**UNITED
STATES**


**SECURITIES
AND EXCHANGE COMMISSION**


**Washington,
D.C. 20549**






**FORM
10-K**




ý
    **ANNUAL
      REPORT PURSUANT TO SECTION 13 OR 15(d)**
      **OF
      THE SECURITIES EXCHANGE ACT OF 1934**
      **For
      the Fiscal Year Ended December 31, 2004********OR** ̈
    **TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(d)**
      **OF
      THE SECURITIES EXCHANGE ACT OF
1934**




**For
the Transition Period from** **** **to** ****




**Commission
File Number: 0-29625**




**SUMMUS,
INC.**


(Exact
name of Registrant as Specified in its Charter)




Delaware
    65-0185306**(State
      of incorporation)**
    **(I.R.S.
      Employer Identification No.)******
    ****434
      Fayetteville Street, Suite 600Raleigh,
      North Carolina 27601(919)
      807-5600(Address,
      including zip code, and telephone number (including area code)
      ofregistrant’s
      principal executive offices)Securities
      registered pursuant to Section 12(b) of the Act: NoneSecurities
      registered pursuant to Section 12(g) of the Act:Common
      Stock, par value $.001 per share(Title
      of Class)




Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.  Yes  þ  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 checkmark whether the Registrant is an accelerated filer (as defined
in Rule 12b-2 of the Act).   Yes   ̈  No  þ




The aggregate market value of the shares of common stock held by non-affiliates
of the Registrant as of June 30, 2004, was approximately $16,078,506 based on
the average of the bid and asked price of the stock reported for such
date.  For the purpose of the foregoing calculation, the shares of common
stock held by each officer and director and by each person who owns 5% or more
of the outstanding common stock have been excluded in that such persons may be
deemed to be affiliates.




The number of shares outstanding of the Registrant’s common stock, par value
$.001 per share, as of March 28, 2005 was 13,436,524.







Table of Contents







**SUMMUS,
INC.**


**FORM
10-K FOR THE FISCAL YEAR ENDED DECEMBER 31, 2004**


**TABLE OF CONTENTS**




***PAGE*****PART
      I****ITEM
      1**
    BUSINESS
    
    1**ITEM
      2**
    PROPERTIES
    
    10**ITEM
      3**
    LEGAL PROCEEDINGS
    
    10**ITEM
      4**
    SUBMISSION OF MATTERS TO A VOTE OF SECURITY
      HOLDERS
    
    10**PART
      II****ITEM
      5**
    MARKET FOR REGISTRANT’S COMMON STOCK,
      RELATED
      STOCKHOLDER MATTERS AND ISSUER PURCHASERS
OF
      EQUITY SECURITIES
    
    10**ITEM
      6**
    SELECTED FINANCIAL DATA
    
    12**ITEM
      7******
    MANAGEMENT’S DISCUSSION AND ANALYSIS OF
      FINANCIAL
      CONDITION AND RESULTS OF
      OPERATIONS
    
    14**ITEM
      7A******
    QUANTITATIVE AND QUALITATIVE DISCLOSURES
      ABOUT
      MARKET RISK
    
    47**ITEM
      8******
    FINANCIAL STATEMENTS AND SUPPLEMENTARY
    DATA
    
    47******ITEM
      9******
    CHANGES IN AND DISAGREEMENTS WITH
      ACCOUNTANTS
      ON
      ACCOUNTING AND FINANCIAL DISCLOSURE
    
    47**ITEM
      9A**
    CONTROLS AND PROCEDURES
    
    48******ITEM
      9B**
    OTHER INFORMATION
    
    48**PART
      III********ITEM
      10******
    DIRECTORS AND EXECUTIVE OFFICERS OF
      THE
      REGISTRANT
    
    49******ITEM
      11******
    EXECUTIVE COMPENSATION
    
    52******ITEM
      12**
    SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
      OWNERS
      AND MANAGEMENT AND RELATED STOCKHOLDER
      MATTERS
    
    61******ITEM
      13******
    CERTAIN
      RELATIONSHIPS AND RELATED TRANSACTIONS
    
    63******ITEM
      14******
    PRINCIPAL ACCOUNTANT FEES AND SERVICES
    
    63******PART
      IV********ITEM
      15**
    EXHIBITS
      AND FINANCIAL STATEMENT SCHEDULES
    
    64












Table of Contents





**EXPLANATORY
NOTE**




***Reverse
Stock Split***




On
March 11, 2005, Summus, Inc. (USA) amended its Amended and Restated Articles of
Incorporation as a Florida corporation to effect a reverse split of its common
stock in which every ten (10) shares of such common stock, par value $.001 per
share, issued and outstanding as of such date was automatically reclassified and
converted into one (1) share of common stock, par value $.001 per share.
Accordingly, all share and per share amounts in this Annual Report on Form 10-K
for the fiscal year ended December 31, 2004, have been retroactively adjusted to
give effect to this event. Also, on March 11, 2005, Summus, Inc. (USA) was
reincorporated into the State of Delaware under the name Summus, Inc.




**FORWARD-LOOKING
STATEMENTS**




This
annual report on Form 10-K contains certain forward-looking statements that we
believe are within the meaning of Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934, which are intended to be
covered by the safe harbors created by such acts. For this purpose, any
statements that are not statements of historical fact may be deemed to be
forward-looking statements, including the statements made in the section of this
annual report under the caption “Item 7. Management’s Discussion and Analysis of
Financial Condition and Results of Operations” regarding our strategy, future
operations, future expectations or future estimates, financial position and
objectives of management. Those statements in this annual report containing the
words “believes,” “anticipates,” “plans,” “should,” “expects”, “intends” and
similar expressions constitute forward-looking statements, although not all
forward-looking statements contain such identifying words. These forward-looking
statements are based on our current expectations and are subject to a number of
risks, uncertainties, and assumptions relating to our operations, results of
operations, competitive factors, shifts in market demand and other risks and
uncertainties. Some of the most important factors that could prevent us from
achieving our stated goals include, but are not limited to, the
following:




·
    our
      ability to generate sufficient working capital to meet our operating
      requirements;




·
    our
      future expense levels (including cost of revenues, research and
      development, sales and marketing, and general and administrative
      expenses);




·
    our
      future revenue opportunities;




·
    our
      ability to develop and enter into strategic relationships with wireless
      service providers, semiconductor and device designers, mobile and wireless
      device manufacturers and content providers;




·
    timely
      deployment by wireless service providers, semiconductor and device
      designers, and wireless device manufacturers of our wireless applications
      in their networks and mobile information
devices;




·
    the
      continued growth in demand for wireless and mobile
  usage;




·
    our
      new product development and acceleration of commercial deployment of such
      products;




·
    the
      future adoption of our current and future products, services, and
      technologies;




·
    the
      future growth of our customer base;




·
    technological
      competition, which creates the risk of our technology being rendered
      obsolete or noncompetitive;




·
    the
      lack of patent protection with respect to our
      technology;




·
    potential
      infringement of the patent rights of third parties;
and




·
    evolving
      technology trends.




Although
we believe that the assumptions underlying our forward-looking statements are
reasonable, any of the assumptions could be inaccurate and actual results may
differ from those indicated by the forward-looking statements included in this
annual report.  In light of the significant uncertainties inherent in the
forward-looking statements included in this annual report, you should not
consider the inclusion of such information as a representation by us or anyone
else that we will achieve such results. We undertake no obligation to publicly
update any forward-looking statements, whether as the result of new information,
future events, or otherwise. You are advised, however, to consult any further
disclosures we make in our subsequent quarterly reports on Form 10-Q, current
reports on Form 8-K, annual reports on Form 10-K, and other reports filed with
the SEC. Also note that we provide the following cautionary discussion of risks,
uncertainties, and assumptions relevant to our business in the “Factors That May
Affect Our Business, Future Operating Results and Financial Condition” section
of  this annual report at the end of “Item 7 - Management’s Discussion and
Analysis of Financial Conditions and Results of Operations”. These are factors
that we think could cause our actual results to differ materially from expected
and historical results. Other factors besides those listed there could also
adversely affect us.







Table of Contents







**ITEM1.** **BUSINESS**




Summus’
predecessor company, High Speed Net Solutions, Inc., a Florida corporation, was
founded in 1984.  Summus, Ltd. was merged into High Speed in February
2001.  High Speed changed its name in February 2002 to Summus, Inc.
(USA).  Summus was reincorporated under the name Summus, Inc. as a Delaware
corporation on March 11, 2005. Except where otherwise indicated, the
terms “Summus” , “we,” “us” and “our” refer to Summus, Inc. Our executive
offices are located at 434 Fayetteville Street, Suite 600, Raleigh, NC 27601 and
our telephone number is (919) 807-5600.  Our Internet website address is
www.summus.com.




We make
available free of charge on our website our annual, quarterly and current
reports, including amendments to such reports, as soon as practicable after we
electronically file such material with, or furnish such material to, the United
States Securities and Exchange Commission (“SEC”). Our filings can also be
obtained from the SEC website at www.sec.gov or by calling the SEC Office of
Public Reference toll free at (800) 942-8090. However, the information
found on our website or the SEC website is not part of this annual
report.




**Corporate
Overview**




Summus is
primarily engaged in the development of mobile media applications that optimize
the consumer wireless experience.  The core of our business is to focus on
the emerging wireless market and partner with leading content brands to bring
branded products to mobile phones. Our major content brands include Sports
Illustrated, America Online, Fujifilm, Mattel, The Associated Press, The Wall
Street Journal, Phil Hellmuth, Howard Lederer, Golf Digest, Hooters, The
Grateful Dead and others.




Summus
has developed wireless applications and tools for the creation, transmission,
playing and management of content by consumers over wireless networks.  We
currently offer applications in four major business areas:




·
    Personalization;




·
    Gaming;




·
    Photo
      messaging; and




·
    News/Information.




Summus
builds consumer applications for most major mobile platforms, including
QUALCOMM’s Binary Runtime Environment for WirelessTM (BREWTM), JavaTM 2 Platform,
Micro Edition (J2METM), SymbianTM OS and Wireless Application Protocol
(WAP).  We distribute our applications through major wireless carriers who
make our products available to their customers. Summus currently has
relationships with carriers that account for 98% of all U.S. wireless
subscribers. We also have relationships with international carriers covering
Canada, Latin America, Australia, Israel, the U.K., and
China.




We have
completed the development and deployment of at least one or a combination of
twenty-eight (28) wireless applications on a total of forty-one (41) wireless
carriers, sixteen (16) of which are United States carriers and twenty-five (25)
of which are international carriers. Some of our U.S. based wireless carriers
include, Alltel, Cingular, Sprint PCS, T-Mobile, US Cellular and Verizon
Wireless.




The
majority of our revenue currently comes from the distribution of our wireless
applications in the United States and Canada, but we do expect more revenue from
the distribution of our applications in other parts of the world. Verizon
Wireless, our largest carrier relationship by revenue, accounted for
approximately 52% of our revenues during the year ended December 31, 2004.
Currently, only a limited number of wireless subscribers have the capability to
download wireless applications.




The
majority of the applications developed and deployed by Summus, as well as future
applications, have been developed by us through a process that involves securing
agreements with content providers and carriers, and developing and launching the
applications. We outsource the infrastructure needed to host and deliver the
transactions for our applications.







1
 Table of Contents







Our goal
is to be the leading developer of wireless applications and mobile media content
in the four areas listed above for mobile phones, smart phones, personal digital
assistants (PDA’s) and other handheld wireless devices.  Our technology
works over existing second generation (2G) wireless networks, as well as 2.5G
and 3G networks, and is not generally limited by the wireless network. Our
wireless applications are designed to take advantage of multimedia enhancements
in the latest generation of mobile phones, including high-resolution color
display camera capabilities, increased processing power and improved audio
capabilities.




Our
customers typically purchase and download our applications through a wireless
carrier's branded e-commerce service accessed directly from their mobile phones,
which must be enabled by technologies such as BREW, J2ME, Symbian and WAP. These
wireless carrier services include, among others, Verizon Wireless' *Get
It Now* ,
Sprint’s PCS *Vision,* Alltel’s *Axcess* and US
Cellular’s *Easy
Edge* . Our
customers are charged a one-time or monthly subscription fee for the application
which appears on their mobile phone bills. The wireless carriers retain a
percentage of the fee and remit the balance to us. We then pay the entities from
which we license content a part of this amount. The wireless distribution of our
applications eliminates traditional publishing complexities, including physical
production, packaging, shipping, inventory management and return processing.




**The
Wireless Application Market**




The
wireless application market has emerged as a result of the rapid growth and
significant technological advancement in the wireless communications industry.
Wireless carriers are launching new data services, including downloadable games,
applications, wall paper, screensavers, ring tones and images, to drive revenues
and take advantage of advanced wireless networks and next-generation mobile
phones.




We
believe that growth in the wireless applications market has been positively
influenced by a number of key factors and trends that we expect to continue in
the near future, including:




*Growth
in Wireless Subscribers.* According
to IDC, the number of global wireless subscribers grew from approximately
749 million in 2000 to 1.3 billion in 2003, and is predicted to grow
to 2.0 billion by 2008, with most of this growth occurring in markets
outside the United States, Western Europe and Japan.




*Deployment
of Advanced Wireless Networks.* Wireless
carriers are deploying high-speed, next-generation digital networks to enhance
wireless voice and data transmission. These advanced networks have enabled the
provisioning and billing of data applications and have increased the ability of
wireless subscribers to quickly download large amounts of data, including games
and other applications, to their mobile phones.




*Availability
of Mobile Phones with Multimedia Capabilities.* Annual
mobile phone sales grew from 385.2 million units in 2001 to
465.0 million units in 2003 and are expected to grow to 689.1 million
units in 2008, according to ARC. In recent years, the mobile phone has evolved
from a voice-only device to a personal data and voice communications device that
enables access to wireless content and data services. Mobile phone manufacturers
are competing for consumers by designing next-generation mobile phones with
enhanced features, including built-in digital cameras, color screens, music,
data connectivity and video. Manufacturers are also embedding application
environments such as BREW and Java into mobile phones to enable multimedia
applications. ARC estimates that global sales of BREW-enabled mobile phones are
expected to grow from 11.6 million units in 2003 to 75.6 million units
in 2008, and global sales of Java-enabled mobile phones are expected to grow
from 95.5 million units in 2003 to 594.9 million units in 2008,
collectively representing approximately 97% of all mobile phones to be sold
globally in 2008. We believe that the availability of these next-generation
mobile phones is driving demand for wireless applications that take
advantage of these advanced multimedia capabilities.




*Demand
for Wireless Applications.* Wireless
carriers are increasingly launching and promoting wireless applications to
differentiate their services and drive revenues. The delivery of games, ring
tones, images, applications and other content to subscribers enables wireless
carriers to leverage both the increasing installed base of next-generation
mobile phones and their investment in high-bandwidth wireless networks.
Consumers are downloading and paying for wireless content offered by the
carriers. ARC predicts that revenue from wireless applications will be $189
billion globally by 2009.







2
 Table of Contents







**Challenges
for Wireless Applications Developers**




We
believe the major challenges faced by wireless application developers, like us,
include:




**  *Dependence
on Wireless Carriers.* Currently,
wireless application developers are highly reliant on wireless carriers for the
successful delivery of their applications and for billing and collecting the
fees for such applications. Many factors outside our control could impair our
ability to deliver our applications through wireless carriers, including the
carriers' preference for our competitors' applications or the carriers' decision
to discontinue altogether the sale of applications such as ours. Cultivating
strong relationships with wireless carriers is critical to the success of our
business.




**  *Need
to Create Compelling Content.* Customers
are demanding increasingly sophisticated and compelling applications. Developers
must be able to develop or license content that can satisfy ever-changing
customer needs. To meet these demands for new and compelling content, developers
must license or acquire externally developed applications, including brand
names, or if they have the necessary resources, invest in research and
development in order to enhance their current offerings and internally develop
new applications internally.




**  *Rapidly
Evolving Market.* The
wireless applications market is evolving rapidly and developers must have the
management and technical expertise to respond adequately to the increasing
technological sophistication and complexity of mobile phones and wireless
networks. To succeed, developers must possess not only technological skills but
also the ability to manage large, technically complex application development,
testing, deployment and distribution efforts.




**  *Intense
Competition.* It
is critical to a developer's ability to effectively compete in the wireless
market that it establish recognition for its products and develop differentiated
applications through research and development, marketing and knowledge of
customer and wireless carrier preferences.




**  *Sales,
Marketing and Support Requirements.* The
size and complexity of the global wireless applications market requires
developers to have sophisticated sales, marketing and support organizations. To
succeed in this market, developers must develop and maintain strong
relationships with wireless carriers. The developer's sales and marketing forces
must have the resources to track and understand customers and competitors, and
successfully reach a large customer base. Developers must also have effective
quality assurance capabilities to deliver high quality products and ensure
customer satisfaction, and the resources and skilled personnel necessary to
efficiently deploy their applications across numerous mobile phone models and
carrier networks. In addition, developers will have to assume an increasing
share of the costs of marketing wireless applications to consumers rather than
relying on wireless carrier co-marketing programs in the future.




**Our
Competitive Strengths**




We
believe that our competitive strengths include:




**  *Applications
Development Expertise.* We
develop our applications with an emphasis on innovation and quality. Our
applications have consistently received high rankings from industry critics. We
believe our high-quality, innovative applications build brand loyalty among our
customers.




**  *Diverse
Portfolio of Properties.* We
develop and distribute a diverse portfolio of wireless applications. Our
applications span multiple categories and are based on intellectual properties
that we create and own, and well-established consumer brands that we license
from third parties. Our licensors include Sports Illustrated, America Online,
Fujifilm, Mattel, The Associated Press, The Wall Street Journal, Phil Hellmuth,
Howard Lederer, Golf Digest, Hooters, The Grateful Dead and others.




**  *Proven
Revenue-Generating Catalog.* Many
of our applications have lasting appeal and continue to generate revenue long
after their initial release due to their high quality and broad availability. In
addition to introducing new applications, we continuously update our existing
applications to take advantage of enhanced functionality of new mobile phone
models which extends the shelf life of our applications. The market data we
collect from sales and usage of our applications has provided us with valuable
insight into carrier and customer preferences which we apply to our future
application development.







3
 Table of Contents






**  *Multiple
Carrier Relationships.* Wireless
carriers are the primary distributors of our applications. We have established
agreements to distribute our applications through 41 wireless carriers. We
believe we have been able to build our carrier distribution channels as a result
of our early commitment to the market, our focus on service to the carrier, the
consistent high quality of our applications and our ability to deploy those
applications on a broad range of mobile phones. We believe that the time and
difficulty involved in building a global wireless distribution channel
represents a significant barrier to entry for our potential competitors.




**  *Proprietary
Technology and Commitment to Research and Development.* We
invest aggressively in research and development to create applications that
leverage the advanced capabilities of next-generation mobile phones and wireless
networks. We have created proprietary technologies that enable us to develop and
deploy innovative applications to more than 153 mobile phone models. Unlike
platform providers, we do not sell or license our proprietary technologies to
wireless carriers, publishers or developers. Instead, we use these technologies
to strengthen our competitive position as a developer. Our proprietary
technologies reduce our reliance on third-party technology platforms and enable
us to adapt quickly to rapid advances in wireless network and mobile phone
technologies. In addition, these technologies allow us to remain neutral to the
technology choices made by wireless carriers and mobile phone manufacturers, and
enable us to reach the broadest number of wireless subscribers possible.




**  *Experienced
Management Team.* Our
executive team and key employees have significant experience in the wireless
applications and wireless communications industries. This broad expertise allows
us to design, develop and deliver increasingly advanced applications that
satisfy the demands of all the key constituents in our market, including
wireless carriers, mobile phone manufacturers, brand licensors and our
customers. In addition, our chief executive officer, executive vice-president of
business development, chief financial officer and general counsel and most of
our key employees have all been with us since 2001 or earlier. We believe our
management team's expertise and continuity is a significant competitive
advantage in the increasingly complex wireless applications market.




**Our
Strategy**




Our
goal is to be the leading developer of mobile media applications that optimize
the consumer wireless multimedia experience in our four primary areas for mobile
phones, smart phones, personal digital assistants (PDA’s) and other handheld
wireless devices.  To achieve this goal, we plan to:




**  *Develop
High-Quality Branded Wireless Applications.* We
believe that developing a diversified portfolio of the highest quality, most
innovative wireless applications is critical to our business. We intend to:




·
    *Develop
      Innovative Applications*.    We
      will continue to devote significant resources to the development of
      high-quality, innovative applications to establish Summus as a leading
      developer of wireless applications in the wireless market. As the wireless
      landscape has rapidly and continuously evolved, we have designed wireless
      applications that have leveraged advancements in wireless network and
      mobile phone technology.




·
    *License
      World-Class Brands*.    We
      will continue to license well-known, third-party brands and collaborate
      with brand holders to introduce third-party branded applications. We
      believe that familiar titles facilitate the adoption of our applications
      by wireless subscribers and wireless carriers, and create strong marketing
      opportunities.





**  *Enhance
Our Distribution Channels.* Strengthening
and expanding our distribution channels is critical to our business. We will
continue to:





·
    *Increase
      Our Deployment Capability*.    We
      customize our applications for use on numerous mobile phone models and
      carrier networks. Deploying wireless applications is a complex process
      that is resource intensive, requires skilled personnel and uses advanced
      technologies. We believe that the time and difficulty involved in building
      and organizing our deployment capabilities represents a significant
      barrier to entry to our potential competitors. To strengthen our
      competitive advantages in deployment, we intend to increase the number of
      managerial and technical employees working in deployment and make further
      investments to increase the scope and efficiency of our deployment
      capability.







4
 Table of Contents










·
    *Strengthen
      Our Wireless Carrier Relationships*.    We
      plan to strengthen our existing relationships with wireless carriers by
      continuing to support their strategic needs and by launching new,
      high-quality, branded, and innovative applications. We also intend to
      build relationships with additional wireless carriers to reach a larger
      subscriber base. We will continue to build our presence in international
      markets where we are already beginning to generate revenue. We plan to
      establish carrier relationships in certain emerging markets as wireless
      infrastructure improves and the availability of next-generation mobile
      phones increases. Where appropriate, we intend to enter new markets to
      leverage and distribute our branded application portfolio.




·
    *Expand
      Use of Alternative Sales and Marketing Channels*.    We
      intend to expand our use of alternative channels to market and sell our
      applications. For example, we have partnered with a third party provider
      to develop internet based store fronts for the distribution of our
      wireless applications. Our own Internet site also enables us to market and
      sell our applications directly to wireless subscribers. We are also
      working with mobile phone manufacturers to embed our applications directly
      into mobile phones prior to sale. When using these alternative channels
      for our wireless applications, the wireless carrier provides the billing
      and collection service and continues to retain a percentage of the
      purchase price.





*Expand
Our Presence.* We
will continue to expand organically as well as pursue attractive acquisition
candidates, including other wireless application providers or related companies,
both in the United States and abroad, to access compelling applications, brands,
technology and talent. Although we have no current agreements to acquire any
companies, we believe that attractive acquisition opportunities exist.





**Our
Applications**





We design
our applications to be innovative. We believe application quality and diversity,
customer and carrier support, and brand recognition are the key components of a
developer’s success and not the number of applications offered. We focus on
selectively increasing our application portfolio with high-quality, innovative
applications.





We
currently offer 28 wireless applications deployed through 41 wireless carriers.
Retail fees for our wireless applications generally range from $1.99 to $6.49
for a one time purchase and from $1.99 to $3.99 for a monthly subscription.
Summus’ gross margin for its wireless applications, which is revenue earned less
the costs of such revenue, for the year ended December 31, 2004, is 50%.








*Primary
Business Areas.*  Summus
focuses on developing wireless applications in four primary areas. These areas
and some of our wireless applications in each are:





—
    *Personalization**.*In
      today’s wireless world, each user has a strong desire to make their mobile
      phone their own. We enable this personalization through wallpaper,
      screensavers, ringtones, photos and other personalized tools to customize
      a mobile phone. Summus offers wallpaper and ringtone applications based on
      content that is popular and relevant today. We launched our first
      personalization product in March 2004 with*Sports
      Illustrated® Swimsuit wallpaper*,
      and have built the distribution of this application to over 20 carrier
      partners supporting over 100 handsets worldwide.*Sports
      Illustrated Swimsuit*has
      generated over 2 million downloads since inception and continues to grow
      in worldwide distribution. Since the launch of*Sports
      Illustrated Swimsuit*,
      Summus has been able to leverage this success by launching four additional
      personalization products, including*College
      & Greek Logos*,*Hooters
      Calendar*,*Grateful
      Dead Wallpaper and Video Screensavers*,
      and*Golf
      Digest*.
      Summus continues to expand its portfolio of marquee personalization
      content to include wallpaper, video screensavers and ringtones. Given the
      success of this business area, along with the expanding carrier
      distribution and exclusive promotion of the content, Summus is looking
      forward to even greater revenue contributions from its current premium
      personalization products and a host of additional personalization products
      in 2005.





—
    *Gaming*.
      In May 2004, Summus launched the industry’s first true multiplayer mobile
      phone game,*Texas
      Hold’Em by Phil Hellmuth.*Today,
      this game is currently available on over 19 carriers supporting over 45
      handsets across multiple operating environments. The game not only
      continues to see more carrier distribution, but its user community is
      expected to surpass the 100,000 user mark by early Q2-2005, and if current
      user and carrier adoption trends continue, Summus expects to have well
      over 200,000 users by year-end. In order to further grow the game’s
      popularity, Summus will be releasing a “tournament-style” version which
      will match the user experience of widely popular online poker sites.





5
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In an
effort to expand its casino game category, Summus recently announced a
partnership with poker legend, Howard Lederer, also known as “The Professor of
Poker”. This tournament-style Texas Hold’em game for the mobile phone will have
a unique tutorial component to educate the player and improve his or her poker
skills, along with visually compelling graphics for a realistic poker
experience.





We also
continue to expand our game portfolio. In March 2005, we entered into an
agreement with Mattel for the development of multiple games. We expect the
Mattel portfolio of games will launch in the latter half of 2005.





·
    *Photo
      messaging.*Over
      the last year, Summus has worked with imaging expert Fuji Photo Film
      U.S.A., Inc. to develop and launch several applications for a suite of
      products that enables consumers to more easily work with the images they
      are taking with the increasingly popular camera phones. Our first
      commercial product of the suite, Fujifilm Mobile Postcard, was launched
      with Cingular Wireless in November 2004. The Mobile Postcard application
      is now being made available to additional carriers and platforms. In
      addition, other photo applications developed in conjunction with Fujifilm
      are in testing queues for launch by several other
  carriers.





With the
development of the photo applications business, and the ever-improving quality
of camera-phone picture-taking capabilities, Summus sees 2005 as a foundation
year in this space and 2006 as a major breakout year for mass consumer adoption
of photo-related applications. Summus
recently announced a significant new relationship with AOL® to develop photo
related products slated
for carrier release in the first half of 2005.





·
    *News/Information**.*Summus
      has recently launched a comprehensive news and financial mobile
      application with The Wall Street Journal.*The
      Wall Street Journal Mobile*is
      currently available on an expanding list of carriers for a monthly
      subscription. The application continues to grow in subscribers and
      popularity as well as distribution. In addition, Summus has already
      executed on plans to expand its presence in this business segment by
      leveraging its relationship with The Associated Press and other prominent
      branded partners, to provide subscription-based multimedia messaging
      services or MMS to carriers and capitalize on the growth of MMS-enabled
      handsets. MMS enabled handsets are the next evolutionary step in the
      expanding messaging marketplace. MMS functionality is available in every
      camera phone sold today and since photo messaging is an evolving market,
      carriers are looking for additional services to take advantage of the rich
      capabilities enabled via MMS.





A
complete list of all our commercial wireless applications can be found on our
website at www.summus.com .





**Distribution
Channels**





We
currently distribute our wireless applications primarily through wireless
carriers to their subscribers. In addition to our carrier distribution channels,
we also distribute our applications through Internet portals. We are also
exploring the possibility of having our wireless applications embedded directly
into mobile phones.





**  *Wireless
Carrier Channel.* We
have agreements to distribute our applications through 41 carriers in at least
18 countries. Our customers download our applications to their mobile phones,
and their wireless carrier bills them a one-time fee or monthly subscription
fee. Our carrier distribution agreements establish the fees to be retained by
the carrier for distributing our applications. Our carrier agreements are not
exclusive and generally have a limited term of one or two years, with evergreen,
or automatic renewal, provisions upon expiration of the initial term. The
agreements generally do not obligate the carriers to market or distribute any of
our applications. In addition, the carriers can terminate these agreements early
and, in some instances, without cause.





For the
year ended December 31, 2004, we received approximately 52% of our revenues from
subscribers of Verizon Wireless, but we do expect this percentage to decrease
over time as more of our wireless applications are launched on other wireless
carriers. No other wireless carrier accounted for over 10% of our total revenues
in 2004.


**


*Other
Sales and Marketing Channels.* Although
we intend to continue distributing our applications primarily through wireless
carriers, we are also developing alternative means of marketing and selling our
applications directly to wireless subscribers, including marketing our
applications through Internet portal sites, our own Internet site, through
mobile phone manufacturers and wireless retail stores. When using these
alternative channels for our wireless applications, the wireless carrier
provides the billing and collection service and continues to retain a percentage
of the purchase price.








6
 Table of Contents





**Development
of Applications**





**  *Development.* We
believe that developing high-quality, innovative and marketable applications is
critical to our success. We primarily use internal resources and personnel to
develop our applications. In addition, we contract with third-party developers
to create some of our applications, and we assign personnel from Summus to
coordinate production based on specifications we provide. We believe that we can
control costs, diversify risk and maintain access to talent by using both
internal and third-party development resources.





Our
applications undergo a complete development process. Executives and personnel
from our sales, marketing, development and deployment areas all participate in
this process. As part of this process, we evaluate every application in
development at major milestones from concept to application release. We believe
that this process contributes to the quality of our applications by allowing us
to address consumer, carrier and other market needs during product development.





**  *Deployment.* Once
an application is completed, it is deployed as broadly as we determine is
commercially viable based on our internal analysis of an application's
marketability and technical feasibility. Specifically, we customize and localize
the application for each mobile phone model on which a particular carrier
intends to distribute the application to its subscribers. In this process, we
seek to customize the application for the screen size, sound capabilities,
memory footprint, local execution environment, operating system and other
characteristics of a particular mobile phone model. As a result of the diverse
markets served by our carriers, we have developed a decentralized deployment
capability that can customize applications based on local languages, wireless
and mobile phone technologies, application platforms, including BREW, J2ME,
Symbian or WAP, and customer preferences. As part of the deployment process, we
also subject our applications to a formal quality assurance process to ensure
that the application meets our quality standards for each mobile phone model for
each carrier on which we distribute, as well as meeting the certification
requirements of the respective carrier.





**Sales
and Marketing**





Our
sales and marketing organization works closely with wireless carriers to create
merchandising and marketing opportunities for our applications. Through ongoing
communications with carrier sales and marketing organizations, we match our
application portfolio with the strategic needs of the carrier and the
preferences of their subscribers.





Our sales
and marketing organization is also responsible for managing our own marketing
efforts. We market our applications through:





·
    TV,
      radio and print advertising;


·
    direct
      marketing;


·
    industry
      trade shows and other events;


·
    sponsorships;


·
    public
      relations;


·
    wireless
      carriers’ advertising and promotions;


·
    carrier’s
      websites;


·
    content
      partner’s websites;


·
    our
      website; and


·
    carrier
      sales training.





As we
build closer relationships with wireless carriers, we can gain more access to
their retail sales and end-user customers. We have participated in carrier
trainings where we go on location to train and educate sales associates about
our products. If the sales associates are familiar with our applications, we
believe they will be more inclined to promote our products to their customers.
We are also getting involved with carriers by sending promotional materials to
retail stores, developing contests for sales associates and customers, doing
giveaways and creating flash demonstrations of our products. We intend to
continue to build our direct marketing capabilities and further develop our
sales and marketing organization by hiring additional sales and marketing
personnel and increasing our marketing expenditures.





7
 Table of Contents








**Competition**





The
wireless applications market is highly competitive and characterized by frequent
product introductions, evolving wireless platforms and new technologies. As
demand for applications continues to increase, we expect new competitors to
enter the market and existing competitors to allocate more resources to develop
and market applications. As a result, we expect competition in the wireless
entertainment market to intensify.




Our
primary competition with respect to our four primary areas of business are as
follows:




·
    Personalization
      - Airborne Entertainment, Verisign, Mforma, Dwango, and
      InfoSpace




·
    Gaming
      - Jamdat, Sorrent, THQ, Gameloft, Infusio, Mobliss, Digital Bridges,
      Mforma and Verisign




·
    Photo
      Messaging - Verisign, Kodak




·
    News/Information
      - Airborne Entertainment, Verisign, Infospace.




The
current and potential competition in the wireless applications market includes
major media companies, traditional video game publishing companies, wireless
carriers, and wireless software providers. Larger, more established companies
are increasingly focused on developing and distributing wireless applications
that directly compete with us. Many of these companies have partnered with
large, well-known brands that have strong distributor outlets and are well
funded.





We also
compete with wireless content aggregators, who pool applications from multiple
developers and offer them to carriers or through other sales channels. We
generally differentiate ourselves from aggregators in several key respects.
Unlike us, aggregators do not typically fund development, provide design input
or provide quality assurance for their applications.





We
believe we compete favorably in the principal competitive factors in our market,
which consist of the following:





·
    a
      broad and deep distribution channel with strong carrier relationships;




·
    a
      diverse portfolio of high-quality, branded applications; and




·
    technical
      capability and management experience.







**Intellectual
Property**





Our
intellectual property is an essential element of our business. We use a
combination of trademark, patent, copyright, trade secret and other intellectual
property laws, confidentiality agreements and license agreements to protect our
intellectual property. Our employees and independent contractors are required to
sign agreements acknowledging that all inventions, trade secrets, works of
authorship, developments and other processes generated by them on our behalf are
our property, and assigning to us any ownership that they may claim in those
works.





Currently,
we have not been awarded any patents. We have filed for four (4) patents. We
cannot be sure that the continued prosecution of these patents will lead to the
issuance of U. S. patents. In addition to patents, we rely on copyright and
trademark laws, trade secrets, confidentiality provisions and other contractual
provisions to protect our proprietary rights. These measures, which require the
expenditure of substantial resources, afford our intellectual property only
limited protection because our competitors and third parties independently may
develop similar technologies or may infringe our intellectual property.
Infringement is difficult to detect and costly to prevent. With respect to the
protection of our proprietary rights internationally, the laws of some foreign
countries may not protect our proprietary rights adequately. In addition, we
will not have patent protection in countries where we do not file patent
applications. Thus, the measures we are taking to protect our proprietary rights
in the United States and abroad may not be adequate and our business may be
harmed as a result.




Effective
trademark, service mark, copyright, trade secret and patent protection may not
be available in every country in which our products may be distributed and
policing unauthorized use of our proprietary information will be difficult, if
not impossible.







8
 Table of Contents







From
time to time, we may encounter disputes over rights and obligations concerning
intellectual property. While we believe that our product and service offerings
do not infringe the intellectual property rights of any third party, we cannot
assure you that we will prevail in any intellectual property dispute. If we do
not prevail in such disputes, we may lose some or all of our intellectual
property protection, be enjoined from further sales of the applications
determined to infringe the rights of others, and/or be forced to pay substantial
royalties to a third party. As of the date of annual report, we do not have any
intellectual property infringement claims or suits against us of any kind.
However, we may be party to additional litigation in the future. Any third-party
claims, with or without merit, could be time-consuming to defend, result in
costly litigation, divert management's attention and resources or require us to
enter into royalty or licensing agreements. Such royalty or licensing
agreements, if required, may not be available on terms acceptable to us, if at
all. A successful claim of infringement against us could harm our future
competitiveness and profitability.




**Government
Regulation**




We are not currently subject to direct federal, state, or local government
regulation, other than regulations that apply to businesses generally. The
telecommunications industry is subject to regulation by federal and state
agencies, including the Federal Communications Commission (FCC), and various
state public utility and service commissions. While such regulation does not
necessarily affect us directly, the effects of these regulations on the wireless
network operators with whom we are seeking to develop relationships may, in
turn, negatively affect our business. FCC regulatory policies affecting the
availability and licensing of bandwidth and other terms on which service
providers conduct their business may impede our plans for the deployment of our
technology.




**Employees**




As of March 28, 2004, we had 35 full-time employees, including 6 in marketing
and sales, 24 in product development, 2 in project management and 3 in corporate
operations and administration. We also have engaged 3 consultants,  2 of
which are in product development and 1 in sales and marketing. We are not
subject to any collective bargaining agreements and believe that our
relationship with our employees is good. Our success depends to a significant
extent upon the performance of our executive officers and other key
personnel.














9
 Table of Contents







**ITEM 2.** **PROPERTIES.**




Our principal executive offices are located at Two Hannover Square, 434
Fayetteville Street, Suite 600, Raleigh, North Carolina 27601. We occupy 11,984
square feet of leased space at such location. Our lease for this space,
representing our principal executive offices, expires October 31, 2006. 
The current annual base rent for such space is approximately $255,258 and will
decrease to approximately $200,682 by the last year of the term.




**ITEM3.** **LEGAL
PROCEEDINGS.**




There
were no matters submitted to a vote of the stockholders during the quarter ended
December 31, 2004.






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




None.




**PART
II**




**ITEM 5.** **MARKET
FOR REGISTRANT’S COMMON STOCK AND RELATED STOCKHOLDER
MATTERS**




**Market
Information**




Our common stock, par value $.001 per share, currently trades on the
Over-the-Counter Bulletin Board®.  The following table provides
information about the high and low bid per share quotations of our common stock
for each full quarterly period during the two years ended December 31, 2003 and
2004, and for the first quarter of 2005 through March 28, 2005, on the OTC
Bulletin Board®, as provided by the National Quotation Bureau, Inc.  These
quotations reflect inter-dealer prices without markup, markdown or commissions
and may not necessarily represent actual transactions. On March 11, 2005, Summus
effected a reverse split of its common stock in which every ten (10) shares of
such common stock was automatically reclassified and converted into one (1)
share of common stock. Accordingly, all share prices in the following table have
been retroactively adjusted to give effect to this event.




**2003**
    
    **Low**
    
    **High**First Quarter
    
    $
    3.50
    
    $
    5.20Second Quarter
    
    $
    2.70
    
    $
    4.50Third Quarter
    
    $
    2.65
    
    $
    4.00Fourth Quarter
    
    $
    1.80
    
    $
    4.70**2004**
    
    
    **Low**
    
    
    **High**First Quarter
    
    $
    1.05
    
    $
    1.95Second Quarter
    
    $
    0.85
    
    $
    2.00Third Quarter
    
    $
    1.55
    
    $
    3.30Fourth Quarter
    
    $
    3.10
    
    $
    6.95******2005**
    
    
    **Low**
    
    
    **High**First Quarter
      (through March 28, 2005)
    
    $
    4.85
    
    $
    6.90




On March 28, 2005, the closing sale price for our common stock as reported on
the OTC Bulletin Board® was $5.05 per share. As of March 28, 2005, we had
approximately 13,436,524 shares of common stock outstanding and approximately
569 stockholders of record. We also have approximately 6,000 beneficial
stockholders who hold shares in brokerage accounts or “street name”.







10
 Table of Contents







We have never declared or paid any cash dividends on our common stock and do not
anticipate paying any cash dividends in the foreseeable future.  We
anticipate that we will retain earnings, if any, to finance the growth and
development of our business.  Therefore, we do not expect to pay cash
dividends on our common stock for the foreseeable future.  Any future
determination to pay cash dividends will be at the discretion of our Board of
Directors and will depend upon our financial condition, operating results,
capital requirements, plans for expansion, restrictions imposed by any financing
arrangements and whatever other factors that our Board of Directors determines
are relevant.




Summus’ 8% Series A convertible preferred stock accrues semi-annual dividends at
a rate of 8% per annum of the initial liquidation price of $1,000 per share on
each of April 1 and October 1.  These dividends are cumulative from the
date of original issue, which was February 28, 2000, and shall be payable when,
as, and if declared by our Board of Directors.  Any dividends payable on
the Series A preferred stock may be paid in additional shares of Series A
preferred stock at our option.




**Penny
Stock**




Our common stock is subject to the provisions of Section 15(g) and Rule 15g-9 of
the Securities Exchange Act of 1934 (the “Exchange Act”), commonly referred to
as the “penny stock rule.”  Section 15(g) sets forth certain requirements
for transactions in penny stocks and Rule 15g-9(d)(1) incorporates the
definition of penny stock that is found in Rule 3a51-1 of the Exchange
Act.




The SEC generally defines penny stock to be any equity security that has a
market price less than $5.00 per share, subject to certain exceptions.  If
our common stock is deemed to be a penny stock, trading in the shares will be
subject to additional sales practice requirements on broker-dealers who sell
penny stocks to persons other than established customers and “accredited
investors” (generally, an individual with a net worth in excess of $1,000,000 or
an annual income exceeding $200,000 or $300,000 together with his or her
spouse).  For transactions covered by this rule, a broker-dealer must make
a special suitability determination for the purchaser and have received the
purchaser’s written consent to the transaction prior to sale.  The rule
also requires the delivery, prior to the transaction, of a risk disclosure
document mandated by the SEC relating to the penny stock market.  The
broker-dealer must also disclose the commissions payable for the transaction,
current quotations for the stock, and, if applicable, the fact that it is the
sole market maker in the stock.  Consequently, the rule may adversely
affect the ability of broker-dealers to sell our securities and may adversely
affect the ability of stockholders to sell their shares in the secondary
market.




