SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

--------------------------------------------------------------------------------
                                    FORM 10-K

[X]    Annual report under Section 13 or 15(d) of the Securities Exchange Act of
       1934 For the fiscal year ended December 31, 2003.

[ ]    Transition report under Section 13 or 15(d) of the Securities Exchange
       Act of 1934 For the transition period from                to

                        Commission File Number: 000-19828
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                                SPATIALIGHT, INC.
             (Exact name of registrant as specified in its Charter)

              NEW YORK                                  16-1363082
     (State or other jurisdiction                     (I.R.S. Employer
   of incorporation or organization)                 Identification No.)

           Five Hamilton Landing, Suite 100, Novato, California 94949
           ----------------------------------------------------------
                    (Address of principal executive offices)

                                 (415) 883-1693
                           --------------------------
                           (Issuer's telephone number)

         Securities registered under Section 12(b) of the Exchange Act:
       None Securities registered under Section 12(g) of the Exchange Act:

                          Common Shares, $.01 par value
                          -----------------------------
                                (Title of Class)

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

      Indicate by check mark 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. [ ]

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

      The  aggregate  market  value  for  the  Issuer's  voting  Shares  held by
non-affiliates of the Issuer, based upon the $ 4.25 per share closing sale price
of the Common  Shares on March 26,  2004,  as  reported  on the Nasdaq  SmallCap
Market, was approximately $ 127,281,631.  Common Shares held by each officer and
director and by each person who owns 5% or more of the outstanding Common Shares
have been  excluded in that such  persons may be deemed to be  affiliates.  This
determination of affiliate status is not necessarily a conclusive  determination
for other purposes.

      As of March 29, 2004, Registrant had 34,495,062 Common Shares outstanding.


                                       1
<PAGE>

<TABLE>
<CAPTION>
                                SPATIALIGHT, INC.
                             FORM 10-K ANNUAL REPORT

                                TABLE OF CONTENTS

                                                                                                              Page

                                     PART I

         <S>               <C>                                                                                <C>
         ITEM 1            Description of Business...........................................................  3

         ITEM 2            Description of Property...........................................................  8

         ITEM 3            Legal Proceedings.................................................................  8

         ITEM 4            Submission of Matters to a Vote
                           Of Security Holders...............................................................  8

                                     PART II

         ITEM 5            Market for Common Equity and Related Shareholder Matters..........................  8

         ITEM 6            Selected Consolidated Financial Data.............................................. 11

         ITEM 7            Management's Discussion and Analysis of Financial Condition
                           And Results of Operation.......................................................... 12

         ITEM 7A           Quantitative and Qualitative Disclosures About Market Risk ....................... 25

         ITEM 8            Consolidated Financial Statements and Supplementary Data.......................... 25

         ITEM 9            Changes in and Disagreements with Accountants
                           On Accounting and Financial Disclosure............................................ 53

         ITEM 9A           Controls and Procedures .......................................................... 53

                                    PART III

         ITEM 10           Directors and Executive Officers.................................................. 54

         ITEM 11           Executive Compensation............................................................ 56

         ITEM 12           Security Ownership of Certain Beneficial Owners and Management
                           and Related Shareholder Matters................................................... 59

         ITEM 13           Certain Relationships and Related Transactions.................................... 60

         ITEM 14           Principal Accountant Fees and Services ........................................... 62

                                     PART IV

         ITEM 15           Exhibits, Consolidated Financial Statement Schedules and Reports on Form 8-K...... 63
</TABLE>


                                       2
<PAGE>

                                     PART I

This annual  report on Form 10-K  contains  certain  forward-looking  statements
within the meaning of Section 21E of the Securities and Exchange Act of 1934, as
amended,  and is subject to the Safe Harbor provisions  created by that statute.
In this  report,  the  words  "anticipates,"  "believes,"  "expects,"  "future",
"intends," and similar expressions  identify  forward-looking  statements.  Such
statements are subject to risks and  uncertainties,  including,  but not limited
to, those discussed herein which are specific to the Company's business,  and in
particular, those contained in "Item 7 - Management's Discussion and Analysis of
Financial Condition and Results of Operations" under the caption "Risk Factors,"
that could cause actual results to differ  materially from those projected.  You
are cautioned not to place undue reliance on these  forward-looking  statements,
which speak only as of the date hereof.  We undertake no  obligation to publicly
update  or  revise  these  forward-looking   statements  to  reflect  events  or
circumstances  after the date of this  report or to reflect  the  occurrence  of
unanticipated  events and thus you should not assume that silence by  management
over time  means  that  actual  events  are  bearing  out as  estimated  in such
forward-looking statements.

ITEM 1.    DESCRIPTION OF BUSINESS

INTRODUCTION

      We manufacture  microdisplays that provide high resolution images suitable
for applications including high definition television,  rear projection computer
monitors and video projectors,  and potential applications such as those used in
wireless  communication  devices,  portable  games and digital  assistants.  Our
microdisplays,  are  designed  for use in end  products  of  original  equipment
manufacturers,  and  therefore we work closely with  customers  and  prospective
customers to incorporate our microdisplays  into their final products.  We lease
clean room space where we currently  manufacture our SpatiaLight  imagEngine(TM)
microdisplays.  In addition, in January 2004, we leased an additional clean room
at the  same  location  as the  existing  clean  room  to  address  current  and
anticipated  increased  manufacturing  demand.  We believe these  facilities are
suitable to meet our current and immediate  future  needs.  We also believe that
these  current   arrangements  provide  us  with  strong  quality  controls  and
effectively  protect  our  proprietary  technology  in  our  products.  Internal
manufacturing is subject to certain risks described under "Risk Factors" in Item
7 herein.  We have  patents  covering  parts of our  designs;  however,  the key
designs of the circuitry in the silicon,  drive  electronics  and liquid crystal
assembly techniques are proprietary and not covered by patents.

      Our microdisplays are  high-resolution  liquid crystal displays.  They are
constructed  with a silicon  chip, a layer of liquid  crystals and a glass cover
plate in contrast to the more common  construction of liquid crystals sandwiched
between two glass plates. These displays are also known as and commonly referred
to as liquid crystal on silicon (LCoS),  liquid crystal  displays (LCD),  active
matrix liquid crystal displays and spatial light modulators.

      The  image on a  microdisplay  can be  projected  onto a  screen  or other
surface for individual or group viewing or used in a portable  application  that
is  viewed  through a  magnifying  device  similar  to a  viewfinder.  Potential
microdisplay applications include:

      o     large-screen   rear-projection  television  systems,  in  both  high
            definition television format and standard television formats;

      o     large-screen  rear-projection  computer  monitors  in a  variety  of
            resolutions;

      o     video projectors for applications such as presentations;

      o     head-mounted  displays which are used for virtual  reality  systems,
            defense, aerospace and gaming applications; and

      o     other  potential  applications  such as point of purchase  displays,
            optical computing and data storage.


                                       3
<PAGE>

      Our technology  uses liquid  crystals and silicon  chips.  An advantage of
these  materials is that  processes  for working with them are already known and
they  may  be  produced  more  quickly  than  competing   technologies  offering
comparable quality.  By using existing  manufacturing  processes,  we believe we
will be able to obtain economies of scale.

      From 2001  through  2003,  we entered  into  agreements  or  memoranda  of
understanding  with  original  equipment  manufacturers  (OEMs) in China and the
Republic  of  South  Korea  for   testing  of  our   microdisplay   products  in
contemplation of definitive  purchase order agreements.  Fuji Photo Optical Co.,
Ltd.  (Fuji) is our current  manufacturer  of light  engines being used with our
microdisplay products to be sold to our current and prospective customers.

      In late  January  2003,  we  announced  that we  signed a  purchase  order
agreement  with Skyworth  Display,  one of the Chinese OEMs with which we had an
agreement to test prototypes of our microdisplay  products,  for the purchase by
Skyworth of 14,100 SpatiaLight  display units during a one year delivery period.
The purchase order originally provided for 200 units to be delivered in February
and an  additional  200 units in each of March and April 2003.  Skyworth  and we
subsequently  agreed to delay  the first  delivery  of units.  To date,  we have
completed shipment of 100 of the 200 units originally  scheduled for delivery in
the first month.  Skyworth has recently advised us that it has decided to change
the screen size format of the LCoS  televisions  that it intends to  manufacture
using our display units. As a result,  Skyworth is making  necessary  changes to
certain of its internally developed electronics  components,  which Skyworth has
advised  us will occur in the  future.  We expect to ship the  remainder  of the
first 200 units after Skyworth  completes  these changes.  Following the initial
delivery  provisions of 200 units per month for the first three  months,  we are
scheduled  to deliver  1,500 units per month until the order is  completed.  The
purchase order is cancelable by Skyworth on a quarterly  basis and is subject to
pricing contingencies and other customary terms and conditions.

      In September  2003, we announced that we signed a purchase order agreement
with China Electronics Corporation (CEC), another of the Chinese OEMs with which
we had an agreement to test  prototypes of our  microdisplay  products,  for the
purchase by CEC of 2,000 display  units from us. The  agreement  provides for an
initial delivery of ten display units, which was completed in September,  with a
second  delivery  of 100  units to follow in the  immediate  future.  Additional
shipments will be made periodically  according to a schedule to be determined by
CEC and us. Pursuant to the terms of the purchase order, the current obligations
of CEC are  backed by  letters of credit in our  favor.  The  purchase  order is
cancelable by CEC after delivery of 110 units and is subject to other  customary
terms and conditions.

      In  October  2003,  we  announced  that we had  signed  a  purchase  order
agreement with Nanjing Panda  Electronics Co. (Panda),  a third Chinese OEM with
which we had an agreement to test prototypes of our microdisplay  products,  for
the  purchase of 2610  display  units by Panda.  The  agreement  provides for an
initial  television  box  integration  phase,  which Panda  recently  completed,
utilizing a prototype  SpatiaLight display unit. The agreement then provides for
delivery  of ten  display  units  to  Panda,  which  we  expect  to occur in the
immediate  future,  with a second  delivery  of 100  display  units  to  follow.
Subsequent  shipments  under  the  purchase  order  will  be  made  periodically
according to a schedule to be determined  by the parties.  Pursuant to the terms
of the purchase  order,  the  obligations  of Panda will be backed by letters of
credit in our favor. The purchase order is cancelable by Panda after delivery of
ten display units and is subject to other customary terms and conditions.

      In December 2003, we signed a purchase order  agreement with SCT Optronics
Company Ltd.  (SCT), a Chinese OEM, for the purchase of 2,020 display units from
SpatiaLight.  The initial  shipment of ten display units  provided for under the
agreement was completed in December 2003.  Future  shipments are scheduled to be
made  periodically  according  to a  schedule  to be finally  determined  by the
parties.  The purchase  order is cancelable by SCT after delivery of ten display
units and is subject to other customary terms and conditions.

      In December 2003, we signed a purchase order agreement with Shanghai China
Display Co.,  Ltd.  (China  Display),  another  Chinese OEM with which we had an
agreement  to  test  prototypes  of our  microdisplay  products.  The  agreement
provides  for the purchase by China  Display of 1,000 sets of three  SpatiaLight
imagEngine(TM)  microdisplays.  Pursuant to the purchase  order, we completed an
initial delivery of 100  microdisplay  sets to China Display in December 2003. A
second delivery of 300 sets and a third delivery of 600 sets are to follow.  The
entire order is scheduled to be completed  within a three-month  period.  We may
mutually agree with China Display to revise the delivery  schedule.  Pursuant to
the terms of the purchase order, the obligations of China Display will be backed
by three  letters of  credit,  the first of which was issued and paid to us. The
purchase order is not cancelable by China Display, according to the terms of the
purchase  order,  because the delivered  microdisplay  sets met China  Display's
specifications.  The  purchase  order is  subject to other  customary  terms and
conditions.


                                       4
<PAGE>

      In December 2003, we signed a purchase order agreement with Global Display
Limited,   a  Chinese  OEM,  for  the  purchase  of  2,000  display  units  from
SpatiaLight.  Shipments  are  scheduled to be made  periodically  according to a
schedule  to be  finally  determined  by the  parties.  The  purchase  order  is
cancelable  by Global  Display  after the initial  delivery of ten display units
provided for under the  agreement  and is subject to other  customary  terms and
conditions.

      We are also  currently  negotiating  the terms of purchase  orders for our
products with certain other prospective customers,  primarily in China and South
Korea,  some of whom are parties to the agreements or memoranda of understanding
described  in this Item 1. There are  significant  open issues  with  respect to
these prospective purchase orders that have to be finally negotiated,  including
prices and quantities of our products.  We cannot assure whether we will receive
any purchase  orders binding on any of these companies for their purchase of our
microdisplay products in the near future. Even assuming that we receive purchase
orders that are binding on the prospective customers, these orders and our sales
to these  customers are subject to certain  contingencies  described under "Risk
Factors" in Item 7 herein.

      We were incorporated  under the laws of the State of New York in 1989. Our
executive  offices  are located at Five  Hamilton  Landing,  Suite 100,  Novato,
California 94949.

TECHNOLOGY AND PRODUCTS UNDER DEVELOPMENT

      A  typical  liquid  crystal  display,  as might  be  found  in a  notebook
computer,   basically  consists  (along  with  other  associated  materials  and
processes) of liquid crystal  material  sandwiched  between two pieces of glass,
polarizers,  color filters, a data signal and a light source. As the data signal
is applied  across the  sandwich  of the liquid  crystals,  the  electric  field
created by this data signal  causes the liquid  crystals to tilt.  This tilting,
combined  with  the   polarizers,   makes  each  pixel  change  from  opaque  to
transparent,  thereby controlling either the transmission or reflection of light
from each pixel.

      Departing from typical liquid crystal displays utilizing  circuitry on two
pieces  of  glass,  we  design  integrated   circuits  that  control  individual
reflective pixels on a silicon substrate. This silicon substrate is manufactured
using a conventional  complimentary  metal oxide  semiconductor  (CMOS) process.
This processed silicon substrate,  also known as a silicon  backplane,  then has
the liquid  crystal  material  and a cover  glass  applied to it.  When the data
signal is sent to the circuitry in the silicon,  the liquid  crystals again tilt
from  opaque  to  transparent  states.  When  polarizers  are added and light is
reflected  from the pixels on the  silicon,  images can be viewed  directly  or,
using standard optical techniques, projected into larger images on a screen.

      As is common with all LCDs, the images  produced are inherently  black and
white. The varying of the electrical  signal to each pixel produces gray scaling
(various shades of gray going from black to white). Utilizing this gray scaling,
there are three basic  techniques for achieving  color  displays:  (1) optically
combining  different colors of light, (2) sequential color systems and (3) color
filters. We believe our displays can be adapted for use in all of these types of
color display processes.

      The display  industry has  undergone  and  continues to undergo  rapid and
significant  technological change. We expect display technologies to continue to
develop  rapidly,  and our success will depend  significantly  on our ability to
attain and maintain a competitive position. Rapid technological  development may
result in actual and proposed displays,  products or processes becoming obsolete
before we recoup a  significant  portion of related  research  and  development,
acquisition and commercialization costs.


                                       5
<PAGE>

      Our ability to compete will depend in part upon many factors including the
quality of the  display,  delivery,  pricing and  technical  specifications.  In
addition  there will be factors  within and  outside of our  control,  including
customer  support  and the  success  and  timing  of  product  introduction  and
distribution  by our  customers.  Our  competitors  may  succeed  in  developing
technologies  and products that are equally or more efficient than any which are
being  developed  by us which will  render our  technology,  displays  and other
products obsolete and non-competitive.

      Our  continued  existence  is dependent  upon our ability to  successfully
develop,  manufacture,  market and sell our products.  To date, we have received
purchase orders from seven Chinese OEMs. We are currently  offering two types of
products to our customers and prospective customers primarily in China and South
Korea.   One   product  is  sets  of  three  of  our   proprietary   SpatiaLight
imagEngine(TM)  LCoS  microdisplays.  Our other  product,  the display  unit, is
comprised of three of our LCoS microdisplays fitted onto a light engine designed
by SpatiaLight and Fuji and manufactured by Fuji. Our current  microdisplay sets
and display units each utilize more than 3.6 million  pixels and are designed to
be incorporated into High Definition televisions, rear projection monitors, home
theater projection systems, video projectors and other display applications.

MARKETING, SALES AND DISTRIBUTION

Application and Markets

      We are  currently  working  with a number of OEMs,  primarily in China and
South Korea, to use our microdisplay products in their end product applications.
We do not believe  that  designing,  selling and  distributing  end products for
these  diverse  markets  is in our  own  best  interests.  We  are  establishing
relationships  with OEMs and considering  possibilities  with respect to jointly
developing end products that could be marketed and sold into those  markets.  We
are also  continuing to establish  relationships  with OEMs to  incorporate  our
microdisplays into their end products. In high volume applications, we currently
are and expect to continue custom designing our  microdisplay  products to fit a
specific  manufacturer's  need for a  specific  product.  We will also  consider
licensing our microdisplay  products to large manufacturers who have the ability
and desire to  manufacture  our  displays for use in their final  products.  Our
SpatiaLight imagEngine(TM) microdisplays can be incorporated into a wide variety
of  products  such  as High  Definition  televisions,  rear-projection  computer
monitors, video projectors and head mounted displays.

      Our strategy is to focus our abilities on original  equipment design (OED)
of LCoS  microdisplays  and to work  closely  with OEMs to market  end  products
utilizing our microdisplays.  We are therefore dependent upon these OEMs for the
manufacturing, marketing and selling of end products.

Manufacturing and Supply

      We lease clean room space in California where we currently manufacture our
SpatiaLight  imagEngine(TM)  microdisplays.  In addition,  in January  2004,  we
leased an additional  clean room at the same location as the existing clean room
to address current and anticipated  increased  manufacturing  demand. We believe
that these  current  arrangements  provide us with strong  quality  controls and
effectively  protect  our  proprietary  technology  in  our  products.  Internal
manufacturing  is subject to certain risks  described  under "Risk  Factors." We
perform  product  testing of our  microdisplays,  analyze  the  results and take
actions to refine the manufacturing  process and enhance product design. We have
developed statistical quality control procedures for our manufacturing process.

      We  currently  obtain  silicon  backplanes,   a  vital  component  in  our
microdisplays,  from  the Far  East.  The  supply  of  silicon  backplanes  from
suppliers does fluctuate and we may be subject to problems of availability.

      Since January 2003, we have entered into seven purchase order  agreements,
the  terms  and  status  of which are more  fully  described  under the  heading
"Introduction"  in this  Item 1 and  Note 1 and  Note 8 in Item  8.  Fuji  Photo
Optical Co., Ltd. (Fuji) is our current manufacturer of light engines being used
with  our  microdisplay  products  to be sold  to our  current  and  prospective
customers.


                                       6
<PAGE>

      Any  termination  of a  manufacturing  or  supply  contract  could  have a
material  adverse effect on our ability to meet our  anticipated  commitments to
customers  while we identify  and qualify  replacement  manufacturers.  We could
become  dependent on a manufacturer  and any  termination or cancellation of our
agreement  with  the   manufacturer   could  adversely  affect  our  ability  to
manufacture our products.

COMPETITION

      Microdisplays are a subset of the display market (including television and
video   display).   This  display  market  subset  consists  of  (1)  reflective
microdisplays produced on silicon backplanes, (2) transmissive microdisplays and
(3) emissive  microdisplays.  Companies competing in the reflective microdisplay
market include Aurora, Brillian, eLCOS, Hitachi, Hughes/JVC, Intel, Philips, and
Sony.  These  companies are all producing  different  forms of a liquid  crystal
display on a silicon  backplane.  A competitor  in the  reflective  microdisplay
market, although not using liquid crystals in the display, is Texas Instruments,
which is producing a  micro-mechanical  structure of moving mirrors on a silicon
backplane.

      Rapid  and  significant  technological  advances  have  characterized  the
microdisplay  market.  There  can be no  assurance  that  our  displays  will be
representative  of such advances or that we will have sufficient funds to invest
in new  technologies  or products  or  processes.  Although we believe  that our
displays  have  specifications  and  capabilities  which equal or exceed that of
commercially  available LCD and Cathode Ray Tube (CRT) based  display  products,
the  manufacturers  of these products may develop further  improvements of their
existing technology that would eliminate or diminish our anticipated  advantage.
In  addition,   numerous  competitors  have  substantially   greater  financial,
technical, marketing, distribution and other resources than we have. We may also
face  an  aggressive,   well-financed  competitive  response  that  may  include
misappropriation of our intellectual property or predatory pricing.

PATENTS AND INTELLECTUAL PROPERTY

         Our ability to compete effectively with other companies will depend, in
part,  on our ability to maintain the  proprietary  nature of our  technologies.
SpatiaLight  has been  awarded  six U.S.  patents  and we have  other  U.S.  and
international patent applications  pending.  There can be no assurance as to the
degree of  protection  offered  by these  patents or as to the  likelihood  that
pending patents will be issued.  Our competitors,  in both the United States and
foreign countries,  many of which have substantially  greater resources and have
made substantial  investments in competing  technologies,  may seek to apply for
and obtain  patents that will  prevent,  limit or interfere  with our ability to
make and sell our products or intentionally infringe upon our patents.

         The  defense  and  prosecution  of  patent  suits  is both  costly  and
time-consuming, even if the outcome is favorable to us. This can be particularly
true in foreign countries.  In addition,  there is an inherent  unpredictability
regarding  obtaining  and  enforcing  patents in foreign  countries.  An adverse
outcome  in the  defense  of a  patent  suit  could  subject  us to  significant
liabilities to third parties,  require disputed rights to be licensed from third
parties, or require us to cease selling our products.

         We also rely on unpatented  proprietary  technology and there can be no
assurance  that  others  may not  independently  develop  the  same  or  similar
technology or otherwise obtain access to our proprietary technology.  To protect
our rights in these areas, we require all employees and technology  consultants,
advisors and collaborators to enter into  confidentiality  agreements.  However,
these  agreements may not provide  meaningful  protection for our trade secrets,
know-how or other proprietary  information in the event of any unauthorized use,
misappropriation  or  disclosure  of  such  trade  secrets,  know-how  or  other
proprietary  information.  To  date,  we have no  experience  in  enforcing  our
confidentiality agreements.


                                       7
<PAGE>

RESEARCH AND DEVELOPMENT

      We incurred research and development expenses of approximately  $2,681,000
million in 2003 and $3,639,000 in 2002.  Research and  development  expenses are
those costs incurred for personnel and experimental materials for the design and
development of new products,  including approximately $800,000 in pre-production
tooling costs for test designs in 2002. We believe that the  development  of new
products  will be  required  to allow us to compete  effectively  and to achieve
future revenues.  We currently have 11 full-time  employees whose duties include
research and  development  and seven  full-time  employees  whose duties include
manufacturing.  We intend to continue our product development programs, focusing
on  increasing  the  display  specifications  including  resolution,  color  and
manufacturing  processes.  We believe that such developments will be required to
exploit future markets.

EMPLOYEES

      As of December 31, 2003, the Company had 28 full-time  employees and three
part-time engineering  contractors.  Full-time employment is divided among three
functional areas with 11 in research and development, seven in manufacturing and
10  in  management/finance/administration.  In  July  2003,  we  hired  a  Chief
Financial Officer and an Executive Vice President of Strategic Planning, both of
whom  serve  as  executive  officers.  Employees  are  not  represented  by  any
collective  bargaining  organizations.   We  consider  our  relations  with  our
employees to be good.

ITEM 2.    DESCRIPTION OF PROPERTY

      Our headquarters are located at Five Hamilton Landing,  Suite 100, Novato,
California.   Our   premises,   which  were   designed  and   built-out  to  our
specifications,  encompass our corporate offices,  quality assurance and testing
facilities and optics  laboratories.  The facility aggregates 14,000 square feet
and the lease  continues  through August 2009. We also lease clean room space in
California  where  we  currently  manufacture  our  SpatiaLight   imagEngine(TM)
microdisplays.  In addition, in January 2004, we leased an additional clean room
at the  same  location  as the  existing  clean  room  to  address  current  and
anticipated  increased  manufacturing  demand.  We believe these  facilities are
suitable to meet our current and immediate future needs.

ITEM 3.    LEGAL PROCEEDINGS

      We are not  currently  involved in any  material  legal  proceedings.  The
Company  is subject to  routine  claims  and  lawsuits  from time to time in the
ordinary  course  of  business.  While  the  outcome  of  such  ordinary  course
proceedings  cannot be predicted with certainty,  we believe that the resolution
of any future ordinary course matters  individually or in the aggregate will not
have a material adverse effect on our business,  financial  condition or results
of operations.

ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

      There were no matters  submitted to a vote of our security  holders during
the fourth quarter of fiscal 2003.

                                     PART II

ITEM 5.    MARKET FOR COMMON EQUITY AND RELATED SHAREHOLDERS MATTERS

         Trading in our Common Shares has been conducted on the Nasdaq  SmallCap
Market since May 24, 2000 under the symbol "HDTV."  Because we are traded on the
SmallCap  Market,  our securities  may be less liquid,  receive less coverage by
security  analysts and news media and generate lower prices than might otherwise
be obtained.


                                       8
<PAGE>

      The following table sets forth, for the calendar quarters  indicated,  the
range of high and low quotations for our Common Shares, as reported by Commodity
Systems, Inc.

                               HDTV COMMON SHARES

                                                         Fiscal 2003
                                                    High             Low
                                                    ----             ---
              First Quarter                         3.95             2.03
              Second Quarter                        3.05             1.89
              Third Quarter                         5.00             2.40
              Fourth Quarter                        6.39             4.29

                                                         Fiscal 2002
                                                    High             Low
                                                    ----             ---
              First Quarter                         8.15             3.18
              Second Quarter                        5.24             2.95
              Third Quarter                         3.95             2.05
              Fourth Quarter                        4.25             1.79

      The quotations listed above reflect  inter-dealer  prices,  without retail
mark-up, markdown or commission and may not represent actual transactions.

