**10-K**

 

**Securities and Exchange Commission**

**Washington, D.C. 20549**

 

ý**         ANNUAL REPORT PURSUANT TO SECTION 13 OR15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934                                                                                    **

**For the fiscal year ended                         December31, 2001**

**OR**

o         **TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OFTHE SECURITIES EXCHANGE ACT OF 1934                                                                                    **

**For the transition period from                       to                             .**

**Commission file number                               *0-11668***

** **

| ***INRAD, Inc.***                                         |
|-----------------------------------------------------------|
| (Exact name of registrant as specified in its charter)    |
|                                                      |   |   |
| ***New Jersey***                                          |   | ***22-2003247*** |
| (State or other jurisdiction of incorporation             |   | (I.R.S. Employer |
| or organization)                                          |   | Identification No.) |
|                                                      |   |   |
| ***181 Legrand Avenue, Northvale, NJ,  07647***           |
| (Address of principal executive offices) (Zip Code)       |
|                                                      |   |   |
| ***(201) 767-1910***                                      |
| (Registrant’s telephone number, including area code) |
|                                                      |   |   |

 

Securities Registered Pursuant to Section 12(b) of the Act:        ***None***

 

| *Title of  each class* |   | *Name of  each exchange on   which registered* |
|------------------------|--------|------------------------------------------------|
|                   |   |                                           |
|                   |   |                                           |

                SecuritiesRegistered Pursuant to Section 12(g) of the Act:

 
| **Common Stock, par value $0.01 Per Share** |
|---------------------------------------------|
| (Title of class)                            |

                Indicate by checkmark whether the registrant (1) has filed all reports required to be filed bySection 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements for thepast 90 days.  Yes  **ý**   . No  o.

                Indicate by checkmark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-Kis not contained herein, and will not be contained, to the best of registrant’sknowledge, in definitive proxy or information statements incorporated byreference in Part III of this Form 10-K or any amendment to this Form 10-K  ý

                Aggregate marketvalue of the registrant’s Common Stock, par value $0.01 per share, held bynon-affiliates as of February 15, 2001 was approximately ***$3,885,000***

Common shares of stockoutstanding as of December 31, 2001:

                                                                                         ***5,131,053 shares***

Documents incorporated by reference: NONE

 

 

 

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INRAD, INC.

 

INDEX

 
| **Part I**      |                                                                        |
|-----------------|-----------------------------------------------------------------------------|
|   Item 1.  | Business                                                                    |
|   Item 2.  | Properties                                                                  |
|   Item 3.  | Legal Proceedings                                                           |
|   Item 4.  | Submission  of Matters to a Vote of Security Holders                        |
| **Part II**     |                                                                        |
|   Item 5.  | Market  for Registrant’s Common Equity and Related Stockholder Matters |
|   Item 6.  | Selected Financial Data                                                     |
|   Item 7.  | Management’s  Discussion and Analysis of Financial                     |
|            | Condition  and Results of Operations                                        |
|   Item 7A. | Quantitative and  qualitative discussion about                              |
|            | market risk                                                                 |
|   Item 8.  | Financial  Statements and Supplementary Data                                |
|   Item 9.  | Changes  In and Disagreements With Accountants                              |
|            | On  Accounting and Financial Disclosure                                     |
| **Part III**    |                                                                        |
|   Item 10. | Directors  and Executive Officers of the Registrant                         |
|   Item 11. | Executive Compensation                                                      |
|   Item 12. | Security  Ownership of Certain Beneficial                                   |
|            | Owners  and Management                                                      |
|   Item 13. | Certain  Relationships and Related Transactions                             |
| **Part IV**     |                                                                        |
|   Item 14. | Exhibits,  Financial Statement Schedules,                                   |
|            | and  Reports on Form 8-K                                                    |
| Signatures      |                                                                        |

Note:  Page F-1 follows Page 23.

#### ** **

 

 

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#### **PART I**

ForwardLooking Statements

This Annual Report containsforward-looking statements as that term is defined in the federal securitieslaws.  The Company wishes to insure thatany forward-looking statements are accompanied by meaningful cautionarystatements in order to comply with the terms of the safe harbor provided by thePrivate Securities Litigation Reform Act of 1995.  The events described in the forward-looking statements containedin this Annual Report may not occur. Generally these statements relate to business plans or strategies,projected or anticipated benefits or other consequences of our plans orstrategies, projected or anticipated benefits of acquisitions to be made by us,projections involving anticipated revenues, earnings, or other aspects of ouroperating results.  The words “may”,“will”, “expect”, “believe”, “anticipate”, “project”, “plan”, “intend”,“estimate”, and “continue”, and their opposites and similar expressions areintended to identify forward-looking statements.  We caution you that these statements are not guarantees of futureperformance or events and are subject to a number of uncertainties, risks, andother influences, many of which are beyond our control, that may influence theaccuracy of the statements and the projections upon which the statements arebased.  Factors which may affect ourresults include, but are not limited to, the risks and uncertainties discussedin Items 1, 7, 7A and elsewhere.  Anyone or more of these uncertainties, risks, and other influences couldmaterially affect our results of operations and whether forward-lookingstatements made by us ultimately prove to be accurate.  Readers are further cautioned that theCompany’s financial results can vary from quarter to quarter, and the financialresults for any period may not necessarily be indicative of futureresults.  The foregoing is not intendedto be an exhaustive list of all factors that could cause actual results todiffer materially from those expressed in forward-looking statements made bythe Company.  Our actual results,performance and achievements could differ materially from those expressed orimplied in these forward-looking statements. We undertake no obligation to publicly update or revise any forwardlooking statements, whether from new information, future events, or otherwise.

The following discussion and analysisshould be read in conjunction with the Company’s consolidated financialstatements and the notes thereto presented elsewhere herein.  The discussion of results should not beconstrued to imply any conclusion that such results will necessarily continuein the future.

**Item 1.    Business**

                INRAD, Inc., (the “Company” or“INRAD”), incorporated in New Jersey in 1973, develops, manufactures andmarkets products for use in many Photonics Industry sectors via its fourrelated product categories:  Custom Optics,Crystals and Components, Systems, and Thin Film Services.  Its current customers include leadingcorporations in the following industries: Commercial Laser Systems,Semiconductor Inspection Equipment, Telecommunications Instruments,Telecommunications Components and Defense Electro-Optics.  The Company’s customers also includeresearchers at National Laboratories and Universities worldwide.

                INRAD manufactures precisioncustom optics, crystals, and components. Glass and crystal substrates are processed using sophisticated manufacturingequipment and techniques to polish and deposit thin films and thereby produceelements used in advanced photonic systems. In addition, the Company grows crystals with electro-optic, nonlinear,and optical properties for commercial instruments.  The majority of our products are supplied for laser systems,optical inspection systems, and telecommunications measurementinstruments.  The balance of theproducts are used in defense systems and as accessories used by the researchcommunity.

# **Products**

                Custom optic manufacturing is amajor product area for the Company. INRAD specializes in high end, precision components.  Because of its specialized capability in thegrowth and handling of crystal materials, the Company maintains a strong marketposition in birefringent crystal components, processing materials such asquartz, calcite, lithium niobate, and yttrium vanadate, all of which are widelyused in the semiconductor inspection and telecommunications industries.  INRAD has in-house thin film depositioncapability and highly developed assembly techniques, thus strengthening ourproduct offering for these sectors.