**Recent
Sales of Unregistered Securities**




**Stock
Issuances Upon Exercise of Warrants for Cash**




In
October and November 2004, Summus issued an aggregate of 86,207 shares of
unregistered common stock to 1 accredited investor, who is unaffiliated with us,
for aggregate proceeds of $40,517.




Name
      of Purchaser
    Number
      of SharesAlpha
      Capital AG
    86,207




**Stock
Issuances Upon Exercise of Options for Cash**




In
October 2004, Summus issued an aggregate of 24,128 shares of unregistered common
stock to 2 accredited investors, who are unaffiliated with us, for aggregate
proceeds of $64,375.




Name
      of Purchaser
    Number
      of SharesAndy
      Brown
    11,628Jerome
      Bailey
    12,500












11
 Table of Contents







**Stock
Issuances Underlying Convertible Securities**




In
December 2004, holders of Series D preferred stock converted 2,275 shares of
Series D preferred stock into 1,137,500 shares of Summus, Inc. common
stock.




From
October to December 2004, holders of convertible debt converted $600,000 of
convertible debt into 571,440 shares of Summus, Inc. common stock.






**ITEM 6.        SELECTED
FINANCIAL DATA** .




On
February 16, 2001, Summus (formerly High Speed Net Solutions, Inc.) acquired all
the assets and operations of Summus, Ltd. under the terms of an asset purchase
agreement, dated October 30, 2000, as subsequently amended.  In legal form,
the transaction was effected by Summus issuing shares of its common and Series B
convertible preferred stock, and other equity interests, in exchange for the net
assets of Summus, Ltd.  This transaction was accounted for as a capital
transaction of Summus, Ltd., accompanied by a recapitalization. As a result of
the transaction, the historical financial statements of Summus, Ltd. are, for
accounting purposes, deemed to be those of Summus.




The
following selected historical annual financial data has been derived from the
financial statements of Summus (notwithstanding that such selected historical
annual financial data has been labeled as that of Summus, Ltd.). The financial
statements for each of the three years ended December 31, 2004, 2003 and 2002,
have been audited by Ernst & Young LLP, independent registered public
accountants, as indicated in their report included elsewhere in this annual
report on Form 10-K.




The
financial data set forth below should be read in conjunction with “Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of
Operations” and our audited financial statements and notes, which are contained
elsewhere in this annual report.




On March
11, 2005, Summus effected a one-for-ten reverse stock split. Accordingly, all
share and per share amounts have been retroactively adjusted to give effect to
this event.










































12
 Table of Contents







**SUMMUS,
INC.**




**SELECTED
FINANCIAL DATA**




**2000**
    ****
    ****
    **2001**
    ****
    ****
    ****
    **2002**
    ****
    ****
    ****
    **2003**
    ****
    ****
    **2004****Statement
      of Operations Data:**Revenues
    
    $
    1,068,658
    
    $
    749,758
    
    
    $
    406,952
    
    
    $
    1,699,274
    
    $
    5,171,440Costs
      of revenues
    
    
    398,326
    
    
    299,554
    
    
    
    182,109
    
    
    
    1,074,239
    
    
    2,604,060Selling,
      general and administrative expenses
    
    
    6,180,862
    
    
    7,740,867
    
    
    
    6,155,416
    
    
    
    4,597,036
    
    
    3,407,440Non-cash
      compensation and consulting
    
    
    2,127,962
    
    
    956,321
    
    
    
    1,251,992
    
    
    
    304,885
    
    
    221,229Research
      and development
    
    
    1,159,833
    
    
    952,605
    
    
    
    918,948
    
    
    
    1,056,770
    
    
    1,822,023Non-cash
      settlements
    
    
    —
    
    
    1,132,352
    
    
    
    —
    
    
    
    (1,525,698
    )
    
    (126,373
    )Loss
      from operations
    
    
    (8,798,325
    )
    
    (10,331,941
    )
    
    
    (8,101,513
    )
    
    
    (3,807,958
    )
    
    (2,756,939
    )Other
      income (expense):Gain on sale of stock of equity investee(1)
    
    
    3,680,065
    
    
    
    
    
    
    —
    
    
    
    —
    
    
    —Participation in loss of equity investee(2)
    
    
    (6,356,932
    )
    
    —
    
    
    
    —
    
    
    
    —
    
    
    —Interest
      income (expense), net
    
    
    23,911
    
    
    (56,570
    )
    
    
    (469,571
    )
    
    
    (69,343
    )
    
    (62,519
    )Amortization
      of discount on debt and beneficial
      conversion
      feature
    
    
    —
    
    
    —
    
    
    
    —
    
    
    
    —
    
    
    (1,053,349
    )Total other income (expense)
    
    
    (2,652,956
    )
    
    (56,570
    )
    
    
    (469,571
    )
    
    
    (69,343
    )
    
    (1,115,868
    )Loss
      from continuing operations
    
    
    (11,451,281
    )
    
    (10,388,511
    )
    
    
    (8,571,084
    )
    
    
    (3,877,301
    )
    
    (3,872,807
    )Loss
      from operations of discontinued
      Rich Media Direct business(3)
    
    
    —
    
    
    (135,798
    )
    
    
    —
    
    
    
    —
    
    
    —Loss
      on disposal of Rich Media Direct business(3)
    
    
    —
    
    
    (215,500
    )
    
    
    —
    
    
    
    —
    
    
    —Net
      loss
    
    $
    (11,451,281
    )
    $
    (10,739,809
    )
    
    $
    (8,571,084
    )
    
    $
    (3,877,301
    )
    $
    (3,872,807
    )Net
      loss applicable to common stockholders:Net loss
    
    $
    (11,451,281
    )
    $
    (10,739,809
    )
    
    $
    (8,571,084
    )
    
    $
    (3,877,301
    )
    $
    (3,872,807
    )Accretion of beneficial conversion feature of
      preferred stock
    
    
    —
    
    
    —
    
    
    
    —
    
    
    
    (3,286,251
    )
    
    (293,444
    )Preferred stock dividends
    
    
    —
    
    
    (153,700
    )
    
    
    (183,039
    )
    
    
    (171,265
    )
    
    (175,035
    )Net
      loss applicable to common stockholders
    
    $
    (11,451,281
    )
    $
    (10,893,509
    )
    
    $
    (8,754,123
    )
    
    $
    (7,334,817
    )
    $
    (4,341,286
    )Per
      share amounts (basic and diluted):Loss
      applicable to common stockholders from
      continuing operations
    
    $
    (3.48
    )
    $
    (3.04
    )
    
    $
    (1.86
    )
    
    $
    (1.19
    )
    $
    (0.49
    )Loss
      applicable to common stockholders from
      discontinued operations
    
    
    —
    
    
    (0.10
    )
    
    
    —
    
    
    
    —
    
    
    —Net
      loss applicable to common stockholders
    
    $
    (3.48
    )
    $
    (3.14
    )
    
    $
    (1.86
    )
    
    $
    (1.19
    )
    $
    (0.49
    )Weighted
      average shares of common stock
      outstanding giving effect to the
      recapitalization
    
    
    3,293,881
    
    
    3,473,034
    
    
    
    4,714,930
    
    
    
    6,149,125
    
    
    8,865,807







December
      31**2000**
    
    **2001**
    
    **2002**
    
    **2003**
    
    **2004****Balance
      Sheet Data:**Cash
    
    $
    208,495
    
    $
    115,992
    
    $
    25,990
    
    $
    2,188,645
    
    $
    1,405,788Total
      assets
    
    
    1,406,271
    
    
    1,003,524
    
    
    701,174
    
    
    2,880,938
    
    
    2,405,806Total
      stockholders' equity (deficit)
    
    $
    (4,653,812
    )
    $
    (5,708,495
    )
    $
    (4,464,054
    )
    $
    286,025
    
    $
    (87,196
    )


________________________


(1)
    Gain
      on sale of stock of investee during 2000 reflects the gain Summus,
      Ltd. realized upon the sale of common shares of Summus  (whose legal
      name was then High Speed Net Solutions, Inc.) it acquired in
      1999.(2)
    Participation
      in loss of equity investee during 2000 reflects Summus, Ltd.’s share
      of Summus’ losses for  2000.  During 2000, Summus, Ltd.
      accounted for its investment in Summus using the equity method of
      accounting.(3)
    During
      2001, Summus disposed of its Rich Media Direct business and accordingly
      reported the operating activity as discontinued operations in
    2001.





13
 Table of Contents










**ITEM 7.** **MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION**


**AND
RESULTS OF OPERATIONS.**




The
following discussion contains forward-looking statements that involve risks and
uncertainties. Our actual results could differ materially from those anticipated
in these forward-looking statements as a result of certain factors, including
the risk factors included in this report in the section entitled “Factors That
May Affect Our Business, Future Operating Results and Financial Condition.” The
following discussion is qualified in its entirety by, and should be read in
conjunction with, the more detailed information in our financial statements and
the notes thereto appearing elsewhere in this annual report on Form
10-K.




**Change
in Revenue Recognition Policy**




In 2003,
after a careful review of Summus’ revenue recognition policies and giving
consideration to guidance provided for in Emerging Issues Task Force No. 99-19 *Reporting
Revenue Gross as a Principal versus Net as an Agent* (“EITF
99-19”), we changed certain revenue recognition policies affecting revenues
earned by wireless applications and contracts.  Prior to the 4 th quarter
of 2003, we reported revenues earned by wireless applications and contracts and
cost of revenues for wireless applications and contracts  net of certain
third-party costs in the statement of operations.  These transactions were
reclassified in 2003 to reflect a gross revenue presentation with no effect on
gross profit or net loss.  Revenues and costs of revenues for 2002 and
prior periods were not reclassified due to immateriality.




**Key
Developments in 2004**




*Collaboration
Agreement with Fujifilm USA*




In early
2004, Summus and Fujifilm expanded their relationship to develop a broad range
of mobile imaging solutions that enables consumers to capture, store, share and
print all of their digital images in a suite of easy-to-use mobile applications.
Summus has integrated Fujifilm's Get the Picture Online service, an extensive
print network that connects picture-takers to retail photofinishers, with mobile
data services.  This solution gives consumers the option to choose a local
retail location via their mobile devices and send their digital images to the
selected retailer for printing.  The application was launched on BREWTM,
J2METM and WAP.




*Content
Distribution Agreement with Sports Illustrated*




In early
2004, Summus announced an exclusive agreement with Sports Illustrated, in which
Summus is the provider of mobile wallpaper and screen savers in the United
States and Canada featuring content from the Sports Illustrated Swimsuit
Collection. Summus also has a non-exclusive right to provide this mobile
wallpaper and screen savers outside of the United States and Canada.  The
application, Sports Illustrated Swimsuit 2004, debuted in March 2004 on several
carriers and further carrier deployment is continuing.




*Sponsorship
Relationship with Phil Hellmuth for Texas Hold’em*




In the
second quarter of 2004, Summus signed an exclusive agreement with professional
poker player Phil Hellmuth to brand Summus’ Texas Hold'em mobile game. Phil
Hellmuth is a World Poker Champion with nine World Series of Poker (“WSOP”) wins
and is the leader on the WSOP money list with over $3.5 million in
earnings.







14
 Table of Contents







*May
2004 Convertible Notes Payable*




In May
2004, Summus entered into senior convertible debt agreements with certain
investors to provide up to $2,000,000 of financing in the form of convertible
notes payable (the "Notes"). The Notes did not bear interest and were
convertible into shares of Summus’ common stock at the option of the holder. At
the closing of the senior convertible debt agreements, each investor received
715 shares of Summus’s common stock for each $1,000 invested, for a total of
1,428,600 shares of Summus’s common stock. Each $1,000 of senior convertible
debt issued and outstanding was convertible into an additional 1,429 shares of
Summus’s common stock. These Notes were converted into 1,428,600 shares of
Summus’ common stock during 2004.




Upon
closing, Summus received $1,000,000 in cash and the remaining $1,000,000 of
proceeds received were placed in an escrow account with American Stock Transfer
Company (the “Escrow Agent”). Summus was not to have access to this escrowed
$1,000,000 until it achieved positive EBITDA, as defined in the senior
convertible debt agreements, for a one-month period. Summus achieved positive
EBITDA for the month of August 2004 and sent the Escrow Agent a certificate of
its Chief Financial Officer notifying it of such, which gave Summus access to
the escrowed funds. Summus was not required to and did not draw down any of
these funds. Any of the escrowed funds not drawn down by Summus by March 31,
2005, were to be released by the Escrow Agent to the holders of the Notes on a
pro rata basis. Any of the escrowed funds not released by the Escrow Agent to
Summus were to have no conversion rights into the Summus’s common stock as
set forth above. On December 16, 2004, Summus released all of the escrowed
funds, plus accrued interest, to the respective investors on a pro rata
basis.





*December
2004 Convertible Notes Payable*




In
December 2004, Summus entered into senior debt agreements with certain investors
for $1,425,000 of financing in the form of notes payable (the "Senior Notes").
The Senior Notes bore interest at 12% and were to mature on the earlier of when
Summus closed on at least $3,000,000 in financing or May 15, 2005 (“Maturity
Date”). The Senior Notes had an optional conversion feature in that the Senior
Notes were convertible into shares of Summus’s common stock at the option of the
holder, in the event the Senior Notes were not repaid prior to or on the
Maturity Date. The conversion price was to be the lower of 90% of the closing
price of Summus’s common stock on the Maturity Date and 90% of the average
closing prices of Summus’s common stock for the five days prior to optional
conversion.




At the
closing of the Senior Notes, the investors received warrants to purchase 279,413
shares of Summus’ common stock. The warrants were exercisable upon issuance,
have a term of five years and have an exercise price of $5.60 per
share.




*QUALCOMM’s
Quick Pay Program*




In
September 2004, Summus entered into an amendment to its BREW developer agreement
with QUALCOMM in which it agreed to participate in QUALCOMM’s Quick Pay program,
which provides for the acceleration of payments for amounts owed to Summus by
QUALCOMM. Summus entered into this program to reduce its account receivables
position with QUALCOMM and convert these receivables into cash. Summus began
receiving payments under this program in October 2004. Under the terms of the
amendment, Summus shall pay QUALCOMM five percent (5%) of the developer
application or wholesale price set by Summus for each of its BREW applications
for which it is owed payment. QUALCOMM shall pay amounts owed to Summus within
thirty (30) days of the last day of each calendar month regardless of whether
QUALCOMM has received payment from the carriers or not. All amounts received by
Summus from QUALCOMM under this program are on a non-recourse basis. Summus may
terminate its participation in the QUALCOMM Quick Pay program upon thirty days
written notice to QUALCOMM.




*Bowne
Settlement*




On
February 25, 2003, Bowne of New York City, LLC (“Bowne”), a financial printing
firm, filed a civil summons in the Supreme Court of County of New York in the
State of New York, claiming that it was entitled payment in the amount of
$276,373, plus accrued interest, for past services rendered to
Summus.




In August
2004, Summus and Bowne settled the claim between them, whereby both parties
agreed to reduce the total amount owed by Summus to Bowne to $150,000. The
parties also agreed that this amount would be paid by (i) an initial payment of
$10,000, (ii) monthly installments of $6,000 per month from November 1, 2004
through September 1, 2006 and (iii) a final payment of $2,000 on October 1, 2006
by Summus.







15
 Table of Contents







**Subsequent
Events**




*Development
Agreement with America Online, Inc.*




In March
2005, Summus and America Online announced their relationship to develop an
application to bring America Online’s You’ve Got Pictures service to America
Online members on their mobile handheld device. America Online members will be
able to manage online photo albums, save photos as wallpaper, and send pictures
to friends and family members using a mobile email service. The application will
be developed for BREWTM, J2METM and WAP.




*Collaborative
Agreement with Mattel, Inc.*




In March
2005, Summus announced a partnering agreement with Mattel, Inc. to develop and
distribute the card game UNO and other classic games including Ker Plunk!®,
Rock' Em Sock 'Em Robots TM and Toss
Across TM for the
mobile phone. The applications will launch on BREWTM and J2METM.




*Additional
Senior Notes Financing*




In
January 2005, Summus received an additional investment of $215,000 of 12% Senior
Notes, on the same terms as the December 2004 Senior Notes Financing. Summus
originally received $1,425,000 in the initial closing of the Senior Notes in
late December 2004. The holder was also granted warrants to purchase a total of
42,157 shares of Summus’s common stock. The warrants are exercisable upon
issuance, have a term of five years and have an exercise price of $5.60 per
share.




*Exercise
of Warrants*




During
February and March 2005, Summus received approximately $4,110,000 from the
exercise of approximately 1,260,000 warrants to purchase shares of Summus’s
common stock. These warrants were originally issued in connection with private
placements of Summus’s preferred stock and common stock. Summus agreed to
reprice most of these warrants, which originally had exercise prices ranging
from $3.50 to $7.50 per share, to exercise prices ranging from $2.50 to $3.50
per share in consideration for their immediate exercise.




*Exercise
of Stock Options*




In
January and February 2005, Summus issued approximately 58,600 shares in
connection with the exercise of stock options at their original exercise prices
ranging from $1.60 to $5.10 per share. The total received by Summus from these
exercises was approximately $218,000.




*Payment
of Senior Notes*




Due to
the additional financing received by Summus in February and March 2005 from the
exercise of warrants, the maturity of the 12% Senior Notes were accelerated from
the original maturity date of May 15, 2005. Summus repaid the principal balance
of $1,640,000 of the Senior Notes, plus interest at the rate of 12% per annum.
Since the Senior Notes were paid off in accordance with their terms, they will
have no rights of conversion into Summus’ common stock.




*Payment
of H&K Note Payable with stock*




On
January 31, 2005, Summus entered into a modified settlement agreement with
Holland & Knight LLP (“H&K”). The remaining amount of the recorded
liability due to H&K of $209,761 was satisfied through the issuance to
H&K of 47,673 shares of Summus’s common stock. The fair value of the 47,673
shares of common stock was estimated at $243,132, based on the traded value of
Summus’s common stock on the date of the settlement agreement.  The
difference between the estimated fair value of the 47,673 common shares and the
recorded value of the liability of $209,761, totaling $33,371, was recorded as
settlement loss.







16
 Table of Contents







**Results
of Operations**




The
following discussion and analysis of our results of operations and financial
condition should be read in conjunction with our financial statements and
related notes included in this report.




**Year
Ended December 31, 2004 Compared to Year Ended December 31,
2003**




*Revenues*




**Year
      Ended December 31****%
      of Total**
    
    
    
    **%
      of Total****2004**
    
    **Revenues**
    
    **2003**
    
    **Revenues**
    
    **$
      Change**
    
    **%
      Change**Revenues
      by category:Wireless
      applications and
      contracts
    
    $
    5,118,551
    
    
    99.0
    %
    $
    1,395,296
    
    
    82.1
    %
    $
    3,723,255
    
    
    266.8
    %Wireless
      license fees
    
    
    9,000
    
    
    0.2
    
    
    249,951
    
    
    14.7
    
    
    (240,951
    )
    
    (96.4
    %)Contracts
      and license fees
    
    
    43,889
    
    
    0.8
    
    
    54,027
    
    
    3.2
    
    
    (10,138
    )
    
    (18.8
    %)Total
      revenues
    
    $
    5,171,440
    
    
    100.0
    %
    $
    1,699,274
    
    
    100.0
    %
    $
    3,472,166
    
    
    204.3
    %




*Wireless
Applications and Contracts.* Revenue
from wireless applications and contracts increased $3,723,255 to $5,118,551 in
the year ended December 31, 2004, up 266.8% from $1,395,296 in the year ended
December 31, 2003. The increase in revenue from wireless applications and
contracts resulted from the increase in sales of existing wireless applications
and additional wireless applications developed by Summus, launched by several
wireless carriers and purchased by end-users. Summus launched its Sports
Illustrated Swimsuit Collection wallpaper and screen saver application in March
2004 and launched its multi-player Texas Hold’em game application in May 2004.
We continue to increase our subscriber base as well as expanding to new
carriers.




Revenue
earned from wireless applications is recognized upon delivery and acceptance by
the end-user either as a one-time purchase or a monthly
subscription.




*Wireless
License Fees.* Revenue
earned from wireless license fees totaled $9,000 in the year ended December 31,
2004.  Revenue earned from wireless license fees totaled $249,951 in the
year ended December 31, 2003.  During this period, Summus had sold and
delivered existing image software for use in wireless transmission
applications.  During the second half of 2003, Summus changed its focus
from the commercial licensing of its technology to developing wireless
applications.




*Contracts
and License Fees.* Revenue
from contracts and license fees decreased $10,138 to $43,889 in the year ended
December 31, 2004, down 18.8% from $54,027 in the year ended December 31, 2003.
These revenues were generated from providing governmental contract
services.




*Costs
of Revenues*




**Year Ended December 31****2004**
    ****
    ****
    **2003**
    ****
    ****
    **$ Change**
    ****
    ****
    % **Change**Cost
      of revenues by categoryWireless applications and contracts
    
    $
    2,596,823
    
    $
    1,064,643
    
    $
    1,532,180
    
    
    143.9
    %Wireless license fees
    
    
    -
    
    
    -
    
    
    -
    
    
    -Contracts and license fees
    
    
    7,237
    
    
    9,596
    
    
    (2,359
    )
    
    (24.6
    )Total
      cost of revenues
    
    $
    2,604,060
    
    $
    1,074,239
    
    $
    1,529,821
    
    
    142.4
    %












17
 Table of Contents







*Wireless
Applications and Contracts.* Costs of
wireless applications and contracts increased $1,532,180 to $2,596,823 in the
year ended December 31, 2004, up 143.9% from $1,064,643 in the year ended
December 31, 2003. The increase in costs of wireless applications and contracts
resulted from the increase in sales of existing wireless applications and
additional wireless applications developed by Summus, launched by several
wireless carriers and purchased by end-users.  These costs are direct costs
associated with the sale and delivery of wireless applications and primarily
consist of third-party hosting fees, carrier distribution and fees associated
with content information provided by our content providers for wireless
applications which were deployed during the year ended December 31, 2004. The
costs related to third-party hosting and carrier distribution are incurred on a
monthly basis and are primarily fixed in nature regardless of the revenue
generated by the related applications.




*Wireless
License Fees.* There
were no costs of revenues regarding wireless license fees during the years ended
December 31, 2004 and 2003, since the license fee agreements consummated during
this period related to technology that had been previously developed by
us.




*Contracts
and License Fees.* Costs of
contracts and license fees decreased $2,359 to $7,237 in the year ended December
31, 2004, down 24.6% from $9,596 in the year ended December 31, 2003. Costs of
contracts and license fees consisted primarily of salaries and other related
costs of providing governmental contract services.




*Gross
Profit*




**Year
      Ended December 31****2004**
    
    **2003**
    
    **$
      Change**
    
    **%
      Change**Gross
      profit by category:Wireless
      applications and contracts
    
    $
    2,521,728
    
    $
    330,653
    
    $
    2,191,075
    
    
    662.7
    %Wireless
      license fees
    
    
    9,000
    
    
    249,951
    
    
    (240,951
    )
    
    (96.4
    )Contracts
      and license fees
    
    
    36,652
    
    
    44,431
    
    
    (7,779
    )
    
    (17.5
    )Total
      gross profit
    
    $
    2,567,380
    
    $
    625,035
    
    $
    1,942,345
    
    
    310.8
    %




*Wireless
Applications and Contracts.* Gross
profit resulting from the development and deployment of wireless applications
increased $2,191,075 to $2,521,728 for the year ended December 31, 2004, an
increase of 662.7% over the gross profit for the year ended December 31, 2003 of
$330,653.  The increase in gross profit resulting from these activities
corresponds with the increase in revenues from wireless applications and
contracts. The costs for these revenues include costs that are primarily fixed
in nature, consisting mostly of third-party hosting fees and content information
provided by certain of our content providers, and costs that are primarily
variable in nature, consisting mostly of third-party content
information.




*Wireless
License Fees.* Gross
profit resulting from wireless license fees totaled $9,000 and $249,951 for the
years ended December 31, 2004 and 2003, respectively.  Summus did not incur
any specific direct costs associated with the sale, delivery, or installation of
the software underlying the license agreements consummated during the
period.  During the second half of 2003, we changed our focus from the
commercial licensing of its technology to developing wireless
applications.  Additionally, we do not expect to incur any future
obligations relating to these license fees.




*Contracts
and License Fees.* Gross
profit resulting from government contract services decreased $7,779 to $36,652
in the year ended December 31, 2004, down 17.5% from $44,431 in the year ended
December 31, 2003.  The gross profit from these services resulted from
deducting primarily salaries and other related costs from the related earned
revenue.




*General
and Administrative Expenses*




**Year
      Ended December 31****2004**
    
    **2003**
    
    **$
      Change**
    
    **%
      Change**General
      and administrative
    
    $
    2,694,571
    
    $
    4,204,029
    
    $
    (1,509,458
    )
    
    (35.9
    %)












18
 Table of Contents







General
and administrative expenses consist primarily of salaries, consulting fees,
office operations, administrative and general management activities, including
legal, accounting and other professional fees. General and administrative
expenses for the year ended December 31, 2004 were $2,694,571, compared to
$4,204,029 for year ended December 31, 2003.  The decrease in general and
administrative expenses during the current period as compared to the prior
period reflects a reduction in several expense categories, namely salaries,
third-party consulting fees, travel and general office administration costs. The
reductions in these categories reflect continued cost reduction efforts
implemented by management.




*Research
and Development Expenses*




**Year
      Ended December 31****2004**
    
    **2003**
    
    **$
      Change**
    
    **%
      Change**Research
      and development
    
    $1,822,023
    
    $1,056,770
    
    $765,253
    
    72.4%




Research
and development expenses consist primarily of salaries and consulting fees.
Research and development expenses for the year ended December 31, 2004, were
$1,822,023 compared to $1,056,770 for the year ended December 31, 2003. The
increase in research and development expenses is a result of the increased
number of wireless applications Summus has in development.  We are focusing
our resources on the development of new products for rapid
deployment.




*Sales
and Marketing Expenses*




**Year
      Ended December 31****2004**
    
    **2003**
    
    **$
      Change**
    
    **%
      Change**Sales
      and marketing
    
    $712,869
    
    $393,007
    
    $319,862
    
    81.4%




Sales and
marketing expenses consist primarily of salaries, consulting fees, advertising
fees and other professional fees. Sales and marketing expenses for the year
ended December 31, 2004 were $712,869, compared to $393,007 for year ended
December 31, 2003.  The increase in sales and marketing expenses during the
current period as compared to the prior period reflects a focus to deploy and
market new products in order to continue increasing revenues. In addition, we
executed a strategically focused marketing campaign in late 2004 for Texas
Hold’em.






*Non-Cash
Compensation Expenses*




**Year
      Ended December 31****2004**
    
    **2003**
    
    **$
      Change**
    
    **%
      Change**Non-cash
      compensation
    
    $79,521
    
    $185,255
    
    $(105,734)
    
    (57.1%)




Non-cash
compensation for the year ended December 31, 2004 was $79,521 compared to
$185,255 for the year ended December 31, 2003. Non-cash compensation for the
year ended December 31, 2003 resulted from the amortization of deferred
compensation resulting from stock options granted in prior years, at prices
below the fair value of the underlying common stock. The decrease in the amount
recorded in the current period as compared to the prior period reflects that
prior years’ deferred compensation was fully amortized in the year ended
December 31, 2004.






*Non-Cash
Consulting Expenses*




**Year
      Ended December 31****2004**
    
    **2003**
    
    **$
      Change**
    
    **%
      Change**Non-cash
      consulting
    
    $141,708
    
    $119,630
    
    $22,078
    
    18.4%












19
 Table of Contents







Non-cash
consulting expense for the year ended December 31, 2004, in the amount of
$141,708 is attributable to 44,536 stock options and 16,230 stock warrants
granted to consultants for services, valued using the Black-Scholes
option-pricing model.




Non-cash
consulting expense for the year ended December 31, 2003, in the amount of
$119,630 is attributable to: (1) the issuance of 17,926 shares of restricted
common stock issued to consultants for services valued at $65,803; (2) 10,340
stock options granted to consultants for services valued at $29,888, such value
was determined by using the Black-Scholes option-pricing model; (3) the $20,000
of amortization of a deferred expense recorded in 2002 relating to the issuance
of 5,556 shares of restricted common stock, valued at $22,500, for consulting
services to be rendered over a 4.5 month period; and (4) $3,939, representing
the fair value, as determined using the Black-Scholes option-pricing model, of
stock warrants granted to a consultant of
Summus.




*Non-cash
Settlements*




**Year
      Ended December 31****2004**
    
    **2003**
    
    **$
      Change**
    
    **%
      Change**Non-cash
      settlements
    
    $(126,373)
    
    $(1,525,698)
    
    $(1,399,325)
    
    (91.7%)




On August
31, 2004, Summus signed and executed an agreement pertaining to payment for
prior printing services provided to us valued at $276,373 with Bowne of New York
City, LLC. The aggregate settlement gain resulting from this transaction totaled
$126,373.




Non-cash
settlements totaling $1,525,698 resulted from the settlement of unpaid amounts
from seven of Summus’ creditors during the year ended December 31, 2003, as
listed below:




·
    The
      first non-cash settlement was in connection with a settlement of a civil
      law suit by Holland & Knight LLP (“H&K”), a creditor of Summus,
      seeking payment for prior legal services provided to us valued at
      $867,268.  The aggregate settlement gain resulting from this
      transaction totaled $351,047.




·
    On
      June 5, 2003, Summus signed and executed an agreement pertaining to the
      payment of amounts owed to a current service provider.  The aggregate
      settlement loss resulting from this transaction totaled
      $17,097.




·
    In
      February 2003, Summus signed and executed a mutual release of all claims
      with a former law firm that had provided legal services to us. Under the
      terms of the mutual release, all fees owed to the former law firm,
      totaling $886,557 were cancelled in full, resulting in a settlement gain
      of $886,557.




·
    In
      March 2003, Summus settled a claim filed against it by AT&T CORP. for
      payment of past services rendered to us.




·
    Under
      the terms of the settlement, all amounts owed by Summus to AT&T CORP.
      were reduced by $118,783 to $120,000.




·
    On
      August 29, 2003, Summus signed and executed an agreement pertaining to the
      payment of amounts owed to a current service provider.  The aggregate
      settlement gain resulting from this transaction totaled
      $14,500.




·
    On
      September 30, 2003, Summus signed and executed an agreement pertaining to
      a promissory note with Raytheon Company. The aggregate settlement gain
      resulting from this transaction totaled
$55,241.




·
    In
      2003, Summus issued warrants to purchase 33,334 shares of common stock to
      a consultant as payment of $200,000 of outstanding fees. The settlement
      gain resulting from this transaction totaled
$116,667.




These
non-cash settlements have been recorded as a reduction to our accounts payable
and a credit in the statement of operations.






*Interest
Expense*




**Year
      Ended December 31****2004**
    
    **2003**
    
    **$
      Change**
    
    **%
      Change**Interest
    
    $62,519
    
    $69,343
    
    $(6,824)
    
    (9.8)
      %












20
 Table of Contents







Interest
expense for the year ended December 31, 2004, was $62,519, compared to interest
expense of $69,343 for the year ended December 31, 2003. Interest expense for
each of the years relates to interest costs associated with capital lease
obligations and note payable agreements. The decrease in interest expense is due
primarily to the decrease in principal on capital lease obligations and notes
payable.






*Amortization
of discount on debt and beneficial conversion feature*




**Year
      Ended December 31****2004**
    
    **2003**
    
    **$
      Change**
    
    **%
      Change**Amortization
      of discount on debt
      and
      beneficial conversion feature
    
    $1,053,349
    
    $ -
    
    $1,053,349
    
    100.0%




Amortization
of discount on debt and beneficial conversion feature for the year ended
December 31, 2004 was $1,053,349. This related to amortization of the discounts
on the convertible notes payable entered into in May 2004 and December 2004.
From September to December 2004, investors converted $1,000,000 of convertible
notes payable entered into in May 2004. The discount on these notes of
$1,000,000 was fully amortized as interest expense in the year ended December
31, 2004. The amortization of the discount related to the convertible notes
payable entered into in December 2004 was $53,349 in the year ended December 31,
2004. There was no amortization of discount on debt and beneficial conversion
feature for the year ended December 31, 2003.




*Net
Loss*




**Year
      Ended December 31****2004**
    
    **2003**
    
    **$
      Change**
    
    **%
      Change**Net
      loss
    
    $3,872,807
    
    $3,877,301
    
    $(4,494)
    
    (0.1%)




As a
result of the factors discussed above, the net losses for the year ended
December 31, 2004 and 2003 were $3,872,807 and $3,877,301,
respectively.




**Year
ended December 31, 2003 compared to Year ended December 31,
2002**




*Revenues*




**Year
      Ended December 3****%
      of Total**
    
    
    
    **%
      of Total****2003**
    
    **Revenues**
    
    **2002**
    
    **Revenues**
    
    **$
      Change**
    
    **%
      Change**Revenues
      by category:Wireless applications andcontracts
    
    $
    1,395,296
    
    
    82.1
    %
    $
    204,133
    
    
    50.2
    %
    $
    1,191,163
    
    
    583.5
    %Wireless
      license fees
    
    
    249,951
    
    
    14.7
    
    
    -
    
    
    -
    
    
    249,951
    
    
    100.0
    %Contracts
      and license fees
    
    
    54,027
    
    
    3.2
    
    
    202,819
    
    
    49.8
    
    
    (148,792
    )
    
    (73.4
    %)Total
      revenues
    
    $
    1,699,274
    
    
    100.0
    %
    $
    406,952
    
    
    100.0
    %
    $
    1,292,322
    
    
    317.6
    %












21
 Table of Contents







*Wireless*  *Applications
and Contracts.* Revenue from wireless applications and contracts increased $1,191,163 to
$1,395,296 during the year ended December 31, 2003, up 583.5% from $204,133 in
the year ended December 31, 2002.  The increase in revenue from wireless
applications and contracts resulted from the increase in sales of existing
wireless applications and additional wireless applications developed by Summus,
launched by several wireless carriers and purchased by end-users.  During
the year ended December 31, 2003, up to eleven (11) wireless carriers in the
United States and eight (8) international carriers currently deployed at least
one or a combination of the twenty-five (25) wireless applications that have
been developed by us. Each of the applications deployed were developed following
agreements with a content partner to provide access to their content, except the
Picture This!TM (formerly exegoTM) application, which was internally developed by
Summus.




Revenue
earned from wireless applications is recognized upon delivery and acceptance by
the end-user either as a one-time purchase per use or a monthly subscription.
  Revenue totaling $100,000 from wireless applications and contracts during
the year ended December 31, 2002, resulted solely from a strategic partnership
agreement related to the mobile and wireless markets.  Revenue under this
agreement was recognized ratably over the year ended December 31,
2002.




*Wireless
License Fees.* Revenue
earned from wireless license fees totaled $249,951 in the year ended December
31, 2003.  During this period, Summus had sold and delivered existing image
software for use in wireless transmission applications.  During the year
ended December 31, 2002, we did not generate any revenue or costs of revenue
related to wireless license fees.




*Contracts
and License Fees.* Revenue
from contracts and license fees decreased $148,792 to $54,027 in year ended
December 31, 2003, down 73.4% from $202,819 in the year ended December 31,
2002.  The decrease in contract and license fees resulted from the Summus
shifting its primary focus during the second quarter of 2002 from providing
governmental contract services and the commercial licensing of its established
technology in non-wireless environments to the development of solutions for the
mobile and wireless markets.  Revenues earned during the years ended
December 31, 2003 and 2002 were generated from providing governmental contract
services and the commercial licensing of technology.




*Costs
of Revenues*




**Year
      Ended December 31****2003**
    ****
    ****
    **2002**
    ****
    ****
    **$
      Change**
    ****
    ****
    **%
      Change**Cost
      of revenues by categoryWireless applications and contracts
    
    $
    1,064,643
    
    $
    118,263
    
    $
    946,380
    
    
    800.2
    %Wireless license fees
    
    
    -
    
    
    -
    
    
    -
    
    
    -Contracts and license fee
    
    
    9,596
    
    
    63,846
    
    
    (54,250
    )
    
    (85.0
    )Total
      cost of revenues
    
    $
    1,074,239
    
    $
    182,109
    
    $
    892,130
    
    
    489.9
    %




*Wireless
Applications and Contracts.* Costs of wireless applications and contracts increased $946,380 to $1,064,643
during the year ended December 31, 2003, up 800.2% from $118,263 for the year
ended December 31, 2002.  These costs are direct costs associated with the
sale and delivery of wireless applications and primarily consist of third-party
hosting fees, carrier distribution and fees associated with content information
provided by our content providers for wireless applications which were deployed
during the year ended December 31, 2003.  The costs related to third-party
hosting and carrier distribution are incurred on a monthly basis and are
primarily fixed in nature regardless of the revenue generated by the related
applications.  During the year ended December 31, 2002, there were no
direct costs associated with $100,000 of wireless applications and contracts
revenue earned from a strategic partnership agreement because there were no
specific, direct costs associated with the agreement related to the mobile and
wireless markets. **




*Wireless
License Fees.* There
were no costs of revenues regarding wireless license fees during the year ended
December 31, 2003 since the license fee agreements consummated during this
period related to technology that had been previously developed by us. During
the year ended December 31, 2002, Summus did not generate any revenue or costs
of revenue related to wireless license fees.







22
 Table of Contents







*Contracts
and License Fees.* Costs of
contracts and license fees decreased $54,250 to $9,596 during the year ended
December 31, 2003, down 85.0% from $63,846 for the year ended December 31,
2002.  The decrease in costs of contract and license fees resulted from us
shifting its primary focus during the second quarter of 2002 from providing
governmental contract services and the commercial licensing of its established
technology in non-wireless environments to the development of solutions for the
mobile and wireless markets.  Costs of contracts and license fess consisted
primarily of salaries and other related costs of providing governmental contract
services, as well as any direct costs related to the sale, delivery and
installation of its commercial software.




*Gross
Profit*




**Year
      Ended December 31****2003**
    
    **2002**
    
    **$
      Change**
    
    **%
      Change**Gross
      profit by category:Wireless
      applications and contracts
    
    $
    330,653
    
    $
    85,870
    
    $
    244,783
    
    
    285.1
    %Wireless
      license fees
    
    
    249,951
    
    
    -
    
    
    249,951
    
    
    100.0Contracts
      and license fees
    
    
    44,431
    
    
    138,973
    
    
    (94,542
    )
    
    (68.0
    )Total
      gross profit
    
    $
    625,035
    
    $
    224,843
    
    $
    400,192
    
    
    178.0
    %




*Wireless
Applications and Contracts.* Gross
profit resulting from the development and deployment of wireless applications
totaled $330,653 or 23.7% of wireless applications and contracts revenue for the
year ended December 31, 2003.  During the year ended December 31, 2002, we
generated a gross profit of $85,870 or 42.1% of wireless applications and
contract revenue. The gross profit resulting from these activities is a result
of deducting costs consisting mostly of third-party hosting fees, testing fees,
and content information provided by our content providers, from the related
earned revenue.  During the year ended December 31, 2002, Summus earned
$100,000 under a strategic partnership agreement related to the mobile and
wireless markets.  There were no specific direct costs associated with this
contract.




*Wireless
License Fees.* Gross profit resulting from wireless license fees totaled $249,951.  Summus
did not incur any specific direct costs associated with the sale, delivery, or
installation of the software underlying the license agreements consummated
during the year ended December 31, 2003.  Additionally, we do not expect to
incur any future obligations relating to these license fees. During the year
ended December 31, 2002, we did not generate any revenue, costs of revenue or
gross profit related to wireless license fees.




*Contracts
and License Fees.* Gross
profit resulting from governmental contract services and the commercial
licensing of technology during the year ended December 31, 2003 totaled $44,431
or 82.2% of contracts and license fee revenue.  During the year ended
December 31, 2002, Summus generated a gross profit of $138,973 or 68.5% of
contracts and license fees revenue.  The gross profit from these activities
resulted from deducting primarily salaries and other related costs from the
related earned revenue.




*General
and Administrative Expenses*




**Year
      Ended December 31****2003**
    
    **2002**
    
    **$
      Change**
    
    **%
      Change**General
      and administrative
    
    $4,204,029
    
    $5,363,025
    
    $(1,158,996)
    
    (21.6%)




General
and administrative expenses consist primarily of salaries, consulting fees,
office operations, administrative and general management activities, including
legal, accounting and other professional fees. General and administrative
expenses for the year ended December 31, 2003, were $4,204,029, compared to
$5,363,025 for the year ended December 31, 2002.  The decrease in general
and administrative expenses during the current period as compared to the prior
period reflect a reduction in several expense categories, primarily salaries,
third-party consulting fees, travel and general office administration
costs.  The reductions in these categories reflect cost reduction efforts
implemented by management.







