |   |     |   |   |         |  |   |        |   |   |          |  
|Remaining portion of unearned compensation to vendor              |  |              |   |   |     |   |   |         |  |   |        |   |   |          |  
|Non-cash stock based Compensation                                 |  |              |   |   |     |   |   | 817     |  |   |        |   |   |          |  
|Issuance of Common Stock                                          |  | 2,629        |   |   | 26  |   |   | 2,175   |  |   |        |   |   |          |  
|Termination of Warrants                                           |  |              |   |   |     |   |   | 1,911   |  |   | (1,911 | ) |   |          |  
|Otherincludes final Contractual Obligation termination of $3,283 |  |              |   |   |     |   |   | 3,172   |  |   |        |   |   |          |  
|Net Loss for the year                                             |  |              |   |   |     |   |   |         |  |   |        |   |   | (9,405   | )
|                                                                  |  |              |   |   |     |   |   |         |  |   |        |   |   |          |  
|Balance at December 31, 2003                                      |  | 26,207       |   |   | 262 |   |   | 202,466 |  |   |       |   |   | (198,643 | )
|                                                                  |  |              |   |   |     |   |   |         |  |   |        |   |   |          |  
|Authorization of earned compensation to vendor                    |  |              |   |   |     |   |   |         |  |   |        |   |   |          |  
|Non-cash stock based Compensation                                 |  |              |   |   |     |   |   | 1,332   |  |   |        |   |   |          |  
|Cancellation of Treasury Stock                                    |  | (500         | ) |   | (5  | ) |   |         |  |   |        |   |   |          |  
|Issuance of Common Stock                                          |  | 2,361        |   |   | 23  |   |   | 3,668   |  |   |        |   |   |          |  
|Exercise of Stock Options                                         |  | 446          |   |   | 4   |   |   | 809     |  |   |        |   |   |          |  
|Exercise of Warrants                                              |  | 2,352        |   |   | 24  |   |   | 5,588   |  |   |        |   |   |          |  
|Accretion on preferred stock and dividends                        |  |              |   |   |     |   |   |         |  |   |        |   |   | (951     | )
|Net Loss for the year                                             |  |              |   |   |     |   |   |         |  |   |        |   |   | (20,149  | )
|                                                                  |  |              |   |   |     |   |   |         |  |   |        |   |   |          |  
|Balance at December 31, 2004                                      |  | 30,866       |   | $ | 308 |   | $ | 213,863 |  | $ |       |   | $ | (219,743 | )
|                                                                  |  |              |   |   |     |   |   |         |  |   |        |   |   |          |  

The accompanying notes are an integral part of these consolidated financial statements

F-6

---



WORLDGATE COMMUNICATIONS, INC.        CONSOLIDATED STATEMENTS OF CASH FLOWS        (DOLLARS IN THOUSANDS)

|                                                               |                                                                                                  | 2002                                                            |                                              | 2003                              |                                                                      | 2004  |       
|-------------------------------------------------------------- | ------------------------------------------------------------------------------------------------ | --------------------------------------------------------------- | -------------------------------------------- | --------------------------------- | -------------------------------------------------------------------- | ----- | ------
|Cash flows from operating activities:                          |                                                                                                  |                                                                 |                                              |                                   |                                                                      |       |       
|                                                               | Net loss                                                                                         |                                                                 | $                                            | (19,210                           | )                                                                    | $     | (9,405
|                                                               | Income (loss) from discontinued operations                                                       |                                                                 |                                              | 19,210                            |                                                                      |       | 2,908 
|                                                               | Adjustments to reconcile net loss to cash used in operating activities of continuing operations: |                                                                 |                                              |                                   |                                                                      |       |       
|                                                               |                                                                                                  | Depreciation and amortization                                   |                                              |                                   | 0                                                                    |       |       
|                                                               |                                                                                                  | Non-cash stock based compensation to product development vendor |                                              |                                   | 0                                                                    |       |       
|                                                               |                                                                                                  | Change in fair value of warrants and conversion options         |                                              |                                   | 0                                                                    |       |       
|                                                               |                                                                                                  | Non-cash stock based compensation                               |                                              |                                   | 0                                                                    |       |       
|                                                               |                                                                                                  |                                                                 | Changes in operating assets and liabilities: |                                   |                                                                      |       |       
|                                                               |                                                                                                  |                                                                 |                                              | Accounts receivable               |                                                                      |       | 0     
|                                                               |                                                                                                  |                                                                 |                                              | Inventory                         |                                                                      |       | 0     
|                                                               |                                                                                                  |                                                                 |                                              | Prepaid and other assets          |                                                                      |       | 0     
|                                                               |                                                                                                  |                                                                 |                                              | Accounts payable                  |                                                                      |       | 0     
|                                                               |                                                                                                  |                                                                 |                                              | Accrued expenses                  |                                                                      |       | 0     
|                                                               |                                                                                                  |                                                                 |                                              | Accrued compensation and benefits |                                                                      |       | 0     
|                                                               |                                                                                                  |                                                                 |                                              | Other                             |                                                                      |       | 0     
|                                                               |                                                                                                  |                                                                 |                                              |                                   |                                                                      |       |       
|                                                               |                                                                                                  |                                                                 |                                              |                                   | Net operating cash flow from continuing operations                   |       |       
|                                                               |                                                                                                  |                                                                 |                                              |                                   | Net operating cash flow from discontinued operations                 |       |       
|                                                               |                                                                                                  |                                                                 |                                              |                                   |                                                                      |       |       
|                                                               |                                                                                                  |                                                                 |                                              |                                   | Net cash used in operating activities                                |       |       
|                                                               |                                                                                                  |                                                                 |                                              |                                   |                                                                      |       |       
|Cash flows from investing activities of continuing operations: |                                                                                                  |                                                                 |                                              |                                   |                                                                      |       |       
|                                                               | Capital expenditures from continuing operations                                                  |                                                                 |                                              | 0                                 |                                                                      |       | 0     
|                                                               | Net investing cash flow from discontinued operations                                             |                                                                 |                                              | 7,937                             |                                                                      |       | 6,788 
|                                                               |                                                                                                  |                                                                 |                                              |                                   |                                                                      |       |       
|                                                               |                                                                                                  |                                                                 |                                              |                                   | Net cash used by investing activities                                |       |       
|                                                               |                                                                                                  |                                                                 |                                              |                                   |                                                                      |       |       
|Cash flows from financing activities of continuing operations: |                                                                                                  |                                                                 |                                              |                                   |                                                                      |       |       
|                                                               | Proceeds from issuance of common stock                                                           |                                                                 |                                              | 0                                 |                                                                      |       | 1,490 
|                                                               | Proceeds from the issuance of redeemable preferred stock                                         |                                                                 |                                              | 0                                 |                                                                      |       | 0     
|                                                               | Proceeds from the exercise of stock options                                                      |                                                                 |                                              | 0                                 |                                                                      |       | 0     
|                                                               | Proceeds from the exercise of stock rights and warrants                                          |                                                                 |                                              | 0                                 |                                                                      |       | 0     
|                                                               |                                                                                                  |                                                                 |                                              |                                   |                                                                      |       |       
|                                                               |                                                                                                  |                                                                 |                                              |                                   | Net cash provided by financing activities from continuing operations |       |       
|                                                               | Net financing cash flow from discontinued operations                                             |                                                                 |                                              | 63                                |                                                                      |       | (610  
|                                                               |                                                                                                  |                                                                 |                                              |                                   |                                                                      |       |       
|                                                               |                                                                                                  |                                                                 |                                              |                                   | Net cash provided by financing activities                            |       |       
|                                                               |                                                                                                  |                                                                 |                                              |                                   |                                                                      |       |       
|Net increase (decrease) in cash and equivalents                |                                                                                                  |                                                                 | (2,767                                       | )                                 |                                                                      | 2,776 |       
|Cash and cash equivalents, beginning of year                   |                                                                                                  |                                                                 | 3,356                                        |                                   |                                                                      | 589   |       
|                                                               |                                                                                                  |                                                                 |                                              |                                   |                                                                      |       |       
|Cash and cash equivalents, end of year                         |                                                                                                  | $                                                               | 589                                          |                                   | $                                                                    | 3,365 |       
|                                                               |                                                                                                  |                                                                 |                                              |                                   |                                                                      |       |       

The
accompanying notes are an integral part of these consolidated financial statements.

F-7

---





WORLDGATE COMMUNICATIONS, INC.        NOTES TO CONSOLIDATED FINANCIAL STATEMENTS        (Dollars in thousands except for share and per share amounts)

1.     Basis of Presentation

The consolidated financial statements of WorldGate Communications, Inc. ("WorldGate" or the "Company") presented herein have been prepared by the Company
pursuant to the rules and regulations of the Securities and Exchange Commission for annual reports on Form 10-K. WorldGate was incorporated in Delaware in 1996 to succeed to the
business of the predecessor company, WorldGate Communications, L.L.C., which commenced operations in March 1995. WorldGate has developed a video phone designed specifically for personal video
communication, and is differentiated, both from competitors and from previous efforts at personal video telephony, by providing: true-to-life communication; ease of deployment
by high-speed data, or HSD, operators as well as businesses; a highly styled ergonomic design; and interoperation with the public switched telephone network, or PSTN.

The
consolidated financial statements of the company include the accounts of WorldGate Communications, Inc. and its wholly owned subsidiaries WorldGate Service, Inc.,
WorldGate Finance, Inc., and WorldGate Acquisition Corp. All significant intercompany accounts and transactions have been eliminated in consolidation.

2.     Summary of Significant Accounting Policies

Liquidity and Going Concern Considerations.

As of December 31, 2004 the Company had cash and cash equivalents of $11,840. The operating cash usage from continuing operations for the twelve months
ended December 31, 2004 was $7,084. During the third quarter of 2003, we completed a sale of certain assets, including our ITV intellectual property rights and our membership interest in
TVGateway, LLC, for $3,000 in cash to TVGateway, LLC, a company we were instrumental in forming. Our transaction with TVGateway, LLC marked a shift in our business away from the ITV business and
toward a new video phone product and associated business. The funds we received from the sale of assets to TVGateway, LLC, as well as the funds we received as a result of private placements of our
securities on December 1, 2003 and December 4, 2003, January 21, 2004, April 22, 2004, June 23, 2004 and December 15, 2004, have permitted us to fund the
development of our new business.

In
December 2003 and January 2004, WorldGate received investments aggregating $3,100 by certain institutional investors. These investors purchased an aggregate of 3,000,000
shares of newly issued common stock. The investors also received a right, for a limited period of time, to purchase additional shares of up to 20% of the common stock purchased by the investors in
their investment, at the same price as their investment, and five-year warrants to purchase up to 30% of the common stock purchased by the investors in their investment, at an exercise
price equal to a twenty-five percent premium to their purchase price for the investment. The purchase price for the 2 million shares purchased in the December 2003
transactions were $0.80 per share, with the warrants having a $1.00 per share exercise price. The purchase price for the 1 million shares purchased in the January 2004 transaction was
$1.50 per share, with the warrants having a $1.875 per share exercise price. All additional investment rights associated with the December 2003 transaction were exercised during January and
February of 2004, resulting in an incremental investment of $320. All additional investment rights associated with the January 2004 transaction were exercised in May 2004, resulting in
an incremental investment of $300. A portion of the warrants and additional investment right warrants associated with the December 2003 and January 2004 transactions were exercised in
December 2004, resulting in an incremental investment of $281.

F-8

---



In
December 2003, WorldGate reached agreement with Mototech, Inc. for the purchase of 625,000 shares of newly issued common stock at $0.80 per share, in return for future
design and engineering services by Mototech. WorldGate had previously contracted with Mototech to assist the Company with the design and volume manufacture of WorldGate's Ojo personal video phone. The
purchase price for these shares has been fully paid as of December 31, 2004 by an equivalent reduction in the development and initial procurement payments that would otherwise be due to
Mototech. As of December 31, 2004, that payment was $500. Mototech is an affiliate of Accton Technology Group. Mototech currently manufactures and distributes a full range of high performance
high speed data and computer
networking products, including cable set top boxes, home gateways, wireless LANs, hubs, switches, routers, and other related products. In addition, in April 2004, Mototech invested
$1 million to purchase 666,666 shares of newly issued common stock at $1.50 per share.