      As of March 16, 2004,  there were  approximately  489 holders of record of
our Common  Shares and the closing  price per share was $4.32 as reported on the
Nasdaq SmallCap Market. The Common Shares represent the only class of securities
outstanding as of this filing.

      In June 2003 the shareholders  approved an amendment to the  Corporation's
Restated  Certificate of  Incorporation,  as amended,  to increase the number of
authorized Common Shares, par value $0.01, from 40,000,000 to 50,000,000.

      To date, we have not paid a dividend on our Common Shares.  The payment of
future  dividends  is subject to our earnings  and  financial  position and such
other factors, including contractual restrictions, as the Board of Directors may
deem relevant.  It is unlikely that  dividends  will be paid in the  foreseeable
future.

Sales of Unregistered Securities

      In October 2003, the Company issued 31,250 Common Shares upon the exercise
of a warrant. The purchase price was $3.50 per share and total cash received was
$109,375.

      In August 2003,  the Company  issued  1,212,061  Common Shares and 303,015
fully  vested  warrants  with a  strike  price  of  $3.29  for net  proceeds  of
$2,538,851.

      In May 2003, the Company issued 2,796,325 Common Shares at $1.84 per share
and 669,080 fully vested  warrants with a purchase price of $2.65.  Net proceeds
received were $4,974,935.

      On December 31, 2002,  the Company  issued  50,000  Common Shares upon the
exercise of a warrant.  The shares were purchased at $2.42;  total cash received
was $121,000.

      During 2001,  the Company sold 391,036  Common  Shares under private stock
purchase  agreements.  The purchase prices range from $1.75 to $2.40; total cash
received was $785,146.

      On October 1, 2001, the Company sold 100,000 Common Shares under a private
stock purchase  agreement.  The stock was sold at $1.75 per share and was due in
four equal installments. The entire amount was paid on December 31, 2001.


                                       9
<PAGE>

      On May 15, 2001,  the Company sold 600,000  Common  Shares under a private
stock purchase agreement. The stock was sold at a price of $1.75 per share. Cash
received  was  $262,500.  The balance of $787,500  was to be paid in three equal
quarterly  installments of $262,500. An escrow agent is holding the certificates
for the shares being  purchased until all three  installments  have been paid in
full. At December 31, 2003 the remaining balance is $127,500.

      On October 5, 2001,  the Company  sold  1,346,268  shares of common  stock
under a private stock purchase agreement. The stock was sold at a price of $1.75
per share.  The balance of $2,517,521 was received in the form of a non-interest
bearing  stock  subscription  receivable,  to be paid in  four  equal  quarterly
installments.  At December 31, 2001 the remaining balance was $2,504,058. During
the first quarter of 2002, the purchaser  defaulted under the second  agreement,
resulting in the  cancellation  of the stock purchase  agreement.  The 1,346,268
shares have been restored to the status of authorized but unissued  shares.  The
cancellation had no impact on the Company's results of operations.

      None of the above securities transactions involved any underwriters.

      All of the purchasers of the Company's  securities in the  above-described
securities  transactions were "Accredited  Investors" within the meaning of Rule
501 under  Regulation D of the Securities Act of 1933, as amended (the 1933 Act)
and, accordingly,  all of these transactions were exempt from registration under
the 1933 Act by reason of Section 4(2) thereof.

      We have used proceeds from the above-described  securities transactions to
reduce our  liabilities,  for working  capital  purposes  and for other  general
corporate purposes.

Securities Authorized for Issuance under Equity Compensation Plans

      The following table provides information as of December 31, 2003 regarding
compensation plans (including individual compensation  arrangements) under which
equity securities are authorized for issuance.

<TABLE>
<CAPTION>

                                                                                                 NUMBER OF SECURITIES
                                                                                               REMAINING AVAILABLE FOR
                              NUMBER OF SECURITIES                                             FUTURE ISSUANCE UNDER
                               TO BE ISSUED UPON                                              EQUITY COMPENSATION PLANS
                            EXERICSE OF OUTSTANDING         WEIGHTED-AVERAGE EXERCISE       (EXCLUDING SECURITIES REFLECTED
 PLAN CATEGORY                     OPTIONS                 PRICE OF OUTSTANDING OPTIONS              IN COLUMN (A)
---------------------------------------------------------------------------------------------------------------------------
                                    (a)                             (b)                                   (c)
                               --------------------------------------------------------------------------------------------
<S>                                <C>                            <C>                                  <C>
Equity Compensation Plans
(1999 Stock Option Plan)
Approved by Security Holders       3,252,333                        $2.60                                415,417

Equity Compensation Plans
(Outside the 1999 Stock
Option Plan) Not Approved
by Security Holders                1,700,000                        $4.51                                      -
</TABLE>

*     For more information see Note 6 to the Consolidated Financial Statements.


                                       10
<PAGE>

ITEM 6.    SELECTED CONSOLIDATED FINANCIAL DATA

      The selected financial data as of, and for the periods ended, December 31,
2003,  2002,  2001,  2000 and 1999  presented  below have been  derived from the
audited consolidated financial statements of SpatiaLight. The selected financial
data should be read in conjunction  with our consolidated  financial  statements
and notes  thereto  and  "Management's  Discussion  and  Analysis  of  Financial
Condition and Results of  Operations"  included  elsewhere  herein,  in order to
fully understand factors that may affect the comparability of the financial data
presented below.

<TABLE>
<CAPTION>


STATEMENT OF OPERATIONS:

                                                                                Year Ended December 31,

                                                          2003            2002           2001           2000           1999
                                                       ------------    ------------   ------------   ------------   ------------

<S>                                                    <C>             <C>            <C>                <C>        <C>
Sales                                                  $    221,252    $          -   $          -       $ 65,650   $     62,000
Cost of Goods Sold                                         (708,320)       (286,000)             -        (16,625)       (10,945)
                                                       ------------    ------------   ------------   ------------   ------------
Gross Margin (deficit)                                     (487,068)       (286,000)             -         49,025         51,055

   Operating expenses                                     6,322,750       6,001,881      4,907,032      6,130,284      4,039,443
   Stock-based general and administrative expenses        1,985,720         713,001      2,938,062      1,162,902      1,935,504

       Total operating expenses                           8,308,470       6,714,882      7,845,094      7,293,186      5,974,947
                                                       ------------    ------------   ------------   ------------   ------------

       Operating loss                                    (8,795,538)     (7,000,882)    (7,845,094)    (7,244,161)    (5,923,892)
                                                       ------------    ------------   ------------   ------------   ------------
Other income (expenses):

        Net interest and other expense                     (137,167)       (245,659)      (234,536)       (26,762)       (94,009)
        Stock-based interest expense                       (583,672)     (1,779,147)    (1,824,864)      (561,346)    (1,389,585)
                                                       ------------    ------------   ------------   ------------   ------------
          Total other income (expenses)                    (720,839)     (2,024,806)    (2,059,400)      (588,108)    (1,483,594)
Income tax expense                                                -           2,225          7,233          1,600          3,375
                                                       ------------    ------------   ------------   ------------   ------------

Net loss                                               $ (9,516,377)   $ (9,027,913)  $ (9,911,727)  $ (7,833,869)  $ (7,410,861)
                                                       ============    ============   ============   ============   ============

Net loss per share - basic and diluted                 $      (0.34)   $      (0.37)  $      (0.46)  $      (0.41)  $      (0.57)
                                                       ============    ============   ============   ============   ============

Weighted average shares used in computing
   net loss per share- basic and diluted                 28,173,770      24,578,226     21,469,960     19,178,639     12,964,597
                                                       ============    ============   ============   ============   ============



BALANCE SHEET DATA:                                                                   December 31,

                                                           2003            2002           2001           2000           1999
                                                       ------------    ------------   ------------   ------------   ------------

Cash and cash equivalents                               $ 6,359,969       $ 575,663    $ 2,728,134    $ 1,035,957    $ 1,236,609

Inventory                                                   779,617         275,959              -              -          5,036

Working capital (deficit)                                 6,228,782        (807,891)      (868,056)    (2,061,234)       319,331

Total assets                                              8,349,696       2,058,454      3,488,002      1,800,530      1,679,585

Convertible notes                                         1,155,000       4,207,232      3,137,284      2,782,453      1,216,337

Total stockholders' equity (deficit)                      5,813,275      (4,373,806)      (213,346)    (1,463,178)      (562,088)
</TABLE>


                                       11
<PAGE>

ITEM 7.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
           RESULTS OF OPERATIONS

      The  following  discussion  and analysis of our  financial  condition  and
results  of  operations  should  be  read  in  conjunction  with  the  financial
statements and related notes appearing elsewhere in this report. This discussion
and  analysis   contains   forward-looking   statements   that  involve   risks,
uncertainties  and assumptions.  The actual results could differ materially from
those  anticipated  in these  forward-looking  statements as a result of certain
factors,  including  but not limited to,  customer's  reception of our products,
intensity of  competition,  quality control during  manufacturing  and those set
forth under "Risk Factors."

OVERVIEW

      We manufacture  microdisplays that provide high-resolution images suitable
for applications such as high definition  television,  rear projection  computer
monitors  and  video  projectors,  and  potential  applications  such  as use in
wireless  communication  devices,  portable  games and digital  assistants.  Our
revenues through December 31, 2003 have been derived from the sales of a limited
quantity of our commercial microdisplay products.

      From 2001  through  2003,  we entered  into  agreements  or  memoranda  of
understanding  with  original  equipment  manufacturers  (OEMs) in China and the
Republic  of  South  Korea  contemplating  the  purchase  by  these  prospective
customers of our display units and/or SpatiaLight  imagEngine(TM)  microdisplays
for use in certain of their products.  All of these agreements generally require
that we supply prototypes of our display units and/or SpatiaLight imagEngine(TM)
microdisplays and that they meet technical criteria satisfactory to each of such
prospective customers.

      In late January  2003,  we  announced  that we  signed  a  purchase  order
agreement  with Skyworth  Display,  one of the Chinese OEMs with which we had an
agreement to test prototypes of our microdisplay  products,  for the purchase by
Skyworth of 14,100 SpatiaLight  display units during a one year delivery period.
The purchase order originally provided for 200 units to be delivered in February
and an  additional  200 units in each of March and April 2003.  Skyworth  and we
subsequently  agreed to delay  the first  delivery  of units.  To date,  we have
completed shipment of 100 of the 200 units originally  scheduled for delivery in
the first month.  Skyworth has recently advised us that it has decided to change
the screen size format of the LCoS  televisions  that it intends to  manufacture
using our display units. As a result,  Skyworth is making  necessary  changes to
certain of its internally developed electronics  components,  which Skyworth has
advised us will occur in the immediate  future.  We expect to ship the remainder
of the first 200 units after Skyworth  completes  these  changes.  Following the
initial  delivery  provisions of 200 units per month for the first three months,
we are  scheduled to deliver 1,500 units per month until the order is completed.
The purchase order is cancelable by Skyworth on a quarterly basis and is subject
to pricing contingencies and other customary terms and conditions.

      In September  2003, we announced that we signed a purchase order agreement
with China Electronics Corporation (CEC), another of the Chinese OEMs with which
we had an agreement to test  prototypes of our  microdisplay  products,  for the
purchase by CEC of 2,000 display  units from us. The  agreement  provides for an
initial delivery of ten display units, which was completed in September,  with a
second delivery of 100 units to follow in the future.  Additional shipments will
be made  periodically  according to a schedule to be  determined  by CEC and us.
Pursuant to the terms of the purchase order, the current  obligations of CEC are
backed by letters of credit in our favor.  The purchase  order is  cancelable by
CEC after  delivery  of 110 units and is  subject to other  customary  terms and
conditions.

      In  October  2003,  we  announced  that we had  signed  a  purchase  order
agreement with Nanjing Panda  Electronics Co. (Panda),  a third Chinese OEM with
which we had an agreement to test prototypes of our microdisplay  products,  for
the purchase of 2,610  display  units by Panda.  The  agreement  provides for an
initial  television box integration  phase,  which was recently  completed.  The
agreement  then  provides for delivery of ten display  units to Panda,  which we
expect to occur in the immediate  future,  with a second delivery of 100 display
units to follow.  Subsequent  shipments  under the  purchase  order will be made
periodically  according to a schedule to be determined by the parties.  Pursuant
to the terms of the purchase  order,  the obligations of Panda will be backed by
letters of credit in our favor.  The purchase order is cancelable by Panda after
delivery  of ten  display  units and is  subject  to other  customary  terms and
conditions.


                                       12
<PAGE>

      In December 2003, we signed a purchase order  agreement with SCT Optronics
Company Ltd.  (SCT), a Chinese OEM, for the purchase of 2,020 display units from
SpatiaLight.  The initial  shipment of ten display units  provided for under the
agreement was completed in December 2003.  Future  shipments are scheduled to be
made  periodically  according to a schedule to be finally  determined by SCT and
us. The purchase  order is cancelable by SCT after delivery of ten display units
and is subject to other customary terms and conditions.

      In December 2003, we signed a purchase order agreement with Shanghai China
Display Co.,  Ltd.  (China  Display),  another  Chinese OEM with which we had an
agreement  to  test  prototypes  of our  microdisplay  products.  The  agreement
provides  for the purchase by China  Display of 1,000 sets of three  SpatiaLight
imagEngine(TM)  microdisplays.  Pursuant to the purchase  order, we completed an
initial delivery of 100  microdisplay  sets to China Display in December 2003. A
second delivery of 300 sets and a third delivery of 600 sets are to follow.  The
entire order is scheduled to be completed  within a three-month  period.  We may
mutually agree with China Display to revise the delivery  schedule.  Pursuant to
the terms of the purchase order, the obligations of China Display will be backed
by three  letters of  credit,  the first of which was issued and paid to us. The
purchase order is not cancelable by China Display, according to the terms of the
purchase  order,  because the delivered  microdisplay  sets met China  Display's
specifications.  The  purchase  order is  subject to other  customary  terms and
conditions.

      In December 2003, we signed a purchase order agreement with Global Display
Limited, a Chinese OEM, for the purchase of 2000 display units from SpatiaLight.
Shipments  are scheduled to be made  periodically  according to a schedule to be
finally  determined by the parties.  The purchase  order is cancelable by Global
Display after the initial  delivery of ten display units  provided for under the
agreement and is subject to other customary terms and conditions.

      We are also  currently  negotiating  the terms of purchase  orders for our
products with certain other prospective customers,  primarily in China and South
Korea,  some of whom are parties to the agreements or memoranda of understanding
described  in  this  Item  7.  One  of  these  parties  is a  large  electronics
manufacturer  in  South  Korea  that we  signed  a  development  agreement  with
contemplating the purchase of sets of SpatiaLight imagEngine(TM)  microdisplays.
With respect to prospective  purchase orders,  there are significant open issues
that have to be  finally  negotiated,  including  prices and  quantities  of our
products.  We cannot assure whether we will receive any purchase  orders binding
on any of these companies for their purchase of our microdisplay products in the
near future.  Even assuming that we receive  purchase orders that are binding on
the  prospective  customers,  these orders and our sales to these  customers are
subject to certain contingencies  described under "Risk Factors" in this Item 7.
We are no longer working with Daewoo Electronics, with which we had an MOU.

LIQUIDITY AND CAPITAL RESOURCES

      Through  December 31, 2003,  we have  sustained  recurring net losses from
operations  and,  at  December  31,  2003,  we had net  equity of  approximately
$5,813,000.  During 2003,  we  experienced  negative  cash flows from  operating
activities  of  approximately   $7,563,000  and  a  net  loss  of  approximately
$9,516,000.  Our operations  were funded in 2003 by the exercise of warrants and
options of approximately  $850,000, from the private placements of $12.5 million
of equity securities,  including the sale to certain private purchasers, in late
December 2003, of $5.0 million of equity  securities that had been included in a
"Shelf" Registration Statement, and approximately $221,000 of revenues generated
from the commercial sale of a limited quantity of our microdisplay products.

      As of December 31, 2003, the Company had approximately  $6,360,000 in cash
and cash equivalents,  an increase of approximately $5,784,000 from the December
31, 2002 amount of $576,000.  Our net working  capital at December 31, 2003, was
approximately  $6,229,000,   compared  to  a  net  working  capital  deficit  of
approximately $808,000 at December 31, 2002.


                                       13
<PAGE>

      Net cash used by operating activities totaled approximately $7,563,000 and
$5,059,000 in 2003 and 2002,  respectively.  The increase was due to an increase
in inventory for production needs in 2004 and a reduction in accounts payable to
vendors. Net cash provided by financing activities was approximately $13,872,000
and  $3,188,000 in 2003 and 2002,  respectively,  resulting from net proceeds of
$12,500,000  raised in three separate equity private  placement  transactions in
2003.

      As of December 31, 2003, we had an  accumulated  deficit of  approximately
$58,274,000.  We have  realized  significant  losses in the past and expect that
these losses will continue until we start to receive  significant  revenues from
the sale of our  products.  We generated  revenues of $221,000  from  operations
during  2003.  The  ramp  up  in  manufacturing  and  commercialization  of  our
microdisplays will require substantial expenditures during 2004. Although we are
expecting to generate  revenues from purchase orders in 2004, we may continue to
operate at a loss during 2004.  There can be no assurance that our business will
operate on a profitable basis thereafter.

      We  anticipate that our cash  expenditures  during  2004 will  approximate
$500,000 per month, or $6.0 million for the year, without regard to any revenues
in 2004.  We expect to meet our cash needs with our existing  cash  balances and
collections from stock subscription  receivable of approximately  $1,097,000 and
from the exercise of warrants held by existing investors. In addition, we expect
to fund working capital requirements by receiving payments from our customers in
connection  with signed  purchase  orders and by  considering  opportunities  to
obtain debt financing. There can be no assurances that we will be able to obtain
such debt financing or that existing investors will exercise their warrants.

OFF BALANCE SHEET ARRANGEMENTS

None.

CONTRACTUAL OBLIGATIONS AND CONTINGENT LIABILITIES AND COMMITMENTS

      We have long-term  contractual  obligations and commitments primarily with
regards to payment of debt and lease arrangements.

      The following table  aggregates our expected  contractual  obligations and
commitments subsequent to December 31, 2003:

<TABLE>
<CAPTION>
                                                                        PAYMENTS DUE BY PERIOD
                                                                                                2008 and
        Contractual obligations               2004          2005         2006        2007        beyond        Total
----------------------------------------   -----------  -----------  -----------  -----------  -----------  -----------

<S>                                        <C>            <C>          <C>          <C>           <C>          <C>
Employment Agreements                      $   520,000  $   180,000  $         -  $         -  $         -  $   700,000

Long-term convertible debt                           -    1,188,000            -            -            -    1,188,000

Operating lease commitments                    520,305      458,996      446,853      459,040      792,419    2,677,613

Purchase Commitments                           978,450            -            -            -            -      978,450
                                           -----------  -----------  -----------  -----------  -----------  -----------

Total contractual cash obligations         $ 2,018,755  $ 1,826,996  $   446,853  $   459,040  $   792,419  $ 5,544,063
                                           ===========  ===========  ===========  ===========  ===========  ===========
</TABLE>


RESULTS OF OPERATIONS

      Revenues.  The Company recognized  revenues of $221,000 for the year ended
December 31, 2003.  Revenues were related to initial  shipments against purchase
orders signed in 2003. No revenues were recognized in 2002 and 2001.


                                       14
<PAGE>

      Cost of Goods Sold.  Cost of goods sold was  $708,320,  $286,000 and $0 in
2003,  2002 and 2001,  respectively.  In 2003,  cost of goods sold  consisted of
product costs of $192,000, lower of cost or market adjustment of $311,000 as our
initial  inventory  components were at a cost higher than we expect to incur for
future  purchase,  and an  inventory  write-down  of $205,000  resulting  from a
physical count as we moved from  preproduction  to production.  In 2002, cost of
sales  consisted  of an  inventory  adjustment  to  lower of cost of  market  of
$286,000.

      Selling,  general  and  administrative  expenses.   Selling,  general  and
administrative expenses were approximately $3,641,000,  $2,363,000 and 2,260,000
in  2003,  2002 and  2001,  respectively,  and  include  professional  services,
salaries and related taxes and benefits, rent, depreciation,  travel, insurance,
and  office  expenses.   Salaries  and  related  taxes  and  benefits  increased
approximately  $889,000  in 2003 over 2002 as a result  of the  reassignment  of
employees from research and  development to general and  administrative  and the
increase in the number of general and administrative staff, which was due to the
transition  toward  commercial  manufacturing of our microdisplay  products.  An
additional  increase is due to fees of $250,000  reimbursed  to Robert A. Olins,
our Acting Chief Executive  Officer,  for fees incurred in conjunction  with the
May 2003 private placement (see Note 2 to the Consolidated  Financial Statements
under Item 8 of this Report) and an increase in rent  expense of  $137,000.  The
increase  in  expenses  for 2002 over 2001 are due to an increase of $160,000 in
legal fees pertaining to normal business and an increase in recruiting  expenses
related to a Chief Operating Officer search of $70,000. These increases were off
set by a $146,000  decrease  in  insurance  expense  resulting  from a change in
carrier,  a decrease in coverage  and an increase in employee  contribution  for
medical expenses.

      Stock-based general and administrative  expenses.  Stock-based general and
administrative expenses were approximately  $1,986,000,  $713,000 and $2,938,000
in 2003,  2002 and 2001,  respectively.  The amounts  incurred in 2003, 2002 and
2001 relate to Common  Shares,  options to purchase  Common  Shares and warrants
issued in exchange for  services.  The  increase in 2003 when  compared to 2002,
relates primarily to stock-based expense of approximately  $1,300,000 associated
with the May 2003 private  placement.  Of this amount,  $959,000  related to the
deemed beneficial  pricing of shares and warrants  purchased by Robert A. Olins,
Acting Chief  Executive  Officer.  The  decrease in 2002 when  compared to 2001,
relates  primarily to expenses incurred in 2001 related to stock options granted
as  compensation to directors  valued at $1,655,000,  as well as the issuance of
200,000 Common Shares granted as employee  compensation valued at $740,000,  the
market value of the stock at the date of  issuance.  The 200,000  Common  Shares
referred  to above in  December  2001 were  issued  to our  former  Director  of
Corporate  Development  (DCD).  In 2002,  60,000  Common  Shares  were issued as
compensation  valued at  $220,000,  the market value of the stock at the date of
issuance.  The shares were issued in consideration  of services  rendered by the
DCD with  respect to  assisting  the  Company  in  negotiating  the  contractual
relationships  with  its  existing  prospective  customers.  See  Note  2 to the
Consolidated Financial Statements under Item 8 of this Report.

      Research and development expenses.  Research and development expenses were
approximately  $2,681,000 at December 31, 2003,  $3,639,000 at December 31, 2002
and  $2,647,000  at December 31, 2001.  The increase  from 2001 when compared to
2002, and subsequent decrease in 2003 is due to costs of approximately $800,000,
expensed in 2002,  related to test units and the purchase of  prototype  engines
for  testing  purposes.  Additional  decrease  in  2003  over  2002  is  due  to
reassignment  of existing  employees  to general and  administrative,  offset by
hiring of new employees.

      Interest income.  Interest income was approximately $72,000,  $16,000, and
$21,000 in 2003, 2002, and 2001,  respectively.  The increase in interest income
in 2003 was due to interest  earned on a stock  subscription  receivable  from a
shareholder. See Note 2 to the Consolidated Financial Statements under Item 8 of
this Report.

      Interest expense.  Interest expense was approximately $213,000,  $261,000,
and $269,000 in 2003, 2002, and 2001, respectively. These amounts are consistent
with the balances in notes payable.

      Stock-based  interest expense.  Stock-based  interest expense of $584,000,
$1,779,000 and $1,825,000 in 2003, 2002 and 2001,  respectively,  relates to the
valuation  of the  beneficial  conversion  feature  of  interest  converted  and
convertible  into  equity on the notes  payable  to  Argyle  Capital  Management
Corporation a company  wholly owned by Robert A. Olins,  Acting Chief  Executive
Officer of the Company based on the intrinsic  value of the conversion  feature.
The  beneficial  conversion  interest  represents the excess value of the shares
received  or  receivable  at  current  market  prices  over the  $0.50 per share
conversion  price.  The notes were extended until June 2005 resulting in a lower
monthly  amortization  of  the  beneficial  conversion  in  2003.  In  addition,
amortization  of discounts on the Argyle and Alabama  Group notes is included in
stock-based interest expense.


                                       15
<PAGE>

      Loss before  income taxes.  Losses  before  income taxes were  $9,516,000,
$9,026,000,  and $9,905,000 in 2003, 2002 and 2001, respectively.  This increase
from 2002 to 2003 is due primarily to increases of  approximately  $1,272,000 of
stock-based  general and administrative  expenses,  an increase of $1,278,000 in
general and  administrative  in 2003  compared to 2002,  offset by a decrease of
approximately  $958,000 in research and development  expenses  incurred as a
result of  pre-production  tooling  costs and purchase of  prototype  engines of
approximately  $800,000  and a  decrease  in  stock-based  interest  expense  of
approximately  $1,195,000,   due  to  decrease  in  monthly  amortization  of
beneficial  conversion feature on notes payable.  The decrease from 2001 to 2002
is due  primarily to a decrease of  approximately  $2,225,000 of  stock-based
general and administrative  expenses in 2002 compared to 2001. This decrease was
offset by an increase of approximately  $992,000 in research and development
expenses incurred as a result of  pre-production  tooling costs of approximately
$800,000 and the purchase of prototype light engines for testing purposes.

