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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
 WASHINGTON, D.C. 20549
 FORM 10-K
 ANNUAL REPORT
PURSUANT TO SECTIONS 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
  þ
    
    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934.
 For the fiscal year ended December 31, 2005
 OR
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.
 For the transition period fromto
 Commission File Number 0-21074
 SUPERCONDUCTOR TECHNOLOGIES INC.
  Delaware
    
    77-0158076(State or other jurisdiction of
    
    (IRS Employerincorporation or organization)
    
    Identification No.)
 460 Ward Drive, Santa Barbara, California 93111-2310
 (805) 690-4500
 None
 Common Stock, $0.001 par value per
share
 o þ
 o No þ
 þ o
 o
  o þ o
 o þ
   DOCUMENTS INCORPORATED BY REFERENCE




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##### 



PageSPECIAL NOTE REGARDING FORWARD LOOKING STATEMENTS
    
    1WHERE YOU CAN FIND MORE INFORMATION
    
    1PART IItem 1. Business
    
    2Item 1A. Risk Factors
    
    8Item 1B. Unresolved Staff Comments
    
    19Item 2. Properties
    
    19Item 3. Legal Proceedings
    
    19Item 4. Submission of Matters to a Vote of Security Holders
    
    19PART IIItem 5. Market for the Registrants Common Equity and Related Stockholder Matters
    
    20Item 6. Selected Financial Data
    
    21Item 7 Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    22Item 7A. Quantitative and Qualitative Disclosures about Market Risk
    
    35Item 8. Financial Statements and Supplementary Data
    
    35Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures
    
    35Item 9A Controls and Procedures
    
    35Item 9B Other Information
    
    36PART IIIItem 10. Directors and Executive Officers of the Registrant
    
    36Item 11. Executive Compensation
    
    36Item 12. Security Ownership of Certain Beneficial Owners and Management
    
    36Item 13. Certain Relationships and Related Transactions
    
    36Item 14. Principal Accounting Fees and Disclosures
    
    37PART IVItem 15. Exhibits and Financial Statement Schedules
    
    37Exhibit 10.11(b)Exhibit 10.24Exhibit 10.25Exhibit 21Exhibit 23Exhibit 31.1Exhibit 31.2Exhibit 32.1Exhibit 32.2




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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
  BusinessRisk Factors Managements
Discussion and Analysis of Financial Condition and Results of Operations.
 
 WHERE YOU CAN FIND MORE INFORMATION
  1




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PART I
 
 ITEM 1. BUSINESS
 Our Company
    Industry Background
  Our Solution
 
    
    reduction in base station noise figure;
    
    reduction of dropped calls and network access failures;
    
    elimination of interference from other sources such as specialized mobile
radio handsets and other base stations; and
    
    increased in-building penetration.
 Our Products
 
    
    SuperLinkcombines HTS filters with a proprietary cryogenic cooler and a
cooled low-noise amplifier to create a highly compact and reliable receiver
front-end that can simultaneously deliver both high selectivity (interference
rejection) and high sensitivity (detection of low level signals).
 2




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
    
    AmpLinkis a ground-mounted unit which includes a high-performance amplifier
and up to six dual duplexers.
    
    SuperPlexis a line of multiplexers that provides extremely low insertion
loss and excellent cross-band isolation.
 Our Strategy
 
    
    expanding domestic and international sales channels to broaden our customer base,
    
    enhancing our productivity and lowering our costs,
    
    enhancing and extending our current product offerings,
    
    maintaining our focus on technical excellence and innovation, and
    
    pursuing strategic partnerships, alliances and acquisitions.
 Government Contracts
 Corporate Information.
 Our Wireless Products
   
    
    SuperLink.In order to receive uplink signals from wireless handsets, base stations
require a filter system to eliminate out-of-band interference, and amplification to
enhance the base stations sensitivity. To address this need, we offer the SuperLink
product line for the receiver front-end of base stations. These products combine
specialized filters using HTS technology with a proprietary cryogenic cooler and
cryogenically cooled low-noise amplifiers. The result is a highly compact and reliable
cryogenic receiver front-end that can simultaneously deliver both high selectivity
(interference rejection) and high sensitivity (detection of low level signals).
SuperLink products offer significant advantages over conventional filter and amplifier
systems.
    
    AmpLink. AmpLink is designed specifically to address the sensitivity requirements
of wireless base stations. AmpLink is a ground-mounted unit which includes a
high-performance amplifier and up to six dual duplexers. The enhanced uplink provided
by AmpLink improves network coverage immediately and avoids the installation and
maintenance costs associated with tower mounted alternatives.
    
    SuperPlex.SuperPlex is our line of multiplexers that provides extremely low
insertion loss and excellent cross-band isolation. Products in our SuperPlex family of
high-performance multiplexers are designed to facilitate base station antenna sharing
and reduce infrastructure costs. SuperPlex can be used in conjunction with
 3




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Marketing and Sales
        Backlog
  How We Use Government Contracts to Fund Technology Development
  4




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Our Manufacturing Capabilities
       Intellectual Property
  5




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
    
    6 patents for technologies directed toward producing thin-film materials and
structures expiring in 2010 to 2024;
    
    21 patents for cryogenic and non-microwave circuit designs expiring in 2010 to 2023;
    
    14 patents covering cryogenics, packaging and systems expiring in 2013 to 2024; and
    
    5 patents covering other superconducting technologies expiring in 2013 to 2015.
      ° ° ° °
 6




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°
    °
  Competition
  7




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Employees
   Environmental Issues
  
 ITEM 1A. RISK FACTORS
  8




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Managements
Discussion and Analysis of Financial Condition and Results of Operations  Forward Looking
Statements.
 Unless otherwise noted, the terms we, us, and our, refer to the combined and ongoing
business operations of Superconductor Technologies Inc. and its subsidiaries.
 Risks Related to Our Business
 We have a history of losses and may never become profitable.
  We may need to raise additional capital, and if we are unable to raise capital our ability to
implement our current business plan and ultimately our viability as a company could be adversely
affected.
    We rely on a small number of customers for the majority of our commercial revenues and the loss of
any one of these customers, or a significant loss, reduction or rescheduling of orders from any of
these customers, could have a material adverse effect on our business, results of operations and
financial condition.
  9




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
    
    a slowdown or delay in the deployment, upgrading or improvement of wireless networks
by any one customer could significantly reduce demand for our products;
    
    reductions in a single customers forecasts and demand could result in excess
inventories;
    
    each of our customers have significant purchasing leverage over us to require
changes in sales terms including pricing, payment terms and product delivery schedules;
and
    
    concentration of accounts receivable credit risk, which could have a material
adverse effect on our liquidity and financial condition if one of our major customers
declared bankruptcy or delayed payment of their receivables.
  The wireless communication industry is highly concentrated, which limits the number of potential
customers, and further industry consolidation could result in the loss of key customers.
  We experience significant fluctuations in sales and operating results from quarter to quarter.
  
    
    the lack of any contractual obligation by our customers to purchase their forecasted
demand for our products;
    
    variations in the timing, cancellation, or rescheduling of customer orders and
shipments;
    
    high fixed expenses that may disproportionately impact operating expenses,
especially during a quarter with a sales shortfall; and
    
    discounts given to certain customers for large volume purchases.
  10




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Our sales cycles are unpredictable, making future performance uncertain.
  We depend on the capital spending patterns of wireless network operators, and if capital spending
is decreased or delayed, our business may be harmed.
  Our reliance on a limited number of suppliers and the long lead time of components for our products
could impair our ability to manufacture and deliver our systems on a timely basis.
   11




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Our reliance on a limited number of suppliers exposes us to quality control issues.
  We expect decreases in average selling prices, requiring us to reduce product costs in order to
achieve and maintain profitability.
  Changes in the mix of our sales channels could cause fluctuations in our gross profit and future
operating results.
  Our ability to protect our patents and other proprietary rights is uncertain, exposing us to
possible losses of competitive advantage.
  We depend on specific patents and licenses to technologies, and we will likely need additional
technologies in the future that we may not be able to utilize.
  12




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Intellectual property infringement claims against us could materially harm results of operations.
    We currently rely on specific technologies and may not successfully adjust to the rapidly changing
wireless telecommunications equipment market.
   Other parties may have the right to utilize technology important to our business.
  Our failure to anticipate and respond to developments in the wireless telecommunications market
could substantially harm our business
  We may not be able to compete effectively against alternative technologies.
  13




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We depend upon government contracts for a substantial portion of revenue, and our business may
suffer if significant contracts are terminated or adversely modified or we are unable to win new
contracts.
   
    
    termination by the government;
    
    reduction or modification in the event of changes in the governments requirements
or budgetary constraints;
    
    increased or unexpected costs causing losses or reduced profits under contracts
where prices are fixed or unallowable costs under contracts where the government
reimburses for costs and pays an additional premium;
    
    risks of potential disclosure of confidential information to third parties;
    
    the failure or inability of the main contractor to perform its contract in
circumstances where either STI is a subcontractor;
    
    the failure of the government to exercise options for additional work provided for
in the contracts; and
    
    the governments right in certain circumstances to freely use technology developed
under these contracts.
   Because competition for target employees is intense, we may be subject to claims of unfair hiring
practices, trade secrets misappropriation or other related claims.
  14




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If we are unable to forecast our inventory needs accurately, we may be unable to obtain efficient
manufacturing capacity or may incur unnecessary costs and produce excess inventory.
  Our success depends on the attraction and retention of senior management and technical personnel
with relevant expertise.
   Regulatory changes negatively affecting wireless communications companies could substantially harm
our business.
  We may acquire or make investments in companies or technologies that could cause loss of value to
stockholders and disruption of business.
  