In
June 2004, WorldGate completed a private placement of 7,550 shares of its Series A Preferred Stock at a stated value of $1000 per share, which preferred stock is
convertible into the Company's common stock at a conversion price of $2.35 per share; five-year warrants to purchase up to 803,190 shares of our common stock at an exercise price of $2.69
per share; and five-year warrants to purchase up to 803,190 shares of our common stock at an exercise price of $3.14 per share. The investors also received an additional investment right,
for a limited period of time, to purchase 1,606,383 additional shares of common stock shares at $3.14 a share. In November and December 2004, 775 preferred shares were converted to common
stock, and in December 2004, 1,500,000 additional investment rights were exercised, resulting in an incremental investment of $4,710.

In
December 2004, WorldGate completed a private placement of 208,333 shares of our common stock to K. Y. Chou, president of Mototech, at a sales price of $2.40 per shares, which
resulted in additional gross proceeds to the Company of $500,000. In connection with this placement the Company granted warrants to Mr. Chou to purchase up to 62,500 shares of our common stock
at an exercise price of $2.88 per share.

The
Company has $16,399 of liabilities and its assets are not pledged as collateral as of December 31, 2004. These liabilities include $14,280 related to the Company's private
placement of Series A Preferred Stock (refer to Footnote 5), and $369 of advanced funds from Motorola for future shipments of video phones in conformity with the Agreement signed in
April 2004.

The
Company continues to evaluate possibilities to obtain additional financing through public or private equity or debt offerings, bank debt financing, asset securitizations, or from
other sources, should it need to obtain such financing. Such additional financing would be subject to the risk of availability, may be dilutive to our shareholders, or could impose restrictions on
operating activities. There can be no assurance that this additional financing will be available on terms acceptable to the Company, if at all. The Company has limited capacity to further reduce its
workforce and scale back on capital and operational expenditures to decrease its cash usage given the measures it has already taken to reduce staff and expenses.

The
consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities and commitments in the
normal course of business. Therefore, the financial statements do not include any adjustments relating to the Company's ability to operate as a going concern. The appropriateness of using the going
concern basis in the future, however, will be dependent upon the Company's ability to address its liquidity needs as described above. There is no assurance that the Company will be able to address its
liquidity needs through the measures described above on acceptable terms and conditions, or at all, and accordingly, there is substantial doubt about the Company's ability to continue as a going
concern. The independent auditors' report for the year ended December 31, 2004 included an explanatory paragraph stating that because the Company had suffered recurring losses from operations
and had a net accumulated

F-9

---



deficiency
of $220 million, those issues raised substantial doubt about the Company's ability to continue as a going concern.

Use of Estimates

The
preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities, at the date the financial statements and the reported amount of revenues and expenses during the
reporting period. Actual results could differ from those estimates.

Cash and Cash Equivalents

The Company considers all highly liquid investments with original maturities of three months or less to be cash equivalents. The Company maintains cash balances
at financial institutions, which at times exceed the $100 FDIC limit.

Inventories

Inventories are stated at the lower of cost or market on an average cost basis.

Property and Equipment

Property and equipment is carried at original cost. Depreciation is recorded on the straight-line method over the estimated useful lives of the
related assets. The Company depreciates furniture and fixtures over seven years; office equipment over five years; and computer equipment and trade show exhibits over three years. Leasehold
improvements are capitalized and amortized on the straight-line basis over the shorter of their useful life or the term of the lease. Maintenance and repairs are expensed as incurred. When
the property or equipment is retired or otherwise disposed of, related costs and accumulated depreciation are removed from the accounts and any resulting gain or loss is included in operations.

Goodwill

Goodwill in the amount of $3,608 was recorded in connection with the Company's acquisition of Digital Video Art, Inc. ("DVA") and represents the excess of
cost over the fair value of net assets acquired. On January 1, 2002, the Company adopted Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible
Assets." This pronouncement changes the accounting for goodwill and intangible assets with indefinite lives from an amortized method to an impairment approach. SFAS No. 142 requires that
goodwill and intangible assets be tested annually for impairment using a two-step process. The first step is to identify a potential impairment and, in transition, this step must be
measured as of the beginning of the fiscal year. The second step of the goodwill impairment test measures the amount of the impairment loss (measured as of the beginning of the year of adoption), if
any, and must be completed by the end of the Company's fiscal year. The Company's transitional impairment test, measured as of January 1, 2002, did not result in an impairment loss. However, as
described in Note 5, an impairment of our goodwill was recorded in the second quarter of 2002.

Long-lived Assets

The Company periodically evaluates the carrying value of long-lived assets when events and circumstances warrant such review. The carrying value of a
long-lived asset is considered impaired when the anticipated undiscounted cash flows from such assets are separately identifiable and are less than the carrying value. In that event, a
loss is recognized based on the amount by which the carrying

F-10

---



value
exceeds the fair market value of the long-lived asset. Fair market value is determined by using the anticipated cash flows discounted at a rate commensurate with the risk involved.
Measurement of the impairment, if any, will be based upon the difference between carrying value and the fair value of the asset.

On
January 1, 2002, the Company adopted SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets". SFAS No. 144 provides new
guidance on the recognition of impairment losses on long-lived assets to be held and used or to be disposed of, and also broadens the definition of what constitutes a discontinued
operation and how the results of a discontinued operation are to be measured and presented.

Accounting for Preferred Shares

The Company accounts for preferred stock in accordance with EITF topic D-98 "Classification and Measurement of Redeemable Securities", and as a result
the Redeemable Preferred Stock was recorded in the financial statements as temporary equity. Additionally, the fair value of warrants and preferred stock conversion options were recorded into the
financial statements as liabilities as a result of their features that require accounting under FAS 133 "Accounting for derivative instruments and hedging activities." At each reporting balance
sheet date, an evaluation is made of these valuations and marked to market.

Revenue Recognition

Revenue is recognized when persuasive evidence of an arrangement exists, the price is fixed or determinable, the collectability is reasonably assured, and either
the delivery and acceptance of the equipment has occurred or services have been rendered.

Cost of Revenues

Cost of equipment product revenues reflects the purchase of video phones from the Company's supplier Mototech.

Engineering and Development Costs

Engineering and development costs are expensed as incurred. Engineering and development costs from continuing operations were $0, $3,000 and $4,001 for the years
ended December 31, 2002, 2003 and 2004, respectively.

Advertising Costs

Advertising costs, included in sales and marketing expense, are expensed in the period incurred. Advertising expenses from continuing operations were $0, $43 and
$50 for the years ended December 31, 2002, 2003 and 2004, respectively.

Income Taxes

Provision for income taxes is determined based on the asset and liability method. The asset and liability method provides that deferred tax balances are recorded
based on the difference between the tax basis of assets and liabilities and their carrying amounts for financial reporting purposes. Deferred tax liabilities or assets at the end of each period are
determined using the tax rate enacted under the current tax law. The measurement of net deferred tax assets is reduced by the amount of any tax benefits that, based on available evidence, are not
expected to be realized, and a corresponding valuation allowance is established.

F-11

---



Stock-Based Compensation

The Company accounts for stock-based compensation in accordance with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees," and related interpretations and has presented the required SFAS No. 123, "Accounting for Stock-Based Compensation," as amended by SFAS No. 148, "Accounting for Stock-Based
CompensationTransition and Disclosure," pro forma disclosure in the table below.

At
December 31, 2004, the Company had stock based compensation plans, which are described separately in Note 8. The Company applies Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees" and related interpretations in accounting for its plans, and accordingly, no compensation cost has been recognized for the Company's fixed
stock based compensation. Had compensation cost been determined consistent with SFAS No. 123, as amended by SFAS No. 148, the Company's net loss would have been increased to the
following pro forma amounts:

|                                                                                                                                  |  | Year Ended December 31 |        
|--------------------------------------------------------------------------------------------------------------------------------- |  | ---------------------- | -------
|
|Loss from continuing operations                                                                                                   |  | $                      | 0      
|Income (loss) from discontinued operations                                                                                        |  |                        | (19,210
|                                                                                                                                  |  |                        |        
|Net loss                                                                                                                          |  |                        | (19,210
|Accretion on preferred stock and dividends                                                                                        |  |                        | 0      
|                                                                                                                                  |  |                        |        
|Net loss available to common shareholders, as reported                                                                            |  | $                      | (19,210
|Add: Stock-based employee compensation expense included in reported net income, net of related tax effects                        |  |                        | 192    
|Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of tax of $0 |  |                        | (4,631 
|                                                                                                                                  |  |                        |        
|Pro forma net income                                                                                                              |  | $                      | (23,649
|                                                                                                                                  |  |                        |        
|Net loss per share:                                                                                                               |  |                        |        
|Basic and diluted loss from continuing operations                                                                                 |  | $                      | 0.00   
|Basic and diluted income (loss) from discontinued operations                                                                      |  |                        | (0.81  
|                                                                                                                                  |  |                        |        
|Basic and diluted net lossas reported                                                                                            |  | $                      | (0.81  
|                                                                                                                                  |  |                        |        
|Basic and diluted net loss available to common shareholdersas reported                                                           |  | $                      | (0.81  
|                                                                                                                                  |  |                        |        
|Basic and diluted net loss available to common shareholderspro forma                                                             |  | $                      | (1.00  
|                                                                                                                                  |  |                        |        

Such
pro forma disclosures may not be representative of future compensation expense because options vest over several years and additional grants are made each year.

Net Loss Per Share (Basic and Diluted)

Basic and diluted net loss per common share is computed by dividing the net loss available to common stockholders for the period by the weighted average number of
shares of common stock outstanding during the period. The calculation of diluted net loss per common share excludes potential common shares if the effect is antidilutive. Potential common shares are
composed of shares of common stock issuable upon the exercise of stock options and warrants. The number of potential common shares which would have been assumed to be converted in the years ended
December 31, 2002, 2003, and 2004 that have a dilutive effect if the Company had income from continuing operations is 6,001,324, 7,243,403 and 11,295,669, respectively.

F-12

---



Comprehensive Loss

As it relates to the Company, components of comprehensive loss include net loss and unrealized gains and losses on available for sale securities. For the years
ended December 31, 2002, 2003 and 2004, net loss and comprehensive loss were identical because the carrying value of the Company's available for sale securities equaled the fair market value of
such securities.

Fair Value of Financial Instruments

The Company's financial instruments consist primarily of cash and cash equivalents, embedded derivatives, accounts receivable and accounts payable. The book value
of cash and cash equivalents, accounts receivable, and accounts payable is considered to be representative of their fair value because of their short maturities.

Concentration of Credit Risk

Financial instruments that potentially subject the Company to a concentration of credit risk principally consist of cash and cash equivalents and accounts
receivable. The Company has its cash and cash equivalents placed with high quality, creditworthy financial institutions. As part of its cash management process, the Company performs periodic
evaluation of the relative credit standing of these institutions.

Accounts
receivables consisted of receivables from cable operators in 2003. In 2004, accounts receivable consists of receivables with our video phone distribution partner. In 2003, a
significant portion of our revenues were generated from outside the U.S. The Company performs ongoing credit evaluations of its customers' financial condition and generally requires no collateral. In
2003, the Company established allowances for potential credit losses and such losses did not exceed management expectations.

Accounts
receivable from major customers in excess of 10% of total accounts receivable were as follows (2003 percentages were from discontinued operations, there were no
continuing operation sales in 2002 and 2003):

Customer

2003

2004A



B

36
%
C

6
%
D

10
%
E



52
%



Sales
to major customers, in excess of 10% of total revenues, were as follows for each of the years ended December 31 (years 2002 and 2003 percentages were from
discontinued operations, there were no continuing operation sales in 2002 and 2003):

Customer

2002

2003

2004A

84
%
48
%
E





100
%


F-13

---



Revenues from continuing operations by geographic area are attributed to the United States in 2004.

At
December 31, 2004, all of the Company's long-lived assets, which total $3,530, are located in the United States, except for $650 located in Taiwan, R.O.C.

Recent Accounting Pronouncements

In January 2003, the FASB issued Interpretation No. 46,Consolidation of Variable Interest Equities.
Interpretation No. 46 addresses consolidation by business enterprises of variable interest entities, which are entities that either (a) do not have equity investors with vesting rights
or (b) have equity investors that do not provide sufficient financial resources for the entity to support its activities. The interpretation is effective immediately for variable interest
entities created after February 1, 2003. In December 2003, the FASB published FASB Interpretation No. 46 (R),Consolidation of Variable Interest
Entities(FIN 46(R)). FIN 46(R), among other things, defers the effective date of implementation for certain entities. The revised interpretation is effective for the first
interim or annual reporting period ending after March 15, 2004, with the exception of structures that are commonly referred to as special-purpose entities, for which the statement is effective
for periods ending after December 15, 2003. The adoption of Interpretation No. 46 did not have a material impact on WorldGate's results of operations or financial position.