 

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The Company also grows crystals andfinishes them for several applications. Electro-optic and nonlinear crystals are produced for commercial lasersystems.  Several of these samenonlinear crystals are incorporated into devices that are designed and marketedby INRAD as standard products.  Thecrystal product line also includes materials that have unique transmission andabsorption characteristics, enabling them to be used as filters in defensesystems.

In addition, INRAD offers a product lineof laser accessory systems.  Mostsystems employ nonlinear crystals to perform the function of wavelengthconversion or pulsewidth measurement.

In summary, the Company is a supplier tooriginal equipment manufacturers in the Photonics industry.  Particular strengths include strongcapability in crystal growth, crystal handling, precise finishing of crystaland glass materials for optical applications, and thin film deposition.

The following table summarizes theCompany’s product sales by product categories and contract research anddevelopment sales during the past three years:

 
|                                  |   | **Year Ended  December 31,** |      |
|---------------------------------------|--------|------------------------------|-----------|
|                                  |   | **2001**                     |      | **2000** |   | **1999** |   |
| **Category**                          |   | **Sales**                    |      | **%** |   | **Sales** |   | **%** | ** ** | **Sales** | ** ** | **%** | ** ** |
| Crystals and Components               |   | $                            | 2,823,256 |   | 35 |   | $ | 2,953,000 |   | 37 |   | $ | 1,852,719 |   | 30 |   |
| Custom Optics                         |   | 3,211,793                    |      | 40 |   | 3,145,956 |   | 40 |   | 2,398,681 |   | 38 |   |
| Systems & Instruments             |   | 1,850,988                    |      | 23 |   | 766,000 |   | 10 |   | 926,500 |   | 15 |   |
| Subtotal                              |   | 7,886,037                    |      | 98 |   | 6,864,956 |   | 87 |   | 5,177,900 |   | 83 |   |
| Contract Research &   Development |   | 189,168                      |      | 2 |   | 1,045,011 |   | 13 |   | 1,028,192 |   | 17 |   |
| TOTAL                                 |   | $                            | 8,075,205 |   | 100 |   | $ | 7,909,967 |   | 100 |   | $ | 6,206,092 |   | 100 |   |

 

# **ProductsManufactured by the Company**

## Custom OEM Optics

The Company produces precision opticalcomponents and assemblies for its OEM customers.  The Company is known in the Photonics industry for its expertisein manufacturing polarizing components, either from birefringent crystals or bycombining glass substrates and optical thin films.  Custom components include waveplates, both micro waveplates fornetwork components and conventional-size waveplates for telecommunication andoptical inspection instruments.  Otherbirefringent elements include beam displacers, rotators, and phase shiftplates.  One high volume polarizingproduct line consists of Polarizing Beam Splitter (PBS) assemblies for a widevariety of wavelength regions.  Thepolarizer product area is complemented by a diverse offering of plano elements,including etalons, windows, wedges, and prisms.  The Company’s customers include leading corporations in theirindustries.  At present, INRAD iscontinuing to add to its custom optics manufacturing capabilities and capacityunder a multi-year upgrade and expansion program begun in 2000.

## Optical Coatings

To meet performance requirements, mostoptical components require thin film coatings on their surfaces.  Depending on the design, optical coatingscan refract, reflect, or transmit specific wavelengths.  The Inrad coating facility produces a widevariety of sophisticated coatings on many different substrates for use in itsown products, as well as for customers who purchase coated optics manufacturedby the Company to their specifications. Wavelength range coverage includes ultraviolet, visible, and nearinfrared.

The Company expanded its thin filmdepartment in 2000 and 2001 by hiring additional staff, installingstate-of-the-art chambers, and upgrading the coating facility.  The company is now able to offerion-assisted deposition (IAD) coatings as part of its repertoire.  This deposition technique provides higherperformance coatings, that are more resistant to laser damage and harshenvironmental conditions.  Thus, theCompany is better able to serve its laser, optical inspection, andtelecommunications customers.  TheCompany’s infrared coating product line has also been strengthened by theaddition of modern equipment, dedicated solely to the mid-IR wavelength region.

 

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## Crystals

The Company produces crystals that,because of their internal structure, have unique optical, non-linear, orelectro-optical properties. Electro-optic and nonlinear crystal devices can alter the intensity,polarization or wavelength of a laser beam. The Company has developed and manufactures a line of Q-switches,harmonic generators, and associated electronics.  These devices are sold on an OEM basis to laser manufacturers andindividually to researchers throughout the world.

## Harmonic GenerationSystems and Instruments

Harmonic generation systems enable theusers of lasers to convert the fundamental frequency of the laser to anotherfrequency required for a specific end use. Harmonic generators are currently used in spectroscopy, semiconductorprocessing, medical lasers, optical data storage and scientific research.

Many commercial lasers have automatictuning features, allowing them to produce a range of frequencies.  The INRAD Autotracker, when used inconjunction with these lasers, automatically generates tunable ultravioletlight or infrared light for use in spectroscopic applications.

The Company produces a Harmonic Generatorfor use with ultra fast lasers having pulsewidths in the femtosecond andpicosecond regime.  This product is soldon an OEM basis to manufacturers of ultra fast lasers and to researchers in thescientific community.

The Company markets a line ofAutocorrelators that can measure extremely short laser pulses.  Accurate measurement of pulsewidth isimportant in studies of chemical and biological reactions, as well as in thedevelopment of high-speed electronics, ultra fast lasers and laser diodes forcommunications.  Since January 2000, astrategic alliance has been in effect with A.P.E. of Berlin, Germany, to marketa product line of five Autocorrelators in the U.S., manufactured by A.P.E.

# **Research and Development**

The Company’s research and developmentactivities currently focus on developing new proprietary crystal products andgrowth processes and on new manufacturing process technologies for opticalcomponents.  This combination allows theCompany to introduce new products based on crystals, and to enhance itscapabilities and productivity in optical component manufacturing.

Company-funded internal research anddevelopment expenditures during the years ended December 31, 2001, 2000, and1999 were $201,603 (2.6% of product sales), $369,463 (5.4% of product sales),and $295,822 (5.7% of net product sales

Contract R&D programs are typicallyfixed price contracts and provide for recovery of direct costs and anallocation of indirect costs, and, depending on their terms, recovery ofgeneral and administrative costs.  The programsrange in duration from six to twenty-four months.  All programs are monitored for technical accomplishments and aresubject to final audit by the sponsoring government agency or its designatedaudit agency.  These programs aretypically not profitable, but are pursued when the technology to be advanced isin line with the Company’s future product plans.

Contract research and developmentrevenues were $189,168, $1,045,011, and $1,028,192 for the years ended December31, 2001, 2000 and 1999, respectively. Related contract R&D expenditures, including allocated indirectcosts, were $63,530, $1,188,647, and $993,513. Revenue in 2001 came principally from activities on Contracts booked inprior years.  Only one new ContractR&D program, valued at $70,000, was booked in 2001.  The decline in Contract R&D revenues in2001 was expected and is part of a strategic re-focusing by the Company of itsresources onto sales of products and non-R&D services.