    
    failure to integrate operations, services and personnel;
    
    the price paid may exceed the value eventually realized;
    
    loss of share value to existing stockholders as a result of issuing equity
securities to finance an acquisition;
    
    potential loss of key employees from either our then current business or any acquired business;
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
    
    entering into markets in which we have little or no prior experience;
    
    diversion of financial resources and managements attention from other business concerns;
    
    assumption of unanticipated liabilities related to the acquired assets; and
    
    the business or technologies acquired or invested in may have limited operating
histories and may be subjected to many of the same risks to which we are exposed.
  If we are unable to implement appropriate controls and procedures to manage our expected growth, we
may not be able to successfully offer our products and implement our business plan.
  Compliance with environmental regulations could be especially costly due to the hazardous materials
used in the manufacturing process.
  The reliability of market data included in our public filings is uncertain.
  Risks Related to Our Common Stock
 Our stock price is volatile.
  
    
    our perceived prospects;
    
    variations in our operating results and whether we have achieved key business targets;
 16




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
    
    changes in, or our failure to meet, earnings estimates;
    
    changes in securities analysts buy/sell recommendations;
    
    differences between our reported results and those expected by investors and securities analysts;
    
    announcements of new contracts by us or our competitors;
    
    market reaction to any acquisitions, joint ventures or strategic investments
announced by us or our competitors; and
    
    general economic, political or stock market conditions.
  We may not be able to maintain our NASDAQ stock listing, and the loss of our listing would have a
material adverse affect on the liquidity and price of our stock.
      17




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We have decided to implement a reverse stock split, and the reverse stock split could reduce our
total market capitalization.
   We have a significant number of outstanding warrants and options, and future sales of these shares
could adversely affect the market price of our common stock.
  Our corporate governance structure may prevent our acquisition by another company at a premium over
the public trading price of STI shares.
    We do not anticipate declaring any cash dividends on our common stock.
  18




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ITEM 1B. UNRESOLVED STAFF COMMENTS
  
 ITEM 2. PROPERTIES
  
 ITEM 3. LEGAL PROCEEDINGS
 Shalvoy Litigation
     Routine Litigation
  
 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
  19




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PART II
 
 ITEM 5. MARKET FOR REGISTRANTS COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
 Market for Common Stock
  High
    
    Low2004Quarter ended April 2, 2004
    
    $
    7.45
    
    
    $
    2.00Quarter ended July 3, 2004
    
    $
    2.50
    
    
    $
    0.78Quarter ended October 2, 2004
    
    $
    1.40
    
    
    $
    0.80Quarter ended December 31, 2004
    
    $
    1.67
    
    
    $
    0.792005Quarter ended April 2, 2005
    
    $
    1.43
    
    
    $
    0.65Quarter ended July 2, 2005
    
    $
    0.87
    
    
    $
    0.37Quarter ended October 1, 2005
    
    $
    1.11
    
    
    $
    0.58Quarter ended December 31, 2005
    
    $
    0.74
    
    
    $
    0.41
 Holders of Record
  Dividends
  Sales of Unregistered Securities
  Repurchases of Equity Securities
  20




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ITEM 6. SELECTED FINANCIAL DATA
  Year Ended December 31,2001
    
    
    2002
    
    
    2003
    
    
    2004
    
    
    2005(In thousands, except per share data)Statement of Operations Data:Net revenues:Net commercial product revenues
    
    $
    7,601
    
    
    $
    17,601
    
    
    $
    38,577
    
    
    $
    16,787
    
    
    $
    21,080Government contract revenues
    
    
    4,782
    
    
    
    4,785
    
    
    
    10,759
    
    
    
    6,189
    
    
    
    3,107Sub license royalties
    
    
    10
    
    
    
    10
    
    
    
    58
    
    
    
    28
    
    
    
    22Total net revenues
    
    
    12,393
    
    
    
    22,396
    
    
    
    49,394
    
    
    
    23,004
    
    
    
    24,209Costs and expenses:Cost of commercial product revenues
    
    
    10,626
    
    
    
    19,286
    
    
    
    28,249
    
    
    
    23,421
    
    
    
    18,989Contract research and development
    
    
    3,359
    
    
    
    2,531
    
    
    
    6,899
    
    
    
    4,465
    
    
    
    2,806Other research and development
    
    
    4,606
    
    
    
    4,489
    
    
    
    4,697
    
    
    
    5,036
    
    
    
    4,214Selling, general and administrative
    
    
    11,907
    
    
    
    14,976
    
    
    
    20,567
    
    
    
    16,051
    
    
    
    11,442Restructuring expenses and impairment
charges
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    4,128
    
    
    
    1,197Write off of in-process research and
development
    
    
    
    
    
    
    700
    
    
    
    
    
    
    
    
    
    
    
    Total costs and expenses
    
    
    30,498
    
    
    
    41,982
    
    
    
    60,412
    
    
    
    53,101
    
    
    
    38,648Loss from operations
    
    
    (18,105
    )
    
    
    (19,586
    )
    
    
    (11,018
    )
    
    
    (30,097
    )
    
    
    (14,439
    )Other income (expense), net
    
    
    904
    
    
    
    73
    
    
    
    (327
    )
    
    
    (1,120
    )
    
    
    226Net loss
    
    
    (17,201
    )
    
    
    (19,513
    )
    
    
    (11,345
    )
    
    
    (31,217
    )
    
    
    (14,213
    )Less deemed and cumulative preferred stock
Dividends
    
    
    (2,603
    )
    
    
    (1,756
    )
    
    
    
    
    
    
    
    
    
    
    Net loss available to common stockholders
    
    ($
    19,804
    )
    
    ($
    21,269
    )
    
    ($
    11,345
    )
    
    ($
    31,217
    )
    
    ($
    14,213
    )Basic and diluted net loss per share:Net loss per common share
    
    ($
    1.10
    )
    
    ($
    0.89
    )
    
    ($
    0.18
    )
    
    ($
    0.37
    )
    
    ($
    0.12
    )Weighted average number of shares
Outstanding
    
    
    17,956
    
    
    
    24,020
    
    
    
    62,685
    
    
    
    84,241
    
    
    
    114,185
 December 31,2001
    
    2002
    
    2003
    
    2004
    
    2005Balance Sheet Data:Cash and cash equivalents
    
    $
    15,205
    
    
    $
    18,191
    
    
    $
    11,144
    
    
    $
    12,802
    
    
    $
    13,018Working capital
    
    
    18,753
    
    
    
    16,503
    
    
    
    15,576
    
    
    
    16,146
    
    
    
    17,218Total assets
    
    
    30,161
    
    
    
    65,326
    
    
    
    68,123
    
    
    
    62,358
    
    
    
    52,045Long-term debt, including current portion
    
    
    509
    
    
    
    2,123
    
    
    
    721
    
    
    
    76
    
    
    
    33Total stockholders equity
    
    
    23,663
    
    
    
    49,524
    
    
    
    52,220
    
    
    
    49,249
    
    
    
    47,257
 21




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ITEM 7.MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 General
    SuperLink
 AmpLink
 SuperPlex
   22




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Recent Developments  Reverse Stock Split
     no
 Critical Accounting Policies and Estimates
   23




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24




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For the years ended December 31,Net loss:
    
    2003
    
    
    2004
    
    
    2005(In thousands, except per share data)As reported
    
    $
    (11,345
    )
    
    $
    (31,217
    )
    
    $
    (14,213
    )Stock-based employee
compensation included in net
loss
    
    
    
    
    
    
    48
    
    
    
    Stock-based compensation expense
determined under fair value
method
    
    
    (5,435
    )
    
    
    (5,543
    )
    
    
    (6,459
    )Pro forma
    
    $
    (16,780
    )
    
    
    (36,712
    )
    
    
    (20,672
    )Basic and Diluted Loss per Share:As reported
    
    $
    (0.18
    )
    
    $
    (0.37
    )
    
    $
    (0.12
    )Stock-based compensation expense
determined under fair value
method
    
    
    (0.09
    )
    
    
    (0.07
    )
    
    
    (0.06
    )Pro forma
    
    $
    (0.27
    )
    
    $
    (0.44
    )
    
    $
    (0.18
    )
    Backlog
  25




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Results of Operations
 2005 Compared to 2004
       For the Years Ended December 31,Dollars in Thousands
    
    2004
    
    
    2005Net commercial product sales
    
    $
    16,787
    
    
    
    100.0
    %
    
    $
    21,080
    
    
    
    100.0
    %Cost of commercial product sales
    
    
    23,421
    
    
    
    139.5
    %
    
    
    18,989
    
    
    
    90.1
    %Gross profit
    
    $
    (6,634
    )
    
    
    (39.5
    %)
    
    $
    2,091
    
    
    
    9.9
    %
  26




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##### Table of Contents



Contractual Contingency
   Managements Discussion and Analysis of Financial Condition and Results and Operations  Results
of Operations  2004 Compared to 2003 Item 3  Legal Proceedings  Shalvoy Litigation.
 For the Year Ended December 31,Restructuring
    
    
    Impairment
    
    
    
    
    
    
    Restructuring
    
    
    ImpairmentCharges for
    
    
    Charges for
    
    
    Total for
    
    
    Charges for
    
    
    Charges for
    
    
    Total for2004
    
    
    2004
    
    
    2004
    
    
    2005
    
    
    2005
    
    
    2005Severance costs
    
    $
    826,000
    
    
    $
    
    
    