In
November 2004, the FASB issued SFAS No. 151 "Inventory Costs" which amends the guidance in ARB No. 43, Chapter 4 "Inventory Pricing," to clarify the accounting
for abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage). Paragraph 5 of ARB 43, Chapter 4, previously stated that under some
circumstances, items such as idle facility expense, excessive spoilage, double freight, and rehandling costs may be so abnormal as to require treatment as current period charges." SFAS No. 151
requires that those items be recognized as current period charges regardless of whether they meet the criterion of "so abnormal." In addition, SFAS No. 151 requires that allocation of fixed
production overheads to the costs of conversion be based on the normal capacity of the production facilities. SFAS No. 151 shall be effective for inventory costs incurred during fiscal years
beginning after June 15, 2005. Earlier application is permitted for inventory costs incurred during fiscal years beginning after the date SFAS No. 151 was issued. SFAS No. 151
shall be applied prospectively. The Company does not expect the adoption of SFAS No. 151 to have a material effect on its consolidated financial statements.

In
December 2004, the FASB issued SFAS No. 153 "Exchanges of Nonmonetary Assets" which amends APB Opinion No. 29, "Accounting for Nonmonetary Transactions." APB
No. 29 is based on the principle that exchanges of nonmonetary assets should be measured based on the fair value of the assets exchanged. The guidance in that Opinion, however, included certain
exceptions to that principle. SFAS No. 153 amends APB No. 29 to eliminate the exception for nonmonetary exchanges of similar productive assets and replaces it with a general exception
for exchanges of nonmonetary assets that do not have commercial substance. A nonmonetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly
as a result of the exchange, SFAS No. 153 shall be effective for nonmonetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. Earlier application is permitted
for nonmonetary asset exchanges occurring in fiscal periods beginning after the date SFAS No. 153 was issued. SFAS No. 153 shall be applied prospectively. The Company does not expect the
adoption of SFAS No. 153 to have a material effect on its consolidated financial statements.

In
December 2004, the FASB issued SFAS No. 123 (R), "Share-Based Payment" that focuses primarily on accounting for transactions in which an entity obtains employee services in
share-based payment transactions. This statement replaces SFAS No. 123, "Accounting for Stock-Based Compensation", and supersedes APB Opinion No. 25, "Accounting for Stock Issued to
Employees."

F-14

---



Beginning
with our quarterly period that begins after June 15, 2005, we will be required to expense the fair value of employee stock options and similar awards. As a public company, we are
allowed to select from two alternative transition methods, each having different reporting implications. The impact of SFAS No. 123R has not been determined at this time.

3.     Inventories

Inventories as of December 31, 2003 and 2004 are summarized as follows:

2003

2004Raw material (from discontinued operations)

$
1,622

$
1,622Work-in-progress





Finished goods (from continuing operations)





46Inventory held by customers and vendors





Total Inventory

$
1,622

$
1,668Inventory Reserve

$
(1,622
)
$
(1,622
)Inventory

$


$
46


During
the year ended December 31, 2003, as a response to the continued slow economy, turmoil in the cable industry and the Company's slower than expected deployment of
WorldGate's ITV products and services, the Company periodically re-evaluated its inventory and determined that it was in excess of foreseeable needs and should be resold. The carrying
values of the inventory that were identified to be used in operations were written down to market value. Total charges to reduce the carrying amount of inventory to the lower of cost of market was
$3,037 for the year ended December 31, 2003. These non-cash charges are included in the "Income (loss) from discontinued operations "line item on the consolidated statements of
operations. There were no further reduction of inventory values to market values in 2004.

4.     Property and Equipment

Property and equipment consist of the following at December 31, 2003 and 2004:

2003

2004(Dollars in Thousands)Computer equipment and system packages

$
965

$
1,034Office equipment


211


211Furniture and fixtures


625


625Hardware, software and tooling





856Leasehold improvements


804


8042,605


3,530Less accumulated depreciation and amortization


(1,338
)

(1,815
)Property and equipment, net

$
1,267

$
1,715


Depreciation
and amortization on property and equipment in the amount of $1,158, $742 and $477 was recorded for each of the three years ending December 31, 2002, 2003 and 2004,
respectively.

5.     Goodwill

The Company had goodwill of $3,608 and accumulated amortization of $602 at December 31, 2001. In accordance with SFAS No. 142, no goodwill
amortization expense was recognized during the twelve month period ended December 31, 2002. During the second quarter of 2002, in an effort to cut

F-15

---



costs
and achieve operational efficiencies, the Company commenced the termination of all personnel of the former Digital Video Art, Inc. ("DVA") who performed engineering development services.
In conjunction with this action, it was determined that the carrying amount of the Company's remaining goodwill exceeded its fair value. As such, the Company measured the impairment loss by the amount
the carrying value exceeded the implied fair value of the goodwill. The amount of the non-cash impairment loss was $3,006 and is included in the loss from discontinued operations. The fair
value of goodwill was estimated using the expected present value of future cash flows.

6.     Financing Agreements

During 2004, the Company financed its Directors and Officers' Insurance Policy for the policy period ending April 15, 2005. At December 31, 2004,
the remaining unpaid portion of the note payable totaled $37. This balance was paid subsequent to year end. The weighted average interest rate on the outstanding note payable for the year ended
December 31, 2004 was 4.25%. At December 31, 2003, the Directors and officers' Insurance Policy was paid in full for the policy period ending April 15, 2004.

7.     Income Taxes

The significant components of deferred tax assets at December 31, 2003 and 2004 are as follows:

2003

2004(Dollars in Thousands)Federal tax loss carryforward

$
60,726

$
64,979State tax loss carryforward


8,270


10,352Property and equipment


688


157Research and experimentation credit


2,637


2,739Officers' compensation, accrued expenses and other


426


1,063Bad debt expense


154


72,901


79,290Less: valuation allowance


(72,901
)

(79,290
)





A
valuation allowance was established against the Company's net deferred tax asset due to the Company's lack of earnings history and, accordingly, the uncertainty as to the realization
of the asset. A portion of the gross deferred asset and related valuation allowance is attributable to stock option expense. To the extent that such assets are realized in the future, the benefit is
applied to equity.

At
December 31, 2004, the Company had a net operating loss carryforward of approximately $191,112 for federal tax purposes, expiring between 2012 and 2024 if not utilized. The net
operating loss carryforward for state tax purposes is approximately $103,624, which will expire in 2024. These carryforwards may be applied as a reduction to future taxable income of the Company, if
any. The state net operating loss carryforwards are limited by state tax law to a maximum utilization of $2,000 per year. The Company also has federal and state research and experimentation credit
carryforwards of approximately $2,739 and $52, respectively. The federal research and experimentation credit carryforwards expire between 2012 and 2024 and the state research and experimentation
credit carryforward expires 2017. The Company's ability to utilize its net operating loss carryforwards and credit carryforwards may be subject to annual limitations as a result of prior or future
changes in ownership and tax law as defined under Section 382 of the Internal Revenue Code of 1986. Such limitations are based on the market value of the Company at the time of ownership change
multiplied by the long-term exempt note supplied by the Internal Revenue Service.

F-16

---



8.     Stockholders' Equity

Preferred Stock

The Company has the authority to issue from time to time up to an aggregate of 13,500,000 shares of preferred stock in one or more classes or series and to
determine the designation and the number of shares of any class or series as well as the voting rights, preferences, limitations and special rights, if any, of the shares of any class or series. The
issuance of preferred stock may have the effect of delaying, deferring or preventing a change of control of our company. At December 31, 2004 there were 6,775,000 shares of preferred stock
outstanding.

Redeemable Preferred Stock

In June 2004, WorldGate completed a private placement of 7,550 shares of its Series A Preferred Stock at a stated value of $1000 per share, which preferred
stock is convertible into the Company's common stock at a conversion price of $2.35 per share. The Company has the right to require conversion of the preferred stock into common stock upon achieving
certain price targets with respect to its common stock and the satisfaction of certain other conditions. As of December 31, 2004 such conditions were not met. As part of the transaction, the
company issued five-year detachable warrants to purchase a total of 1.6 million shares of the Company's common stock, with one-half of the warrants having an exercise
price of $2.69 per share and the remaining half having an exercise price of $3.14 per share. The preferred stock has a dividend rate of 5% per annum, payable quarterly, which may be paid either by
cash or through the issuance of common stock at the Company's option (with stock payments being made at a 10% discount to the then current market price). The preferred stock has a staged maturity over
three years with scheduled payments of one third due after 18 months, one half of the remainder due after 24 months and the balance due after 36 months. The preferred stock may be
redeemed at maturity in cash or through the issuance of common stock, at the Company's option (with stock payments being made at their current market price). All dividend and maturity payments made in
stock are subject to the satisfaction of certain conditions including the listing of the stock and availability of an effective registration statement. The investors also received an additional
investment right, for a limited period of time, to purchase 1.6 million additional shares of common stock shares at $3.14 a share. In November and December 2004, 775 preferred shares were
converted to common stock, and in December 2004 and February 2005, 1,606,383 additional investment rights were exercised, resulting in an incremental investment of $5,044.

In
accordance with EITF topic D-98 "Classification and Measurement of Redeemable Securities", the Redeemable Preferred Stock was recorded in the financial statements as
temporary equity. At December 31, 2004, that amount was $1,318. Additionally, the fair value of warrants and preferred stock conversion options were recorded into the financial statements as
liabilities as a result of their features that require accounting under FAS 133 "Accounting for derivative instruments and hedging activities." At December 31, these amounts totaled
$14,195. At each reporting balance sheet date an evaluation is made of these valuations and marked to market. During the twelve months ended December 31, 2004, the Company recorded an increase
of $951 to the Accumulated Deficit resulting from $189 for dividends on redeemable preferred stock, and $762 for the accretion of redeemable preferred stock to its redemption value.

Warrants

In connection with the issuance of notes payable in March 1999 (that have since been repaid), the holders of the notes received warrants to purchase up to
331,490 shares of common stock, subject to adjustment, at an exercise price of $16.50 per share, subject to adjustment. The warrants expired unexercised in March 2002.

F-17

---



In
August 2000, the Company issued warrants to the TVGateway partners as part of the TVGateway Joint Venture more fully described in Note 13. These warrants may be exercised to
purchase in the aggregate up to 1,500,000 shares of common stock at an exercise price of $24.78 and up to 500,000 additional shares of common stock at an exercise price of $12.39. The warrants are
subject to vesting at varying rates based on the deployment of the Company's Internet TV service on each operator's digital cable systems. On September 30, 2003, 1,000,000 warrants were
cancelled. At December 31, 2004, none of the remaining warrants have vested.

In
November 2000, we entered into a deployment agreement with AT&T Broadband to deploy the Company's interactive services to AT&T digital customers in Cedar Falls and Waterloo, Iowa and
Tacoma, Washington. As part of this agreement, the Company issued warrants to AT&T to purchase up to 1,000,000 shares of the Company's common stock at a per share exercise price of $16.02. The
warrants are subject to vesting at varying rates based on the deployment of the Company's Internet TV service on AT&T's digital cable systems. At December 31, 2004, none of the warrants have
vested.

In
April and September 2004 we issued warrants to purchase shares of our common stock, with the April warrants having an exercise price of $1.4375 per share and the September warrants
having an exercise price of $1.75 per share. Included with General and Administrative expenses in September 2004 were $606 of expenses relating to the valuation of these warrants in December 2004.
This valuation was determined by using the Black-Scholes fair value option model. The following
assumptions were used: expected volatility of 65%; average risk-free interest rate of 3.43 percent; dividend yield of 0%; and an expected life of 5.0 years.

In
connection with the June 2004 private placement, we issued warrants to purchase shares of our common stock, with one-fourth of the warrants having an exercise price of
$2.69 per share and the remaining three-fourths having an exercise price of $3.14 per share.