23
 Table of Contents







*Research
and Development*




**Year
      Ended December 31****2003**
    
    **2002**
    
    **$
      Change**
    
    **%
      Change**Research
      and development
    
    $1,056,770
    
    $918,948
    
    $137,822
    
    15.0%




Research
and development expenses for the year ended December 31, 2003, were $1,056,770
compared to $918,948 for the year ended December 31, 2002.  The increase in
research and development expenses is a result of two factors.  First, there
was an increase in the number of new wireless applications Summus has contracted
to develop.  In order to minimize these expenses, we increased our
utilization of software developers in Croatia.  Personnel costs in Croatia
are lower than those in the United States.  Second, the increase of the
research and development costs in the current period as compared to the prior
period resulted from a reallocation of employees who previously worked on
governmental contracts.  Beginning in late 2002, we shifted our focus to
developing wireless applications from providing governmental contract services
and the commercial licensing of its technology in non-wireless
environments.  Accordingly, all employees who were previously assigned to
work on such contracts were assigned to work on research and development
activities in the mobile and wireless sector.




*Sales
and Marketing Expenses*




**Year
      Ended December 31****2003**
    
    **2002**
    
    **$
      Change**
    
    **%
      Change**Sales
      and marketing
    
    $393,007
    
    $792,391
    
    ($399,384)
    
    (50.4%)




Sales and
marketing expenses consist primarily of salaries, consulting fees, advertising
fees and other professional fees. Sales and marketing expenses for the year
ended December 31, 2003 were $393,007, compared to $792,391 for year ended
December 31, 2002.  The decrease in sales and marketing expenses during
2003 as compared to the prior period was primarily due to a reduction in
personnel and consultant expense.




*Non-Cash
Compensation*




**Year
      Ended December 31****2003**
    
    **2002**
    
    **$
      Change**
    
    **%
      Change**Non-cash
      compensation
    
    $185,255
    
    $364,000
    
    $(178,745)
    
    (49.1%)




Non-cash
compensation for the year ended December 31, 2003 was $185,255 compared to
$364,000 for the year ended December 31, 2002.  Non-cash compensation for
the year ended December 31, 2003, reflects the amortization for twelve months of
deferred compensation resulting from stock options granted in prior years and
during the year ended December 31, 2003, at prices below the fair value of the
underlying common stock.




Non-cash
compensation for the year ended December 31, 2002, of $364,000 includes $202,642
of amortization for twelve months of deferred compensation resulting from stock
options granted in prior years, at prices below the fair value of the underlying
common stock. The remaining amount of $161,358 reflects stock options that were
granted to an employee with exercise prices below the estimated fair value of
the underlying common stock.







24
 Table of Contents







*Non-* C *ash
Consulting Expense*




**Year
      Ended December 31****2003**
    
    **2002**
    
    **$
      Change**
    
    **%
      Change**Non-cash
      consulting
    
    $119,630
    
    $887,992
    
    $(768,362)
    
    (86.5%)




Non-cash
consulting expense for the year ended December 31, 2003, in the amount of
$119,630 is attributable to: (1) the issuance of 17,926 shares of restricted
common stock issued to consultants for services valued at $65,803; (2) 10,340
stock options granted to consultants for services valued at $29,888, such value
was determined by using the Black-Scholes option-pricing model; (3) the $20,000
of amortization of a deferred expense recorded in 2002 relating to the issuance
of 5,556 shares of restricted common stock, valued at $22,500, for consulting
services to be rendered over a 4.5 month period; and (4) $3,939, representing
the fair value, as determined using the Black-Scholes option-pricing model, of
stock warrants granted to a consultant of Summus.




Non-cash
consulting expense for the year ended December 31, 2002, in the amount of
$887,992 is attributable to the following: (1) the issuance of 39,457 shares of
restricted common stock and 45,354 options and warrants to purchase restricted
common stock to consultants for services valued at $765,477; (2) stock options
granted to three new members of our Advisory Board during the year ended
December 31, 2002, resulting in deferred consulting expense of $103,950, of
which $97,515 was charged to expense during the year ended December 31, 2002;
and (3) a stock option granted to a member of our Advisory Board for consulting
services resulting in total deferred consulting expense of $40,000, of which
$25,000 was charged to expense during the year ended December 31, 2002. 
The remaining amounts of deferred compensation not charged to expense will be
charged to expense as future vesting of the stock options occurs.  
The value of the stock options granted to consultants, including the members of
the Board of Advisors, was determined by using the Black-Scholes option-pricing
model.




*Non-cash
Settlements*




**Year
      Ended December 31****2003**
    
    **2002**
    
    **$
      Change**
    
    **%
      Change**Non-cash
      settlements
    
    $(1,525,698)
    
    $ -
    
    $(1,525,698)
    
    (100.0
      %)




Non-cash
settlements totaling $1,525,698 resulted from the settlement of unpaid amounts
from seven of our creditors during the year ended December 31, 2003, as listed
below:




·
    The
      first non-cash settlement was in connection with a settlement of a civil
      law suit by Holland & Knight LLP (“H&K”), a creditor of Summus,
      seeking payment for prior legal services provided to Summus valued at
      $867,268.  The aggregate settlement gain resulting from this
      transaction totaled $351,047.




·
    On
      June 5, 2003, we signed and executed an agreement pertaining to the
      payment of amounts owed to a current service provider.  The aggregate
      settlement loss resulting from this transaction totaled
      $17,097.




·
    In
      February 2003, we signed and executed a mutual release of all claims with
      a former law firm that had provided legal services to Summus. Under the
      terms of the mutual release, all fees owed to the former law firm,
      totaling $886,557 were cancelled in full, resulting in a settlement gain
      of $886,557.




·
    In
      March 2003, we settled a claim filed against it by AT&T CORP. for
      payment of past services rendered to us. Under the terms of the
      settlement, all amounts owed by Summus to AT&T CORP. were reduced by
      $118,783 to $120,000.




·
    On
      August 29, 2003, Summus signed and executed an agreement pertaining to the
      payment of amounts owed to a current service provider.  The aggregate
      settlement gain resulting from this transaction totaled
      $14,500.




·
    On
      September 30, 2003, we signed and executed an agreement pertaining to a
      promissory note with Raytheon Company. The aggregate settlement gain
      resulting from this transaction totaled
$55,241.




·
    In
      2003, we issued warrants to purchase 33,334 shares of common stock to a
      consultant as payment of $200,000 of outstanding fees. The settlement gain
      resulting from this transaction totaled
$116,667.







25
 Table of Contents







The total
aggregate settlement gain resulting from these transactions in 2003 was
$1,525,698 and has been recorded as a reduction to our operating expenses in our
Statement of Operations for the year ended December 31, 2003. There were no
non-cash settlements in the year ended December 31, 2002.






*Interest
Expense*




**Year
      Ended December 31****2003**
    
    **2002**
    
    **$
      Change**
    
    **%
      Change**Interest
    
    $69,343
    
    $50,606
    
    $18,737
    
    37.0
      %




Interest
expense for the year ended December 31, 2003, was $69,343, compared to interest
expense of $50,606 for the year ended December 31, 2002. Net interest expense
for both years related to interest costs associated with capital lease
obligations and note payable agreements.




*Amortization
of discount on debt and beneficial conversion feature*




**Year
      Ended December 31****2003**
    
    **2002**
    
    **$
      Change**
    
    **%
      Change**Amortization
      of discount on debt
      and
      beneficial conversion feature
    
    $ -
    
    $418,965
    
    $(418,965)
    
    (100.0%)




There was
no amortization of discount on debt and beneficial conversion feature for the
year ended December 31, 2003. Amortization of discount on debt and beneficial
conversion feature for the year ended December 31, 2002 was $418,965, related to
amortization of the discounts on the convertible notes payable entered into in
July 2002.




*Net
Loss*




**Year
      Ended December 31****2003**
    
    **2002**
    
    **$
      Change**
    
    **%
      Change**Net
      loss
    
    $3,877,301
    
    $8,571,084
    
    $(4,693,783)
    
    (54.8%)




As a
result of the factors discussed above, the net losses for the years ended
December 31, 2003 and 2002 were $3,877,301 and $8,571,084,
respectively.




**Liquidity
and Capital Resources**




As of
December 31, 2004 we had $1,405,788 of cash on hand, negative working capital of
$130,508, and approximately $2.4 million in current liabilities.







26
 Table of Contents







*Convertible
Debt Funding*




In May
2004, Summus entered into senior convertible debt agreements with certain
investors that provide up to $2,000,000 in financing through the issuance of
convertible notes payable (the "Notes"). These Notes did not bear interest and
were convertible into shares of Summus common stock at the option of the
holder.  These Notes were to mature three years from the date of
issuance.   Upon closing of the Notes, we received $1,000,000 in cash
and $1,000,000 of the proceeds received in this financing were placed in an
escrow account with American Stock Transfer Company (the “Escrow Agent”). Summus
was not to have access to this escrowed $1,000,000 until it achieved positive
EBITDA, as defined in the senior convertible debt agreements, for a one-month
period. Summus achieved positive EBITDA for the month of August 2004 and sent
the Escrow Agent a certificate of its Chief Financial Officer notifying it of
such, which gave us access to the escrowed funds. Summus was not required to and
did not draw down any of these funds. Any of the escrowed funds not drawn down
by us by March 31, 2005, were to be released by the Escrow Agent to the holders
of the Notes on a pro rata basis. Any of the escrowed funds not released by the
Escrow Agent to Summus were to have no conversion rights into the Summus
common stock as set forth above. On December 16, 2004, we released all of the
escrowed funds, plus accrued interest, to the respective investors on a pro rata
basis. From September to December 2004, these notes were converted into
1,428,600 shares of common stock.






In
December 2004, Summus entered into senior debt agreements with certain investors
for $1,425,000 of financing in the form of notes payable (the "Senior Notes").
The Senior Notes bore interest at 12% and were to mature on the earlier of when
Summus closed on at least $3,000,000 in financing or May 15, 2005 (“Maturity
Date”). The Senior Notes had an optional conversion feature in that the Senior
Notes were convertible into shares of our common stock at the option of the
holder, in the event the Senior Notes were not repaid prior to or on the
Maturity Date. The conversion price was the lower of 90% of the closing price of
our common stock on the Maturity Date and 90% of the average closing prices of
Summus common stock for the five days prior to optional conversion.




*Subsequent
Events*




In
January 2005, Summus received an additional investment of $215,000 of 12% Senior
Notes, on the same terms as the December 2004 Senior Notes Financing. Summus
originally received $1,425,000 in the initial closing of the Senior Notes in
late December 2004. The holder was also granted warrants to purchase a total of
42,157 shares of Summus’s common stock. The warrants are exercisable upon
issuance, have a term of five years and have an exercise price of $5.60 per
share.




During
February and March 2005, Summus received approximately $4,110,000 from the
exercise of approximately 1,260,000 warrants to purchase shares of Summus’s
common stock. These warrants were originally issued in connection with private
placements of Summus’s preferred stock and common stock. Summus agreed to
reprice most of these warrants, which originally had exercise prices ranging
from $3.50 to $7.50 per share, to exercise prices ranging from $2.50 to $3.50
per share in consideration for their immediate exercise.




In
January and February 2005, Summus issued approximately 58,600 shares in
connection with the exercise of stock options at their original exercise prices
ranging from $1.60 to $5.10 per share. The total received by Summus from these
exercises was approximately $218,000.




Due to
the additional financing received by Summus in February and March 2005, the
maturity of the 12% Senior Notes accelerated from the original maturity date of
May 15, 2005. Summus repaid the principal balance of $1,640,000 of the Senior
Notes, plus interest at the rate of 12% per annum. Since the Senior Notes were
paid off in accordance with their terms, they will have no rights of conversion
into Summus’s common stock.







27
 Table of Contents







*Other
Matters*




From
inception through our 2004 fiscal year, our primary source of funding for our
operations came from the issuance of shares of our common stock in private
placements to investors. We believe that we have enough working capital to fund
and sustain our business operations through the 2005 fiscal year and beyond.
However, business opportunities, such as product or geographic expansion, or the
acquisition of product lines or companies may present themselves. If we were to
pursue these opportunities, they may require that we raise additional capital
through the issuance of our equity securities or that we issue shares of our
common stock or other equity securities in connection with
acquisitions.   If we have to raise additional funding, we cannot
guarantee that we will be able to raise the necessary capital or that, if we do
so, it will be on favorable terms. We may have to sell equity at below market
rates, and any future sales of our capital stock to finance our business plan
will dilute our existing stockholders' ownership.




We have
entered into settlement agreements or arrangements with several of our vendors
under which such vendors have agreed to our payment of less than the amounts
due, the extension of payment terms by between 9-36 months and/or the
satisfaction of the amounts due through a combination of cash and stock. 
As of the date of this filing, we have been able to make all of the required
payments established under settlement agreements previously arranged with
certain vendors. We continue to communicate with our vendors to keep them
informed of our situation and discuss payment arrangements amiable to both
parties under the current circumstances.  As of December 31, 2004, we had
approximately $1.2 million in accounts payable, of which approximately $0.4
million were greater than 90 days old.




Summus is
actively promoting and expanding its product line and pursuing additional
financing for capital to expand its operations.




Subject
to our liquidity constraints (including our need to dedicate cash flow to meet
our obligations on a timely basis), we intend to invest a larger portion of our
working capital on:




·
    increasing
      subscriber adoption of our applications through marketing and
      promotions;




·
    securing
      top-tier brands;




·
    the
      development and delivery of new wireless applications;
  and




·
    the
      marketing of those applications to lay the foundation of future
      substantial revenue generation.




*Cash
Flow Information*





**Year
      Ended December 31****2004**
    
    **2003**Cash
      used in operating activities
    
    $
    (3,145,203
    )
    $
    (5,221,600
    )Cash
      used in investing activities
    
    $
    (45,570
    )
    $
    949Cash
      provided by financing activities
    
    $
    2,407,916
    
    $
    7,383,306




*Cash
Used in Operating Activities.* Net cash used in operating activities was $3,145,203 in the year ended December
31, 2004, compared to $5,221,600 in the prior year.  The decrease in net
cash used in operating activities was primarily due to increases in cash
collections from customers consistent with the increase in wireless application
revenues, and to cost reductions in several expense categories, primarily
salaries, third-party consulting fees, travel, and general office administration
costs in the year ended December 31, 2004. Summus restructured its organization
in February 2004 as part of its focus to reduce future operating expenses and
focus on revenue generation.




*Cash
Used in Investing Activities.* Net cash
used in investing activities was $45,570 in the year ended December 31, 2004,
representing computer equipment purchases.  Net cash provided by investing
activities was $949 in the year ended December 31, 2003, representing the net of
computer equipment purchases and proceeds received from sale of equipment and
furniture.




*Cash
Provided by Financing Activities.* Net cash
provided by financing activities in the year ended December 31, 2004, related
to:




·
    proceeds
      from issuance of convertible notes payable and common stock of $1,000,000
      and issuance of 12% Senior Debt of
$1,425,000.




·
    the
      sale of  43,104 shares of our common stock for proceeds of
      $20,086.




·
    proceeds
      from the exercise of 24,127 stock options and 86,207 stock warrants of
      $104,892.







28
 Table of Contents









·
    principal
      payments on capital lease obligations of
($17,296).




·
    principal
      payments on note payable obligations of
($124,766).




Net cash
provided by financing activities in the year ended December 31, 2003 related
to:




·
    the
      sale of  270,416 shares of Summus common stock, along with warrants
      to purchase an additional 31,600 shares of common stock, at exercises
      prices ranging from $2.00 to $16.90 per share and the repricing of 660,965
      of previously issued warrants. Total cash proceeds from the sale of the
      shares and issuance of the new warrants were
$1,337,582.




·
    the
      sale of 1,310 shares of Series C convertible preferred stock along with
      warrants to purchase an additional 524,000 shares of common stock for
      proceeds of $1,310,000.




·
    the
      sale of 4,000 shares of Series D convertible preferred stock along with
      warrants to purchase an additional 1,000,000 shares of common stock for
      proceeds of $4,000,000.




·
    the
      sale of 200 shares of Series E convertible preferred stock along with
      warrants to purchase an additional 50,000 shares of common stock for
      proceeds of $200,000.




·
    the
      issuance of 349,125 shares of common stock upon the exercise of warrants
      with exercise prices ranging from $2.00 to $5.00 per share. Of the 349,125
      warrants exercised, 288,135 were exercised in connection with the
      repricing of the exercise price of the warrants as described above. The
      exercise of these warrants generated gross proceeds of
      $928,675.




·
    principal
      payments on capital lease and note payable obligations of
      ($208,436).




·
    payment
      of stock issuance costs of $184,515.




**Significant
Concentrations**




For the
year ended December 31, 2003, one customer accounted for 52% and 32% of our
revenues and accounts receivable, respectively.  Should this wireless
carrier discontinue the deployment of our applications, our business would be
adversely affected.




**New
Accounting Pronouncements**




In
January 2003, the EITF published EITF Issue 00-21, " *Revenue
Arrangements with Multiple Deliverables* ," which
requires companies to determine whether an arrangement involving multiple
deliverables contains more than one unit of accounting.  In applying EITF
Issue 00-21, revenue arrangements with multiple deliverables should be divided
into separate units of accounting if the deliverables in the arrangement meet
certain criteria.  Arrangement consideration should be allocated among the
separate units of accounting based on their relative fair values.  EITF
Issue 00-21 was effective for revenue arrangements entered into in fiscal
periods beginning after June 15, 2003.  The adoption of EITF Issue 00-21
did not have any impact on our financial statements.




In
January 2003, the FASB issued FASB Interpretation No. 46, “ *Consolidation
of Variable Interest Entities, an Interpretation of ARB No. 51* ”, and
revised the interpretation in December 2003 (“FIN 46(R)”). FIN 46(R) requires
certain variable interest entities to be consolidated by the primary beneficiary
of the entity if the equity investors in the entity do not have the
characteristics of a controlling financial interest or do not have sufficient
equity at risk for the entity to finance its activities without additional
subordinated financial support from other parties. FIN 46(R) is effective
immediately for all new variable interest entities created or acquired after
January 31, 2003. For variable interest entities created or acquired prior to
February 1, 2003, the provisions of FIN 46(R) must be applied for the first
interim or annual period ending after March 15, 2004. The Company did not have
any ownership in any variable interest entities as of December 31, 2004. We will
apply the consolidation requirement of FIN 46(R) in future periods if we own any
interest in any variable interest entity.





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In May
2003, the FASB issued SFAS No. 150, " *Accounting
for Certain Financial Instruments with Characteristics of Both Liabilities and
Equity* ."
 SFAS No. 150 establishes standards for how an issuer of financial
statements classifies and measures certain financial instruments that have
characteristics of both liabilities and equity. SFAS No. 150 is effective for
financial instruments entered into or modified after May 31, 2003, and otherwise
is effective at the beginning of the first interim period beginning after June
15, 2003.  The adoption of SFAS No. 150 did not have any impact on our
financial statements.




In
December 2004, the FASB issued SFAS No. 123 (revised 2004), “Share-Based
Payment” (“SFAS No. 123 (R)).” SFAS No. 123(R), a revision of SFAS No. 123,
“Accounting for Stock-Based Compensation”, supersedes APB Opinion No. 25,
“Accounting for Stock Issued to Employees”, and amends SFAS No. 95, “Statement
of Cash Flows.” SFAS No. 123(R) requires all share-based payments to employees,
including grants of employee stock options, to be recognized in the financial
statements based on their fair values. SFAS No. 123(R) is effective for the
beginning of the first interim or annual period beginning after June 15, 2005.
Therefore, Summus plans to adopt SFAS No. 123(R) on July 1, 2005. The adoption
of the SFAS No. 123(R) fair value method will have a significant impact on the
our results of operations, although it will have no impact on financial
position. The impact of adoption of SFAS No. 123(R) cannot be predicted at this
time because it will depend on levels of share-based payments granted in the
future. However, had Summus adopted SFAS No. 123(R) in prior periods, the impact
of the standard would have approximated the impact of SFAS No. 123 as described
in the disclosure of pro forma net income (loss) and earnings (loss) per share
in Note 2 to our financial statements. Summus is currently evaluating the two
fair value pricing methods permitted by SFAS No. 123(R) and has not selected a
final fair value pricing model.




**Description
of Critical Accounting Policies**




The
preparation of our financial statements in conformity with accounting principles
generally accepted in the United States requires us to make estimates and
judgments that affect our reported amounts of assets and liabilities, revenues
and expenses.  We have identified the following critical accounting
policies that affect the more significant estimates and judgments used in the
preparation of our financial statements.  On an ongoing basis, we evaluate
our estimates, including those related to the matters described below. 
These estimates are based on the information that is currently available to us
and on various other assumptions that we believe to be reasonable under the
circumstances.  Actual results could vary from those estimates under
different assumptions or conditions.




*Revenue
Recognition and Related Costs*




Change
in Revenue Recognition Policy




In 2003,
after a careful review of Summus’ revenue recognition policies and giving
consideration to guidance provided for in Emerging Issues Task Force No. 99-19 *Reporting
Revenue Gross as a Principal versus Net as an Agent* (“EITF
99-19”), Summus changed certain revenue recognition policies affecting revenues
earned by wireless applications and contracts.  Prior to 4 th quarter
2003, the we reported revenues earned by wireless applications and contracts and
cost of revenues for wireless applications and contracts  net of certain
third-party costs in the statement of operations.  These transactions were
reclassified in 2003 to reflect a gross revenue presentation with no effect on
gross profit or net loss.  Revenues and costs of revenues for 2002 were not
reclassified due to immateriality.




Wireless
applications and contracts




Commencing
during the second quarter of 2002, our resources were dedicated to the
development of solutions for the mobile markets.  Revenues earned from
wireless applications are recognized upon delivery and acceptance by the
end-user either as a one-time purchase or a monthly subscription.  For
content delivery partner arrangements, whereby Summus remits a portion of the
revenues earned through the sale of our applications, revenue is recorded on a
gross basis in accordance with EITF 99-19.  Summus recognizes the cost of
payments to the content providers as a cost of revenues.  Wireless
applications and contracts cost of revenues includes all third-party hosting,
testing and/or carrier distribution fees.  These costs are incurred on a
monthly basis and are primarily fixed in nature regardless of the revenue
generated by the related applications.







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During
January of 2002, Summus entered into a strategic partnership agreement with a
global leader in semiconductor, telecommunication and digital convergence
technology, related to the mobile and wireless markets for which it received
$100,000.  Revenue earned under this agreement was recognized ratably over
the twelve-month term of the agreement.




Periodically,
we enter into non-recurring engineering arrangements with our content
partners.  Generally, under the terms of these agreements, we receive
funding upfront to complete projects. The funding we receive upfront is recorded
as deferred revenue and is recognized as revenue under the terms of the
individual arrangements.  Deferred revenue represents amounts received for
which the we have not yet completed our contractual obligations.




Wireless
License Fees




We
recognize revenue from licensee fees for wireless software applications in
accordance with the provisions of AICPA Statement of Position 97-2, “Software
Revenue Recognition”, as amended by AICPA Statement of Position 98-9
“Modification of SOP No. 97-2 Software Revenue Recognition with Respect to
Certain Transactions.” Revenue from software license fees is generally
recognized upon delivery provided that a contract has been executed, the vendor
fee is fixed or determinable, no significant vendor obligations or uncertainties
surrounding customer acceptance remain, and collection of the resulting
receivable is deemed probable.




There
were no costs related to the wireless license fee revenue generated during the
years ended December 31, 2004 and 2003 as the license fee revenue related to
technology that had been previously developed by us, and there were no costs for
installation, delivery or customization, or other related costs.




Contracts
and license fees




We derive
certain revenues from research and development contracts for governmental
agencies and the commercial licensing of our technology.  We recognize
revenue on these contracts at the time services are rendered based upon the
terms of individual contracts.  Regarding the commercial licensing of our
technology, we follow the provisions of AICPA Statement of Position 97-2,
“Software Revenue Recognition”, as amended by AICPA Statement of Position 98-9
“Modification of SOP No. 97-2 Software Revenue Recognition with Respect to
Certain Transactions.” Revenue from software license fees is generally
recognized upon delivery provided that a contract has been executed, the vendor
fee is fixed or determinable, no significant vendor obligations or uncertainties
surrounding customer acceptance remain, and collection of the resulting
receivable is deemed probable.




*Valuation
of Equity Instruments*




We have
utilized our equity securities, including unregistered common stock and
options/warrants to purchase unregistered common stock, to pay for services and
to settle obligations owed to or claimed by creditors. The issuance of equity
instruments as payment for services rendered to Summus results in the recording
of non-cash compensation or consulting expense as the services are
performed.  We utilize the Black-Scholes option-pricing model to determine
the value of options or warrants issued as payment for services. 
Underlying the Black-Scholes option-pricing model are several assumptions that
are evaluated by management and include: (1) a dividend yield; (2) a common
stock volatility factor; (3) the risk-free interest rate; and (4) the expected
life of the option or warrant.  Management evaluates each of these
assumptions on a periodic basis in order to determine the value of the equity
instruments used as payment for services as well as to record the associated
expense.  As conditions change, our evaluation of the assumptions
underlying the Black-Scholes option-pricing model may change resulting in
differing values of equity instruments issued for services between reporting
periods.







31
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**FACTORS
THAT MAY AFFECT OUR BUSINESS, FUTURE**


**OPERATING
RESULTS AND FINANCIAL CONDITION**






*An
investment in our common stock involves a high degree of risk.  You should
carefully consider the risks described below, together with all of the other
information set forth in this annual report on Form 10-K, including our
financial statements and the related notes, before making a decision to invest
in our common stock. If any of the following risks actually occur, our business,
operating results and financial condition could suffer. The trading price of our
common stock could decline due to any of these risks and you may lose all or
part of your investment in our common stock.*




**Risks
Related to Our Business**




Ø
    **Our
      past and potential future issuances of equity securities have diluted and
      may continue to materially dilute the interests of holders of our common
      stock.**




Because of severe liquidity constraints, we have issued equity securities in
several instances in lieu of effecting payment in cash of amounts due (or
alleged to be due) vendors, consultants, current and former officers and
directors, and stockholders.




In addition, we have the ability to issue options and other stock-based awards
under our Amended and Restated 2000 Equity Compensation Plan to directors,
officers, employees and consultants, and have reserved up to 1,500,000 shares of
our common stock under this plan, 1,111,784 of which have been granted as of
March 28, 2005.  We also have outstanding warrants for 3,458,788 shares of
our common stock as of March 28, 2005.




Issuances of certain shares of our common stock or other equity interests have
been at (or are exercisable for) a price that represents a discount to the then
traded value of our common stock. In any event, past and anticipated future
issuances of additional shares of our common stock or other equity interests
have and will continue to dilute the proportional ownership interests of
existing stockholders.




Ø
    **If
      we raise additional capital through the issuance of equity securities or
      use equity instruments for acquisitions, our stockholders may experience
      substantial dilution.**




From inception through our 2004 fiscal year, our primary source of funding for
our operations came from the issuance of shares of our common stock in private
placements to investors. We believe that we have enough working capital to fund
and sustain our business operations through the 2005 fiscal year and beyond.
However, business opportunities, such as product or geographic expansion, or the
acquisition of product lines or companies may present themselves. If we were to
pursue these opportunities, they may require that we raise additional capital
through the issuance of our equity securities or that we issue shares of our
common stock or other equity securities in connection with acquisitions.




Summus
currently has 185,000,000 shares of common stock authorized for issuance. 
As of March 28, 2005, we have approximately 18,413,004 shares of common stock
either issued and outstanding or reserved for issuance as follows:




·
    13,436,524
      shares are issued and outstanding;




·
    3,458,788
      are reserved for the issuance of shares underlying
    warrants;




·
    17,692
      are reserved for the conversion of 2,407 shares of our Series A Stock,
      plus related dividends; and




·
    1,500,000
      are reserved for issuance in connection with the outstanding options
      granted under the our Amended and Restated  2000 Equity Compensation
      Plan (of which 1,111,784 options have been granted).




If we decide to pursue any such expansions or acquisitions that require
additional capital raising or the issuance of equity securities, and we are
successful in such efforts, existing stockholders will experience dilution of
their percentage ownership interests in Summus.  In addition, the new
equity securities may have rights, preferences or privileges senior to those of
existing holders of shares of our common stock.







32
 Table of Contents





Ø
    **We
      have incurred substantial losses in the past and may incur net losses in
      the future.**




We have generated operating losses and negative cash flow in the past. We had
net losses, including non-cash charges for stock-based employee compensation,
non-cash consulting expenses and amortization of discount on debt and beneficial
conversion features, of approximately $3,872,807 and $3,877,301 for the fiscal
year periods ended December 31, 2004 and December 31, 2003, respectively. As of
December 31, 2004, we had an accumulated deficit of $54,673,653 and a working
capital deficit of $130,508. We may generate operating losses and negative cash
flow in the future.




Ø
    **We
      have a limited operating history and have achieved limited revenues from
      our operations, which may make it difficult to evaluate our business.**




We have a limited history of generating revenues, and the future revenues and
income potential of our business is uncertain. As a result of our short
operating history, we have limited financial data that you can use to evaluate
our business. Any evaluation of our business and our prospects must be
considered in light of the risks, expenses and difficulties frequently
encountered by growing companies in new and rapidly evolving markets.  Some
of these risks and uncertainties relate to our ability to do the following:




·
    maintain
      our current, and develop new, wireless carrier relationships upon which
      our business currently depends;




·
    deploy
      our applications;




·
    respond
      effectively to competition;




·
    attract
      and retain qualified management and employees;




·
    generate
      significant revenue from the sale of our wireless applications;




·
    establish
      and maintain broad market acceptance for our products and then increase
      our market share based upon the timing, strength and success of our sales
      efforts and our ability to enter into strategic and commercial
      alliances;




·
    develop
      effective marketing and other promotional activities to penetrate our
      target customer base;




·
    generate
      and sustain substantial revenue growth while maintaining reasonable
      expense levels; and




·
    continue
      to timely and successfully develop new products, product features and
      services; and increase the functionality and features of existing products
      and services.




If we are
unable to address these risks, our operating results may not meet the
expectations of investors, which would likely cause the price of our common
stock to decline.




If our
revenues grow more slowly than anticipated or if operating expenses increase
more than expected, or are not reduced sufficiently, we may never achieve
profitability.  If we achieve profitability, we cannot be certain that we
will be able to sustain or increase that profitability in the
future.





Ø
    **Our
      operating results are likely to fluctuate significantly, which may cause
      our stock price to fluctuate.**




As a result of our relatively brief operating history and the rapidly changing
and uncertain nature of the markets in which we compete, our quarterly and
annual revenues and operating results are likely to fluctuate from period to
period, and period to period comparisons are not likely to be meaningful. These
fluctuations are caused by a number of factors, many of which are beyond our
control. Our future operating results could fall below the expectations of
public market analysts or investors, which could significantly reduce the market
price of our common stock. Fluctuations in our operating results will likely
increase the volatility of our stock price. Our research and development and
sales and marketing efforts, and other business expenditures generally, are
partially based on predictions regarding certain developments for wireless
handset availability and carrier deployment of data services.  To the
extent that these predictions prove inaccurate, our revenues may not be
sufficient to offset our expenditures, and our operating results may be
harmed.







33
 Table of Contents









Ø
    **We
      currently rely on wireless carriers, in particular, Verizon Wireless, to
      generate our revenues. The loss of any of these relationships, or a
      material change in any of them, could materially harm our
      business.**




For
the fiscal year ended December 31, 2004, we earned approximately 52% of our
revenues from subscribers of Verizon Wireless. We will continue to generate a
significant portion of our revenues through a limited number of carriers for the
foreseeable future, but we do expect the concentration of our revenues to lessen
over time as more and more carriers launch our wireless applications. A
significant portion of our outstanding accounts receivable are with Verizon
Wireless, which results in a concentration of our credit risk. If Verizon
Wireless is unable to fulfill its payment obligations to us under our carrier
agreements with them, our revenues could decline significantly.




Our
carrier agreements are not exclusive and generally have a limited term of one or
two years with evergreen, or automatic renewal, provisions upon expiration of
the initial term. These agreements set out the terms of our distribution
relationships with the carriers but generally do not obligate the carriers to
market or distribute any of our applications. In addition, the carriers can
terminate these agreements early, and in some instances, at any time, without
cause.




Many
other factors outside our control could impair our ability to generate revenue
through Verizon Wireless, and other carriers generally, including the following:




·
    a
      carrier's preference for the applications of our competitors over our
      applications;




·
    a
      carrier's decision to offer its own competing wireless applications;




·
    a
      carrier's decision to discontinue the sale of our applications, or
      altogether discontinue sales of applications such as ours;




·
    a
      carrier's decision to offer wireless applications to its subscribers for
      free;




·
    a
      carrier's network encountering technical problems that disrupt the
      delivery of or billing for our applications;




·
    a
      carrier's decision to restrict or alter subscription or other terms for
      purchasing our applications;




·
    a
      carrier's decision to increase the fees it charges to market and
      distribute our applications, thereby increasing its own revenues and
      decreasing our share of revenues; or




·
    consolidation
      among wireless carriers.





If
Verizon Wireless decides not to market or distribute our applications or decides
to terminate or not renew its agreement with us or if there is consolidation
among carriers generally, we may be unable to replace the affected agreements
with acceptable alternatives, causing us to lose access to subscribers, which
could materially harm our business, operating results and financial performance.





Ø
    **The
      success of our business will greatly depend on our ability to develop and
      enter into strategic relationships with wireless service providers,
      wireless software developers, semiconductor and device designers, wireless
      device manufacturers and content
providers.**




Our business will depend on our ability to develop relationships and enter into
agreements with companies in key industry groups, including:




·
    wireless
      service providers that we expect will deploy our wireless applications to
      deliver multimedia content and services to their
    subscribers;






·
    semiconductor
      and device designers and manufacturers that we expect will embed our
      wireless applications in their products;
and







34
 Table of Contents






·
    content
      providers that we expect will rely on our technology and products to
      deliver multimedia content over wireless
networks.




We will need to enter into contractually binding agreements with wireless
service providers, device manufacturers, and content providers in order to
generate any significant revenues from our technology and product applications.
If we are unable to establish a sufficient number of strategic relationships and
enter into contractual arrangements on terms commercially favorable to us, our
business, revenue, and prospects are likely to be adversely
affected.




Ø
    **Our
      business will depend on wireless service providers deploying our****software
      and related applications, and on their subscribers' demand for such
      applications.**




Our success will depend heavily on timely deployment by wireless service
providers of our applications using our technology in their networks. Wireless
service providers may not deploy, or may be slow in deploying, our software due
to a number of factors including the availability of competing products, lack of
subscriber demand, as well as interoperability, implementation, support or
maintenance concerns. In addition, if our current applications with wireless
service providers are unsatisfactory, they may not deploy our software or may
require costly or time-consuming modifications to our software before
deployment.




Even if wireless service providers offer content services based on our software,
their subscribers may not be willing to buy these services. Subscribers are
accustomed to viewing content on the comparatively large displays of television
screens and PC monitors and may not be willing to use mobile information
devices, which typically have smaller screen sizes, to view content.
Additionally, subscribers may not be willing to pay to view content on mobile
information devices because this content can be viewed at a lower cost using
other connections, such as satellite and wireline connections. Moreover,
subscribers may not be willing to purchase new devices or upgrade their existing
devices to include multimedia content viewing capability.




Ø
    **We
      may not successfully develop new products and
      services.**




Our growth depends on our ability to continue to develop leading edge wireless
delivery and distribution products and services.  Our business and
operating results would be harmed if we fail to develop products and services
that achieve widespread market acceptance or that fail to generate significant
revenues or gross profits to offset our development and operating costs. 
We may not timely and successfully identify, develop and market new product and
service opportunities.   If we introduce new products and services,
they may not attain broad market acceptance or contribute meaningfully to our
revenues or profitability.  In addition, competitive or technological
developments may require us to make substantial, unanticipated investments in
new products and technologies, and we may not have sufficient resources to make
these investments.




Ø
    **We
      have in the past experienced delays in carrier testing and deployment and
      product releases, and we may similarly experience delays in the release of
      products and upgrades in the
future.**




We will need to continue to introduce, on a timely basis, new products and
product upgrades to add new features, functionality and technology that our
target customer base desires. No assurances can be provided that we will be able
to successfully complete the development of currently planned or future products
in a timely and efficient manner. Due to the complexity of these products,
internal quality assurance testing and customer testing of pre-commercial
releases may reveal product performance issues or desirable feature enhancements
that could lead us to postpone the release of products or product upgrades. In
addition, the reallocation of resources associated with any such postponement
would likely cause delays in the development and release of other future
products or enhancements to our currently available products. This could have a
material adverse effect on our results of operations.







35
 Table of Contents








Ø
    **The
      markets in which we operate are highly competitive and many of our
      competitors have greater resources than we
do.**




The
development, distribution and sale of wireless applications is a highly
competitive business. We compete primarily on the basis of quality of
applications, brand, carrier and customer service and distribution breadth. We
also compete for experienced and talented employees.




Currently,
we compete with several other companies that develop wireless applications for
one or more of our four primary business areas. In the future, likely
competitors may include other major media companies, content aggregators,
wireless software providers and other pure-play wireless application publishers.
Wireless carriers may also decide to develop and distribute their own wireless
applications. If carriers enter the wireless applications market, they might
refuse to distribute some or all of our applications or may deny us access to
all or part of their networks.




Some
of our competitors' advantages over us include the following:




·
    substantially
      greater revenues and financial resources;




·
    the
      capacity to leverage their marketing expenditures across a broader
      portfolio of wireless and non-wireless products;




·
    pre-existing
      relationships with brand holders;




·
    more
      resources to make acquisitions;




·
    lower
      labor and development costs; and




·
    broader
      geographic presence.





We face
different market dynamics and competition outside the United States. In some
international markets, our competitors have greater brand recognition and
broader distribution than we have. We may not be as successful as our
competitors in generating revenues in international markets due to our inability
to provide applications that are attractive to the local market, the lack of
recognition of our brand or other factors. Developing user interfaces that are
compatible with other languages or cultures could be expensive. As a result, our
international expansion efforts may be more costly and less profitable than we
expect.





If we are
not as successful as our competitors in our target markets, our sales could
decline, our margins could be negatively impacted and we could lose market
share, any of which could materially harm our business.





Ø
    **If
      we fail to develop and introduce new applications that achieve market
      acceptance, our sales could
suffer.**




Our
business depends on providing applications that wireless subscribers want to
buy. We must continue to invest significant resources in research and
development to enhance our offering of wireless applications and introduce new
applications. Our operating results would suffer if our applications are not
responsive to the preferences of our customers or are not effectively brought to
market.







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The
planned timing or introduction of new applications is subject to risks and
uncertainties. Unexpected technical, operational, deployment, distribution or
other problems could delay or prevent the introduction of new applications,
which could result in a loss of, or delay in, revenues or damage to our
reputation and brand. If any of our applications is introduced with defects,
errors or failures, we could experience decreased sales, loss of customers and
damage to our reputation and brand. In addition, new applications may not
achieve sufficient market acceptance to offset the costs of development. Our
success depends, in part, on unpredictable and volatile factors beyond our
control, including customer preferences, competing applications and the
availability of other entertainment activities. A shift in mobile phone usage or
the preferences of our customers could cause a decline in our applications'
popularity that could materially reduce our revenues and harm our business.




We
continuously develop and introduce new applications for use on next-generation
mobile phones. We must make product development decisions and commit significant
resources well in advance of the anticipated introduction of a new mobile phone
model. New mobile phone models for which we are developing applications may be
delayed, may not be commercially successful, may have a shorter life cycle than
anticipated or may not be adequately promoted by wireless carriers or the mobile
phone manufacturer. If the mobile phone models for which we are developing
applications are not released when expected or do not achieve broad market
penetration, our potential revenues will be limited and our business will
suffer.




Ø
    **If
      we are unsuccessful in establishing and increasing awareness of and
      recognition of our applications, or if we incur excessive expenses
      promoting and maintaining our applications, our business could be
      harmed.**




We
believe that establishing and maintaining our applications is critical to
retaining and expanding our customer base. This will depend largely on our
success in providing high-quality wireless applications. However, such success
will depend, in part, on the services and efforts of third parties, over which
we have little or no control. For instance, if our wireless carriers fail to
provide quality service, our customers' ability to access our applications may
be interrupted, which may adversely affect our applications. If our customers
and carriers do not perceive our existing products and services as high quality,
or if we introduce new applications that are not favorably received by our
customers and carriers, then we may be unsuccessful in building recognition and
loyalty in the marketplace. In addition, globalizing and extending our
applications may be costly. It will also involve extensive management time to
execute successfully. Further, the markets in which we operate are highly
competitive and many of our competitors already have substantially more brand
recognition than we do. If we fail to successfully increase the awareness and
consumer recognition of our applications, our potential revenues could be
limited, our costs could increase and our business could suffer.




Ø
    **We
      depend on our Sports Illustrated and Phil Hellmuth Texas Hold’em
      applications for a significant portion of our
      revenues.**




In fiscal
2004, we generated approximately 20.9% and 9.5% of our revenues from our Sports
Illustrated Swimsuit and Texas Hold’em by Phil Hellmuth wireless applications,
respectively. We do expect the percentages of total revenue that these
applications provide for us to decrease as we launch other applications. If
these applications are not successful in the future or we are unable to develop
new applications that are as successful, our future revenues could be limited
and our business may suffer.




Ø
    **Failure
      to renew our existing licenses or to obtain additional licenses could harm
      our business.**




Many of
our applications are based on or incorporate intellectual properties that we
license from third parties. We have both exclusive and non-exclusive licenses to
use these properties for terms that range from one to two years, with automatic
renewal clauses, which may be terminated. We may be unable to renew these
licenses on terms favorable to us, or at all, and we may be unable to secure
alternatives in a timely manner. We expect that licenses we obtain in the future
may impose development, distribution and marketing obligations on us. If we
breach our obligations, our licensors may have the right to terminate the
license.