         Income  taxes.  Income taxes  consist  primarily  of minimum  state tax
requirements.  See Note 5 to the Consolidated  Financial Statements under Item 8
of this Report.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

         Management's  discussion  and analysis of our results of operations and
liquidity  and  capital  resources  are  based  on  our  consolidated  financial
statements.  To prepare our consolidated financial statements in accordance with
accounting  principles  generally  accepted in the United States of America,  we
must make  estimates  and  assumptions  that affect the amounts  reported in the
consolidated  financial  statements.  We regularly  evaluate these estimates and
assumptions,  particularly  in  areas  we  consider  to be  critical  accounting
estimates,  where changes in the estimates and assumptions could have a material
impact on our results of  operations,  financial  position  and,  generally to a
lesser extent,  cash flows.  Senior  management  and the Audit  Committee of the
Board of Directors  have  reviewed  the  disclosures  included  herein about our
critical  accounting  estimates,  and have  reviewed the  processes to determine
those estimates.

         Revenue Recognition - We enter into commercial transactions to sell our
products.  We evaluate  revenue  recognition  for these  transactions  using the
following criteria (collectively called the Revenue Recognition Criteria):

o     Evidence of an  arrangement:  Before revenue is  recognized,  we must have
      evidence  of an  agreement  with the  customer  reflecting  the  terms and
      conditions to deliver our products.
o     Delivery:  For  products,  delivery is  considered to occur when title and
      risk of loss have been transferred.
o     Fixed or  determinable  fee: We consider a fee to be fixed or determinable
      if the fee is not  subject  to refund or  adjustment.  If a portion of the
      arrangement fee is not fixed or determinable,  we recognize that amount as
      revenue when the amount becomes fixed or determinable.  We do not consider
      a fee to be fixed and determinable if any amount is due more than 180 days
      from the delivery date.  Payment terms of less than 180 days are evaluated
      based upon the country in which the  arrangement is entered into to assess
      whether the fee is fixed and determinable.
o     Collection is deemed reasonably  assured:  Collection is deemed reasonably
      assured  if we expect the  customer  to be able to pay  amounts  under the
      arrangement as those amounts  become due. If we determine that  collection
      is not reasonably  assured,  we recognize revenue when collection  becomes
      reasonably assured (generally upon cash collection).

                                       16
<PAGE>

      Inventory  valuation - We value inventories at the lower of cost (based on
the first-in, first-out method) or market value. We include materials, labor and
manufacturing  overhead in the cost of  inventories.  In  determining  inventory
market values,  we give substantial  consideration to the expected selling price
of the product based on historical recovery rates. If we assess the market value
of our inventory to be less than costs we write it down to its replacement  cost
or its net realizable value. Our estimates may differ from actual results due to
the quantity and quality and mix of products in inventory, consumer and retailer
preferences and economic conditions.

      Research and Development - Our research and development  costs are charged
to expense when incurred.

      Income tax assets and  liabilities - In  establishing  our deferred income
tax assets and liabilities,  we make judgments and interpretations  based on the
enacted  tax  laws  and  published  tax  guidance  that  are  applicable  to our
operations.  We record deferred tax assets and liabilities and evaluate the need
for  valuation  allowances  to reduce  the  deferred  tax  assets to  realizable
amounts.  The  likelihood of a material  change in our expected  realization  of
these assets is dependent on future taxable  income,  our ability to use foreign
tax credit carryforwards and carrybacks, final U.S. and foreign tax settlements,
and the  effectiveness  of our tax planning  strategies in the various  relevant
jurisdictions.  Due to our  lack  of  profitable  operating  history,  potential
limitations on usage of operating  losses and general  uncertainty,  we provided
for a 100%  valuation  allowance  against our deferred  tax assets.  We are also
subject to  examination  of our income tax  returns  for  multiple  years by the
Internal Revenue Service and other tax authorities.  We periodically  assess the
likelihood of adverse  outcomes  resulting from these  examinations to determine
the  adequacy  of our  provision  for  income  taxes.  Changes to our income tax
provision or the valuation of the deferred tax assets and liabilities may affect
our annual effective income tax rate.

RECENT ACCOUNTING PRONOUNCEMENTS

      In July 2002,  the  Financial  Accounting  Standards  Board (FASB)  issued
Statement of Financial  Accounting  Standards  SFAS 146,  "Accounting  for Costs
Associated  with  Exit  or  Disposal   Activities,"  which  addresses  financial
accounting and reporting for costs associated with exit or disposal  activities.
SFAS  146  requires  that a  liability  for a cost  associated  with  an exit or
disposal  activity be recognized when the liability is incurred.  This Statement
also establishes that fair value is the objective for initial measurement of the
liability. Severance pay under SFAS 146, in many cases, would be recognized over
time rather than up front.  The  provisions of this  statement are effective for
exit or disposal  activities  that are initiated  after  December 31, 2002.  The
adoption  of this  Statement  did not have a  material  impact on the  Company's
financial  condition  or  results  of  operations,  but may  affect  any exit or
disposal activities entered into in the future.

      In December 2002, the FASB issued (SFAS) 148,  "Accounting for Stock-Based
Compensation-Transition  and Disclosure," which provides  alternative methods of
transition  for a voluntary  change to fair value based method of accounting for
stock-based  employee  compensation  as prescribed in SFAS 123,  "Accounting for
Stock-Based  Compensation."  Additionally,  SFAS 148 requires more prominent and
more  frequent   disclosures  in  financial  statements  about  the  effects  of
stock-based  compensation.  The  provisions of this  Statement are effective for
fiscal years ending after December 15, 2002, with early application permitted in
certain circumstances. Adoption of this Statement did not have a material impact
on the  Company's  financial  condition or results of  operation,  as we are not
currently  planning  to make a  voluntary  change  to the fair  value  method of
accounting for stock-based employee compensation.  We did, however adopt the new
disclosure provisions.

      In  November  2002,  the FASB  issued  FASB  Interpretation  (FIN) No. 45.
"Guarantor's  Accounting and Disclosure  Requirements for Guarantees,  Including
Indirect  Guarantees of Indebtedness of Others." FIN No. 45 requires a guarantor
to  recognize,  at the inception of a qualified  guarantee,  a liability for the
fair value of the obligation undertaken in issuing the guarantee.  FIN No. 45 is
effective on a  prospective  basis for qualified  guarantees  issued or modified
after December 31, 2002. Adoption of this Interpretation did not have a material
impact on the Company's  financial  condition or results of operations.  We did,
however adopt the new disclosure provisions.

                                       17
<PAGE>

      In January 2003, the FASB issued  Interpretation No. 46, "Consolidation of
Variable  Interest  Entities"  ("FIN 46").  FIN 46  requires an investor  with a
majority of the variable  interests in a variable interest entity to consolidate
the  entity  and  also  requires  majority  and  significant  variable  interest
investors  to provide  certain  disclosures.  A variable  interest  entity is an
entity  in  which  the  equity  investors  do not have a  controlling  financial
interest  or the  equity  investment  at risk is  insufficient  to  finance  the
entity's activities without receiving additional  subordinated financial support
from other  parties.  The Company does not have any variable  interest  entities
that must be consolidated.

      In May 2003,  FASB issued  "Accounting For Certain  Financial  Instruments
with  Characteristics  of both Liabilities and Equity." SFAS No. 150 establishes
standards  for  how  an  issuer   classifies  and  measures  certain   financial
instruments with characteristics of both liabilities and equity. The adoption of
SFAS No. 150 in 2003 did not have a material impact on the Company's  results of
operation or financial position.

                                  RISK FACTORS

WE HAVE A HISTORY  OF LOSSES AND MAY INCUR  LOSSES IN THE  FUTURE AND  THEREFORE
CANNOT ASSURE YOU THAT WE WILL ACHIEVE PROFITABILITY.

We have incurred losses to date and have experienced cash shortages. In 2003 and
2002,  we  incurred  net  losses of  approximately  $9,516,000  and  $9,028,000,
respectively.  In addition, we had an accumulated deficit of $58.3 million as of
December  31,  2003.  We expect  additional  losses as we continue  spending for
production  and  other  business  activities  as well as  further  research  and
development of our products.  As a result, we will need to generate  substantial
sales to support our costs of doing  business  before we can begin to recoup our
operating losses and accumulated deficit and achieve profitability.

IF WE ARE  UNABLE TO OBTAIN  FURTHER  FINANCING  OR  GENERATE  REQUIRED  WORKING
CAPITAL, OUR ABILITY TO OPERATE COULD SUFFER OR CEASE.

      Our operations to date have consumed  substantial amounts of cash and will
continue to require  substantial  amounts of capital in the future.  In order to
remain competitive,  we must continue to make significant  investments essential
to our ability to operate profitably,  including investments in further research
and development,  equipment,  facilities and production activities. Although our
financial  condition and liquidity  have been assisted  through the exercises of
warrants and public and private  purchases of our Common  Shares,  including the
approximately  $12.5 million raised by us in 2003 equity financings and $850,000
raised  through  exercises of stock options and  warrants,  we may still require
additional  financing to satisfy our increasing  working  capital  requirements.
Reliance for  financing  upon  exercise of  warrants,  private  equity  purchase
agreements and public offerings  entails the additional risks of non-exercise of
such warrants because of the prevailing  market prices of our underlying  Common
Shares,  default by  purchasers  under these  agreements  or  inability  to sell
publicly  registered  shares.  In the event that we are unable to obtain further
financing,  if any, on  satisfactory  terms,  or we are unable to generate sales
sufficient to offset our costs,  or if our costs of  development  and operations
are greater  than we  anticipate,  we may be unable to grow our  business at the
rate  desired  or may be  required  to delay,  reduce,  or cease  certain of our
operations,  any of which  could  materially  harm our  business  and  financial
results.

WE ARE SUBJECT TO LENGTHY  DEVELOPMENT  PERIODS AND PRODUCT  ACCEPTANCE  CYCLES,
WHICH MAY SIGNIFICANTLY HARM OUR BUSINESS.

      Our  business  model  requires us to develop  microdisplays  that  perform
better  than  existing  technologies,  contract  with  one or  more  third-party
manufacturers  to manufacture  our display units in bulk, and sell the resulting
display units to original  equipment  manufacturers  that will then  incorporate
them  into  their   products.   Original   equipment   manufacturers   make  the
determination  during  their  product  development  programs  whether  or not to
incorporate our SpatiaLight imagEngine(TM) microdisplays and/or display units in
their  products.  This  requires  us to invest  significant  amounts of time and
capital in designing our SpatiaLight imagEngine(TM) microdisplays and/or display
units before we can be assured that we will  generate any  significant  sales to
our  customers  or even  recover  our  investment.  If we fail  to  recover  our
investment in the SpatiaLight imagEngine(TM) microdisplays and/or display units,
it could seriously harm our financial condition. In addition, the length of time
that our products may be successfully received by our customers could be limited
by the acceptance of new technologies developed by our competitors.

WE  INCUR  SUBSTANTIAL   RESEARCH  AND  DEVELOPMENT  COSTS  IN  CONNECTION  WITH
TECHNOLOGIES THAT MAY NOT BE SUCCESSFUL.

      We  currently  have  eleven  full-time  engineering  and  seven  full-time
manufacturing  personnel  based in  California  working on  microdisplays.  This
staffing  creates  significant  research and  development  costs that may not be
recouped.  Even if our current microdisplays become accepted or successful,  due
to the rapid technological changes in our industry, we must continue to use, and
may increase in number,  our engineering and manufacturing  personnel to develop
future  generations  of our  microdisplays.  As a result,  we expect to continue
incurring significant research and development costs.


                                       18
<PAGE>


WE ARE CURRENTLY MANUFACTURING AND SHIPPING OUR MICRODISPLAYS, BUT UNANTICIPATED
DIFFICULTIES IN MANUFACTURING  OUR  MICRODISPLAYS  MAY MAKE IT DIFFICULT TO MEET
CUSTOMER  DEMANDS  FROM  TIME  TO  TIME  AND  OUR  OPERATING  RESULTS  COULD  BE
SIGNIFICANTLY HARMED BY SUCH DIFFICULTIES.

      We  need  to  work  closely  with  our  manufacturing  sources  to  assure
production  of our current  microdisplays.  Problems in production or lower than
expected  manufacturing  yields could significantly harm our business because we
will have already  incurred the costs for the materials used in the microdisplay
manufacturing  process.  These  problems  could cause delays that might lead our
potential customers to seek other sources.

      We  currently  obtain  silicon  backplanes,   a  vital  component  in  our
microdisplays,   from  the  Far  East.  Some  Asian  countries  are  subject  to
earthquakes, typhoons and political instability. Unless we obtain an alternative
source,  any  disruption or termination  of our silicon  manufacturing  source's
operation in Taiwan or air transportation  with the Far East could significantly
harm our operations.

      Our microdisplays  are assembled by combining the silicon  backplanes with
electronic components. The design and manufacture of liquid crystal displays and
display units are highly complex  processes that are sensitive to a wide variety
of  factors,   including  the  level  of  contaminants   in  the   manufacturing
environment,  impurities in the materials used, and the performance of personnel
and  equipment.  We lease  clean room  space in  California  where we  currently
manufacture  our  SpatiaLight  imagEngine(TM)  microdisplays.  In  addition,  in
January  2004,  we leased an  additional  clean room at the same location as the
existing clean room to address current and anticipated  increased  manufacturing
demand.  We  believe  that these  current  arrangements  provide us with  strong
quality  controls and  effectively  protect our  proprietary  technology  in our
products,  but the risks  discussed  above  associated  with the highly  complex
processes of manufacturing these liquid crystal microdisplays remain applicable.

      We continue to have  working  arrangements  with the  manufacturer  of the
light engines and lamps required in the assembly of our display  units.  We have
entered  into an agreement  for the supply of prisms and filters  which are also
required  for the  assembly  of such  units.  We do not have other such  written
agreements which are binding upon the  manufacturers of the other components and
no such  manufacturer  is bound to furnish us with any  specific  quantities  of
their products at previously  specified  prices.  At this date, we are not aware
that  any of our  component  manufacturers  have  known  shortages  of  critical
material.

      Because the  manufacture of our SpatiaLight  imagEngine(TM)  microdisplays
involves highly complex  processes and technical  problems may arise, we, in our
capacity  as  manufacturing  our  liquid  crystal  microdisplays,  which  are an
integral part of the display units,  cannot assure the  manufacturing  yields of
our products. Current purchase orders and future purchase orders, as to which we
cannot give any assurance,  will require us to produce greater quantities of our
microdisplay products than we have produced in the past. Problems in production,
including  problems  associated with  increasing our production  output or lower
than expected  manufacturing  yields could  significantly  harm our business and
operating results.  In addition,  the complexity of our manufacturing  processes
will  increase as the  sophistication  of our  microdisplays  and display  units
increases,  and such  complexities may lend to similar  difficulties  that could
harm our business and operating results.

IF MARKETS FOR OUR PRODUCTS DO NOT CONTINUE TO DEVELOP, OUR BUSINESS WILL LIKELY
BE SIGNIFICANTLY HARMED.

      Various target markets for our  microdisplays,  including  high-definition
televisions, projectors, monitors, and portable microdisplays, are uncertain and
may be slow to develop.  In addition,  companies in those  markets could utilize
competing  technologies.  High-definition  television  has only recently  become
available to consumers, and widespread market acceptance,  although anticipated,
is uncertain.  In addition,  the commercial success of the portable microdisplay
market is uncertain.  The  acceptance  of our display  units and/or  SpatiaLight
imagEngine(TM)  microdisplays  will be  dependent  upon  the  pricing,  quality,
reliability  and useful life of these units compared to competing  technologies,
as to which there can be no assurance. In order for us to succeed, not only must
we offer end-product  manufacturers better and less expensive microdisplays than
our competitors, but the manufacturers themselves must also develop commercially
successful products using our microdisplays. SpatiaLight's marketing efforts are
focused on developing strategic customer and governmental relationships in China
and the Republic of South Korea.  Our failure to sell our  microdisplays to such
manufacturers  or the failure of the  ultimate  target  markets to develop as we
expect will negatively effect our anticipated growth.


                                       19
<PAGE>

IF OUR  MICRODISPLAYS  DO NOT BECOME  WIDELY  ACCEPTED BY OUR  CUSTOMERS  OR THE
END-USERS, OUR BUSINESS COULD BE SIGNIFICANTLY HARMED.

      Our microdisplays may not be accepted by a widespread  market.  Even if we
successfully  obtain  customer  orders,  our  customers  may  determine  not  to
introduce or may terminate  products  utilizing the  technology for a variety of
reasons, including the following:

o     superior technologies developed by our competitors;

o     price considerations; and

o     lack of anticipated or actual market demand for the products.

      We currently  have  purchase  order  agreements  with a limited  number of
customers.  Despite our reasonable efforts to retain these customers, and obtain
new customers we may not be successful in either of these  regards.  The loss of
any one or more of these  customers or a failure to obtain new  customers  could
materially harm our business and financial condition.

WE CANNOT  ASSURE YOU THAT WE WILL OBTAIN  ADDITIONAL  PURCHASE  ORDERS FROM OUR
CURRENT OR PROSPECTIVE  CUSTOMERS,  OR, IF WE DO, THAT SUCH ORDERS WILL GENERATE
SIGNIFICANT REVENUES.

      From 2001  through  2003,  we entered  into  agreements  or  memoranda  of
understanding  (MOU) with original equipment  manufacturers  (OEMs) in China and
the  Republic  of South  Korea  for  testing  of our  microdisplay  products  in
contemplation of definitive  purchase order agreements.  All of these agreements
generally  require  that  we  supply  prototypes  of our  display  units  and/or
SpatiaLight  imagEngine(TM)  microdisplays and that they meet technical criteria
satisfactory to each of such  prospective  customers.  To date, we have received
purchase  orders from seven Chinese OEMs.  Certain other  prospective  customers
have advised us that they are  satisfied  with the results of the testing of the
prototypes  under their agreements or MOUs with the Company and we are currently
negotiating  terms of purchase  orders for our display units and/or  SpatiaLight
imagEngine(TM)  microdisplays  with  each of them.  There are  significant  open
issues with respect to these prospective purchase orders that have to be finally
negotiated,  including  prices and  quantities of our products.  We cannot offer
assurance that we will receive, in the future,  binding purchase orders from any
of these companies for their purchase of our microdisplay products.

      In  addition,  even if we  receive  purchase  orders  from our  current or
prospective  customers  for our  microdisplay  products,  we may  have  problems
implementing volume production of such microdisplay products. Furthermore, sales
to manufacturers in the electronics  industry are subject to severe  competitive
pressures,  rapid technological change, and product obsolescence.  Manufacturers
may,  at any time,  cancel  purchase  orders or  commitments  or reduce or delay
orders, thereby increasing our inventory and overhead risks. Therefore,  even if
we obtain  purchase  orders from several  current or prospective  customers,  we
cannot assure you that these  agreements will result in significant  revenues to
us.

IF OUR CUSTOMERS' PRODUCTS ARE NOT SUCCESSFUL,  OUR BUSINESS WOULD BE MATERIALLY
HARMED.

      We do not currently sell any products to end-users. Instead, we design and
manufacture  various  product  solutions  that our  customers  (i.e.,  OEMs) may
incorporate  into  their  products.  As a result,  our  success  depends  almost
entirely upon the widespread market acceptance of our customers'  products.  Any
significant  slowdown in the demand for our customers' products would materially
harm our business.


                                       20
<PAGE>

      Our dependence on the success of the products of our customers  exposes us
to a variety of risks, including our need to do the following:

o     maintain customer satisfaction with our design and manufacturing services;

o     match our design  and  manufacturing  capacity  with  customer  demand and
      maintain satisfactory delivery schedules;

o     anticipate  customer order  patterns,  changes in order mix, and the level
      and timing of orders that we can meet; and

o     adjust to the cyclical nature of the industries and markets we serve.

      Our failure to address these risks may cause us to lose sales or for sales
to decline.

THE ELECTRONICS  INDUSTRY IS HIGHLY COMPETITIVE,  WHICH MAY RESULT IN LOST SALES
OR LOWER GROSS MARGINS.

      We serve highly  competitive  industries that are  characterized  by price
erosion,  rapid  technological  change and  competition  from major domestic and
international  companies.  This  intense  competition  could  result in  pricing
pressures,  lower sales,  reduced  margins and lower market  share.  Some of our
competitors  have  greater  market  recognition,   larger  customer  bases,  and
substantially greater financial,  technical,  marketing,  distribution and other
resources  than we  possess.  As a  result,  they may be able to  introduce  new
products and respond to customer  requirements more quickly and effectively than
we can.

      Our  competitive  position  could  suffer if one or more of our  customers
decide to design and manufacture  their own microdisplay  products,  to contract
with our  competitors,  or to use  alternative  technologies.  In addition,  our
customers typically develop a second source.  Second source suppliers may win an
increasing share of a program.  Our ability to compete successfully depends on a
number of factors,  both within and outside our control.  These factors  include
the following:

o     our success in designing and manufacturing new display technologies;

o     our ability to address the needs of customers;

o     the quality, performance, reliability, features, ease of use, pricing, and
      diversity of our display products;

o     foreign  currency  fluctuations,  which may  cause a foreign  competitor's
      products to be priced significantly lower than our displays;

o     the quality of our customer services;

o     the efficiency of our production sources;

o     the rate at which  customers  incorporate  our  displays  into  their  own
      products; and

o     products or technologies introduced by our competitors.

OUR BUSINESS IS SIGNIFICANTLY  AFFECTED BY CONDITIONS OR EVENTS OCCURRING IN THE
ELECTRONICS INDUSTRY GENERALLY.

      The electronics industry has experienced significant economic downturns at
various times,  characterized by diminished product demand,  accelerated erosion
of average selling prices, and production  over-capacity.  Since the electronics
industry is cyclical in nature, we may experience  substantial  period-to-period
fluctuations in future operating results because of general industry  conditions
or events occurring in the general economy.


                                       21
<PAGE>

OUR OPERATING RESULTS ARE SUBJECT TO SIGNIFICANT FLUCTUATIONS.

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

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

o     timing of expenditures in anticipation of future orders;

o     changes in our cost structure;

o     availability of labor and components;

o     pricing and availability of competitive products and services;

o     the timing of orders;

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

o     evolution in the life cycles of customers' products; and

o     changes or anticipated changes in economic conditions.

THE MARKET PRICE OF OUR COMMON SHARES IS HIGHLY VOLATILE.

      The market price of our Common Shares has been highly volatile, reflecting
reported losses and receipt of additional financing.  Other companies have found
similar volatility  correlates with class action securities lawsuits although to
date we have not been a defendant in any such lawsuit.  The trading price of our
Common Shares in the future could continue to be subject to wide fluctuations in
response to various factors, including the following:

o     quarterly variations in our operating results;

o     actual  or  anticipated  announcements  of  technical  innovations  or new
      product developments by us or our competitors;

o     public announcements regarding our business developments;

o     changes in analysts' estimates of our financial performance;

o     sales of large numbers of our Common Shares by our shareholders;

o     general conditions in the electronics industry; and

o     worldwide economic and financial conditions.

      In addition, the stock market has experienced significant price and volume
fluctuations  that  have  particularly  affected  the  market  prices  for  many
high-technology  companies  and that often have been  unrelated to the operating
performance  of these  companies.  These  broad  market  fluctuations  and other
factors may adversely affect the market price of our Common Shares.


                                       22
<PAGE>

BY FURTHER  INCREASING THE NUMBER OF OUR COMMON SHARES THAT MAY BE SOLD INTO THE
MARKET,  ADDITIONAL  OFFERINGS OF OUR EQUITY  SECURITIES  COULD CAUSE THE MARKET
PRICE OF OUR  COMMON  SHARES TO  DECREASE  SIGNIFICANTLY,  EVEN IF OUR  BUSINESS
OPERATIONS ARE PERFORMING WELL.

      The total number of our Common  Shares and warrants to purchase our Common
Shares,  sold in two private  financings and one public  financing  completed in
2003  represents  approximately  14.52% of the total number of our Common Shares
that are issued and  outstanding  as of March 16, 2004.  Sales of these  shares,
into and within the public market,  or the perception that future sales of these
Common Shares could occur, might adversely affect the prevailing market price of
our Common Shares in the near future.

OUR COMMON SHARES MAY NOT BE LIQUID.

      Our Common Shares are currently traded on The NASDAQ SmallCap Market.  Our
shareholders  may find that it is more  difficult to sell our Common Shares than
shares that are listed on The NASDAQ National Market, American Stock Exchange or
New York  Stock  Exchange.  The  trading  volume  of our  Common  Shares  may be
adversely  affected due to the limited  marketability of our Common Shares.  Any
substantial  sales of our Common  Shares may result in a material  reduction  in
price  because  relatively  few buyers may be  available  to purchase our Common
Shares.

IF WE LOSE OUR KEY  PERSONNEL  OR ARE  UNABLE TO ATTRACT  AND RETAIN  ADDITIONAL
PERSONNEL, OUR ABILITY TO COMPETE COULD BE HARMED.

      Our development  and operations  depend  substantially  on the efforts and
abilities  of our senior  management  and  qualified  technical  personnel.  Our
products  require  sophisticated   production,   research  and  development  and
technical  support.  The  competition  for  qualified  management  and technical
personnel is intense.  The loss of services of one or more of our key  employees
or the inability to add key personnel  could have a material  adverse  affect on
us;  particularly since currently we do not have any insurance policies in place
to cover that  contingency.  Our success will depend upon our ability to attract
and retain highly qualified scientific, marketing, manufacturing,  financial and
other key  management  personnel.  We face intense  competition  for the limited
number of people available with the necessary technical skills and understanding
of our products  and  technology.  We cannot  assure you that we will be able to
attract or retain such personnel or not incur  significant  costs in order to do
so. If we are  unable to protect  our  intellectual  property  from use by third
parties, our ability to compete in the industry will be harmed.