    $
    826,000
    
    
    $
    178,000
    
    
    $
    
    
    
    $
    178,000Fixed assets write offs
    
    
    803,000
    
    
    
    403,000
    
    
    
    1,206,000
    
    
    
    137,000
    
    
    
    
    
    
    
    137,000Patents, licenses and
purchased technology
write-off
    
    
    1,051,000
    
    
    
    1,171,000
    
    
    
    2,222,000
    
    
    
    
    
    
    
    
    
    
    
    Lease abandonment costs
    
    
    279,000
    
    
    
    
    
    
    
    279,000
    
    
    
    
    
    
    
    
    
    
    
    Facility consolidation
costs
    
    
    268,000
    
    
    
    
    
    
    
    268,000
    
    
    
    6,000
    
    
    
    
    
    
    
    6,000Employee relocation
cost
    
    
    382,000
    
    
    
    
    
    
    
    382,000
    
    
    
    16,000
    
    
    
    
    
    
    
    16,000Impairment charge for
notes receivable from
shareholder and board
member
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    969,000
    
    
    
    969,000Total
    
    $
    3,609,000
    
    
    $
    1,574,000
    
    
    $
    5,183,000
    
    
    
    337,000
    
    
    
    969,000
    
    
    
    1,306,000Fixed Asset write off
and severance costs
included in cost of
goods sold
    
    
    669,000
    
    
    
    386,000
    
    
    
    1,055,000
    
    
    
    (109,000
    )
    
    
    
    
    
    
    (109,000
    )Expense included in
operating expenses
    
    $
    2,940,000
    
    
    $
    1,188,000
    
    
    $
    4,128,000
    
    
    $
    228,000
    
    
    $
    969,000
    
    
    $
    1,197,000
  27




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2004 Compared to 2003
      For the years ended December 31,Dollars in Thousands
    
    2003
    
    
    2004Net commercial product sales
    
    $
    38,577
    
    
    
    100.0
    %
    
    $
    16,787
    
    
    
    100.0
    %Total cost of commercial product sales
    
    
    28,249
    
    
    
    73.2
    %
    
    
    23,421
    
    
    
    139.5
    %Gross profit
    
    $
    10,328
    
    
    
    26.8
    %
    
    $
    (6,634
    )
    
    
    (39.5
    %)
    28




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Restructuring
    
    
    ImpairmentCharges for 2004
    
    
    Charges for 2004
    
    
    Total for 2004Severance costs
    
    $
    826,000
    
    
    $
    
    
    
    $
    826,000Fixed assets write offs
    
    
    803,000
    
    
    
    403,000
    
    
    
    1,206,000Patents, licenses and
purchased technology
write-off
    
    
    1,051,000
    
    
    
    1,171,000
    
    
    
    2,222,000Lease abandonment costs
    
    
    279,000
    
    
    
    
    
    
    
    279,000Facility consolidation costs
    
    
    268,000
    
    
    
    
    
    
    
    268,000Employee relocation cost
    
    
    382,000
    
    
    
    
    
    
    
    382,000Total
    
    $
    3,609,000
    
    
    $
    1,574,000
    
    
    $
    5,183,000Fixed Asset write off and
severance costs included
in cost of goods sold
    
    
    669,000
    
    
    
    386,000
    
    
    
    1,055,000Expense included in
operating expenses
    
    $
    2,940,000
    
    
    $
    1,188,000
    
    
    $
    4,128,000
    29




---



##### Table of Contents



Liquidity and Capital Resources
 Cash Flow Analysis
      30




---



##### Table of Contents



Financing Activities
       Contractual Obligations and Commercial Commitments
  Capital Lease Obligations
  Operating Lease Obligations
  Patents and Licenses
  31




---



##### Table of Contents



Purchase Commitments
  Quantitative Summary of Contractual Obligations and Commercial Commitments
  Payments Due by PeriodContractual Obligations
    
    Total
    
    
    Less than 1 year
    
    
    2-3 years
    
    
    4-5 years
    
    
    After 5 yearsCapital lease obligations
    
    $
    37,000
    
    
    $
    22,000
    
    
    $
    15,000
    
    
    $
    
    
    
    $
    Operating leases
    
    
    7,982,000
    
    
    
    1,414,000
    
    
    
    2,543,000
    
    
    
    2,717,000
    
    
    
    1,308,000Minimum license
commitment
    
    
    2,120,000
    
    
    
    170,000
    
    
    
    300,000
    
    
    
    300,000
    
    
    
    1,350,000Fixed asset and
inventory purchase
commitments
    
    
    2,835,000
    
    
    
    2,835,000
    
    
    
    
    
    
    
    
    
    
    
    Total contractual cash
obligations
    
    $
    12,974,000
    
    
    $
    4,441,000
    
    
    $
    2,858,000
    
    
    $
    3,017,000
    
    
    $
    2,658,000
 Capital Expenditures
  Future Liquidity (and Reverse Stock Split)
    32




---



##### Table of Contents



Net Operating Loss Carryforward
    33




---



##### Table of Contents



Future Accounting Requirements
   Market Risk
   Forward-Looking Statements
  34




---



##### Table of Contents




    
    fluctuations in product demand from quarter to quarter which can be significant,
    
    the impact of competitive filter products, technologies and pricing,
    
    manufacturing capacity constraints and difficulties,
    
    market acceptance risks, and
    
    general economic conditions.
  Risk Factors
 Inflation
  
 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 Managements Discussion and Analysis of Financial Condition and Results of Operations  Market Risk
 
 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
  
 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
  
 ITEM 9A. CONTROLS AND PROCEDURES
 Evaluation of Disclosure Controls and Procedures
   Managements Report on Internal Control over Financial Reporting
 Internal Control  Integrated Framework
 35




---



##### Table of Contents



Changes in Internal Control over Financial Reporting
   
 ITEM 9B. OTHER INFORMATION
  
 PART III
 
 ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
 Directors and Executive Officers
  
 ITEM 11. EXECUTIVE COMPENSATION
 Executive Officer Compensation
 
 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
 Voting Securities Of
Principal Stockholders And Management
 
 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
 Certain Transactions
 36




---



##### Table of Contents



ITEM 14. PRINCIPAL ACCOUNTING FEES AND DISCLOSURES
 Fees Paid to Independent Auditors
 
 PART IV
 
 ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
  Index to Financial Statements
 PageReport
of Independent Registered Public Accounting Firm
    
    
    F-1Consolidated Balance Sheet as of December 31, 2004 and 2005
    
    
    F-3Consolidated Statement of Operations for the years ended December 31, 2003, 2004 and 2005
    
    
    F-4Consolidated Statement of Stockholders Equity for the years ended December 31, 2003, 2004 and 2005
    
    
    F-5Consolidated Statement of Cash Flows for the years ended December 31, 2003, 2004 and 2005
    
    
    F-6Notes to Consolidated Financial Statements
    
    
    F-7
 Financial Statement Schedule Covered by the Foregoing Report of Independent Registered
Public Accounting Firm
   Exhibits
 Number
    
    Description of Document3.1
    
    Amended and Restated Certificate of Incorporation of the Company (1)3.2
    
    Certificate of Amendment of Restated Certificate of Incorporation (2)3.3
    
    Amended and Restated Bylaws of the Registrant (3)4.1
    
    Form of Common Stock Certificate (4)4.2
    
    Third Amended and Restated Stockholders Rights Agreement (5)4.3
    
    Warrant Issued to PNC Bank, National Association in connection with Credit Agreement
(5)4.4
    
    Warrant Purchase Agreement dated December 1, 1999 with PNC Bank (6)4.5
    
    Warrant Purchase Agreement dated January 12, 2000 with PNC Bank (6)4.6
    
    Certificate of Designations, Preferences and Rights of Series E Convertible Stock (7)4.7
    
    Securities Purchase Agreement dated as of September 29, 2000 between the Company and
RGC International Investors, LDC. (Exhibits and Schedules Omitted) (7)4.8
    
    Registration Rights Agreement dated as of September 29, 2000 between the Company and
RGC International Investors, LDC. (7)4.9
    
    Initial Stock Purchase Warrant dated as of September 29, 2000 between the Company
and RGC International Investors, LDC. (7)4.10
    
    Incentive Stock Purchase Warrant dated as of September 29, 2000 between the Company
and RGC International Investors, LDC. (7)
 37




---



##### Table of Contents



Number
    
    Description of Document4.11
    
    Registration Rights Agreement, dated March 6, 2002 (8)4.12
    
    Warrants to Purchase Shares of Common Stock, dated March 11, 2002 (8)4.13
    
    Registration Rights Agreement dated October 10, 2002 (9)4.14
    
    Warrants to Purchase Common Stock dated October 10, 2002 (9)4.15
    
    Common Stock Purchase Agreement, dated March 8, 2002 between Conductus, Inc. and the
investors signatory thereto (10)4.16
    
    Warrant to Purchase Common Stock, dated March 8, 2002 by Conductus, Inc. to certain
investors (11)4.17
    
    Registration Rights Agreement, dated March 26, 2002, between Conductus, Inc. and
certain investors (11)4.18
    
    Warrant to Purchase Common Stock, dated August 7, 2000, issued by Conductus to
Dobson Communications Corporation (12) *4.19
    
    Form of Series B Preferred Stock and Warrant Purchase Agreement dated September 11,
1998 and September 22, 1998 between Conductus and Series B Investors (13)4.20
    