 

# **Markets**

In2001, 2000 and 1999 the Company’s product sales were made to customers in thefollowing market areas:

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| **Market**                                 |   | **2001** |      | **2000** |   | **1999**  |   |
|--------------------------------------------|--------|----------|-----------|----------|--------|-----------|--------|
| Laser  Systems                             |   | 33       | %         | 31       | %      | 32        | %      |
| Semiconductor                              |   | 26       | %         | 19       | %      | 11        | %      |
| Telecomm                                   |   | 12       | %         | 20       | %      | 15        | %      |
| Other                                      |   | 5        | %         | 3        | %      | 26        | %      |
| Total Industrial                           |   | 76       | %         | 73       | %      | 84        | %      |
| Government/Defense                         |   | 11       | %         | 17       | %      | 14        | %      |
| Universities  &  National Laboratories |   | 13       | %         | 10       | %      | 12        | %      |
| Total  (%)                                 |   | 100      | %         | 100      | %      | 100       | %      |
| Total ($)                                  |   | $        | 7,886,037 |     | $      | 6,864,000 |   | $ | 5,178,000 |   |
|                                            |        |          |           |          |        |           |        |  |  |  |

Export sales, primarily to customers inEurope, the Near East and Japan, amounted to 31.4%, 38.4%, and 41.3% of productsales in 2001, 2000 and 1999, respectively. One foreign customer accounted for 10.7% of product sales in 2001 andfor 13% of product sales in 2000, and another foreign customer accounted for12% of net product sales in 1999.  OneU.S. customer accounted for 17.7% of product sales in 2001, one U.S. customeraccounted for over 13% and another for 12.2% of product sales in 2000, and nocustomer accounted for over 10% of product sales in 1999.

Within the laser industry market sector,the Company views medical and industrial lasers as moderate growth areas, whilethe growth in the size of the market for scientific lasers appears to be veryslow.  2001 was an exceptionally strongyear for the Company and its products serving these sectors.  Many of the Company’s crystals and crystalproducts, such as Q-switches and harmonic generators are sold into ourcustomer’s scientific or niche medical laser product lines.  Therefore, the Company competes for marketshare to increase its revenue levels for these products, and the Companycontinues to seek to acquire complementary products to broaden our productlines.  The laser industry as a wholecontinues to experience steady growth as new applications are demonstratedcontinuously.  The Company also serves thelaser industry as a custom optics supplier and as such continues to findopportunities to increase revenues from the laser industry market sector.

Demand in the semiconductor inspectionmarket for the Company’s products was strong in the first half of 2001, butfell precipitously thereafter as the industry’s cyclic slowdown, which hadbegun earlier, affected the Company’s customers.  Despite the slowdown in order intake from customers in 2001,shipment of products to this sector grew strongly and reached record levelsduring 2001.  While industry sourcesproject inventory depletions and growth of new product demand to bring theindustry back into an “up” cycle in the second half of 2002, shipments tocustomers in this sector in 2002 are expected to be flat at best.  Nevertheless, the optical and x-rayinspection segment of the semiconductor industry offers continued opportunitiesfor Inrad’s capabilities in precision optics, crystal products, andmonochrometers.  The Company is focusingon broadening its capability for these types of components through internaldevelopment and through acquisition of complementary capabilities and isqualifying new components for next generation systems.  The full benefits of these efforts areexpected to be realized in 2003.

The Company serves two areas withintelecommunications: products for network components and products for telecomtest instrumentation.  Thetelecommunications industry market sector experienced a precipitous downturn in2001, even more dramatic in decline than it was in the preceding ramp up.  This market dynamic created a glut inindustry capacity for such components and leaves open questions about whichtechnologies will survive the recessionary period and, consequently, whichcomponents will be in high demand when growth resumes.  Inrad’s participation in the telecominstrument market is expected to continue, as these instruments unquestionablyuse high performance optical components of the type Inrad manufactures.  The Company’s future participation as asupplier to the network component manufacturers will depend upon technologyapproaches at the time of market recovery. In the meantime, Inrad has an on-going program to improve manufacturingcapabilities and productivity through process re-engineering and acquisition ofcomplementary capabilities.  Suchimprovements are important to optimizing cost structure in this highlycompetitive market sector.

The Company is a provider of specialty crystalsfor defense electro-optical systems, in particular missile warning sensors andsystems intended to protect military aircraft. The Company has relatively light competition for this product line ofultra-violet band-pass filter crystals. The volume of shipments for these crystals depends on the defense budgetand the timing of contracts from the U.S. and foreign governments to theCompany’s customers.  As such therevenues 

 

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are cyclic.  For several years, demand has been diminished, as the nextgenerations of systems proceeded through development.  The expected increase in demand in 2001 was not realized, due tofurther delay in start of production of a major new system.  That new generation system is now budgetedto receive production funding from the U.S. Department of Defense in 2002.  The Company’s bookings are expected toincrease significantly for these products in 2002, with ramp-up in shipmentsand revenues throughout the year. Revenues from this source are projected to continue at a historicallyhigh rate for four to six years.  TheCompany also provides custom optics and infrared crystals to the defenseindustry sector.  Demand for theseproducts is expected to increase in the post-September 11 build-up of smartweapon and security system inventories and specific niche opportunities existthat are a good match with the Company’s expanding capabilities.

The university/national laboratory marketsector continues to be an important and steady revenue stream for the Company.

Oneof the goals for the Company in 2001 was expansion of its thin film depositioncapability and capacity.  With aninvestment in staff, capital equipment, and facilities improvement, the Companynow offers ion-assisted deposition (IAD) coatings.  This is a key capability in the Photonics market for an array ofapplications.  Additionally, the Companynow has the capability to serve the defense and industrial laser markets withan expanded infrared coating capability. The expansion of this capability is part of the Company’s growth plan inwhich thin film deposition is offered as an outside service as well as servingthe needs of our internal optical manufacturing department.  Promotional activities for this service willbe launched in 2002.

# **Long-Term Contracts**

Certain of the Company’s orders fromcustomers provide for periodic deliveries at fixed prices over a period thatmay be greater than one year.  In suchcases the Company attempts to obtain firm price commitments from its rawmaterial suppliers for the materials necessary to fulfill the order.

# **Marketing**

The Company markets its productsdomestically through its own sales staff, supervised by the Vice President -Marketing and Sales.  Independent salesagents are used in countries in major non-US markets, including Canada, Europe,the Near East and Japan.

The current sales staff consists of threedegreed professionals plus support personnel. The Company plans to increase its sales and marketing staff in 2002.

# **Backlog**

The Company’s order backlog as ofDecember 31, 2001 included $1,541,000 of product orders and approximately$89,000 of R&D contracts.  Backlogon December 31, 2000 included $3,448,000 of product orders and approximately$200,000 of contract R&D; On December 31, 1999, the backlog included$1,438,000 of product orders and $1,098,000 of contract R&D.  Most of that contract R&D was scheduledfor and was completed in 2000.

The Contract R&D backlog has declinedas forecast in keeping with the Company’s strategic refocusing of operationsonto greater sales of products and non-R&D services.

# **Competition**

                The Company believes that thereare relatively few companies that offer the wide range of products sold by theCompany.  However, within each productcategory, there is competition.

Changes in the Photonics industry have had an effect on suppliers ofcustom optics.  As end users haveintroduced products requiring large volumes of optical components, suppliershave responded either by carving out niche product areas or by ramping up theirown manufacturing capacity and modernizing their manufacturing methods to meethigher volume run rates.  Many customoptics manufacturers lack inhouse thin film coating capability.  As a result, there are fewer well-rounded competitorsin the custom optics arena, but they are equipped with modern facilities andprogressive manufacturing methods.  TheCompany has 

 

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judiciouslydeployed capital towards modernizing its facility, and has staffed themanufacturing group with individuals with comprehensive experience inmanufacturing management, manufacturing engineering, advanced finishingprocesses, thin-film coating processes, and capacity expansion.  The Company competes on the basis ofproviding consistently high quality products, establishing strong customerrelations, and continuously improving its labor productivity, cost structure,and product cycle times.