      We believe that our success  depends in part on protecting our proprietary
technology. We rely on a combination of patent,  copyright,  trademark and trade
secret laws, as well as confidentiality and assignment of inventions  agreements
from our employees,  consultants and advisors and other contractual  provisions,
to establish and protect our intellectual property rights. Policing unauthorized
use of our products and technology is difficult, however. Despite our efforts to
protect our proprietary rights, we face the following risks:

o     pending patent applications may not be issued;

o     patents issued to us may be challenged, invalidated, or circumvented;

o     unauthorized  parties  may  obtain and use  information  that we regard as
      proprietary despite our efforts to protect our proprietary rights;

o     others may independently  develop similar  technology or design around any
      patents issued to us;

o     breach of confidentiality agreements;

o     intellectual property laws may not protect our intellectual property; and

o     effective  protection of  intellectual  property  rights may be limited or
      unavailable  in some  foreign  countries,  such as China,  in which we may
      operate. Specifically, although we consider the following unlikely because
      of the complex technological structure of our products, one or more of our
      current or prospective  Chinese or Korean  customers,  or their respective
      employees or other persons  including our  competitors,  that have or gain
      access to our products for testing purposes, may seek to misappropriate or
      improperly  convert to their own use our intellectual  property and a lack
      of adequate  remedies and impartiality  under the Chinese and Korean legal
      systems  may  adversely  impact our  ability to protect  our  intellectual
      property.


                                       23
<PAGE>

      There can be no assurance that we will have adequate remedies in the event
any of the foregoing materializes.  Failure to protect our intellectual property
would limit our ability to produce and market our products in the future,  which
would  materially  adversely  affect our revenues  generated by the sale of such
products.  In  addition,  third  parties  could  assert  that our  products  and
technology  infringe their patents or other  intellectual  property rights. As a
result,  we  may  become  subject  to  future  patent   infringement  claims  or
litigation,  the  defense of which is costly,  time-consuming  and  diverts  the
attention of management and other personnel.

POLITICAL,   ECONOMIC  AND  REGULATORY  RISKS   ASSOCIATED  WITH   INTERNATIONAL
OPERATIONS MAY LIMIT OUR ABILITY TO DO BUSINESS ABROAD.

      A  substantial  number of our  manufacturers,  customers and suppliers are
located  outside  of the  United  States,  principally  in  the  Far  East.  Our
international  operations  are  subject to  political  and  economic  conditions
abroad,  and  protectionist  trade  legislation  in either the United  States or
foreign countries, such as a change in the current tariff structures,  export or
import  compliance  laws, or other trade policies,  any of which could adversely
affect our ability to  manufacture  or sell  displays in foreign  markets and to
purchase  materials or  equipment  from  foreign  suppliers.  All of our current
agreements with customers are governed by foreign law and therefore, are subject
to uncertainty with regard to their enforceability.

RISKS RELATED TO DOING BUSINESS IN CHINA MAY NEGATIVELY AFFECT OUR BUSINESS.

      Our   business  is  subject  to   significant   political   and   economic
uncertainties  and may be adversely  affected by political,  economic and social
developments in China.  Over the past several years, the Chinese  government has
pursued economic reform policies including the encouragement of private economic
activity and greater economic  decentralization.  The Chinese government may not
continue  to  pursue  these  policies  or may  significantly  alter  them to our
detriment from time to time with little, if any, prior notice.

      A lack of adequate  remedies  and  impartiality  under the  Chinese  legal
system may  adversely  impact our ability to do business in China and to enforce
the agreements or purchase orders to which we are, or may become, a party.

      At various times during recent years, the United States and China have had
significant   disagreements   over   political,   economic  and  social  issues.
Controversies may arise in the future between these two countries. Any political
or trade  controversies  between  the United  States  and China,  whether or not
directly  related to our  business,  could  adversely  affect our  ability to do
business in China.

WE DO NOT PAY CASH DIVIDENDS.

      We have  never  paid any cash  dividends  on our  Common Shares and do not
anticipate  that we will pay cash  dividends  in the near  future.  Instead,  we
intend to apply any future  earnings to the  expansion  and  development  of our
business.


                                       24
<PAGE>

ITEM 7A.     QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

      We place all of our excess cash and cash equivalents in a checking account
or money market account in the United States with a nationally  reputable  bank.
We do not expect any material  losses from the Company's  placement of such cash
balances  and we believe  that our  interest  rate  exposure  is  modest.  As of
December 31, 2003, our cash and cash equivalents totaled $6,359,969.

      We do not have any immediate  foreign  currency  exposure as nearly all of
the Company's business is transacted in United States currency.

ITEM 8.    CONSOLIDATED FINANCIAL STATEMENTS

               REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS

Board of Directors
SpatiaLight, Inc.
Novato, California

We have audited the  accompanying  consolidated  balance sheets of  SpatiaLight,
Inc. as of December 31, 2003 and 2002 and the related consolidated statements of
operations, stockholders' equity (deficit), and cash flows for each of the three
years in the period ended December 31, 2003. These financial  statements are the
responsibility of the Company's management.  Our responsibility is to express an
opinion on those financial statements based on our audits.

We conducted our audits in accordance with auditing standards generally accepted
in the  United  States of  America.  Those  standards  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.  An audit also includes 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 SpatiaLight, Inc. at
December 31, 2003 and 2002, and the results of its operations and its cash flows
for each of the three years in the period ended December 31, 2003, in conformity
with accounting principles generally accepted in the United States of America.

/s/ BDO Seidman, LLP

San Francisco, California

March 5, 2004


                                       25
<PAGE>

<TABLE>
<CAPTION>

SPATIALIGHT, INC.
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 2003 AND 2002
                                                                          2003             2002
                                                                      -------------    -------------
ASSETS

Current assets

<S>                                                                     <C>                <C>
  Cash and cash equivalents                                             $ 6,359,969        $ 575,663
  Accounts receivable                                                       117,530                -
  Inventory                                                                 779,617          275,959
  Prepaids and other current assets                                         353,087          565,515
                                                                      -------------    -------------
          Total current assets                                            7,610,203        1,417,137

Property and equipment, net                                                 638,430          506,968
Other assets                                                                101,063          134,349
                                                                      -------------    -------------

               Total assets                                           $   8,349,696    $   2,058,454
                                                                      =============    =============

LIABILITIES AND STOCKHOLDERS' DEFICIT

Current liabilities

  Accounts payable                                                    $     863,284    $   2,018,230
  Accrued expenses and other current liabilities                            518,137          206,798
                                                                      -------------    -------------
        Total current liabilities                                         1,381,421        2,225,028

Noncurrent liabilities

  Convertible notes                                                       1,155,000        4,207,232
                                                                      -------------    -------------

               Total liabilities                                          2,536,421        6,432,260
                                                                      -------------    -------------

Commitments

Stockholders' equity (deficit):
  Common stock, $.01 par value:
     50,000,000 shares authorized; 33,229,191 and 26,018,658
     shares issued and outstanding at 2003 and 2002                         332,292          260,187
Additional paid-in capital                                               61,046,425       45,550,830
Notes and stock subscription receivable                                  (1,096,926)      (1,426,999)
Common Stock Issuable                                                     3,805,685                -
Accumulated deficit                                                     (58,274,201)     (48,757,824)
                                                                      -------------    -------------
        Total stockholders' equity (deficit)                              5,813,275       (4,373,806)
                                                                      -------------    -------------

Total liabilities and stockholders' equity (deficit)                  $   8,349,696    $   2,058,454
                                                                      =============    =============
</TABLE>

See accompanying notes to consolidated financial statements.


                                       26
<PAGE>

<TABLE>
<CAPTION>

SPATIALIGHT, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 2003, 2002 and 2001

                                                                           2003             2002            2001
                                                                      -------------    -------------   -------------

<S>                                                                         <C>           <C>             <C>
Sales                                                                       221,252                -               -
Cost of Goods Sold                                                         (708,320)        (286,000)              -
                                                                      -------------    -------------   -------------
Gross Margin                                                               (487,068)        (286,000)              -

Selling, general and administrative expenses:

   Selling, general and administrative expenses                           3,641,422        2,362,865       2,259,942
   Stock-based general and administrative expenses                        1,985,720          713,001       2,938,062
                                                                      -------------    -------------   -------------
          Total selling, general and administrative expenses              5,627,142        3,075,866       5,198,004

   Research and development expenses                                      2,681,328        3,639,016       2,647,090
                                                                      -------------    -------------   -------------


          Total operating expenses                                        8,308,470        6,714,882       7,845,094
                                                                      -------------    -------------   -------------

          Operating loss                                                 (8,795,538)      (7,000,882)     (7,845,094)
                                                                      -------------    -------------   -------------

Other income (expenses):

  Interest expense:

          Interest expense                                                 (213,362)        (261,314)       (268,905)
          Stock-based interest expense                                     (583,672)      (1,779,147)     (1,824,864)
                                                                      -------------    -------------   -------------
            Total interest expense                                         (797,034)      (2,040,461)     (2,093,769)

   Interest and other income                                                 76,195           15,655          34,369
                                                                      -------------    -------------   -------------

          Total other income (expenses)                                    (720,839)      (2,024,806)     (2,059,400)
                                                                      -------------    -------------   -------------

   Loss before income taxes                                              (9,516,377)      (9,025,688)     (9,904,494)

Income tax expense                                                                -            2,225           7,233
                                                                      -------------    -------------   -------------

Net loss                                                              $  (9,516,377)   $  (9,027,913)  $  (9,911,727)
                                                                      =============    =============   =============

Net loss per share - basic and diluted                                $       (0.34)   $       (0.37)  $       (0.46)
                                                                      =============    =============   =============

Weighted average shares used in computing
 net loss per share- basic and diluted                                   28,173,770       24,578,226      21,469,960
                                                                      =============    =============   =============
</TABLE>

See accompanying notes to consolidated financial statements


                                       27
<PAGE>

<TABLE>
<CAPTION>


SPATIALIGHT, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
                                                                                 COMMON STOCK           ADDITIONAL        NOTES
                                                                          SHARES           AMOUNT      PAID-IN CAPITAL  RECEIVABLE
                                                                       ------------     ------------    ------------   ------------
<S>             <C>                                                      <C>            <C>             <C>            <C>
Balance January 1, 2001                                                  20,273,229     $    202,732    $ 28,152,273   $          -

Sale of common stock under private stock purchase
  agreements                                                              2,437,304           24,374       4,503,292     (3,480,021)

Conversion of notes and accrued interest                                    275,120            2,751         527,635              -

Discount on notes payable                                                         -                -       1,443,000              -

Issuance of stock, stock options and
    warrants for services                                                    21,889              219         402,508              -

Issuance of stock and options to employees and
    directors                                                               200,000            2,000       2,533,335              -

Exercise of stock options and warrants                                    2,604,244           26,042       4,349,836       (492,708)

Payments on notes receivable                                                      -                -               -      1,319,295

Net loss                                                                          -                -               -              -
                                                                       ------------     ------------    ------------   ------------



Balance, December 31, 2001                                               25,811,786     $    258,118    $ 41,911,879   $ (2,653,434)

Exercise of stock options and warrants, net of
   costs of  $132,610                                                     1,355,854           13,559       3,619,035     (1,747,347)

Payments on notes receivable                                                      -                -               -        982,443

Reversal of notes receivable                                               (197,005)          (1,970)       (614,765)       643,416

Repricing of warrants                                                             -                -          49,283        143,362

Installment note for shares not yet issued, net of
   related payments                                                               -                -       1,492,536     (1,292,536)

Accrued interest on notes receivable from stockholders                            -                -               -         (6,962)

Issuance of stock, stock options and
    warrants for services                                                    92,799              928         396,162              -

Issuance of stock and options to employees and
    directors                                                                60,000              600         315,311              -

Conversion of notes and accrued interest                                    241,492            2,415         813,985              -

Discount on notes payable                                                         -                -          58,000              -

Rescission of stock purchase agreement                                   (1,346,268)         (13,463)     (2,490,596)     2,504,059
Net loss
                                                                       ------------     ------------    ------------   ------------
Balance, December 31, 2002                                               26,018,658     $    260,187    $ 45,550,830   $ (1,426,999)


Exercise of stock options and warrants                                      365,624            3,657         541,124              -

Payments on notes receivable from stockholders                                    -                -               -        402,500

Accrued interest on notes receivable from stockholders                            -                -               -        (72,427)

Issuance of stock, stock options,
    and warrants for services                                                79,000              790         569,937              -

Issuance of options to employees and directors                                    -                -         195,387              -

Conversion of debt and accrued interest                                   1,580,820           15,807       3,929,439              -

Warrants issued in lieu of interest
    on short term borrowings                                                      -                -           6,647              -

Shares issued on exercise of warrant
    under 2002 installment note                                             746,268            7,463          (7,463)             -

May Private placement, net of issuance cost of $175,065                   2,796,325           27,963       4,946,972              -

Issuance of shares to third party for finder's
    fee in conjunction with May Private placement                           130,435            1,304         375,653              -

August Private placement net of issuance cost of $224,648                 1,212,061           12,121       2,526,731              -

December private placement,
    300,000 issued, 700,000 issuable in January                             300,000            3,000       1,452,255              -

Beneficial pricing on stock and warrants acquired in
   private placement                                                              -                -         958,913              -

Net loss                                                                                                                          -
                                                                       ------------     ------------    ------------   ------------
Balance, December 31, 2003                                               33,229,191     $    332,292    $ 61,046,425   $ (1,096,926)
                                                                       ============     ============    ============   ============
See accompanying notes to consolidated financial statements


                                                                                                          TOTAL
                                                                       ACCUMULATED     COMMON STOCK    STOCKHOLDERS'
                                                                         DEFICIT         ISSUABLE    EQUITY (DEFICIT)
                                                                       ------------     ------------    ------------


Balance January 1, 2001                                               $ (29,818,184)    $          -    $ (1,463,179)

Sale of common stock under private stock purchase
  agreements                                                                      -                -       1,047,645

Conversion of notes and accrued interest                                          -                -         530,386

Discount on notes payable                                                         -                -       1,443,000

Issuance of stock, stock options and
    warrants for services                                                         -                -         402,727

Issuance of stock and options to employees and
    directors                                                                     -                -       2,535,335

Exercise of stock options and warrants                                            -                -       3,883,170

Payments on notes receivable                                                      -                -       1,319,295

Net loss                                                                 (9,911,727)               -      (9,911,727)
                                                                       ------------     ------------    ------------
Balance, December 31, 2001                                            $ (39,729,911)    $          -    $   (213,348)

Exercise of stock options and warrants, net of
   costs of  $132,610                                                             -                -       1,885,247

Payments on notes receivable                                                      -                -         982,443

Reversal of notes receivable                                                      -                -          26,681

Repricing of warrants                                                             -                -         192,645

Installment note for shares not yet issued, net of
   related payments                                                               -                -         200,000

Accrued interest on notes receivable from stockholders                            -                -          (6,962)

Issuance of stock, stock options and
    warrants for services                                                         -                -         397,090

Issuance of stock and options to employees and
    directors                                                                     -                -         315,911

Conversion of notes and accrued interest                                          -                -         816,400

Discount on notes payable                                                         -                -          58,000

Rescission of stock purchase agreement

Net loss                                                                 (9,027,913)               -      (9,027,913)
                                                                       ------------     ------------    ------------
Balance, December 31, 2002                                            $ (48,757,824)    $          -    $ (4,373,806)


Exercise of stock options and warrants                                            -          305,685         850,466

Payments on notes receivable from stockholders                                    -                -         402,500

Accrued interest on notes receivable from stockholders                            -                -         (72,427)

Issuance of stock, stock options,
    and warrants for services                                                     -                -         570,727

Issuance of options to employees and directors                                    -                -         195,387

Conversion of debt and accrued interest                                           -                -       3,945,246

Warrants issued in lieu of interest
    on short term borrowings                                                      -                -           6,647

Shares issued on exercise of warrant
    under 2002 installment note                                                   -                -               -

May Private placement, net of issuance cost of $175,065                           -                -       4,974,935

Issuance of shares to third party for finder's
    fee in conjunction with May Private placement                                 -                -         376,957

August Private placement net of issuance cost of $224,648                         -                -       2,538,852

December private placement,
    300,000 issued, 700,000 issuable in January                                   -        3,500,000       4,955,255

Beneficial pricing on stock and warrants acquired in
   private placement                                                              -                -         958,913

Net loss                                                                 (9,516,377)               -      (9,516,377)

Balance, December 31, 2003                                            $ (58,274,201)     $ 3,805,685     $ 5,813,275

See accompanying notes to  financial statements

</TABLE>


                                       28
<PAGE>

<TABLE>
<CAPTION>


CONSOLIDATED STATEMENTS OF CASH FLOW
YEARS ENDED DECEMBER 31, 2003 AND 2002

Cash flows from operating activities:                                       2003           2002            2001
                                                                      -------------    -------------   -------------

<S>                                                                    <C>             <C>               <C>
Net loss                                                               $ (9,516,377)   $  (9,027,913)    $(9,911,727)
Adjustments to reconcile net loss to
  net cash used by operating activities:

  Inventory adjustment                                                      516,382          286,000               -
  Depreciation and amortization                                             393,302          381,916         290,293
  Stock-based general and administrative expense                          1,985,720          713,001       2,938,062
  Stock-based interest expense                                              583,672        1,779,147       1,824,864
  Accrued interest on notes receivble from shareholder                      (72,427)               -               -
  Changes in operating assets and liabilities:
     Accounts receivable                                                   (117,530)               -               -
     Inventories                                                         (1,020,040)        (561,959)              -
     Prepaid and other current assets                                       212,428         (406,895)         56,876
     Accounts payable                                                    (1,154,946)       1,624,202          46,924
     Accrued expenses and other current liabilities                         470,799          240,345         294,359
     Other assets                                                           156,079          (86,704)        (15,690)
                                                                      -------------    -------------   -------------

           Net cash used in operating activities                         (7,562,938)      (5,058,860)     (4,476,039)
                                                                      -------------    -------------   -------------

Cash flows from investing activities:

  Purchase of property and equipment                                       (524,764)        (281,818)       (326,774)
                                                                      -------------    -------------   -------------

           Net cash used in investing activities                           (524,764)        (281,818)       (326,774)
                                                                      -------------    -------------   -------------

Cash flows from financing actitivies:

  Payments on capital lease obligations                                           -           (4,483)         (5,121)
  Proceeds from issuance of short-term notes                                792,500          125,000         250,000
  Payment on short-term notes                                              (542,500)               -               -
  Payments from stock subscriptions
   and notes receivable from shareholders                                   402,500        1,182,443       1,319,295
  Payments on convertible notes                                            (100,000)               -               -
  Stock issuance costs                                                            -         (132,610)              -
  Proceeds from sales of common shares and warrants                      12,469,042                -       1,047,646
  Proceeds from exercise of warrants and options                            850,466        2,017,857       3,883,170
                                                                      -------------    -------------   -------------

           Net cash provided by financing activities                    13,872,008         3,188,207       6,494,990
                                                                      -------------    -------------   -------------

Net increase (decrease) in cash                                           5,784,306       (2,152,471)      1,692,177

Cash at beginning of period                                                 575,663        2,728,134       1,035,957
                                                                      -------------    -------------   -------------
Cash at end of period                                                 $   6,359,969    $     575,663   $   2,728,134
                                                                      =============    =============   =============
Supplemental disclosure of cash flow information:

  Income taxes paid during the period                                 $           -    $       2,225   $       7,233
                                                                      -------------    -------------   -------------
  Interest paid during the period                                     $      45,319    $         348   $      15,551
                                                                      -------------    -------------   -------------
Non cash financing activities:

   Common stock issued upon conversion of notes                       $   3,945,246    $     861,400   $     530,386
                                                                      -------------    -------------   -------------
   Sale of stock for stock subscription                               $           -    $           -   $   3,567,521
                                                                      -------------    -------------   -------------
   Exercise of warrants in exchange for notes receivable              $           -    $   1,392,536   $     492,708
                                                                      -------------    -------------   -------------
   Discount on convertible notes
    due to beneficial conversion feature                              $           -    $      58,000   $   1,443,000
                                                                      -------------    -------------   -------------
See accompanying notes to consolidated financial statements.

</TABLE>


<PAGE>



                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                        DECEMBER 31, 2003, 2002 AND 2001


1.  DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

      Description of Business - SpatiaLight,  Inc.  (SpatiaLight or the Company)
is  in  the  business  of  manufacturing   high-resolution   microdisplays   for
applications  such as  high  definition  television,  computer  monitors,  video
projectors and other  applications.  From 2001 through 2003, the Company entered
into  agreements  or  memoranda  of   understanding   with  original   equipment
manufacturers  (OEMs) in China and the Republic of South Korea contemplating the
purchase by these  prospective  customers of the Company's  display units and/or
SpatiaLight  imagEngine(TM)  microdisplays for use in certain of their products.
All of these agreements  generally require that SpatiaLight supply prototypes of
its display units and/or SpatiaLight imagEngine(TM)  microdisplays and that they
meet technical criteria satisfactory to each of such prospective customers.

      In late  January  2003,  SpatiaLight  announced  that it signed a purchase
order  agreement with Skyworth  Display,  one of the Chinese OEMs with which the
Company had an agreement to test prototypes of its  microdisplay  products,  for
the purchase by Skyworth of 14,100  SpatiaLight  display units during a one year
delivery  period.  The purchase  order  originally  provided for 200 units to be
delivered  in February  and an  additional  200 units in each of March and April
2003.  Skyworth and SpatiaLight  subsequently agreed to delay the first delivery
of units. To date,  SpatiaLight  has completed  shipment of 100 of the 200 units
originally  scheduled  for  delivery in the first  month.  Skyworth has recently
advised the Company that it has  determined  to change the screen size format of
the LCoS televisions that it intends to manufacture using SpatiaLight's  display
units.  As a result,  Skyworth  is making  necessary  changes  to certain of its
internally  developed  electronics  components,  which  Skyworth has advised the
Company  will occur in the  immediate  future.  SpatiaLight  expects to ship the
remainder  of the  first 200  units  after  Skyworth  completes  these  changes.
Following the initial  delivery  provisions of 200 units per month for the first
three  months,  the Company is scheduled to deliver  1,500 units per month until
the  order is  completed.  Pursuant  to the  terms of the  purchase  order,  the
obligations  of  Skyworth  are  required  to be backed by  letters  of credit in
SpatiaLight's favor. The purchase order is cancelable by Skyworth on a quarterly
basis and is subject  to pricing  contingencies  and other  customary  terms and
conditions.

      In September 2003,  SpatiaLight  announced that it signed a purchase order
agreement with China Electronics  Corporation (CEC), another of the Chinese OEMs
with which the Company had an agreement to test  prototypes of its  microdisplay
products,  for the purchase by CEC of 2,000 display units from the Company.  The
agreement  provides  for an initial  delivery  of ten display  units,  which was
completed  in  September,  with a second  delivery of 100 units to follow in the
immediate future.  Additional shipments will be made periodically according to a
schedule to be determined by CEC and  SpatiaLight.  Pursuant to the terms of the
purchase order,  the current  obligations of CEC are backed by letters of credit
in the Company's  favor.  The purchase order is cancelable by CEC after delivery
of 110 units and is subject to other customary terms and conditions.

      In October 2003, SpatiaLight announced that it had signed a purchase order
agreement with Nanjing Panda  Electronics Co. (Panda),  a third Chinese OEM with
which the  Company  had an  agreement  to test  prototypes  of its  microdisplay
products,  for the  purchase  of 2610  display  units by  Panda.  The  agreement
provides for an initial  television box  integration  phase,  which was recently
completed.  The  agreement  then  provides for delivery of ten display  units to
Panda, which the Company expects to occur in the immediate future, with a second
delivery of 100 display units to follow. Subsequent shipments under the purchase
order will be made periodically  according to a schedule to be determined by the
parties.  Pursuant to the terms of the purchase order,  the obligations of Panda
will be backed by letters of credit in  SpatiaLight's  favor. The purchase order
is  cancelable  by Panda after  delivery of ten display  units and is subject to
other customary terms and conditions.


<PAGE>

                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001 (Continued)

      In December 2003,  SpatiaLight  signed a purchase order agreement with SCT
Optronics  Company Ltd.  (SCT),  a Chinese OEM, for the purchase of 2020 display
units from the Company.  The initial  shipment of ten display units provided for
under the  agreement  was  completed  in December  2003.  Future  shipments  are
scheduled  to be  made  periodically  according  to a  schedule  to  be  finally
determined  by the  parties.  The  purchase  order is  cancelable  by SCT  after
delivery  of ten  display  units and is  subject  to other  customary  terms and
conditions.

      In December  2003,  SpatiaLight  signed a purchase  order  agreement  with
Shanghai China Display Co., Ltd. (China Display), another Chinese OEM with which
the Company had an agreement to test  prototypes of its  microdisplay  products.
The agreement  provides for the purchase by China Display of 1,000 sets of three
SpatiaLight  imagEngine(TM)  microdisplays.  Pursuant  to  the  purchase  order,
SpatiaLight  completed  an initial  delivery of 100  microdisplay  sets to China
Display in December 2003. A second  delivery of 300 sets and a third delivery of
600 sets are to follow.  The entire order is scheduled to be completed  within a
three-month period.  SpatiaLight may mutually agree with China Display to revise
the  delivery  schedule.  Pursuant  to the  terms  of the  purchase  order,  the
obligations  of China  Display  will be backed by three  letters of credit,  the
first of which was issued and paid to  SpatiaLight.  The  purchase  order is not
cancelable  by China  Display,  according  to the terms of the  purchase  order,
because the delivered microdisplay sets met China Display's specifications.  The
purchase order is subject to other customary terms and conditions.

      In December  2003,  SpatiaLight  signed a purchase  order  agreement  with
Global  Display  Limited,  a Chinese OEM, for the purchase of 2000 display units
from the Company. Shipments are scheduled to be made periodically according to a
schedule  to be  finally  determined  by the  parties.  The  purchase  order  is
cancelable  by Global  Display  after the initial  delivery of ten display units
provided for under the  agreement  and is subject to other  customary  terms and
conditions.

      The  Company's   principal   executive  offices  are  located  in  Novato,
California. The Company was organized under the laws of the State of New York in
1989.