    Form of Warrant to Purchase Common Stock between Conductus and Series B investors,
dated September 28, 1998, issued by Conductus in a private placement (13)4.21
    
    Form of Series C Preferred Stock and Warrant Purchase Agreement, dated December 10,
1999, between Conductus and Series C Investors (14)4.22
    
    Form of Warrant Purchase Common Stock between Conductus and Series C investors,
dated December 10, 1999, issued by Conductus in a private placement (14)4.23
    
    Form of Warrant to Purchase Common Stock dated March 28, 2003, issued to Silicon
Valley Bank (15)4.24
    
    Form of Warrant (16)4.25
    
    Form of Registration Rights Agreement (16)4.26
    
    Agility Capital Warrant dated May 2004 (17)4.27
    
    Silicon Valley Bank Warrant dated May 2004(17)4.28
    
    Form of Warrant dated August 2005 (18)10.1
    
    1992 Director Option Plan (19)10.2
    
    1992 Stock Option Plan (19)10.3
    
    Joint Venture Company (JDC) Agreement between the Registrant and Sunpower
Incorporated dated April 2, 1992(19)*10.4
    
    Government Contract issued to Registrant by the Defense Advanced Research Projects
Agency through the Office of Naval Research dated September 4, 1991 (19)10.5
    
    License Agreement between the Registrant and E.I. DuPont de Nemours and Company
dated December 1992 (19) *10.6
    
    Amended and Restated 1988 Stock Option Plan, as amended, with form of stock option
agreement (20)10.7
    
    1999 Stock Option Agreement (6)10.8
    
    1998 Stock Option Plan (21)10.10(a)
    
    Promissory Note between Charles E. Shalvoy and Conductus dated December 28, 2000 (22)10.10(b)
    
    Security Agreement between Charles E. Shalvoy and Conductus dated December 28, 2000
(22)10.10(c)
    
    Promissory Note Agreement between Charles E. Shalvoy and Conductus dated August 21,
2001 (22)10.10(d)
    
    Security Agreement between Charles E. Shalvoy and Conductus dated August 21, 2000
(22)10.11(a)
    
    Form of Change of Control Agreement dated March 28, 2003 (23)10.11(b)
    
    Form of Amendment to Change of Control Agreement dated as of May 24, 2005 *10.12(a)
    
    Accounts Receivable Purchase Agreement dated March 28, 2003 by and between
Registrant and Silicon Valley Bank (23)10.12(b)
    
    Accounts Receivable Purchase Modification Agreement with Silicon Valley Bank dated
March 17, 2004 (24)
 38




---



##### Table of Contents



Number
    
    Description of Document10.12(c)
    
    Accounts Receivable Purchase Modification Agreement with Silicon Valley Bank dated
March 29, 2005 (25)10.12(d)
    
    Unconditional Guaranty dated March 27, 2003 issued by Conductus, Inc. to Silicon
Valley Bank (23)10.13
    
    Patent License Agreement between Telcordia Technologies, Inc. and Registrant dated
July 13, 2002 (23)*10.14(a)
    
    Securities Purchase Agreement dated June 23, 2003 (26)10.14(b)
    
    Form of Investor Warrant (26)10.14(c)
    
    Form of Registration Rights Agreement (26)10.15
    
    Patent License Agreement by and between Lucent Technologies and the Company ** (27)10.16
    
    Consulting Agreement with Charles Shalvoy dated November 4, 2004 (30)10.17
    
    License Agreement with Sunpower ** (30)10.18(a)
    
    Employment Agreement with Jeffrey Quiram (28)10.18(b)
    
    Option Agreement with Jeffrey Quiram (28)10.19(a)
    
    2003 Equity Incentive Plan (as amended May 25, 2005) (29)10.19(b)
    
    Form of Option Agreement for 2003 Equity Incentive Plan (28)10.20
    
    Employment Agreement with Terry White (30)10.21
    
    Compensation Policy for Non-Employee Directors dated March 18, 2005 (30)10.22
    
    Stipulation of Settlement to Class Action dated as of March 8, 2005(30)10.23(a)
    
    Placement Agency Agreement by and between the Company and SG Cowen & Co., Inc. dated
August 10, 2005 (31)10.23(b)
    
    Form of Subscription Agreement for August 2005 offering (31)10.24
    
    Form of Director and Officer Indemnification Agreement *10.25
    
    Code of Business Conduct and Ethics *21
    
    List of Subsidiaries23
    
    Consent of Independent Registered Public Accounting Firm31.1
    
    Statement of CEO Pursuant to 302 of the Sarbanes-Oxley Act of 200231.2
    
    Statement of CFO Pursuant to 302 of the Sarbanes-Oxley Act of 200232.1
    
    Statement of CEO Pursuant to 906 of the Sarbanes-Oxley Act of 200232.2
    
    Statement of CFO Pursuant to 906 of the Sarbanes-Oxley Act of 2002
 
 (1)
    
    Incorporated by reference from the Registrants Quarterly Report on Form 10-Q filed for the
quarter ended April 3, 1999.(2)
    
    Incorporated by reference from the Registrants Quarterly Report on Form 10-Q filed for the
quarter ended June 30, 2001.(3)
    
    Incorporated by reference from Registrants Form 8-K dated May 25, 2005.(4)
    
    Incorporated by reference from the Registrants Registration Statement on Form S-1 (Reg. No.
33-56714).(5)
    
    Incorporated by reference from the Registrants Quarterly Report on Form 10-Q filed for the
quarter ended July 3, 1999.(6)
    
    Incorporated by reference from the Registrants Registration Statement on Form S-8 (Reg. No.
333-90293).(7)
    
    Incorporated by reference from the Registrants Annual Report on Form 10-K for the year ended
December 31, 1999.(8)
    
    Incorporated by reference from Registrants Annual Report on Form 10-K for the year ended
December 31, 2001.(9)
    
    Incorporated by reference from the Registrants Current Report on Form 8-K, filed October 2,
2002.(10)
    
    Incorporated by reference from the Registrants Annual Report on Form 10-K filed for the year
ended December 31, 1997.(11)
    
    Incorporated by reference from the Conductus, Inc.s Registration Statement on Form S-3 (Reg.
No. 333-85928) filed on April 9, 2002. 39




---



##### Table of Contents



(12)
    
    Incorporated by reference from Conductus, Inc.s Quarterly Report on Form 10-Q, filed with
the SEC on November 16, 1998.(13)
    
    Incorporated by reference from Conductus, Inc.s Annual Report on Form 10-K for the year
ended December 31, 1999.(14)
    
    Incorporated by reference from Conductus, Inc.s Annual Report on Form 10-K for the year
ended December 31, 1999.(15)
    
    Incorporate by reference from Registrants Quarterly Report on Form 10-Q for the quarter
ended March 29, 2003.(16)
    
    Incorporated by reference from Registrants Current Report on Form 8-K filed June 25, 2003.(17)
    
    Incorporated by reference from Registrants Registration Statement of Form S-3 (Reg.
333-89184).(18)
    
    Incorporated by reference from Registrants Form 8-K dated August 10, 2005.(19)
    
    Incorporated by reference from Amendment No. 1 to the Registrants Registration Statement on
Form S-1 (Reg. No. 33-56714).(20)
    
    Incorporated by reference from the Registrants Annual Report on Form 10-K filed for the year
ended December 31, 1994.(21)
    
    Incorporated by reference from the Registrants Registration Statement on Form S-8 (Reg. No.
333-56606) filed March 6, 2001.(22)
    
    Incorporated by reference from the Registrants Registration Statement on Form S-4 (Reg. No.
333-100908).(23)
    
    Incorporate by reference from Registrants Quarterly Report on Form 10-Q for the quarter
ended March 29, 2003.(24)
    
    Incorporated by reference from Registrants Quarterly Report on Form 10-Q for the quarter
ended April 3, 2004.(25)
    
    Incorporated by reference from Registrants Form 8-K dated March 29, 2005.(26)
    
    Incorporated by reference from Registrants Current Report on Form 8-K filed June 25, 2003.(27)
    
    Incorporated by reference from Registrants Annual Report on Form 10-K for the year ended
December 31, 2003.(28)
    
    Incorporated by reference from Registrants Annual Report on Form 10-K for the year ended
December 31, 2004.(29)
    
    Incorporated by reference from Registrants Form 8-K dated May 25, 2005.(30)
    
    Incorporated by reference from Registrants Quarterly Report on Form 10-Q for the quarter
ended April 2, 2005.(31)
    
    Incorporated by reference from Registrants Form 8-K dated March 29, 2005*
    
    Filed herewith.**
    
    Confidential treatment has been previously granted for certain portions of these exhibits. Exhibits
 40




---



##### Table of Contents



SIGNATURES
 th
 SUPERCONDUCTOR TECHNOLOGIES INC.By:
    
    /s/ Jeffrey A. QuiramJeffrey A. QuiramPresident and Chief Executive Officer
 POWER OF ATTORNEY
   Signature
    
    Title
    
    Date/s/ Jeffrey A. Quiram

Jeffrey A. Quiram
    
    President, Chief Executive Officer and
Director
(Principal Executive Officer)
    
    March 7, 2006/s/ Martin S. McDermut

Martin S. McDermut
    
    Senior Vice President, Chief Financial
Officer and Secretary
(Principal Financial Officer)
    
    March 7, 2006/s/ William J. Buchanan

William J. Buchanan
    
    Controller (Principal Accounting Officer)
    
    March 7, 2006/s/ John F. Carlson

John F. Carlson
    
    Director
    
    March 7, 2006/s/ Lynn J. Davis

Lynn J. Davis
    
    Director
    
    March 7, 2006/s/ Dennis J. Horowitz

Dennis J. Horowitz
    
    Director
    
    March 7, 2006/s/ Martin A. Kaplan

Martin A. Kaplan
    
    Director
    
    March 7, 2006/s/ John D. Lockton

John D. Lockton
    
    Chairman of the Board
    
    March 7, 2006Charles E. Shalvoy
    
    Director
 S-1




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##### Table of Contents



Consolidated financial statements and financial statement schedule
 
  Internal control over financial reporting
 Internal Control -
Integrated Framework
 F-1




---



##### Table of Contents



Internal Control  Integrated Framework
   
 F-2




---



##### Table of Contents



SUPERCONDUCTOR TECHNOLOGIES INC.
 