Competition for the Company’s systems is limited, but competitors’products are generally lower priced. The Company’s systems are considered to be high end and generally offera combination of features not available elsewhere.  Because of our in-house crystal growth capability, our staff isknowledgeable about matching appropriate crystals to given applications.

Forthe crystal product area, quality, delivery, and customer service are marketdrivers.  Many of the Company’scompetitors are overseas and can offer significantly reduced pricing for somecrystal species.  The Company has beenable to retain and grow its customer base by providing the quality and customerservice needed by OEM customers. Oftentimes the quality of the crystal component drives the ultimateperformance of the component or instrument into which it is installed.  Thus quality and technical support areconsidered to be valuable attributes for a crystal supplier by many, but notall, OEM customers.

Although price is the principal factor in certain product categories,the principal means of competition in most product categories are not onlyprice, but also include product design, product performance, quality, delivery,and customer service.  Based on itsperformance to date, the Company believes that it can continue to competesuccessfully, although no assurances can be given in this regard.

# **Employees**

As of December 31, 2001, the Company had57 full time employees and 1 part time employee.  As of December 31, 2000, the Company had 74 full time employeesand 9 part time employees.  As ofDecember 31, 1999, the Company had 57 full-time employees and 5 part-timeemployees.  The Company provides health,dental, disability and life insurance, a 401(k) plan, as well as sick leave,paid holidays and vacations to its full-time employees and has an incentive payprogram covering all employees.  None ofits employees are covered by a collective bargaining agreement.  The Company believes that its relations withits employees are good.

# **Patents and Licenses**

The Company relies on its manufacturingand technological expertise, rather than on patents, to maintain itscompetitive position in the industry. The Company takes precautionary and protective measures to safeguard itsdesign, technical and manufacturing data and relies on nondisclosure agreementswith its employees to protect its proprietary information.

It is now additionally seeking patent protectionfor a crystal material invention resulting from its research programs.

Additionally, the Company holds UnitedStates patents for: a thermal conductivity meter (t-Master), a chemical processinvolving the use of zeolites for regioselective photochlorination; a compositemembrane for the photochemical degradation of organic contaminants in groundwater; a chemical process for selective fictionalization of fullerenes; aunique chemical reactor; and zeolite membranes able to effect separations at hightemperatures.  In 2000, the Company soldits technology applicable to tunable mid-IR lasers, including a patent, to aninstrument systems company

# **Regulation**

Foreign sales of certain of the Company’sproducts may require export licenses from the United States Department ofCommerce.  Such licenses are generallyavailable to all but a limited number of countries and are obtained whennecessary.

There are no federal regulations nor anyunusual state regulations which directly affect the sale of the Company’sproducts other than those environmental compliance regulations which generallyaffect companies engaged in manufacturing operations in New Jersey.

 

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**BusinessRisk**

a) Many of our customers industries are cyclical.

Our business is significantly dependenton the demand our customers experience for their products.  Many of their end users are in industriesthat historically have experienced a cyclical demand for their products, includingbut not limited to semiconductor manufacturing, defense electro-optics systemsmanufacturing, and telecommunications infrastructure expansion.  Therefore, as a result, demand for ourproducts and our financial results of operations are subject to cyclicalfluctuations.

 

b) If general economic conditions deteriorate,our financial results may suffer.

A significant economic downturn orrecession in the United States or Europe could adversely affect our business,by causing a temporary or longer term decline in demand for our goods andservices.  Additionally, our revenuesand earnings may be affected by general economic factors, such as excessiveinflation, currency fluctuations and employment levels.

c) We face competition.

We may encounter substantial competitionfrom other companies positioned to serve the same market sectors that weserve.  Some competitors may havefinancial, technical, marketing or other resources more extensive than ours, ormay be able to respond more quickly than we can to new or emerging technologiesand other competitive pressures.  We maynot be successful in winning orders against our present or future competitors,which may adversely affect our business, our growth objectives, our financialcondition, and our operating results.

d) Our manufacturing processes require productsfrom limited sources of supply.

We utilize many relatively uncommonmaterials and compounds to manufacture our products.  Examples include optical grade quartz, specialty optical glasses,scarce natural and manmade crystals, and high purity chemical compounds.  Failure of our suppliers to deliversufficient quantities of these necessary materials on a timely basis, or todeliver contaminated or inferior quality materials, or to markedly increasetheir prices could have an adverse effect on our business, despite our effortsto secure long term commitments from our suppliers.  Adverse results might include reducing our ability to meetcommitments to our customers, compromising our relationship with our customers,adversely affecting our ability to meet expanding demand for our products, orcausing our financial results to deteriorate.

e) Our business success depends on our beingable to recruit and retain key personnel.

Our existing business and our expansionplans depend on the expertise, experience, and continuing services of certainscientists, engineers, production and management personnel, and on our abilityto recruit additional personnel.  Thereis competition for the services of these personnel, and there is no assurancethat we will be able to retain or attract the personnel necessary for oursuccess, despite our effort to do so. The loss of the services of our key personnel could have a materialadverse affect on our business, on our results of operations, or on ourfinancial results.

f)We depend on, but may not succeed in, developing and acquiring new products andprocesses.

In order to meet our strategic objectives, wemust continue to develop, manufacture and market new products, and to developnew processes and to improve existing processes.  As a result, we expect to continue to make significantinvestments in research and development and to continue to consider from timeto time the strategic acquisition of businesses, products, or technologiescomplementary to our business.  Therecan be no assurance that we will be able to develop and introduce new productsor enhancements to our existing products and processes in a way that achievesmarket acceptance or other pertinent targeted results.  Nor can we be sure that we will be successfulin acquiring complementary businesses, products, or technologies.  Failure to do so could have a materialadverse affect on our ability to grow our business

 

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g) We may not be able to fully protect ourintellectual property.

We do not currently hold any material patentsapplicable to our most important products or manufacturing processes andinstead rely on a combination of trade secret, employee non-competition andnondisclosure agreements to protect our intellectual property rights.  There can be no assurance that the steps wetake will be adequate to prevent misappropriation of our technology.  Also, there can be no assurance that, in thefuture, third parties will not assert infringement claims against us.  Asserting our rights or defending againstthird-party claims could involve substantial expense, thus materially andadversely affecting our business, results of operations or financial condition.

h) We may not succeed in our strategy of acquiringcomplementary businesses or in integrating acquired businesses.

Our business strategy includes expandingour production capacities, our product lines and our market reach through bothinternal growth and acquisition of complementary businesses.  We may not succeed in finding or completingacquisitions of such businesses, nor can we be assured that we will be able toraise the financial capital needed for the acquisition.  Acquisitions may result in per share financialdilution of our common stock from the issuance of equity securities.  They may also result in the taking on ofdebt and contingent liabilities, and amortization expenses related tointangible assets acquired, any of which could have a material adverse affecton our business, financial condition or results of operations.  Also, acquired businesses may beexperiencing operating losses.  Anyacquisition will involve numerous risks, including difficulties in the assimilationof the acquired company’s people, operations and products, uncertaintiesassociated with operating in new markets and working with new customers, andthe potential loss of the acquired company’s key employees.  To date, we have had little experience inintegrating businesses.

i) Our operations may be adversely affected if wefail to keep pace with industry developments.