      Basis of Consolidation - The consolidated financial statements incorporate
the accounts of SpatiaLight,  Inc. and its wholly owned subsidiary,  SpatiaLight
Technologies,  Inc.,  an inactive  subsidiary  formed in 2003.  All  significant
intercompany business and transactions have been eliminated in consolidation.

      Estimates - The  preparation  of financial  statements in conformity  with
generally accepted accounting principles requires that management make estimates
and assumptions  that affect the reported  amounts of assets and liabilities and
disclosure of  contingent  assets and  liabilities  at the date of the financial
statements  and the  reported  amounts  of  revenues  and  expenses  during  the
reporting period. Actual results could differ from those estimates.  Significant
estimates include those related to inventory reserves and write-downs, which can
be affected by a change in the market value and replacement cost of materials or
a change in market price of products.

      Cash  Equivalents - The Company  considers  all highly liquid  investments
purchased  with  an  original  maturity  of  three  months  or  less  to be cash
equivalents.   At  December  31,  2003  and  2002,   $6,360,000   and  $576,000,
respectively,  of money market securities,  the fair value of which approximates
cost, are included in cash and cash  equivalents.  The Company deposits cash and
cash equivalents with high credit quality financial institutions.

      Accounts  Receivable - Accounts  receivable are customer  obligations  due
under  normal  trade  terms.  Although  the Company  generally  does not require
collateral,  letters of credit may be required from the  Company's  customers in
certain  circumstances.  Senior  management  reviews  accounts  receivable  on a
monthly basis to determine if any receivables will potentially be uncollectible.
Were any  accounts  receivable  balances  determined  to be  uncollectible,  the
Company would provide for such balances in its allowance for doubtful  accounts.
If all attempts to collect a receivable  failed, the receivable would be written
off against the allowance. Based on the information available to the Company and
its limited  volume of sales,  the Company has not  established an allowance for
doubtful accounts as of December 31, 2003.


<PAGE>


                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001 (Continued)

      Inventory.  Inventories  are  valued  at the  lower of cost  (based on the
first-in,  first-out method) or market value. Materials, labor and manufacturing
overhead  are  included in the cost of  inventories.  In  determining  inventory
market values,  substantial consideration is given to the expected selling price
of the  product  based on  historical  recovery  rates.  If the market  value of
inventory  is  assessed  to be  less  than  cost,  it is  written  down  to  its
replacement cost or its net realizable  value.  Estimates may differ from actual
results due to the  quantity  and  quality  and mix of  products  in  inventory,
consumer and retailer  preferences  and economic  conditions.  The adjustment to
adjust inventory to lower of cost or market value was $311,000,  $286,000 and $0
in 2003, 2002 and 2001, respectively. Our initial inventory components were at a
cost  higher  than we expect to incur for future  purchase.  Also,  in 2003,  we
conducted a physical  count for the first time as we moved from a  preproduction
phase  to  a  production  phase,  which  resulted  in  an  additional  inventory
write-down of $205,000.  The total inventory adjustment in 2003 was $516,000.

      Property and Equipment - Property and equipment are recorded at cost while
repairs and maintenance costs are expensed in the period incurred.  Depreciation
and  amortization  of property and equipment is  calculated  on a  straight-line
basis over the estimated  useful lives of the assets,  generally three years for
computer  equipment  and  building  improvements  and  seven  years  for  office
furniture and equipment.

      Revenue  Recognition  - The  Company  recognizes  revenue  when  there  is
persuasive evidence of an arrangement, the product has been delivered, the sales
price is fixed or determinable,  and collectibility is reasonably  assured.  The
product is considered  delivered to the customer  once it has been shipped,  and
title and risk of loss have transferred. The Company reduces product revenue for
estimated customer returns and sales allowances.

      Shipping  and  Handling  Costs  - The  Company  generally  structures  its
purchase order agreements to provide that its customers shall be responsible for
shipping  and handling  costs.  In the event that  shipping and handling  costs,
which are comprised of outbound  freight and associated  direct labor costs, are
borne by the  Company,  such costs are  recorded in general  and  administrative
expense. To the extent that such costs are recouped from the customers, they are
included in revenue.

      Income  Taxes - The Company  utilizes  the asset and  liability  method of
accounting for income taxes.  Deferred tax assets and liabilities are recognized
for  the  future  tax  consequences  attributable  to  differences  between  the
financial  statement  carrying  amounts of existing  assets and  liabilities and
their  respective  tax bases and  operating  loss and tax credit  carryforwards.
Deferred  tax  assets and  liabilities  are  measured  using  enacted  tax rates
expected  to apply to  taxable  income  in the  years in which  those  temporary
differences  are expected to be recovered or settled.  A valuation  allowance is
recorded to reduce  deferred tax assets to an amount whose  realization  is more
likely than not. The effect on deferred tax assets and  liabilities  of a change
in tax rates is  recognized  in income in the period that includes the enactment
date.

      Research and Development - Research and development  costs,  including the
costs of prototype  and  pre-production  display units  provided to  prospective
customers in China, are charged to expense when incurred.

      Financial  Instruments - The Company's financial  instruments include cash
and cash  equivalents and debt. At December 31, 2003 and 2002 the fair values of
cash and cash equivalents and debt issued without equity components approximated
their financial statement carrying amounts.  For certain debt issued with equity
instruments  attached,  little or no value has been assigned to the debt and the
fair value of the debt on a stand-alone basis is not easily determinable.

      Stock-Based  Compensation  - The  Company  accounts  for  its  stock-based
compensation  arrangements  for employees,  contractors  and directors using the
intrinsic value method pursuant to Accounting Principles Board Opinion (APB) No.
25,  "Accounting  for Stock  Issued to  Employees,"  as  clarified  by Financial
Accounting Standards Board (FASB)  Interpretation No. 44 "Accounting for Certain
Transactions  Involving Stock  Compensation." As such,  compensation  expense is
recorded when, on the date of grant, the fair value


<PAGE>


                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001 (Continued)

of the  underlying  common stock exceeds the exercise price for stock options or
the purchase price for issuances or sales of common stock. Pursuant to Statement
of Financial  Accounting  Standard  (SFAS) No. 123  "Accounting  for Stock-Based
Compensation",  the Company  discloses  the  proforma  effects of using the fair
value method of accounting for stock-based compensation arrangements and records
compensation expense for the fair value of options granted to non-employees.

      If the  Company  had  elected  the fair  value  method of  accounting  for
stock-based  compensation,  compensation  cost would be accrued at the estimated
fair value of stock option grants over the service  period,  regardless of later
changes in stock prices and price  volatility.  The fair values at date of grant
for  options  granted  have been  estimated  based on a  modified  Black-Scholes
pricing model with the following weighted average assumptions:


<TABLE>
<CAPTION>
                                                                                       2003             2002             2001
                                                                                   ------------     ------------     ------------
<S>                                                                                <C>              <C>              <C>
Dividend yield                                                                               --               --               --

Expected volatility                                                                          82%             100%             114%

Risk-free interest rates                                                                      2%               5%               6%

Expected lives                                                                        24 months        24 months        24 months

      The table  below  shows net income per share as if the Company had elected the fair value method
of accounting for stock options

                                                                                       2003             2002             2001
                                                                                   ------------     ------------     ------------

Net loss as reported                                                               $ (9,516,377)    $ (9,027,913)    $ (9,911,727)

Add: stock-based employee compensation included
in reported net loss, net of any applicable related tax effects                         130,750           38,951        1,795,323

Deduct: total stock-based employee compensation
determined under fair value method for all awards,
net of any applicable related tax effects                                            (2,628,486)      (3,610,346)      (3,369,151)
                                                                                   ------------     ------------     ------------

Proforma net loss, as adjusted                                                     $(12,014,113)    $(12,599,308)    $(11,485,555)

Loss per share:

Basic and diluted, as reported                                                     $      (0.34)    $      (0.37)    $      (0.46)
Basic, as adjusted                                                                 $      (0.43)    $      (0.51)    $      (0.53)
</TABLE>

      Impairment of Long-lived  Assets and Long-lived Assets to be Disposed of -
The Company  evaluates its long-lived  assets for impairment  whenever events or
changes in  circumstances  indicate  that the carrying  amount of such assets or
intangibles may not be recoverable. Recoverability of assets to be held and used
is  measured  by a  comparison  of the  carrying  amount  of an asset to  future
undiscounted  net cash flows  expected  to be  generated  by the asset.  If such
assets are  considered  to be  impaired,  the  impairment  to be  recognized  is
measured by the amount by which the  carrying  amount of the assets  exceeds the
fair value of the assets.  Assets to be disposed of are reported at the lower of
the carrying amount or fair value less cost to sell.

      Loss per Common Share - Basic loss per common share excludes  dilution and
is  computed  by  dividing  loss  attributable  to  common  stockholders  by the
weighted-average  number of Common Shares  outstanding  for the period.  Diluted
loss per common  share  reflects  the  potential  dilution  that could  occur if
securities or other  contracts to issue common stock were exercised or converted
into common stock. Common


<PAGE>


                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001 (Continued)


share  equivalents are excluded from the  computation in loss periods,  as their
effect would be antidilutive.

      Reclassifications.  Certain prior year amounts have been  reclassified  in
order to conform to current year presentation.

Recently Issued Accounting Standards

      In July 2002, the Financial  Accounting Standards Board (FASB) issued SFAS
No. 146,  "Accounting for Costs  Associated  with Exit or Disposal  Activities,"
which  addresses  financial  accounting and reporting for costs  associated with
exit or disposal activities.  Statement of Financial Accounting Standards (SFAS)
No. 146 requires that a liability for a cost associated with an exit or disposal
activity be  recognized  when the  liability is incurred.  This  Statement  also
establishes  that fair value is the  objective  for initial  measurement  of the
liability.  Severance pay under SFAS No. 146, in many cases, would be recognized
over time rather than up front.  The  provisions of this statement are effective
for exit or disposal  activities  that are  initiated  after  December 31, 2002.
Adoption  of this  Statement  did not have a  material  impact on the  Company's
financial condition or results of operations;  however it may affect any exit or
disposal activities in the future.

      In  December  2002,  the  FASB  issued  SFAS  No.  148,   "Accounting  for
Stock-Based  Compensation-Transition and Disclosure," which provides alternative
methods of  transition  for a  voluntary  change to fair value  based  method of
accounting for stock-based employee  compensation as prescribed in SFAS No. 123,
"Accounting for Stock-Based Compensation."  Additionally,  SFAS No. 148 requires
more prominent and more frequent  disclosures in financial  statements about the
effects of  stock-based  compensation.  The  provisions  of this  Statement  are
effective  for  fiscal  years  ending  after  December  15,  2002,   with  early
application permitted in certain  circumstances.  Adoption of this Statement did
not have a material  impact on the Company's  financial  condition or results of
operation;  however  the  Company  has  provided  the  enhanced  disclosures  as
required.

      In  November  2002,  the FASB  Issued  FASB  interpretation  (FIN) No. 45.
"Guarantor's  Accounting and Disclosure  Requirements for Guarantees,  Including
Indirect  Guarantees of Indebtedness of Others." FIN No. 45 requires a guarantor
to  recognize,  at the inception of a qualified  guarantee,  a liability for the
fair value of the obligation undertaken in issuing the guarantee.  FIN No. 45 is
effective on a  prospective  basis for qualified  guarantees  issued or modified
after December 31, 2002. Adoption of this Interpretation did not have a material
impact on the Company's financial  condition or results of operations.

      In January 2003, the FASB issued  Interpretation No. 46, "Consolidation of
Variable  Interest  Entities"  ("FIN 46").  FIN 46  requires an investor  with a
majority of the variable  interests in a variable interest entity to consolidate
the  entity  and  also  requires  majority  and  significant  variable  interest
investors  to provide  certain  disclosures.  A variable  interest  entity is an
entity  in  which  the  equity  investors  do not have a  controlling  financial
interest  or the  equity  investment  at risk is  insufficient  to  finance  the
entity's activities without receiving additional  subordinated financial support
from other  parties.  The Company does not have any variable  interest  entities
that must be consolidated.

      In May 2003,  FASB issued  "Accounting For Certain  Financial  Instruments
with  Characteristics  of both Liabilities and Equity." SFAS No. 150 establishes
standards  for  how  an  issuer   classifies  and  measures  certain   financial
instruments with characteristics of both liabilities and equity. The adoption of
SFAS No. 150 in 2003 did not have a material impact on the Company's  results of
operation or financial position..

2.  ISSUANCE OF SECURITIES

Issuance of Shares in 2003

      On December 31, 2003,  the Company  issued  93,633  Common Shares upon the
conversion  of a  short-term  convertible  note with an  outstanding  balance of
$250,000. The conversion price was $2.67 per share.

      During 2003,  the Company issued 142,360 Common Shares upon the conversion
of interest of $354,476 (See note 3).

      During  2003,  the  Company  issued   1,344,827  Common  Shares  upon  the
conversion of notes payable of  $2,775,000  and of accrued  interest of $565,770
(See note 3).

<PAGE>

                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001 (Continued)

      In December,  2003, the Company completed a private placement of 1,000,000
Common  Shares  that  were  registered  with the SEC in a  "Shelf"  Registration
Statement at a price of $5.00 per share for net proceeds of $4,955,255  received
in December  2003.  300,000 of these  shares were issued  prior to December  31,
2003,  and the  remaining  shares are  reflected in Common  Shares  issueable at
December 31, 2003 and issued in January 2004.

      In August 2003, in a private  financing  transaction,  the Company  issued
1,212,061  Common Shares at $2.28 per share and 303,015  fully vested  warrants,
with a strike  price of  $3.29,  and a term of five  years in  exchange  for net
proceeds of $2,538,852,  with six purchasers, none of who is an affiliate of the
Company.  In addition,  warrants to purchase  48,482  Shares were granted to the
placement  agent for the  financing.  There  was no  earnings  impact  for these
warrants.

      In May 2003,  in a  private  financing  transaction,  the  Company  issued
2,796,325  Common  Shares at $1.84 per share and 699,080  fully vested  warrants
with a strike price of $2.65 in exchange for net proceeds of $4,974,935. Of this
amount, 1,357,441 shares and 339,360 warrants were purchased by Robert A. Olins,
Acting Chief Executive Officer and a director of the Company.  Consequently, the
Company recognized non-cash expense of $958,913 related to the deemed beneficial
pricing Mr. Olins received;  the expense  consists of two components.  First, an
expense of $538,106,  representing  the fair value of the warrant  issued to Mr.
Olins was recognized in stock-based  general and administrative  expense using a
Black-Scholes  option pricing model and the following  assumptions:  stock price
$2.15,  historical volatility 105%, risk free rate of 2.27%, dividend rate of 0,
and a contractual term of five years.  Second, since the market price on the day
of closing of $2.15 was higher  than the  issuance  price of $1.84,  a charge of
$420,807 was recognized in stock-based  general and administrative  expenses for
the 1,357,441 shares purchased by Mr. Olins.

      In order to complete this equity financing, the outside investors required
significant  participation  from Robert A. Olins.  To achieve  this,  Mr.  Olins
borrowed  funds to purchase his share of the financing.  The Company's  board of
directors  unanimously  (except for Mr. Olins,  who did not vote on this matter)
approved  reimbursements of $250,000 for certain expenses incurred in connection
with the personal loan to Mr. Olins made by an unaffiliated  bank, and $300,000,
payable  through the issuance of 130,435 Common Shares,  for a finder's fee that
Mr.  Olins  was  obligated  to  pay  to an  unaffiliated  third  party.  Another
shareholder of the Company, to whom the Company  subsequently issued the 130,435
Shares,  undertook Mr. Olins' obligations to the finder. The $376,957 fair value
of the  130,435  shares is included in  stock-based  general and  administrative
expense.

      Additionally,  warrants in the  aggregate of 77,126  shares were issued to
the placement  agent  handling the financing.  There was no earnings  impact for
these warrants.

      The Company  became aware that the current  interpretations  of the NASDAQ
rules  by the  NASDAQ  staff  require  shareholder  approval  of the sale by the
Company to Mr. Olins of 1,357,441  shares at the same  discount  received by the
other investors in that transaction. Upon review, the Company determined that it
will seek  shareholder  ratification  of the sale to Mr. Olins at the  Company's
2004 annual meeting of shareholders.  Mr. Olins informed the Company that in the
interim he will not dispose of, nor vote,  these shares until such  ratification
is obtained. In the event that such ratification is not obtained,  Mr. Olins and
the Company  have agreed that the matter will be addressed  consistent  with the
rules and regulations of the NASDAQ.

Issuance of Stock and Warrants for Interest in 2003

      On January 3, 2003,  the Company  issued 142,360 Common Shares with a fair
value of $354,476 as a  prepayment  of interest.  Prepaid  interest was computed
using the closing price of the Common Shares on December 31, 2002 of $2.49,  and
was amortized through December 31, 2003. (See also Note 3).

<PAGE>

                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001 (Continued)

      In May 2003, the Company issued a fully vested warrant to purchase  10,000
Common  Shares in lieu of interest on a  short-term  note. A value of $6,647 was
assigned to this warrant  using a  Black-Scholes  option  pricing  model and the
following assumptions:  stock price $2.15,  historical volatility 79%, risk free
rate of 1.01%,  dividend yield of 0, and a contractual term of 1 year. The value
of this warrant was recorded in non-cash interest expense.

Exercise of Stock Options and Warrants in 2003


      During 2003, the Company issued 215,874 and 149,750 Common Shares upon the
exercise of warrants  and employee and  director  stock  options,  respectively.
Total cash  received was $376,542 and  $168,239,  respectively.  Included in the
warrant exercise are 69,547 Shares issued upon the cashless  exercise of 250,000
warrants. Additionally, proceeds of $305,685 were received prior to December 31,
2003,  for the exercise of warrants.  At December 31, 2003,  these proceeds were
included in common  stock  issueable  and 120,082  Common  Shares were issued in
January 2004 for these warrants.


Issuance of Stock, Stock Options and Warrants for services in 2003

      In October 2002,  the Company issued a fully vested warrant for consulting
services rendered in 2002 and 2003. An expense of $91,000 was recognized for the
portion of the services rendered in 2003. The warrant to purchase 250,000 Common
Shares had an exercise price of $3.50.  The following  assumptions  were used in
determining the value: stock price $1.84,  historical volatility 100%, risk free
rate 5%, a dividend  yield of 0, and a  contractual  term of two  years,  and is
reflected  in  the   statement  of  operations   as   stock-based   general  and
administrative expense.

      In March  2003,  the  Company  issued a fully  vested  warrant to purchase
200,000  Common Shares in exchange for consulting  services.  A value of $85,400
was assigned to the warrant using the Black-Scholes option pricing model and the
following assumptions:  stock price $2.43, historical volatility 100%, risk free
rate 5%, a dividend yield of 0, and a contractual term of five months. The value
of the warrant is included in stock-based general and administrative  expense in
the first quarter of 2003.

      In March 2003,  the Company  issued  47,000  Common Shares in exchange for
consulting  services provided in 2002 totaling $116,250.  The expense associated
with these services was recorded in 2002.

      In May 2003, the Company  issued a fully vested option to purchase  25,000
Common Shares in exchange for services rendered. A value of $49,734 was assigned
to this option using a  Black-Scholes  option  pricing  model and the  following
assumptions:  stock price $2.14,  historical  volatility 112%, risk free rate of
3.33%, a dividend yield of 0, and a contractual  term of 10 years.  The value of
this option was recorded in stock-based  general and  administrative  expense in
the second quarter.

      In May 2003, the Company issued a fully vested warrant to purchase 125,000
Common  Shares in  exchange  for  consulting  services.  A value of $56,994  was
assigned to the  warrant  using a  Black-Scholes  option  pricing  model and the
following assumptions:  stock price $2.05,  historical volatility 79%, risk free
rate of 1.01%, dividend yield of 0, and a contractual term of 18 months.

      In May 2003,  the  Company  issued  32,000  Common  Shares  to an  outside
consultant.  The shares were issued in consideration of services rendered by the
consultant in 2003. These shares were valued at $68,800, the market value of the
shares on the date of grant.

      In October  2003,  the Company  issued a fully  vested  option to purchase
5,000  Common  Shares in exchange  for  services  rendered  in 2003.  A value of
$22,003 was assigned to this option using a  Black-Scholes  option pricing model
and the following  assumptions:  stock price $4.69,  historical volatility 112%,
risk free rate of 4.27%, dividend yield of 0 and contractual life of 10 years.

<PAGE>

                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001 (Continued)

      In October  2003,  the Company  issued a fully vested  warrant to purchase
50,000 Common Shares to a consultant in exchange for services  rendered in 2003.
A value of $80,546  was  assigned to the warrant  using a  Black-Scholes  option
pricing model and the following  assumptions:  stock price $4.68, exercise price
$3.50,  historical  volatility  63%, risk free rate of 1%, a dividend yield of 0
and contractual life of nine months.

      During 2003,  the Company  recognized an expense for options in accordance
with a TARSAP agreement between the Company and one of its executives. The total
expense  recognized in 2003 under this  agreement was $86,750  included in stock
based general and administrative expense.

      Other  expenses in 2003  related to the  valuation  of options  granted to
directors for additional  services and employee  options issued with an exercise
price lower than market price totaled  $108,637 and are included in  stock-based
general and administrative expense.

Issuance of Shares Under Installment Note

      In  November  2002,  a warrant  to  purchase  746,268  Common  Shares  was
exercised  at $2.00 per share  under a warrant  installment  agreement  totaling
$1,492,536.  Payments of $200,000 were made in 2002. An additional  $402,500 was
received  in 2003.  Interest  accrues  at 6% per annum and is due with the final
payment. As of December 31, 2003,  approximately $79,000 of accrued interest has
been recorded,  including interest of approximately  $72,000 in 2003. The shares
were issued in 2003,  but are held in escrow by the Company  pending  receipt of
the  remaining  balance of  $969,426,  which is  included in the notes and stock
subscriptions receivable balance as of December 31, 2003.

      On May 15, 2001,  the Company sold 600,000  Common  Shares under a private
stock purchase agreement. The stock was sold at a price of $1.75 per share. Cash
received  was  $262,500.  The balance of $787,500  was to be paid in three equal
quarterly  installments of $262,500. An escrow agent is holding the certificates
for the shares being  purchased until all three  installments  have been paid in
full. At December 31, 2003 the remaining balance is $127,500.

Exercise of Stock Options and Warrants in 2002

      During 2002,  the Company issued 646,354 and 9,500 shares of Common Shares
upon the exercise of warrants and employee  stock options,  respectively.  Total
cash received was $1,568,500 and $5,713,  respectively.  Included in the warrant
exercises  are  16,354  shares  issued  upon the  cashless  exercise  of 171,429
warrants by investors associated with the Alabama Group (described below).

      On June  28,  2002,  warrants  to  purchase  329,355  Common  Shares  were
exercised by a group of investors (the "Alabama Group"),  which includes a trust
for the benefit of Steven F. Tripp, a director of the Company as of December 31,
2003 (see Note 9). Mr.  Tripp is not the  trustee of this trust and has no power
to vote or dispose of the Common  Shares of the Company or any other  securities
held by that trust. Marcia K. Tripp, Steven F. Tripp's mother, is the trustee of
this trust and directs and is responsible for all of the investment decisions of
this trust.  In the  opinion of the  Company,  no other  investor in the Alabama
Group is an  affiliate  of the Company and Mr.  Tripp is not an affiliate of any
other  investor  in the  Alabama  Group.  On the same day,  warrants to purchase
370,645  Common Shares were  reassigned  for no  consideration  and exercised by
other  investors,  none of whom are  affiliates  of the Company or of any of its
directors. When originally granted, all of the warrants had an exercise price of
$3.50  and an  expiration  date of June 30,  2002.  To  induce  the  holders  to
exercise, the exercise price was reduced to $3.13, the average closing price for
the  previous  four  days,  a price  slightly  below  the  closing  price on the
commitment   date.  The  warrants  were  exercised  under  warrant   installment
agreements totaling $1,747,347 with initial payments totaling $443,644.

      Share  issuance  costs  associated  with the  above  transactions  totaled
$132,610 and have been recorded as a reduction in additional paid-in capital.


<PAGE>

                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001 (Continued)


      Payments  totaling  $960,568  were  made  under  the  warrant  installment
agreements,  as well as $21,875 relating to notes  receivable from  shareholders
that were  outstanding  as of December  31, 2001.  The  exercise  price for each
installment was marked to market based on the closing price the day prior to the
due date.  The  resulting  intrinsic  value of $210,042,  based on the change in
exercise price, was recorded as stock-based  interest  expense of $156,825,  and
additional  paid in capital of $53,217.  Of the  700,000  shares held in escrow,
197,005  were  restored  to the  status of  authorized  but  unissued  shares in
exchange for the reversal in 2002 of notes receivable totaling $643,416.

      In  connection  with the  above  warrant  exercises  and  note  reversals,
including  repricing for certain  warrantholders  who are also debt  holders,  a
total of  $219,325  in  pricing  concessions  has  been  charged  as  additional
stock-based  interest  expense  (see  Note  3  to  the  Consolidated   Financial
Statements), including the marked-to-market charge described above.

      In  November  2002,  a warrant  to  purchase  746,268  Common  Shares  was
exercised.  When originally  issued,  the warrant had an exercise price of $2.81
and an expiration  date of November 14, 2002. On October 14, 2002, to induce the
holder to exercise, the exercise price was reduced to $2.00.

      The closing  market price of the common stock on that date was $1.84.  The
warrant was exercised under a warrant installment  agreement totaling $1,392,536
with an initial  payment of  $100,000.  As of  December  31,  2002,  installment
payments totaling $200,000 had been made under this agreement.  Interest accrues
at 6% per annum and is due with the  final  payment.  As of  December  31,  2002
approximately $7,000 of accrued interest receivable has been recorded.