In
connection with the December 2003 and January 2004 private placements, we issued warrants and additional investment rights to purchase shares of common stock. For the December 2003
transactions the warrants had an exercise price of $1.00 per share and the additional investment rights were priced at $0.80 per share. For the January 2004 transaction the warrants had an exercise
price of $1.875 per share and the addition investment rights were priced at $1.50 per share. In addition, if the selling security holders exercise their additional investment rights, we will be
obligated to issue additional warrants to purchase our common stock at an exercise price of $1.00 per share and $1.875 per share, respectively, for the December 2003 and the January 2004 transactions.
Included with General and Administrative expenses in 2003 and 2004 were $817 and $630, respectively, of expenses relating to the valuation of the above investment rights, warrants and warrant rights
issued in December 2003 and January 2004. This valuation was determined by using the Black-Scholes fair value option valuation model. The following assumptions were used for the share rights and the
warrants and warrant rights, respectively: expected volatility of 100% and 100%; average risk-free interest rates of .81% and 3.20%; dividend yields of 0% and 0%; and expected lives of .8
and 5.0 years. For the twelve months ended December 31, 2003, we recorded $778 of expense to continuing operations. Included in discontinued operations was $40 of non cash expense.

In
connection with the December 2004 private placement, we issued warrants to purchase shares of common stock. For this transaction the warrants had an exercise price of $2.88 per share.
Included with General and Administrative expenses in December 2004 were $94 of expenses relating to the valuation of the above warrants issued in December 2004. This valuation was determined by using
the Black-Scholes fair value option valuation model. The following assumptions were used: expected volatility of 65%; average risk-free interest rate of 3.48%; dividend yield of 0%; and an
expected life of 5 years. For the twelve months ended December 31, 2004, we recorded $1,332 of expense to continuing operations.

F-18

---



Stock Option Plan

In December 1996, the Company adopted the 1996 Stock Option Plan ("1996 Plan"). This plan provides for the granting of stock options to officers,
directors, employees and consultants. Grants under this plan may consist of options intended to qualify as incentive stock options ("ISO s"), or nonqualified
stock options that are not intended to so qualify ("NQSOs"). The option price of any ISO will not be less than the fair market value on the date the option is granted (110% of fair value in certain
instances). The option price of NQSOs may be greater than, equal to, or less than the fair market value on the date the option is granted. The 1996 Plan originally authorized a maximum of 933,333
shares of common stock.

In
May 1999 and May 2000, the Board increased the total number of shares of common stock available under the 1996 Plan to 1,600,000 and 3,200,000 shares, respectively. In October 2000,
the Company's stockholders approved these increases. In February 2001, the Board approved an automatic annual increase of shares reserved under the 1996 Plan in an amount equal to the lesser of 4% of
the then outstanding shares of the Company's common stock or 1,000,000 shares. In October 2001, the Company's stockholders approved this increase.

In
October 2004, the Company's stockholders approved the 2003 Equity Incentive Plan ("2003 Plan"). This plan is intended to replace the 1996 Plan for new grants. No additional shares
were reserved for the new plan but rather all available shares under the 1996 Plan were made available for the new plan. As with the 1996 Plan, the 2003 Plan includes the same automatic annual
increase in the number of shares reserved for use with the plan equal to the lesser of 4% of the then outstanding shares of the Company's common stock or 1,000,000 shares. In addition to incentive
stock options and nonqualified stock options, the new plan also provides for performance based awards and restricted stock.

Both
the 1996 Plan and its successor, the 2003 Plan are administered by a committee of the Board of Directors. The committee determines the term of each award, provided, however, that
the exercise period may not exceed ten years from the date of grant, and for ISOs, in certain instances, may not exceed five years. The options granted under this plan vest ratably over a
four-year period from the date of grant.

Unearned
compensation expense of approximately $1,133 and $340 was recorded, for certain options which were granted to employees in 1998 and 1999, respectively, at below the estimated
fair value at the time of grant, to acquire 213,343 and 39,058 shares of common stock, respectively. The compensation expense is being recognized over a four-year vesting period.
Compensation expense of approximately $396, $388 and $192 was recognized in 2000, 2001 and 2002, respectively, related to these grants. As of December 31, 2003 and 2004, no compensation expense
remains to be recognized. No such options were granted during the years 2000 through 2004.

On
February 15, 2001, the Company's Board of Directors approved a plan (the "Exchange Offer") pursuant to which the Company would offer its employees and directors the opportunity
to exchange all outstanding options to purchase shares of the Company's common stock granted under the Company's 1996 stock option plan having an exercise price of $5.00 or more per share (the
"eligible options") together with all options granted to holders of eligible options within the six month period prior to the expiration date of the Exchange Offer, for new options to be granted six
months and one day after the expiration of the Exchange Offer. On June 22, 2001, the Company commenced the Exchange Offer and filed with the SEC a Tender Offer Statement on Schedule TO. The
Exchange Offer expired on July 30, 2001. Pursuant to the Exchange Offer, the Company accepted for exchange options to purchase 696,359 shares of the Company's common stock, representing
approximately 21.31% of the options that were eligible to be tendered in the Exchange Offer. Subject to the terms of the Exchange Offer, on January 31, 2002 the Company granted options to
purchase an aggregate of 558,742 shares of common stock, in exchange for such tendered options, having an exercise price per

F-19

---



share
equal to the closing price of a share of the Company's common stock as reported on the NASDAQ National Market on January 31, 2002, which was $1.9297. The Exchange Offer did not result in
the recognition of compensation expense by the Company.

The
weighted-average fair value of the options granted was $1.85, $0.50 and $1.16 per option during the years ended December 31, 2002, 2003 and 2004, respectively. The fair value
of each option grant is estimated on the date of grant using the Black-Scholes fair value option valuation model. The following weighted-average assumptions were used for grants in 2002, 2003 and
2004, respectively: expected volatility of 100%, 100% and 90%; average risk-free interest rates of 4.69%, 2.96% and 2.97%; dividend yield of 0%; and expected lives of 5.8, 3.8 and
4.0 years.

A
summary of the Company's stock plan is presented below:

Stock Options

Weighted-Average
Exercise PriceOutstanding, December 31, 2001

2,027,825

$
5.24Granted

1,552,569

$
1.85Exercised




Cancelled/forfeited

(865,197
)
$
4.37Outstanding, December 31, 2002

2,715,197

$
3.57Granted

2,115,452

$
0.48Exercised




Cancelled/forfeited

(709,746
)
$
2.50Outstanding, December 31, 2003

4,120,903

$
2.17Granted

1,171,250

$
1.95Exercised

(446,203
)
$
2.39Cancelled/forfeited

309,273

$
5.57Outstanding, December 31, 2004

4,536,677

$
1.87


F-20

---



The
following table summarizes information about stock options outstanding at December 31, 2004:

Stock Options OutstandingStock Options ExercisableWeighted-
Average
Remaining
Contractual
Life (Years)Range of
Exercise Prices

Shares

Weighted-
Average
Exercise
Price

Shares

Weighted-
Average
Exercise
Price$0.26 - $0.39

320,225

8.17

$
0.37

77,969

$
0.37$0.40 - $0.59

1,336,742

8.75


0.54

456,617


0.55$0.60 - $0.89

14,666

4.07


0.66

14,666


0.66$0.90 - $1.34

779,500

8.97


1.06

9,750


1.17$.1.35 - $2.01

549,688

7.16


1.76

397,325


1.82$2.02 - $3.02

966,505

6.65


2.58

771,202


2.66$3.03 - $4.53

383,851

8.23


4.41

118,601


4.37$4.54 - $6.80

101,914

5.94


6.34

101,914


6.34$6.81 - $10.20

40,000

6.13


8.25

30,000


8.25$10.21 - $15.30











$15.31 - $22.95

38,949

5.05


20.27

38,949


20.27$22.96 - $34.43

4,286

5.51


28.59

4,286


28.59$34.44 - $41.13

351

4.97


41.10

351


41.104,536,677

7.91

$
1.93

2,033,879

$
2.67


For
a period of approximately three (3) weeks in May 2001, executives (including the Chief Executive Officer) were granted four options, which vest in equal installments over a
three-year period, for each share of common stock they purchased. The 4-for-1 matching grant was capped at the point that the aggregate purchase price of shares
bought by an executive reached one hundred thousand dollars.

Employee Stock Purchase Plan

In October 2001, our shareholders approved the WorldGate 2001 Employee Stock Purchase Plan that provides eligible participants with the opportunity to
periodically acquire shares of our common stock through payroll deductions. Eligible participants may contribute up to fifteen percent of their compensation towards the purchase of our common stock.
At the end of each calendar quarter, the contributions of the participants are used to purchase shares of the Company's common stock at the lower of eighty-five percent of the market price
of our common stock: (i) at the beginning of each calendar quarter or (ii) at the end of each calendar quarter. A maximum of 750,000 shares of the Company's common stock (plus an annual
increase of 375,000 shares) may be purchased in the aggregate by participants in the Stock Purchase Plan.

During
2003 and 2004, the Company sold 3,880 and 48,832 shares of common stock under the Stock Purchase Plan for proceeds of $1 and $45, respectively.

F-21

---



10.   Net Loss Per Share

The following table is a reconciliation of the numerators and denominators of the basic and diluted per share computations:

|                                                 |  | Years Ended December 31 |           
|------------------------------------------------ |  | ----------------------- | ----------
|
|Loss from continuing operations                  |  | $                       | 0         
|Income (loss) from discontinued operations       |  |                         | (19,210   
|                                                 |  |                         |           
|Net loss                                         |  |                         | (19,210   
|Accretion on preferred stock and dividends       |  |                         | 0         
|                                                 |  |                         |           
|Net loss available to common shareholders        |  | $                       | (19,210   
|                                                 |  |                         |           
|Basic and diluted loss per average common share: |  |                         |           
|Weighted average shares outstanding              |  |                         | 23,573,935
|Loss from continuing operations                  |  | $                       | 0.00      
|Income (loss) from discontinued operations       |  |                         | (0.81     
|                                                 |  |                         |           
|Net loss                                         |  | $                       | (0.81     
|                                                 |  |                         |           
|Net loss available to common shareholders        |  | $                       | (0.81     
|                                                 |  |                         |           

11.   Commitments and Contingencies

Leases

In 1998 the Company entered into a leasing arrangement for a building with an entity formed by non-employee investors. The Company stopped paying rent
on this lease in May 2003, and in lieu of rent payments the Company's landlord, 3190 T General, Inc. (an entity formed by non-employee investors in the Company), began drawing down
the security deposit for the facility. Prior to stopping rent payments, the Company had commenced negotiations with its landlord for an amendment of its lease to reduce the space commitment and the
rent payable. These negotiations were not successful, and in September 2003, the Company's landlord filed an action in the Court of Common Pleas, Bucks County Pennsylvania to perfect its interest to
take possession of the Company's facility, and to establish damages for past rent and expenses. Although a judgment was granted allowing the Company's landlord to regain possession of the facility,
the Company remained in the facility and continued negotiations with its landlord. During 2004, the landlord deeded the facility to its mortgage holders and negotiations commenced with GMAC as
representative for the mortgage holders. These negotiations were successful and in June 2004 the Company's lease was amended to reduce the lease obligation in line with the Company's current space
requirements, and to bring the Company current with respect to all outstanding back rent. In November 2003, the Company entered into a 60 month lease for office equipment. As of
December 31, 2004 there remains a total of $23 to be paid over the remaining period of the lease.

Disclosure of Contractual Obligations

Total

Less than 1 year

1 - 3 years

3 - 5 years

Over 5 yearsOperating lease

$
23

$
6

$
12

$
5

$



Total
rent expense resulting from this lease for the years ended December 31, 2002, 2003 and 2004, respectively, amounted to approximately $1,442, $957 and $1,027, respectively.
The rent expense for 2004 of $1,027 includes $785 of unpaid rent that was cancelled as a result of a lease amendment entered into November 2004 with an effective date of June 2004. This
cancellation is included in total interest and other income in our consolidated financial statements.

F-22

---



12.   Significant Agreements and Transactions

In 1997, the Company entered into agreements with certain customers who are investors. Revenues recognized from such investors were approximately, $0, $0 and
$231, respectively, for the twelve months ended December 31, 2002, 2003 and 2004. One of these investors accounted for 100% of the revenues for the twelve months ended December 31, 2004.
Advances received from this investor were $396 and as of December 31, 2004 and are included in deferred revenue in the accompanying balance sheet.