We serve industries and market sectorswhich will be affected by future technological developments.  The introduction of products or processesutilizing new developments could render our existing products or processesobsolete or unmarketable.  Our continuedsuccess will depend upon our ability to develop and introduce on a timely andcost-effective basis new products, processes, and manufacturing capabilitiesthat keep pace with developments and address increasingly sophisticatedcustomer requirements.  There can be noassurance that we will be successful.

j) Product yield problems and product defectsthat are not detected until in service could increase our costs and/or reduceour revenues.

Changes in our own or in our suppliers’manufacturing processes, or the use of defective or contaminated materials byus, could result in an adverse effect on our ability to achieve acceptablemanufacturing yields, delivery performance, and product reliability.  To the extent that we do not achieve suchyields, delivery performance or product reliability, our business, operatingresults, financial condition and customer relationships could be adverselyaffected.  Additionally, our customersmay discover defects in our products after the products have been put intoservice in their systems.  In addition,some of our products are combined by our customers with products from othervendors, which may contain defects, making it difficult and costly to ascertainwhose product carries liability.  Any ofthe foregoing developments could result in increased costs and warrantyexpenses, loss of customers, diversion of technical resources, legal action byour customers, or damage to the Company’s reputation.

k) Our stock price may fluctuate.

Many factors, including, futureannouncements concerning us, our competitors or customers, as well as quarterlyvariations in operating results, announcements of technological innovations,seasonal or other variations in anticipated or actual results of operations,changes in earnings estimates by analysts or reports regarding our industriesin the financial press or investment advisory publications, could cause themarket price of our stock to fluctuate substantially.  In addition, our stock price may fluctuate widely for reasonswhich may be unrelated to operating results. These fluctuations, as well as general economic, political and marketconditions such as recessions, military 

 

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conflicts,or market or market-sector declines, may materially and adversely affect themarket price of our common stock.  Inaddition, any information concerning us, including projections of futureoperating results, appearing in investment advisory publications or on-linebulletin boards or otherwise emanating from a source other than us could in thefuture contribute to volatility in the market price of our common stock.

l)International sales account for a significant portion revenues.

Sales to customers in countries otherthan the United States accounted for approximately 32%, 38% and 41% of revenuesduring the years ended December 31, 2001, 2000, and 1999, respectively.  We anticipate that international sales willcontinue to account for a significant portion of our revenues for theforeseeable future.  In particular,although our international sales are denominated in U.S. dollars, currencyexchange fluctuations in countries where we do business could have a materialadverse affect on our business, financial condition or results of operations,by making us less price-competitive than foreign manufacturers

**Item 2.**    **Properties.**

The Company occupies approximately 31,000square feet of space located at 181 Legrand Avenue, Northvale, New Jerseypursuant to a net lease expiring on October 31, 2006.  The Company has an option to renew the lease for an additionalterm of five years, and to lease 11,000 square feet of additional adjoiningspace in the same building commencing in 2002. The 2001 annual rent was approximately $212,000.  The Company also paid real estate taxes andinsurance premiums that total to approximately $39,000 during 2001.  The Company also leases approximately 950square feet of space at 148 Veterans Drive, Northvale, New Jersey pursuant to agross lease renewable on a month-to-month basis.

**Item 3.****    LegalProceedings.**

There are no legal proceedings involvingthe Company as of the date hereof.

**Item 4.****    Submission ofMatters to a Vote of Security Holders.**

Not Applicable.

 

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**PART II**

### **Item 5.   ****Market for Registrant’s Common Equity and Related StockholderMatters**

(a)           Market Information

The Company’s common stock, par value$.01 per share, is traded in the OTC Bulletin Board under the symbol INRD.

The following table sets forth the rangeof closing prices for the Common Stock in each fiscal quarter from the quarterended March 31, 2000 through the quarter ended December 31, 2001 as reported bythe National Association of Securities Dealers NASDAQ System.  Such Over the Counter quotations reflectinter-dealer prices, without retail markup, markdown or commissions and may notnecessarily reflect actual transactions.

 
|                              |   | **Price** |
|-----------------------------------|--------|-----------|
|                              |   | **High**  |   | **Low** |
| Quarter  ended December 31, 2001  |   | 1.320     |   | .750 |
| Quarter  ended September 30, 2001 |   | 4.000     |   | 1.320 |
| Quarter  ended June 30, 2001      |   | 4.750     |   | 2.750 |
| Quarter  ended March 31, 2001     |   | 7.750     |   | 3.668 |
| Quarter  ended December 31, 2000  |   | 9.750     |   | 4.250 |
| Quarter  ended September 30, 2000 |   | 5.000     |   | 2.500 |
| Quarter  ended June 30, 2000      |   | 5.000     |   | 1.750 |
| Quarter  ended March 31, 2000     |   | 9.500     |   | 3.000 |

 

(b)           Holders

                As of February 15, 2002, therewere 650 record owners of the Common Stock.

(c)           Dividends

The Company did not pay any cashdividends on its Common Stock during the years ended December 31, 2001, 2000 or1999.  The Company paid a $155,000common stock dividend that equated to 92,000 shares of common stock on itsSeries A and Series B convertible preferred stock in 2001 and a $50,000 commonstock dividend, that equated to 50,000 shares of common stock, on its Series Aconvertible preferred stock during 2000. Payment of dividends will be at the discretion of the Company’s Board ofDirectors and will depend, among other factors, upon the earnings, capitalrequirements, operations and financial condition of the Company.  The Company does not anticipate paying cashdividends in the immediate future.

(d)           Recent Sales of UnregisteredSecurities

In 2000 the Company completed a privatesale of securities to accredited investors consisting of affiliatedshareowners, qualified private investors, and Company officers.  Under the terms of the offering, the Companyissued an aggregate of 2,100 shares of Series B 10% convertible preferred stockat a price of $1,000 per share for proceeds of $2,100,000 of which $220,000 waspaid by corporate officers during March 2001. The Series B, preferred stock is convertible to the Company’s commonstock at a price of $2.50 per share of Common (i.e., a 400 for 1 ratio).  This transaction was exempt fromregistration as an exempt private placement pursuant to section 4(2) of theSecurities Act.

In 1999 The Company completed a privatesale of securities to a shareowner and a debt holder.  Under the terms of the offering, the Company issued an aggregateof 500 shares of Series A 10% convertible preferred stock at a price of $1,000per share for proceeds of $500,000.  Theproceeds were used to retire an outstanding loan.  The Series A preferred stock is convertible to the Company’s commonstock at a price of $1.00 per share (i.e., a ration of 1000 for 1 ratio).  This transaction was exempt fromregistration as an exempt private placement pursuant to section 4(2) of theSecurities Act.