Issuance of Shares, Stock Options and Warrants in 2002

      On October 14, 2002 the Company issued a fully vested warrant  expiring in
October 2003 to purchase  31,250 shares of common stock at an exercise  price of
$3.50 in exchange for  consulting  services  rendered in the fourth  quarter.  A
value of $12,337 was assigned to the  warrants  using the  Black-Scholes  option
pricing  model and the  following  assumptions:  stock price  $1.84,  historical
volatility  100%,  risk free rate 5%, a dividend  yield of 0, and a  contractual
term of one year.  The value of the warrant is  reflected  in the  statement  of
operations as stock-based general and administrative expense.

      On October 14, 2002 the Company  issued a fully vested warrant to purchase
250,000  Common Shares at an exercise  price of $3.50 in exchange for consulting
services  rendered over a 6-month period. A value of $88,192 was assigned to the
warrants  for  the  portion  of  the   services   rendered  in  2002  using  the
Black-Scholes  option pricing model and the following  assumptions:  stock price
$1.84, historical volatility 100%, risk free rate 5%, a dividend yield of 0, and
a contractual  term of two years. The portion of the value of the warrant earned
in 2002 is reflected in the statement of operations as  stock-based  general and
administrative expense.

      On August 19, 2002,  the Company issued a fully vested warrant to purchase
50,000 Common Shares at an exercise  price of $3.13,  expiring in December 2002.
The warrant was issued in consideration for consulting services. The warrant was
valued at $24,000 using the Black-Scholes option pricing model and the following
assumptions: share price $2.70, historical volatility 100%, risk-free rate 5%, a
dividend yield of zero, and a contractual term of four months.  The value of the
warrant  is  reflected  in  the  statement  of  operations  as  a  component  of
stock-based general and administrative expense.

      On January  23,  2002,  the Company  issued a warrant to  purchase  30,000
Common Shares at an exercise price of $3.00, expiring in April 2002. The warrant
was issued to an investor in consideration of the failure of the Company to file
a  registration  statement  with the  Securities  and Exchange  Commission  with
respect to the shares  underlying  a prior  issuance  of  warrants by an earlier
agreed  upon  outside  date.  The  warrant  was  valued  at  $37,111  using  the
Black-Scholes option pricing model and the following assumptions:

<PAGE>

                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001 (Continued)

share price $3.73,  historical  volatility  114%,  risk-free rate 5%, a dividend
yield of zero,  and a contractual  term of 103 days. The value of the warrant is
reflected in the statement of operations as a component of  stock-based  general
and administrative expense.

      During 2002,  92,799  Common  Shares and 12,500  fully  vested  consultant
options  expiring in 2012 to purchase  common stock at prices ranging from $1.99
to $3.67 were issued in exchange for services valued at $235,450.

      In March 2002,  the Company issued 60,000 Common Shares to its Director of
Corporate  Development.  The shares  were  issued in  consideration  of services
rendered by the employee  with respect to assisting  the Company in  negotiating
the contractual  relationships with its existing  prospective  customers.  These
shares were valued at  $220,200,  the market  value of the shares on the date of
grant.  Other expenses  related to the valuation of options granted to directors
for additional  services  totaled $95,711,  included in stock-based  general and
administrative expenses in the accompanying statements of operations.

Note and Interest Conversions in 2002

      During 2002,  the Company  issued 62,500 Common Shares upon the conversion
of a $125,000 convertible note.

      During 2002,  the Company issued 178,992 Common Shares upon the conversion
of accrued interest of $691,400 under certain  convertible notes, which includes
additional  deemed  interest  of  $491,877  in 2002 and  $128,241 in 2001 due to
beneficial conversion features of the interest on the underlying notes. See also
Note 3 for additional  note  discounts of $58,000  related to extension of these
notes.

Rescission of Stock Purchase Agreement in 2002

      During the first quarter of 2002 a stock purchase  agreement was cancelled
as a result of a default by the  purchaser.  The stock  purchase  agreement  was
entered  into in  October  2001 and  called  for  four  equal  installments  due
quarterly  beginning  January 5, 2002. A check for the  $626,014  payment due in
January  was  received  and  deposited  at  the  end  of  March  2002,  but  was
subsequently  not  honored  by the  purchaser's  bank.  As a  result,  the stock
purchase  agreement,  by its terms,  was cancelled and the 1,346,268 shares have
been  restored to the status of  authorized  but  unissued  shares.  The initial
payment of $13,463 was  forfeited  by the  purchaser  and was  transferred  from
common  stock  par  value  to  additional  paid  in  capital.  The  subscription
receivable of $2,504,059  and the related  additional  paid in capital have been
eliminated  from the  balance  sheet.  The  cancellation  of the stock  purchase
agreement did not have any effect on results of operations.

Issuance and Exercise of Stock Options, Warrants and Stock in 2001

      During 2001,  the Company  issued  629,300 and 1,367,801  shares of common
stock upon the exercise of employee  stock options and  warrants,  respectively.
Total cash received was $440,878 and $2,872,500, respectively.

      On April 18, 2001 the Company issued  warrants to purchase  607,143 shares
of common  stock at an exercise  price of $1.75 to a group of  investors,  which
includes a trust for the benefit of Steven F. Tripp,  a director of the Company.
Mr.  Tripp is not the  trustee of this trust and has no power to vote or dispose
of the Common Shares of the Company or any other  securities held by that trust.
Marcia K.  Tripp,  Steven F.  Tripp's  mother,  is the trustee of this trust and
directs and is responsible for all of the investment decisions of this trust. In
the  opinion  of the  Company,  no other  investor  in the  Alabama  Group is an
affiliate of the Company and Mr. Tripp is not an affiliate of any other investor
in the Alabama  Group.  The  warrants  were  issued in exchange  for the warrant
holders' offer to assist the Company by augmenting its working  capital  through
the purchase of Common  Shares.  The warrants  were valued at $68,852  using the
Black-Scholes  option pricing model and the following  assumptions:  stock price
$1.75, historical volatility 114%, risk free rate 6%, a


<PAGE>
                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                   DECEMBER 31, 2003, 2002 AND 2001(Continued)

dividend  yield of zero,  and a contractual  term of 7 days.  The value of these
warrants  is  reflected  in  the  statement  of  operations  as a  component  of
stock-based general and administrative expense.

      During the seven days following their issuance,  the warrants  referred to
above were  exercised.  Total  proceeds were  $1,062,500.  Of this amount,  cash
totaling $525,000 was received in exchange for the issuance of 300,000 shares of
common  stock.  The remaining  307,143  warrants  were  exercised  under warrant
installment  notes totaling  $492,708 with a payment of $44,792 made on the date
of exercise.  The notes,  including accrued  interest,  are paid in full and the
shares were released from escrow.

      On October  22,  2001 the  Company  issued a warrant to  purchase  100,000
shares of common stock at an exercise  price of $2.20 in exchange for consulting
services  rendered  over the previous  year. A value of $132,089 was assigned to
the warrants  using the  Black-Scholes  option  pricing  model and the following
assumptions: stock price $2.20, historical volatility 114%, risk free rate 6%, a
dividend yield of 0, and a contractual term of 2 years. The value of the warrant
is  reflected  in  the  statement  of  operations  as  stock-based  general  and
administrative expense.

      During 2001, 21,889 shares of common stock and 10,000  consultant  options
to purchase common stock at $2.02 were issued in exchange for services valued at
$60,181.  In addition,  expenses  related to the  repricing of certain  warrants
previously issued to purchase 120,000 shares of common stock from $2.00 to $1.75
per share, and 600,000 shares from $3.50 to $2.50 per share,  totaled  $141,605.
The repriced  warrants  were  exercised,  and are included in warrant  exercises
above.

      On  October  18,  2000 the Board of  Directors  approved  a grant of stock
options to purchase 150,000 shares of common stock at an exercise price of $1.50
to Steven F. Tripp,  a director of the Company.  The options were issued outside
of the employee  stock option plan and were subject to  shareholder  approval at
the annual  meeting of  shareholders  in June 2001.  The options  were issued in
exchange for consulting  services provided by Mr. Tripp and were ratified by the
shareholders  at the annual  shareholders'  meeting on June 8, 2001. The options
were valued at $440,172  using the  Black-Scholes  option  pricing model and the
following assumptions:  stock price $3.12, historical volatility 100%, risk free
rate 4.75%, a dividend yield of zero,  and a contractual  term of 10 years.  The
value  of these  options  is  reflected  in the  statement  of  operations  as a
component of stock-based general and administrative expense.

      On  October  18,  2000 the Board of  Directors  approved  a grant of stock
options to purchase 750,000 shares of common stock at an exercise price of $1.50
to Robert A. Olins,  Acting  Chief  Executive  Officer.  The options were issued
outside of the employee  stock option plan subject to  shareholder  approval and
were ratified by the shareholders at the annual shareholders' meeting on June 8,
2001. The intrinsic value of $1,215,000 was recorded in stock-based  general and
administrative  expenses. The recording of that intrinsic value was required for
financial statement reporting purposes because these stock options could only be
valued as of the date of their approval by  Shareholders  on June 8, 2001 rather
than the date of their grant to Mr. Olins on October 18, 2000.

      In December 2001, the Company issued 200,000 shares of common stock to its
Director of Corporate  Development.  The shares were issued in  consideration of
services  rendered by the  employee  with  respect to  assisting  the Company in
negotiating  the  contractual   relationships  with  its  existing   prospective
customers. These shares were valued at $740,000, the market value of such shares
on the date of  grant.  Other  expenses  related  to the  extension  of  certain
employee stock options and the valuation of other employee and director  options
totaled $140,163, included in stock-based general and administrative expenses in
the accompanying  statements of operations.  Of this amount,  $49,360 related to
employee  related  charges and $90,803  related to officer and director  related
charges.

<PAGE>


                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001(Continued)

Sales of Stock Under Private Stock Purchase Agreements in 2001

      During 2001, the Company sold 391,036 shares of common stock under private
stock purchase agreements.  The purchase prices range from $1.75 to $2.40; total
cash received was $785,146.

      On October 1, 2001,  the Company sold 100,000 shares of common stock under
a private stock  purchase  agreement.  The stock was sold at $1.75 per share and
was due in four equal  installments.  The entire amount was paid on December 31,
2001.

      On May 15, 2001,  the Company sold 600,000  shares of common stock under a
private  stock  purchase  agreement.  The stock was sold at a price of $1.75 per
share.  Cash  received was  $262,500.  The balance of $787,500 was to be paid in
three equal quarterly  installments of $262,500.  An escrow agent is holding the
certificates  for the shares being purchased until all three  installments  have
been paid in full. At December 31, 2003 the remaining balance is $127,500.

      On May 15, 2001, the Company sold 1,346,268 shares of common stock under a
private  stock  purchase  agreement.  The stock was sold at a price of $1.75 per
share. Cash received was $13,462.  The balance of $2,342,507 was received in the
form of a non-interest bearing stock subscription receivable, to be paid in four
equal quarterly  installments of $585,626.  The purchaser was unable to make the
first  installment  payment of $585,626 for reasons  unrelated to the Company or
its performance under the agreement,  thereby defaulting under the agreement. On
October 5, 2001,  the Company  entered into a new agreement  with the purchaser,
under which the purchaser  agreed to forfeit the initial  payment made under the
prior agreement and pay a price per share of $1.87, or $2,517,521 in total.  The
remaining  terms of the  agreement  did not  change.  At  December  31, 2001 the
remaining balance was $2,504,058.  The stock purchase agreement was rescinded in
March 2002 as described above.

Note and Interest Conversions in 2001

      During 2001,  the Company  issued  142,857 shares upon the conversion of a
$250,000 convertible note.

      During 2001,  the Company  issued  132,264 shares of common stock upon the
conversion  of accrued  interest of $280,386  under certain  convertible  notes,
which  includes  additional  deemed  interest  of  $208,165  due  to  beneficial
conversion features of the interest on the underlying notes.

Stock-based general and administrative expenses discussed above is as follows:

<TABLE>
<CAPTION>
                                                                         Year-end December 31,
                                                                   2003          2002           2001
                                                              -------------  -------------  -------------

<S>                                                            <C>             <C>           <C>
Warrants issued to investors                                   $         -     $   28,435    $    68,852
Stock and options granted to employees and directors               108,637        276,960      2,444,532
Common stock and warrants expensed for services                    385,663        368,655        192,270
Stock issued in connection with May stock purchase                 376,957              -              -
Beneficial pricing on sale of stock and warrants to officers       958,913              -              -
Expense recognized under TARSAP                                     86,750              -              -
Repricing to induce exercise of warrants                                 -              -        141,605
Other                                                               68,800         38,951         90,803
                                                              -------------  -------------  -------------
                                                               $ 1,985,720     $  713,001    $ 2,938,062
                                                              =============  =============  =============
</TABLE>

<PAGE>


                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001(Continued)

3.  NOTES PAYABLE

Convertible notes at December 31, 2003 consist of the following:

Argyle Notes:

      In 1998, the Company received  $1,188,000 in cash in exchange for notes in
that amount to Argyle Capital Management  Corporation  (Argyle), a company owned
and controlled by Robert A. Olins,  Acting Chief Executive  Officer,  Secretary,
Treasurer,  and a  Director  of the  Company.  The notes  accrue  interest  at a
contractual  rate of 6% per  annum,  and are  secured by  substantially  all the
assets of the Company.  Both  principal  and interest are  convertible  into the
Company's Common Shares at $0.50 per share. On May 23, 2001, the due date of the
notes  was  extended  until  December  31,  2002.  On the  extension  date,  the
beneficial  conversion  effect  representing  the excess  aggregate value of the
Common Shares  receivable upon conversion of the notes based on the then current
market price of $1.90 per share,  over the aggregate  conversion  price for such
Common Shares (limited to the original proceeds of $1,188,000),  was recorded as
additional  paid-in  capital.  The  resulting  $1,188,000  discount  to the debt
arising from the beneficial  conversion  feature was originally  being amortized
through December 31, 2002. The effective  interest rate for financial  statement
purposes  due to this  discount  differs  from the actual  contractual  interest
received or receivable in cash or shares by Argyle.  This  discount,  along with
the contractual 6% interest rate,  resulted in a new effective  interest rate of
72% per  annum  as of the May 23,  2001  extension  date  when  compared  to the
outstanding  principal balances.  The effective rate prior to extension had been
the 6% per annum contractual rate.

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

      In 2002,  the Company  issued 178,992 Common Shares upon the conversion of
interest.  Of these  shares,  36,432 were issued upon the  conversion of accrued
interest of  $128,243  for the fourth  quarter of 2001.  The  remaining  142,560
shares  were  issued  in  exchange  for  interest  of  $563,157  which  includes
additional  stock-based  interest  expense  of  $491,877  recorded  due  to  the
beneficial  conversion feature of the accrued interest,  based on average prices
during the periods,  over the  conversion  price for such shares.  On January 3,
2003,  the Company  issued  142,360 Common Shares upon the conversion of prepaid
interest of $354,477.  Prepaid  interest was computed using the closing price of
the Common Shares on December 31, 2003. Additional  stock-based interest expense
of approximately  $283,200 was recorded due to the beneficial conversion feature
of the prepaid  interest,  representing the excess of the Common Shares received
upon  conversion  of the prepaid  interest.  At December 31, 2003,  the carrying
value of the Argyle  notes totals  $1,155,000,  which  includes  the  $1,188,000
principle balance net of unamortized discount of $33,000.

Alabama Group Notes:

      In December 1999, the Company received $1,437,500 in cash and issued notes
in that amount to a group of investors  (the Alabama  Group),  which  includes a
trust for the  benefit of Steven F.  Tripp,  a  director  of the  Company  until
February 2004 (See Note 10). Mr. Tripp was not the trustee of this trust and had
no power to vote or  dispose of the  Common  Shares of the  Company or any other
securities held by that trust.  Marcia K. Tripp,  Steven F. Tripp's mother,  was
the  trustee  of this  trust and  directed  and was  responsible  for all of the
investment  decisions  of this trust.  In the opinion of the  Company,  no other
investor in the Alabama  Group is an  affiliate  of the Company and Mr. Tripp is
not an affiliate of any other  investor in the Alabama  Group.  The notes accrue
interest at a contractual rate of 6% per annum, and are secured by substantially
all the assets of the  Company.  This portion of the notes is  convertible  into
shares of the  Company's  common stock at $3.50 per share.  Upon issuance of the
notes,  the Company also issued  warrants to purchase  821,429  shares of common
stock.  The warrants  were  exercised  on June 28, 2002 at $3.50 per share.  The
warrants

<PAGE>


                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001(Continued)

were  valued  using the  Black-Scholes  option-pricing  model and the  following
assumptions:  contractual life 2.5 years;  volatility 114%;  risk-free  interest
rate 6%; and dividend  yield of $0. The total cash received from the issuance of
this  tranche  of  notes  of  $1,437,500  was less  than  the  calculated  value
associated with the warrants.  Therefore, the value assigned to the warrants was
limited to the original  proceeds of $1,437,500,  and was recorded as a discount
on the notes. The effective  interest rate for financial  statement purposes due
to this  discount  differs  from the actual  contractual  interest  received  or
receivable  in cash by the holders of the Alabama  Group Notes.  This  discount,
along with the contractual 6% per annum interest rate,  resulted in an effective
interest  rate of 70% per  annum  when  compared  to the  outstanding  principal
balances.

      The proceeds of the second tranche of notes, also totaling  $1,437,500 and
carrying interest at 6% per annum, were originally to be received by the Company
upon the achievement of certain performance  targets. The proceeds were received
in November 2000, prior to reaching those targets,  in exchange for reducing the
conversion  price of the notes to the  then-market  price of $2.25 per share. No
warrants were issued with the second tranche of notes. The remaining unamortized
discount  for the first  tranche,  along with the  contractual  interest on both
tranches,  resulted in a combined effective interest rate of 87% per annum as of
the  issuance  date for the second  tranche  when  compared  to the  outstanding
principal balances.

      On June 15, 2001 the due date of both tranches was extended until December
31, 2002. On the extension  date,  the excess  $255,000  aggregate  value of the
Common Shares  receivable upon conversion of the notes based on the then current
market price of $2.65 per share,  over the  aggregate  conversion  price for the
notes  convertible  at $2.25 per  share,  was  recorded  as  additional  paid-in
capital.  The resulting  $255,000 discount to the debt, along with the remaining
unamortized discount for the first tranche, was being amortized through December
31, 2002. The effective  interest rate for financial  statement  purposes due to
these  discounts  differs  from the  actual  contractual  interest  received  or
receivable by the holders of the Alabama  Group Notes.  These  discounts,  along
with the  contractual 6% per annum  interest  rate,  resulted in a new effective
interest  rate upon  extension  of 25% per annum as of the  extension  date when
compared to the outstanding principal balances.

      On September 20, 2002,  the due date of both  tranches was extended  until
March 31, 2004. On the extension date, the excess $58,000 aggregate value of the
Common Shares  receivable upon conversion of the notes based on the then current
market  price of $2.34 per share  over the  aggregate  conversion  price for the
notes convertible at $2.25 per share was recorded as additional paid-in-capital.
Accordingly,  the  remaining  unamortized  discount  at the  extension  date  of
$194,195  including the new discount of $58,000 is being amortized through March
31, 2004  resulting  in a new  effective  interest  rate of 10.5% per annum when
compared with the outstanding principal balances.

      During 2003,  the Company  repaid  principal  balance of $100,000  against
these notes.  In October and November 2003,  pursuant to the terms of the notes,
all of the  remaining  investors  included in the Alabama  Group  converted  the
$2,775,000  principal  amount of the notes plus accrued  interest of $565,770 in
exchange for the issuance by the Company of a total of 1,344,827 Common Shares.

Other Short Term Notes

      During 2003,  the Company  received  proceeds of $917,500 from  borrowings
under short term notes.  Of this amount,  $667,500 was  retired.  The  remaining
balance was converted into 93,633 of the Company's Common Shares at a conversion
price of $2.67,  which  approximated the stock price on the date of issuance.  A
warrant to purchase  10,000 shares of the Company's  Common Shares was issued in
lieu of interest on a $100,000  short-term note.  Interest expense of $6,647 was
recorded during the second quarter using a Black-Scholes  option-pricing  model.
The note was repaid during 2003.

<PAGE>


                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001(Continued)

Activity in convertible notes payable for 2003 and 2002 is as follows:

<TABLE>
<CAPTION>
                           BALANCE AT                       (PAYMENT) OR                      BALANCE AT
                          DECEMBER 31,     ADDITION OR        DISCOUNT      CONVERSION       DECEMBER 31,
DEBT PRINCIPAL:              2002          NEW DISCOUNT     AMORTIZATION    TO EQUITY           2003
                          -----------      -----------      -----------     -----------      -----------
<S>                       <C>              <C>              <C>             <C>              <C>
Argyle                    $ 1,188,000      $      --        $      --       $      --        $ 1,188,000
Argyle discount              (165,000)            --            132,000            --            (33,000)
Alabama Group               2,875,000             --           (100,000)     (2,775,000)            --
Alabama Group discount       (161,829)            --            161,829            --               --
Convertible notes-Other                        917,500         (667,500)       (250,000)            --
                          -----------      -----------      -----------     -----------      -----------
           Total            3,736,171          917,500         (473,671)     (3,025,000)       1,155,000
                                           -----------      -----------     -----------      -----------

INTEREST:
Accrued Argyle 6%                --             71,280             --           (71,280)            --
Accrued Alabama 6%            471,061           94,709             --          (565,770)            --
Beneficial interest              --            283,196             --          (283,196)            --
Convertible notes-Other          --               --               --              --               --
                          -----------      -----------      -----------     -----------      -----------
           Total              471,061          449,185             --          (920,246)            --
                          -----------      -----------      -----------     -----------      -----------

TOTAL CONVERTIBLE NOTES   $ 4,207,232      $ 1,366,685      $  (473,671)    $(3,945,246)     $ 1,155,000
                          ===========      ===========      ===========     ===========      ===========

DEBT PRINCIPAL:            BALANCE AT                       (PAYMENT) OR                      BALANCE AT
                          DECEMBER 31,     ADDITION OR        DISCOUNT      CONVERSION       DECEMBER 31,
                             2001          NEW DISCOUNT     AMORTIZATION    TO EQUITY           2002
                          -----------      -----------      -----------     -----------      -----------
Argyle                    $ 1,188,000      $      --        $      --       $      --        $ 1,188,000
Argyle discount              (792,000)            --            627,000            --           (165,000)
Alabama Group               2,875,000             --               --              --          2,875,000
Alabama Group discount       (544,774)         (58,000)         440,945            --           (161,829)
Convertible notes-Other          --            125,000             --          (125,000)            --
                          -----------      -----------      -----------     -----------      -----------
           Total            2,726,226           67,000        1,067,945        (125,000)       3,736,171
                          -----------      -----------      -----------     -----------      -----------

Interest:
Accrued Argyle 6%              18,216           71,280             --           (89,496)            --
Accrued Alabama 6%            282,815          188,246             --              --            471,061
Beneficial interest           110,027          491,877             --          (601,904)            --
Convertible notes-Other          --               --               --              --               --
                          -----------      -----------      -----------     -----------      -----------
           Total              411,058          751,403             --          (691,400)         471,061
                          -----------      -----------      -----------     -----------      -----------

TOTAL CONVERTIBLE NOTES   $ 3,137,284      $   818,403      $ 1,067,945     $  (816,400)     $ 4,207,232
                          ===========      ===========      ===========     ===========      ===========

</TABLE>

Stock-based interest expense:


<TABLE>
<CAPTION>
                                                                                         2003           2002           2001
                                                                                    -------------  -------------  -------------
<S>                                                                                  <C>              <C>          <C>
Amortization of Alabama Group discount                                               $   161,829      $ 440,945    $ 1,144,111
Amortization of Argyle discount                                                          132,000        627,000        396,000
Effect of beneficial conversion privileges of interest on Argyle convertible debt        283,196        491,877        284,753
Repricing of warrants (See Note 2)                                                             -        219,325              -
Other (See Note 2)                                                                         6,647              -              -
                                                                                    -------------  -------------  -------------
                                                                                     $   583,672     $1,779,147    $ 1,824,864
                                                                                    =============  =============  =============
</TABLE>

<PAGE>


                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001(Continued)

4. BALANCE SHEET COMPONENTS

      Inventory as of December 31, consists of the following:

            Inventory as of December 31, consists of the following:

                                    2003      2002
                                  -------- ---------

            Raw materials          171,812   561,959
            Work-in-progress       665,842         -
            Finished goods         151,963         -
                                  -------- ---------
                                   989,617   561,959

            Inventory adjustment  (210,000)(286,000)
                                  -------- ---------
                                   779,617   275,959
                                  ======== =========

      Property and equipment as of December 31, consists of the following:

                                          2003          2002
                                      ------------  ------------

      Office furniture and fixtures     $ 522,718     $ 254,073
      Machinery and equipment           1,658,424     1,405,793
      Building improvements                35,803        32,315
                                      ------------  ------------
                                        2,216,945     1,692,181

      Less accumulated depreciation     1,578,515     1,185,213
                                      ------------  ------------
                                        $ 638,430     $ 506,968
                                      ============  ============

      Accrued  expenses and other current liabilities as of December 31, consist
of the following:


                                              2003        2002
                                           ----------  ---------

                    Deferred rent          $ 243,604   $ 66,577
                    Accrued compensation     206,936     62,243
                    Other                     67,597     77,976
                                           ----------  ---------
                                           $ 518,137   $206,796
                                           ==========  =========


      The  Company  incurred  depreciation  expense of  $393,302,  $412,833  and
$290,293 for the years ended December 31, 2003, 2002 and 2001, respectively.

      Included in fixed  assets at  December  31,  2003,  2002 and 2001 is fully
depreciated equipment acquired under capital leases totaling $133,640.

      Rent  expense  related to  operating  leases  for 2003,  2002 and 2001 was
$523,995, $387,357 and $314,402, respectively.