 CONSOLIDATED BALANCE SHEET
 December 31,
    
    
    December 31,2004
    
    
    2005ASSETSCurrent Assets:Cash and cash equivalents
    
    $
    12,802,000
    
    
    $
    13,018,000Accounts receivable, net
    
    
    1,434,000
    
    
    
    2,166,000Inventory, net
    
    
    9,327,000
    
    
    
    5,364,000Insurance settlement receivable
    
    
    4,000,000
    
    
    
    Prepaid expenses and other current assets
    
    
    906,000
    
    
    
    723,000Total Current Assets
    
    
    28,469,000
    
    
    
    21,271,000Property and equipment, net of accumulated depreciation of
$15,189,000 and $17,295,000, respectively
    
    
    10,303,000
    
    
    
    7,803,000Patents, licenses and purchased technology, net of accumulated
amortization
of $768,000 and $1,065,000, respectively
    
    
    2,833,000
    
    
    
    2,514,000Goodwill
    
    
    20,107,000
    
    
    
    20,107,000Other assets
    
    
    646,000
    
    
    
    350,000Total Assets
    
    $
    62,358,000
    
    
    $
    52,045,000LIABILITIES AND STOCKHOLDERS EQUITYCurrent Liabilities:Line of credit
    
    $
    938,000
    
    
    $
    Accounts payable
    
    
    2,691,000
    
    
    
    2,036,000Accrued expenses
    
    
    4,601,000
    
    
    
    1,998,000Legal settlement liability
    
    
    4,050,000
    
    
    
    Current portion of capitalized lease obligations and long term debt
    
    
    43,000
    
    
    
    19,000Total Current Liabilities
    
    
    12,323,000
    
    
    
    4,053,000Capitalized lease obligations and long term-debt
    
    
    33,000
    
    
    
    14,000Other long term liabilities
    
    
    753,000
    
    
    
    721,000Total Liabilities
    
    
    13,109,000
    
    
    
    4,788,000Commitments and contingencies-Notes 9, 10 and 11Stockholders Equity:Preferred stock, $.001 par value, 2,000,000 shares authorized,
none issued and outstanding
    
    
    
    
    
    
    Common stock, $.001 par value, 250,000,000 shares
authorized, 107,711,026 and 124,834,314 shares issued and outstanding,
respectively
    
    
    108,000
    
    
    
    125,000Capital in excess of par value
    
    
    196,983,000
    
    
    
    208,432,000Notes receivable from stockholder and board member
    
    
    (820,000
    )
    
    
    (65,000
    )Accumulated deficit
    
    
    (147,022,000
    )
    
    
    (161,235,000
    )Total Stockholders Equity
    
    
    49,249,000
    
    
    
    47,257,000Total Liabilities and Stockholders Equity
    
    $
    62,358,000
    
    
    $
    52,045,000
  F-3




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##### Table of Contents



SUPERCONDUCTOR TECHNOLOGIES INC.
 
 CONSOLIDATED STATEMENT OF OPERATIONS
 For the Year Ended December 312003
    
    
    2004
    
    
    2005Net revenues:Net commercial product revenues
    
    $
    38,577,000
    
    
    $
    16,787,000
    
    
    $
    21,080,000Government and other contract revenues
    
    
    10,759,000
    
    
    
    6,189,000
    
    
    
    3,107,000Sub license royalties
    
    
    58,000
    
    
    
    28,000
    
    
    
    22,000Total net revenues
    
    
    49,394,000
    
    
    
    23,004,000
    
    
    
    24,209,000Costs and expenses:Cost of commercial product revenues
    
    
    28,249,000
    
    
    
    23,421,000
    
    
    
    18,989,000Contract research and development
    
    
    6,899,000
    
    
    
    4,465,000
    
    
    
    2,806,000Other research and development
    
    
    4,697,000
    
    
    
    5,036,000
    
    
    
    4,214,000Selling, general and administrative
    
    
    20,567,000
    
    
    
    16,051,000
    
    
    
    11,442,000Restructuring expenses and impairment charges
    
    
    
    
    
    
    4,128,000
    
    
    
    1,197,000Total costs and expenses
    
    
    60,412,000
    
    
    
    53,101,000
    
    
    
    38,648,000Loss from operations
    
    
    (11,018,000
    )
    
    
    (30,097,000
    )
    
    
    (14,439,000
    )Interest income
    
    
    177,000
    
    
    
    125,000
    
    
    
    342,000Interest expense
    
    
    (504,000
    )
    
    
    (1,245,000
    )
    
    
    (116,000
    )Net loss
    
    
    (11,345,000
    )
    
    
    (31,217,000
    )
    
    
    (14,213,000
    )Basic and diluted net loss per common share
    
    
    ($0.18
    )
    
    
    ($0.37
    )
    
    
    ($0.12
    )Basic and diluted weighted average number of
common shares outstanding
    
    
    62,685,292
    
    
    
    84,241,447
    
    
    
    114,185,036
  F-4




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##### Table of Contents



SUPERCONDUCTOR TECHNOLOGIES INC.
 
 CONSOLIDATED STATEMENT OF STOCKHOLDERS EQUITY
 Convertible Preferred
    
    
    
    
    
    
    
    
    
    Capital in
    
    ReceivableStock
    
    Common Stock
    
    Excess of
    
    From
    
    AccumulatedShares
    
    Amount
    
    Shares
    
    Amount
    
    Par Value
    
    Stockholder
    
    Deficit
    
    TotalBalance at December 31, 2002
    
    
    
    
    
    $
    
    
    
    
    59,823,553
    
    
    $
    60,000
    
    
    $
    154,744,000
    
    
    $
    (820,000
    )
    
    $
    (104,460,000
    )
    
    $
    49,524,000Exercise of stock options
    
    
    
    
    
    
    
    
    
    
    56,687
    
    
    
    
    
    
    
    173,000
    
    
    
    
    
    
    
    
    
    
    
    173,000Issuance of common stock and
warrants for cash
    
    
    
    
    
    
    
    
    
    
    5,116,278
    
    
    
    5,000
    
    
    
    10,060,000
    
    
    
    
    
    
    
    
    
    
    
    10,065,000Exercise of warrants
    
    
    
    
    
    
    
    
    
    
    3,910,591
    
    
    
    4,000
    
    
    
    3,618,000
    
    
    
    
    
    
    
    
    
    
    
    3,622,000Issuance of options and warrants
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    181,000
    
    
    
    
    
    
    
    
    
    
    
    181,000Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (11,345,000
    )
    
    
    (11,345,000
    )Balance at December 31, 2003
    
    
    
    
    
    
    
    
    
    
    68,907,109
    
    
    
    69,000
    
    
    $
    168,776,000
    
    
    
    (820,000
    )
    
    
    (115,805,000
    )
    
    
    52,220,000Exercise of stock options
    
    
    
    
    
    
    
    
    
    
    89,748
    
    
    
    
    
    
    
    250,000
    
    
    
    
    
    
    
    
    
    
    
    250,000Issuance of common stock
    
    
    
    
    
    
    
    
    
    
    38,600,000
    
    
    
    39,000
    
    
    
    26,748,000
    
    
    
    
    
    
    
    
    
    
    
    26,787,000Exercise of warrants
    
    
    
    
    
    
    
    
    
    
    114,169
    
    
    
    
    
    
    
    236,000
    
    
    
    
    
    
    
    
    
    
    
    236,000Issuance of options and warrants
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    973,000
    
    
    
    
    
    
    
    
    
    
    
    973,000Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (31,217,000
    )
    
    
    (31,217,000
    )Balance at December 31, 2004
    
    
    
    
    
    
    
    
    
    
    107,711,026
    
    
    
    108,000
    
    
    
    196,983,000
    
    
    
    (820,000
    )
    
    
    (147,022,000
    )
    
    
    49,249,000Issuance of common stock and
warrants
    
    
    
    
    
    
    
    
    
    
    17,123,288
    
    
    
    17,000
    
    
    
    11,424,000
    
    
    
    
    
    
    
    
    
    
    
    11,441,000Issuance of options
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    25,000
    
    
    
    
    
    
    
    
    
    
    
    25,000Reserve for impairment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    755,000
    
    
    
    
    
    
    
    755,000Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (14,213,000
    )
    
    
    (14,213,000
    )Balance at December 31, 2005
    
    
    
    
    
    
    
    
    
    
    124,834,314
    
    
    $
    125,000
    
    
    $
    208,432,000
    
    
    $
    (65,000
    )
    
    $
    (161,235,000
    )
    
    $
    47,257,000
 
 F-5




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##### Table of Contents



SUPERCONDUCTOR TECHNOLOGIES INC.
 