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 Table of Contents







Competition
for licenses may also increase the advances, guarantees and royalties that we
must pay to the licensor, which could significantly increase our costs. Failure
to maintain our existing licenses or obtain additional licenses with significant
commercial value could impair our ability to introduce new applications or
continue our current applications, which could materially harm our business.




Ø
    **System
      or network failures could reduce our sales, increase costs or result in a
      loss of customers.**




We rely
on our carriers' networks to deliver our applications to our customers and on
their billing systems to track and account for the downloading of our
applications. In certain circumstances, we also rely on our servers to deliver
applications on demand to our customers through their wireless carriers'
networks. Any failure of, or technical problem with, the carriers' or our
billing and delivery systems, information systems or communications networks
could result in the inability of our customers to download our applications or
prevent the completion of billing for an application. If any of these systems
fails, there is an interruption in the supply of power, an earthquake, fire,
flood or other natural disaster, or an act of war or terrorism, our customers
may be unable to access our applications. Any failure of, or technical problem
with, the carriers' or our systems could cause us to lose customers or revenues
or incur substantial repair costs and distract management from operating our
business.




Ø
    **The
      acquisition of other companies, businesses or technologies could result in
      operating difficulties, dilution and other
      consequences.**





We may
selectively pursue strategic acquisitions, any of which could be material to our
business, operating results and financial condition. Entering into an
acquisition entails many risks which could harm our business, including:




·
    diversion
      of management's attention from operating our
business;




·
    unforeseen
      operating difficulties from integrating an acquired company, business or
      technology;




·
    expenditures
      associated with integrating employees from the acquired company into our
      organization and integrating each company's accounting, management
      information, human resources and other administrative systems to permit
      effective management;




·
    failure
      to motivate, or loss of, key employees from either our existing business
      or the acquired business;




·
    inability
      to incorporate acquired technology into our
software;




·
    potential
      impairment of relationships with our employees and companies with whom we
      have strategic relationships;




·
    additional
      operating expenses not offset by additional
revenue;




·
    incurrence
      of significant non-recurring charges; and




The
anticipated benefits of potential future acquisitions may not materialize.
Future acquisitions could also result in potentially dilutive issuances of our
equity securities, including our common stock, the incurrence of debt,
contingent liabilities or amortization expenses, or write-offs of goodwill, any
of which could harm our financial condition. Future acquisitions may also
require us to obtain additional financing, which may not be available on
favorable terms or at all.







38
 Table of Contents







Ø
    **Expansion
      into international markets is important to our long-term strategy, and as
      we expand internationally, we face added business, political, regulatory,
      operational, financial and economic risks, any of which could increase our
      costs and hinder our growth.**




An
important element of our business strategy is the expansion of our international
sales by targeting markets, such as Europe and Asia, where we believe acceptance
of our applications is likely. Risks affecting our international operations
include:




·
    challenges
      caused by distance, language and cultural differences;




·
    multiple,
      conflicting and changing laws and regulations, including complications due
      to unexpected changes in regulatory requirements, foreign laws, tax
      schemes, international import and export legislation, trading and
      investment policies, foreign currency fluctuations, exchange controls and
      tariff and other trade barriers;




·
    difficulties
      in enforcing intellectual property rights in countries other than the
      United States;




·
    the
      burdens of complying with a wide variety of foreign laws and regulations;




·
    protectionist
      laws and business practices that favor local businesses in some countries;




·
    foreign
      tax consequences;




·
    foreign
      exchange controls that might prevent us from repatriating income earned in
      countries outside the United States;




·
    price
      controls;




·
    imposition
      of public sector controls;




·
    political,
      economic and social instability;




·
    higher
      costs associated with doing business internationally;




·
    restrictions
      on the export or import of technology;




·
    difficulties
      in staffing and managing international operations;




·
    trade
      and tariff restrictions;




·
    variations
      in tariffs, quotas, taxes and other market barriers; and




·
    greater
      fluctuations in sales to customers in developing countries, including
      longer payment cycles and greater difficulty collecting accounts
      receivable.





Ø
    **We
      face risks associated with currency exchange rate
      fluctuations.**





Although
we currently transact business primarily in U.S. dollars, a larger portion of
our revenues may be denominated in foreign currencies as we expand our
international operations. Conducting business in currencies other than U.S.
dollars subjects us to fluctuations in currency exchange rates that could have a
negative impact on our reported operating results. Fluctuations in the value of
the U.S. dollar relative to other currencies impact our revenues, cost of
revenues and operating margins and result in foreign currency translation gains
and losses. Historically, we have not engaged in exchange rate hedging
activities. Although we may implement hedging strategies to mitigate this risk,
these strategies may not eliminate our exposure to foreign exchange rate
fluctuations and involve costs and risks of their own, such as ongoing
management time and expertise, external costs to implement the strategy and
potential accounting implications.








39
 Table of Contents








Ø
    **Growth
      may place significant demands on our management and our
      infrastructure.**




We have
experienced, and may continue to experience, growth in our business through
acquisitions and internal growth. This growth has placed, and may continue to
place, significant demands on our management and our operational and financial
infrastructure. In particular, continued growth could strain our ability to:




·
    Recruit,
      train and retain highly skilled personnel;




·
    Maintain
      our quality standards;




·
    Develop
      and improve our operational, financial and management controls;




·
    Enhance
      our reporting systems and procedures; and




·
    Maintain
      customer satisfaction.





The
improvements required to manage our growth will require significant expenditures
and allocation of valuable management resources. If we fail to maintain the
efficiency of our organization as it grows, our profit margins will decline and
our earnings could be materially diminished.





Ø
    **We
      face intense competition as an application developer in the wireless
      telecommunications industry.**




The wireless communications market is highly competitive. Our failure to
establish a customer base as a wireless applications developer to this industry
will adversely affect operating results. The competition with other applications
providers to form alliances with wireless service providers and Internet service
providers is significant. The loyalty of wireless industry customers we may
obtain could be easily influenced by a competitor's new offerings, especially if
those offerings provide cost savings or new technology applicable to wireless
communications. We will face significant competition from traditional
telecommunications companies, virtually all of which have greater market share
and financial resources than we do. These traditional telecommunications
companies are better positioned to finance research and development activities
relating to the wireless applications area. They are also able to provide a
wider range of products and services for a greater spectrum of media and have
greater resources with which to purchase additional technologies or acquire
other companies.




Ø
    **If
      we are unable to compete effectively with existing or new competitors, our
      resulting loss of competitive position could result in price reductions,
      fewer customer orders, reduced margins and loss of market share, and our
      results of operations and financial condition would
      suffer.**




We compete in the wireless applications market. The markets for our products and
services are highly competitive, and we expect competition to increase in the
future. Some of our competitors or potential competitors have significantly
greater financial, technical and marketing resources than we do. These
competitors may be able to respond more rapidly than Summus to new or emerging
technologies or changes in customer requirements. They may also devote greater
resources to the development, promotion and sale of their products.




Certain competitors may have longer and closer relationships with the senior
management of enterprise customers who decide which products and technologies
will be deployed in their enterprises.  Moreover, these competitors may
have larger and more established sales forces calling upon potential enterprise
customers and therefore could contact a greater number of potential customers
with more frequency.  Consequently, these competitors could have a better
competitive position than we do, which could result in potential enterprise
customers deciding not to choose our products and services, which would
adversely impact our business, results of operations and financial
condition.







40
 Table of Contents








Ø
    **The
      complexity and incompatibilities among next-generation mobile phones and
      wireless technologies may require us to use additional resources for the
      development of our applications.**




To reach
large numbers of wireless subscribers, wireless application developers like
ourselves must support numerous mobile phone models and technologies. However,
keeping pace with the rapid innovation of mobile phone technologies together
with the continuous introduction of new, and often incompatible, mobile phone
models by wireless carriers requires us to make significant investments in
research and development, including personnel, technologies and equipment. In
the future, we may be required to make substantial, additional investments in
our development if the number of different types of mobile phone models
continues to proliferate.




Ø
    **Our
      business depends on the growth and maintenance of wireless communications
      infrastructure.**




Our
success will depend on the continued growth and maintenance of wireless
communications infrastructure in the United States and around the world. This
includes deployment and maintenance of reliable next-generation digital networks
with the necessary speed, data capacity and security for providing reliable
wireless communications services. Wireless communications infrastructure may be
unable to support the demands placed on it if the number of customers continues
to increase, or if existing or future customers increase their bandwidth
requirements. In addition, viruses, worms and similar break-ins and disruptions
from illicit code or unauthorized tampering may harm the performance of wireless
communications. If a well-publicized breach of security were to occur, general
mobile phone usage could decline, which could reduce the demand for and use of
our applications. Wireless communications experience a variety of outages and
other delays as a result of infrastructure and equipment failures, and could
face outages and delays in the future. These outages and delays could reduce the
level of wireless communications usage as well as our ability to distribute our
applications successfully.




Ø
    **Our
      wireless applications are complex, and we may not be able to prevent
      defects that could decrease their market acceptance, result in product
      liability or harm our reputation.**




Our wireless applications are complex, and the steps we take to ensure that all
of our products are free of errors or defects, particularly when first
introduced or when new versions or enhancements are released, may not be
successful. We cannot guarantee that current or enhanced versions of our
wireless applications will be free of significant software defects or bugs.
Despite our testing, and testing by third parties, current or future products
may contain serious defects. Serious defects or errors could result in lost
revenue or delay in market acceptance of our products and could seriously harm
our credibility and materially affect the market acceptance and sales of our
products. The occurrence of these types of problems could materially adversely
affect our business, results of operations and financial condition.




Errors in our products may also be caused by defects in third-party hardware or
software incorporated into our products. If so, we may be unable to fix these
defects without the cooperation of third-party providers. Because these defects
may not be as significant to these providers as they are to us, we may not
receive the rapid cooperation that may be required to avoid serious harm to our
business and operating results. Errors, defects or other performance problems
with our products could also harm our customers' businesses or result in
potential product liability claims. Even if unsuccessful, a product liability
claim brought against us would likely be time-consuming, costly and harmful to
our reputation.







41
 Table of Contents








Ø
    **We
      may be unable to adequately protect the intellectual property used in our
      software.**




Currently, we have not been awarded any patents.  We have filed for four
(4) patents.  These patent applications may not be granted or, if granted,
the resulting patents may be challenged or invalidated.  In addition to
patents, we rely on copyright and trademark laws, trade secrets, confidentiality
provisions and other contractual provisions to protect our proprietary rights.
These measures, which require the expenditure of substantial resources, afford
our intellectual property only limited protection because our competitors and
third parties independently may develop similar technologies or may infringe our
intellectual property. Infringement is difficult to detect and costly to
prevent. With respect to the protection of our proprietary rights
internationally, the laws of some foreign countries may not protect our
proprietary rights adequately. In addition, we will not have patent protection
in countries where we do not file patent applications. Thus, the measures we are
taking to protect our proprietary rights in the United States and abroad may not
be adequate and our business may be harmed as a result.





Ø
    **We
      may be sued by third parties for infringement of their intellectual
      property.**




The wireless equipment and software industries are subject to frequent
intellectual property litigation. As the number of entrants into our target
market increases, the likelihood of infringement claims also increases. We may
unknowingly be infringing the intellectual property of others. In addition,
because patent applications can take many years to be approved, there may be one
or more patent applications now pending that could lead to infringement actions
against us if issued in the future. If we are unable to successfully defend
against a product infringement claim, we may be precluded from using the
intellectual property or may have to license it on commercially disadvantageous
terms, either of which could harm our business. Even if we successfully defend
against an infringement claim, we may have to devote significant time and
resources to litigation, which could also harm our business.




Ø
    **We
      depend on the services of key personnel to operate our business and
      implement our strategy.  If we lose the services of our key personnel
      or are unable to attract other qualified personnel, we may be unable to
      implement our strategy.**




We depend on the continued contributions of our senior management. The loss of
the services of any of our executive officers or other key employees could harm
our business. Our future success also depends, in part, on our ability to
identify, hire and retain qualified employees.  We have employment
contracts in place with Gary E. Ban, Donald T. Locke and Andrew L. Fox. We do
not currently maintain any "key person" life insurance policies on any members
of management or any other employees.  Competition for qualified personnel
is intense.  If we are unsuccessful in attracting new personnel or
retaining and motivating our current personnel, our business could be adversely
affected.  For information on our key personnel, please see “Item 10 -
Directors and Executive Officers of the Registrant” in this annual report on
Form 10-K.




Ø
    **Our
      failure to attract, train or retain highly qualified personnel could harm
      our business.**




Our success also depends on our ability to attract, train and retain qualified
personnel in all areas, especially those with management and product development
skills. In particular, we must hire additional experienced management personnel
to help us continue to grow and manage our business, and skilled software
engineers to further our research and development efforts.  At times, we
have experienced difficulties in hiring personnel with the proper training or
experience, particularly in technical and media areas. Competition for qualified
personnel is intense, particularly in high-technology centers such as the
Research Triangle, where our corporate headquarters are located.   If we do
not succeed in attracting new personnel or in retaining and motivating our
current personnel, our business could be harmed.




In making employment decisions, particularly in the high-technology industries,
our current employees and prospective job candidates often consider the value of
stock options they hold or that they may receive in connection with their
employment.  As a result of recent volatility in our stock price, we may be
disadvantaged in competing with companies that have not experienced similar
volatility or that have not yet sold their stock publicly.







42
 Table of Contents







**Risks
Relating to Our Industry**




Ø
    **Wireless
      carriers generally control the price charged for our applications either
      by approving the price of our applications or by establishing the price
      charged to their wireless subscribers. The carriers' control over the
      pricing of our applications could adversely affect market acceptance of
      our applications and our revenues.**




We
must obtain approval from our wireless carriers for the pricing of the
applications that we propose to offer to their subscribers. These approvals may
not be granted in a timely manner or at all. Some of our carrier agreements may
also restrict our ability to change prices. In addition, our carriers generally
have the ability to set the price charged to their wireless subscribers. Failure
to obtain, or a delay in obtaining, these approvals, or the price the carriers
charge for our applications could adversely affect market acceptance of our
applications.




Ø
    **The
      mobile and wireless multimedia industry is new and rapidly evolving, and
      we may not be able to accurately predict its size, needs, development or
      rate of growth.**




The market for our products is new and rapidly evolving. Wireless service
providers are only beginning to offer commercial services that could result in
utilization of our wireless applications. As a result, we cannot assess current
or future demand for remote management of resources, the creation and
interaction with multimedia content via cellular handsets and other mobile
devices, and enhanced quality of remote communications. We also do not know
whether this market will be large enough to sustain our business. We may not be
able to develop and introduce wireless applications or services that respond to
market demands, technology developments, increased competition or industry
standards on a timely basis, or at all. If this market does not evolve in the
manner or in the timeframe that we anticipate, or if we are unable to respond to
new market developments promptly, our business and prospects may
suffer.




Ø
    **Wireless
      communications technology is changing rapidly, and we may not be
      successful in working with these new
  technologies.**




Wireless
network and mobile phone technologies are undergoing rapid innovation. New
mobile phones with more advanced processors and supporting advanced programming
languages continue to be introduced in the market. We have no control over the
demand for, or success of, these products. However, if we fail to anticipate and
adapt to these and other technological changes, our market share and our
operating results may suffer. Our future success will depend on our ability to
adapt to rapidly changing technologies, develop applications to accommodate
evolving industry standards and improve the performance and reliability of our
applications. In addition, the widespread adoption of networking or
telecommunications technologies or other technological changes could require
substantial expenditures to modify or adapt our entertainment applications.




The
markets for our applications are also characterized by frequent new mobile phone
model introductions and shortening mobile phone model life cycles. The
development of new, technologically advanced applications to match the
advancements in mobile phone technology is a complex process requiring
significant research and development expense, as well as the accurate
anticipation of technological and market trends. As the life cycle of mobile
phone models and other wireless devices shortens, we will be required to develop
and adapt our existing applications and create new applications more quickly.
These efforts may not be successful. Any failure or delay in anticipating
technological advances or developing and marketing new applications that respond
to any significant change in technology or customer demand could limit the
available channels for our applications and limit or reduce our sales.




Ø
    **If
      wireless subscribers do not continue to use their mobile phones to access
      wireless applications, our business may be adversely
      affected.**




We
operate in a developing industry. Our success depends on growth in the number of
wireless subscribers who use their mobile phones to access data services and, in
particular, entertainment applications. If this market does not continue to grow
or we are unable to acquire new customers, our business growth and future
revenues could be limited.







43
 Table of Contents








Ø
    **The
      popularity of wireless applications is dependent on the availability and
      market penetration of mobile handsets enabled with advanced technologies
      such as BREW and Java, the availability and adoption of which is beyond
      our control.**





Our
customers must have a mobile phone with multimedia capabilities enabled by
technologies such as BREW and Java to download and use our applications.
Currently, only a limited number of wireless subscribers have these mobile
phones. Handsets enabled with advanced technologies, such as BREW and Java, may
be significantly more expensive than handsets without such technologies. As
such, we cannot be certain whether existing wireless subscribers will be willing
to purchase mobile phones with these technologies. If one or more of these
technologies, such as BREW or Java, falls out of favor with mobile phone
manufacturers and wireless carriers or fails to gain widespread market
acceptance among wireless subscribers, the sales of our applications could
suffer.





Ø
    **Next-generation
      mobile phones may significantly reduce or eliminate the wireless carriers'
      control over delivery of our applications, and force us to further rely on
      alternative sales channels which, if not successful, could require us to
      significantly increase our sales and marketing
      expenses.**




A
significant portion of our applications are currently sold through the branded
e-commerce services of wireless carriers. We have invested significant resources
developing this sales channel. However, a small number of mobile phone models
currently available include operating systems that allow consumers to browse the
Internet and, in some cases, download applications from sources other than a
carrier's branded e-commerce service. These so-called "open operating systems"
include Microsoft Smartphone, Symbian®, Palm OS and Linux. According to ARC
Group, 9.8 million open operating system handsets were shipped in 2003,
which they project will grow to 89.2 million handsets shipped in 2008,
representing 2.1% of the total mobile phones shipped in 2003 and 12.9% in 2008.
Increased use by consumers of open operating system handsets to bypass wireless
carriers' branded e-commerce services could reduce the market power of wireless
carriers and force us to further rely on alternative sales channels, where we
may not be as successful selling our applications, and which could require us to
significantly increase our sales and marketing expenses.




Ø
    **Actual
      or perceived security vulnerabilities in mobile phones could adversely
      affect our revenues.**




Maintaining
the security of mobile phones and wireless networks is critical for our
business. There are individuals and groups who develop and deploy viruses, worms
and other malicious software programs that may attack wireless networks and
mobile phones. Future threats could lead some customers to seek to return our
applications, reduce or delay future purchases or reduce or delay the use of
their mobile phones. Wireless carriers and mobile phone manufacturers may also
increase their expenditures on protecting their wireless networks and mobile
phone products from attack, which could delay adoption of new mobile phone
models. Any of these activities could adversely affect our
revenues.




Ø
    **Changes
      in government regulation of the media and wireless communications
      industries may adversely affect our
business.**





It is
possible that a number of laws and regulations may be adopted in the United
States and elsewhere which could restrict the media and wireless communications
industries, including customer privacy, taxation, content suitability,
copyright, distribution and antitrust. Furthermore, the growth and development
of the market for electronic commerce may prompt calls for more stringent
consumer protection laws that may impose additional burdens on companies such as
ours conducting through wireless carriers. We anticipate that regulation of our
industry will increase, and we will be required to devote legal and other
resources to addressing such regulation. Changes in current laws or regulations
or the imposition of new laws and regulations in the United States or elsewhere
regarding the media and wireless communications industries may lessen the growth
of wireless communications services and may materially reduce our ability to
increase or maintain sales of our applications.





44
 Table of Contents








Ø
    **A
      decline in, or limitation on, the use of mobile phones would negatively
      impact our business.**




A number
of public and private entities have begun to restrict the use of mobile phones
on their premises. For example, many places of worship, restaurants, hospitals,
medical offices, libraries, museums, concert halls and other private and public
businesses restrict the use of mobile phones due to privacy concerns, the
inconvenience caused by mobile phone users to other patrons and the disruption
mobile phones may cause to other electronic equipment at these locations.




Legislation
has also been proposed in the U.S. Congress and by many states and
municipalities to restrict or prohibit the use of mobile phones while driving
motor vehicles. Some states and municipalities in the United States have already
passed laws restricting the use of mobile phones while driving, and similar laws
have been enacted in other countries. These laws and other potential laws
prohibiting or restricting the use of mobile phones could reduce demand for
mobile phones generally and, accordingly, the demand for our applications, which
could reduce our ability to increase or maintain sales of our applications.




A number
of studies have examined the health effects of mobile phone use and the results
of some of the studies have been interpreted as evidence that mobile phone use
causes adverse health effects. The establishment of a link between the use of
mobile phone services and health problems, and any media reports suggesting such
a link, could reduce demand for mobile phones and, accordingly, the demand for
our applications.




Ø
    **Regulations
      governing the wireless communications industry may indirectly adversely
      affect our business.**




The wireless communications industry is subject to regulation by the Federal
Communications Commission and various state regulatory agencies. From time to
time, legislation and regulations could be adopted that could adversely affect
this industry.




Changes in regulatory environments governing the wireless telecommunication
industry could negatively affect our plans to offer products and services. The
licensing, ownership and operation of wireless communications systems and the
grant, maintenance or renewal of applicable licenses and radio frequency
allocations are all subject to significant government regulation. Government
regulation may have an adverse effect on the wireless telecommunications
companies to which we plan to market and sell our products and services under
development. Delays in receiving required regulatory approvals and licenses or
the enactment of new and adverse regulatory requirements may adversely affect
our ability to offer our technology and other new products and services. In
addition, legislative, judicial and regulatory agency actions could negatively
affect our ability to offer new technologies to wireless telecommunications
companies.







45
 Table of Contents







**Other
Risk Factors**




Ø
    **The
      price of our common stock has been and may continue to be
      volatile.**




The trading price of our common stock has been and is likely to continue to be
highly volatile.  Our stock price could be subject to wide fluctuations in
response to factors such as:






·
    actual
      or anticipated variations in quarterly operating
  results;




·
    announcements
      of technological innovations, new products or services by us or our
      competitors;




·
    changes
      in financial estimates or recommendations by securities
      analysts;




·
    the
      addition or loss of strategic relationships or relationships with our key
      customers;




·
    conditions
      or trends in the wireless markets;




·
    announcements
      by us or our competitors of significant acquisitions, strategic
      partnerships, joint ventures or capital commitments or of significant new
      product developments or changes in business
strategy;




·
    legal,
      regulatory or political developments;




·
    additions
      or departures of key personnel; and




·
    general
      market conditions.




In addition, the stock market in general, and the OTC Bulletin Board and the
market for wireless, wireless-related and technology companies in particular,
have experienced extreme price and volume fluctuations that have often been
unrelated or disproportionate to the operating performance of these companies.
These broad market and industry factors have in the past and may in the future
reduce our stock price, regardless of our operating performance.




Ø
    **The
      sale of a large number of shares of our common stock could depress our
      stock price.**




Of the 13,436,524 shares of our common stock outstanding as of March 28, 2005,
an aggregate of 6,450,494 shares are freely tradable without restriction in the
public market unless the shares are held by "affiliates," as that term is
defined in Rule 144(a)(1) under the Securities Act of 1933.




In addition, as of March 28, 2005, there were:




·
    outstanding
      warrants to purchase 3,458,788 shares of our common stock;




·
    options
      to purchase 949,578 shares of our common stock, 682,161 of which were
      fully vested; and




·
    2,407
      outstanding shares of our Series A Stock, plus related dividends, which
      are convertible into 17,692 shares of Summus’ common stock.




The market price of our common stock could decline as a result of sales of a
large number of shares of our common stock in the market, or the perception that
such sales could occur. These sales might also make it more difficult for us to
sell equity securities in the future at a price that we think is appropriate, if
at all. A large volume of sales by the selling stockholders could have a
significant adverse impact on the market price of our common stock.





46
 Table of Contents






Ø
    **Changes
      to financial accounting standards and new exchange rules could make it
      more expensive to issue stock options to employees, which would increase
      compensation costs and may cause us to change our business
      practices.**





We
prepare our financial statements to conform with generally accepted accounting
principles, or GAAP, in the United States. These accounting principles are
subject to interpretation by the Public Company Accounting Oversight Board, the
SEC and various other bodies. A change in those policies could have a
significant effect on our reported results and may affect our reporting of
transactions completed before a change is announced. For example, we have used
stock options and other long-term equity incentives as a fundamental component
of our employee compensation packages. We believe that stock options and other
long-term equity incentives directly motivate our employees to maximize
long-term stockholder value and, through the use of vesting, encourage employees
to remain with our company. Several regulatory agencies have passed new rules
that could make it more difficult or expensive for us to grant stock options to
employees. For example, the Financial Accounting Standards Board has announced
changes to GAAP that will require us to record a charge to earnings for employee
stock option grants.





In
addition, if we are able to begin trading on other exchanges, they have
regulations which generally require stockholder approval for all stock option
plans, which could make it more difficult or expensive for us to grant stock
options to employees. We may, as a result of these changes, incur increased
compensation costs, change our equity compensation strategy or find it difficult
to attract, retain and motivate employees, each of which could materially and
adversely affect our business, operating results and financial condition.





Ø
    **Our
      Directors and Executive Officers beneficially own approximately 10.52 % of
      our stock; their interests could conflict with yours; significant sales of
      stock held by them could have a negative effect on our stock price;
      stockholders may be unable to exercise
control.**




As of March 28, 2005, our executive officers, directors and affiliated persons
beneficially owned approximately 10.52% of our common stock. As a result, our
executive officers, directors and affiliated persons will have significant
influence to:




·
    elect
      or defeat the election of our directors;




·
    amend
      or prevent amendment of our articles of incorporation or
      bylaws;




·
    effect
      or prevent a merger, sale of assets or other corporate transaction;
      and




·
    control
      the outcome of any other matter submitted to the stockholders for
      vote.




Management’s
stock ownership may discourage a potential acquirer from making a tender offer
or otherwise attempting to obtain control of Summus, which in turn could reduce
our stock price or prevent our stockholders from realizing a premium over our
stock price.




**ITEM
7A.            
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK.**




We do not use any derivative financial instruments for hedging, speculative or
trading purposes.  Our exposure to market risk is currently immaterial.




**ITEM 8.
               
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.**




The financial statements and supplementary data filed with this report are set
forth in the “Index to Financial Statements and Schedules” following Part IV of
this annual report.




**ITEM 9.
               
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON**


**ACCOUNTING AND FINANCIAL DISCLOSURE.**




Not
Applicable.







47
 Table of Contents









**ITEM
9A.               
CONTROLS AND PROCEDURES.**




Under the
supervision and with the participation of our management, including our
principal executive officer and principal financial officer, we conducted an
evaluation of the effectiveness of the design and operation of our disclosure
controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the
Securities Exchange Act of 1934, within 90 days of the filing date of this
report (the “Evaluation Date”). Based upon this evaluation, our principal
executive officer and principal financial officer concluded as of the Evaluation
Date that our disclosure controls and procedures were effective such that the
material information required to the included in our Securities and Exchange
Commission (“SEC”) reports is recorded, processed, summarized and reported
within the time periods specified in SEC rules and forms relating to Summus and
was made known to them by others within those entities, particularly during the
period when this report was being prepared.




In addition, there were no significant changes in our internal controls or in
other factors that could significantly affect these controls subsequent to the
Evaluation Date. We have not identified any significant deficiencies or material
weaknesses in our internal controls, and therefore there were no corrective
actions taken.




**ITEM 9B.** **OTHER
INFORMATION.**





Not
Applicable





48
 Table of Contents









**PART
III**




**ITEM
10.              
DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT**




**Board
of Directors**




The following table provides information regarding the members of our Board of
Directors including their ages, the year they were first elected as directors
and the expiration of their terms as directors.




**Name**
    **Age**
    **First
      Year**
      **Elected
      as**
      **Director**
    **Term**
      **Expires******
    ****
    ****Gary
      E. Ban
    41
    2004
    2005Stephen
      M. Finn
    55
    2004
    2005Neil
      R. Guenther
    51
    2003
    2005Scott
      W. Hamilton
    47
    2004
    2005J.
      Winder Hughes
    46
    2003
    2005




Pursuant to a letter agreement between Summus and Hughes Capital Investors,
L.L.C. dated September 26, 2003, Summus agreed that (i) upon the receipt Summus
of a minimum of $2,000,000 in equity financing from the Series D convertible
preferred stock, being arranged by Hughes Capital, it could nominate one (1)
director to the Board of Directors of Summus and (ii) upon the receipt by Summus
of a minimum cumulative amount of $4,000,000 in equity financing from the Series
D convertible preferred stock, Hughes Capital could nominate one (1) additional
director (for a total of two (2) Directors) to Summus’ Board of Directors.
Subject to (i) the approval of the then current Board of Directors, whose
approval was not to be unreasonably withheld, and (ii) the satisfactory
completion of an investigation of such nominees by an investigative service
selected by Summus, in its sole discretion, such nominees were to be appointed
by the Board of Directors to serve as Directors and to be submitted to the
stockholders of Summus at its next annual meeting of stockholders for
election.




A total of $4,000,000 was raised in the offering of the Series D convertible
preferred stock.  On December 22, 2003, Hughes Capital nominated J. Winder
Hughes to the Board of Directors.  On February 2, 2004, Hughes Capital
nominated Stephen M. Finn to the Board of Directors.  After an
investigation of each nominee by an investigative service selected by us, each
of these nominees were unanimously approved by Summus’ full Board of
Directors.  Both Mr. Hughes and Mr. Finn will serve until Summus’ 2005
annual meeting of stockholders or until their successors have been appointed or
elected and qualified.  Mr. Hughes and Mr. Finn will also be nominated and
their names submitted to Summus’ stockholders for election as Directors to serve
a one-year term beginning with the 2005 annual
meeting.




**Advisory
Board Members**




Our Board of Directors has an advisory board.  The current member of the
advisory board is Bob Bruggeworth, who is CEO of RF Micro Devices, Inc. Members
of the advisory board are appointed through resolution of the Board and consult
and advise the Board as to industry and business matters. At the request of the
Board, members of the advisory board may attend Board meetings and participate
in such meetings, but they have no vote.  Members of the advisory board
will not be deemed to be directors of Summus and will not be subject to any
fiduciary or similar duties to Summus solely by virtue of membership on the
advisory board.  Each member of the advisory board is required to execute a
confidentiality and non-disclosure agreement with Summus and will be considered
an “insider” of Summus, subject to our insider trading
policies.







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**Executive
Officers**




The following table provides information regarding our executive officers, the
capacity in which they serve Summus, when they assumed office, and their
ages.




**Name**
    **Office**
    **Officer
      Since**
    **Age**Gary
      E. Ban
    Chief
      Executive Officer
    2001
    41Andrew
      L. Fox
    Executive
      Vice-President - Sales and Business
      Development
    2001
    41Donald
      T. Locke
    Chief
      Financial Officer and General Counsel
    2004
    45




**Business
Experience of Directors, Officers, Advisory Board Members, and Other Key
Employees**




**Gary
E. Ban** joined
Summus as its Chief Operating Officer in February 2001 and was elected as
Summus’ Chief Executive Officer on February 17, 2004. Mr. Ban was also appointed
as a Director of Summus in September 2004. In his past role as Chief Operating
Officer of Summus, Mr. Ban had supervisory responsibility over operations,
information technology and human resources. Prior to joining Summus, Ltd. in
September 1999, Mr. Ban held a variety of executive-level management positions
establishing direction and operational implementation for business, financial
and engineering systems integration.  From November 1996 through August
1999, Mr. Ban served as Director of Customer Integration for ABB Power T&D
Inc.'s electricity metering group, where he was responsible for global systems
integration for large-scale information management solutions.  Mr. Ban
holds an M.B.A. from Duke University and a bachelor's degree in industrial
management and an associate applied science degree in computer engineering from
the Milwaukee School of Engineering.




**Robert A. Bruggeworth** was
appointed to our Board of Advisors in June 2002. He is currently the Chief
Executive Officer of RF Micro Devices, Inc.  Previously, Mr. Bruggeworth
served as the president of RF Micro Devices wireless products group. Before
joining RF Micro Devices, Mr. Bruggeworth was employed by AMP, Inc., from July
1983 to June 1999, serving most recently as vice president of global computer
and consumer electronics.




**Stephen M. Finn** was
appointed to our Board of Directors in February 2004. Mr. Finn currently serves
as president of Solstice, a media production and technology consulting firm. He
began a career as an award-winning professional photographer, extending his
skills to the worlds of computer graphics and video production as these
technologies evolved. Based on this experience, Mr. Finn founded Solstice in
1978 specializing in corporate theater, sales and marketing development, product
introduction and branding.  Solstice also focuses on translating technology
advances into strategic product concepts.




**** **Andrew
L. Fox** has been
Summus’ Executive Vice President - Sales and Business Development since February
2004. Prior to that Mr. Fox served as our Vice-President - Sales and Business
Development since February 2001. Mr. Fox is responsible for sales, business
development and content acquisition activity for Summus. Before joining Summus,
Mr. Fox was marketing director at RealNetworks, a provider of software products
and services for Internet media delivery. At RealNetworks, he was part of the
initial RealAudio and RealVideo launch teams, and also started and ran
RealNetworks Enterprise Group. He has also served as a Sales and Marketing
Manager for IBM's Wireless Data Division and a Product Manager at IBM's
Networking Hardware Division. Mr. Fox holds a master of business administration
degree and an undergraduate degree in computer science and electrical
engineering from Duke University.




**** **Neil
R. Guenther** was
appointed to our Board of Directors in February 2003.  Dr. Guenther has
been a stockholder of Anesthesiology Associates of Wisconsin since 1992 and has
served as the President of its Board of Directors since January 2002. Dr.
Guenther received his Bachelor of Science degree from the University of
Wisconsin in 1977 and his medical degree from the Medical College of Wisconsin
in 1983.  Dr. Guenther is a member of the National Association of Corporate
Directors.




**Scott
W. Hamilton** was
appointed to **** our Board
of Directors in April 2004. Mr. Hamilton has over twenty years of marketing and
business development experience in new and emerging markets. In June 2002 Mr.
Hamilton founded HB Associates, an international strategic outsourcing firm.
From 1999 to 2002 he led the restart of Framework Technologies, a provider of
Collaborative Product Development Software, to 9th place among the "New England
Technology Fast 50" growing companies. Prior to 1999 Mr. Hamilton held senior
marketing positions with the consumer divisions of Waddington plc, Nice-Pak
Products and PepsiCo.




**J. Winder Hughes** was
appointed to our Board of Directors in December 2003.  Mr. Hughes is the
founder of Hughes Capital Investors L.L.C., an investment group that he formed
in 1995. He established the investor partnership, The Focus Fund L.P., in 1999,
for which he serves as the managing general partner.  Mr. Hughes, who
received his Bachelor of Arts degree in economics from the University of North
Carolina in 1980, brings more than 20 years of investment community experience
to the Summus board.




**Donald
T. Locke** joined
Summus as a consultant in October 2001 and served as its General Counsel. 
In March 2004, he was appointed as Summus’ Chief Financial Officer. Prior to
Summus, Mr. Locke was Of Counsel to Kilpatrick Stockton LLP, a large
southeastern law firm, where his practice focused on Securities and Exchange
Commission, financing and merger and acquisition issues for public companies.
Mr. Locke received his bachelor’s degree from Furman University in 1980 and his
M.B.A and Law degrees from the University of South Carolina in 1986 and 1987,
respectively.




**** **Juan
A. Pons** joined
Summus as its Vice-President of Server Development in August 2004. Mr. Pons is
responsible for architecture, design and implementation of Summus’ application
servers. Mr. Pons has more than 12 years of experience in systems design and
development, specializing in the application of standards-based Internet
technologies to business problems. Prior to joining Summus, Mr. Pons helped
launch and grow Buildscape, Inc., where he was Director of Infrastructure and
Systems Architecture. Mr. Pons has also been a technical advisor and consultant
to numerous companies seeking to strengthen their technology portfolios by
leveraging Internet and Open Source based technologies. Mr. Pons attended Clark
University in Worcester, MA, where he received a Bachelors degree in Computer
Science.




**Family
Relationships**




There are no family relationships between or among any of our directors and
executive officers.









50
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**Board
of Directors and Committees of the Board of Directors**
  Our Board of Directors is responsible for establishing broad corporate policies
and for our overall performance.  During the fiscal year ended December 31,
2004, the Board of Directors held 11 meetings.  The Board of Directors has
an Audit Committee, Compensation Committee, and Nominating
Committee.
  During the fiscal year ended December 31, 2004, our Audit Committee met 5
times.  Its members during the last fiscal year were Neil R. Guenther and
J. Winder Hughes. The Audit Committee reviews Summus’ auditing, accounting,
financial reporting, and internal control functions and makes recommendations to
the Board of Directors for the selection of independent accountants.  In
addition, the Audit Committee monitors the quality of our accounting principles
and financial reporting, as well as the independence of and the non-audit
services provided by our independent accountants.  The Audit Committee
discusses with the auditors their independence and obtains at least annually the
auditors’ written statement describing their independent status.
  Neither of the members of the Audit Committee qualifies as an “Audit Committee
Financial Expert”, as such term is defined in the rules and regulations of the
Securities and Exchange Commission.  However, the Board of Directors has
determined that each Audit Committee member has sufficient knowledge in
financial and auditing matters to serve on the Audit Committee.  The Board
of Directors will consider adding a qualified member to the Board of Directors
and the Audit Committee who will meet the requirements of an “Audit Committee
Financial Expert”.  Until that time, the Audit Committee has the authority
to engage legal counsel or other experts or consultants as it deems appropriate
to carry out its responsibilities.
  During the fiscal year ended December 31, 2004, the Compensation Committee met 1
time.  Its members during the last fiscal year were J. Winder Hughes and
Stephen M. Finn. The Compensation Committee determines, reviews, approves, and
reports to the Board of Directors on all elements of the compensation for our
executive officers including salaries, bonuses, stock options, benefits, and
other compensation arrangements.




During the fiscal year ended December 31, 2003, the Nominating Committee did not
meet. Its member during the last fiscal year was Neil R. Guenther. The
Nominating Committee shall consider candidates for the Board of Directors of the
Corporation and shall make all nominations for Directors to the full Board of
Directors.




During the last fiscal year, no Directors attended fewer than seventy-five
percent (75%) of the aggregate of the total number of meetings of the Board of
Directors held during the period they served as Directors and the total number
of meetings held by the committees of the Board of Directors during the period
that they served on any such committees of the Board of
Directors.




**Code
of Ethics**




We have adopted a Code of Ethics within the meaning of Item 405(b) of Regulation
S-K of the Securities Exchange Act of 1934.  This Code of Ethics applies to
all Directors, officers and employees of Summus.  A copy of our Code of
Ethics is publicly available on our website at www.summus.com  .




**Section
16(a) Beneficial Ownership Reporting Compliance**




**** Section
16(a) of the Securities Exchange Act of 1934 requires Summus’ executive
officers, Directors and persons who beneficially own more than 10% of Summus’
common stock to file reports of ownership and changes in ownership with the
Securities and Exchange Commission and NASDAQ.  Officers, Directors and
beneficial owners of more than 10% of Summus’ common stock are required by the
Commission regulations to furnish Summus with copies of all Section 16(a) forms
that they file.




Based solely on review of the copies of such reports furnished to us, or written
representations that no reports were required, we believe that for the period
from January 1, 2004 through December 31, 2004, all executive officers,
Directors and greater than 10% beneficial owners complied with all Section 16(a)
filing requirements applicable to them.









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**ITEM
11.               
EXECUTIVE COMPENSATION**






**Executive
Compensation**






****  The
following table provides certain summary information concerning the compensation
paid during the fiscal years ended 2004, 2003, and 2002 to (i) the Chief
Executive Officer and (ii) to each of the two other most highly compensated
executive officers of the Summus (based on salary and bonus received during the
last fiscal year) who were serving as executive officers of Summus at the end of
the fiscal year ended December 31, 2004, and whose aggregate compensation
exceeded $100,000 (the “Named Executive
Officers”).