Revenues
from discontinued operations recognized from such investors were approximately $11,991, $2,153 and $0 (included in discontinued operations), respectively, for the twelve months
ended December 31, 2002, 2003 and 2004. Accounts receivable from such investors amounted to approximately $1,185, $53 and $0, respectively, as of December 31, 2002, 2003 and 2004.

The
Company has a current agreement with an investor, and previously had agreements with certain other investors, to provide the Company with engineering and development support. As a
result of those agreements, the Company has expensed approximately $1,837, $557 and $0 (included in discontinued operations), respectively, for the twelve months ended December 31, 2002, 2003
and 2004. Accounts payable to these investors amounted to $117 and $170 at December 31, 2004 and December 31, 2003, respectively. Some of these stockholders were suppliers of technology
and components for the Company's discontinued ITV products and services. These agreements provided for licensing of technology, as well as contracted services, including hardware and software
development, product testing and certification, and the creation and development of tools and systems to facilitate the Company's engineering efforts. These agreements did not provide for ongoing
royalties, purchase provisions, or for any requirement to provide additional funding to the Company.

13.   TVGateway Joint Venture and Related Cable Operator Agreements

TVGateway Joint Venture

On July 24, 2000, the Company formed a separate joint venture, TVGateway, LLC, with four cable operators. As part of this venture WorldGate entered into a
management agreement with TVGateway to provide engineering, operations and administrative support services. In addition to providing for the terms and conditions under which such services were to be
provided, the management agreement provided for WorldGate and TVGateway to cooperate to transition to TVGateway some or all of the support services being provided by WorldGate and/or the employees
providing these services. In addition, this provision required WorldGate to remain available to provide support services until July 24, 2005. During 2002 WorldGate and TVGateway agreed to
commence the transition of services pursuant to this provision. In addition, the parties agreed that the management agreement would be of no further force and effect with respect to the services that
are transferred as of the date of completion of the specific transfers. The companies completed this transition in first quarter 2003, and accordingly, WorldGate has now been relieved of any
continuing obligation to provide such transitioned services. WorldGate no longer receives revenues from the management agreement with TVGateway.

Revenues
for such services, which are included in service fee revenue, totaled $11,484, $794 and $0, for the twelve months ended December 31, 2002, 2003 and 2004 (included in
discontinued operations), respectively. In addition, product sales to TVGateway totaled $92, $1,078 and $0 for the twelve months ended December 31, 2002, 2003 and 2004, respectively (included
in discontinued operations). Accounts receivable from TVGateway amounted to $0 at December 31, 2004 and $0 at December 31, 2003. WorldGate was accounting for its 18% investment in the
TVGateway joint venture, which was previously reduced to a carrying value of $0 due to prior losses, under the equity method.

On
September 30, 2003 the Company announced that it had sold to TVGateway, LLC certain ITV intellectual property rights and certain software and equipment related to the ITV
business, which TVGateway was currently using, for $2, 400. In addition, on August 7, 2003, WorldGate and

F-23

---



TVGateway
entered into a redemption agreement pursuant to which TVGateway redeemed WorldGate's equity interest in TVGateway for $600 in cash. The purchase price for these assets in the aggregate was
$3,000 and was used by the Company to fund continuing operations, as well as to develop and distribute its new Ojo video telephony product. As part of this transaction WorldGate retained a
royalty-free license to certain of the transferred intellectual property rights and software. At this time the Company has completely exited from the interactive television (ITV) business.

In
connection with the Asset Purchase Agreement we entered into with TVGateway for the sale of certain ITV Business assets, we have an obligation to indemnify TVGateway for any losses
from breaches of our representations or warranties in the Asset Purchase Agreement that occur within twelve months after the closing date of the TVGateway transaction or within the applicable statute
of limitations period for claims relating to our ownership of our assets, payment of our taxes, and our
compliance with applicable laws, if longer. Our indemnification obligations are limited by an overall cap of $500 on the amount of the indemnification. Although we know of no breaches of our
representations or warranties and the initial twelve-month period has expired, the payment of any such indemnification obligations would adversely impact our cash resources and our ability to pursue
our video phone business.

14.   Employee Benefit Plan

In 2000, the Company established a Retirement Savings Plan that is funded by the participant's salary reduction contributions. All employees of the Company are
eligible to participate in the plan upon joining the Company. The plan is intended to permit any eligible employee who wishes to participate to contribute up to 12% of the employee's compensation on a
before-tax basis under Section 401(k) of the Internal Revenue Code. The plan provides for discretionary Company matching contributions and discretionary Company profit-sharing
contributions. Contributions are invested, in such proportions as the employee may elect in any of 10 mutual investment funds. In 2002 and 2003, the Company made no discretionary profit-sharing
contributions to the plan. On May 28, 2003, this Retirement Savings Plan was terminated by the Company.

In
January of 2005 the Company established a new Retirement Savings Plan that is funded by the participant's salary reduction contributions. All employees of the Company are eligible to
participate in the plan upon joining the Company. The plan is intended to permit any eligible employee who wishes to participate to contribute up to 12% of the employee's compensation on a
before-tax basis under Section 401(k) of the Internal Revenue Code. The plan provides for discretionary Company matching contributions and discretionary Company profit-sharing
contributions. Contributions are invested, in such proportions as the employee may elect in a variety of mutual investment funds.

F-24

---



16.   Supplemental disclosure of cash flow information

|                                                                                  |  | Year ended
December 31,
|--------------------------------------------------------------------------------- |  | -----------------------
|
|
|Cash paid for interest                                                            |  | $                      
|                                                                                  |  |                        
|Non-cash investing and financing activities:                                      |  |                        
|Utilization of contractual obligation related to equity financing                 |  | $                      
|Settlement of contractual obligation related to equity financing                  |  |                        
|Acquisition of treasury stock resulting from settlement of contractual obligation |  |                        
|Issuance of common stock in payment for product development                       |  |                        
|Issuance of notes payable for Directors and Officers' insurance policy            |  |                        
|Accretion on preferred stock                                                      |  |                        
|Conversion of preferred stock to common                                           |  |                        
|Dividends on preferred stock                                                      |  |                        
|Cancellation of treasury stock shares                                             |  |                        

17.   Recent Developments

We filed a registration statement with the Securities and Exchange Commission in September 2002 relating to a proposed distribution to our shareholders of
subscription rights to purchase additional shares of common stock and warrants of the Company. This registration was withdrawn during the last quarter of 2003.

We
filed a registration statement with the Securities and Exchange Commission in December 2003 relating to a private placement of our common stock to certain institutional
investors and the resulting proposed resale by such investors of up to 3,745,000 shares of our common stock. This registration statement was declared effective in January 2004.

We
filed a registration statement with the Securities and Exchange Commission in April 2004 relating to a private placement of our common stock to certain institutional investors
and the resulting proposed resale by such investors of up to 3,105,345 shares of our common stock. This registration statement was declared effective in April, 2004.

We
filed a registration statement with the Securities and Exchange Commission in July 2004 relating to a private placement of our common stock to certain institutional investors
and the resulting proposed resale by such investors of up to 10,343,997 shares of its common stock. This registration statement was declared effective in July, 2004.

18.   Discontinued Operations

During the first quarter of 2004, the Company decided to transition from the business of developing and selling interactive television, or ITV, technology,
products and services for use in conjunction with cable TV broadband networks (the "ITV business") to the development of videophone products. In accordance with Statement of Financial Accounting
Standards 144, Accounting for the Impairment or Disposal of Long-Lived Assets, all assets related to the ITV business have been written down to their net realizable value. Related
operating results of the ITV business have been reported as discontinued operations for all years presented.

F-25

---



Revenue
and net income (loss) before income taxes from discontinued operations were as follows:

2002

For the Twelve-Month
Period ended
December 31, 2003

2004Revenues

$
13,878

$
3,886

$
82Income (loss) before income taxes


(19,210
)

(2,908
)

36


Supplemental Quarterly Data (unaudited):

First

Second
(As Amended)

Third

Fourth(dollars in thousands
other than per share amounts)2004Net revenues

$
0

$
0

$
106

$
125Loss from continuing operations


(2,760
)

(1,951
)

(1,517
)

(13,957
)Income (loss) from discontinued operations


22


7


7


0Net loss


(2,738
)

(1,944
)

(1,510
)

(13,957
)Accretion on preferred stock and dividends


0


31


(400
)

(520
)Net loss available to common shareholders


(2,738
)

(1,975
)

(1,910
)

(14,477
)Basic and diluted loss from continuing operations per common share


(0.10
)

(0.07
)

(0.06
)

(0.49
)Basic and diluted Income (loss) from discontinued operations per common share


0.00


0.00


0.00


0.00Basic and diluted net loss per common share


(0.10
)

(0.07
)

(0.06
)

(0.49
)Basic and diluted net loss available to common shareholders per common share


(0.10
)

(0.07
)

(0.07
)

(0.51
)2003Net revenues

$
0

$
0

$
0

$
0Loss from continuing operations


(813
)

(1,372
)

(1,652
)

(2,659
)Income (loss) from discontinued operations


(1,072
)

(1,627
)

1,755


(1,965
)Net income (loss)


(1,885
)

(2,999
)

103


(4,624
)Net income (loss) available to common shareholders


(1,885
)

(2,999
)

103


(4,624
)Basic and diluted loss from continuing operations per common share


(0.03
)

(0.06
)

(0.07
)

(0.11
)Basic and diluted Income (loss) from discontinued operations per common share


(0.05
)

(0.07
)

0.07


(0.08
)Basic and diluted net income (loss) per common share


(0.08
)

(0.13
)

0.00


(0.19
)Basic and diluted net income (loss) available to common shareholders per common share


(0.08
)

(0.13
)

0.00


(0.19
)


F-26

---





Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure.

None

Item 9A. Controls and Procedures.

As of the end of the period covered by this Form 10-K, our management, with the participation of our chief executive officer and chief
financial officer, conducted an evaluation of the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d -15(e) under the
Securities Exchange Act of 1934, as amended (the "Exchange Act")).

Based
on that evaluation, our chief executive officer and chief financial officer determined that we have a material weakness (as defined under the standards established by the American
Institute of Certified Public Accountants) that exists with respect to our reporting of complex transactions. As a result of this material weakness, we restated our financial statements in our
June 30, 2004 10-QA.

To
address this material weakness, we have engaged outside experts to provide counsel and guidance in areas where we cannot economically maintain the required expertise internally (e.g.,
with the appropriate classifications and treatments of complex and non-routine transactions).

With
the exception of this condition, the chief executive officer and chief financial officer concluded that our disclosure controls and procedures are reasonably designed and effective
to alert them on a timely basis to material information relating to us required to be included in our reports filed or submitted under the Exchange Act. Except as identified above, there have been no
changes in our internal control over financial reporting that occurred during the quarter ended December 31, 2004, that have materially affected, or are reasonably likely to materially affect,
our internal control over financial reporting.

Item 9B. Other Information.

None

PART III

Item 10. Directors and Executive Officers of the Registrant.

We have adopted a Code of Conduct that applies to all of our directors and employees, including, without limitation, our principal executive officer, our
principal financial and accounting officer, and all of our employees performing financial or accounting functions. We have posted our Code of Conduct on our website, www.wgate.com, under the
"Investors" section. We intend to satisfy the disclosure requirements under Item 10 of Form 8-K regarding an amendment to, or waiver from, any provisions of our Code of Conduct by
posting such information on our website at the location specified above.

28

---



As
of December 31, 2004 our executive officers and directors are as follows:

|Name                       |  | Age |  | Position                                                      
|-------------------------- |  | --- |  | --------------------------------------------------------------
|Hal M. Krisbergh(3)        |  | 57  |  | Chairman of the Board of Directors and Chief Executive Officer
|Joel Boyarski              |  | 58  |  | Vice President and Chief Financial Officer                    
|Randall J. Gort            |  | 55  |  | Vice President, Chief Legal Officer and Secretary             
|James E. McLoughlin        |  | 52  |  | Vice President, Account Development and Marketing             
|Richard Westerfer          |  | 46  |  | Vice President and Chief Operations Officer                   
|Steven C. Davidson(2)      |  | 56  |  | Director                                                      
|Clarence L. Irving, Jr.(1) |  | 49  |  | Director                                                      
|Martin Jaffe(2)            |  | 58  |  | Director                                                      
|Jeff Morris(1)             |  | 54  |  | Director                                                      
|Lemuel Tarshis(2)          |  | 63  |  | Director                                                      

---

Hal
M. Krisbergh has served as our Chairman and Chief Executive Officer since our inception in March 1995. From September 1981 to September 1994,
Mr. Krisbergh was an executive officer of General Instrument (now a part of Motorola, Inc.). Mr. Krisbergh served as President of General Instrument's Communications Division and,
for the past 17 years, has been a well-known figure in the cable industry. He is a recognized leader in the development of addressable cable boxes, impulse
pay-per-view, opto-electronics and digital audio technologies. In 1991, Mr. Krisbergh received cable television's prestigious Vanguard award. Prior to
joining General Instrument, Mr. Krisbergh was employed by W. R. Grace & Co., Deloitte & Touche and Raytheon Company.