 

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**Item 6.    SelectedFinancial Data**

The following data is qualified in itsentirety by the financial statements presented elsewhere in this Annual Reporton Form 10-K.

 
|                                                 |   | **As of  December 31, or  For the Year Ended December 31,** |      |
|------------------------------------------------------|--------|-------------------------------------------------------------|-----------|
|                                                 |   | **2001**                                                    |      | **2000** |   | **1999** |   | **1998** |   | **1997** |   |
| Revenues                                             |   | $                                                           | 8,075,205 |   | $ | 7,909,967 |   | $ | 6,206,092 |   | $ | 5,350,868 |   | $ | 5,419,429 |   |
| Net Profit (Loss)                                    |   | 43,634                                                      |      | 707,869 |   | 21,789 |   | (631,768 | ) | (572,121 | ) |
| Net Profit (Loss) applicable to common  shareholders |   |                                                        |      |   |   |   |   |   |   |   |   |
| Basic                                                |   | (.02                                                        | )         | .14 |   | .01 |   | (0.30 | ) | (0.27 | ) |
| Diluted                                              |   | (.02                                                        | )         | .12 |   | .01 |   | (0.30 | ) | (0.27 | ) |
| Weighted average shares                              |   |                                                        |      |   |   |   |   |   |   |   |   |
| Basic                                                |   | 5,046,666                                                   |      | 4,563,350 |   | 4,096,078 |   | 2,119,609 |   | 2,109,271 |   |
| Diluted                                              |   | 6,386,666                                                   |      | 5,608,513 |   | 4,096,078 |   | 2,119,609 |   | 2,109,271 |   |
| Dividends                                            |   |                                                        |      |   |   |   |   |   |   |   |   |
| Paid                                                 |   | 155,000                                                     |      | 50,000 |   | None |   | None |   | None |   |
| Total                                                |   |                                                        |      |   |   |   |   |   |   |   |   |
| Assets                                               |   | 8,599,072                                                   |      | 7,829,755 |   | 4,113,227 |   | 3,538,157 |   | 4,093,459 |   |
| Long-Term                                            |   |                                                        |      |   |   |   |   |   |   |   |   |
| Obligations                                          |   | 287,170                                                     |      | 326,059 |   | 350,000 |   | 350,000 |   | 2,257,153 |   |
| Shareholders’ Equity                            |   | 6,745,489                                                   |      | 6,388,780 |   | 2,995,161 |   | 2,473,372 |   | 862,572 |   |
|                                                      |        |                                                             |           |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

**Item 7.****          ****Management’s Discussion and Analysis of Results of Operationsand Financial Condition**

The following discussion and analysisshould be read in conjunction with the Company’s consolidated financialstatements and the notes thereto presented elsewhere herein.  The discussion of results should not beconstrued to imply any conclusion that such results will necessarily continuein the future.

##### **Resultsof Operations**

The following table summarizes theCompany’s product sales by product categories, and contract research anddevelopment sales during the past three years:

 
|                                 |   | **Year Ended  December 31,** |
|--------------------------------------|--------|------------------------------|
|                                 |   | **2001**                     |   | **2000** |   | **1999** |
| **Category**                         |   | **Sales**                    |   | **%** |   | **Sales** |   | **%** |   | **Sales** |   | **%** |
| Crystals and Components              |   | $                            | 2,823,256 |   | 35 |   | $ | 2,953,000 |   | 37 |   | $ | 1,852,719 |   | 30 |
| Custom Optics                        |   | 3,211,793                    |   | 40 |   | 3,145,956 |   | 40 |   | 2,398,681 |   | 38 |
| Systems & Instruments            |   | 1,850,988                    |   | 23 |   | 766,00 |   | 10 |   | 926,500 |   | 15 |
| Subtotal                             |   | 7,886,037                    |   | 98 |   | 6,864,956 |   | 87 |   | 5,177,900 |   | 83 |
| Contract Research &  Development |   | 189,168                      |   | 02 |   | 1,045,011 |   | 13 |   | 1,028,192 |   | 17 |
| TOTAL                                |   | $                            | 8,075,205 |   | 100 |   | $ | 7,909,967 |   | 100 |   | $ | 6,206,092 |   | 100 |

 

 

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The next table sets forth, for the pastthree years, the percentage relationship to total revenues from product salesand contract research and development of certain items included in theCompany’s consolidated statement of operations.
|                                         |   | **Year ended December 31,** |   |
|----------------------------------------------|--------|-----------------------------|--------|
|                                         |   | **2001**                    |   | **2000** |   | **1999** |   |
|                                         |   | **%**                       |   | **%** |   | **%** |   |
| Revenues:                                    |   |                        |   |   |   |   |   |
| Product Sales                                |   | 97.7                        |   | 86.8 |   | 83.4 |   |
| Contract Research and Development            |   | 2.3                         |   | 13.2 |   | 16.6 |   |
|                                         |   | 100.0                       |   | 100.0 |   | 100.0 |   |
| Costs and Expenses:                          |   |                        |   |   |   |   |   |
| Cost of Goods Sold*                          |   | 63.6                        |   | 54.7 |   | 68.9 |   |
| Contract Research and Development*           |   | 33.6                        |   | 113.7 |   | 96.6 |   |
|                                         |   |                        |   |   |   |   |   |
| Product Gross Profit  Margin                 |   | 36.4                        |   | 45.3 |   | 31.1 |   |
|                                         |   |                        |   |   |   |   |   |
| Selling, General and Administrative Expenses |   | 31.0                        |   | 27.8 |   | 25.0 |   |
| Internal Research and Development**          |   | 2.6                         |   | 5.4 |   | 5.7 |   |
| Process Re-Engineering Expenses              |   | 3.7                         |   | — |   | — |   |
| Income (Loss) From Operations                |   | (.01                        | )      | 5.1 |   | (3.30 | ) |
| Net Profit (Loss)                            |   | .5                          |   | 8.9 |   | .4 |   |

----

*  calculated as a percentage oftheir respective revenues

**  calculated as a percentage of product sales

 

**TotalRevenues**

                Total revenues increased 2% to$8,075,205 in 2001 from $7,909,967 in 2000, a new record for the Company.  Total revenues had increased 27% to $7,909,967in 2000 from $6,206,092 in 1999.

**ProductSales**

Product sales were $7,886,037,$6,864,956, and $5,177,900, in 2001, 2000 and 1999, respectively.  Product sales in 2001 were 14.9% higher thanin 2000, reflecting 97.7% of total revenues. Product sales in 2000 were 32.6% higher than 1999 reflecting 86.8% oftotal revenues.

New bookings of product orders in 2001were $5,979,000, approximately 32% lower than in 2001.  New bookings of product orders in 2000 were$8,864,000, approximately 64% higher than in 1999.

The product book to bill ratio was 0.76,1.29, and 1.04 in 2001, 2000, and 1999, respectively.

The Company’s backlog of product ordersas of December 31, 2001 was approximately $1,541,000, compared to approximately$3,448,000 as of December 31, 2000 and $1,438,000 at December 31, 1999.

The $1 million increase in product salesin 2001 came mainly from the Company’s Systems and Instruments products, whichwere up 140% over the prior year.  In ayear when “growth” in demand ranged from negative 12% to negative 90% in majorPhotonic industry sectors as a whole, demand for these laser accessory productswas strong from customers in the Laser OEM and University and National Lab(i.e. R&D) industry sectors.

Salesof Crystals and Components in 2001 were down 4% compared to the prior year at$2,823,000, following a 59% increase in the prior year.  This relatively good result for 2001 in ayear when demand overall was weak resulted from a strong backlog of productorders at the end of 2000, few delivery “push-out” requests from customers, andcontinued strong demand from Defense Electro-Optics sector customers forcrystal components.  Start of a majorDefense sector customer’s new production program was deferred to 2002.

Sales of Custom Optics in 2001 were up 2%compared to the prior year at $3,211,793, following a 31% increase the prioryear, but were disappointing when compared to expectations only a yearago.  The precipitous and unprecedentedrapid drop in demand from OEM’s in the Telecommunications and Semiconductor 

 

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Inspectionand Process Control sectors slowed order intake significantly in 2001,resulting in most of the decline in the book-to-bill ratio.  Two OEM orders were cancelled at customer’srequest, and most remaining OEM customers in these sectors required delivery“push-outs” into 2002.  Nevertheless,revenues for Custom Optics were at a historic high, helped by a strong backlogat the beginning of the year, a contract from a major new OEM, and continuingnew orders from customers engaged in new product development.