**Summary
Compensation Table** **(1)**




**Annual**
      **Compensation**
    **Long-term**
      **Compensation
      Awards****Name
      and**
      **Principal
      Position**
    **Fiscal**
      **Year**
    **Salary
      ($)**
    **Restricted
      Stock**
      **Awards
      ($)**
    **Securities**
      **Underlying**
      **Options
      (#)****(2)
      (9)**
    **All
      Other**
      **Compensation
      ($)**Gary
      E. Ban
    2004
    $214,000**(10)**
    --
    126,919**(4)**
    $24,005**(11)**Chief
      Executive
    2003
    $171,237**(3)**
    --
    11,632**(4)**
    $1,650Officer
    2002
    $144,552
    $15,250**(5)**
    46,484**(4)**
    $1,185Donald
      T. Locke
    2004
    $192,000**(12)**
    --
    100,000
    $24,000**(13)**General
      Counsel and
    2003
    $125,911**(7)**
    --
    --
    $200,000**(8)**Chief
      Financial**(6)**
    2002
    $35,900**(7)**
    --
    6,000
    --Andrew
      L. Fox
    2004
    $171,064**(14)**
    --
    100,000
    --Executive
      Vice-
    2003
    $127,481**(14)**
    --
    --
    --President
      - Business
    2002
    $130,508**(14)**
    --
    2,735
    --Development


______________


(1)
    The
      aggregate amount of perquisites and other personal benefits, if any, did
      not exceed the lesser of $50,000 or 10% of the total amount of salary and
      bonus for any year for any of the Named Executive Officers and has
      therefore been omitted.(2)
    The
      options granted are without tandem stock appreciation rights, and we did
      not grant any stock appreciation rights to any of the Named Executive
      Officers.(3)
    $39,000
      of the total amount of cash salary compensation paid to Mr. Ban in 2003
      was for a bonus amount owed to Mr. Ban since February 16, 2001, pursuant
      to his original employment agreement with Summus.(4)
    1,919,
      11,632 and 5,167 of these options received by Mr. Ban in 2004, 2003 and
      2002, respectively, were granted pursuant to the Summus’ Alternative
      Compensation Plan in lieu of cash compensation owed to
  him.(5)
    This
      amount was paid to Mr. Ban by the issuance of 1,525 restricted shares of
      Summus’ common stock in lieu of cash compensation for salary owed to
      them.  The restrictions on these shares lapsed on April 25,
      2003.(6)
    Mr.
      Locke was appointed as Summus’ Chief Financial Officer on March 26,
      2004.  Prior to this date Mr. Locke was a consultant serving as
      Summus’ General Counsel since October 2001.(7)
    All
      amounts paid to Mr. Locke in 2002 and 2003 were paid to him as a
      consultant to Summus.





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(8)
    Mr.
      Locke converted $200,000 owed to him for services rendered to Summus as a
      consultant from October 2001 until December 2002 into warrants to purchase
      33,334 shares of Summus common stock with an exercise price of $6.00 per
      share.(9)
    All
      numbers related to stock options have adjusted retroactively to give
      effect to Summus’ one (1) for ten (10) reverse stock split which was
      effective as of March 11, 2005.(10)
    $39,000
      of the total amount of cash salary compensation paid to Mr. Ban in 2004
      was for a bonus amount owed to Mr. Ban since February 16, 2001, pursuant
      to his original employment agreement with Summus.(11)
    Mr.
      Ban was issued a total of 18,466 shares of Summus common stock, valued at
      $1.30 per share for $24,005 owed to him. $13,000 of this amount was for a
      bonus amount owed to Mr. Ban since February 16, 2001, pursuant to his
      original employment agreement with Summus, and $11,005 was for back salary
      owed to Mr. Ban.(12)
    $78,000
      of this amount was of cash salary compensation paid to Mr. Locke in 2004
      was for amounts owed to him for his consulting services from 2002.(13)
    Mr.
      Locke was issued a total of 18,462 shares of Summus common stock, valued
      at $1.30 per share for $24,000 owed to him from consulting services
      provided to Summus in 2002.(14)
    $51,064,
      $7,481 and $10,508 of the total amount of cash salary compensation paid to
      Mr. Fox in 2004, 2003 and 2002 respectively, were for commissions earned
      by him in those years.




**Option
Grants During Last Fiscal Year**




The following table sets forth information concerning options to purchase shares
of common stock granted during the fiscal year ended December 31, 2004, to the
Named Executive Officers.




**Name**
    
    **Number
      of**
      **Securities**
      **Underlying**
      **Options/SARs**
      **Granted
      (#)****(2)**
    
    **Percent
      of**
      **Total**
      **Options/SARs**
      **Granted
      To**
      **Employees
      In**
      **Fiscal
      Year**
    
    **Exercise**
      **Or
      Base**
      **Price**
      **($/Sh)**
    
    **Expiration**
      **Date**
    
    **Grant
      Date**
      **Present
      Value ($)****(4)**Gary
      E. Ban
    
    
    125,000**(1)**
    ****
    
    31.3
    %
    $
    1.40
    
    
    7/28/14
    
    $
    175,000Gary
      E. Ban
    
    
    1,919**(3)**
    ****
    
    0.6
    %
    $
    1.90
    
    
    1/1/14
    
    $
    3,262Donald
      T. Locke
    
    
    100,000**(1)**
    ****
    
    25.0
    %
    $
    1.40
    
    
    7/28/14
    
    $
    140,000Andrew
      L. Fox
    
    
    100,000**(1)**
    ****
    
    25.0
    %
    $
    1.40
    
    
    7/28/14
    
    $
    140,000




_________________


(1)
    All
      of these options are subject to the terms of Summus’ Third Amended and
      Restated Equity Compensation Plan.  All of these options were vested
      at the rate of one-thirty sixth (1/36) of the amount of the grant per
      month from the grant date of February 18, 2004.(2)
    All
      options were granted at an exercise price equal to the fair market value
      of Summus’ common stock on the date of grant.(3)
    This
      grant was vested in full on the date of grant.(4)
    The
      values in this column have been prepared using the Black-Scholes
      model.  The calculations made pursuant to this model assume (a)
      volatility of 1.218, (b) a risk-free rate of return ranging from 3.36 % to
      3.82%, (c) a dividend yield of 0%, and (d) an expected option life of five
      years.




**Aggregated
Option Exercises and Fiscal Year-End Option Values**




The following table sets forth information concerning the number and intrinsic
value of stock options held by the Named Executive Officers on December 31,
2004. Year-end values are based on the fair market value of $6.00 per share as
of December 31, 2004, as reported on the OTC Bulletin Board System.  They
do not reflect the actual amounts, if any, which may be realized upon the future
exercise of remaining stock options and should not be considered indicative of
future stock performance.  No Named Executive Officer exercised any options
during the 2004 fiscal year.







53
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**Name**
    **Number
      of**
      **Securities**
      **Underlying**
      **Unexercised
      Options**
      **at
      Fiscal Year-End (#)**
    **Value
      of Unexercised**
      **In-the-Money**
      **Options
      at Fiscal Year-End ($)****Exercisable**
    **Unexercisable**
    **Exercisable**
    **Unexercisable**Gary
      E. Ban
    96,650
    90,277
    $210,076
    $415,274Andrew
      L. Fox
    69,263
    72,222
    $146,529
    $332,221Donald
      T. Locke
    34,595
    72,222
    $134,279
    $332,221




**Employment
Agreements** ***with
Gary E. Ban, Andrew L . Fox and Donald T. Locke***






On July
28, 2004,  Summus entered into employment agreements with each of Gary E.
Ban, Donald T. Locke and Andrew L. Fox. All defined terms used in this
description of these employment agreements shall have the meanings as set forth
in the agreements, copies of which are attached as Exhibits 10.6, 10.7 and 10.8,
respectively, to this annual report on Form 10-K. The employment agreements name
Mr. Ban as Chief Executive Officer; Mr. Fox as Executive Vice-President of
Business Development and Sales; and Mr. Locke as Chief Financial Officer and
General Counsel.  The current annual base salaries for each of these
officers is as follows:




Name
of Executive  Initial
Annual Base Salary


Gary E.
Ban                                                                          
$175,000


Donald T.
Locke                                                                  
$144,000


Andrew L.
Fox                                                                     
$120,000




Under the
terms of each of the employment agreements, the Board of Directors will, on an
annual basis, review each executive’s base salary in light of the base salaries
paid to other executives of Summus and each executive’s performance.  It
may, in its discretion, increase the executive’s annual base salary by an amount
deemed appropriate by the Board.




Under the
terms of the agreements of Messrs. Ban and Locke, their annual base salaries
shall also automatically be increased to 1.5 times their initial base salary
once Summus achieves a fiscal year gross revenue of $10,000,000 and to 2.0 times
their initial annual base salary once Summus achieves a fiscal year gross
revenue of $20,000,000 and it has net income for each such fiscal year
period.  Under the terms of Mr. Fox’s agreement, his annual base salary
shall automatically be increased to $140,000 once Summus achieves positive cash
flow for a fiscal quarter.




In
addition to the annual base salary, the Board, in its discretion, may pay each
executive a bonus commensurate with other bonuses paid to employees of Summus
and take into account the total compensation paid to executives of other
companies which would be competitive for the executive’s services.  Messrs.
Ban and Locke shall receive a bonus of 100% of their annual base salary upon the
achievement of Summus’ annual objectives as set by the Board of Directors.
Messrs. Ban and Locke did not receive a bonus in 2004.







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Mr. Fox
shall receive (i) a commission bonus of $10,000 for each transaction brought to
Summus by him that Summus receives a gross profit of $250,000 from; (ii) a three
percent (3%) commission bonus of the gross profit received by Summus from all
transactions brought to Summus by him; and (iii) a one percent (1%) commission
bonus of the gross profit received by Summus from all other transactions of
Summus brought by personnel under Mr. Fox’s supervision.  No funds under
these bonus provisions of Mr. Fox’s agreement shall be payable to him until
funds are received by Summus.  Mr. Fox shall receive the commission bonuses
set forth in items (ii) and (iii) of this paragraph for a period of eighteen
(18) months from the launch of each such product related to these transactions
arranged by him or by personnel under his supervision, as the case may be. 
After such eighteen (18) month period has expired, the commission bonuses
payable to Mr. Fox for a particular transaction shall expire and no longer be
payable to him.




Any
bonuses earned by Messrs. Ban, Fox and Locke pursuant to the provisions of their
employment agreements shall not be paid to them unless and until Summus has
achieved a cash flow positive position, which will be certified to the Board of
Directors by an executive officer of Summus.




Under
these employment agreements, Summus granted to Messrs. Ban, Fox and Locke
options to purchase 125,000 100,000 and 100,000 shares of Summus common stock,
respectively.  These options vest in equal monthly installments over the
thirty-six (36) month period beginning February 18, 2004.




All
options and/or warrants previously granted to each of Messrs. Ban, Fox and Locke
in lieu of cash compensation forgone by them shall have a life of ten (10) years
from the date of each such respective grant while the executive is employed by
Summus or a life of three years from the date of termination of the executive’s
employment.




The
employment agreements with Messrs. Ban, Fox and Locke each have a term of one
(1) year, which shall be automatically extended (without further action of
Summus or the Board of Directors) each day for an additional day so that the
remaining term shall continue to be one (1) year; provided that either party may
at any time, by written notice to the other party, fix the term to a finite term
of one (1) year, without automatic extension, commencing with the date of such
notice.




Each
executive’s employment under their respective Agreements shall be terminated
immediately on his death and may be terminated by the Board:




·
    at
      any time after the Permanent Disability of executive;




·
    at
      any time without Cause prior to a Change of Control;




·
    at
      any time without Cause upon a Change of Control; or




·
    at
      any time for Cause.




If an
executive’s employment is terminated by death, his estate or designated
beneficiaries shall be entitled to receive:




·
    any
      accrued but unpaid salary;




·
    a
      cash lump sum payment in respect of accrued but unused
      vacation;




·
    life
      insurance benefits pursuant to any life insurance policy purchased by
      Summus on the executive;




·
    a
      pro rata portion of the bonus applicable to the calendar year in which
      such termination occurs, payable when and as such bonus is determined
      under the Agreement; and




·
    all
      stock option grants that have vested as of the executive’s date of
      death.




If an
executive’s employment is terminated by Summus for Permanent Disability, he
shall be entitled to receive




·
    severance
      compensation equal to his Base Salary for a period of six (6) months,
      minus any amounts payable under any short-term disability insurance policy
      provided by Summus or purchased by executive.




·
    a
      pro rata portion of the bonus applicable to the calendar year in which
      such termination occurs, payable when and as such bonus is determined
      under the Agreement;




·
    continuation
      of the insurance provided by Summus for 12 months; and




·
    all
      stock option grants that have vested as of the executive’s date of
      termination for the remainder of the term of such option
      grants.







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If the
executive’s employment is terminated by Summus without Cause prior to a Change
of Control, the executive shall be entitled to receive:




·
    accrued
      but unpaid Base Salary to the date of such termination;




·
    a
      cash lump sum payment in respect of accrued but unused vacation
      days;




·
    a
      pro rata portion of the bonus applicable to the calendar year in which
      such termination occurs, payable when and as such bonus is determined
      under the Agreement;




·
    acceleration
      of the vesting of one hundred percent (100%) of the unvested portion of
      executive’s stock options or other stock-based awards, together with the
      right to exercise such stock options or awards for a period equal to the
      remaining term for exercising such options or awards under the applicable
      agreement and/or plan; and




·
    continuation
      of the insurance provided by Summus for 12 months.




If
executive’s employment is terminated by Summus without Cause upon a Change of
Control or by Executive for Good Reason at any time, executive shall be entitled
to receive:




·
    severance
      compensation equal to his then-current Base Salary for the remaining Term
      of this Agreement; provided, however, that the executive’s severance
      compensation shall not be less than one (1) year of his then-current Base
      Salary;




·
    a
      cash lump sum payment in respect of accrued but unused vacation
      days;




·
    the
      full amount of any bonus applicable to the calendar year in which such
      termination occurs, payable when and as such bonus is determined under the
      Agreement;




·
    acceleration
      of the vesting of one hundred percent (100%) of the unvested portion of
      executive’s stock options or other stock-based awards, together with the
      right to exercise such stock options or awards for a period equal to the
      remaining term for exercising such options or awards under the applicable
      agreement and/or plan; and




·
    continuation
      of the insurance provided by Summus for 12 months.




If
executive’s employment is terminated by Summus for Cause or by the executive
without Good Reason upon a Change of Control (other than as a result of
executive’s Permanent Disability or death), Summus shall not have any other or
further obligations to executive under this Agreement, except:




·
    as
      may be provided in accordance with the terms of retirement and other
      benefit plans of Summus;




·
    as
      to that portion of any unpaid Base Salary and other benefits accrued and
      earned under this Agreement through the date of such
      termination;




·
    all
      stock option grants that have vested as of the Executive’s date of
      termination for the remainder of the term of such option grants;
      and




·
    as
      to benefits, if any, provided by any insurance policies in accordance with
      their terms.




If
executive’s employment is terminated by Summus for Cause at any time during the
Term, Executive shall immediately forfeit any and all unvested stock rights,
stock options and other such unvested incentives or awards previously granted to
him by the Summus and any Bonus earned by him but not paid pursuant to the
Agreement. Each of the employment agreements also contains customary covenants
with respect to the non-disclosure of confidential or proprietary information
regarding our business, prospects, finances, operations and trade secrets that
have no finite duration.




**Stock
Option Plan**




The following summary description of our Third Amended and Restated 2000 Equity
Compensation Plan (the “Plan”) is not intended to be complete and is qualified
by reference to the copy of the Plan, filed as Exhibit 10.5 to Summus’ Annual
Report on Form 10-K for the fiscal year ended December 31, 2004.




The Plan, as adopted by the stockholders on January 27, 2000, and subsequently
amended by the Board of Directors, is intended to provide
incentives:







56
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·
    to
      the officers and other employees of Summus and its subsidiaries by
      providing them with opportunities to purchase shares of common stock in
      Summus pursuant to options granted under the Plan which qualify as
      “incentive stock options” (“ISOs”) under Section 422(b) of the Internal
      Revenue Code of 1986, as amended (the
“Code”);




·
    to
      directors, officers, employees and consultants of Summus and its
      subsidiaries by providing them with opportunities to purchase shares of
      common stock in Summus pursuant to options granted under the Plan which do
      not qualify as ISOs (“non-qualified options”) (ISOs and non-qualified
      options being collectively referred to as “options”);
  and




·
    to
      directors, officers, employees and consultants of Summus, and its
      subsidiaries by providing them with stock appreciation rights, awards of
      restricted stock or deferred stock, stock awards, performance shares or
      other stock-based awards.




**** The
Compensation Committee (the “Committee”), consisting of two or more members of
the Board of Directors, administers the Plan.  The Committee has the
exclusive right to interpret, construe and administer the Plan, to determine the
individuals associated with Summus and its subsidiaries from among the class of
individuals eligible to whom options, awards and authorizations to make
purchases may be granted in accordance with the terms of the Plan, and to
determine the number, form, terms, conditions and duration of any such
grant.




*ISOs.* ISOs may be granted at any time through the tenth anniversary of the effective
date of the Plan (which was January 31, 2000).  The ISO exercise price
is to be no less than 100% of the “Fair Market Value” (as defined in the Plan)
of the common stock on the grant date.  No ISO may be granted to an
individual owning more than 10% of the total combined voting power of all
classes of stock issued by Summus unless the purchase price of the underlying
shares of common stock is at least 110% of the Fair Market Value of the shares
issuable on exercise of the ISO determined as of the date the ISO is granted.
ISOs granted under the Plan may have maximum terms of not more than ten years
(five years in the case of an individual that owns more than 10% of the total
combined voting power of all classes of Summus stock) or such shorter period as
the Committee specifies in an individual award.  Generally, ISOs granted
under the Plan may remain outstanding and may be exercised at any time up to
three months after the person to whom such ISO was granted is no longer
employed. ISOs granted under the Plan are subject to the restriction that the
aggregate Fair Market Value (determined as of the date of grant) of ISOs, which
first become exercisable in any calendar year, cannot exceed
$100,000.




*Stock Appreciation Rights.* Stock appreciation rights may be granted to eligible participants in tandem with
an ISO or non-qualified option or may be granted independent of any related
option.  A tandem stock appreciation right entitles the holder of the
option, within the period specified for exercise of such option, to surrender
the unexercised option or a portion thereof and receive in exchange a payment in
cash or shares of common stock having an aggregate value equal to the amount by
which the Fair Market Value of each share of common stock underlying the option
(or portion thereof) surrender exceeds the per share option exercise price,
multiplied by the number of underlying shares of common stock surrendered. 
Each tandem stock appreciation right is subject to the same terms and conditions
as the related option.




With respect to non-tandem stock appreciation rights, the Committee is to
specify the number of shares of common stock covered by such right and the base
price of a share of common stock (the “Base Price”), which is to be no less than
100% of the Fair Market Value of a share of common stock on the date of grant.
Upon exercise of a non-tandem stock appreciation right, the participant is
entitled to receive from Summus cash and/or common stock having an aggregate
Fair Market Value equal to (i) the excess of (A) the Fair Market Value of one
share of common stock at the time of exercise, over (B) the Base Price,
multiplied by (ii) the number of shares of common stock covered by the
non-tandem stock appreciation right. The Committee has the sole discretion to
determine in each case whether the payment is to be made in the form of cash or
shares of common stock.




Options and stock appreciation rights granted under the Plan are generally not
transferable, except by will or the laws of descent and distribution, or under
the terms of a qualified domestic relations order as defined by the Code or
ERISA; however, non-qualified options (including a related tandem stock
appreciation right) may be transferred to the extent determined by the Committee
to be consistent with securities and other applicable laws and with our
policy.







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*Restricted Stock.* The Committee may make restricted stock awards to participants in the Plan as an
incentive for the performance of future services that will contribute materially
to the successful operation of Summus.  Awards of restricted stock may be
made alone or in addition to or in tandem with other awards made under the Plan.
The Committee is to determine the purchase price, if any, to be paid for the
restricted stock, the length of the restriction period, the nature of the
restrictions (e.g., in terms of the participant’s service or performance),
whether the restrictions are to lapse at the end of the restriction period as to
any or all of the shares covered by the award, and whether dividends and other
distributions on the restricted stock are to be paid currently to the
participant or to Summus for the account of the participant.




*Deferred Stock.* The Committee may make deferred stock awards, together with cash dividend
equivalents, to participants in the Plan, conditioned upon the attainment of
specified performance goals or other factors or criteria as the Committee
determines. Deferred stock awards may not be sold, transferred, pledged,
assigned or encumbered during the deferral period, as specified by the
Committee. At the expiration of the deferral period, share certificates are to
be delivered to the participant in a number equal to the shares of common stock
covered by the award. Upon termination of employment during the deferral period,
the participant shall forfeit the deferred stock; however, the Committee may
accelerate the vesting of the award in the event of termination of employment
due to death, disability or retirement, or in the event of hardship or other
special circumstances.




*Stock Awards.* Stock awards are to be granted only in payment of compensation that has been
earned or as compensation to be earned.  All shares of common stock subject
to a stock award are to be valued at no less than 100% of the Fair Market Value
of such shares on the date of the stock award’s grant. Shares of common stock
subject to a stock award may be issued or transferred to the participant at the
time of grant or at a subsequent time, or in installments, as the Committee
determines. A stock award will be subject to the terms and conditions the
Committee determines; however, upon issuance of the shares, the participant
shall be entitled to receive dividends, exercise voting rights and exercise all
other rights of a stockholder except as otherwise provided in the stock
award.




*Performance Shares.* Performance shares may be awarded to participants as an incentive for the
performance of future services to Summus.  Awards of performance shares may
be made either alone or in addition to or in tandem with other awards granted
under the Plan. The Committee is to determine and designate those participants
to whom performance shares are to be awarded, the performance period and/or
performance objectives (e.g., minimum earnings per share or return on equity),
and any adjustments to be made to such objectives, applicable to such awards,
the form of settlement of performance shares, and the other terms and conditions
of such awards.




*Other Stock-Based Awards.* The Committee may grant other awards that are valued in whole or in part by
reference to, or are based on, the common stock, including convertible preferred
stock, convertible debentures, exchangeable securities, phantom stock and stock
awards or options valued by reference to book value or performance.




*Administration.* The Plan provides that the Committee may make equitable adjustments in the
aggregate number of shares of common stock that may be awarded under the Plan,
the number of shares and class of stock that may be subject to an award, the
purchase price to be paid per share under outstanding options, and the terms,
conditions or restrictions of any award in the event of any reorganization,
recapitalization, reclassification, stock split, stock dividend, merger or
consolidation or separation, including a spin-off, of Summus, the sale or other
disposition of all or a portion of its assets and certain other transactions
involving Summus; however, the Plan requires that all such adjustments shall be
made such that ISOs granted under the Plan shall continue to constitute ISOs
within the meaning of Section 422 of the Code.




Authorized but unissued shares of common stock of Summus, shares of common stock
that are not delivered or purchased under the Plan, and shares reacquired by
Summus, for reasons including a forfeiture, termination of employment,
expiration or cancellation of an option, can be issued under the Plan. As of
June 24, 2004, the Board adopted resolutions to amend the Plan to increase the
number of shares reserved for grant under the Plan to 1,500,000. As of March 28,
2005, we have issued 949,578 options to purchase shares of common our stock;
682,161 of these options are currently vested.




*Amendment of the Plan.* The Plan provides that our Board of Directors may amend or terminate the Plan at
any time, provided, however, that specific types of amendments require approval
of our stockholders and no such action may be taken which adversely affects any
award previously granted to a participant under the Plan without the written
consent of the Participant.







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**Compensation
of Directors**




The
members of the Board of Directors who are not executive officers or employees of
Summus receive:




·
    a
      one-time grant of options to purchase 3,000 shares of our common stock
      upon their initial appointment;




·
    an
      annual grant of options to purchase 4,000 shares of our common stock on
      April 1 of each year, or a pro rata portion if the Director’s service
      begins after April 1 of a particular year;




·
    an
      annual grant of options to purchase 250 shares of common stock for each
      committee of the Board of Director’s on which he serves;
    and




·
    the
      reimbursement of travel expenses for travel by members of the Board of
      Directors who reside outside of the local
area.




Each of
these grants to members of our Board of Directors as described above have an
exercise price equal to the fair market value of our common stock on the date of
grant; vest quarterly over a one-year period from the date of grant; and have a
ten-year life.




Pursuant
to the Working Director Option Program, those non-employee Directors that
provide at least fifty (50) hours of work per month to Summus, as determined by
the Chief Executive Officer for tasks related to the formulation, feasibility,
funding and execution of the long term strategy of the Corporation, as well as
other tasks assigned to them by the Chief Executive Officer, receive options to
purchase 1,500 shares of common stock of the Corporation for each month in which
they provide such services. These options are priced at the closing price of the
Corporation’s common stock on the last trading day of the respective month in
which such services are provided. During 2004, Messrs. Hughes and Finn received
options under this plan.







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During fiscal year 2004, the outside members of our Board of Directors were
issued the following grants of options opposite their names.







**Name**
    **Options
      Issued**
    **Issuance
      Date**
    **Exercise
      Price****Stephen
      M. Finn**
    3,000
    6/11/2004
    1.60636
    6/11/2004
    1.604,250
    6/11/2004
    1.201,500(1)
    4/30/2004
    1.801,500(1)
    5/28/2004
    1.801,500(1)
    6/30/2004
    1.901,500(1)
    7/30/2004
    1.801,500(1)
    8/31/2004
    1.801,500(1)
    9/30/2004
    3.201,500(1)
    10/31/2004
    4.001,500(1)
    11/30/2004
    4.501,500(1)
    12/30/2004
    6.00**Neil
      R. Guenther**
    4,250
    6/11/2004
    1.20**Scott
      W. Hamilton**
    3,000
    6/14/2004
    0.903,760
    6/14/2004
    1.20**J.
      Winder Hughes**
    1,500(1)
    4/30/2004
    1.801,500(1)
    5/28/2004
    1.801,500(1)
    6/30/2004
    1.901,500(1)
    7/30/2004
    1.801,500(1)
    8/31/2004
    1.801,500(1)
    9/30/2004
    3.201,500(1)
    10/31/2004
    4.001,500(1)
    11/30/2004
    4.501,500(1)
    12/30/2004
    6.004,500
    6/14/2004
    1.20




____________________




(1)
Option granted pursuant to the Working Directors Option Plan.




**Compensation
Committee Interlocks and Insider Participation**




**** The
Compensation Committee currently consists of Mr. Hughes and Mr. Finn, neither of
which is or has been an officer or employee of Summus. No interlocking
relationship existed during the fiscal year ended December 31, 2004, between
Summus’ Board of Directors or Compensation Committee and the board of directors
or compensation committee of any other company.







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**ITEM
12.              
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS**




The following table sets forth, as of March 28, 2005, certain information
regarding beneficial ownership of our common stock by: (i) each of our
directors, (ii) each Named Executive Officer, as such term is defined in the
regulations of the SEC, (ii) all directors and executive officers as a group and
(iii) each person who is known by us to own beneficially more than 5% of the
outstanding shares of our common stock.  As of March 28, 2005, we had
13,436,524 shares of common stock issued and outstanding.  As of that date,
we also had 2,407 shares of  Series A convertible preferred stock issued
and outstanding.  The Series A convertible preferred stock is non-voting,
except in certain instances under Delaware.




Beneficial ownership is determined in accordance with rules of the Securities
and Exchange Commission and includes generally voting power and/or investment
power with respect to securities. Shares of common stock subject to options
currently exercisable or exercisable within 60 days of March 28, 2005, are
deemed outstanding for purposes of computing the percentage beneficially owned
by the person holding the options but are not deemed outstanding for purposes of
computing the percentage beneficially owned by any other person. The persons and
entities named in the table have sole voting power and sole investment power of
the shares reflected by their names, except as otherwise noted.




Unless otherwise specified, the address for each beneficial owner is c/o Summus,
Inc. 434 Fayetteville Street, Suite 600, Raleigh, North Carolina
27601.







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**Name
      and Address of Beneficial**
      **Owner****(1)**
    **Shares
      Owned Beneficially**
    **Percent
      of Shares of Common**
      **Stock
      Outstanding******
    
    ****Gary
      E. Ban
    162,463**(2)**
    1.20%Stephen
      M. Finn
    90,136**(3)**
    *Neil
      R. Guenther
    291,796**(4)**
    2.15%Scott
      W. Hamilton
    7,731**(5)**
    *J.
      Winder Hughes
    740,946**(6)**
    5.43%Andrew
      L. Fox
    96,908**(7)**
    *Donald
      T. Locke
    97,501**(8)**
    *JDS
      Capital Management, LLC
    2,196,450**(9)**
    15.90%Empire
      Capital Partners, LP
    1,712,300
    12.74%Donald
      D. Hammett
    960,471**(10)**
    7.14%John
      A. Williams
    705,328
    5.25%All
      Executive Officers and
      Directors
      as a
      Group
      (7 persons)**(11)**
    1,487,481**(12)**
    10.52%




**__________________**




*   
  Represents beneficial ownership of less than one percent (1%) of common
stock.





(1)
    Based
      upon information supplied by officers and directors and filings under
      Section 16 of the Securities and Exchange Act of 1934, as amended (the
      "Exchange Act").(2)
    Includes
      110,525 shares of common stock underlying options and 1,255 shares of
      common stock underlying warrants that are exercisable within 60 days of
      March 28, 2005.(3)
    Includes
      31,250 shares of common stock underlying warrants and 21,386 shares of
      common stock underlying options that are exercisable within 60 days of
      March 28, 2005.(4)
    Includes
      (i) 4,000 shares of common stock held in the names of Dr. Guenther’s
      children, (ii) 136,130 shares of common stock underlying warrants and
      12,330 shares of common stock underlying options that are exercisable
      within 60 days of March 28, 2005, and (iii) 8,000 shares of common stock
      underlying warrants held in the names of Dr. Guenther’s children that are
      exercisable or convertible within 60 days of March 28,
    2005.(5)
    Includes
      971 shares of common stock underlying options and 6,760 shares of common
      stock underlying warrants that are exercisable within 60 days of March 28,
      2005.(6)
    Includes
      174,412 shares of common stock underlying warrants (75,000 of which are
      held in the name of The Focus Fund L.P., of which Mr. Hughes is the
      managing partner) and 22,110 shares of common stock underlying options
      that are exercisable within 60 days of March 28,
      2005.(7)
    Includes
      96,374 shares of common stock underlying options that are exercisable
      within 60 days of March 28, 2005.(8)
    Includes
      45,705 shares of common stock underlying options and 33,334 shares of
      common stock underlying warrants that are exercisable within 60 days of
      March 28, 2005.(9)
    Includes
      375,000 shares of common stock underlying warrants that are exercisable
      within 60 days of March 28, 2005.(10)
    Includes
      10,000 shares of common stock underlying warrants that are exercisable
      within 60 days of March 28, 2005.(11)
    Includes
      shares beneficially owned by all current directors and executive
      officers.(12)
    Includes
      315,190 shares of common stock underlying options and 385,352 shares
      underlying warrants that are exercisable within 60 days of March 28,
      2005.







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**Securities
Authorized for Issuance Under Equity Compensation
Plans**




The Third Amended and Restated 2000 Equity Compensation Plan was created in 2000
for the purpose of granting incentive or non-qualified stock options to
employees, contractors, or directors of Summus. A total of 200,000 shares were
initially authorized under the plan.   Subsequently, the Board has
amended the plan to increase the authorized shares currently to 1,500,000
shares. Options granted under this plan were priced either at the fair market
value of our common stock on the date of grant or at prices below the fair
market value of our common stock and have a life of ten (10) years from their
date of grant, subject to earlier termination as set forth in such plan. 
As of December 31, 2004, this plan is still in effect. There are no equity
compensation plans approved by stockholders at the present time.




Equity
      Compensation Plans
      Not
      Approved by the
      Stockholders
    Number
      of Securities
      to
      be Issued Upon the
      Exercise
      of
      Outstanding
      Options
    Weighted
      Average
      Exercise
      Price of
      Outstanding
      -
      Options
    Number
      of Securities
      Remaining
      Available for
      Future
      Issuance under
      Equity
      Compensation
      Plans**(3)**(a)
    (b)
    (c)Third
      Amended and Restated
      2000
      Equity Compensation Plan**(1)**
    1,101,029
    $11.16
    295,398Stock
      Options Issued Outside
      of
      Equity Compensation Plans**(2)**
    42,961
    $14.40
    N/A







(1)
    The
      Third Amended and Restated 2000 Equity Compensation Plan was originally
      approved by stockholders and authorized 200,000 shares for issuance. The
      plan was subsequently amended by the Board to increase the authorized
      number of shares to 1,500,000 and is therefore classified as a plan not
      approved by our stockholders.(2)
    These
      options were granted to Dr. Jawerth outside of the 2000 Amended and
      Restated Equity Compensation Plan in 2001 since only a maximum of 50,000
      options could be granted pursuant to such plan in any one fiscal
      year.(3)
    This
      column excludes securities reflected in column (a).




**ITEM
13.            
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS**




None




**ITEM
14.               
PRINCIPAL ACCOUNTANT FEES AND SERVICES**




**Audit
Fees**




The aggregate fees billed to us by Ernst & Young LLP for the audit of our
annual financial statements and for the review of the financial statements
included in its quarterly reports on Form 10-Q for the fiscal years ended
December 31, 2004 and 2003 totaled $169,886 and $169,996,
respectively.




**Audit-Related
Fees**




Summus did not incur or pay any fees to Ernst & Young LLP, and Ernst &
Young LLP did not provide any services related to audit-related fees in either
of the last two fiscal years.




**Tax
Fees**




The aggregate fees billed to Summus by Ernst & Young LLP for tax compliance,
tax advice, and tax planning for the fiscal years ended December 31, 2004 and
2003 totaled $0 and $0, respectively.







63
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**All
Other Fees**




The aggregate fees billed to Summus by Ernst & Young LLP for products and
services, other than those as reported above for Audit Fees, Audit-Related Fees
and Tax Fees, for the fiscal years ended December 31, 2004 and 2003 totaled $0
and $0, respectively.




It is the audit committee’s policy to pre-approve all services provided by Ernst
& Young LLP.  All services provided by Ernst & Young LLP during the
years ended December 31, 2003 and 2004 were pre-approved by the audit
committee.




As of the date of this filing, our current policy is to not engage Ernst &
Young LLP to provide, among other things, bookkeeping services, appraisal or
valuation services, or internal audit services. The policy provides that Summus
engage Ernst & Young LLP to provide audit, tax, and other assurance
services, such as review of SEC reports or filings.




The Audit
Committee considered and determined that the provision of the services other
than the services described under “Audit Fees” is compatible with maintaining
the independence of the independent auditors.






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**PART
IV**





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





(a)(1)
    Financial
      Statements.  See Index to Financial Statements on page
      F-1.(a)(2)
    Financial
      Statement Schedules have been omitted because of the absence of conditions
      under which they would be required or because the required information has
      been included in the financial statements.(a)(3)
    The
      following Exhibits are filed as part of this annual report on Form
      10-K.  The Exhibits designated by (*)  have been previously
      filed with the Securities and Exchange Commission and are incorporated by
      reference herein.





Exhibit
      Number
    Exhibit
      Description3(I).1*
    Amended
      and Restated Articles of Incorporation, filed February 28, 2000
      (incorporated by reference to Exhibit 3.1 to our Quarterly Report on Form
      10-Q for the fiscal quarter ended September 30 ,
    2003)3(I).2*
    Articles
      of Amendment and Statement of Rights and Preferences of the 8% Series A
      Convertible Preferred Stock, filed March 3, 2000 (incorporated by
      reference to Exhibit 3.2 to our Quarterly Report on Form 10-Q for the
      fiscal quarter ended September 30, 2003)3(I).3*
    Articles
      of Correction filed June 23, 2000 to Articles of Amendment, filed March 2,
      2000 (incorporated by reference to Exhibit 3.3 to our Quarterly Report on
      Form 10-Q for the fiscal quarter ended September 30,
      2003)3(I).4*
    Amendment
      to Amended and Restated Articles of Incorporation, filed February 27,
      2002, changing our name to Summus, Inc. (USA) (incorporated by reference
      to Exhibit 3.4 to our Quarterly Report on Form 10-Q for the fiscal quarter
      ended September 30, 2003)3(I).5*
    Amendment
      to Amended and Restated Articles of Incorporation, filed February 27,
      2002, increasing our authorized common stock, par value $.001, from
      50,000,000 shares to 100,000,000 shares (incorporated by reference to
      Exhibit 3.5 to our Quarterly Report on Form 10-Q for the fiscal quarter
      ended September 30, 2003)3(I).6*
    Articles
      of Amendment and Statement of Rights and Preferences of the Series C
      Convertible Preferred Stock (incorporated by reference to Exhibit 3.6 to
      our Quarterly Report on Form 10-Q for the fiscal quarter ended September
      30, 2003)3(I).7*
    Articles
      of Amendment and Statement of Rights and Preferences of the Series D
      Convertible Preferred Stock dated September 25, 2003 (incorporated by
      reference to Exhibit 3.7 to our Quarterly Report on Form 10-Q for the
      fiscal quarter ended September 30, 2003)3(I).8*
    Articles
      of Amendment and Statement of Rights and Preferences of the Series E
      Convertible Preferred Stock dated October 17, 2003 (incorporated by
      reference to Exhibit 3.8 to our Quarterly Report on Form 10-Q for the
      fiscal quarter ended September 30, 2003)3(I).9*
    Amendment
      to Amended and Restated Articles of Incorporation, filed December 3, 2003,
      increasing our authorized common stock, par value $.001, from 100,000,000
      shares to 185,000,000 shares (incorporated by reference to Exhibit 3(I).9
      to our Annual Report on Form 10-K for the fiscal year ended December 31,
      2003)3(I).10
    Articles
      of Amendment to Amended and Restated Articles of Incorporation effecting a
      one (1)-for ten (10) Reverse Stock Split of our Common
    Stock3(I).11
    Articles
      of Merger of Summus, Inc. (USA), a Florida corporation, into Summus, Inc.,
      a Delaware corporation3(I).12.
    Certificate
      of Incorporation of Summus, Inc., a Delaware corporation3(II).1
    Bylaws
      of Summus, Inc., a Delaware corporation4.1*
    Specimen
      Common Stock Certificate (incorporated by reference to Exhibit 4.1 to our
      Annual Report on Form 10-K for the fiscal year ended December 31,
      2001)4.2*
    Form
      of Subscription Agreement for private placement sales of our common stock
      (incorporated by reference to Exhibit 4.2 to our Annual Report on Form
      10-K for the fiscal year ended December 31, 2001)4.3*
    Form
      of Selling Shareholders Agreement in connection with private placement
      sales of our common stock (incorporated by reference to Exhibit 4.3 to our
      Annual Report on Form 10-K for the fiscal year ended December 31,
      2001)4.4*
    Form
      of Warrant Agreement for warrants issued in connection with private
      placement sales of our common stock (incorporated by reference to Exhibit
      4.4 to our Annual Report on Form 10-K for the fiscal year ended December
      31, 2001)4.5*
    Form
      of Series C Convertible Preferred Stock Registration Rights Agreement
      (incorporated by reference to Exhibit 4.2 to our Quarterly Report on Form
      10-Q for the fiscal quarter ended September 30,
  2003)4.6*
    Form
      of Series D Convertible Preferred Stock Registration Rights Agreement
      (incorporated by reference to Exhibit 4.4 to our Quarterly Report on Form
      10-Q for the fiscal quarter ended September 30,
  2003)4.7*
    Form
      of Series E Convertible Preferred Stock Registration Rights Agreement
      (incorporated by reference to Exhibit 4.6 to our Quarterly Report on Form
      10-Q for the fiscal quarter ended September 30,
  2003)4.8*
    Form
      of Securities Purchase Agreement for 12% Senior Notes (incorporated by
      reference to Exhibit 4.1 to our Current Report on Form 8-K dated as of
      December 20, 2004)





64
 Table of Contents








4.9*
    Form
      of 12% Senior Notes (incorporated by reference to Exhibit 4.2 to our
      Current Report on Form 8-K dated as of December 20,
  2004)4.10*
    Form
      of Warrants issued in connection with the 12% Senior Notes (incorporated
      by reference to Exhibit 4.3 to our Current Report on Form 8-K dated as of
      December 20, 2004)4.11*
    Form
      of Registration Rights Agreement in connection with 12% Senior Notes
      (incorporated by reference to Exhibit 4.4 to our Current Report on Form
      8-K dated as of December 20, 2004)4.12*
    Form
      of Warrant issued in connection with our Series E Convertible Preferred
      Stock (incorporated by reference to Exhibit 4.7 to our Quarterly Report on
      Form 10-Q for the fiscal quarter ended September 30,
  2003)4.13*
    Form
      of Registration Rights Agreement in connection with Summus’ issuance of
      its Senior Convertible Debt and Common Stock (incorporated by reference to
      Exhibit 4.3 to our Quarterly Report on Form 10-Q for the fiscal quarter
      ended March 31, 2004)10.1*
    Asset
      Purchase Agreement, dated October 30, 2000, among Summus, Inc., Summus,
      Ltd., and the stockholders named therein (incorporated by reference to
      Exhibit 10.01 to our Current Report on Form 8-K dated February 16,
      2001)10.2*
    Amendment
      Number 1 to Asset Purchase Agreement, dated as of December 30, 2000, among
      Summus, Inc., Summus, Ltd. and the stockholders named therein
      (incorporated by reference to Exhibit 10.02 to our Current Report on Form
      8-K dated February 16, 2001)10.3*
    Amendment
      to Asset Purchase Agreement, dated as of January 30, 2001, among Summus,
      Inc., Summus, Ltd. and the stockholders named therein (incorporated by
      reference to Exhibit 10.03 to our Current Report on Form 8-K dated
      February 16, 2001)10.4*
    Agreement
      for Transfer of All Rights and Reservation of License in Software, dated
      September 4, 2000, between PlusStation, LLC, Niksa Radovic and Summus,
      Ltd. (incorporated by reference to Exhibit 10.9 to our Form 10 filed on
      July 5, 2001)10.5*
    Third
      Amended and Restated Summus 2000 Equity Compensation Plan, effective June
      24, 2004 (incorporated
      by reference to Exhibit 10.10.4 to our Quarterly Report on Form 10-Q for
      the fiscal quarter ended June 31, 2004)10.6*
    Executive
      Employment Agreement, dated as of July 28, 2004, between Summus and Gary
      E. Ban (incorporated by reference to Exhibit 10.1 to our Quarterly Report
      on Form 10-Q for the fiscal quarter ended June 31,
2004)10.7*
    Executive
      Employment Agreement, dated as of July 28, 2004, between Summus and Donald
      T. Locke (incorporated by reference to Exhibit 10.2 to our Quarterly
      Report on Form 10-Q for the fiscal quarter ended June 31,
      2004)10.8*
    Executive
      Employment Agreement, dated as of July 28, 2004, between Summus and Andrew
      L . Fox (incorporated by reference to Exhibit 10.3 to our Quarterly Report
      on Form 10-Q for the fiscal quarter ended June 31,
2004)10.9*
    Lease
      Agreement, dated as of October 15, 1999, as modified on March 23, 2000 and
      June 9, 2000, between Phoenix Limited Partnership of Raleigh and Summus,
      Inc. (incorporated by reference to Exhibit 10.31 to our Form 10 filed on
      July 5, 2001)10.10*
    Lease
      Agreement, dated as of August 12, 1999, between Phoenix Limited
      Partnership of Raleigh and Summus, Ltd. (incorporated by reference to
      Exhibit 32 to our Form 10 filed on July 5,
2001)





65
 Table of Contents








10.11*
    Lease
      Modification Agreement Number 1, dated as of December 22, 1999, between
      Phoenix Limited Partnership of Raleigh and Summus, Ltd. . (incorporated by
      reference to Exhibit 33 to our Form 10 filed on July 5,
      2001)14.1*
    Code
      of Ethics (incorporated
      by reference to Exhibit 14.1 to our Annual Report on Form 10-K for the
      fiscal year ended December 31, 2003)21.1
    Subsidiaries
      of Summus - None23.1
    Consent
      of Ernst & Young LLP31.1
    Rule
      13a-14(a)/15(d)-14(a) Certificate of Gary E. Ban, Chief Executive
      Officer31.2
    Rule
      13a-14(a)/15(d)-14(a) Certificate of Donald T. Locke, Chief Financial
      Officer32.1
    Section
      1350 Certificate of Gary E. Ban, Chief Executive
Officer32.2
    Section
      1350 Certificate of Donald T. Locke, Chief Financial
    Officer












66
 Table of Contents





**INDEX
TO FINANCIAL STATEMENTS**






***Page*****Financial
      Statements of Summus, Inc.**Report
      ofIndependentRegistered Public Accounting Firm
    F-2Balance
      Sheets at December 31, 2004 and 2003
    F-3Statements
      of Operations for the Years Ended December 31, 2004, 2003 and
      2002
    F-5Statements
      of Stockholders’ Equity (Deficit) for the Years Ended December 31, 2004,
      2003 and 2002
    F-6Statements
      of Cash Flows for the Years Ended December 31, 2004, 2003 and
      2002
    F-12Notes
      to Financial Statements
    F-13


















F-1




Table of Contents






Report of
Independent Registered
Public Accounting Firm








The Board
of Directors and Stockholders


Summus,
Inc.