Joel
I. Boyarski joined our company in October 1999 and was named Vice President and Chief Financial Officer in September 2002. Prior to becoming Vice President and Chief
Financial Officer, Mr. Boyarski served as General Manager of TVGateway, LLC from December 2001 until September 2002 and as Vice President of Business Development for TVGateway,
LLC from June 2000 until December 2001. From October 1999 to June 2000, he served as a consultant for our company. Prior to joining us, Mr. Boyarski was a business
and financial consultant from June 1998 to October 1999, and for 23 years prior to June 1998, he held a variety of management positions at Joseph E. Seagram and
Sons, Inc., including Vice President of Finance and Business Planning for several of Seagram's Domestic and International divisions including North America, Asia Pacific and Global Duty Free.

Randall
J. Gort joined our company in August 1997 as Vice President, Legal and Corporate Affairs, General Counsel and Secretary. In January 2003 Mr. Gort became the
Company's Chief Legal Officer. From July 1995 to August 1997, Mr. Gort was General Counsel, Secretary, and Director of Legal and Corporate Affairs for Integrated Circuit
Systems, Inc. Mr. Gort was in private practice from August 1994 through June 1995. Prior to that time, from May 1987 through July 1994, he was an Associate
General Counsel for Commodore International Ltd. Mr. Gort was with Schlumberger Ltd. from October 1982 through early 1987, originally as Senior Attorney and then as General
Counsel, FACTRON Division. From April 1979 through October 1982, Mr. Gort was Counsel for various divisions of the 3M Company, including Medical and Surgical Products Divisions,
Orthopedic Products Division, Electro-Mechanical Resources Division and 3M's four tape divisions.

29

---



James
E. McLoughlin joined our company in February 2001 and in January 2002 was named Vice President, Marketing, Business and Account Development. Prior to this position,
Mr. McLoughlin served as Vice President, Sales and Marketing. From February 1981 through February 2001, Mr. McLoughlin was Vice President, Affiliate Operations for Home Box
Office, where he was responsible for sales and marketing of premium television services to affiliated cable television companies.

Richard
Westerfer joined our company in February 2000 as Vice President of Engineering. In December 2000, Mr. Westerfer became Senior Vice President of Operations.
He served in this position until April 2002, when he became Chief Operations Officer of WorldGate. Prior to joining us, from 1979 to February 2000, Mr. Westerfer served as the
Senior Director of Engineering for General Instruments (now a part of Motorola, Inc.).

Steven
C. Davidson has been a member of our board of directors since April 2002. From 1979 until his retirement in April 2002, Mr. Davidson held various executive
positions with HBO, Inc., most recently serving as Senior Vice President and General Manager of Affiliate Operations. In February 2004 Mr. Davidson returned to HBO, Inc. as
Executive Vice President of Affiliate Sales. Mr. Davidson is also a director of Nation Fatherhood Initiative, a non-profit organization.

Clarence
L. Irving, Jr. has been a member of our board of directors since July 2000. He has been President and Chief Executive Officer of Irving Information Group, a consulting
services firm, since October 1999 and has served as a director of Covad Communications Group, Inc. since April 1999. On August 15, 2002, Covad Communications
Group, Inc. filed a voluntary petition for relief under Chapter 11 of the Federal bankruptcy code in the United States Bankruptcy Court for the District of Delaware. Mr. Irving
served as Assistant Secretary of Commerce to the United States Department of Commerce from June 1993 to October 1999.

Martin
Jaffe has been a member of our board of directors since April 2002. Since January 2002, Mr. Jaffe has been the Chief Operating Officer, Managing Director and
Co-Founder of Silvercrest Asset Management Group LLC. From November 2000 until September 2001, Mr. Jaffe was Chief Financial Officer of Credit Suisse Asset Management
Group LLC, and from 1981 until November 2000, Mr. Jaffe was Chief Operating Officer of Donaldson, Lufkin & Jenrette Asset Management Group.

Jeff
Morris has been a member of our board of directors since April 2001. Since April 2001, Mr. Morris has been the President of Digital Media Consulting, a new
media consulting company. From July 2000 to April 2001, he was President and Chief Executive Officer of Yack, Inc., an Internet events and program guide. Mr. Morris is a
veteran of the cable television industry, including a fifteen-year tenure from 1984 through 2000 at Showtime Networks, Inc., where his last position was Senior Vice President of New
Media and Technology Development.

Lemuel
Tarshis has been a member of our board of directors since April 2001. Since August 1991, Dr. Tarshis has been a director for the Alliance for Technology
Management at the Stevens Institute of
Technology. In addition, he has recently worked as a management consultant for Lucent Technologies Inc., Bell Atlantic, GTECH Corporation, AT&T Corporation, Aequus Technologies, LLC and Verizon
Communications, Inc.

Audit Committee

The Audit Committee is responsible for providing general oversight with respect to the accounting principles employed in our financial reporting and operates in
accordance with a written charter adopted by our Board of Directors. The Audit Committee monitors our financial reporting process and internal control system, reviews and appraises the audit efforts
of our independent accountants and provides an avenue of communication among the independent accountants, financial and senior

30

---



management
and the Board of Directors. The Audit Committee meets at least three times annually, and meets at least once annually with our management and independent public accountants to review the
scope of auditing procedures, our policies relating to internal auditing and accounting procedures and controls, and to discuss results of the annual audit of our financial statements. The Audit
Committee is currently composed of Dr. Tarshis, Mr. Davidson and Mr. Jaffe, each of whom is "independent" as such term is defined under Rule 4200(a)(15) of the NASDAQ
listing standards. The Audit Committee also complies with the financial sophistication requirement under the NASDAQ listing standards. In addition, the Board has determined that Mr. Jaffe is an
audit committee financial expert as defined by SEC rules.

Section 16(a) Beneficial Ownership Reporting Compliance

Section 16(a) of the Securities Exchange Act of 1934 requires our directors and executive officers and persons who beneficially own more than 10% of our
common stock (collectively, the "reporting persons") to file reports of ownership and changes in ownership with the Securities and Exchange Commission and to furnish us with copies of these reports.
Based solely on our review of those documents received by us, and written representations, if any, received from reporting persons with respect to the filing of reports on Form 3, 4 and 5, we
believe that all filings required to be made by the reporting persons for fiscal year 2004 were made on a timely basis.

Item 11. Executive Compensation.

Compensation Committee Interlocks and Insider Participation

The Compensation and Stock Option Committee (the "Compensation Committee") is currently composed of Messrs. Morris and Irving. The Compensation Committee
is responsible for determining the general compensation and benefits philosophy for the Company, including administering the Company's equity compensation programs, and for setting cash and
long-term incentive compensation for executive officers and other key employees of the Company. No member of the Compensation Committee is an officer or employee of the Company.

Report of Compensation and Stock Option Committee on Executive Compensation

This report by the Compensation Committee of the Board of Directors (the "Committee") discusses the Committee's compensation objectives and policies applicable to
the Company. The report reviews the Committee's policy generally with respect to the compensation of all executive officers as a group for fiscal 2004 and specifically reviews the compensation
established for the Company's Chief Executive Officer as reported in the Summary Compensation Table. The Committee is composed entirely of non-employee directors of the Company. The
Committee also administers the Company's Stock Option Plan and Employee Stock Purchase Plan.

Compensation

Our compensation policies are intended to create a direct relationship between the level of compensation paid to employees and our current and
long-term level of performance. The Committee believes that this relationship is best implemented by providing a compensation package of separate components, all of which are designed to
enhance our overall performance. The components are base salary, short-term compensation in the form of annual bonuses and long-term incentive compensation in the form of stock
options.

The
base salaries, targeted bonus amounts and number of stock options established for or granted to our executive officers for 2004 are based, in part, on the Committee's understanding
of compensation amounts and forms paid to persons in comparable roles performing at comparable levels at other companies in the same or related industries. Such amounts, however, mainly reflect the

31

---



subjective
discretion of the members of the Committee based on the evaluation of our current and anticipated future performance and the contribution of the individual executive officers to such
performance, and the contribution of the individual executive officers to us in areas not necessarily reflected by our performance.

Base Salaries

The base salaries for our senior executive officers for 2004 were established subjectively by the Committee based on the market environment and our need to
attract and retain key personnel for whom we must compete against larger, more established companies. Also considered was the absence of a general salary increase during 2003 in light of our need to
conserve cash.

Short-Term Annual Bonuses

Annual bonuses established for the executive officers are intended to provide an incentive for improved performance in the short term. Normally the Committee
would establish target bonus levels at the beginning of the year based on predetermined goals with respect to individual, department and Company performance, however, given the Company's need to
conserve cash, no bonuses were provided during 2004.

Long-Term Incentive Compensation

Our long-term incentive compensation plan for its senior executive officers, administered through the Company's stock option plan, promotes ownership
of the our Common Stock, which, in turn, provides a common interest between our shareholders and our executive officers. Options granted to executive officers under the plan have an exercise price
equal to the fair market value of the shares on the date of grant, an exercise period of ten years and generally vest over four years. The number of options granted to executive officers is determined
by the Committee, which is charged with administering the stock option plan. During 2003 the Committee analyzed various equity incentive programs provided by peer group companies and determined that
it was advisable to include equity
alternatives other than traditional stock options within its compensation strategy. Accordingly, in November 2003, the Committee, as well as the other members of the board of directors,
unanimously approved a new equity compensation plan (the "2003 Plan") and requested that this plan be submitted for shareholder approval at our next shareholder meeting. This plan was approved by our
shareholders at the October 2004 annual shareholders' meeting. The plan as approved by the board and our shareholders does not authorize any incremental shares for issuance thereunder, but
rather transfers the balance available for issuance under its predecessor, the 1996 Plan, after all issuances thereunder. The 1996 Plan will continue to be in effect for the grants which are currently
outstanding under that plan, however, new grants will be issued under the 2003 Plan.

Summary Compensation Table

The following table sets forth information concerning compensation paid with respect to our chief executive officer and four other most highly compensated
officers who were serving as such as of December 31, 2004, each of whose aggregate compensation for fiscal 2004 exceeded $100,000, for services rendered in all capacities for us and our
subsidiaries.

32

---



SUMMARY COMPENSATION TABLE  FISCAL YEARS 2004, 2003 and 2002

|                                                  |  |      |  |   |         |  |   | Long Term
Compensation Awards
|------------------------------------------------- |  | ---- |  | - | ------- |  | - | -----------------------------
|
|
|
|Hal M. Krisbergh                                  |  | 2002 |  | $ | 337,080 |  | $ | 37,913                       
|Chairman and Chief Executive Officer              |  | 2003 |  | $ | 337,080 |  |   |                             
|                                                  |  | 2004 |  | $ | 349,497 |  |   |                             
|Richard Westerfer                                 |  | 2002 |  | $ | 214,616 |  | $ | 17,145                       
|Vice President, Chief Operations Officer          |  | 2003 |  | $ | 209,192 |  |   |                             
|                                                  |  | 2004 |  | $ | 219,531 |  |   |                             
|Randall J. Gort                                   |  | 2002 |  | $ | 200,769 |  | $ | 15,831                       
|Vice President, Chief Legal Officer               |  | 2003 |  | $ | 200,000 |  |   |                             
|                                                  |  | 2004 |  | $ | 207,385 |  |   |                             
|Joel Boyarski                                     |  | 2002 |  | $ | 188,884 |  | $ | 13,038                       
|Vice President, Chief Financial Officer           |  | 2003 |  | $ | 195,570 |  |   |                             
|                                                  |  | 2004 |  | $ | 202,791 |  |   |                             
|James McLoughlin                                  |  | 2002 |  | $ | 189,513 |  | $ | 16,450                       
|Vice President, Account Development and Marketing |  | 2003 |  | $ | 190,800 |  |   |                             
|                                                  |  | 2004 |  | $ | 197,845 |  |   |                             

The
Compensation Committee has the authority to administer the long term incentive plans and to exercise all the powers and authorities either specifically granted to it under, or
necessary or advisable in the administration of the plans, including, without limitation, the authority to grant awards; to determine the persons to whom and the time or times at which awards shall be
granted; to determine the type and number of awards to be granted, the number of shares of common stock to which an award may relate and the terms, conditions, restrictions and performance goals
relating to any award; to determine whether, to what extent, and under what circumstances an award may be settled, canceled, forfeited, exchanged, or surrendered; to make adjustments in the
performance goals in recognition of unusual or non-recurring events affecting us or our financial statements of
WorldGate (to the extent not inconsistent with Section 162(m) of the Code, if applicable), or in response to changes in applicable laws, regulations, or accounting principles; to construe and
interpret the plans and any award; to prescribe, amend and rescind rules and regulations relating to the plans; to determine the terms and provisions of agreements evidencing awards; and to make all
other determinations deemed necessary or advisable for the administration of the plans. Generally, outstanding awards vest in equal installments over a four-year period. However, in no
event may a stock option be exercised more than ten years following the date of its grant, subject to acceleration in the event of some changes of control of WorldGate.