 CONSOLIDATED STATEMENT OF CASH FLOWS
 For the Year Ended December 312003
    
    
    2004
    
    
    2005CASH FLOWS FROM OPERATING ACTIVITIES:Net loss
    
    $
    (11,345,000
    )
    
    $
    (31,217,000
    )
    
    $
    (14,213,000
    )Adjustments to reconcile net loss to net cash used for
operating activities:Depreciation and amortization
    
    
    3,277,000
    
    
    
    3,463,000
    
    
    
    3,225,000Non-cash restructuring and impairment charges
    
    
    
    
    
    
    3,659,000
    
    
    
    Warrants and options charges
    
    
    104,000
    
    
    
    973,000
    
    
    
    25,000Provision for excess and obsolete inventories
    
    
    719,000
    
    
    
    4,836,000
    
    
    
    984,000Forgiveness of note receivable from former CEO
    
    
    
    
    
    
    
    
    
    
    150,000Reserve for impairment of note and interest receivable from
stockholder
    
    
    
    
    
    
    
    
    
    
    924,000Gain on disposal of property and equipment
    
    
    
    
    
    
    
    
    
    
    (138,000
    )Changes in assets and liabilities:Accounts receivable
    
    
    (5,404,000
    )
    
    
    7,375,000
    
    
    
    (732,000
    )Inventory
    
    
    (3,174,000
    )
    
    
    (5,361,000
    )
    
    
    2,979,000Prepaid expenses and other current assets
    
    
    (184,000
    )
    
    
    (146,000
    )
    
    
    112,000Patents and licenses
    
    
    (531,000
    )
    
    
    (546,000
    )
    
    
    (154,000
    )Other assets
    
    
    (114,000
    )
    
    
    (46,000
    )
    
    
    (23,000
    )Accounts payable and accrued expenses
    
    
    (1,806,000
    )
    
    
    (4,570,000
    )
    
    
    (2,543,000
    )Net cash used in operating activities
    
    
    (18,458,000
    )
    
    
    (21,580,000
    )
    
    
    (9,404,000
    )CASH FLOWS FROM INVESTING ACTIVITIES:Proceeds from the sale of property and equipment
    
    
    
    
    
    
    
    
    
    
    216,000Purchase of property and equipment
    
    
    (3,855,000
    )
    
    
    (1,812,000
    )
    
    
    (261,000
    )Payment of up front license fee
    
    
    (500,000
    )
    
    
    
    
    
    
    Net cash used in investing activities
    
    
    (4,355,000
    )
    
    
    (1,812,000
    )
    
    
    (45,000
    )CASH FLOW FROM FINANCING ACTIVITIES:Proceeds from short-term borrowings
    
    
    7,234,000
    
    
    
    5,567,000
    
    
    
    662,000Payments on short-term borrowings
    
    
    (3,926,000
    )
    
    
    (7,937,000
    )
    
    
    (1,600,000
    )Payments on long-term obligations
    
    
    (1,402,000
    )
    
    
    (645,000
    )
    
    
    (43,000
    )Gross proceeds from sale of common stock and exercise of
warrants and options
    
    
    14,795,000
    
    
    
    29,829,000
    
    
    
    12,500,000Payment of common stock issuance costs
    
    
    (935,000
    )
    
    
    (1,764,000
    )
    
    
    (1,854,000
    )Net cash provided by financing activities
    
    
    15,766,000
    
    
    
    25,050,000
    
    
    
    9,665,000Net increase (decrease) in cash and cash equivalents
    
    
    (7,047,000
    )
    
    
    1,658,000
    
    
    
    216,000Cash and cash equivalents at beginning of year
    
    
    18,191,000
    
    
    
    11,144,000
    
    
    
    12,802,000Cash and cash equivalents at end of year
    
    $
    11,144,000
    
    
    $
    12,802,000
    
    
    $
    13,018,000
  F-6




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##### Table of Contents



SUPERCONDUCTOR TECHNOLOGIES INC.
 
 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 Note 1  The Company
   Note 2  Summary of Significant Accounting Policies
 Basis of Presentation
     Principles of Consolidation
  Cash and Cash Equivalents
  F-7




---



##### Table of Contents



Accounts Receivable
  Revenue Recognition
    Shipping and Handling Fees and Costs
  Warranties
  Guarantees
  Research and Development Costs
  F-8




---



##### Table of Contents



Inventories
  Property and Equipment
  Patents, Licenses and Purchased Technology
  Goodwill
   Long-Lived Assets
  F-9




---



##### Table of Contents



Restructuring Expenses
  Loss Contingencies
  Income Taxes
  Marketing Costs
  Net Loss Per Share
  Stock-based Compensation
   For the years ended December 31,2003
    
    
    2004
    
    
    2005Net loss:As reported
    
    $
    (11,345,000
    )
    
    $
    (31,217,000
    )
    
    $
    (14,213,000
    )Stock-based employee
compensation included in net
loss
    
    
    
    
    
    
    48,000
    
    
    
    Stock-based compensation
expense determined under fair
value method
    
    
    (5,435,000
    )
    
    
    (5,543,000
    )
    
    
    (6,459,000
    )Pro forma
    
    $
    (16,780,000
    )
    
    $
    (36,712,000
    )
    
    $
    (20,672,000
    )Basic and diluted loss per share
 F-10




---



##### Table of Contents



For the years ended December 31,2003
    
    
    2004
    
    
    2005As reported
    
    $
    (0.18
    )
    
    $
    (0.37
    )
    
    $
    (0.12
    )Stock-based compensation
expense determined under fair
value method
    
    
    (0.09
    )
    
    
    (0.07
    )
    
    
    (0.06
    )Pro forma
    
    $
    (0.27
    )
    
    $
    (0.44
    )
    
    $
    (0.18
    )
 Use of Estimates
  Fair Value of Financial Instruments
  Comprehensive Income
  Segment Information
  Certain Risks and Uncertainties
   F-11




---



##### Table of Contents



Recent Accounting Pronouncements
   Note 3-Short Term Borrowings
    F-12




---



##### Table of Contents



Note 4  Retirement of Companys Chief Executive Officer
  Note 5  Notes Receivable From Stockholder
  F-13




---



##### Table of Contents



Note 6  Income Taxes
   For the Year Ending December 312003
    
    2004
    
    2005Tax benefit computed at Federal statutory rate
    
    
    34.0
    %
    
    
    34.0
    %
    
    
    34.0
    %Increase (decrease) in taxes due to:Change in valuation allowance
    
    
    (39.8
    )
    
    
    (39.8
    )
    
    
    (39.8
    )State taxes, net of federal benefit
    
    
    5.8
    
    
    
    5.8
    
    
    
    5.8Other
    
    
    
    
    
    
    
    
    
    
    
    %
    
    
    
    %
    
    
    
    %
  For the Year Ended December 31,2004
    
    2005Loss carryforwards
    
    $
    90,135,000
    
    
    $
    93,521,000Capitalized research and development
    
    
    6,021,000
    
    
    
    5,236,000Depreciation
    
    
    2,520,000
    
    
    
    2,306,000Tax credits
    
    
    4,248,000
    
    
    
    3,538,000Inventory
    
    
    2,152,000
    
    
    
    1,311,000Purchase accounting adjustments
    
    
    1,162,000
    
    
    
    138,000Acquired intellectual property
    
    
    (456,000
    )
    
    
    (383,000
    )Other
    
    
    847,000
    
    
    
    632,000Less: valuation allowance
    
    
    (106,629,000
    )
    
    
    (106,299,000
    )$
    
    
    
    $
    
  ,
   F-14




---



##### Table of Contents



Note 7  Stockholders Equity
 Preferred Stock
  Common Stock
     Stock Options
  F-15




---



##### Table of Contents



WeightedNumber of
    
    Average ExerciseShares
    
    PriceOutstanding at December 31, 2002
    
    
    4,796,244
    
    
    
    8.761Granted
    
    
    3,116,007
    
    
    
    2.661Canceled
    
    
    (310,243
    )
    
    
    10.21Exercised
    
    
    (56,687
    )
    
    
    2.703Outstanding at December 31, 2003
    
    
    7,545,321
    
    
    
    6.283Granted
    
    
    3,126,159
    
    
    
    3.552Canceled
    
    
    (1,114,455
    )
    
    
    5.386Exercised
    
    
    (89,777
    )
    
    
    2.780Outstanding at December 31, 2004
    
    
    9,467,248
    
    
    $
    5.521Granted
    
    
    4,532,057
    
    
    
    0.802Canceled
    
    
    (1,975,546
    )
    
    
    3.718Exercised
    
    
    
    
    
    
    Outstanding at December 31, 2005
    
    
    12,023,759
    
    
    $
    4.038
 F-16




---



##### Table of Contents



ExercisableWeightedAverageRemaining
    
    Weighted
    
    
    
    
    
    WeightedRange of
    
    Number
    
    Contractual
    
    Average
    
    Number
    
    AverageExercise Prices
    
    Outstanding
    
    Life
    
    Exercise Price
    
    Exercisable
    
    Exercise Price$0.58 -
    
    $
    0.69
    
    
    
    2,563,000
    
    
    
    9.419
    
    
    $
    0.69
    
    
    
    2,401,000
    
    
    $
    0.69$0.70 -
    
    $
    1.04
    
    
    
    3,255,138
    
    
    
    8.077
    
    
    $
    1.00
    
    
    
    3,128,138
    
    
    $
    1.00$1.05 -
    
    $
    3.05
    
    
    
    2,030,431
    
    
    