      The  Company  leases its office  space  under a  non-cancelable  operating
lease.  The lease expires in August 2009 and is subject to  escalations in rent.
Rent  expense is recorded  evenly over the lease.  Deferred  rent of $243,604 is
recorded as of December 31, 2003.

<PAGE>


                                SPATIALIGHT INC
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001(Continued)

      Future  lease  obligations  under  non-cancelable  operating  leases as of
December 31, 2003 are as follows:

                           YEAR              $ AMOUNT
                     ----------------    ----------------
                                2004             520,305
                                2005             458,996
                                2006             446,853
                                2007             459,040
                                2008             471,768
                          thereafter             320,651
                                         ----------------
                               TOTAL         $ 2,677,613
                                         ================


5.  INCOME TAXES

      Income taxes consist primarily of state minimum taxes.  Income tax expense
(benefit) differed from the amounts computed by applying the U.S. federal income
tax rate of 34% to pretax losses from operations as a result of the following:

<TABLE>
<CAPTION>
                                                                  2003           2002            2001
                                                              -------------  --------------  --------------

      <S>                                                     <C>             <C>             <C>
      Computed tax benefit at federal statutory rate          $ (3,236,000)   $ (3,069,500)   $ (3,369,900)

      Federal research and development credit                     (103,000)       (190,500)       (133,600)
      Permanent differences, primarily nondeductible interest      207,000         611,625         813,800
      Changes in valuation allowances                            3,339,000       4,209,200       3,529,800
      State tax benefit, net of effect on federal income taxes    (586,000)     (1,004,300)       (552,967)
      Other, net                                                   379,000        (554,300)       (279,900)
                                                              -------------  --------------  --------------

      Total tax expense                                                $ -         $ 2,225         $ 7,233
                                                              =============  ==============  ==============
      </TABLE>


      The tax  effect of  temporary  differences  that give rise to  significant
portions of the deferred tax assets and deferred tax liabilities at December 31,
is presented below

                                                              2003         2002
                                                       ------------ ------------

            Deferred tax assets:

            Federal net operating loss carryforwards  $ 16,849,000 $ 14,380,300
            State income tax effects and credits         3,876,000    3,289,800
            Accrued expenses                                21,000       16,000
            Federal research and development credits       885,000      849,100
            Options and warrants                         1,060,000      790,000
            Other                                          130,000      155,900
                                                       ------------ ------------
                            Gross deferred tax assets   22,821,000   19,481,100
                                  Valuation allowance  (22,821,000) (19,481,100)
                                                       ------------ ------------

            Net deferred tax assets                            $ -          $ -
                                                       =========================

<PAGE>


                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001(Continued)

The net change in the total valuation  allowance was $3,339,900,  $4,112,500 and
$3,529,800 in 2003,  2002 and 2001,  respectively.  As of December 31, 2003, the
Company had net operating loss carryforwards of approximately  $49.6 million for
federal and $46.2 million for state tax purposes,  respectively, which expire in
varying amounts from 2005 for federal purposes, and have already begun to expire
for state  purposes.  In  addition,  as of December  31,  2003,  the Company had
research and development carryforwards of approximately $885,000 for federal tax
purposes,  which  will  begin to  expire  in 2008 and  $981,000  for  state  tax
purposes, which will begin to expire in 2009.

      Under the  provisions  of the Internal  Revenue Code,  should  substantial
changes in the Company's  ownership occur, the utilization of net operating loss
carryforwards might be limited.

      Deferred tax assets  resulting from net operating  losses  attributable to
certain  stock  option  exercises  and  warrant  issuances  could  result  in  a
cumulative  $700,000  credit to additional  paid-in  capital instead of reducing
income tax expense if realized.

6.  STOCKHOLDERS' EQUITY

      Stock  Option  Plans - In 1999 the  Shareholders  approved  the 1999 Stock
Option Plan,  which  replaced the Company's  1993  Non-Statutory  Employee Stock
Option Plan,  the 1993  Non-Statutory  Director  Stock Option Plan, and the 1991
Stock Option Plan. The Plan authorizes the issuance of options to purchase up to
4,000,000 shares of the Company's  Common Shares.  The Plan provides for options
which may be issued as nonqualified  or qualified  incentive stock options under
Section 422A of the Internal Revenue Code of 1986, as amended.

      In June 2002, the  Shareholders  approved an amendment to the Stock Option
Plan to  increase  the maximum  number of shares that can be issued  pursuant to
award grants made under the Plan by 1,000,000  Common Shares,  raising the total
number of Common Shares reserved for issuance thereunder to 5,000,000.

      Under the Plan,  the Company may grant  options to employees at prices not
less than 85% of fair  market  value for  non-statutory  stock  options,  and to
directors at the fair market value at the date of grant.

      Options  under  the Plan are  granted  at the  discretion  of the Board of
Directors/Compensation Committee. Options expire 10 years from the date of grant
and, in general,  vest and become exercisable 50% at the end of year one and 50%
at the  end of  year  two.  Changes  to the  vesting  period  may be made at the
discretion of the Board of Directors/Compensation Committee.

<PAGE>


                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001(Continued)

      The following is a status of the options under the Plan and outside of the
Plan and a summary of the changes in options  outstanding  during 2003, 2002 and
2001:

                                                             WEIGHTED
                                                              AVERAGE
                                          NUMBER OF SHARES     PRICE
                                             ----------      ---------

      Outstanding January 1, 2001            2,016,300         $ 1.84
      Options granted under the plan           655,000           2.20
      Options granted outside the plan       2,875,000           3.77
      Options exercised                       (629,300)          0.70
      Options cancelled                       (292,500)          2.68
                                             ----------

      Outstanding December 31, 2001          4,624,500           3.20
      Options granted under the plan
      Options granted outside the plan       1,057,500           3.20
      Options exercised                         (9,500)          0.60
      Options cancelled                       (111,667)          4.81
                                             ----------

      Outstanding December 31, 2002          5,560,833           3.17
      Options granted under the plan           728,750           2.59
      Options granted outside the plan         800,000           7.89
      Options exercised                       (149,750)          1.12
      Options cancelled                     (1,987,500)          4.79
                                             ----------

      Outstanding December 31, 2003          4,952,333         $ 3.26
                                             ==========

<PAGE>


                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  DECEMBER 31, 2003, 2002 AND 2001(Continued)


      At December 31, 2003,  1,700,000 of the options  outstanding  were granted
outside  of the plan.  Options  exercisable  as of  December  31,  2003 and 2002
totaled  3,276,458 and 2,672,708  options,  respectively,  at a weighted average
exercise  price of $2.19 and  $2.05  per  share,  respectively.  Of the  options
exercisable  as of December 31, 2003,  1,025,000  options were issued outside of
the Plan at a weighted average exercise price of $1.62.

      The weighted average fair value of options granted during 2003 and 2002:


                                                     2003      2002     2001
                                                   --------- --------- --------

      Exercise price equals market price             $ 2.49    $ 1.75   $ 1.53
      Exercise price is less than market price         4.07         -     2.20
      Exercise price is more than market price         2.42         -        -


      Additional  information  regarding options  outstanding as of December 31,
2003 is as follows:

<TABLE>
<CAPTION>
                 OPTIONS OUTSTANDING                                    OPTIONS EXERCISABLE

                                      Weighted Average
                                         Remaining
    Range of       Outstanding at     Contractual Life   Weighted Average       Number      Weighted Average
 Exercise Prices  December 31, 2003       (Yrs.)          Exercise Price     Exercisable     Exercise Price
--------------------------------------------------------------------------------------------------------------
<S>                         <C>            <C>               <C>               <C>               <C>
$6.01 - 12.50               510,000        9.5               $10.19               10,000         $7.00
$5.01 - 6.00                418,333        7.7               $5.38               225,833         $5.70
$4.01 - 5.00                 95,000        8.3               $4.57                51,875         $4.55
$3.01 - 4.00                581,250        8.1               $3.57               290,000         $3.60
$2.01 - 3.00              1,772,500        8.7               $2.40             1,095,000         $2.37
$1.01 - 2.00              1,050,250        7.0               $1.50             1,078,750         $1.49
$0.25 - 1.00                525,000        4.4               $0.66               525,000         $0.66
                  ------------------                                       --------------
                          4,952,333        7.8               $3.26             3,276,458         $2.19
                  ==================                                       ==============
</TABLE>


      At December 31, 2003,  415,417  options were  available  for future grants
under the Plan.

      Diluted net loss per share

      Diluted net loss per share does not  include  the effect of the  following
potential Common Shares at December 31,


                                                 2003      2002      2001
                                               --------- --------- ---------


    Shares issueable under stock options       5,102,333 5,560,833 4,624,500

    Shares issueable pursuant to warrants
      to purchase common shares                1,297,626  531,250  2,588,512

    Shares of convertible notes and accrued
      interest on an "as if converted" basis   2,376,000 3,425,603 3,462,035


      The weighted  average  exercise  price of stock  options  outstanding  was
$3.26, $3.17 and $3.20 as of December 31, 2003, 2002, and 2001 respectively. The
weighted average exercise price of warrants was $2.92, $3.40 and $3.37 per share
as of December 31, 2003, 2002 and 2001, respectively.

<PAGE>

                                SPATIALIGHT INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                   DECEMBER 31, 2003, 2002 AND 2001(Continued)


7.   SEGMENT INFORMATION

               The  Company's  chief  operating  decision-makers  are the Acting
Chief  Executive  Officer  and Chief  Financial  Officer.  The  chief  operating
decision-makers   review  only  financial   information   prepared  on  a  basis
substantially   consistent  with  the  accompanying   financial   statements  of
operations.  Therefore,  the Company has determined that it operates in a single
business segment. All assets of the Company are located at its facilities in the
United States except for approximately $673,000 of inventory components held for
production  by Fuji Photo  Optical  Co.  Ltd. at its  facilities  in Japan,  and
$141,000 of  inventory  in the  Company's  Hong Kong  warehouse.  The  Company's
revenue  in 2003  was  derived  from the sale of its  microdisplay  products  to
customers  located in China,  with 51% and 34% of the Company's  revenue derived
from two customers for the year ended December 31, 2003.  Such customers made up
50% and 49%,  respectively,  of the accounts  receivable balance at December 31,
2003.

8.   QUARTERLY RESULTS (UNAUDITED)

Summarized unaudited results of operations for each quarter of the years ended
December 31, 2003 and December 31, 2002

<TABLE>
<CAPTION>
Fiscal Year Ended                                    First Quarter   Second Quarter   Third Quarter Fourth Quarter
   December 31, 2003                                 -------------   --------------   ------------- --------------
<S>                                                  <C>              <C>              <C>           <C>
Revenue                                              $           -    $           -    $   82,152    $   139,100
Gross Profit (loss)                                  $           -    $    (100,690)   $    8,277    $  (394,655)
Net Loss                                             $   1,544,539    $   3,329,395    $1,824,942    $ 2,817,501
Basic and Diluted Loss per share
                                                     $        0.06    $        0.13    $     0.06    $      0.09

Fiscal Year Ended
   December 31, 2002
Gross Profit (loss)                                  $           -    $           -    $        -    $  (286,000)
Net Loss                                             $   2,103,170        1,803,116    $2,232,198    $ 2,889,429
Basic and Diluted Loss per share
                                                     $        0.09             0.07    $     0.09    $      0.12
</TABLE>

9.   VALUATION ACCOUNTS

<TABLE>
<CAPTION>
                                                             Deductions -
                                 Balance at    Additions -   and Writeoffs  Balance at
                                Beginning of    Charged to     Charged to     End of
                                  Period         Expense       Reserves      Period
                                 ---------      --------       -------       -------
<S>                                <C>           <C>           <C>           <C>
Year ended December 31, 2003
  Inventory allowance              286,000       311,000       387,000       210,000
Year ended December 31, 2002
  Inventory allowance                    -       286,000             -       286,000
</TABLE>

10.   SUBSEQUENT EVENTS

Resignation and Replacement of Director

      In February  2004,  SpatiaLight's  Board of Directors  accepted  Steven F.
Tripp's  resignation  as a director and chairman of the audit  committee and the
Board  appointed  Robert C. Munro as a director  of the  Company to replace  Mr.
Tripp.  Mr. Munro will serve as a director  and chairman of the audit  committee
for the current  term of the Board and intends to stand for election at the next
annual  meeting of  shareholders.  The Company  granted Mr.  Munro  25,000 stock
options for services as a director.

<PAGE>

Purchase Order Agreement

      In  March 2004, SpatiaLight signed  a  purchase  order  agreement with SVA
Information  Industry Co., Ltd.  (SVA), a Chinese OEM with which the Company had
an agreement to test prototypes of its microdisplay  products,  for the purchase
of  2,205  display  units  by SVA.  The  purchase  order  provides  for  initial
integration,   certification  and  product   introduction   phases  followed  by
deliveries of display units for commercial sale purposes.  Pursuant to the terms
of the  purchase  order,  the  obligations  of SVA will be backed by  letters of
credit in  SpatiaLight's  favor.  The purchase order is cancelable by SVA and is
subject to other customary terms and conditions.

ITEM 9.   CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANT ON ACCOUNTING AND
          FINANCIAL DISCLOSURE.

          None.

ITEM 9A.  CONTROLS AND PROCEDURES.

Quarterly  and  annual  evaluation  of the  Company's  Disclosure  Controls  and
Internal  Controls.  As of December 31, 2003, we evaluated the  effectiveness of
the design and operation of our "disclosure controls and procedures" (Disclosure
Controls),  and our "internal  controls and procedures for financial  reporting"
(Internal  Controls).  This evaluation (the Controls  Evaluation) was done under
the supervision and with the  participation of our principal  executive  officer
(CEO) and principal financial officer (CFO).

Limitations on the Effectiveness of Controls. Our CEO and CFO do not expect that
our Disclosure  Controls or our internal  control over financial  reporting will
prevent all error and all fraud. A control system,  no matter how well conceived
and operated,  can provide only  reasonable,  not absolute,  assurance  that the
control system's objectives will be met. Further, the design of a control system
must reflect the fact that there are resource  constraints,  and the benefits of
controls  must be considered  relative to their costs.  We have only had limited
revenue  derived  from  the sale of our  microdisplay  products  in the  current
reporting period.  While the Controls  Evaluation has accounted for such limited
sales and revenue, new or additional controls may or may not be required once we
begin  selling our  microdisplay  products in  increased  volume in the ordinary
course of business.  Because of the inherent limitations in all control systems,
no evaluation of controls can provide absolute assurance that all control issues
and instances of fraud,  if any,  within the Company have been  detected.  These
inherent limitations include the realities that judgments in decision-making can
be faulty,  and that  breakdowns  can occur  because  of simple  error or honest
mistake.  Additionally,  controls can be  circumvented by the individual acts of
some persons,  by collusion of two or more persons, or by management override of
the  controls.  The design of any system of controls  also is based in part upon
certain  assumptions about the likelihood of future events,  and there can be no
assurance  that any design will succeed in achieving  its stated goals under all
potential future conditions.  Over time, specific controls may or may not become
inadequate  (e.g.,  when we commence to sell our products in increased volume in
the  ordinary   course  of  business)   because  of  changes  in  conditions  or
deterioration  in the degree of compliance with policies or procedures.  Because
of the inherent  limitations in a cost-effective  control system,  misstatements
due to error or fraud  may  occur  and not be  detected.  During  2004,  we were
advised by our independent public accountants of a "reportable condition" in our
system  of  Internal  Controls  pertaining  to  consistency  of  procedures  and
documentation applied to certain personnel-related  expenditures.  Management of
the  Company  is  currently   addressing  this  condition  through  its  ongoing
evaluation of Internal Controls.

Conclusions.  Based upon the Controls Evaluation, our CEO and CFO have concluded
that,  subject to the limitations  mentioned in Limitations on  Effectiveness of
Controls  above,  our Disclosure  Controls are effective to ensure that material
information  relating  to the  Company  is  made  known  to  the  CEO  and  CFO,
particularly  during the period when our  periodic  reports are being  prepared.
There have been no significant  changes in the Company's  internal  control over
financial reporting that occurred during the quarter covered by this report that
have materially  affected,  or are reasonably likely to materially  affect,  the
Company's internal control over financial reporting.

<PAGE>

                                    PART III

ITEM 10.   DIRECTORS AND EXECUTIVE OFFICERS.

                 DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY

<TABLE>
<CAPTION>
               NAME             AGE                    POSITION(S)
               ----             ---                    -----------
<S>                            <C>      <C>
       Robert A. Olins          47      Director, Acting Chief Executive Officer
       Timothy V. Descamps      51      Chief Financial Officer, Principal Financial Officer
       David F. Hakala          52      Chief Operating Officer
       Theodore H. Banzhaf      39      Executive Vice President of Strategic Planning
       Lawrence J. Matteson     64      Director
       Claude Piaget            62      Director
       Robert C. Munro          76      Director
       Steven F. Tripp          35      Director*
</TABLE>

-------------------------

*     In February  2004,  SpatiaLight's  Board of Directors  accepted  Steven F.
      Tripp's  resignation as a director and chairman of the audit committee and
      the Board  appointed  Robert C.  Munro as a  director  of the  Company  to
      replace Mr. Tripp.

               All  Directors  serve  for  terms  of one year  and  until  their
successors are duly elected.

               Theodore  H.  Banzhaf,  Executive  Vice  President  of  Strategic
Planning, has an employment agreement, which is in effect until July 7, 2005.

               ROBERT A. OLINS,  Director  since  February  1998,  Acting  Chief
Executive Officer, Secretary and Treasurer since June 2000. Mr. Olins has served
as President of Argyle Capital  Management  Corporation during the past nineteen
years.  Argyle Capital Management  Corporation is a private investment  advisory
company.

               TIMOTHY V.  DESCAMPS,  Chief  Financial  Officer since July 2003.
From 2002, Mr.  Descamps has been a consultant  with David Powell,  Inc, a human
resource and financial  consulting  firm. From 1999 to 2002, Mr. Descamps served
as Chief Financial  Officer and Chief Operating  Officer of Lumedx Corp.  During
1999, Mr. Descamps was a consultant for David Powell, Inc. Mr. Descamps has also
previously  served as Chief Financial  Officer for several other  companies.  He
began his career with  PricewaterhouseCoopers.  Mr. Descamps received a Bachelor
of Science in management from Northeastern University in Boston, Massachusetts.

               DAVID F. HAKALA,  Chief  Operating  Officer since September 2002.
During the course of his career,  Dr. Hakala has been directly  responsible  for
the manufacturing startup and ramp-up of numerous products, and their associated
manufacturing  facilities,  including  several  models of HDTV and of HDTV-ready
televisions,  the DTC-100 HD TV/DBS decoder box, the decoder box for the DirecTV
DBS satellite  system as well as 31" and 35" Very Large Screen (VLS) direct view
CRTs.  Prior to joining  SpatiaLight,  from 1994 to 2001,  Dr.  Hakala served in
various  senior  management  positions with Thomson  Multimedia,  including Vice
President of  Manufacturing  Operations,  and most  recently as Vice  President,
Product  Development,  Americas,  in which he was responsible for the design and
development of television and video systems  including  digital  television with
integrated HDTV decoders, projection systems and other advanced display systems,
including the Thomson RCA L50000 LCoS project.

               THEODORE  H.  BANZHAF,  Executive  Vice  President  of  Strategic
Planning,  and President  and CEO of  SpatiaLight  Technologies,  Inc., a wholly
owned  subsidiary  of  SpatiaLight,   Inc.,  since  July  2003.  Before  joining
SpatiaLight, Mr. Banzhaf worked in the institutional equities groups as a Senior
Vice President at C. E. Unterberg, Towbin, an investment bank, from 2002 to 2003
and as a Senior Vice President at Friedman, Billings Ramsey, an investment bank,
in 2002.  Mr.  Banzhaf  served as a Managing  Director  and  Managing  Member of
Fulcrum  Global  Partners,  a hedge fund,  from 2000 to 2002.  Mr. Banzhaf was a
Senior Vice

<PAGE>

President  at Raymond  James &  Associates  in the  capital  markets  group from
1995-2000.  Mr. Banzhaf  received an MBA from Southern  Methodist  University in
Dallas, Texas, and a Bachelor of Arts from Miami University in Oxford, Ohio.

               LAWRENCE J. MATTESON, Chairman of the Board since April 2001, has
served as Director  since 1991,  and  previously  served as the  Chairman of the
Board  from 1995  through  1997.  He has  served as an  executive  professor  of
business   policy  at  the  William  E.  Simon   Graduate   School  of  Business
Administration, University of Rochester since 1992. Mr. Matteson was Senior Vice
President and General Manager, Electronic Imaging for Kodak until December 1991.
Mr.  Matteson  began his career  with Kodak in 1965 as a research  engineer  and
worked at Kodak in various positions  continuously from that date until December
1991.  He  holds  degrees  in  engineering  and an MBA from  the  University  Of
Rochester Graduate School Of Business.

               CLAUDE  PIAGET,   Director  since  June  2001,  served  as  Chief
Executive Officer and Senior Vice President,  International Relations of Digital
Video  Broadcasting,  a global  consortium  involved in the promotion of unified
worldwide  standards  for  digital  television.   Dr.  Piaget's  broad  industry
experience  includes  several  executive  positions  with  Philips  Electronics,
including market development  manager from 1995 to 1997, company strategy expert
from 1994 to 1995 and development  manager from 1986 to 1994.  Previously he was
involved in studying semiconductor physics, components,  devices and systems. He
has   participated  in  the   development  of  information   and   communication
technologies and consortiums in Europe, Asia Pacific and Latin America. He holds
a Masters degree in Physics  Engineering  and a Ph.D. in Physics from University
of Paris.

               ROBERT C. MUNRO,  Director  since  February 2004, has served as a
private business consultant in the finance, banking and retail industries in the
United States, the United Kingdom and throughout Europe since 1985. He currently
sits  on the  board  of  directors  of  UNET 2  Corporation,  a  privately  held
electronic  publishing  company based in New York.  Mr. Munro is a Fellow of the
Institute of Directors in the United Kingdom.  He has extensive  global business
experience  in the  banking,  real estate and  shipping  industries.  Mr.  Munro
received a master's degree from Edinburgh University in Scotland.

               STEVEN F. TRIPP,  Director from June 1999 to February  2004,  has
been President and Chief Executive Officer of KnoWare,  Inc. since 1998. KnoWare
is a privately held software development company focused on internet based check
image and check fraud detection software for financial  institutions.  Mr. Tripp
was Owner and Vice President of Document  Solutions from 1990 to 1998. Mr. Tripp
has  worked in the  software  development  industry  for 11 years with a primary
focus on digital imaging.

Audit Committee Financial Expert

               The Company does not currently have a financial expert serving on
the audit committee of the Board of Directors.  We are actively searching for an
additional  director  who  qualifies  as a  financial  expert  under  applicable
Securities and Exchange  Commission  rules and regulations to serve on our audit
committee.

SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE.

               Section 16(a) of the Securities Exchange Act of 1934, as amended,
requires  directors,  executive  officers and persons who  beneficially own more
than 10% of our Common  Stock to file with the SEC initial  reports of ownership
and reports of changes in ownership of Common Stock and other equity  securities
of the Company. Executive officers,  directors and greater than 10% shareholders
are required by SEC  regulations  to furnish us with copies of all Section 16(a)
reports they file. To our  knowledge,  based solely on a review of the copies of
such  reports  furnished to us for fiscal 2003,  the Company  believes  that all
executive  officers,  directors  and  greater  than 10%  shareholders  filed the
required Section 16(a) reports in a timely manner.

<PAGE>


CODE OF ETHICS

               We are in the  process of  preparing  a written  code of business
conduct  and  ethics,  which  will  apply to our  principal  executive  officer,
principal  financial  officer and  principal  accounting  officer.  We expect to
formally adopt such code in the near future.  Executive  officers at SpatiaLight
are  committed  to  conducting  SpatiaLight's  business in  accordance  with all
applicable  laws, rules and regulations and the highest ethical  standards,  and
all employees, directors and consultants we retain are expected to do the same.

ITEM 11.   EXECUTIVE COMPENSATION

               The  following  table  sets  forth the  compensation  paid by the
Company for the fiscal year ended  December 31, 2001 to 2003,  to the  Company's
Chief Executive Officer and other executive officers of the Company who received
total salary and bonuses in excess of $100,000 during fiscal 2003.

<TABLE>
<CAPTION>
                                                               SUMMARY COMPENSATION TABLE
                                                                                                               ALL OTHER
                                                                                 SECURITIES UNDERLYING        COMPENSATION
               NAME & PRINCIPAL POSITION               YEAR    SALARY($)            OPTIONS/SARS (#)               ($)
<S>                                                    <C>     <C>                <C>                         <C>
Robert A. Olins, Acting CEO, Treasurer Secretary       2003    $      -                      500,000          $          - (6)
                                                       2002    $      -                      500,000          $          -
                                                       2001    $      -                    1,275,000          $          -

Timothy V. Descamps, Chief Financial Officer           2003    $ 43,838 (1)                        0          $          -
                                                       2002    N/A                                 0          $          -
                                                       2001    N/A                                 0          $          -

David F. Hakala, Chief Operating Officer               2003    $240,000                            0          $          -
                                                       2002    $ 68,308 (2)                  360,000 (3)      $          -
                                                       2001    N/A                               N/A          $          -

Theodore H. Banzhaf                                    2003    $103,385 (4)                  800,000 (5)      $          -
                                                       2002    N/A                               N/A          $          -
                                                       2001    N/A                               N/A          $          -
</TABLE>

(1) Paid to consulting firm, which employs Mr. Descamps. Mr. Descamps commenced
    serving as CFO in capacity as a consultant on July 1, 2003.
(2) Employment commenced on September 3, 2002.
(3) This stock option granted September 2002 vests over a three-year period.
(4) Employment commenced on July 7, 2003.
(5) This stock option granted pursuant to the Time Accelerated Restricted Stock
    Award Paln ("TARSAP") dated as of July 7, 2003, between Mr. Banzhaf and
    SpatiaLight, Inc. The TARSAP granted to Mr. Banzhaf Options to purchase
    800,000 Common Shares, in the aggregate, of SpatiaLight, Inc. in the
    following manner: (i) 125,000 Options which vested as of July 7, 2003 and
    which Options expire on July 7, 2006 (exercise price of $2.55) and (ii)
    675,000 Options which vest upon the achievement of certain performance tests
    within two years after the date of the grant and which expire three years
    after such Options vest and become exercisable (175,000 of such Options have
    an exercise price of $5.00, 225,000 of such Options have an exercise price
    of $7.50 and 275,000 of such Options have an exercise price of $12.50).
(6) As disclosed in Item 13 herein,  under the heading "May 2003 Financing," the
    Company's board of directors  unanimously (except for Mr. Olins, who did not
    vote on this matter) approved  reimbursements  for certain expenses that Mr.
    Olins  incurred and a finders fee that he was obligated to pay in connection
    with that financing transaction.  Management of the Company does not believe
    that such reimbursements constitute compensation to Mr. Olins.