The
purchase price per share payable upon the exercise of an option (the "option exercise price") will be established by the Compensation Committee, provided, however, that incentive
stock options may not have an option exercise price less than the fair market value of a share of common stock on the date of grant. The option exercise price is payable by any one of the following
methods or a combination thereof, to the extent permitted by the Compensation Committee:



33

---





Our
board of directors or the Compensation Committee may suspend, revise, terminate or amend the equity incentive plans at any time, provided, however, that:



On
October 5, 2001, our shareholders approved the WorldGate 2001 Employee Stock Purchase Plan (the "Stock Purchase Plan"). The Stock Purchase Plan provides our eligible employees
with the opportunity to periodically acquire shares of our common stock through payroll deductions. In general, the Stock Purchase Plan provides that:



The
following table presents information regarding options granted to our named executive officers during fiscal 2004 to purchase shares of our common stock. In accordance with SEC
rules, the table shows the hypothetical "gains" or "option spreads" that would exist for the respective options based on assumed rates of annual compound stock price of 5% and 10% from the date the
options were granted over the full option term.

34

---



Options/SAR Grants in Last Fiscal Year

|                  |  | Individual Grants |  | Potential Realizable
Value at Assumed
Annual Rates of
Stock Price Appreciation
for Option Term
|----------------- |  | ----------------- |  | ----------------------------------------------------------------------------------------------
|
|
|
|Hal M. Krisbergh  |  |                  |  |                                                                                              
|Richard Westerfer |  | 200,000           |  | 17.1                                                                                          
|                  |  | 25,000            |  | 2.1                                                                                           
|Randall J. Gort   |  | 200,000           |  | 17.1                                                                                          
|                  |  | 22,500            |  | 2.1                                                                                           
|Joel Boyarski     |  | 175,000           |  | 14.9                                                                                          
|                  |  | 20,000            |  | 1.7                                                                                           
|James McLoughlin  |  | 175,000           |  | 14.9                                                                                          
|                  |  | 20,000            |  | 1.7                                                                                           

The
following table shows the number of shares of common stock subject to exercisable and unexercisable stock options held by each of the named executive officers as of
December 31, 2004. The table also reflects the values of such options based on the positive spread between the exercise price of such options and $4.99, which was the per share closing sales
price reported on the NASDAQ Small Cap Market on December 31, 2004.

Aggregated Option/SAR Exercises in Last Fiscal Year and FY-End Option SAR Values

|Name              |  | Shares acquired
on exercise (#) |  | Value Realized ($) |  | Number of securities
underlying unexercised
options/SARS at
fiscal year end (#)
Exercisable/Unexercisable |  | Value of unexercised
in-the-money options/SARS
at fiscal year end ($)
Exercisable/Unexercisable
|----------------- |  | ------------------------------- |  | ------------------ |  | --------------------------------------------------------------------------------------------------------- |  | -----------------------------------------------------------------------------------------------
|Hal M. Krisbergh  |  |                                |  |                   |  | 220,000/40,000                                                                                            |  | 534,416/136,016                                                                                
|Richard Westerfer |  |                                |  |                   |  | 235,500/399,500                                                                                           |  | 645,204/1,537,840                                                                              
|Randall J. Gort   |  |                                |  |                   |  | 189,333/384,500                                                                                           |  | 537,281/1,504,065                                                                              
|Joel Boyarski     |  |                                |  |                   |  | 115,738/360,000                                                                                           |  | 410,309/1,422,535                                                                              
|James McLoughlin  |  |                                |  |                   |  | 79,575/335,325                                                                                            |  | 204,952/1,266,149                                                                              

Compensation of Directors

Pursuant to our new director plan, non-employee directors, currently Messrs. Davidson, Jaffe, Irving, Morris and Tarshis, will receive an
annual stock grant of 10,000 shares, vesting in equal amounts over four years, issued at the fair market value on the date of grant, a stipend of $1,000 for each board or committee meeting the
director attends in person, and $250 for each meeting attended telephonically. Furthermore, we paid an annual stipend of $5,000 for 2004 and will pay $10,000 for each year thereafter, as well as an
initial stock grant of 30,000 shares upon becoming a non-employee director. We will continue to reimburse non-employee directors for reasonable travel expenses for attending
board or committee meetings.

35

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Item 12. Security Ownership of Certain Beneficial Owners and Management, and Related Stockholder Matters.

The following table sets forth information as of December 31, 2004 regarding securities authorized for issuance under the Company's equity compensation
plans:

Equity Compensation Plan Information

|Plan Category                                              |  | Number of securities to be issued upon exercise of outstanding options, warrants and rights |  | Weighted-average exercise price of outstanding options, warrants and rights |      | Number of securities remaining available for future issuance under equity compensation plans
(excluding securities reflected
in column (a) |          
|---------------------------------------------------------- |  | ------------------------------------------------------------------------------------------- |  | --------------------------------------------------------------------------- | ---- | ------------------------------------------------------------------------------------------------------------------------------------------ | ---------
|
|Equity compensation plans approved by security holders     |  | 4,536,677                                                                                   |  | $                                                                           | 1.87 |                                                                                                                                            | 1,673,774
|Equity compensation plans not approved by security holders |  |                                                                                            |  |                                                                             |     |                                                                                                                                            |         

---

The
following table sets forth information as of March 10, 2004 regarding beneficial ownership of our common stock by the following persons:



Unless
otherwise indicated below, to our knowledge, all persons listed below have sole voting and investment power with respect to their shares of common stock, except to the extent
authority is shared by spouses under applicable law. Beneficial ownership is determined in accordance with the rules of the SEC, based on factors including voting and investment power with respect to
shares, subject to applicable community property laws. Shares of common stock subject to options or warrants exercisable within 60 days of March 5, 2005 are deemed outstanding for the
purpose of computing the percentage ownership of the person holding such options or warrants, but are not deemed outstanding for

36

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computing
the percentage ownership of any other person. Unless otherwise indicated, the mailing address of the beneficial owners is 3190 Tremont Avenue, Suite 100, Trevose, Pennsylvania 19053.

Name of Beneficial Owner

Number of Shares of
Common Stock
Beneficially Owned

Percent of
OwnershipHal M. Krisbergh(1)

6,008,613

19.0
%Randall J. Gort(2)

429,525

1.4
%Richard Westerfer(3)

307,241

*Joel Boyarski(4)

183,238

*James McLoughlin(5)

142,550

*Steven C. Davidson(6)

28,250

*Martin Jaffe(7)

33,250

*Clarence L. Irving, Jr.(8)

36,357

*Jeff Morris(9)

31,125

*Lem Tarshis(10)

61,191

*All current directors and executive officers as a group (10 persons)

7,261,340

22.9
%


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Item 13. Certain Relationships and Related Transactions

None.

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Item 14. Principal Accountant Fees and Services

The aggregate fees for professional services rendered to us by Grant Thornton LLP and PricewaterhouseCoopers LLP, our independent registered public account firms,
for the fiscal year ended December 31, 2003 and Grant Thornton LLP, our independent registered public account firm for this fiscal year ended December 31, 2004, are as follows (in whole
dollars):

Fiscal Years Ended December 312003

2004Audit fees

$
112,780
(1)
$
93,320Audit related fees


22,650
(2)

45,328Tax fees


27,000
(3)

36,401All other fees


0


0Total

$
162,430

$
175,049


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Audit Fees

The "audit fees" reported above were billed to us by Grant Thornton LLP and PricewaterhouseCoopers LLP for professional services rendered in connection with their
audit of our consolidated financial statements and their limited reviews of our unaudited consolidated financial statements and our unaudited consolidated interim financial statements included in our
quarterly reports, and for services normally provided by Grant Thornton LLP and PricewaterhouseCoopers LLP in connection with other statutory and regulatory filings or engagements, including audit
consultations and SEC comment letters.

Audit Related Fees

The "audit related fees" reported above were billed to us by Grant Thornton LLP and PricewaterhouseCoopers LLP for assurance and related services that were
reasonably related to the performance of their audit or review of our financial statements, but which are not reported as Audit Fees. These services include accounting consultations in connection with
the impact of prospective accounting pronouncements and stock based compensation matters.

Tax Fees

During the fiscal years reported above, Grant Thornton LLP and PricewaterhouseCoopers LLP rendered professional services to us relating to tax compliance, tax
advice, or tax planning.

All Other Fees

During the fiscal years reported above, Grant Thornton LLP and PricewaterhouseCoopers LLP rendered no professional services to us other than for those relating to
audit, audit related and tax matters.

38

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Audit Committee Pre-approval Policies and Procedures

Our audit committee has adopted a policy requiring the pre-approval of all audit and permissible nonaudit services provided by our independent public
auditors. Under the policy, the audit committee is to specifically pre-approve before the end of each fiscal year any recurring audit and audit related services to be provided during the
following fiscal year. The audit committee also may generally pre-approve, up to a specified maximum amount, any nonrecurring audit and audit related services for the following fiscal
year. All pre-approved matters must be detailed as to the particular service or category of services to be provided, whether recurring or non-recurring, and reported to the
audit committee at its next scheduled meeting. Permissible nonaudit services are to be pre-approved on a case-by-case basis. The audit committee may delegate its
pre-approval authority to any of its members, provided that such member reports all pre-approval decisions to the audit committee at its next scheduled meeting. Our independent
public auditors and members of management are required to report periodically to the audit committee the extent of all services provided in accordance with the pre-approval policy,
including the amount of fees attributable to such services.

In
accordance with Section 10A(i)(2) of the Securities Exchange Act of 1934, as amended by Section 202 of the Sarbanes-Oxley Act of 2002, we are required to disclose the
approval by the audit committee of the Board of Directors of non-audit services to be performed by Grant Thornton LLP, the Company's independent auditors. Non-audit services
are services other than those provided in connection with an audit or review of the financial statements. During the period covered by this filing, the audit committee approved all audit related fees,
tax fees and all other fees.

PART IV

Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.