    6.495
    
    
    $
    2.75
    
    
    
    1,949,931
    
    
    $
    2.80$3.06 -
    
    $
    5.60
    
    
    
    1,509,123
    
    
    
    4.688
    
    
    $
    4.56
    
    
    
    1,504,915
    
    
    $
    4.56$5.61 -
    
    $
    49.38
    
    
    
    2,666,067
    
    
    
    5.018
    
    
    $
    11.66
    
    
    
    2,639,317
    
    
    $
    11.7112,023,759
    
    
    
    6.992
    
    
    $
    4.038
    
    
    
    11,623,301
    
    
    $
    4.132
   ,
 Warrants
  Common SharesPriceCurrently
    
    
    perTotal
    
    
    Exercisable
    
    
    Share
    
    
    Expiration DateWarrants and options related to issuance
of common stock
    
    
    3,424,658
    
    
    
    
    
    
    $
    1.11
    
    
    August 16, 2010397,857
    
    
    
    397,857
    
    
    
    5.50
    
    
    March 10, 20071,406,581
    
    
    
    1,406,581
    
    
    
    1.19
    
    
    December 17, 2007*1,162,790
    
    
    
    1,162,790
    
    
    
    2.90
    
    
    June 24, 2008*Warrants related to April 2004 Bridge Loans
    
    
    695,489
    
    
    
    695,489
    
    
    
    1.33
    
    
    April 28, 2011* **100,000
    
    
    
    100,000
    
    
    
    1.85
    
    
    April 28, 2011*Warrants assumed in connection with the
Conductus, Inc. acquisition
    
    
    1,095,000
    
    
    
    1,095,000
    
    
    
    4.583
    
    
    September 27, 20076,000
    
    
    
    6,000
    
    
    
    31.25
    
    
    September 1, 2007Total
    
    
    8,288,375
    
    
    
    4,863,717
 
 *
    
    The terms of these warrants contain net exercise provisions, wherein instead of a cash
exercise holders can elect to receive common stock equal to the difference between the
exercise price and the average closing sale price for common shares over 10-30 days
immediately preceding the exercise date.**
    
    The terms of these warrants contain antidilution adjustment provisions. F-17




---



##### Table of Contents



Warrants
    
    
    Common Shares IssuedIn Accordance WithWarrants
    
    
    Price per
    
    
    
    
    
    
    Net ExerciseExercised
    
    
    Share
    
    
    For Cash
    
    
    ProvisionsWarrants related to bank borrowings
    
    
    123,525
    
    
    $
    3-3.25
    
    
    
    
    
    
    
    71,312Warrants related to issuance of common stock
    
    
    42,857
    
    
    
    5.50
    
    
    
    42,857
    
    
    
    Total
    
    
    166,382
    
    
    
    
    
    
    
    42,857
    
    
    
    71,312
  Warrants
    
    
    Common Shares IssuedIn Accordance WithWarrants
    
    
    Price per
    
    
    
    
    
    
    Net ExerciseExercised
    
    
    Share
    
    
    For Cash
    
    
    ProvisionsWarrants related to bank borrowings
    
    
    94,340
    
    
    $
    1.06
    
    
    
    
    
    
    
    75,140Warrants related to issuance of common stock
    
    
    330,000
    
    
    
    5.50
    
    
    
    330,000
    
    
    
    3,867,659
    
    
    
    1.19
    
    
    
    1,254,500
    
    
    
    2,613,159116,279
    
    
    
    2.90
    
    
    
    116,279
    
    
    
    Total
    
    
    4,408,278
    
    
    
    
    
    
    
    1,700,779
    
    
    
    2,688,299
 Note 8  Employee Savings Plan
  Note 9  Commitments and Contingencies
 Operating Leases
   Capital Leases
  Patents and Licenses
  F-18




---



##### Table of Contents



.
  Year ending December 31,
    
    Licenses
    
    
    Operating Leases
    
    
    Capital Leases2006
    
    $
    170,000
    
    
    $
    1,414,000
    
    
    $
    22,0002007
    
    
    150,000
    
    
    
    1,253,000
    
    
    
    15,0002008
    
    
    150,000
    
    
    
    1,290,000
    
    
    
    2009
    
    
    150,000
    
    
    
    1,335,000
    
    
    
    2010
    
    
    150,000
    
    
    
    1,382,000
    
    
    
    Thereafter
    
    
    1,350,000
    
    
    
    1,308,000
    
    
    
    Total payments
    
    $
    2,120,000
    
    
    $
    7,982,000
    
    
    
    37,000Less: amount representing
interest
    
    
    
    
    
    
    
    
    
    
    (4,000
    )Present value of minimum lease
    
    
    
    
    
    
    
    
    
    
    33,000Less current portion
    
    
    
    
    
    
    
    
    
    
    (19,000
    )Long term portion
    
    
    
    
    
    
    
    
    
    $
    14,000
  Note 10  Contractual Guarantees and Indemnities
  Warranties
  F-19




---



##### Table of Contents



Intellectual Property Indemnities
  Director and Officer Indemnities and Contractual Guarantees
   General Contractual Indemnities/Products Liability
  Short Term Borrowings
  Contractual Contingency
  F-20




---



##### Table of Contents



Note
11 Legal Proceedings
 Shalvoy Litigation
    Class Action Lawsuits
  Routine Litigation
  Note
12 Earnings Per Share
  Note
13 Restructuring Expenses and Impairment Charges
  F-21




---



##### Table of Contents



For the Year Ended December 31,Restructuring
    
    
    Impairment
    
    
    
    
    
    
    Restructuring
    
    
    ImpairmentCharges for
    
    
    Charges for
    
    
    Total for
    
    
    Charges for
    
    
    Charges for
    
    
    Total for2004
    
    
    2004
    
    
    2004
    
    
    2005
    
    
    2005
    
    
    2005Severance costs
    
    $
    826,000
    
    
    $
    
    
    
    $
    826,000
    
    
    $
    178,000
    
    
    $
    
    
    
    $
    178,000Fixed assets write offs
    
    
    803,000
    
    
    
    403,000
    
    
    
    1,206,000
    
    
    
    137,000
    
    
    
    
    
    
    
    137,000Patents, licenses and
purchased technology
write-off
    
    
    1,051,000
    
    
    
    1,171,000
    
    
    
    2,222,000
    
    
    
    
    
    
    
    
    
    
    
    Lease abandonment costs
    
    
    279,000
    
    
    
    
    
    
    
    279,000
    
    
    
    
    
    
    
    
    
    
    
    Facility consolidation
costs
    
    
    268,000
    
    
    
    
    
    
    
    268,000
    
    
    
    6,000
    
    
    
    
    
    
    
    6,000Employee relocation cost
    
    
    382,000
    
    
    
    
    
    
    
    382,000
    
    
    
    16,000
    
    
    
    
    
    
    
    16,000Impairment charge for
notes receivable from
shareholder and board
member
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    969,000
    
    
    
    969,000Total
    
    $
    3,609,000
    
    
    $
    1,574,000
    
    
    $
    5,183,000
    
    
    
    337,000
    
    
    
    969,000
    
    
    
    1,306,000Fixed Asset write off
and severance costs
included in cost of
goods sold
    
    
    669,000
    
    
    
    386,000
    
    
    
    1,055,000
    
    
    
    (109,000
    )
    
    
    
    
    
    
    (109,000
    )Expense included in
operating expenses
    
    $
    2,940,000
    
    
    $
    1,188,000
    
    
    $
    4,128,000
    
    
    $
    228,000
    
    
    $
    969,000
    
    
    $
    1,197,000
 F-22




---



##### Table of Contents



Note 14 Details of Certain Financial Statement Components and Supplemental Disclosures of Cash
Flow Information and Non-Cash Activities
 Balance Sheet Data
 December 31,
    
    
    December 31,2004
    
    
    2005Accounts receivable:Accounts receivable-trade
    
    $
    1,043,000
    
    
    $
    1,930,000U.S. government accounts receivable-billed
    
    
    468,000
    
    
    
    311,000Less: allowance for doubtful accounts
    
    
    (77,000
    )
    
    
    (75,000
    )$
    1,434,000
    
    
    $
    2,166,000
 December 31,
    
    
    December 31,2004
    
    
    2005Inventories:Raw materials
    
    $
    3,954,000
    
    
    $
    3,328,000Work-in-process
    
    
    3,441,000
    
    
    
    2,384,000Finished goods
    
    
    7,334,000
    
    
    
    2,861,000Less inventory reserves
    
    
    (5,402,000
    )
    
    
    (3,209,000
    )$
    9,327,000
    
    
    $
    5,364,000
 December 31,
    
    
    December 31,2004
    
    
    2005Property and Equipment:Equipment
    
    $
    18,240,000
    
    
    $
    18,000,000Leasehold improvements
    
    
    6,801,000
    
    
    
    6,647,000Furniture and fixtures
    
    
    451,000
    
    
    
    451,00025,492,000
    
    
    
    25,098,000Less: accumulated depreciation and amortization
    
    
    (15,189,000
    )
    
    
    (17,295,000
    )$
    10,303,000
    
    
    $
    7,803,000
  December 31,
    
    
    December 31,2004
    
    
    2005Patents and Licenses:Patents pending
    
    $
    433,000
    
    
    $
    435,000Patents issued
    
    
    899,000
    
    
    
    875,000Less accumulated amortization
    
    
    (203,000
    )
    
    
    (230,000
    )Net patents issued
    
    
    696,000
    
    
    