Sales to laser systems manufacturers in2001 increased 24% to $2,607,000, or 33% of product sales, as compared with$2.097,000 or 31% of product sales in 2000

Sales to semiconductor sector equipmentmanufacturers in 2001 increased 61% to $2,069,000, or 26% of product sales, ascompared with $1,285,000 or 19% of product sales in 2000.

Sales to the telecommunications sector in2001 decreased 27% to $983,000, or 12% of product sales, as compared with$1,353,00 or 20% of product sales in 2000.

Sales to government and defense industrycustomers in 2001 decreased 25% to $856,000, or 11% of product sales, ascompared with $1,150,000 or 17% of product sales in 1999.

Sales to researchers in Universities andNational Laboratories in 2001 increased 15% to $1,002,000, or 13 % of productsales, as compared with $687,000 or 10% in 2000.

International product sales, as apercentage of total product sales, were 34.1%, 38.6%, and 41.3% for 2001, 2000,and 1999, respectively.

###### **Costof Goods Sold and Gross Profit Margin**

As a percentage of product sales, cost ofgoods sold was 63.6%, 54.5% and 68.9% for the years ended December 31, 2001,2000 and 1999, respectively.  Grossprofit margin as a percentage of product sales was 36.4%, 45.5%, and 31.1% for2001, 2000, and 1999, respectively.

In 2001 the cost of goods sold percentageincreased due to increased manufacturing overhead costs for newly formeddepartments including production control and manufacturing engineering and theabsorption of additional overhead costs in production that resulted fromdecreased volumes in Contract R&D sales. In 2000, the cost of goods sold percentage decreased from 1999, despitehigher unit labor and material costs. The decrease from 1999 was primarily due to higher product sales volumerelative to fixed costs, but was also, to a lesser extent, attributable tobetter identification and allocation of labor costs between inventory and costof sales, and to the allocation of overhead costs to significant contractresearch and internal research and development expenses.

Costs of purchased components have beenrelatively stable in 2001, 2000 and 1999. Unit costs of raw materials such as crystal quartz and high gradeoptical glasses have increased in the last year.

Unit labor costs rose in all years.  In 2000 labor costs increased as well due topayment of bonuses under the Company’s incentive pay program, in which bonusincome is earned by all employees when the Company meets or exceeds itsoperating profit and revenue targets. No bonus income was earned in 2001.

##### **Contract Research andDevelopment**

Contract R&D programs are typicallyfixed price contracts and provide for recovery of direct costs and anallocation of indirect manufacturing costs, and, depending on their terms,recovery of general and administrative costs. These programs are typically not profitable, but are pursued when thetechnology to be advanced is in line with the Company’s future product plans.

Contract research and developmentrevenues were $189,168, $1,045,011 and $1,028,192 for the years ended December31, 2001, 2000 and 1999, respectively. Related contract R&D expenditures, including allocated indirectcosts, were $63,530, $1,188,647 and $993,513. Revenue in 2001 came principally from activities on Contracts booked inprior years.  Only one new ContractR&D program, valued at $70,000, was booked in 2001.  Revenue increases in 2000 vs. 1999 were dueto a large opening backlog of contract R&D at the start of 2000.  The decline in Contract R&D revenues in2001 was expected and is part of a strategic re-focusing by the Company of itsresources onto sales of products and 

 

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non-R&Dservices.

The Company expects to continue toselectively seek new government-sponsored programs from time to time, as wellas joint programs with certain of its customers, in technical areas related toits core businesses.

##### **Selling, General andAdministrative Expenses**

Selling, general and administrativeexpenses in 2001 increased $303,395 or 13.8% compared to 2000.

There was a decrease in expenses in 2001related to legal fees and costs relative to raising additional capital.  However, significant increased costs wereincurred in SG&A because of inclusion of administrative costs that hadpreviously been allocated to R&D contracts, because of increases inpersonnel dedicated to the implementation of new internal computer network andEnterprise Resource Planning System (ERP), because of costs associated with theCompany’s implementation of a proactive merger and acquisition program aimed atfinding and evaluating complementary businesses and products, and by increasedbusiness travel expenses.

SG&A in 2000 increased $646,906, or41.7% compared to 1999.  In 2000,general and administration expenses increased due to increases in salaries,including, performance sharing incentive compensation, increases in personnel,including the inclusion of a full-time CEO/President and Director of HumanResources on the general management team, and increases in recruitingexpenses.  Additionally, administrativecosts also increased due to the legal expenses and other costs incurred as aresult of the private convertible preferred stock offering, application forNASDAQ registration, development of new and revised employee stock optionprograms, and other shareholder related activities.

##### **Internal Research andDevelopment Expenses**

Company-funded research expendituresduring the years ended December 31, 2001, 2000, and 1999 were $201,603 (2.6% ofnet product sales), $369,643 (5.4% of net product sales), and $295,822 (5.7% ofnet product sales).  During 2000 theCompany sold its tunable mid-IR laser technology to an instrument company aspart of the Company’s strategy to concentrate its resources on its corebusiness.  The sale was responsible forcurtailment of what had been a large portion of IR&D expenditures in theprior year and the first half fiscal year 2000.

During 2001, the Company narrowed itsfocus of internal research and development efforts onto new crystal productsand production methods, and new optical component manufacturingtechnologies.  As a result, internalR&D expenditures declined in 2001, and are expected to continue at thislevel in 2002.

##### **Special Charges**

At the end of 2000, the Company announceda sweeping manufacturing process re-engineering program to modernizemanufacturing methods, implement modern production machinery, incorporate aproduction control function for planning and scheduling, modernize andreconfigure its physical plant for efficient operational flow, increase laborproductivity, improve operating margins, and lead ultimately to ISOcertification of the Company.  Thespecial charges associated with this program were $299,763 ($.06 per share on abasic and diluted basis) for the year ended December 31, 2001.  This effort is expected to continuethroughout 2002, although at a diminished rate.

##### **Operating Income**

Losses from operations in 2001 were$(6,104) compared to operating income of $400,478 in 2000 and an operating loss of $(202,638) in 1999.  Operating income declined to (.01)% ofrevenues in 2001 as compared with 5.1% of revenues in 2000 largely due tomanufacturing efficiency decreases in custom optics manufacture.  A large part of the decrease was due to thecost of implementation, and changeover to, new manufacturing processes andmanufacturing equipment.  Additionally,the inefficiency decrease resulted from the need to continue to operate oldprocesses in parallel with new ones during the re-engineering period.  These new processes will in the long-runprovide increased productivity to operations and help prepare the Company forISO certification.

 

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##### **Other Income andExpenses**

During 2001 the company received $44,800from the sale of 40,000 shares of an equity derivative received as part of thecompensation from the sale of its tunable mid-IR laser technology in 2000.

##### **Preferred Stock Dividend**

During 2001 and 2000, dividends in commonstock valued at $155,000 to holders of the Company’s Class B preferred stock(92,000 shares of common stock valued at $2.50 per share) and common stockvalued at $50,000 to holders of the Company’s Class A preferred stock (50,000shares of common stock at $1.00 per share) were paid respectively.  Net income used in earnings per sharecalculations included these charges in 2001 and 2000 in order to derive netincome available to common shareholders.