<PAGE>

STOCK OPTION GRANTS

The following  table sets forth certain  information for the year ended December
31, 2003 with respect to stock options granted to the  individuals  named in the
Summary Compensation Table.

<TABLE>
<CAPTION>
                                                OPTION GRANTS IN LAST FISCAL YEAR

    (a)                       (b)               (c)                 (d)              (e)         (f)                 (g)

                       NUMBER OF SHARES
                           UNDERLYING      % OF TOTAL
                          OPTIONS/SARS      OPTIONS/SARS                                         POTENTIAL REALIZABLE VALUE
                           GRANTED (#)        GRANED TO    EXERCISE OR BASE PRICE                 AT ASSUMED ANNUAL RATES
                                            EMPLOYEES IN           ($/SH)         EXPIRATION    OF STOCK PRICE APPRECIATION
    NAME                                    FISCAL YEAR                             DATE              FOR OPTION TERM
----------------------------------------------------------------------------------------------------------------------------------
                                                                                                5%($)              10%($)
<S>                        <C>                <C>                 <C>               <C>        <C>               <C>
Robert A. Olins             300,000              20%                $2.49          01/01/13    $469,784          $1,190,526
                            200,000              13%                $2.10          05/23/13    $264,136           $669,372

David F. Hakala                0                 -                    -               -            -                  -


Theodore H. Banzhaf         125,000              8%                 $2.55          07/07/05    $200,460            $508,005
                            175,000             11%                 $5.00          01/27/07      $ -               $282,458
                            225,000             15%                 $7.50             -          $ -                 $ -
                            275,000             18%                $12.50             -          $ -                 $ -
</TABLE>


OPTION EXERCISES AND FISCAL 2003 YEAR END VALUES

               The  following  table  sets  forth  information  with  respect to
options to purchase Common Shares granted to the  Corporation's  named executive
officers  including:  (i) the number of Common Shares purchased upon exercise of
options in the fiscal year ended December 31, 2003;  (ii) the net value realized
upon such  exercise;  (iii) the number of  unexercised  options  outstanding  at
December 31, 2003;  and (iv) the value of such  unexercised  options at December
31, 2003.

               AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND
                         DECEMBER 31, 2003 OPTION VALUES

<TABLE>
<CAPTION>
                                                                                           VALUE OF UNEXERCISED IN-
                                                                                              THE-MONEY OPTIONS AT
                               SHARES                            NUMBER OF UNEXERCISED          DEC 31, 2003
                            ACQUIRED ON                      OPTIONS A DEC. 31, 2003 (#)        EXERCISABLE /
         NAME               EXERCISE (#) VALUE REALIZED ($)   EXERCISABLE / UNEXERCISABLE       UNEXERCISABLE
         ----               ------------ ------------------  ----------------------------  ------------------------
<S>                         <C>          <C>                 <C>                           <C>
Robert A. Olins                  0              $0                   2,275,000/0                $7,043,500/$0
David F. Hakala                  0              $0                 120,000/240,000            $325,200/$650,400
Theodore H. Banzhaf              0              $0                 125,000/675,000            $352,500/$64,750
</TABLE>

COMPENSATION OF DIRECTORS

               In  fiscal  2003,  all  Directors  waived  their   non-management
Director's fee of $500 per board meeting.  In fiscal 2003,  500,000 options were
granted to Robert A. Olins in  consideration  for  services  rendered  as Acting
Chief Executive Officer, Secretary,  Treasurer and Director during calendar year
2003.  In fiscal  2003,  25,000  options were granted to Steven F. Tripp for his
services as a director.  In addition,  Mr. Tripp was granted  25,000  options in
consideration  for chairing the Audit Committee.  In fiscal 2003, 25,000 options
were granted to Claude  Piaget for his  services as a director.  In fiscal 2003,
25,000 options were granted to Lawrence Matteson for his services as a director.


<PAGE>

EMPLOYMENT CONTRACTS

      The Company is party to an employment  agreement  dated July 7, 2003, with
Theodore H. Banzhaf to serve as Executive Vice President of Strategic  Planning,
which is in effect  through July 7, 2005. As currently in effect,  the agreement
provides  for an annual  salary of  $360,000.  The  Company  agreed to grant Mr.
Banzhaf equity  incentive  compensation in the form of Stock Options to purchase
an aggregate of 800,000 Common Shares,  $.01 par value, of the Company  pursuant
to the  provisions  of a  Time  Accelerated  Restricted  Stock  Award  Agreement
(TARSAP).  The options under this plan are not granted under the Company's  1999
Stock Option Plan or any other stock option plan of the Company.

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

      The   Compensation   Committee  of  the   Company's   Board   recommending
compensation for executive officers during 2003 consisted of Steven F. Tripp and
Robert A. Olins.

      Mr. Olins served as the Acting CEO, Secretary and Treasurer of the Company
in 2003.

      Argyle Capital Management Corporation, which is wholly owned by Mr. Olins,
entered into various transactions with the Company in 1998. Mr. Olins was one of
several private investors that entered into an equity financing transaction with
the Company in May 2003.  For more  information  regarding  these  transactions,
refer to "Certain Relationships and Related Transactions" in Item 13 herein.

      In 1999,  a group of  investors  which  includes the Steven F. Tripp Trust
purchased  convertible  notes of the  Corporation  and was  issued  warrants  to
purchase  Common  Shares.  Mr. Tripp is the  beneficiary  of the Steven F. Tripp
Trust  but  he  is  not  the  trustee.  For  more  information  regarding  these
transactions,  refer to the section captioned "Certain Relationships and Related
Transactions" in Item 13 herein.

<PAGE>

ITEM 12.  SECURITY  OWNERSHIP OF CERTAIN  BENEFICIAL  OWNERS AND  MANAGEMENT AND
RELATED SHAREHOLDER MATTERS

      The  following  table  sets  forth  certain   information   regarding  the
beneficial ownership of the Company's capital stock, as of March 16, 2004, based
upon a total of 34,495,062 shares  outstanding,  (i) by each person who is known
by the Company to own beneficially  more than 5% of the Company's capital stock,
(ii) by each of the executive  officers  mentioned in the table under "Executive
Compensation" and by each of the Company's directors,  and (iii) by all officers
and directors as a group.

<TABLE>
<CAPTION>
                                                          AMOUNT AND NATURE OF
NAME AND ADDRESS   BENEFICIAL OWNER                         BENEFICIAL OWNER           PERCENTEOF CLASS
<S>                                                              <C>                <C>         <C>
Argyle Capital Management Corporation                            7,689,461          (1)         19.3%
Robert A. Olins
Five Hamilton Landing, Suite 100
Novato, CA 94949

Estate of Isidore A. Becker Harvey Krauss, Esq.,                 3,725,846          (2)         10.4%
Snow Becker Krauss P.C.
605 Third Avenue
New York, NY 10158-0125

Lawrence J. Matteson                                               275,000          (3)             *
Five Hamilton Landing, Suite 100
Novato, CA 94949

Claude Piaget                                                      125,000          (4)             *
Five Hamilton Landing, Suite 100
Novato, CA 94949

Robert C. Munro                                                     25,000          (5)             *
Five Hamilton Landing, Suite 100
Novato, CA 94949

Timothy Descamps
Five Hamilton Landing, Suite 100
Novato, CA 94949

David F. Hakala                                                    360,000          (6)             *
Five Hamilton Landing, Suite 100
Novato, CA 94949

Theodore H. Banzhaf                                                800,000          (7)          2.3%
Five Hamilton La2.3%g, Suite 100
Novato, CA 94949

Steven F. Tripp (8)                                                284,000          (9)             *
Five Hamilton Landing, Suite 100
Novato, CA 94949

All directors and officers as a group (7 persons)                9,274,461                      22.4%
*Less than 1%
</TABLE>

(1)   Includes  2,376,000  shares  beneficially  owned  subject to conversion of
      principal  and  interest  of  convertible  notes  held by  Argyle  Capital
      Management Corporation, of which Mr. Olins is President and over which Mr.
      Olins exercises voting control.  Also includes 2,275,000 shares subject to
      outstanding  stock  options held by Mr. Olins that are  exercisable  as of
      March 16,  2004,  and 500,000  shares  subject to options not  exercisable
      within 60 days.

(2)   Based  solely  upon   information   filed  in  a  Schedule  13G  by  named
      shareholder.

(3)   Includes  237,500  shares  subject to options  exercisable as of March 16,
      2004 and 37,500 shares subject to options not exercisable  within 60 days.

(4)   Includes 87,500 shares subject to options exercisable as of March 16, 2004
      and 37,500 shares subject to options not exercisable within 60 days.

(5)   Includes  25,000 shares subject to options not exercisable as of March 16,
      2004.

(6)   Includes  120,000 shares subject to outstanding  stock options held by Dr.
      Hakala  that are  exercisable  as of March  16,  2004 and  240,000  shares
      subject to options not exercisable within 60 days.


<PAGE>


(7)   Includes  300,000  shares  subject to options  exercisable as of March 16,
      2004 and 500,000 shares subject to options not exercisable within 60 days.

(8)   In February  2004,  SpatiaLight's  Board of Directors  accepted  Steven F.
      Tripp's  resignation as a director and chairman of the audit committee and
      the Board  appointed  Robert C.  Munro as a  director  of the  Company  to
      replace Mr. Tripp. Therefore,  Mr. Tripp is not included in "All directors
      and officers as a group" in this table.

(9)   Includes  200,000 shares subject to outstanding  stock options held by Mr.
      Tripp that are exercisable as of March 16, 2004.


CHANGES IN CONTROL

      The  Company  pledged  substantially  all of its assets to Argyle  Capital
Management  Corporation,  a company  owned and  controlled  by Robert A.  Olins,
Acting  Chief  Executive  Officer,  Secretary,  Treasurer  and a director of the
Company,  in a  transaction  which is more  fully  described  under the  heading
"Argyle Notes" in Item 13 herein. This pledge of assets could result in a change
of control of the Company in the future.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

Argyle Notes:

      In 1998, the Company received  $1,188,000 in cash in exchange for notes in
that amount to Argyle Capital Management  Corporation  (Argyle), a company owned
and controlled by Robert A. Olins,  Acting Chief Executive  Officer,  Secretary,
Treasurer,  and a  Director  of the  Company.  The notes  accrue  interest  at a
contractual  rate of 6% per  annum,  and are  secured by  substantially  all the
assets of the Company.  Both  principal  and interest are  convertible  into the
Company's Common Shares at $0.50 per share. On May 23, 2001, the due date of the
notes  was  extended  until  December  31,  2002.  On the  extension  date,  the
beneficial  conversion  effect  representing  the excess  aggregate value of the
Common Shares  receivable upon conversion of the notes based on the then current
market price of $1.90 per share,  over the aggregate  conversion  price for such
Common Shares (limited to the original proceeds of $1,188,000),  was recorded as
additional  paid-in  capital.  The  resulting  $1,188,000  discount  to the debt
arising from the beneficial  conversion  feature was originally  being amortized
through December 31, 2002. The effective  interest rate for financial  statement
purposes  due to this  discount  differs  from the actual  contractual  interest
received or receivable in cash or shares by Argyle.  This  discount,  along with
the contractual 6% interest rate,  resulted in a new effective  interest rate of
72% per  annum  as of the May 23,  2001  extension  date  when  compared  to the
outstanding  principal balances.  The effective rate prior to extension had been
the 6% per annum contractual rate.

      On  September  20, 2002,  the due date was extended  until March 31, 2004.
Accordingly,  the  remaining  unamortized  discount  at the  extension  date  of
$198,000  was  being  amortized  through  March  31,  2004,  resulting  in a new
effective  interest  rate of 17% per  annum  when  compared  to the  outstanding
principle  balances.  On December 31, 2003, the due date was extended until June
30, 2005,  accordingly,  the  remaining  unamortized  discount of $33,000 at the
extension  date is being  amortized  through June 30,  2005,  resulting in a new
effective  interest  rate  of 8% per  annum  when  compared  to the  outstanding
principle balances. The notes have been reclassified as long term.

      In 2002,  the Company  issued 178,992 Common Shares upon the conversion of
interest.  Of these  shares,  36,432 were issued upon the  conversion of accrued
interest of  $128,243  for the fourth  quarter of 2001.  The  remaining  142,560
shares  were  issued  in  exchange  for  interest  of  $563,157  which  includes
additional  stock-based  interest  expense  of  $491,877  recorded  due  to  the
beneficial  conversion feature of the accrued interest,  based on average prices
during the periods,  over the  conversion  price for such shares.  On January 3,
2003,  the Company  issued  142,360 Common Shares upon the conversion of prepaid
interest of 354,477.  Prepaid  interest was computed  using the closing price of
the Common Shares on December 31, 2003 additional  stock-based  interest expense
of approximately  $283,200 was recorded due to the beneficial conversion feature
of the prepaid  interest,  representing the excess of the Common Shares received
upon  conversion  of the prepaid  interest.  At December 31, 2003,  the carrying
value of the Argyle  notes totals  $1,155,000,  which  includes  the  $1,188,000
principal balance net of unamortized discount of $33,000.

Alabama Group Notes:

      In December 1999, the Company received $1,437,500 in cash and issued notes
in that amount to the Alabama Group.  The notes accrue interest at a contractual
rate of 6% per annum,  and were  secured by

<PAGE>


substantially  all the  assets  of the  Company.  This portion  of the notes was
convertible into shares of the Company's  common stock at $3.50 per share.  Upon
issuance of the notes,  the Company  also  issued  warrants to purchase  821,429
shares of common stock.  The warrants  were  exercised on June 28, 2002 at $3.50
per share. The warrants were valued using the Black-Scholes option-pricing model
and the following  assumptions:  contractual  life 2.5 years;  volatility  114%;
risk-free  interest  rate 6%; and dividend  yield of $0. The total cash received
from the  issuance  of this  tranche  of notes of  $1,437,500  was less than the
calculated value associated with the warrants.  Therefore, the value assigned to
the  warrants  was  limited to the  original  proceeds  of  $1,437,500,  and was
recorded as a discount on the notes.  The effective  interest rate for financial
statement  purposes due to this  discount  differs  from the actual  contractual
interest  received or  receivable  in cash by the  holders of the Alabama  Group
Notes.  This  discount,  along with the  contractual 6% per annum interest rate,
resulted in an  effective  interest  rate of 70% per annum when  compared to the
outstanding principal balances.

      The proceeds of the second tranche of notes, also totaling  $1,437,500 and
carrying interest at 6% per annum, were originally to be received by the Company
upon the achievement of certain performance  targets. The proceeds were received
in November 2000, prior to reaching those targets,  in exchange for reducing the
conversion  price of the notes to the  then-market  price of $2.25 per share. No
warrants were issued with the second tranche of notes. The remaining unamortized
discount  for the first  tranche,  along with the  contractual  interest on both
tranches,  resulted in a combined effective interest rate of 87% per annum as of
the  issuance  date for the second  tranche  when  compared  to the  outstanding
principal balances.

      On June 15, 2001 the due date of both tranches was extended until December
31, 2002. On the extension  date,  the excess  $255,000  aggregate  value of the
Common Shares  receivable upon conversion of the notes based on the then current
market price of $2.65 per share,  over the  aggregate  conversion  price for the
notes  convertible  at $2.25 per  share,  was  recorded  as  additional  paid-in
capital.  The resulting  $255,000 discount to the debt, along with the remaining
unamortized discount for the first tranche, was being amortized through December
31, 2002. The effective  interest rate for financial  statement  purposes due to
these  discounts  differs  from the  actual  contractual  interest  received  or
receivable by the holders of the Alabama  Group Notes.  These  discounts,  along
with the  contractual 6% per annum  interest  rate,  resulted in a new effective
interest  rate upon  extension  of 25% per annum as of the  extension  date when
compared to the outstanding principal balances.

      On September 20, 2002,  the due date of both  tranches was extended  until
March 31, 2004. On the extension date, the excess $58,000 aggregate value of the
Common Shares  receivable upon conversion of the notes based on the then current
market  price of $2.34 per share  over the  aggregate  conversion  price for the
notes convertible at $2.25 per share was recorded as additional paid-in-capital.
Accordingly,  the  remaining  unamortized  discount  at the  extension  date  of
$194,195  including the new discount of $58,000 is being amortized through March
31, 2004  resulting  in a new  effective  interest  rate of 10.5% per annum when
compared with the outstanding principal balances.

      During 2003, the Company repaid principal balance of $100,000.  In October
and  November  2003,  pursuant to the terms of the notes,  all of the  remaining
investors  included in the Alabama  Group  converted  the  $2,775,000  principal
amount of the notes plus  accrued  interest  of  $565,770  in  exchange  for the
issuance by the Company of a total of 1,344,827 Common Shares.

May 2003 Financing:

      In May 2003, the Company issued 2,796,325 Common Shares at $1.84 per share
and 699,080  fully vested  warrants with a strike price of $2.65 in exchange for
net proceeds of $4,974,935. Of this amount 1,357,441 shares and 339,360 warrants
were  purchased  by  Robert A.  Olins,  Acting  Chief  Executive  Officer  and a
director.  Consequently,  the Company  recognized  non-cash  expense of $958,913
related to the deemed beneficial  pricing Robert A. Olins received;  the expense
consists of two components. First, an expense of $538,106, representing the fair
value of the warrant  issued to Robert A. Olins was  recognized  in  stock-based
general and administrative  expense in the second quarter, using a Black-Scholes
option  pricing  model  and  the  following  assumptions:   stock  price  $2.15,
historical  volatility 105%, risk free rate of 2.27%,  dividend rate of 0, and a
contractual  term of five years.  Second,  since the market  price on the day of
closing  of $2.15  was  higher  than  the  issuance  price of $1.84 a charge  of
$420,807 was recognized in stock-based  general and administrative  expenses for
the 1,357,441 shares purchased by Robert A. Olins.

      In order to complete this stock financing,  the outside investors required
significant  participation  from Robert A. Olins.  To achieve  this,  Mr.  Olins
borrowed funds to purchase his share of the stock financing. The Company's board
of directors unanimously (except for Mr. Olins, who did not vote on this matter)
approved  reimbursements  for certain  expenses  incurred in connection with the
personal loan to Mr. Olins made by an unaffiliated  bank, and $300,000,  payable
through the issuance of 130,435 Common Shares, for a finder's fee that Mr. Olins
was obligated to pay to an unaffiliated third party.  Another shareholder of the
Company, to whom the Company  subsequently issued 130,435 Shares,  undertook Mr.
Olins'  obligations to the finder. The $376,957 fair value of the 130,435 shares
is included in stock-based general and administrative expense.


<PAGE>


ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES

      The following represents the fees billed to SpatiaLight, Inc. for the last
two fiscal years by BDO Seidman,  LLP, the Company's principal public accountant
for 2003 and 2002.


            SpatiaLight, Inc.
                                                      2003       2002
                                                  --------   --------
            Audit Fees                        (1) $166,500   $158,000
            Audit-Related Fees                (2)   12,000         --
            Tax Fees                                17,000      8,250
            All Other Fees                             N/A        N/A


(1)   Includes  services  performed in connection with annual audits,  quarterly
      reviews, and review of registration statements.

(2)   Includes accounting consultations.

SpatiaLight's  Audit  Committee  adopted a policy for engaging  its  independent
auditor,  BDO  Seidman,  LLP, for audit and  non-audit  services  that  includes
requirements for the Audit Committee to pre-approve audit and non-audit services
provided by the independent  auditor.  All of the audit services provided by BDO
Seidman,  LLP in the fiscal year 2003  (described  in the footnotes to the table
above)  and  related  fees were  approved  in  advance  by  SpatiaLight's  Audit
Committee.


<PAGE>


                                     PART IV

ITEM 15. EXHIBITS,  CONSOLIDATED  FINANCIAL  STATEMENT  SCHEDULES AND REPORTS ON
         FORM 8-K.

1.  CONSOLIDATED FINANCIAL STATEMENTS

         The  following  documents are filed as part of this Report under Item 8
         herein:

    (a)  Financial Statements

<TABLE>
<CAPTION>
                                                                                                Page
<S>                                                                                           <C>
         Report of Independent Ceritified Public Accountants................................
         Balance Sheets at December 31, 2003 and 2002.......................................
         Statement of Operations for years ended December 31, 2003, 2002 and 2001...........
         Statements of Stockholders' Equity (Deficit) for years ended
           December 31, 2003, 2002 and 2001.................................................
         Statements of Cash Flows for years ended December 31, 2003 and 2002................
         NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.........................................
         Quarterly Results (unaudited)......................................................
</TABLE>

    (b)  Consolidated Financial Statement Schedules

         All  schedules  are  omitted   because  the  required   information  is
inapplicable  or the  information  is  presented in the  Consolidated  Financial
Statements and/or the Notes thereto in Item 8 herein.

2.  EXHIBITS

      EXHIBIT #                           DESCRIPTION
      ---------                           -----------
         3.1  Certificate of Incorporation,  as amended  (Amendments to document
              filed as Exhibit 3.1 to the Company's  Amendment No. 1 to Form S-3
              Registration Statement filed November 18, 1999).
         3.2  Bylaws  (incorporated  by reference to Exhibit B to the  Company's
              Form 8-K filed February 7, 1995).
         10.1 1999 Stock Option Plan  (incorporated by reference to Exhibit 10.4
              to  the  Company's  Amendment  No.  1  to  Form  S-3  Registration
              Statement filed on November 18, 1999).
         10.2 Employment  Agreement  between the Company and Theodore H. Banzhaf
              dated July 7, 2003  (incorporated  by reference to Exhibit 10.3 to
              the Company's Form 10Q filed on August 18, 2003). Time Accelerated
              Restricted Stock Award Plan (TARSAP) between SpatiaLight, Inc. and
              Theodore Banzhaf, dated as of July 7, 2003
         10.3 (incorporated  by reference to Exhibit 10.4 to the Company's  Form
              10Q/A filed on February 13, 2004).  Consulting  Agreement  between
              the Company and David Powell for consulting  services  provided to
              the Company by Timothy V. Descamps.  Amendment to Lease  Agreement
              between the Company and Hamilton  Marin,  LLC,  dated May 17, 2002
              (Lease Agreement filed as exhibit 10.18 in
         10.4 Form 10-QSB filed on August 14, 2002).
         10.5 Amendment  to Lease  Agreement  between the  Company and  Hamilton
              Marin,  LLC, dated May 17, 2002 (Lease  Agreement filed as exhibit
              10.18 in Form 10-QSB filed on August 14, 2002).
         16.1 Letter from KPMG LLP pursuant to Item  304(a)(3) of Regulation S-B
              (incorporated  by reference to Exhibit 1 of the Company's Form 8-K
              filed April 9, 2001).
         21.1 Principal subsidiaries of the Company.
         23.1 Consent of BDO Seidman, LLP.
         31.1 Certification  of Acting Chief Executive  Officer Pursuant to Rule
              13a-14(a) or 15d-14(a) of the Securities  Exchange Act of 1934, as
              amended.  Certification  of Chief Financial  Officer and Principal
              Accounting  Officer Pursuant to Rule 13a-14(a) or 15d-14(a) of the
              Securities Exchange Act of 1934, as amended.
         31.2 Certification   of  Acting  Chief  Executive   Officer  and  Chief
              Financial Officer and Principal  Accounting Officer Pursuant to 18
              U.S.C.  Section  1350,  as adopted  pursuant to Section 906 of the
              Sarbanes-Oxley Act of 2002.
         32.1 Certification   of  Acting  Chief  Executive   Officer  and  Chief
              Financial Officer and Principal  Accounting Officer Pursuant to 18
              U.S.C.  Section  1350,  as adopted  pursuant to Section 906 of the
              Sarbanes-Oxley Act of 2002.


<PAGE>


3.  REPORTS ON FORM 8-K.

      The Company has not filed any reports on Form 8-K during the last  quarter
of the fiscal year ended December 31, 2003.


<PAGE>




      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,  on the 30th day of
March 2004.

                                               SPATIALIGHT, INC.

                                               By: /s/ ROBERT A. OLINS
                                               --------------------------------
                                               Robert A. Olins
                                               Acting Chief Executive Officer

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

<TABLE>
<CAPTION>
       SIGNATURE                TITLE                                    DATE
       ---------                -----                                    ----
<S>                            <C>                                   <C>
/s/LAWRENCE J. MATTESON        Director                              March 30, 2004
-----------------------
Lawrence J. Matteson

/s/ROBERT A. OLINS             Director, Acting Chief Executive      March 30, 2004
-----------------------         Officer
Robert A. Olins

/s/CLAUDE PIAGET               Director                              March 30, 2004
-----------------------
Claude Piaget

/s/ROBERT C. MUNRO             Director                              March 30, 2004
-----------------------
Robert C. Munro

/s/TIMOTHY V. DESCAMPS         Chief Financial Officer and           March 30, 2004
-----------------------         Principal Financial and
Timothy V. Descamps                Accounting Officer
</TABLE>