    645,000Licenses
    
    
    563,000
    
    
    
    563,000Less accumulated amortization
    
    
    (33,000
    )
    
    
    (66,000
    )Net licenses
    
    
    530,000
    
    
    
    497,000Purchased technology
    
    
    1,706,000
    
    
    
    1,706,000Less accumulated amortization
    
    
    (532,000
    )
    
    
    (769,000
    )Net purchased technology
    
    
    1,174,000
    
    
    
    937,000$
    2,833,000
    
    
    $
    2,514,000
 F-23




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##### Table of Contents



December 31,
    
    
    December 31,2004
    
    
    2005Accrued Expenses and Other Long Term Liabilities:Salaries payable
    
    $
    438,000
    
    
    $
    365,000Compensated absences
    
    
    552,000
    
    
    
    423,000Compensation related
    
    
    295,000
    
    
    
    253,000Warranty reserve
    
    
    419,000
    
    
    
    491,000Lease abandonment costs
    
    
    1,336,000
    
    
    
    225,000Product line exit costs
    
    
    885,000
    
    
    
    402,000Severance costs
    
    
    36,000
    
    
    
    32,000Deferred rent
    
    
    337,000
    
    
    
    378,000Offering expenses
    
    
    792,000
    
    
    
    Other
    
    
    264,000
    
    
    
    150,0005,354,000
    
    
    
    2,719,000Less current portion
    
    
    (4,601,000
    )
    
    
    (1,998,000
    )Long term portion
    
    $
    753,000
    
    
    $
    721,000
 For the year ended,December 31,
    
    
    December 31,2004
    
    
    2005Warranty Reserve Activity:Beginning balance
    
    $
    494,000
    
    
    $
    419,000Additions
    
    
    157,000
    
    
    
    204,000Deductions
    
    
    (159,000
    )
    
    
    (273,000
    )Change in estimate relating to previous warranty accruals
    
    
    (73,000
    )
    
    
    141,000Ending balance
    
    $
    419,000
    
    
    $
    491,000Unfavorable Lease Costs:Beginning balance
    
    $
    823,000
    
    
    $
    Additions
    
    
    
    
    
    
    Deductions
    
    
    (265,000
    )
    
    
    Transfer to lease abandonment costs
    
    
    (558,000
    )
    
    
    Ending balance
    
    $
    
    
    
    $
    Lease Abandonment Costs:Beginning balance
    
    $
    1,329,000
    
    
    $
    1,336,000Additions
    
    
    279,000
    
    
    
    Transfers from unfavorable lease costs
    
    
    558,000
    
    
    
    Deductions
    
    
    (830,000
    )
    
    
    (1,111,000
    )Ending balance
    
    $
    1,336,000
    
    
    $
    225,000
 F-24




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##### Table of Contents



For the year ended,December 31,
    
    
    December 31,2004
    
    
    2005Product Line Exit Costs:Beginning balance
    
    $
    913,000
    
    
    $
    885,000Additions
    
    
    
    
    
    
    Deductions
    
    
    (73,000
    )
    
    
    (483,000
    )Change in estimate relating to previous exit costs accrual
    
    
    45,000
    
    
    
    Ending balance
    
    $
    885,000
    
    
    $
    402,000Severance Costs:Beginning balance
    
    $
    285,000
    
    
    $
    36,000Additions
    
    
    826,000
    
    
    
    218,000Deductions
    
    
    (1,075,000
    )
    
    
    (222,000
    )Ending balance
    
    $
    36,000
    
    
    $
    32,000
 Supplemental Cash Flow Information:
 Dec. 31, 2003
    
    
    Dec. 31, 2004
    
    
    Dec. 31, 2005Cash paid for interest
    
    $
    471,000
    
    
    $
    443,000
    
    
    $
    116,000Non-cash investing and financing activities:Unpaid offering expenses
    
    
    
    
    
    
    792,000
    
    
    
    Insurance settlement receivable
    
    
    
    
    
    
    4,000,000
    
    
    
    4,000,000Legal settlement liability
    
    
    
    
    
    
    4,000,000
    
    
    
    4,000,000
 Note
15 Subsequent Event  Unaudited
  Year ended December 31,
        
    2003
    
        
        2004
    
        
        2005Basic and diluted loss per common shareAs reported
    
    
    ($0.18
    )
    
    
    ($0.37
    )
    
    
    ($0.12
    )Proforma
    
    
    ($1.80
    )
    
    
    ($3.70
    )
    
    
    ($1.20
    )
  F-25




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##### Table of Contents



Quarterly Financial Data (Unaudited)
 First Quarter
    
    
    Second Quarter
    
    
    Third Quarter
    
    
    Fourth Quarter2005Net revenues
    
    $
    4,354,000
    
    
    $
    8,553,000
    
    
    $
    3,917,000
    
    
    $
    7,385,000Loss from
operations (1)(2)(3)
    
    
    (5,555,000
    )
    
    
    (2,065,000
    )
    
    
    (3,696,000
    )
    
    
    (3,123,000
    )Net loss
    
    
    (5,537,000
    )
    
    $
    (2,046,000
    )
    
    
    (3,623,000
    )
    
    
    (3,007,000
    )Basic and diluted loss per
common share
    
    $
    (0.05
    )
    
    $
    (0.02
    )
    
    $
    (0.03
    )
    
    $
    (0.02
    )Weighted average number of
shares outstanding
    
    
    107,711,026
    
    
    
    107,711,026
    
    
    
    116,554,922
    
    
    
    124,834,3142004Net revenues
    
    $
    5,444,000
    
    
    $
    6,312,000
    
    
    $
    7,299,000
    
    
    $
    3,949,000Loss from
operations (4)(5)
    
    
    (5,807,000
    )
    
    
    (7,874,000
    )
    
    
    (5,138,000
    )
    
    
    (11,278,000
    )Net loss
    
    
    (5,910,000
    )
    
    $
    (8,884,000
    )
    
    
    (5,155,000
    )
    
    
    (11,268,000
    )Basic and diluted loss per
common share
    
    $
    (0.09
    )
    
    $
    (0.11
    )
    
    $
    (0.06
    )
    
    $
    (0.11
    )Weighted average number of
shares outstanding
    
    
    69,042,053
    
    
    
    78,296,844
    
    
    
    92,103,424
    
    
    
    98,177,693
 
 (1)
    
    Includes restructuring expense of $133,000, $204,000, none and none, respectively.(2)
    
    Includes increased reserve for inventory obsolescence of $90,000, $90,000, $432,000 and $372,000, respectively.(3)
    
    Includes sale of previously written-off inventory of none,
none, $319,000, and $806,000, respectively.(4)
    
    Includes restructuring expense and impairment charges of none, $2,513,000, $785,000 and $1,885,000, respectively.(5)
    
    Includes increased reserve for inventory obsolescence of $88,000, $90,000, $440,000 and $4,218,000, respectively. F-26




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##### Table of Contents



SUPERCONDUCTOR TECHNOLOGIES INC.
 Schedule II- Valuation and Qualifying Accounts
 AdditionsCharge to
    
    
    Charge to
    
    
    Charge toBeginning
    
    
    Costs &
    
    
    Other
    
    
    Other
    
    
    EndingBalance
    
    
        Expenses
    
    
        Accounts
    
    
        Deductions
    
    
        BalanceYear Ended December 31, 2005Allowance for Uncollectible Accounts
    
    $
    77,000
    
    
    $
    
    
    
    $
    
    
    
    $
    (2,000
    )
    
    $
    75,000Impairment for Notes Receivable from
Stockholder
    
    
    
    
    
    
    969,000
    
    
    
    
    
    
    
    
    
    
    
    969,000Reserve for Inventory Obsolescence
    
    
    5,402,000
    
    
    
    984,000
    
    
    
    
    
    
    
    (3,177,000
    )
    
    
    3,209,000Reserve for Warranty
    
    
    419,000
    
    
    
    204,000
    
    
    
    
    
    
    
    (132,000
    )
    
    
    491,000Deferred Tax Asset Valuation Allowance
    
    
    106,629,000
    
    
    
    (330,000
    )
    
    
    
    
    
    
    
    
    
    
    106,299,000Year Ended December 31, 2004Allowance for Uncollectible Accounts
    
    
    64,000
    
    
    
    13,000
    
    
    
    
    
    
    
    
    
    
    
    77,000Reserve for Inventory Obsolescence
    
    
    803,000
    
    
    
    4,836,000
    
    
    
    
    
    
    
    (237,000
    )
    
    
    5,402,000Reserve for Warranty
    
    
    494,000
    
    
    
    84,000
    
    
    
    
    
    
    
    (159,000
    )
    
    
    419,000Deferred Tax Asset Valuation Allowance
    
    
    94,576,000
    
    
    
    12,053,000
    
    
    
    
    
    
    
    
    
    
    
    106,629,000Year Ended December 31, 2003Allowance for Uncollectible Accounts
    
    
    58,000
    
    
    
    12,000
    
    
    
    
    
    
    
    (6,000
    )
    
    
    64,000Reserve for Inventory Obsolescence
    
    
    650,000
    
    
    
    719,000
    
    
    
    
    
    
    
    (566,000
    )
    
    
    803,000Reserve for Warranty
    
    
    351,000
    
    
    
    261,000
    
    
    
    
    
    
    
    (118,000
    )
    
    
    494,000Deferred Tax Asset Valuation Allowance
    
    
    76,358,000
    
    
    
    18,218,000
    
    
    
    
    
    
    
    
    
    
    
    94,576,000
 F-27