The
following financial statements have been included as part of this report:

Report of Grant Thornton LLP, Independent Registered Public Accounting Firm

F-2Report of PricewaterhouseCoopers LLP, Independent Registered Public Accounting Firm

F-3Consolidated Balance Sheets

F-4Consolidated Statements of Operations

F-5Consolidated Statements of Stockholders' Equity

F-6Consolidated Statements of Cash Flows

F-7Notes to Consolidated Financial Statements

F-8


39

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WORLDGATE COMMUNICATIONS, INC.        SCHEDULE IIVALUATION AND QUALIFYING ACCOUNTS

|                                             |                              | Balance at
Beginning of
Year |        | Additions Charged to
Cost and
Expenses |       | Deductions
Credited to
Costs and
Expenses |        | Balance at
end of Year
|-------------------------------------------- | ---------------------------- | ---------------------------- | ------ | -------------------------------------- | ----- | ----------------------------------------- | ------ | ----------------------
|
|Allowance for doubtful accounts:             |                              |                              |        |                                        |       |                                           |        |                       
|                                             | Year ended December 31, 2002 |                              | 996    |                                        | 628   |                                           | (28    | )                     
|                                             | Year ended December 31, 2003 |                              | 1,596  |                                        | 651   |                                           | (1,866 | )                     
|                                             | Year ended December 31, 2004 |                              | 381    |                                        | 0     |                                           | (381   | )                     
|Valuation Allowance for Deferred Tax Assets: |                              |                              |        |                                        |       |                                           |        |                       
|                                             | Year ended December 31, 2002 |                              | 61,350 |                                        | 8,144 |                                           |        |                       
|                                             | Year ended December 31, 2003 |                              | 69,494 |                                        | 3,407 |                                           |        |                       
|                                             | Year ended December 31, 2004 |                              | 72,901 |                                        | 6,389 |                                           |        |                       

All
other schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions or are
inapplicable, and therefore have been omitted.



|Exhibit |  | Description                                                                                                                                                                                                                                  
|------- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|3.1     |  | Amended and Restated Certificate of Incorporation(1)                                                                                                                                                                                         
|3.2     |  | Amended and Restated Bylaws(2)                                                                                                                                                                                                               
|3.3     |  | Form of Certificate of Designations, Preferences and Rights of the Series A Convertible Preferred Stock of the Company(3)                                                                                                                    
|3.4     |  | Certificate of Amendment of Certificate of Incorporation dated October 18, 2004(4)                                                                                                                                                           
|3.5     |  | Certificate of Designations, Preferences and Rights of the Series A Convertible Preferred Stock of the Company(5)                                                                                                                            
|4.1     |  | Form of Warrant issued by the Company to the Purchasers (as defined in the Amended and Restated Securities Agreement between the Company and the Purchasers dated as of December 4, 2003)(6)                                                 
|4.2     |  | Form of Additional Investment Right issued by the Company to the Purchasers (as defined in the Amended and Restated Securities Agreement between the Company and the Purchasers dated as of December 4, 2003)(7)                             
|4.3     |  | Form of Warrant dated as of January 21, 2004 issued by the Company to the Purchasers (as defined in the Securities Purchase Agreement dated as of January 21, 2004)(8)                                                                       
|4.4     |  | Form of Additional Investment Right dated as of January 21, 2004 issued by the Company to the Purchasers (as defined in the Amended and Restated Securities Agreement dated as of January 21, 2004 between the Company and the Purchasers)(9)
|4.5     |  | Form of Series A Warrant dated as of June 24, 2004 issued by the Company to the Investors (as defined in the Securities Purchase Agreement dated as of June 24, 2004 between the Company and the Investors)(10)                              
|        |  |                                                                                                                                                                                                                                              

40

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|4.6  |  | Form of Series B Warrant dated as of June 24, 2004 issued by the Company to the Investors (as defined in the Securities Purchase Agreement dated as of June 24, 2004 between the Company and the Investors)(11)                                                                                                                       
|---- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|4.7  |  | Form of Series C Warrant dated as of June 24, 2004 issued by the Company to the Investors (as defined in the Securities Purchase Agreement dated as of June 24, 2004 between the Company and the Investors)(12)                                                                                                                       
|10.1 |  | Lease Agreement dated October 7, 1998 between WorldGate and Balanced Capital LLC, as amended by First Amendment to Lease Agreement dated December 7, 1998 between WorldGate and Balanced Capital LLC, as further amended by Second Amendment to
Lease Agreement dated December 17, 1998 between WorldGate and Balanced Capital LLC(13)
|10.2 |  | Amendment dated November 18, 2004 to Lease Agreement dated October 7, 1998 between WorldGate and Balanced Capital LLC*                                                                                                                                                                                                                
|10.3 |  | Manufacturing Agreement between WorldGate and Mototech Inc. dated September 9, 2003(14)                                                                                                                                                                                                                                               
|10.4 |  | Development and Distribution Agreement dated as of April 28, 2004 between the Company, WorldGate Services, Inc. and General Instrument Corporation d/b/a the Broadband Communication Sector of Motorola, Inc.(15) (Portions of this agreement are
subject to a confidential treatment request.)                                       
|10.5 |  | Amended and Restated 1996 Stock Option Plan, as amended(16)                                                                                                                                                                                                                                                                           
|10.6 |  | 2003 Equity Incentive Plan(17)                                                                                                                                                                                                                                                                                                        
|10.7 |  | Amended and Restated Securities Purchase Agreement dated as of December 4, 2003 by and between the Company and the Purchasers (as defined therein)(18)                                                                                                                                                                                
|10.8 |  | Securities Purchase Agreement dated as of January 20, 2004 by and between the Company and the Purchasers (as defined therein)(19)                                                                                                                                                                                                     
|10.9 |  | Securities Purchase Agreement dated as of June 24, 2004 by and between the Company and the Investors (as defined therein)(20)                                                                                                                                                                                                         
|16   |  | Letter from PricewaterhouseCoopers LLP to the Securities and Exchange Commission, dated October 3, 2003 regarding change in certifying accountant(21)                                                                                                                                                                                 
|21   |  | Subsidiaries*                                                                                                                                                                                                                                                                                                                         
|23.1 |  | Consent of PricewaterhouseCoopers LLP*                                                                                                                                                                                                                                                                                                
|23.2 |  | Consent of Grant Thornton LLP*                                                                                                                                                                                                                                                                                                        
|24   |  | Power of Attorney (included in signature page)                                                                                                                                                                                                                                                                                        
|31.1 |  | Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)*                                                                                                                                                                                                                                                                  
|31.2 |  | Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)*                                                                                                                                                                                                                                                                  
|32.1 |  | Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as adopted by Section 906 of the Sarbanes-Oxley Act of 2002*                                                                                                                                                                                             
|32.2 |  | Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as adopted by Section 906 of the Sarbanes-Oxley Act of 2002*                                                                                                                                                                                             

---

41

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42

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SIGNATURES

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

| |  | WORLDGATE COMMUNICATIONS, INC.
| |  | ------------------------------
| |  | By:                           

Power of Attorney

Each person whose signature appears below hereby constitutes and appoints Hal M. Krisbergh and Randall J. Gort the true and lawful
attorneys-in-fact and agents of the undersigned, with full power of substitution and resubstitution, for and in the name, place and stead of the undersigned, in any and all
capacities, to sign any and all amendments to this report, and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission,
and hereby grants to such attorneys-in-fact and agents full power and authority to do and perform each and every act and thing requisite and necessary to be done, as fully to
all intents and purposes as the undersigned might or could do in person, hereby
ratifying and confirming all that said attorneys-in-fact and agents, or their substitute or substitutes, may lawfully do or cause to be done by virtue hereof.

Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on
the dates indicated.

|Name                                              |  | Capacity                                                                        |  | Date          
|------------------------------------------------- |  | ------------------------------------------------------------------------------- |  | --------------
|                                                  |  |                                                                                 |  |               
|/s/HAL M. KRISBERGHHal M. Krisbergh               |  | Chairman of the Board and Chief Executive Officer (principal executive officer) |  | March 31, 2005
|/s/JOEL BOYARSKIJoel Boyarski                     |  | Vice President and Chief Financial Officer                                      |  | March 31, 2005
|/s/STEVEN C. DAVIDSONSteven C. Davidson           |  | Director                                                                        |  | March 31, 2005
|/s/MARTIN JAFFEMartin Jaffe                       |  | Director                                                                        |  | March 31, 2005
|/s/CLARENCE L. IRVING, JR.Clarence L. Irving, Jr. |  | Director                                                                        |  | March 31, 2005
|                                                  |  |                                                                                 |  |               

43

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|/s/JEFF MORRISJeff Morris       |  | Director |  | March 31, 2005
|------------------------------- |  | -------- |  | --------------
|/s/LEMUEL TARSHISLemuel Tarshis |  | Director |  | March 31, 2005

44

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Exhibit Index

|Exhibit |  | Description                                                                                                                                                                                                                                                                                                                           
|------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|3.1     |  | Amended and Restated Certificate of Incorporation(1)                                                                                                                                                                                                                                                                                  
|3.2     |  | Amended and Restated Bylaws(2)                                                                                                                                                                                                                                                                                                        
|3.3     |  | Form of Certificate of Designations, Preferences and Rights of the Series A Convertible Preferred Stock of the Company(3)                                                                                                                                                                                                             
|3.4     |  | Certificate of Amendment of Certificate of Incorporation dated October 18, 2004(4)                                                                                                                                                                                                                                                    
|3.5     |  | Certificate of Designations, Preferences and Rights of the Series A Convertible Preferred Stock of the Company(5)                                                                                                                                                                                                                     
|4.1     |  | Form of Warrant issued by the Company to the Purchasers (as defined in the Amended and Restated Securities Agreement between the Company and the Purchasers dated as of December 4, 2003)(6)                                                                                                                                          
|4.2     |  | Form of Additional Investment Right issued by the Company to the Purchasers (as defined in the Amended and Restated Securities Agreement between the Company and the Purchasers dated as of December 4, 2003)(7)                                                                                                                      
|4.3     |  | Form of Warrant dated as of January 21, 2004 issued by the Company to the Purchasers (as defined in the Securities Purchase Agreement dated as of January 21, 2004)(8)                                                                                                                                                                
|4.4     |  | Form of Additional Investment Right dated as of January 21, 2004 issued by the Company to the Purchasers (as defined in the Amended and Restated Securities Agreement dated as of January 21, 2004 between the Company and the Purchasers)(9)                                                                                         
|4.5     |  | Form of Series A Warrant dated as of June 24, 2004 issued by the Company to the Investors (as defined in the Securities Purchase Agreement dated as of June 24, 2004 between the Company and the Investors)(10)                                                                                                                       
|4.6     |  | Form of Series B Warrant dated as of June 24, 2004 issued by the Company to the Investors (as defined in the Securities Purchase Agreement dated as of June 24, 2004 between the Company and the Investors)(11)                                                                                                                       
|4.7     |  | Form of Series C Warrant dated as of June 24, 2004 issued by the Company to the Investors (as defined in the Securities Purchase Agreement dated as of June 24, 2004 between the Company and the Investors)(12)                                                                                                                       
|10.1    |  | Lease Agreement dated October 7, 1998 between WorldGate and Balanced Capital LLC, as amended by First Amendment to Lease Agreement dated December 7, 1998 between WorldGate and Balanced Capital LLC, as further amended by Second Amendment to Lease
Agreement dated December 17, 1998 between WorldGate and Balanced Capital LLC(13)
|10.2    |  | Amendment dated November 18, 2004 to Lease Agreement dated October 7, 1998 between WorldGate and Balanced Capital LLC*                                                                                                                                                                                                                
|10.3    |  | Manufacturing Agreement between WorldGate and Mototech Inc. dated September 9, 2003(14)                                                                                                                                                                                                                                               
|10.4    |  | Development and Distribution Agreement dated as of April 28, 2004 between the Company, WorldGate Services, Inc. and General Instrument Corporation d/b/a the Broadband Communication Sector of Motorola, Inc.(15) (Portions of this agreement are subject
to a confidential treatment request.)                                       
|        |  |                                                                                                                                                                                                                                                                                                                                       

45

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|10.5 |  | Amended and Restated 1996 Stock Option Plan, as amended(16)                                                                                           
|---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------
|10.6 |  | 2003 Equity Incentive Plan(17)                                                                                                                        
|10.7 |  | Amended and Restated Securities Purchase Agreement dated as of December 4, 2003 by and between the Company and the Purchasers (as defined therein)(18)
|10.8 |  | Securities Purchase Agreement dated as of January 20, 2004 by and between the Company and the Purchasers (as defined therein)(19)                     
|10.9 |  | Securities Purchase Agreement dated as of June 24, 2004 by and between the Company and the Investors (as defined therein)(20)                         
|16   |  | Letter from PricewaterhouseCoopers LLP to the Securities and Exchange Commission, dated October 3, 2003 regarding change in certifying accountant(21) 
|21   |  | Subsidiaries*                                                                                                                                         
|23.1 |  | Consent of PricewaterhouseCoopers LLP*                                                                                                                
|23.2 |  | Consent of Grant Thornton LLP*                                                                                                                        
|24   |  | Power of Attorney (included in signature page)                                                                                                        
|31.1 |  | Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)*                                                                                  
|31.2 |  | Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)*                                                                                  
|32.1 |  | Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as adopted by Section 906 of the Sarbanes-Oxley Act of 2002*             
|32.2 |  | Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as adopted by Section 906 of the Sarbanes-Oxley Act of 2002*             

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