We have
audited the accompanying balance sheets of Summus, Inc. as of December 31, 2004
and 2003, and the related statements of operations, stockholders’ equity
(deficit) and cash flows for each of the three years in the period ended
December 31, 2004. These financial statements are the responsibility of Summus,
Inc.’s management. Our responsibility is to express an opinion on these
financial statements based on our audits.




We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. We were not engaged to perform an
audit of the Company’s internal control over financial reporting. Our audits
included consideration of internal control over financial reporting as a basis
for designing audit procedures that are appropriate in the circumstances, but
not for the purpose of expressing an opinion on the effectiveness of the
Company’s internal control over financial reporting. Accordingly, we express no
such opinion. An audit also includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.




In our
opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of Summus, Inc. at December 31, 2004
and 2003, and the results of its operations and its cash flows for each of the
three years in the period ended December 31, 2004, in conformity with, U.S.
generally accepted accounting principles.













/s/ Ernst
& Young LLP




March 25,
2005


Raleigh,
North Carolina




F-2








Table of Contents







Summus,
Inc.




Balance
Sheets




**December
      31****2004**
    
    **2003****Assets**Current
      assets:Cash
    
    $
    1,405,788
    
    $
    2,188,645Accounts receivable
    
    
    801,698
    
    
    480,494Prepaids and other current assets
    
    
    101,315
    
    
    15,800Total
      current assets
    
    
    2,308,801
    
    
    2,684,939Equipment,
      software and furniture, net
    
    
    97,005
    
    
    195,999Total
      assets
    
    $
    2,405,806
    
    $
    2,880,938











F-3







Table of Contents







**December
      31****2004**
    
    **2003**Liabilities
      and stockholders’ equity (deficit)Current
      liabilities:Accounts
      payable
    
    $
    1,167,259
    
    $
    1,350,940Accrued
      salaries and related costs
    
    
    187,029
    
    
    439,595Accrued
      interest
    
    
    96,068
    
    
    82,812Current
      portion of notes payable
    
    
    307,668
    
    
    270,195Capital
      lease obligations, current portion
    
    
    -
    
    
    17,296Preferred
      stock dividends payable
    
    
    -
    
    
    218,143Convertible
      notes payable, net of discount of $743,715
    
    
    681,285
    
    
    -Total
      current liabilities
    
    
    2,439,309
    
    
    2,378,981Notes
      payable, less current portion
    
    
    53,693
    
    
    215,932Stockholders’
      equity (deficit):Series
      A convertible preferred stock, $0.001 par value;
      10,000
      shares designated, 2,407 and 2,078 shares
      issued
      and outstanding at December 31, 2004 and 2003,
      respectively
      (liquidation preference of $2,471,195 as of
      December
      31, 2004)
    
    
    2,407,295
    
    
    2,078,312Series
      C convertible preferred stock, $0.001 par value;
      3,000
      shares designated, zero and 1,310 shares issued and
      outstanding
      at
      December 31, 2004 and 2003, respectively
    
    
    -
    
    
    365,566Series
      D convertible preferred stock, $0.001 par value;
      4,000
      shares designated, zero and 2,900 shares issued and
      outstanding
      at December 31, 2004 and 2003, respectively
    
    
    -
    
    
    2,015,604Series
      E convertible preferred stock, $0.001 par value;
      200
      shares designated, zero and 170 shares issued and
      outstanding
      at December 31, 2004 and 2003, respectively
    
    
    -
    
    
    119,460Common
      stock, $.001 par value, 185,000,000 shares authorized;
      12,105,257
      and 6,940,870 issued and 12,101,407 and 6,937,020
      outstanding
      at December 31, 2004 and 2003, respectively
    
    
    12,101
    
    
    6,937Additional
      paid-in capital
    
    
    52,485,043
    
    
    46,377,754Deferred
      compensation
    
    
    (90,363
    )
    
    (53,427
    )Accumulated
      deficit
    
    
    (54,673,653
    )
    
    (50,396,562
    )Treasury
      stock, at cost (3,850 shares)
    
    
    (227,619
    )
    
    (227,619
    )Total
      stockholders’ equity (deficit)
    
    
    (87,196
    )
    
    286,025Total
      liabilities and stockholders’ equity (deficit)
    
    $
    2,405,806
    
    $
    2,880,938




*See
accompanying notes.*






F-4







Table of Contents





Summus,
Inc.




Statements
of Operations




**Year
      ended December 31****2004**
    
    **2003**
    
    **2002**Revenues:Wireless
      applications and contracts
    
    $
    5,118,551
    
    $
    1,395,296
    
    $
    204,133Wireless
      license fees
    
    
    9,000
    
    
    249,951
    
    
    -Contracts
      and license fees
    
    
    43,889
    
    
    54,027
    
    
    202,819Total
      revenues
    
    
    5,171,440
    
    
    1,699,274
    
    
    406,952Cost
      of revenues:Wireless
      applications and contracts
    
    
    2,596,823
    
    
    1,064,643
    
    
    118,263Wireless
      license fees
    
    
    -
    
    
    -
    
    
    -Contracts
      and license fees
    
    
    7,237
    
    
    9,596
    
    
    63,846Total
      cost of revenues
    
    
    2,604,060
    
    
    1,074,239
    
    
    182,109Gross
      profit
    
    
    2,567,380
    
    
    625,035
    
    
    224,843Operating
      expenses:General
      and administrative
    
    
    2,694,571
    
    
    4,204,029
    
    
    5,363,025Research
      and development
    
    
    1,822,023
    
    
    1,056,770
    
    
    918,948Sales
      and marketing
    
    
    712,869
    
    
    393,007
    
    
    792,391Non-cash
      compensation
    
    
    79,521
    
    
    185,255
    
    
    364,000Non-cash
      consulting
    
    
    141,708
    
    
    119,630
    
    
    887,992Non-cash
      settlements
    
    
    (126,373
    )
    
    (1,525,698
    )
    
    -Total
      operating expenses
    
    
    5,324,319
    
    
    4,432,993
    
    
    8,326,356Loss
      from operations
    
    
    (2,756,939
    )
    
    (3,807,958
    )
    
    (8,101,513
    )Interest
      expense, net
    
    
    (62,519
    )
    
    (69,343
    )
    
    (50,606
    )Amortization
      of discount on debt and beneficial
      conversion
      feature
    
    
    (1,053,349
    )
    
    -
    
    
    (418,965
    )Net
      loss
    
    $
    (3,872,807
    )
    $
    (3,877,301
    )
    $
    (8,571,084
    )Net
      loss applicable to common stockholders:Net
      loss
    
    $
    (3,872,807
    )
    $
    (3,877,301
    )
    $
    (8,571,084
    )Accretion
      of beneficial conversion feature
      on
      preferred stock
    
    
    (293,444
    )
    
    (3,286,251
    )
    
    -Preferred
      stock dividends
    
    
    (175,035
    )
    
    (171,265
    )
    
    (183,039
    )Net
      loss applicable to common stockholders
    
    $
    (4,341,286
    )
    $
    (7,334,817
    )
    $
    (8,754,123
    )Per
      share amounts (basic and diluted)
    
    $
    (0.49
    )
    $
    (1.19
    )
    $
    (1.86
    )Weighted
      average shares of common stock
      outstanding
    
    
    8,865,807
    
    
    6,149,125
    
    
    4,714,930




*See
accompanying notes.*






F-5







Table of Contents





Summus,
Inc.




Statements
of Stockholders’ Equity (Deficit)






**Convertible
      Preferred Stock****Series
      A**
    
    **Series
      B**
    
    **Series
      C**
    
    **Series
      D****Shares**
    
    **Amount**
    
    **Shares**
    
    **Amount**
    
    **Shares**
    
    **Amount**
    
    **Shares**
    
    **Amount****Balance
      at December 31, 2001**
    
    
    2,000
    
    $
    2,000,000
    
    
    6,000
    
    $
    6
    
    
    -
    
    $
    -
    
    
    -
    
    $
    -Common
      stock and warrants sold for
      cash
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Common
      stock, options and warrants
      issued
      for services
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Conversion
      of Series B preferred
      stock
    
    
    -
    
    
    -
    
    
    (6,000
    )
    
    (6
    )
    
    -
    
    
    -
    
    
    -
    
    
    -Preferred
      stock dividends
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Payment
      of Series A preferred stock
      dividends
      with additional shares of
      Series
      A preferred stoc
    
    
    446
    
    
    446,312
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Conversion
      of Series A preferred
      stock  into common stock
    
    
    (118
    )
    
    (118,000
    )
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Common
      stock and warrants issued
      as payment of unpaid salary
      amounts
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Common
      stock and warrants issued
      in  partial settlement of
      vendor  liabilities
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Cash
      collection on stock subscription
      receivable
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Beneficial
      conversion feature related
      to
      convertible debentures
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Value
      of the warrants issued
      with the convertible debentures
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Common
      stock issued upon
      conversion  of convertible
      debentures and related
      accrued interest
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Write
      off of the stock purchase
      receivable
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Deferred
      compensation recognized in
      connection
      with the issuance of
      stock
      options
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Reversal
      of deferred compensation of
      forfeited
      stock options
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Amortization
      of deferred
      compensation
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Stock
      option exercises
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Warrant
      exercises
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Elimination
      of deferred redemption
      feature
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Net
      loss for the period
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -**Balance
      at December 31, 2002**
    
    
    2,328
    
    
    2,328,312
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Common
      stock and warrants sold
      for cash
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Series
      C, D and E preferred stock
      sold for cash
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    1,310
    
    
    1,310,000
    
    
    4,000
    
    
    4,000,000Stock
      issuance costs
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Recognition
      of beneficial conversion
      feature of  Series C, D and E
      preferred stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    (659,010
    )
    
    -
    
    
    (2,780,144
    )Accretion
      of beneficial conversion
      feature of  Series C, D and E
      preferred stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    365,566
    
    
    -
    
    
    2,780,144Value
      of Series C, D and E warrants
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    (650,990
    )
    
    -
    
    
    (1,219,856
    )







F-6







Table of Contents







Common
      stock, options and warrants
      issued   for services
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Preferred
      stock dividends
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Common
      stock and warrants
      issued in settlement of vendor
      liabilities
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Common
      stock issued in non-cash
      settlements
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Deferred
      compensation recognized in
      connection with the issuance of
      stock   options
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Amortization
      of deferred compensation
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Conversion
      of Series A, D and E
      preferred  stock
    
    
    (250
    )
    
    (250,000
    )
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    (1,100
    )
    
    (764,540
    )Warrant
      exercises
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Net
      loss for the period
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -**Balance
      at December 31, 2003**
    
    
    2,078
    
    
    2,078,312
    
    
    -
    
    
    -
    
    
    1,310
    
    
    365,566
    
    
    2,900
    
    
    2,015,604Accretion
      of beneficial conversion
      feature of Series C preferred stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    293,444
    
    
    -
    
    
    -Issuance
      of common stock in
      conjunction with issuance of
      convertible debt
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Beneficial
      conversion feature related
      to issuance of convertible debt
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Common
      stock, options and warrants
      issued for services
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Common
      stock issued for cash
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Common
      stock issued for accrued
      payroll
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Preferred
      stock dividends
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Deferred
      compensation related to
      issuance of stock options
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Amortization
      of deferred compensation
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Conversion
      of Series C, D and E
      preferred stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    (1,310
    )
    
    (659,010
    )
    
    (2,900
    )
    
    (2,015,604
    )Payment
      of Series A preferred stock
      dividends with additional shares of
      Series A preferred stock
    
    
    329
    
    
    328,983
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Exercise
      of warrants
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Exercise
      of options
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Warrants
      issued with convertible debt
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Conversion
      of convertible debt
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Net
      loss for the period
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -**Balance
      at December 31, 2004**
    
    
    2,407
    
    $
    2,407,295
    
    
    -
    
    $
    -
    
    
    -
    
    $
    -
    
    
    -
    
    $
    -












Table of Contents




Summus,
Inc.




Statements
of Stockholders’ Equity (Deficit)


(continued)




**Additional**
    
    **Stock****Series
      E**
    
    **Common
      Stock**
    
    **Paid-In**
    
    **Purchase****Shares**
    
    **Amount**
    
    **Shares**
    
    **Amount**
    
    **Capital**
    
    **Receivable****Balance
      at December 31, 2001**
    
    
    -
    
    $
    -
    
    
    3,715,148
    
    $
    3,715
    
    $
    27,432,481
    
    $
    (75,000
    )Common
      stock and warrants sold for cash
    
    
    -
    
    
    -
    
    
    905,317
    
    
    905
    
    
    6,438,402
    
    
    -Common
      stock, options and warrants
      issued
      for services
    
    
    -
    
    
    -
    
    
    39,463
    
    
    39
    
    
    952,653
    
    
    -Conversion
      of Series B preferred stock
    
    
    -
    
    
    -
    
    
    567,034
    
    
    567
    
    
    (561
    )
    
    -Preferred
      stock dividends
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Payment
      of Series A preferred stock
      dividends
      with additional shares of
      Series
      A preferred stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Conversion
      of Series A preferred stock
      into
      common stock
    
    
    -
    
    
    -
    
    
    829
    
    
    1
    
    
    117,999
    
    
    -Common
      stock and warrants issued as payment
      of
      unpaid salary amounts
    
    
    -
    
    
    -
    
    
    17,789
    
    
    18
    
    
    177,877
    
    
    -Common
      stock and warrants issued in
      partial
      settlement of vendor
      liabilities
    
    
    -
    
    
    -
    
    
    25,500
    
    
    26
    
    
    97,690
    
    
    -Cash
      collection on stock subscription
      receivable
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    10,000Beneficial
      conversion feature related
      to
      convertible debentures
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    189,655
    
    
    -Value
      of the warrants issued
      with
      the convertible debentures
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    190,000
    
    
    -Common
      stock issued upon conversion
      of
      convertible debentures and related
      acrued interest
    
    
    -
    
    
    -
    
    
    172,857
    
    
    173
    
    
    501,112
    
    
    -Write
      off of the stock purchase receivable
    
    
    -
    
    
    -
    
    
    -
    
    
    
    
    
    (65,000
    )
    
    65,000Deferred
      compensation recognized in
      connection
      with the issuance of
      stock
      options
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    143,950
    
    
    -Reversal
      of deferred compensation of
      forfeited
      stock options
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    (126,135
    )
    
    -Amortization
      of deferred
      compensation
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Stock
      option exercis
    
    
    -
    
    
    -
    
    
    29,030
    
    
    29
    
    
    12,721
    
    
    -Warrant
      exercises
    
    
    -
    
    
    -
    
    
    18,963
    
    
    19
    
    
    79,794
    
    
    -Elimination
      of deferred redemptionfeature
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    576,000
    
    
    -Net
      loss for the period
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -**Balance
      at December 31, 2002**
    
    
    -
    
    
    -
    
    
    5,491,930
    
    
    5,492
    
    
    36,718,638
    
    
    -Common
      stock and warrants sold for cash
    
    
    -
    
    
    -
    
    
    270,416
    
    
    270
    
    
    1,337,312
    
    
    -Series
      C, D and E preferred stock sold for cash
    
    
    200
    
    
    200,000
    
    
    -
    
    
    -
    
    
    -
    
    
    -Stock
      issuance costs
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    (184,515
    )
    
    -Recognition
      of beneficial conversion feature of
      Series C, D and E preferred stock
    
    
    -
    
    
    (140,541
    )
    
    -
    
    
    -
    
    
    3,579,695
    
    
    -Accretion
      of beneficial conversion feature of
      Series
      C, D and E preferred stock
    
    
    -
    
    
    140,541
    
    
    -
    
    
    -
    
    
    -
    
    
    -Value
      of Series C, D and E warrants
    
    
    -
    
    
    (59,459
    )
    
    -
    
    
    -
    
    
    1,930,305
    
    
    -Common
      stock, options and warrants issued for
      services
    
    
    -
    
    
    -
    
    
    21,926
    
    
    22
    
    
    112,434
    
    
    -Preferred
      stock dividends
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Common
      stock and warrants issued in
      settlement
      of vendor liabilities
    
    
    -
    
    
    -
    
    
    90,694
    
    
    91
    
    
    391,597
    
    
    -Common
      stock issued in non-cash settlements
    
    
    -
    
    
    -
    
    
    146,173
    
    
    146
    
    
    517,358
    
    
    -Deferred
      compensation recognized in connection
      with
      the issuance of stock options
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    11,550
    
    
    -Amortization
      of deferred compensation
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Conversion
      of Series A, D and E preferred stock
    
    
    (30
    )
    
    (21,081
    )
    
    566,756
    
    
    567
    
    
    1,035,054
    
    
    -







*See
accompanying notes.*






F-8







Table of Contents






Warrant
      exercises
    
    
    -
    
    
    -
    
    
    349,125
    
    
    349
    
    
    928,326
    
    
    -Net
      loss for the period
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -**Balance
      at December 31, 2003**
    
    
    170
    
    
    119,460
    
    
    6,937,020
    
    
    6,937
    
    
    46,377,754
    
    
    -Accretion
      of beneficial conversion
      feature of Series C preferred stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Issuance
      of common stock in
      conjunction with issuance of
      convertible debt
    
    
    -
    
    
    -
    
    
    1,428,600
    
    
    1,429
    
    
    498,571
    
    
    -Beneficial
      conversion feature related
      to issuance of convertible debt
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    500,000
    
    
    -Common
      stock, options and warrants
      issued for services
    
    
    -
    
    
    -
    
    
    30,000
    
    
    30
    
    
    195,678
    
    
    -Common
      stock issued for cash
    
    
    -
    
    
    -
    
    
    43,104
    
    
    43
    
    
    20,043
    
    
    -Common
      stock issued for accrued
      payroll
    
    
    -
    
    
    -
    
    
    64,748
    
    
    64
    
    
    84,108
    
    
    -Peferred
      stock dividends
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Deferred
      compensation related to
      issuance of stock options
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    116,457
    
    
    -Amortization
      of deferred compensation
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Conversion
      of Series C, D and E
      preferred stock
    
    
    (170
    )
    
    (119,460
    )
    
    2,059,000
    
    
    2,059
    
    
    2,792,015
    
    
    -Payment
      of Series A preferred stock
      dividends with additional shares of
      Series A preferred stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -Exercise
      of warrants
    
    
    -
    
    
    -
    
    
    86,207
    
    
    86
    
    
    40,431
    
    
    -Exercise
      of options
    
    
    -
    
    
    -
    
    
    24,128
    
    
    24
    
    
    64,351
    
    
    -Warrants
      issued with convertible debt
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    797,064
    
    
    -Conversion
      of convertible debt
    
    
    -
    
    
    -
    
    
    1,428,600
    
    
    1,429
    
    
    998,571
    
    
    -Net
      loss for the period
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -
    
    
    -**Balance
      at December 31, 2004**
    
    
    -
    
    $
    -
    
    
    12,101,407
    
    $
    12,101
    
    $
    52,485,043
    
    $
    -









Table of Contents




Summus,
Inc.




Statements
of Stockholders’ Equity (Deficit)




(continued)




**Total****Deferred**
    
    **Accumulated**
    
    **Treasury**
    
    **Stockholders’****Compensation**
    
    **Deficit**
    
    **Stock**
    
    **Equity
      (Deficit)****Balance
      at December 31, 2001**
    
    $
    (534,456
    )
    $
    (34,307,622
    )
    $
    (227,619
    )
    $
    (5,708,495
    )Common
      stock and warrants sold for cash
    
    
    -
    
    
    -
    
    
    -
    
    
    6,439,307Common
      stock, options and warrants
      issued
      for services
    
    
    -
    
    
    -
    
    
    -
    
    
    952,692Conversion
      of Series B preferred stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -Preferred
      stock dividends
    
    
    -
    
    
    (183,039
    )
    
    -
    
    
    (183,039
    )Payment
      of Series A preferred stock
      dividends
      with additional shares of
      Series
      A preferred stock
    
    
    -
    
    
    -
    
    
    -
    
    
    446,312Conversion
      of Series A preferred stock
      into
      common stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -Common
      stock and warrants issued as payment
      of
      unpaid salary amounts
    
    
    
    
    
    -
    
    
    -
    
    
    177,895Common
      stock and warrants issued in
      partial
      settlement of vendor
      liabilities
    
    
    -
    
    
    -
    
    
    -
    
    
    97,716Cash
      collection on stock subscription
      receivable
    
    
    -
    
    
    -
    
    
    -
    
    
    10,000Beneficial
      conversion feature related
      to
      convertible debentures
    
    
    -
    
    
    -
    
    
    -
    
    
    189,655Value
      of the warrants issued
      with
      the convertible debentures
    
    
    -
    
    
    -
    
    
    -
    
    
    190,000Common
      stock issued upon conversion
      of
      convertible debentures and related
      accrued
      interest
    
    
    -
    
    
    -
    
    
    -
    
    
    501,285Write
      off of the stock purchase receivable
    
    
    -
    
    
    -
    
    
    -
    
    
    -Deferred
      compensation recognized in
      connection
      with the issuance of
      stock
      options
    
    
    (143,950
    )
    
    -
    
    
    -
    
    
    -Reversal
      of deferred compensation of
      forfeited
      stock options
    
    
    126,135
    
    
    -
    
    
    -
    
    
    -Amortization
      of deferred
      compensation
    
    
    325,139
    
    
    -
    
    
    -
    
    
    325,139Stock
      option exercises
    
    
    -
    
    
    -
    
    
    -
    
    
    12,750Warrant
      exercises
    
    
    -
    
    
    -
    
    
    -
    
    
    79,813Elimination
      of deferred redemption
      feature
    
    
    -
    
    
    -
    
    
    -
    
    
    576,000Net
      loss for the period
    
    
    -
    
    
    (8,571,084
    )
    
    -
    
    
    (8,571,084
    )**Balance
      at December 31, 2002**
    
    
    (227,132
    )
    
    (43,061,745
    )
    
    (227,619
    )
    
    (4,464,054
    )Common
      stock and warrants sold for cash
    
    
    -
    
    
    -
    
    
    -
    
    
    1,337,582Series
      C, D and E preferred stock sold for cash
    
    
    -
    
    
    -
    
    
    -
    
    
    5,510,000Stock
      issuance costs
    
    
    -
    
    
    -
    
    
    -
    
    
    (184,515
    )Recognition
      of beneficial conversion feature of
      Series
      C, D and E preferred stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -Accretion
      of beneficial conversion feature of
      Series
      C, D and E preferred stock
    
    
    -
    
    
    (3,286,251
    )
    
    -
    
    
    -Value
      of Series C, D and E warrants
    
    
    -
    
    
    -
    
    
    -
    
    
    -Common
      stock, options and warrants issued for
      services
    
    
    -
    
    
    -
    
    
    -
    
    
    112,456Preferred
      stock dividends
    
    
    -
    
    
    (171,265
    )
    
    -
    
    
    (171,265
    )Common
      stock and warrants issued in
      settlement
      of vendor liabilities
    
    
    -
    
    
    -
    
    
    -
    
    
    391,688Common
      stock issued in non-cash settlements
    
    
    -
    
    
    -
    
    
    -
    
    
    517,504Deferred
      compensation recognized in connection
      with
      the issuance of stock options
    
    
    (11,550
    )
    
    -
    
    
    -
    
    
    -Amortization
      of deferred compensation
    
    
    185,255
    
    
    -
    
    
    -
    
    
    185,255














F-10







Table of Contents








Conversion
      of Series A, D and E preferred stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -Warrant
      exercises
    
    
    -
    
    
    -
    
    
    -
    
    
    928,675Net
      loss for the period
    
    
    -
    
    
    (3,877,301
    )
    
    -
    
    
    (3,877,301
    )**Balance
      at December 31, 2003**
    
    
    (53,427
    )
    
    (50,396,562
    )
    
    (227,619
    )
    
    286,025Accretion
      of beneficial conversion
      feature of Series C preferred stock
    
    
    -
    
    
    (293,444
    )
    
    -
    
    
    -Issuance
      of common stock in
      conjunction with issuance of
      convertible debt
    
    
    -
    
    
    -
    
    
    -
    
    
    500,000Beneficial
      conversion feature related
      to issuance of convertible debt
    
    
    -
    
    
    -
    
    
    -
    
    
    500,000Common
      stock, options and warrants
      issued
      for services
    
    
    -
    
    
    -
    
    
    -
    
    
    195,708Common
      stock issued for cash
    
    
    -
    
    
    -
    
    
    -
    
    
    20,086Common
      stock issued for accrued
      payroll
    
    
    -
    
    
    -
    
    
    -
    
    
    84,172Preferred
      stock dividends
    
    
    -
    
    
    (110,840
    )
    
    
    
    
    (110,840
    )Deferred
      compensation related to
      issuance of stock options
    
    
    (116,457
    )
    
    -
    
    
    -
    
    
    -Amortization
      of deferred compensation
    
    
    79,521
    
    
    -
    
    
    -
    
    
    79,521Conversion
      of Series C, D and E
      preferred stock
    
    
    -
    
    
    -
    
    
    -
    
    
    -Payment
      of Series A preferred stock
      dividends with additional shares of
      Series A preferred stock
    
    
    -
    
    
    -
    
    
    -
    
    
    328,983Exercise
      of warrants
    
    
    -
    
    
    -
    
    
    -
    
    
    40,517Exercise
      of options
    
    
    -
    
    
    -
    
    
    -
    
    
    64,375Warrants
      issued with convertible debt
    
    
    -
    
    
    -
    
    
    -
    
    
    797,064Conversion
      of convertible debt
    
    
    -
    
    
    -
    
    
    -
    
    
    1,000,000Net
      loss for the period
    
    
    -
    
    
    (3,872,807
    )
    
    
    
    
    (3,872,807
    )**Balance
      at December 31, 2004**
    
    $
    (90,363
    )
    $
    (54,673,653
    )
    $
    (227,619
    )
    $
    (87,196
    )










Table of Contents


Summus,
Inc.




Statements
of Cash Flows




**Year
      ended December 31****2004**
    ****
    ****
    **2003**
    ****
    ****
    **2002****Operating
      activities**Net
      loss
    
    $
    (3,872,807
    )
    $
    (3,877,301
    )
    $
    (8,571,084
    )Adjustments
      to reconcile net loss to net cash used in operating
      activities:Depreciation
      and amortization
    
    
    144,564
    
    
    259,025
    
    
    371,457Non-cash
      compensation
    
    
    79,521
    
    
    185,255
    
    
    364,000Common
      stock, options and warrants issued for services
    
    
    195,708
    
    
    112,456
    
    
    887,992Amortization
      of discount on debt and beneficial conversion feature
    
    
    1,053,349
    
    
    -
    
    
    390,250Non-cash
      settlements
    
    
    (126,373
    )
    
    (1,525,698
    )
    
    -Loss
      on disposal of fixed assets
    
    
    -
    
    
    40,760
    
    
    -Changes
      in operating assets and liabilities:Accounts
      receivable
    
    
    (321,204
    )
    
    (406,233
    )
    
    (9,172
    )Prepaid
      and other assets
    
    
    (85,515
    )
    
    88,390
    
    
    (38,704
    )Accounts
      payable and other accrued expenses
    
    
    (20,052
    )
    
    33,696
    
    
    (432,853
    )Accrued
      salaries and related costs
    
    
    (192,394
    )
    
    (124,665
    )
    
    236,007Deferred
      revenue
    
    
    -
    
    
    (7,285
    )
    
    7,285Net
      cash used in operating activities
    
    
    (3,145,203
    )
    
    (5,221,600
    )
    
    (6,794,822
    )**Investing
      activities**Purchases
      of equipment and furniture
    
    
    (45,570
    )
    
    (11,721
    )
    
    (91,212
    )Proceeds
      from sale of equipment and furniture
    
    
    -
    
    
    12,670
    
    
    -Net
      cash (used in) provided by investing activities
    
    
    (45,570
    )
    
    949
    
    
    (91,212
    )**Financing
      activities**Proceeds
      from exercise of stock options and warrants
    
    
    104,892
    
    
    928,675
    
    
    92,563Net
      proceeds from sale of common stock and warrants
    
    
    20,086
    
    
    1,337,582
    
    
    6,449,307Proceeds
      from issuance of convertible preferred stock
    
    
    -
    
    
    5,510,000
    
    
    -Stock
      issuance costs
    
    
    -
    
    
    (184,515
    )
    
    -Proceeds
      from issuance of convertible debt
    
    
    2,425,000
    
    
    -
    
    
    500,000Principal
      payments on capital lease obligations
    
    
    (17,296
    )
    
    (60,394
    )
    
    (210,818
    )Principal
      payments on notes payable and short-term borrowings
    
    
    (124,766
    )
    
    (148,042
    )
    
    (35,000
    )Net
      cash provided by financing activities
    
    
    2,407,916
    
    
    7,383,306
    
    
    6,796,052Net
      (decrease) increase in cash
    
    
    (782,857
    )
    
    2,162,655
    
    
    (89,982
    )Cash
      at beginning of year
    
    
    2,188,645
    
    
    25,990
    
    
    115,972Cash
      at end of year
    
    $
    1,405,788
    
    $
    2,188,645
    
    $
    25,990**Supplemental
      disclosures of cash flow information**Cash
      paid for interest
    
    $
    49,262
    
    $
    34,535
    
    $
    16,505




*See
accompanying notes.*






F-12







Table of Contents







Summus,
Inc.




Notes to
Financial Statements




December
31, 2004






**1. 
Business, Organization and Basis of Presentation**




*Business*




Summus,
Inc. ("Summus” or the "Company") is engaged primarily in the development of
applications that optimize the consumer wireless experience.  The core of
the Company's business plan is to focus on the emerging wireless market and
partner with leading content brands to bring branded products to mobile
phones.  Our major content brands include Sports Illustrated, America
Online, Fujifilm, Mattel, The Associated Press, The Wall Street Journal, Phil
Hellmuth, Howard Lederer, Golf Digest, Hooters, The Grateful Dead and others.




Summus
has developed software, technology and applications to enable information
processing and resource management to include, but not be limited to, the
creation, transmission, playing and management of content over wireless
networks.  We currently offer products in various categories, including
games, personalization, photo messaging, and news/information. The Company's
technology, which provides the foundation for its current products, is designed
to address the usability constraints of the existing wireless network
infrastructure. This technology will enable more efficient use of existing and
future bandwidth allocations, resulting in a perceived bandwidth increase by the
mobile end-user.




Summus
builds end-user applications for most major mobile platforms, including
QUALCOMM’s Binary Runtime Environment for WirelessTM (BREWTM), JavaTM 2 Platform,
Micro Edition (J2METM), SymbianTM OS and Wireless Application Protocol
(WAP).  We distribute our applications through major wireless carriers who
make our products available to their customers. Summus currently has
relationships with carriers that account for 98% of all U.S. wireless
subscribers. We also have relationships with international carriers covering
Canada, Latin America, Australia, Israel, the U.K and
China.




We have
completed the development and deployment of at least one or a combination of
twenty-eight (28) wireless applications on a total of forty-one (41) wireless
carriers, sixteen (16) of which are United States carriers and twenty-five (25)
of which are international carriers. Some of our United States based wireless
carriers include Alltel, Cingular, Sprint PCS, T-Mobile, US Cellular and Verizon
Wireless. These applications can be purchased by the end-user as a one-time
purchase, or a monthly subscription, depending on content, product function,
and/or carrier preferences.




The
majority of the applications completed and deployed by the Company, as well as
planned future applications, have been developed by the Company through a
process that involves securing agreements with content providers and carriers,
and developing and launching the applications. The Company outsources the
infrastructure needed to host and deliver the transactions for its application
end-users.




*Organization*




On
February 16, 2001, High Speed Net Solutions, Inc. (“High Speed”) and Summus,
Ltd. entered into a contract whereby, in legal form, High Speed acquired all the
assets of Summus, Ltd. Since the Summus, Ltd. stockholders were the majority
owners of the entity after this transaction was completed, the transaction was
accounted for as an issuance of stock by Summus, Ltd. in exchange for the net
monetary assets of High Speed accompanied by a recapitalization of Summus,
Ltd.






F-13







Table of Contents







Summus,
Inc.




Notes to
Financial Statements (continued)






**1. 
Business, Organization and Basis of Presentation
(continued)**




Subsequent
to this transaction, Summus, Ltd., continued to use the High Speed trade name,
as High Speed was a publicly-traded entity, and its stock continued to trade in
the public markets under the High Speed name.  As a result of the
transaction, the historical financial statements of Summus, Ltd., for accounting
purposes, are deemed to be those of the Company.




On
February 27, 2002, the Company officially changed its legal name from High Speed
Net Solutions, Inc. to Summus, Inc. (USA).  On March 11, 2005, Summus, Inc.
(USA) was reincorporated into the State of Delaware as Summus, Inc. Therefore,
the financial statements presented herein and labeled as the financial
statements of Summus, Inc. represent the historical financial statements of
Summus, Ltd., now renamed Summus, Inc. and also referred to herein as “the
Company.”  References herein to “High Speed” refer to High Speed Net
Solutions, Inc. prior to the February 16, 2001 recapitalization
transaction.




*Future
Operations*




As shown
in the financial statements for the year ended December 31, 2004, the Company
incurred a net loss of $3,872,807 and experienced negative cash flows from
operations.  The Company’s operations are dependent on its ability to
generate sufficient cash flow to meet its obligations on a timely basis, to
obtain additional financing, and ultimately to attain profitability.  The
Company is actively promoting and expanding its product line. As disclosed in
Note 16, subsequent to December 31, 2004, the Company raised additional equity
financing from existing stockholders.  Management expects to be able to
attract additional capital, if necessary, to expand operations and also expects
that increased revenues will reduce its operating losses in future periods.
However, there can be no assurance that management’s plan will be executed as
anticipated.






F-14







Table of Contents







Summus,
Inc.




Notes to
Financial Statements (continued)






**2. 
Summary of Significant Accounting Policies**




*Estimates*




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




*Reverse
Stock Split*




On March
11, 2005, the Company effected a one-for-ten reverse stock split. Accordingly,
all share and per share amounts have been retroactively adjusted to give effect
to this event.




*Revenue
Recognition and Related Costs*




Change
in Revenue Recognition Policy




In 2003,
after a careful review of the Company’s revenue recognition policies and giving
consideration to guidance provided for in Emerging Issues Task Force No. 99-19
“ *Reporting
Revenue Gross as a Principal versus Net as an Agent”* (“EITF
99-19”), the Company changed certain revenue recognition policies affecting
revenues earned by wireless applications and contracts.  Prior to
4 th quarter
2003, the Company reported revenues earned by wireless applications and
contracts and cost of revenues for wireless applications and contracts  net
of certain third-party costs in the statement of operations.  These
transactions were reclassified in 2003 to reflect a gross revenue presentation
with no effect on gross profit or net loss.  Revenues and costs of revenues
for 2002 were not reclassified due to immateriality.




Wireless
applications and contracts




Commencing
during the second quarter of 2002, our resources were dedicated to the
development of solutions for the mobile markets.  Revenues earned from
wireless applications are recognized upon delivery and acceptance by the
end-user either as a one-time purchase or a monthly subscription.  For
content delivery partner arrangements, whereby the Company remits a portion of
the revenues earned through the sale of the Company’s applications, revenue is
recorded on a gross basis in accordance with EITF 99-19.  The Company
recognizes the cost of payments to the content providers as a cost of
revenues.  Wireless applications and contracts cost of revenues includes
all third-party hosting, testing and/or carrier distribution fees.  These
costs are incurred on a monthly basis and are primarily fixed in nature
regardless of the revenue generated by the related
applications.




During
January of 2002, the Company entered into a strategic partnership agreement with
a global leader in semiconductor, telecommunication and digital convergence
technology, related to the mobile and wireless markets for which it received
$100,000.  Revenue earned under this agreement was recognized ratably over
the twelve-month term of the agreement.






F-15







Table of Contents







Summus,
Inc.




Notes to
Financial Statements (continued)




**2. 
Summary of Significant Accounting Policies (continued)**




Periodically,
we enter into non-recurring engineering arrangements with our content
partners.  Generally, under the terms of these agreements, we receive
funding upfront to complete projects. The funding we receive upfront is recorded
as deferred revenue and is recognized as revenue under the terms of the
individual arrangements.  Deferred revenue represents amounts received for
which the Company has not yet completed its contractual obligations.




Wireless
License Fees




We
recognize revenue from licensee fees for wireless software applications in
accordance with the provisions of AICPA Statement of Position 97-2,
“ *Software
Revenue Recognition* ”, as
amended by AICPA Statement of Position 98-9 “ *Modification
of SOP No. 97-2 Software Revenue Recognition with Respect to Certain
Transactions* .”
Revenue from software license fees is generally recognized upon delivery
provided that a contract has been executed, the vendor fee is fixed or
determinable, no significant vendor obligations or uncertainties surrounding
customer acceptance remain, and collection of the resulting receivable is deemed
probable.




There
were no costs related to the wireless license fee revenue generated during the
years ended December 31, 2004 and 2003 as the license fee revenue related to
technology that had been previously developed by the Company, and there were no
costs for installation, delivery or customization, or other related
costs.




Contracts
and license fees




We derive
certain revenues from research and development contracts for governmental
agencies and the commercial licensing of our technology.  We recognize
revenue on these contracts at the time services are rendered based upon the
terms of individual contracts.  Regarding the commercial licensing of our
technology, we follow the provisions of AICPA Statement of Position 97-2,
“ *Software
Revenue Recognition* ”, as
amended by AICPA Statement of Position 98-9 “ *Modification
of SOP No. 97-2 Software Revenue Recognition with Respect to Certain
Transactions* .”
Revenue from software license fees is generally recognized upon delivery
provided that a contract has been executed, the vendor fee is fixed or
determinable, no significant vendor obligations or uncertainties surrounding
customer acceptance remain, and collection of the resulting receivable is deemed
probable.




*Segments*




Management
has structured the Company’s internal organization as one business segment for
which all operating decisions are made and all operating results are
evaluated.




*Equipment,
Software  and Furniture*




Equipment,
software and furniture is stated at cost. Depreciation is computed over the
estimated useful lives of the assets (generally three to seven years) using the
straight-line method. Amortization of capital lease assets is included in
depreciation expense.




*Financial
Instruments*




The
Company’s financial instruments that are exposed to a concentration of credit
risk consist primarily of its trade accounts receivable, which are
unsecured.  Collateral is generally not required. Management provides an
estimated






F-16







Table of Contents







Summus,
Inc.




Notes to
Financial Statements (continued)






**2. 
Summary of Significant Accounting Policies (continued)**




allowance
for doubtful accounts based on its assessment of the likelihood of future
collections.  No allowance has been recorded as of December 31, 2004 or
2003, as all amounts are deemed to be fully collectible.  The carrying
amount of cash, accounts receivable, accounts payable and debt approximate fair
value for these financial instruments because of the short maturities of the
instruments.




*Significant
Concentrations*




For the
year ended December 31, 2004, one customer accounted for 52% and 32% of the
Company’s revenues and accounts receivable, respectively.  This same
customer accounted for 45% and 59% of the Company’s revenues and accounts
receivable for the year ended December 31, 2003 and 100% of the Company’s
wireless application revenues and accounts receivable for the year ended
December 31, 2002.  Should this wireless carrier discontinue the deployment
of the Company’s applications, the Company’s business would be adversely
affected. In addition, a second customer accounted for 12% of the Company’s
accounts receivable as of December 31, 2004. There were no other customers with
revenues or accounts receivable in excess of 10 percent of the respective
balances.




*Software
Development Costs*




Capitalization
of software development costs begins with the establishment of technological
feasibility of new or enhanced software products. Technological feasibility of a
computer software product is established when the Company has completed all
planning, designing, coding and testing that is necessary to establish that the
software product can be produced to meet design specifications including
functions, features and technical performance requirements. All costs incurred
prior to establishing technological feasibility of a software product are
charged to research and development expense as incurred.




During
2004 and 2003, the period between achieving technological feasibility and the
general availability of the software coincided, therefore no software
development costs were capitalized.




*Advertising
Costs*




Advertising
costs are expensed as incurred. Advertising expense for the years ended December
31, 2004, 2003 and 2002 was $336,299, $34,485 and $11,406,
respectively.




*Income
Taxes*




Income
taxes are accounted for using the liability method in accordance with Statement
of Financial Accounting Standards (“SFAS”) No. 109, *“Accounting
for Income Taxes.”* Under
SFAS 109, deferred tax assets or liabilities are computed based upon the
difference between the financial statement and income tax basis of assets and
liabilities using the enacted marginal tax rate applicable when the related
asset or liability is expected to be realized or settled. Deferred income tax
expenses or benefits are based on the changes in the asset or liability from
period to period. If available evidence suggests that it is more likely than not
that some portion or all of the deferred tax assets will not be realized, a
valuation allowance is required to reduce the deferred tax assets to the amount
that is more likely than not to be realized. Future changes in such valuation
allowance would be included in the provision for deferred income taxes in the
period of change.






F-17







Table of Contents










Summus,
Inc.






Notes to
Financial Statements (continued)






**2. 
Summary of Significant Accounting Policies (continued)**




*Stock-Based
Compensation*




The
Company has stock-based compensation plans for employees, consultants and
directors, which are described more fully in Note 12.  The Company accounts
for those plans under the intrinsic value method prescribed by APB Opinion No.
25, “ *Accounting
for Stock Issued to Employees”* and
related interpretations.  For options granted under those plans with an
exercise price equal to the market value of the stock on the date of grant, no
compensation cost is recognized in net operations as reported in the statement
of operations.  Compensation cost is recognized in net earnings/loss for
awards granted under those plans with an exercise price less than the market
value of the underlying common stock on the date of grant.  Such costs are
recognized ratably over the vesting period.  The Company recorded non-cash
compensation related to the issuance of fully-vested stock options with exercise
prices below the fair market value of the underlying stock plus the amortization
of deferred compensation arising from stock option issuances subject to vesting
totaling $79,521, $185,255 and $364,000 in 2004, 2003 and 2002,
respectively.




The
following table illustrates the effect on net loss and net loss per share if the
Company had applied the fair value recognition provision of Statement of
Financial Accounting Standards No. 123, “ *Accounting
for Stock-Based Compensation”.* In
accordance with SFAS 123, the fair value of each option grant was determined by
using the Black-Scholes option pricing model with the following weighted average
assumptions for the years ended December 31, 2004, 2003 and 2002: dividend yield
of 0%; volatility ranging from 1.218 to 1.789; risk-free interest rate ranging
from 2.75% to 5.34%, and expected option lives of 5 years for employees and
consultants and 10 years for Board members.  The weighted average
grant-date fair value of options granted during 2004, 2003 and 2002 was $1.48,
$3.00 and $6.20 per option, respectively.




**Year
      ended December 31****2004**
    
    **2003**
    
    **2002**Net
      loss applicable to common stockholders
    
    $
    (4,341,286
    )
    $
    (7,334,817
    )
    $
    (8,754,123
    )Non-cash
      compensation charges included in
      net
      loss applicable to common stockholders
    
    
    79,521
    
    
    185,255
    
    
    364,000Stock-based
      employee compensation cost that
      would
      have been  included in net loss applicable to
      common stockholders under the fair value method
    
    
    (1,185,769
    )
    
    (2,310,252
    )
    
    (2,367,851
    )Adjusted
      net loss applicable to common
      stockholders
    
    $
    (5,447,534
    )
    $
    (9,459,814
    )
    $
    (10,757,974
    )Basic
      and diluted loss per share:Reported
      net loss applicable to common
      stockholders
    
    $
    (0.49
    )
    $
    (1.19
    )
    $
    (1.86
    )Non-cash
      compensation charges included in net
      loss
      applicable to common stockholders
    
    
    0.01
    
    
    0.03
    
    
    0.08Stock-based
      employee compensation cost that
      would
      have been included in net loss applicable
      to common stockholders under the fair value method
    
    
    (0.13
    )
    
    (0.38
    )
    
    (0.50
    )Adjusted
      net loss applicable to common
      stockholders
    
    $
    (0.61
    )
    $
    (1.54
    )
    $
    (2.28
    )




F-18







Table of Contents










Summus,
Inc.




Notes to
Financial Statements (continued)






**2. 
Summary of Significant Accounting Policies (continued)**




The
Company accounts for stock-based compensation to non-employees of the Company,
primarily consultants and advisors, at the fair value of the equity instrument
in accordance with the provisions of SFAS No. 123 and Emerging Issues Task Force
(“EITF”) 96-18, “ *Accounting
for Equity Instruments That Are Issued to Other Than Employees for Acquiring, or
in Conjunction With Selling, Goods or Services.”* EITF
96-18 requires that compensation be measured at the end of each reporting period
for changes in the fair value of the Company’s stock until the options are
vested.  Non-cash consulting expense related to such stock based
compensation for the years ended December 31, 2004, 2003 and 2002 was $141,708,
$119,630 and $887,992, respectively.




*Net
Loss Per Share*




Loss per
share has been calculated in accordance with SFAS No. 128, *“Earnings
Per Share.”* Basic
loss per share was computed by dividing the net loss for each period presented
by the weighted average number of shares of common stock outstanding for such
period, as adjusted for the recapitalization. Although the Company has potential
common stock equivalents related to its outstanding stock options, warrants and
preferred stock, these potential common stock equivalents were not included in
diluted loss per share for each period presented because the effect would have
been antidilutive.




Common
stock equivalents not included in diluted loss per share in 2004 consist of
1,143,990 outstanding stock options, 4,663,860 outstanding warrants, 17,354
Series A preferred shares and related dividends, as converted, and 263,889
convertible debt shares, as converted.




*Reclassifications*




Certain
reclassifications have been made to the 2003 and 2002 financial statements to
conform to classifications used in the current year. These reclassifications had
no impact on net loss or stockholders’ equity (deficit).




*New
Accounting Pronouncements*




In
January 2003, the EITF published EITF Issue 00-21, " *Revenue
Arrangements with Multiple Deliverables* ," which
requires companies to determine whether an arrangement involving multiple
deliverables contains more than one unit of accounting.  In applying EITF
Issue 00-21, revenue arrangements with multiple deliverables should be divided
into separate units of accounting if the deliverables in the arrangement meet
certain criteria.  Arrangement consideration should be allocated among the
separate units of accounting based on their relative fair values.  EITF
Issue 00-21 was effective for revenue arrangements entered into in fiscal
periods beginning after June 15, 2003.  The adoption of EITF Issue 00-21
did not have any impact on the Company's financial statements.





In
January 2003, the FASB issued FASB Interpretation No. 46, “ *Consolidation
of Variable Interest Entities, an Interpretation of ARB No. 51* ”, and
revised the interpretation in December 2003 (“FIN 46(R)”). FIN 46(R) requires
certain variable interest entities to be consolidated by the primary beneficiary
of the entity if the equity investors in the entity do not have the
characteristics of a controlling financial interest or do not have sufficient
equity at risk for the entity to finance its activities without additional
subordinated financial support from other parties. FIN 46(R) is effective
immediately for all new variable interest entities created or acquired after
January 31, 2003. For variable interest entities created or acquired prior to
February 1, 2003, the provisions of FIN 46(R) must be applied for the first
interim or annual period ending after March 15, 2004. The Company did not have
any ownership in any variable interest entities as of December 31, 2004. We will
apply the consolidation requirement of FIN 46(R) in future periods if we own any
interest in any variable interest entity.




In May
2003, the FASB issued SFAS No. 150, " *Accounting
for Certain Financial Instruments with Characteristics of Both Liabilities and
Equity* ."
 SFAS No. 150 establishes standards for how an issuer of financial
statements classifies and measures certain financial instruments that have
characteristics of both liabilities and equity. SFAS No. 150 is effective for
financial instruments entered into or modified after May 31, 2003, and otherwise
is effective at the beginning of the first interim period beginning after June
15, 2003.  The adoption of SFAS No. 150 did not have any impact on the
Company's financial statements.






F-19







Table of Contents










Summus,
Inc.




Notes to
Financial Statements (continued)






**2. 
Summary of Significant Accounting Policies (continued)**




In
December 2004, the FASB issued SFAS No. 123 (revised 2004), “ *Share-Based
Payment* ” (“SFAS
No. 123 (R)”). SFAS No. 123(R), a revision of SFAS No. 123, “ *Accounting
for Stock-Based Compensation* ”,
supersedes APB Opinion No. 25, “ *Accounting
for Stock Issued to Employees* ”, and
amends SFAS No. 95, “ *Statement
of Cash Flows* .” SFAS
No. 123(R) requires all share-based payments to employees, including grants of
employee stock options, to be recognized in the financial statements based on
their fair values. SFAS No. 123(R) is effective for the beginning of the first
interim or annual period beginning after June 15, 2005. Therefore the Company
plans to adopt SFAS No. 123(R) on July 1, 2005. The adoption of the SFAS No.
123(R) fair value method will have a significant impact on the Company’s results
of operations, although it will have no impact on financial position. The impact
of adoption of SFAS No. 123(R) cannot be predicted at this time because it will
depend on levels of share-based payments granted in the future. However, had the
Company adopted SFAS No. 123(R) in prior periods, the impact of the standard
would have approximated the impact of SFAS No. 123 as described in the
disclosure of pro forma net income (loss) and earnings (loss) per share in Note
2 to the Company’s financial statements. The Company is currently evaluating the
two fair value pricing methods permitted by SFAS No. 123(R) and has not selected
a final fair value pricing model.




**3. 
Equipment, Software and Furniture**




Equipment,
software and furniture consists of the following at December 31:




**2004**
    
    **2003**Computer
      equipment financed by capital leases
    
    $
    634,529
    
    $
    657,419Computer
      software and equipment
    
    
    414,622
    
    
    691,833Furniture
      and fixtures
    
    
    160,403
    
    
    167,4981,209,554
    
    
    1,516,750Less
      accumulated depreciation
    
    
    (1,112,549
    )
    
    (1,320,751
    )$
    97,005
    
    $
    195,999




Depreciation
expense totaled $144,564, $259,025 and $371,457 for the years ended December 31,
2004, 2003 and 2002, respectively.




**4. 
Leases**




The
Company leases equipment and office space under operating lease agreements.
Rental expense amounted to approximately $249,000, $259,000 and $347,000 for the
years ended December 31, 2004, 2003 and 2002, respectively.




Minimum
future lease payments under noncancellable operating leases at December 31, 2004
are as follows:




2005
    
    $
    257,5672006
    
    
    205,3982007
    
    
    4,7162008
    
    
    4,7162009
    
    
    1,965Total minimum lease payments
    
    $
    474,362




F-20







Table of Contents







Summus,
Inc.




Notes to
Financial Statements (continued)






**5. 
Income Taxes**




No
provision for income taxes has been recorded during the years presented due to
the Company’s significant operating losses in each year.




Deferred
income taxes reflect the net tax effects of temporary differences between the
carrying amounts of assets and liabilities for financial reporting purposes and
the amounts used for income tax purposes. Significant components of the
Company’s deferred tax assets are as follows:







**December
      31****2004**
    
    **2003**Accrued
      expenses and other revenue
    
    $
    10,000
    
    $
    100,000Net
      operating losses
    
    
    12,610,000
    
    
    10,790,000Start-up
      costs
    
    
    1,660,000
    
    
    2,420,000Other
    
    
    160,000
    
    
    -Stock
      based compensation
    
    
    190,000
    
    
    90,000Total
      deferred tax assets
    
    
    14,630,000
    
    
    13,400,000Valuation
      allowance
    
    
    (14,630,000
    )
    
    (13,400,000
    )Net
      deferred taxes
    
    $
    -
    
    $
    -




Management
has determined that a 100% valuation allowance for existing deferred tax assets
is appropriate given the uncertainty regarding the ultimate realization of these
assets.




The
reasons for the difference between actual income tax benefit for the years ended
December 31, 2004, 2003 and 2002 and the amount computed by applying the
statutory federal income tax rate to losses before incomes taxes are as
follows:




**December
      31****2004**
    ****
    ****
    **2003**
    ****
    ****
    **2002**Income
      tax benefit at statutory rate
    
    $
    (1,360,000
    )
    
    (35.0
    )%
    $
    (1,350,000
    )
    
    (35.0
    )%
    $
    (3,000,000
    )
    
    (35.0
    )%State
      income taxes, net of federal benefit
    
    
    (180,000
    )
    
    (4.5
    )
    
    (170,000
    )
    
    (4.5
    )
    
    (380,000
    )
    
    (4.5
    )Non-deductible
      expenses
    
    
    480,000
    
    
    12.4
    
    
    1,000
    
    
    0.1
    
    
    6,000
    
    
    0.1Change
      in valuation allowance
    
    
    1,230,000
    
    
    31.7
    
    
    1,500,000
    
    
    38.8
    
    
    3,400,000
    
    
    39.7Other
    
    
    (170,000
    )
    
    (4.6
    )
    
    19,000
    
    
    0.6
    
    
    (26,000
    )
    
    (0.3
    )Income
      tax benefit
    
    $
    -
    
    
    -
    %
    $
    -
    
    
    -
    %
    $
    -
    
    
    -
    %








At
December 31, 2004, the Company had federal and state net operating loss
carryforwards of approximately $31.9 million for income tax purposes. The tax
benefit of these carryforwards is reflected in the above table of deferred tax
assets. If not used, these carryforwards begin to expire in 2020 for federal tax
purposes and in 2015 for state tax purposes. U. S. tax rules impose limitations
on the use of net operating losses following certain changes in ownership. If
such a change occurs, the limitation would reduce the amount of these benefits
that would be available to offset future taxable income each year, starting with
the year of ownership change. Additionally, the Company has federal research and
development credits of approximately $164,000 which begin to expire in 2024.













F-21







Table of Contents










Summus,
Inc.






Notes to
Financial Statements (continued)






**6. 
Related Party Transactions**




During
2004, the Company issued fully-vested stock options to purchase 27,000 shares of
common stock to two directors of the Company, working as consultants to the
Company. These options were valued at $76,500 using the Black-Scholes
option-pricing model under the fair value method of accounting.




During
2003, the Company paid commissions to a director of the Company in connection
with the Series D and E convertible preferred stock offerings.  The Company
paid cash commissions of $117,000 and issued warrants to purchase 97,500 shares
of common stock with an exercise price of $3.50 per share and a contractual life
of three years.  The warrants were valued at $299,750, using the
Black-Scholes option-pricing model.  The value of the consideration paid to
the director was recorded as a stock issuance cost.




**7. 
Convertible Notes Payable**




*May
2004 Convertible Notes Payable*




In May
2004, the Company entered into senior convertible debt agreements with certain
investors to provide up to $2,000,000 of financing in the form of convertible
notes payable (the "Notes"). The Notes did not bear interest and were
convertible into shares of the Company’s common stock at the option of the
holder. At the closing of the senior convertible debt agreements, each investor
received 715 shares of the Company’s common stock for each $1,000 invested, for
a total of 1,428,600 shares of the Company’s common stock. Each $1,000 of senior
convertible debt issued and outstanding was convertible into an additional 1,429
shares of the Company’s common stock.




Upon
closing, the Company received $1,000,000 in cash and the remaining $1,000,000 of
proceeds received were placed in an escrow account with American Stock Transfer
Company (the “Escrow Agent”). The Company was not to have access to this
escrowed $1,000,000 until it achieved positive EBITDA, as defined in the senior
convertible debt agreements, for a one-month period. The Company achieved
positive EBITDA for the month of August 2004 and sent the Escrow Agent a
certificate of its Chief Financial Officer notifying it of such, which gave the
Company access to the escrowed funds. The Company was not required to and did
not draw down any of these funds. Any of the escrowed funds not drawn down by
the Company by March 31, 2005, were to be released by the Escrow Agent to the
holders of the Notes on a pro rata basis. Any of the escrowed funds not released
by the Escrow Agent to the Company were to have no conversion rights into
the Company’s common stock as set forth above. On December 16, 2004, the Company
released all of the escrowed funds, plus accrued interest, to the respective
investors on a pro rata basis.




The
Company allocated the $1,000,000 of proceeds received in connection with the
financing in May 2004 between the Notes and the 1,428,600 shares of common stock
issued on a relative fair value basis.  Accordingly, the Company allocated
$500,000 to the Notes and $500,000 to the common stock issued.  Since the
Notes were issued at a discount to the principal balance, which is the basis for
conversion, the effective conversion price of the Notes was less than the fair
value of the Company's common stock on the date of issuance.  Accordingly,
a beneficial conversion feature of $500,000 was recorded as a discount to the
Notes and a corresponding credit to additional paid-in capital on the date of
issuance. Since the Notes had a term of three years, the aggregate discount of
$1,000,000 was being amortized to interest expense over a thirty-six month
period commencing on the date of issuance.




From
September to December 2004, these notes were converted into 1,428,600 shares of
common stock. The remaining discount on these Notes was fully amortized in 2004.
Amortization of the discount of the Notes was $1,000,000 for the year ended
December 31, 2004.




*December
2004 Convertible Notes Payable*




In
December 2004, the Company entered into senior debt agreements with certain
investors for $1,425,000 of financing in the form of notes payable (the "Senior
Notes"). The Senior Notes bore interest at 12% and were to mature on the earlier
of when the Company closed on at least $3,000,000 in financing or May 15, 2005
(“Maturity Date”). The Senior Notes had an optional conversion feature in that
the Senior Notes were convertible into shares of the Company’s common stock at
the option of the holder, in the event the Senior Notes were not repaid prior to
or on the Maturity Date. The conversion price was to be the lower of 90% of the
closing price of the Company’s common stock on the Maturity Date or 90% of the
average closing prices of the Company’s common stock for the five days prior to
optional conversion.






F-22










Table of Contents










Summus,
Inc.






Notes to
Financial Statements (continued)




**7. 
Convertible Notes Payable (continued)**




At the
closing of the Senior Notes, the investors received warrants to purchase 279,413
shares of the Company’s common stock. The warrants were exercisable upon
issuance, have a term of five years and have an exercise price of $5.60 per
share.




The
Company allocated the $1,425,000 of proceeds received in connection with the
financing in December 2004 between the Senior Notes and the warrants on a
relative fair value basis.  Accordingly, the Company allocated $627,936 to
the Senior Notes and $797,064 to the warrants issued.  Since the Senior
Notes were issued at a discount to the principal balance, which is the basis for
the optional conversion, the effective conversion price of the Senior Notes was
less than the fair value of the Company's common stock on the date of
issuance.  In accordance with EITF 98-5, " *Accounting
for Convertible Securities with Beneficial Conversion Features or Contingently
Adjustable Conversion Ratios* ," a
beneficial conversion feature of $627,936 has been measured at the date of
issuance and will be recognized and recorded as a discount on debt and a
corresponding credit to additional paid-in capital if the Senior Notes are not
repaid prior to or on the Maturity Date.




The
discount on the debt of $797,064 related to the warrants is being amortized to
interest expense over the term of the Senior Notes beginning on the date of
issuance.  Amortization of the discount of the Senior Notes was $53,349 for
the year ended December 31, 2004. See Note
16 Subsequent Events.




*July
2002 Convertible Notes Payable*




On July
19, 2002, the Company issued 6% convertible secured debentures, along with
warrants to purchase 172,414 shares of common stock for aggregate gross proceeds
of $500,000. The warrants were exercisable upon issuance, have a term of three
years and have exercise prices ranging from $4.70 to $5.90 per share.  The
debentures had an initial life of five years and were convertible into common
stock, at a conversion rate of $2.90 per share.  As of December 31, 2002,
all of the convertible debentures plus accrued interest had been converted into
172,857 shares of common stock.




The
accounting treatment for the debentures involved allocating the value of the
principal amount of $500,000 between the debentures, the associated warrants and
a beneficial conversion feature associated with the debentures.  A
beneficial conversion feature existed because the conversion rate of the
debentures was below the traded value of the Company’s common stock on the date
the debentures were issued.  The beneficial conversion feature was valued
at $189,655 and was recorded as a debt discount and additional paid-in-capital
on the date the debentures were issued.  Since the debentures were
convertible into common stock immediately, the value of the beneficial
conversion feature was charged to interest expense on the date of
issuance.




Interest
expense relating to the convertible debenture transaction totaled $420,250 for
the year ended December 31, 2002 and consisted of the following:




·
    $190,000,
      relating to the value, as determined by the Black-Scholes pricing model,
      of the 172,414 warrants issued to the debentures
  holders;




·
    $189,655,
      relating to the value of the beneficial conversion feature associated with
      the convertible debentures;




·
    $39,310,
      relating to placement agent fees, consisting of a cash commission of
      $30,000 and a warrant to purchase 5,173 shares of common stock that was
      valued at $9,310 using the Black-Scholes pricing model
  and;




·
    $1,285,
      relating to interest expense incurred while the debentures remained
      outstanding based on the stated rate of 6% per annum.  At the
      Company’s election, these interest costs were paid through the issuance of
      shares of common stock based on the conversion rate of $2.90, resulting in
      the issuance of 443 shares of common stock.






F-23







Table of Contents










Summus,
Inc.






Notes to
Financial Statements (continued)






**8. 
Notes Payable**




**** On
September 4, 2000, the Company entered into an agreement to obtain the rights to
certain software technology. In exchange for these rights, the Company agreed to
pay $200,000 in eight equal installments of $25,000 beginning in 2001 and
continuing over the next two years. On July 19, 2002, the payment terms of this
agreement were amended for an adjustment in the payment terms, whereby the
Company issued 23,500 shares of common stock with registration rights to repay
$87,500 of the outstanding balance.  The remaining balance was scheduled to
be repaid in 6 equal installments commencing July 19, 2003; however, no payments
have been made on this balance subsequent to July 19, 2003 due to dispute over
performance, and therefore the agreement is in default.  The outstanding
principal balance of this note as of December 31, 2004 and 2003 is
$77,500.




On May
23, 2003, the Company executed a settlement agreement with Holland & Knight
LLP (“H&K”).  The terms of the H&K agreement are more fully
described in Note 14 below.  Under the terms of the H&K agreement, the
Company entered into a note payable agreement whereby it agreed to make payments
totaling $325,000, consisting of monthly payments of $9,028 over a three year
period commencing on June 1, 2003.  Since the H&K agreement did not
provide for an interest  rate
component pertaining to this payment plan, a rate of 20% per annum was used to
present value the note, resulting in a net present value of $242,926.  In
June 2004, the Company negotiated a revised settlement agreement with H&K.
Under the terms of the revised H&K agreement, the Company was not required
to make any payments until December 2004. Beginning December 2004, the Company
agreed to make monthly payments of $13,984 until the total indebtedness is paid
in full. As of December 31, 2004, the current portion of this note totaled
$141,440 and the non-current portion totaled $53,693.




On
September 3, 2003, the Company negotiated a revised settlement agreement with
Analysts International Corporation (“AIC”), a former service provider.  The
terms of the revised AIC settlement agreement are more fully described in Note
14 below.  Under the terms of the revised AIC settlement agreement, the
Company agreed to pay a monthly payment of $7,500 until the total indebtedness,
including interest at 8%, is paid in full.  As of December 31, 2004,
the remaining balance of this note totaled $66,937.





On
September 30, 2003, the Company executed a settlement agreement with Raytheon
Company (“Raytheon”), regarding a note payable agreement that had previously
been in default and had accrued interest at a rate of 18% per annum.  The
terms of the Raytheon agreement are more fully described in Note 14 below. 
Under the terms of the Raytheon agreement, the Company entered into a note
payable agreement whereby it agreed to make payments totaling $87,516,
consisting of an initial payment of $10,000; six (6) equal monthly installments
of $3,000; fourteen (14) monthly installments of $4,000; and one final
installment of $3,516.  Since the Raytheon agreement did not provide for an
interest rate component pertaining to this payment plan, a rate of 20% per annum
was used to present value the note, resulting in a net present value of
$74,305.  As of December 31, 2004, the remaining balance of this
note totaled $21,791.




**9. 
Profit Sharing Plan**




The
Company has established a 401(k) retirement plan for the benefit of employees
who have attained the age of 21 years. The Company’s matching contribution to
the plan is discretionary and is not limited to profits. For the years ended
December 31, 2004, 2003 and 2002, the Company contributed zero, $28,706 and
$26,166 to the plan, respectively.






F-24





















Table of Contents










Summus,
Inc.






Notes to
Financial Statements (continued)






**10. 
Common Stock and Warrants**




*2004
Transactions*




From
April 2004 to June 2004, the Company issued 43,104 shares of common stock to an
investor, who is unaffiliated with the Company, for aggregate proceeds of
$20,086.




In May
2004, the Company entered into a marketing agreement under which the
Company issued 30,000 shares of restricted common stock valued at $54,000 for
marketing services, which is included in sales and marketing expense in the
accompanying statement of operations.  The agreement also provides for
future issuances of shares of common stock and cash payments for marketing
services based on the achievement of download milestones of a specific wireless
application.




In June
2004, the Company issued 64,748 shares of common stock to employees in lieu of
accrued payroll of $84,172.




From
October 2004 to November 2004, the Company issued 86,207 shares of common stock
upon the exercise of warrants, held by an investor unaffiliated with the
Company, for aggregate proceeds of $40,517.




*2003
Transactions*




During
2003, the Company sold to private accredited investors in negotiated
transactions 270,416 shares of its common stock, warrants to purchase an
additional 31,600 shares of common stock, and re-priced 660,965 previously
issued warrants.  These transactions were in two forms.  The first
form involved purchases of common stock at prices which were above the trading
value of the Company’s freely-tradable shares and allowed these investors to
reduce the exercise price of a certain number of their previously purchased
warrants, typically allowing them to reprice 2 warrants for every share
purchased. The other form allowed warrant holders to reduce the exercise price
of previously issued warrants if the holder exercised those repriced warrants
immediately. The original exercise prices of the repriced warrants ranged
between $6.00 and $52.50, per share.  The repriced exercise prices ranged
between $2.00 and $16.90, per share.  Total cash proceeds from the sale of
the shares and issuance of the new warrants was $1,337,582.




During
2003, the Company issued 349,125 shares of common stock upon the exercise of
warrants with exercise prices ranging from $2.00 to $5.00 per share.  Of
the 349,125 exercised warrants, 288,135 were exercised in connection with the
repricing of the exercise price of the warrants as described in the previous
paragraph.  The initial exercise prices of the warrants ranged between
$6.00 and $52.50. The repriced exercise prices ranged between $2.00 and
$16.90.  The exercise of these warrants generated gross proceeds of
$928,675.




During
2003, the Company issued to consultants 21,926 shares of common stock, 10,340
stock options, and 1,794 warrants for services provided to the Company for an
aggregate value of $112,456.  The shares of common stock were valued at
$78,629 based on the negotiated terms of each contract and the options and
warrants were valued at $29,888 and $3,939, respectively, using the
Black-Scholes option-pricing model.  Also during 2003, the Company granted
3,300 options to the sole member of its Advisory Board.  These options vest
quarterly over a one year period and have an exercise price equal to the traded
per share value of the underlying common stock on the date of grant. The value
of the vested portion of the option of $8,663 was determined using the
Black-Scholes option-pricing model and was recorded as non-cash compensation
expense for the year ended December 31, 2003.




During
2003, the Company issued 90,694 shares of its common stock valued at $308,355 to
entities as payment on outstanding vendor balances.




During
2003, the Company issued 146,173 shares of its common stock valued at $517,504
to entities as settlement of outstanding obligations.  During 2003, Summus
issued 33,334 warrants to Donald T. Locke, working as a consultant acting in the
capacity of the general counsel to Summus, as payment for $200,000 of fees owed
to Mr. Locke.  The warrants have an exercise price of $6.00 per share and a
contractual life of 5 years.  The warrants were valued at $83,333 using the
Black-Scholes option-pricing model.   The settlement gain resulting
from this transaction was $116,667 and was recorded in non-cash settlements for
the year ended December 31, 2003.  The settlements are more fully described
in Note 14 below.






F-25







Table of Contents







Summus,
Inc.




Notes to
Financial Statements (continued)






**10. 
Common Stock and Warrants (continued)**




*2002
Transactions*




During
2002, the Company sold to investors 905,317 shares of its common stock
(including 2,167 shares of common stock in the form of commissions) and warrants
to purchase an additional 1,777,911 shares of common stock for net cash proceeds
of $6,439,307.  The warrants have exercise prices ranging from $4.80 to
$40.00 per share, a term of five years and cannot be exercised within the first
six months of the date of issuance.  The estimated fair value of the shares
issued as commissions for capital raising of $12,287 was deducted from the gross
proceeds raised.  During the year ended December 31, 2002, the Company paid
one of its outside directors cash commissions of $110,139 relating to the sale
of the Company’s common stock and warrants.




During
2002, the Company issued 17,789 shares of its common stock and warrants to
purchase 15,000 shares of common stock to certain members of management in lieu
of cash payment for unpaid salary amounts earned in 2001.  These shares and
warrants were valued at $177,895, based on the recorded value of the unpaid
salary amounts as of December 31, 2001.




During
2002, the Company issued 23,426 shares of its common stock and 4,000 warrants to
purchase common stock with an exercise price of $23.50 to consultants for
services provided to the Company and 2,032 shares of its common stock in
connection with the termination of a former employee as a severance
payment.  The common shares were valued at $85,958, based on the negotiated
terms of each contract and the warrants were valued at $44,800 using the
Black-Scholes option-pricing model.  The costs of these services were
included in non-cash consulting expense for the year ended December 31,
2002.




During
January 2002, the Company entered into two separate agreements whereby it issued
11,500 shares of its common stock and 23,000 warrants to purchase the Company’s
common stock with an exercise price of $25.00 per share to a stockholder as
consideration for the conveyance by him of 11,500 shares of the Company’s common
stock to: (1) an investment banking company for investment banking services and
(2) an independent consultant for financial advisory services.  The 11,500
shares were recorded at their estimated fair value of $157,376 by applying a
discount to the traded value of the Company’s freely trading common stock on the
date of each agreement.  The 23,000 warrants were valued at approximately
$297,600 using the Black-Scholes option-pricing model.  The costs of these
services were included in non-cash consulting expense for the year ended
December 31, 2002.




During
February 2002, the Company issued 2,500 shares of its common stock and 1,250
warrants to purchase the Company’s common stock with an exercise price of $25.00
per share to an independent firm providing investor relation services.  The
2,500 shares were recorded at their estimated fair value of $37,280 by applying
a discount to the traded value of the Company’s freely trading Common Stock on
the date of the agreement.  The 1,250 warrants were recorded at their
estimated fair value of $17,625 using the Black-Scholes option-pricing
model.  On June 19, 2002, the Company terminated this agreement and issued
1,000 warrants to purchase the Company’s common stock with an exercise price of
$25.00 per share as a termination fee.  These warrants were valued at
$4,200 using the Black-Scholes option-pricing model. Additionally, prior to the
termination of this agreement, the Company was committed to issue to the
investor relations firm warrants to purchase shares of the Company’s common
stock, if and when the traded value of the Company’s stock price achieved
certain levels over a certain time period.  These contingent warrants were
valued at $30,000 and since this agreement was terminated before the any of the
warrants could be earned, the $30,000 was charged to non-cash
expense.




During
2002, the Company issued 23,500 shares of its common stock as a partial payment
of $87,500 on a note payable, see Note 9.  Also during 2002, the Company
issued 2,000 shares of its common stock as a partial payment of $10,216 on an
outstanding balance due to a former service provider to the Company. In each
instance, the value of these shares was determined based on negotiations between
the parties.




During
2002, the Company issued 18,963 shares of its common stock upon the exercise of
outstanding warrants.  The Company received $79,813 in proceeds from the
exercise of these warrants.




During
2002, the Company deemed the $65,000 stock purchase receivable not collectible
and wrote off the receivable against additional paid in capital.






F-26









Table of Contents


Summus,
Inc.






Notes to
Financial Statements (continued)






**10. 
Common Stock and Warrants (continued)**




The
Company has reserved shares of its authorized 185,000,000 shares of common stock
for future issuance as follows:




Coversion
      of convertible debt
    
    
    263,889Series
      A convertible preferred stock and related dividends
    
    
    17,354Outstanding
      common stock warrants
    
    
    4,663,860Outstanding
      stock options
    
    
    1,143,990Possible
      future issuance under stock option plans
    
    
    295,398Total
    
    
    6,384,491




A summary
of the Company’s outstanding warrants as of December 31, 2004 is as
follows:




Range
      of
      Exercise
      Prices
    Warrants
      Outstanding$0.01
      - 5.00
    1,365,6415.01
      - 10.00
    1,307,50410.01
      - 20.00
    855,71220.01
      - 30.00
    637,69330.01
      - 40.00
    258,785Over
      40.00
    238,5254,663,860




The
warrants can be exercised at any time until their expiration dates, which are
between July 25, 2005 and December 31, 2009.




**11. 
Preferred Stock**




*Series
A Convertible Preferred Stock*




The
Company has 2,407 and 2,078 shares of Series A convertible preferred stock
(“Series A preferred stock”) outstanding as of December 31, 2004 and 2003,
respectively.  These shares are valued based upon the liquidation
preference (the “Liquidation Preference”) of Series A preferred stock of $1,000
per share.




The
holders of the Series A preferred stock are entitled to receive cumulative cash
dividends at a rate of 8% per annum of the initial liquidation preference of
$1,000 per share.  The Company, at its election, can provide for the
payment of dividends on the Series A preferred stock through the issuance of
additional shares of Series A preferred stock having an aggregate initial
liquidation preference equal to the amount of cash dividends otherwise
payable.  Dividends are cumulative from the date of issuance and are
payable, when, as and if declared by the Board of Directors.  The Company
is restricted from paying dividends on common stock until dividends are paid on
Series A preferred in full. The Company issued 329 shares of Series A preferred
stock during 2004 as payment for declared dividends.  No dividends were
paid in 2003. Cumulative unpaid dividends at December 31, 2004 were
$64,195.






F-27







Table of Contents










Summus,
Inc.




Notes to
Financial Statements (continued)






**11. 
Preferred Stock (continued)**




In April
2002 and October 2002, the Company’s Board of Directors authorized the payment
of the accrued Series A preferred stock dividends at March 31, 2002 and
September 30, 2002, totaling $355,315 and $90,997, respectively.  At the
Company’s election, the payment of these dividends was made through the issuance
of 446 new shares of Series A preferred stock.  During 2003, a holder of
the Series A preferred stock converted 250 shares of Series A preferred stock
into 1,756 shares of the Company’s common stock.  During 2002, a holder of
Series A preferred stock converted 118 shares of Series A preferred stock into
829 shares of the Company’s common stock.




The
holders of the outstanding shares of Series A preferred stock are not entitled
to vote on matters submitted to the Company’s stockholders for voting. However,
approval of holders of a majority of the outstanding shares of Series A
preferred stock is required prior to the issuance of a new series of preferred
stock that ranks senior to the Series A preferred stock. Each share of the
Series A preferred stock is convertible at the option of the holder, at any time
after the date of issuance, into shares of common stock equal to the Liquidation
Preference divided by the initial conversion price of $142.40. The conversion
price is subject to adjustment in accordance with the Company’s articles of
incorporation.  At the Company’s election, it has the right to redeem any
outstanding shares of the Series A preferred stock at the Liquidation Preference
of $1,000 per share.




*Series
B Convertible Preferred Stock*




During
February 2001, the Company amended its bylaws to provide for the authorization
of 6,500 shares of Series B convertible preferred stock (“Series B preferred
stock”). The Company issued 6,000 shares of Series B preferred stock. In 2002,
the shares of Series B preferred stock outstanding were converted into 567,034
shares of common stock.






F-28







Table of Contents







Summus,
Inc.




Notes to
Financial Statements (continued)






**11. 
Preferred Stock (continued)**




*Series
C Convertible Preferred Stock*




In June
2003, the Company amended its articles of incorporation to establish its Series
C convertible preferred stock (“Series C preferred stock”).  The Series C
preferred stock had an issued price of $1,000 per share and the following rights
and privileges:




·
    no
      voting rights except with respect to (i) the amendment or alteration of
      the statement of rights and preferences applicable to the Series C
      preferred stock, and (ii) any matters for which voting rights were
      provided under Florida law;




·
    shares
      of the Series C preferred stock shall rank on a parity with Summus’ Series
      A, Series D and Series E convertible preferred stock as to liquidation
      preference upon dissolution, liquidation or the winding up of
      Summus;




·
    a
      liquidation preference, subject to adjustment for any combinations,
      consolidations, stock distributions or stock dividends with respect to the
      Series C preferred stock, of $1,000 per share payable in the event of any
      liquidation, dissolution or winding up of Summus;
and




·
    the
      right to convert each share of Series C preferred stock into shares of our
      common stock at any time, at the option of the Series C preferred
      stockholder, after nine (9) months from the date of its issuance. Each
      share of Series C preferred stock shall be convertible into 400 fully paid
      and nonassessable shares of the Company’s common
stock.




During
2003, the Company sold 1,310 shares of its Series C preferred stock and issued
warrants in connection with such sale to purchase 524,000 shares of common stock
with an exercise price of $7.50 per share for gross proceeds of
$1,310,000.  The value of the warrants issued in this offering, totaling
$650,990, was determined utilizing the Black Scholes pricing model, limited to
the pro-rata fair value of the Series C offering proceeds allocable to the
warrants.  Cash commissions of $35,263 were paid in connection with the
Series C offering.




During
2004, holders of the Series C preferred stock converted 1,310 shares of Series C
preferred stock into 524,000 shares of the Company’s common stock. All shares of
the Series C preferred stock have been converted into shares of the Company’s
common stock as of December 31, 2004.




*Series
D Convertible Preferred Stock*




In
September 2003, the Company amended its articles of incorporation to establish
its Series D convertible preferred stock (“Series D preferred stock”).  The
newly established Series D preferred stock had an issued price of $1,000 per
share and the following rights and privileges:




·
    no
      voting rights except with respect to (i) the amendment or alteration of
      the statement of rights and preferences applicable to the Series D
      preferred stock, and (ii) any matters for which voting rights were
      provided under Florida law;




·
    shares
      of the Series D preferred stock shall rank on a parity with Summus’ Series
      A, Series C and Series E preferred stock as to liquidation preference upon
      dissolution, liquidation or the winding up of
Summus;




·
    a
      liquidation preference, subject to adjustment for any combinations,
      consolidations, stock distributions or stock dividends with respect to the
      Series D preferred stock, of $1,000 per share payable in the event of any
      liquidation, dissolution or winding up of Summus;
and




·
    the
      right to convert each share of Series D preferred stock into shares of our
      common stock at any time, at the option of the Series D preferred
      stockholder. Each share of Series D preferred stock shall be convertible
      into 500 fully paid and nonassessable shares of the Company’s common
      stock.






F-29







Table of Contents










Summus,
Inc.






Notes to
Financial Statements (continued)






**11. 
Preferred Stock (continued)**




During
2003, the Company sold 4,000 shares of its Series D preferred stock and issued
warrants in connection with such sale to purchase 1,000,000 shares of common
stock with an exercise price of $3.50 per share for gross proceeds of
$4,000,000.  The value of the warrants issued in this offering, totaling
$1,219,856, was determined utilizing the Black Scholes pricing model, limited to
the pro-rata fair value of the Series D offering proceeds allocable to the
warrants.  Cash commissions of $111,000 were paid in connection with the
Series D offering.




During
2003, holders of the Series D preferred stock converted 1,100 shares of Series D
preferred stock into 550,000 shares of the Company’s common stock. During 2004,
holders of the Series D preferred stock converted 2,900 shares of Series D
preferred into 1,450,000 shares of the Company’s common stock. All shares of the
Series D preferred stock have been converted into shares of the Company’s common
stock as of December 31, 2004.




*Series
E Convertible Preferred Stock*




In
November 2003, the Company amended its articles of incorporation to establish
its Series E convertible preferred stock (“Series E preferred stock”).  The
Series E preferred stock had an issued price of $1,000 per share and the
following rights and privileges:






·
    no
      voting rights except with respect to (i) the amendment or alteration of
      the statement of rights and preferences applicable to the Series E
      preferred stock, and (ii) any matters for which voting rights were
      provided under Florida law;




·
    shares
      of the Series E preferred stock shall rank on a parity with Summus’ Series
      A, Series C and Series D preferred stock as to liquidation preference upon
      dissolution, liquidation or the winding up of
Summus;




·
    a
      liquidation preference, subject to adjustment for any combinations,
      consolidations, stock distributions or stock dividends with respect to the
      Series E preferred stock, of $1,000 per share payable in the event of any
      liquidation, dissolution or winding up of Summus;
and




·
    the
      right to convert each share of Series E preferred stock into shares of our
      common stock at any time, at the option of the Series E preferred
      stockholder.  Each share of Series E preferred stock shall be
      convertible into 500 fully paid and nonassessable shares of the Company’s
      common stock.




During
November 2003, the Company sold 200 shares of its Series E preferred stock and
issued warrants in connection with such sale to purchase 50,000 shares of common
stock with an exercise price of $3.50 per share for gross proceeds of
$200,000.  The value of the warrants issued in this offering, totaling
$59,459, was determined utilizing the Black Scholes pricing model, limited to
the pro-rata fair value of the Series E offering proceeds allocable to the
warrants.  Cash commissions of $6,000 were paid in connection with the
Series E offering.




During
2003, a holder of Series E preferred stock converted 30 shares of Series E
preferred stock into 15,000 shares of the Company’s common stock. During 2004, a
holder of Series E preferred stock converted 170 shares of Series E preferred
stock into 85,000 shares of the Company’s common stock. All shares of the Series
E preferred stock have been converted into shares of the Company’s common stock
as of December 31, 2004.













F-30







Table of Contents










Summus,
Inc.




Notes to
Financial Statements (continued)




**11. 
Preferred Stock (continued)**




The
accounting treatment for the Series C, D and E preferred stock (the “Preferred
Stock”) involved allocating the value of the principal amount received from the
Preferred Stock offerings between the Preferred Stock, the associated warrants
and a beneficial conversion feature (“BCF”) associated with the Preferred
Stock.  A BCF existed because the effective conversion rate of the
Preferred Stock was below the traded value of the Company’s common stock on the
date the Preferred Stock was issued.  The BCF for the Preferred Stock
totaling $3,579,695 was recorded as a discount to the Preferred Stock and
additional paid-in capital on the date the Preferred Stock was issued. 
Since the Series C preferred stock became convertible at any time after nine
months from its issuance, the value of its BCF totaling $659,010 was amortized
to retained deficit over a nine month period commencing with its issuance.
Amortization of the Series C preferred stock BCF for the years ended December
31, 2004 and 2003 was $293,444 and $365,566, respectively.  Since the
Series D and E preferred stock were convertible immediately, the value of its
beneficial conversion feature totaling $2,920,685 was fully amortized to
retained deficit on the date of issuance in 2003.




**12. 
Stock Options**




During
2000, the Company established a stock option plan to provide for the issuance of
stock options to employees and directors. Options granted in connection with
initial employment with the Company generally have a term of ten years and vest
quarterly over a three-year term.




During
2002, the Company granted 39,754 fully vested stock options to an
employee/director of the Company with exercise prices ranging between $3.10 and
$12.40, in connection with capital raising activities.  Of these options,
31,059 had exercise prices below the fair value of the underlying common stock
resulting in non-cash compensation expense of $161,358 during the year ended
December 31, 2002.




During
2002, the Company granted 3,300 stock options to each of the three new members
of its Board of Advisors.  These options vest quarterly over a twelve month
term and have an exercise price equal to the traded per share value of the
underlying common stock on the date of grant. The value of these options,
as determined by the Black-Scholes option pricing model under the fair value
method of accounting, was recorded as non-cash consulting expense of $97,515
during 2002.  Also during 2002, the Company entered into an agreement with
one of its Board of Advisors for consulting services. Under the terms of this
agreement, 20,000 options with an exercise price of $3.50 were granted to this
advisor.  The vesting schedule of these options provided for 7,500 of these
options to be fully vested on the date of grant, 5,000 to vest over the next
three month period, and 1,500 to vest each quarterly period thereafter. 
The value of the vested options, as determined by the Black-Scholes option
pricing model under the fair value method of accounting, was recorded as
non-cash consulting expense of $25,000 during 2002.  This agreement was
terminated during the fourth quarter of 2002, upon which 7,500 options were
forfeited.




During
2003, the Company granted 3,300 stock options to a member of its Board of
Advisors.  This
option vests quarterly over a one year period and has an exercise price equal to
the traded per share value of the underlying common stock on the date of grant.
The value of the option of $8,663 was determined using the Black-Scholes
option-pricing model and was recorded as deferred compensation and amortized as
non-cash compensation expense over the vesting period.




During
2004, the Company granted 3,300 stock options to a member of its Board of
Advisors.  This
option vests quarterly over a one year period and has an exercise price equal to
the traded per share value of the underlying common stock on the date of grant.
The value of the option of $6,600 was determined using the Black-Scholes
option-pricing model and was recorded as deferred compensation and amortized as
non-cash compensation expense over the vesting period.













F-31







Table of Contents










Summus,
Inc.




Notes to
Financial Statements (continued)




**12. 
Stock Options (continued)**




Commencing
August 15, 2002 and ending in February 2004, the Company adopted an alternative
compensation arrangement for its executives. Under the terms of the new
arrangement, electing executives could receive a portion of their annual cash
compensation in the form of fully vested stock options. The stock options had an
exercise price equal to the fair market value of the Company’s common stock
based on the closing prices of the common stock at the end of each respective
payroll period. The amount of compensation to be received in stock options (the
“target compensation”) was determined by the participating executive based on
increments of 5% commencing with a minimum level of 15% of the participant’s
annual compensation. The number of shares underlying each option was determined
by dividing the dollar value of the target compensation by the closing price at
the end of each respective payroll period. Beginning on August 15, 2002, five
executives elected to participate in this alternative payment plan at reduced
salary levels ranging between 25% and 35% of the participant’s annual
compensation. During the years ended December 31, 2004, 2003 and 2002, the
Company issued 10,315, 49,061 and 24,144, respectively, fully vested stock
options with exercise prices ranging between $1.60 and $5.10 per share under
this plan.




The
Company has entered into various consulting agreements that provide for the
issuance of options to purchase shares of the Company’s common stock primarily
on a monthly basis as services are performed.  These options vest on a
monthly basis as they are earned and have exercise prices that equal the traded
per share value of the underlying common stock on the date of grant.  For
the years ended December 31, 2004, 2003 and 2002, the Company issued 44,536,
10,340 and 14,604 options, respectively, under these consulting
agreements.  These options were valued at $112,117, $29,888 and $81,788,
respectively, using the Black-Scholes option-pricing model under the fair value
method of accounting.  The term of these agreements is generally twelve
months, however the Company can immediately terminate
them.




During
2004, the Company also issued options to consultants that vest over a thirty-six
month period. The measurement date for the calculation of compensation expense
for these options is considered to be the date when all services have been
rendered or the date that options are fully vested. Compensation expense is
recognized up to the measurement date based on changes in the fair value of the
Company’s common stock. During the year ended December 31, 2004, the Company
issued 9,000 options under these agreements. The Company recorded deferred
compensation of $44,857 related to these options and amortized expense of $4,194
as compensation expense in the year ended December 31, 2004.




During
2004, the Company issued options to management with exercise prices that were
issued below the fair market value of the underlying stock. The Company issued
325,000 options under these agreements. The Company recorded deferred
compensation of $65,000 related to these options and amortized expense of
$18,600 as compensation expense in the year ended December 31,
2004.




The
Company’s Board of Directors authorized an amendment to Summus, Inc.’s Equity
Compensation Plan (the “Plan”) in February 2001 to increase the aggregate number
of shares of its common stock available for issuance of stock awards under the
Plan to 650,000.  The Plan provides for the issuance of stock options to
employees, directors, advisors and consultants of the Company.  Options
granted generally have a ten-year term and vest over three years from the date
of grant.  Certain of the stock options granted under the Plan have been
granted pursuant to various stock option agreements. Each stock option agreement
contains specific terms. On May 23, 2002, the Company’s Board of Directors
adopted resolutions to amend the Company’s Plan to increase the shares available
under the Plan from 650,000 to 850,000.  On June
24, 2004, the Board of Directors authorized an increase in the number of options
available for grant under the Plan from 850,000 to 1,500,000.













F-32







Table of Contents










Summus,
Inc.




Notes to
Financial Statements (continued)






**12. 
Stock Options (continued)**






A summary
of the Company’s stock option activity is as follows:




**Shares**
    
    **Weighted**
      **Average**
      **Exercise**
      **Price**Outstanding
      - December 31, 2001
    
    
    513,215
    
    $
    29.80Granted
    
    
    340,166
    
    
    10.50Exercised
    
    
    (29,030
    )
    
    (0.30
    )Forfeited
    
    
    (68,733
    )
    
    (21.70
    )Outstanding
      - December 31, 2002
    
    
    755,618
    
    
    22.90Granted
    
    
    131,553
    
    
    3.40Exercised
    
    
    —
    
    
    —Forfeited
    
    
    (116,208
    )
    
    (15.00
    )Outstanding
      - December 31, 2003
    
    
    770,963
    
    
    18.00Granted
    
    
    495,947
    
    
    1.50Exercised
    
    
    (24,128
    )
    
    (2.70
    )Forfeited
    
    
    (98,792
    )
    
    (18.60
    )Outstanding
      - December 31, 2004
    
    
    1,143,990
    
    
    11.16







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




**Options
      Outstanding****Range
      of**
      **Exercise
      Prices**
    
    **Number**
      **Outstanding**
    
    **Weighted
      Average**
      **Contractual
      Life**
    
    **Weighted
      Average**
      **Exercise
      Price**$      
      0.01- 5.00
    
    
    694,984
    
    
    7.58
    
    $
    2.305.01- 10.00
    
    
    22,164
    
    
    3.89
    
    
    6.6710.01- 20.00
    
    
    185,239
    
    
    3.10
    
    
    14.3220.01- 30.00
    
    
    95,140
    
    
    5.66
    
    
    22.5930.01- 40.00
    
    
    113,129
    
    
    2.79
    
    
    35.98Over 40.00
    
    
    33,334
    
    
    4.47
    
    
    64.611,143,990
    
    
    6.06
    
    
    11.16









**Options
      Exercisable****Range
      of**
      **Exercise
      Prices**
    
    **Number**
      **Exercisable**
    
    **Weighted
      Average**
      **Exercise
      Price**$     
      0.01- 5.00
    
    
    382,911
    
    $
    3.015.01- 10.00
    
    
    22,164
    
    
    6.6710.01- 20.00
    
    
    185,239
    
    
    14.3220.01- 30.00
    
    
    95,140
    
    
    22.5930.01- 40.00
    
    
    111,892
    
    
    35.99Over 40.00
    
    
    33,334
    
    
    64.61830,680
    
    
    14.79





F-33





Table of Contents









Summus,
Inc.




Notes to
Financial Statements (continued)






**12. 
Stock Options (continued)**




During
2004 and 2002, the Company issued 24,128 and 29,030, respectively, shares of
common stock upon the exercise of outstanding options, and received $64,375 and
$12,750, respectively, in proceeds from the exercise of these stock options.
There were no exercises of stock options in 2003.




**13. 
Commitments and Contingencies**




*Dr.
Bjorn Jawerth’s Employment Agreement*




In 2001,
the Company entered into a three-year employment agreement with Dr. Bjorn
Jawerth, which expired on February 16, 2004, and was not renewed by the Board of
Directors. His employment agreement provided for an initial base salary of
$350,000, with annual increases of 10%.




The
difference between the increased salary amounts of $385,000 and $423,500,
respectively, in the second and third years of his employment agreement, and his
original base salary of $350,000 was deferred and accrued by the Company, at Dr.
Jawerth’s election, until the Board of Directors and Dr. Jawerth determine when
and how these deferred and accrued amounts may be paid. Dr. Jawerth’s deferred
salary amount of $81,106 is recorded as accrued salaries in the Company’s
balance sheet as of December 31, 2004.













F-34







Table of Contents










Summus,
Inc.




Notes to
Financial Statements (continued)






**13. 
Commitments and Contingencies (continued)**




*Cancellation
of warrants*




On July
19, 2002, the Company entered into an irrevocable common stock equity line that
was intended to provide funding to the Company in amounts up to $10.0 million.
The Company filed a registration statement on Form S-1 with the Securities and
Exchange Commission (“SEC”) on July 31, 2002 relating to this common stock
equity line agreement.  Based on comments received from the Securities and
Exchange Commission and related communications with the SEC, the Company
understood that the terms of the equity line financing arrangement were such
that it would not be able to resolve the staff’s comments in a timely manner and
seek effectiveness of the registration statement in a timely manner.  Due
to these developments, the length of time involved in completing the
transaction, and other factors, the Company determined that it was in its best
interest to withdraw the registration statement and not proceed with the equity
line.  Accordingly, on September 17, 2002, the Company submitted to the SEC
a request to withdraw the registration statement and cancelled all agreements
associated with the common stock equity line.




In
connection with the cancellation of the agreements associated with the common
stock equity line, Talisman, the intended purchaser under the equity line,
indicated to the Company its intention to retain ownership of the warrants to
purchase 50,000 shares of the Company’s common stock at an exercise price of
$4.70 per share that were issued to Talisman upon the execution of the equity
line agreements. It is management’s position, with the advice of legal counsel,
that the cancellation of these warrants became effective with the cancellation
of the equity line agreements and that no loss contingency exists. 
Therefore, the Company has not recorded the issuance of these 50,000 warrants in
its financial statements nor disclosed them as part of outstanding
warrants.  The Company has sent correspondence to Talisman stating its
position that the warrants have been cancelled.  To date, the Company has
not received correspondence back from Talisman indicating their
concurrence.













F-35







Table of Contents





Summus,
Inc.




Notes to
Financial Statements (continued)






**14. 
Settlements of Contractual Disputes and Litigation**




*The
AIC Settlement*




On March
30, 2001, Analysts International Corporation (“AIC”) filed a civil summons and
complaint in General Court of Justice, District Court Division, County of Wake,
North Carolina, against High Speed Net Solutions, Inc. The complaint alleged
that the Company breached certain contracts with AIC, dated December 9, 1999,
February 11, 2000, April 25, 2000, May 9, 2000, and May 23, 2000, under which
AIC provided the Company with computer programming services.




The
Company and AIC entered into a settlement agreement and release, dated August 7,
2001, under which the Company agreed to pay the sum of $358,426, plus interest
accruing at the rate of 8% per annum from March 31, 2000 (the “Indebtedness”)
according to the following payment schedule: (i) $20,000 upon execution of the
settlement agreement, (ii) $5,000 per month for a period of nine months,
commencing one month after execution of the settlement agreement, and (iii)
$10,000 per month thereafter until the balance of the Indebtedness is paid in
full.  We ceased making payments under this settlement agreement on
November 15, 2002 due to liquidity constraints, and therefore, we were in
default under the terms of the initial agreement. The Company received
notification of its default from AIC on July 9, 2003, and the 3-day cure period
to which the Company was entitled under the terms of the settlement agreement
expired, which would allow AIC to file a consent judgment against the
Company.  While negotiating to amend the settlement agreement in August
2003, Summus learned that AIC had filed the consent judgment on February 13,
2002, which Summus believes was in breach of the original settlement
agreement.  In September 2003, the parties negotiated a revised settlement
agreement pursuant to which (i) the consent judgment remains filed and of
record, (ii) AIC will file with the court a credit to the judgment reflecting
all payments made by the Company; (iii) the payment terms have been revised to
require payment by the Company of $60,000 by September 5, 2003, which has been
made, and $7,500 per month thereafter until the full amount of the indebtedness,
including accrued interest is paid, and (iv) AIC agrees to refrain from
executing on the consent judgment as long as the Company makes the payments
required by the revised settlement terms as identified in this paragraph. 
In the event that the Company fails to make a scheduled payment as set forth in
this revised settlement agreement, AIC may execute on the consent judgment and
seek to satisfy the judgment from the assets of the Company in accordance with
the laws of the state of North Carolina.




*The
Alan Kleinmaier Settlement*




On
November 15, 2001, Alan Kleinmaier, a former employee and officer of Summus,
Inc. and Summus, Ltd. filed a civil lawsuit in the General Court of Justice,
Superior Court Division in Wake County, North Carolina, against the Company and
the former officers and directors of Summus, Ltd. In this suit, Mr. Kleinmaier
claims that he was entitled to three months severance pay of $32,350 when he was
terminated from Summus, Ltd. The Company has filed an answer to Mr. Kleinmaier’s
claims and has made several counterclaims against him. In May 2002, the Company
and Mr. Kleinmaier mediated claims between them.  Mr. Kleinmaier received
1,500 options to purchase shares of Summus, Inc.’s common stock at $5.00 per
share and executed a release against all parties.  These options were
valued at $8,850 using the Black-Scholes option-pricing model.




*The
AT&T CORP. Settlement*




On June
7, 2002, AT&T filed a civil lawsuit in the United States District Court for
the Eastern District of North Carolina against Summus, Inc. (USA).  In this
suit, AT&T claims that it is entitled to payment in the amount of $238,783
for telephone calls and services rendered to the Company.  In March 2003,
the Company and AT&T settled the claim between them, whereby both parties
agreed to reduce the total amount owed by the Company to AT&T to $120,000
and this reduced amount be repaid over an 18 month period commencing in March
2003.  The settlement gain resulting from this transaction was
$118,783.  These amounts were paid in full in 2004.






F-36







Table of Contents










Summus,
Inc.






Notes to
Financial Statements (continued)






**14. 
Settlements of Contractual Disputes and Litigation
(continued)**




*The
Porter Novelli Settlement*




On
December 12, 2002, Porter Novelli filed a civil summons in Wake County General
District Court of Justice in the State of North Carolina, claiming that it is
entitled payment in the amount of $18,886 for past services rendered to the
Company.  These amounts were paid in full in 2003.




*The
Holland and Knight LLP Settlement*




On
February 27, 2003, Holland & Knight LLP (“H&K”) filed a civil lawsuit in
the Superior Court for the District of Columbia against Summus.  In this
suit, H&K claims that it was entitled to $867,268, plus interest, for
services rendered to Summus.  Summus and H&K entered into an agreement
on May 23, 2003 settling this litigation, whereby both parties agreed to the
following terms:




·
    $217,268
      of the total balance due was forgiven by H&K, resulting in a portion
      of the settlement gain of this transaction.




·
    $325,000
      of the total balance due will be paid over a three-year period with
      monthly installments of $9,028, commencing on June 1, 2003.  
      The settlement agreement did not provide for an interest rate component
      pertaining to the three-year payment plan.  Therefore, an interest
      rate of 20% per annum was used to present value the note, resulting in a
      net present value of $242,926. The difference between the face value of
      $325,000 and the net present value of $242,926, totaling $82,074, was
      recorded as a portion of the settlement gain. The 20% rate of interest was
      considered appropriate to fair value the note based on the Company’s
      financial condition, including its negative working capital and negative
      net worth position. In the event that the Company fails to make a
      scheduled payment as set forth in this settlement agreement, H&K may
      execute on a consent judgment and seek to satisfy the judgment from the
      assets of the Company in accordance with the laws of the State of North
      Carolina.




·
    The
      remaining amount of the recorded liability due to H&K of $325,000 was
      satisfied through the issuance to H&K of 73,864 shares of the
      Company’s common stock. The fair value of the 73,864 shares of common
      stock was estimated at $273,295, based on the traded value of the
      Company’s common stock on the date the settlement agreement became
      effective.  The difference between the estimated fair value of the
      73,864 common shares and the recorded value of the liability of $325,000,
      totaling $51,705, was recorded as a portion of the settlement gain. The
      shares have since been registered, and H&K has contractually agreed to
      sell no more than 1,800 shares in any one (1) business
  day.




·
    Therefore,
      the aggregate settlement gain resulting from this transaction totaled
      $351,047.




The
settlement agreement also provided that if the Company raised $5.0 million or
more in capital at one time, all remaining unpaid amounts owed under the
$325,000 note agreement shall become immediately due and payable.  This
note is unsecured, and upon default of the terms of the agreement, the unpaid
balance shall become immediately due and payable and such amount shall include
pre-judgment interest in the amount of 6% accruing as of April 3, 2002 and post-
judgment interest at a rate to be determined.






F-37







Table of Contents










Summus,
Inc.






Notes to
Financial Statements (continued)






**14. 
Settlements of Contractual Disputes and Litigation
(continued)**




*The
Raytheon Company Settlement*




During
1999, the Company entered into an agreement with Raytheon Company (“Raytheon”)
to repurchase 154 shares of its common stock from Raytheon for an aggregate
value of $268,373, of which $268,075 represented a termination fee for a
development contract and $298 represented the fair value of the shares
repurchased. In connection with this agreement, the Company entered into a
promissory note with Raytheon whereby the Company agreed to pay approximately
$10,000 per month over a 27-month period to fund this transaction. The Company
did not make all required monthly installments and thus defaulted on the
promissory note. Consequently, the note began accruing interest at 18% per
annum.   On September 30, 2003, the Company executed a settlement
agreement with Raytheon whereby both parties agreed to the following
terms.




·
    $
      49,128 of the total balance due was forgiven by Raytheon, resulting in a
      portion of the settlement gain of this
transaction.




·
    $87,516
      of the total balance due will be paid over a 22 month period, with an
      initial payment of $10,000; six (6) equal monthly installments of $3,000;
      fourteen (14) monthly installments of $4,000; and one final installment of
      $3,516.  The settlement agreement did not provide for an interest
      rate component pertaining to the 22-month payment plan.  Therefore,
      an interest rate of 20% per annum was used to present value the note,
      resulting in a net present value of $74,306. The difference between the
      face value of $87,516 and the net present value of $74,306, totaling
      $13,210 was recorded as a portion of the settlement gain. The 20% rate of
      interest was considered appropriate to fair value the note based on the
      Company’s financial condition, including its negative working capital and
      negative net worth position. In the event that the Company fails to make a
      scheduled payment as set forth in this settlement agreement, Raytheon may
      execute on a consent judgment and seek to satisfy the judgment from the
      assets of the Company in accordance with the laws of the State of North
      Carolina.




·
    The
      remaining amount of the recorded liability due to Raytheon of $87,516 was
      satisfied through the issuance to Raytheon of 29,567 shares of the
      Company’s common stock.  The fair value of the 29,567 shares of
      common stock was estimated at $94,613, based on the traded value of the
      Company’s common stock on the date the settlement agreement became
      effective.  The difference between the estimated fair value of the
      29,567 common shares and the recorded value of the liability of $87,516,
      totaling $7,097, was recorded as an offset to the settlement gain. 
      Raytheon has contractually agreed to sell no more than 1,500 shares in any
      one (1) business day.




·
    Therefore,
      the aggregate settlement gain resulting from this transaction totaled
      $55,241.




*Other
2003 Settlements*




On
February 21, 2003, the Company signed and executed a mutual release of all
claims with a former law firm that had provided legal services to the
Company.  Under the terms of this agreement, both parties agreed to a
mutual release of any and all claims between the parties, as well as a
cancellation of the unpaid fees owed by the Company to the law firm, totaling
$886,557.  The Company did not issue any cash or equity securities or enter
into any other obligations in connection with this release.  The settlement
gain resulting from this transaction was $886,557.






F-38







Table of Contents










Summus,
Inc.






Notes to
Financial Statements (continued)






**14. 
Settlements of Contractual Disputes and Litigation
(continued)**




On June
5, 2003, the Company signed and executed an agreement pertaining to the payment
of amounts owed to a current service provider.  Under the terms of the
agreement, the Company issued 42,742 shares of its common stock, for full
payment of $132,500 owed to the service provider.  The fair value of the
42,742 shares of common stock was estimated at $149,597, based on the traded
value of the Company’s common stock on the date the settlement agreement became
effective.  The difference between the estimated fair value of the 42,742
common shares and the recorded value of the liability of $132,500 was recorded
as a settlement loss of $17,097. The service provider has contractually agreed
to sell no more than 500 shares in any one (1) business day.




During
2003, the Company issued warrants to purchase 33,334 shares of common stock to a
consultant as payment for $200,000 of fees.  The warrants were valued at
$83,333 using the Black-Scholes option-pricing model.  The non-cash
settlement gain resulting from this transaction totaled $116,667.




On August
29, 2003, the Company signed and executed an agreement pertaining to past due
amounts owed to a current service provider totaling $62,500.  Under the
terms of the agreement, the service provider agreed to forgive $14,500 of the
total past due amounts. The remaining amount due of $48,000 is to be paid in
twelve-monthly installments of $4,000 each.  The non-cash settlement gain
resulting from this transaction totaled $14,500.




*Bowne
Settlement*




On
February 25, 2003, Bowne of New York City, LLC (“Bowne”), a financial printing
firm, filed a civil summons in the Supreme Court of County of New York in the
State of New York, claiming that it was entitled payment in the amount of
$276,373, plus accrued interest, for past services rendered to the
Company.




In August
2004, the Company and Bowne settled the claim between them, whereby both parties
agreed to reduce the total amount owed by the Company to Bowne to $150,000. The
parties also agreed that this amount would be paid by (i) an initial payment of
$10,000, (ii) monthly installments of $6,000 per month from November 1, 2004
through September 1, 2006 and (iii) a final payment of $2,000 on October 1, 2006
by Summus. The settlement gain resulting from this transaction was $126,373. The
balance owed as of December 31, 2004, was $128,000, which is included in
accounts payable.




The total
non-cash settlement gains during the years ended December 31, 2004 and 2003 were
$126,373 and $1,525,698, respectively.






F-39







Table of Contents










Summus,
Inc.






Notes to
Financial Statements (continued)






**15. 
Selected Quarterly Financial Data (unaudited)**




*Change
in Revenue Recognition Policy*




In 2003,
after a careful review of the Company’s revenue recognition policies and giving
consideration to guidance provided for in Emerging Issues Task Force No. 99-19 *Reporting
Revenue Gross as a Principal versus Net as an Agent* (“EITF
99-19”), the Company changed certain revenue recognition policies affecting
revenues earned by wireless applications and contracts.  Prior to
4 th quarter
2003, the Company reported revenues earned by wireless applications and
contracts and cost of revenues for wireless applications and contracts  net
of certain third-party costs in the statement of operations.  These
transactions were reclassified in 2003 to reflect a gross revenue presentation
with no effect on gross profit or net loss.  Revenues and costs of revenues
for 2002 were not reclassified due to immateriality.




Selected
quarterly financial data for the years ended December 31, 2004 and 2003 is as
follows:




**Three
      Months Ended****March
      31**
    
    **June
      30**
    
    **September
      30**
    
    **December
      31***(in
      thousands, except per share data)***2004**Revenues
    
    $
    788
    
    $
    1,209
    
    $
    1,501
    
    $
    1,673Cost
      of revenues
    
    
    400
    
    
    628
    
    
    729
    
    
    847Gross
      profit
    
    
    388
    
    
    581
    
    
    772
    
    
    826Net
      loss
    
    
    (1,240
    )
    
    (709
    )
    
    (957
    )
    
    (967
    )Net
      loss per common share, basic and
      diluted
    
    
    (0.20
    )
    
    (0.10
    )
    
    (0.10
    )
    
    (0.09
    )**2003**Revenues,
      as reported
    
    $
    130
    
    $
    465
    
    $
    183
    
    $
    285Revenues,
      as restated
    
    
    229
    
    
    581
    
    
    332
    
    
    557Cost
      of revenues, as reported
    
    
    115
    
    
    113
    
    
    109
    
    
    101Cost
      of revenues, as restated
    
    
    214
    
    
    229
    
    
    258
    
    
    373Gross
      profit
    
    
    15
    
    
    352
    
    
    74
    
    
    184Net
      loss
    
    
    (714
    )
    
    (807
    )
    
    (1,446
    )
    
    (910
    )Net
      loss per common share, basic and
      diluted
    
    
    (0.14
    )
    
    (0.15
    )
    
    (0.34
    )
    
    (0.56
    )




F-40










Table of Contents





Summus,
Inc.




Notes to
Financial Statements (continued)






**16. 
Subsequent Events**




*Additional
Senior Notes Financing*




In
January 2005, the Company received an additional investment of $215,000 of 12%
Senior Notes, on the same terms as the December 2004 Senior Notes Financing. The
Company originally received $1,425,000 in the initial closing of the Senior
Notes in late December 2004. The holder was also granted warrants to purchase a
total of 42,157 shares of the Company’s common stock. The warrants are
exercisable upon issuance, have a term of five years and have an exercise price
of $5.60 per share.




*Exercise
of Stock Options*




In
January and February 2005, the Company issued approximately 58,600 shares in
connection with the exercise of stock options at their original exercise prices
ranging from $1.60 to $5.10 per share. The total received by the Company from
these exercises was approximately $218,000.




*Exercise
of Warrants*




During
February and March 2005, the Company received approximately $4,110,000 from the
exercise of approximately 1,260,000 warrants to purchase shares of the Company’s
common stock. These warrants were originally issued in connection with private
placements of the Company’s preferred stock and common stock. The Company agreed
to reprice most of these warrants, which originally had exercise prices ranging
from $3.50 to $7.50 per share, to exercise prices ranging from $2.50 to $3.50
per share in consideration for their immediate exercise.




*Payment
of Senior Notes*




Due to
the additional financing received by the Company in February and March 2005, the
maturity of the 12% Senior Notes accelerated from the original maturity date of
May 15, 2005. The Company repaid the principal balance of $1,640,000 of the
Senior Notes, plus interest at the rate of 12% per annum. Since the Senior Notes
were paid off in accordance with their terms, they will have no rights of
conversion into the Company’s common stock.




*Payment
of H&K note payable with stock*




On
January 31, 2005, the Company entered into a modified settlement agreement with
Holland & Knight LLP (“H&K”). The remaining amount of the recorded
liability due to H&K of $209,761 was satisfied through the issuance to
H&K of 47,673 shares of the Company’s common stock. The fair value of the
47,673 shares of common stock was estimated at $243,132, based on the traded
value of the Company’s common stock on the date of the settlement
agreement.  The difference between the estimated fair value of the 47,673
common shares and the recorded value of the liability of $209,761, totaling
$33,371, was recorded as settlement loss. H&K has contractually agreed to
sell no more than 1,800 shares in any one (1) business day.













F-41







Table of Contents
    **SIGNATURES**
   Pursuant to the requirements of the Section 13 or 15(d) Securities Exchange Act
of 1934, the Registrant has duly caused this registration statement to be signed
on its behalf by the undersigned, thereunto duly authorized.
 
 
 **Summus,
      Inc.**By:
    /s/ Gary E. BanGary
      E. Ban
      Chief
      Executive Officer
   Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed by the following persons on behalf of the Registrant and in the
capacities and on the dates indicated.
  ***Signature***
    ***Title***
    ***Date*****/s/
      Gary E. Ban**
      **Gary
      E. Ban**
    Chief
      Executive Officer and Director
      (Principal
      Executive Officer)
    March
      30, 2005**/s/
      Donald T. Locke**
      **Donald
      T. Locke**
    Chief
      Financial Officer
      (Principal
      Financial and Principal
      Accounting
      Officer)
    March
      30, 2005**/s/
      Stephen M. Finn**
      **Stephen
      M. Finn**
      ****
    Director
    March
      30, 2005**/s/
      Neil R. Guenther**
      **Neil
      R. Guenther**
    Director
    March
      30, 2005**/s/ 
      Scott w. Hamilton**
      **Scott
      W. Hamilton**
    Director
    March
      30, 2005**/s/ 
      J. Winder Hughes**
      **J.
      Winder Hughes**
    Director
    March
      30, 2005
  
   Table of Contents
  Exhibit
Index
  Exhibit
      Number
    
    Exhibit
      Description3(I).1*
    
    Amended
      and Restated Articles of Incorporation, filed February 28, 2000
      (incorporated by reference to Exhibit 3.1 to our Quarterly Report on Form
      10-Q for the fiscal quarter ended September 30 ,
    2003)3(I).2*
    
    Articles
      of Amendment and Statement of Rights and Preferences of the 8% Series A
      Convertible Preferred Stock, filed March 3, 2000 (incorporated by
      reference to Exhibit 3.2 to our Quarterly Report on Form 10-Q for the
      fiscal quarter ended September 30, 2003)3(I).3*
    
    Articles
      of Correction filed June 23, 2000 to Articles of Amendment, filed March 2,
      2000 (incorporated by reference to Exhibit 3.3 to our Quarterly Report on
      Form 10-Q for the fiscal quarter ended September 30,
      2003)3(I).4*
    
    Amendment
      to Amended and Restated Articles of Incorporation, filed February 27,
      2002, changing our name to Summus, Inc. (USA) (incorporated by reference
      to Exhibit 3.4 to our Quarterly Report on Form 10-Q for the fiscal quarter
      ended September 30, 2003)3(I).5*
    
    Amendment
      to Amended and Restated Articles of Incorporation, filed February 27,
      2002, increasing our authorized common stock, par value $.001, from
      50,000,000 shares to 100,000,000 shares (incorporated by reference to
      Exhibit 3.5 to our Quarterly Report on Form 10-Q for the fiscal quarter
      ended September 30, 2003)3(I).6*
    
    Articles
      of Amendment and Statement of Rights and Preferences of the Series C
      Convertible Preferred Stock (incorporated by reference to Exhibit 3.6 to
      our Quarterly Report on Form 10-Q for the fiscal quarter ended September
      30, 2003)3(I).7*
    
    Articles
      of Amendment and Statement of Rights and Preferences of the Series D
      Convertible Preferred Stock dated September 25, 2003 (incorporated by
      reference to Exhibit 3.7 to our Quarterly Report on Form 10-Q for the
      fiscal quarter ended September 30, 2003)3(I).8*
    
    Articles
      of Amendment and Statement of Rights and Preferences of the Series E
      Convertible Preferred Stock dated October 17, 2003 (incorporated by
      reference to Exhibit 3.8 to our Quarterly Report on Form 10-Q for the
      fiscal quarter ended September 30, 2003)3(I).9*
    
    Amendment
      to Amended and Restated Articles of Incorporation, filed December 3, 2003,
      increasing our authorized common stock, par value $.001, from 100,000,000
      shares to 185,000,000 shares (incorporated by reference to Exhibit 3(I).9
      to our Annual Report on Form 10-K for the fiscal year ended December 31,
      2003)3(I).10
    
    Articles
      of Amendment to Amended and Restated Articles of Incorporation effecting a
      one (1)-for ten (10) Reverse Stock Split of our Common
    Stock3(I).11
    
    Articles
      of Merger of Summus, Inc. (USA), a Florida corporation, into Summus, Inc.,
      a Delaware corporation3(I).12.
    
    Certificate
      of Incorporation of Summus, Inc., a Delaware corporation3(II).1
    
    Bylaws
      of Summus, Inc., a Delaware corporation4.1*
    
    Specimen
      Common Stock Certificate (incorporated by reference to Exhibit 4.1 to our
      Annual Report on Form 10-K for the fiscal year ended December 31,
      2001)4.2*
    
    Form
      of Subscription Agreement for private placement sales of our common stock
      (incorporated by reference to Exhibit 4.2 to our Annual Report on Form
      10-K for the fiscal year ended December 31, 2001)4.3*
    
    Form
      of Selling Shareholders Agreement in connection with private placement
      sales of our common stock (incorporated by reference to Exhibit 4.3 to our
      Annual Report on Form 10-K for the fiscal year ended December 31,
      2001)4.4*
    
    Form
      of Warrant Agreement for warrants issued in connection with private
      placement sales of our common stock (incorporated by reference to Exhibit
      4.4 to our Annual Report on Form 10-K for the fiscal year ended December
      31, 2001)4.5*
    
    Form
      of Series C Convertible Preferred Stock Registration Rights Agreement
      (incorporated by reference to Exhibit 4.2 to our Quarterly Report on Form
      10-Q for the fiscal quarter ended September 30,
  2003)4.6*
    
    Form
      of Series D Convertible Preferred Stock Registration Rights Agreement
      (incorporated by reference to Exhibit 4.4 to our Quarterly Report on Form
      10-Q for the fiscal quarter ended September 30,
  2003)4.7*
    
    Form
      of Series E Convertible Preferred Stock Registration Rights Agreement
      (incorporated by reference to Exhibit 4.6 to our Quarterly Report on Form
      10-Q for the fiscal quarter ended September 30,
  2003)4.8*
    
    Form
      of Securities Purchase Agreement for 12% Senior Notes (incorporated by
      reference to Exhibit 4.1 to our Current Report on Form 8-K dated as of
      December 20, 2004)
  Table of Contents
  
 4.9*
    Form
      of 12% Senior Notes (incorporated by reference to Exhibit 4.2 to our
      Current Report on Form 8-K dated as of December 20,
  2004)4.10*
    Form
      of Warrants issued in connection with the 12% Senior Notes (incorporated
      by reference to Exhibit 4.3 to our Current Report on Form 8-K dated as of
      December 20, 2004)4.11*
    Form
      of Registration Rights Agreement in connection with 12% Senior Notes
      (incorporated by reference to Exhibit 4.4 to our Current Report on Form
      8-K dated as of December 20, 2004)4.12*
    Form
      of Warrant issued in connection with our Series E Convertible Preferred
      Stock (incorporated by reference to Exhibit 4.7 to our Quarterly Report on
      Form 10-Q for the fiscal quarter ended September 30,
  2003)4.13*
    Form
      of Registration Rights Agreement in connection with Summus’ issuance of
      its Senior Convertible Debt and Common Stock (incorporated by reference to
      Exhibit 4.3 to our Quarterly Report on Form 10-Q for the fiscal quarter
      ended March 31, 2004)10.1*
    Asset
      Purchase Agreement, dated October 30, 2000, among Summus, Inc., Summus,
      Ltd., and the stockholders named therein (incorporated by reference to
      Exhibit 10.01 to our Current Report on Form 8-K dated February 16,
      2001)10.2*
    Amendment
      Number 1 to Asset Purchase Agreement, dated as of December 30, 2000, among
      Summus, Inc., Summus, Ltd. and the stockholders named therein
      (incorporated by reference to Exhibit 10.02 to our Current Report on Form
      8-K dated February 16, 2001)10.3*
    Amendment
      to Asset Purchase Agreement, dated as of January 30, 2001, among Summus,
      Inc., Summus, Ltd. and the stockholders named therein (incorporated by
      reference to Exhibit 10.03 to our Current Report on Form 8-K dated
      February 16, 2001)10.4*
    Agreement
      for Transfer of All Rights and Reservation of License in Software, dated
      September 4, 2000, between PlusStation, LLC, Niksa Radovic and Summus,
      Ltd. (incorporated by reference to Exhibit 10.9 to our Form 10 filed on
      July 5, 2001)10.5*
    Third
      Amended and Restated Summus 2000 Equity Compensation Plan, effective June
      24, 2004 (incorporated
      by reference to Exhibit 10.10.4 to our Quarterly Report on Form 10-Q for
      the fiscal quarter ended June 31, 2004)10.6*
    Executive
      Employment Agreement, dated as of July 28, 2004, between Summus and Gary
      E. Ban (incorporated by reference to Exhibit 10.1 to our Quarterly Report
      on Form 10-Q for the fiscal quarter ended June 31,
2004)10.7*
    Executive
      Employment Agreement, dated as of July 28, 2004, between Summus and Donald
      T. Locke (incorporated by reference to Exhibit 10.2 to our Quarterly
      Report on Form 10-Q for the fiscal quarter ended June 31,
      2004)10.8*
    Executive
      Employment Agreement, dated as of July 28, 2004, between Summus and Andrew
      L . Fox (incorporated by reference to Exhibit 10.3 to our Quarterly Report
      on Form 10-Q for the fiscal quarter ended June 31,
2004)10.9*
    Lease
      Agreement, dated as of October 15, 1999, as modified on March 23, 2000 and
      June 9, 2000, between Phoenix Limited Partnership of Raleigh and Summus,
      Inc. (incorporated by reference to Exhibit 10.31 to our Form 10 filed on
      July 5, 2001)10.10*
    Lease
      Agreement, dated as of August 12, 1999, between Phoenix Limited
      Partnership of Raleigh and Summus, Ltd. (incorporated by reference to
      Exhibit 32 to our Form 10 filed on July 5,
2001)
  Table of Contents
  
 10.11*
    Lease
      Modification Agreement Number 1, dated as of December 22, 1999, between
      Phoenix Limited Partnership of Raleigh and Summus, Ltd. . (incorporated by
      reference to Exhibit 33 to our Form 10 filed on July 5,
      2001)14.1*
    Code
      of Ethics (incorporated
      by reference to Exhibit 14.1 to our Annual Report on Form 10-K for the
      fiscal year ended December 31, 2003)21.1
    Subsidiaries
      of Summus - None23.1
    Consent
      of Ernst & Young LLP31.1
    Rule
      13a-14(a)/15(d)-14(a) Certificate of Gary E. Ban, Chief Executive
      Officer31.2
    Rule
      13a-14(a)/15(d)-14(a) Certificate of Donald T. Locke, Chief Financial
      Officer32.1
    Section
      1350 Certificate of Gary E. Ban, Chief Executive
Officer32.2
    Section
      1350 Certificate of Donald T. Locke, Chief Financial
    Officer