##### **Income Taxes**

The Company recognizes deferred taxliabilities and assets for the expected future tax consequences of events thathave been recognized in the Company’s financial statements or tax returns.  Deferred tax liabilities and assets aredetermined based on the difference between the financial statement carryingamounts and the tax basis of assets and liabilities using enacted tax rates ineffect in the years in which the differences are expected to reverse.  At December 31, 2001, the Company had a netdeferred tax asset of approximately $2,196,000, the primary component of whichwas its significant net operating loss carry forward.  The Company has established a valuation allowance to offset allbut $100,000 of this deferred tax asset in the event that the tax asset willnot be realized in the future.

During 1999, the state of New Jerseyintroduced a program that allowed High Technology firms, located within theState, to sell prior year tax losses on an open market basis.  The Company sold approximately $3,350,000 ofsuch losses and realized a net tax benefit of $251,710.  This was a one time event and the balance ofprior year tax losses was used to offset taxes resulting form profits in 2000.

##### **Inflation**

The Company’s policy is to periodicallyreview pricing of its products to keep pace with current costs, market demands,and competitive factors.  As to specialand long-term contracts, management endeavors to take potential inflation intoaccount in pricing decisions.  Theimpact of inflation on the Company’s business has not been material to date.

##### **Liquidity and CapitalResources**

During September 1993, the Companyborrowed $100,000 in the form of a promissory note from a shareowner of theCompany.  On December 16, 1993, thispromissory note was extinguished and a $74,621 10% subordinated convertiblenote and 20,303 shares of the Company’s common stock at $1.25 per share wereissued.  The note, and $25,379 ofaccrued interest, was convertible at any time up to the maturity date intoshares of the Company’s common stock at $1.25 per share (to be adjusted fordividends, stock splits, etc.).  Thenote and accrued interest were converted to 80,000 common shares in February2000.

The Company’s Secured Promissory Notebore interest at 7%, was secured by certain of the Company’s precious metals,and was convertible at any time into 200,000 shares of common stock.  The note was converted to 200,000 shares ofcommon stock in June 2000.

In March 1999, a shareowner and debtholder of the Company had agreed to purchase 500 shares of Series A 10%convertible preferred stock at the price of $1,000 per share.  Two hundred shares were purchased for$200,000 in March 1999 and the remaining three hundred shares were purchased inJune 1999 for $300,000.  Dividends arepayable in common stock at the rate of $1.00 per share.

On June 15, 2000 345,000 warrants wereexercised and 345,000 shares of INRAD, Inc. common stock were issued forcapital received of $314,375.  Inaddition, $141,375 was generated over the year through the exercise of stockoptions and warrants, resulting in total proceeds from conversions of $455,750.

The company sold 2,100 shares of itsSeries B 10% Convertible Preferred Stock for $2,100,000 during the months ofSeptember and October, 2000.  This was 

 

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aprivate placement, with a limited number of accredited investors participating,including an affiliated shareholder, executive officers, and directors of theCompany.  The Series B Preferred Stockis convertible into Common Stock of the Company at the rate of $2.50 pershare.  Preferred holders of Series Bshares issued in connection with the offering are entitled to cumulativedividends that are payable in shares of the Company’s Common Stock at the rateof $2.50 per share.  In April 2000 a$50,000 dividend was paid to the holder of the Series A 10% convertiblepreferred stock by issuance of 50,000 shares of common stock.

In March, 2001 the Company obtained a$1,000,000 Line of Credit from its bank. The note bears interest at the rate of 2.0% above the LIBOR rate andprincipal is payable upon demand.  Thenote is secured by certain assets of the Company.  Borrowings against this note were $750,000 as of December 31,2001.

Officers of the Company paid $220,000 in2001 that was due for their subscription to the Series B 10% convertiblepreferred stock.

During the first quarter of 2001 26,275warrants were exercised resulting in receipts of $57,000.

Capital expenditures, including internallabor and overhead charges, for the years ended December 31, 2001, 2000 and1999 were approximately $2,224,000, $582,000 and $327,000, respectively.  Capital expenditures in 2001 were used forexpansion and renovation of facilities and for the acquisition of equipment.  The expenditures were financed in part fromcapital raised in the 2000 private offering of series B convertible preferredstock.

##### **Overview of FinancialCondition**

As shown in the accompanying financialstatements, the Company reported net income of approximately $ 44,000, $707,000and $22,000 for the years ended December 31, 2001, 2000,and 1999.  During the past three years, the Company’sworking capital requirements were met in part by sale and issuance of commonand preferred stock to shareowners, short term borrowing, cash generated fromoperations, the sale of New Jersey State Tax Loss Credits and sale of itstunable mid-IR laser technology.

EBITDA for 2001 was approximately$351,000 and net cash used in operations was approximately $(470,000).  Operating capital was augmented byborrowings of $750,000 from the Company’s revolving credit agreement.

In January of 2002 the Company wassuccessful in securing a $1,000,000 revolving credit line, a $1,000,000 assetbased term loan and an additional $1,000,000 term loan to be utilized forpossible acquisition activities.

Where possible, the Company will continueto increase sales, and reduce expenses and cash requirements to improve futureoperating results and cash flows. Management expects that cash flow from operations and use of availablelines of credit, will provide adequate liquidity for the Company’s operationsin 2002.

The Company has an active program toalign its expenses with present and projected revenues and with its commitmentsto its customers.  During therecessionary year of 2001, employment was reduced in September from 83 to 69, adecline of 17%, through lay-off and attrition. Senior executives of the Company voluntarily accepted a 15% cut in pay,and Directors’ fees were reduced 20%. In the first week of January 2002, employment was further reduced to 58,a further decline of 16%, through lay-off and attrition.  Expansion of the work-force is anticipatedin the second half of 2002, but it is expected that structural improvements inproductivity, an outgrowth of our capital investment program, will reduce the numberof additional employees that will be needed.

The Company believes that the readyavailability of bank financing coupled with its cost reduction and controlprogram will allow the Company to maintain its fiscal viability throughout2002.

**Item7A. Discussion of Market Risk**

Effect of interest rate fluctuations oninterest sensitive financial instruments.

                Weare exposed to changes in interest rates from investments in certain moneymarket accounts.  We do not utilizederivative instruments or other market risk sensitive instruments to manageexposure to interest rate changes.  Webelieve that a hypothetical 100 basis point adverse move in interest rates 

 

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alongthe entire interest rate yield curve would not materially affect the fair valueof our interest sensitive money market accounts at December 31, 2001.

**Item 8.    Financial Statements and Supplementary Data**

The Company’s consolidated financialstatements are set forth on pages F-1 through F-16.

 

**Item 9.    ChangesIn and Disagreements With Accountants on Accounting and Financial Disclosure**

 

                             None

 

 

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#### **PART III**

**Item 10. Directors and Executive Officers of the Registrant**

 
| **Name and Age**  |   | **Since** |   | **Director  Positions; Business Experience**                                                                               |
|-------------------|--------|-----------|--------|---------------------------------------------------------------------------------------------------------------------------------|
| Thomas  Lenagh,   |   | 1998      |   | Chairman  of the Board of Directors (May 2000 -Present)                                                                         |
| 75                |   |      |   | Management Consultant  (1990 - Present)                                                                                         |
|              |   |      |   | Past Chairman and CEO,  Systems Planning Corporation                                                                            |
|              |   |      |   | Financial Vice President,  the Aspen Institute                                                                                  |
|              |   |      |   | Treasurer and Chief  Investment Officer, The Ford Foundation                                                                    |
|              |   |      |   | Captain, US Navy Reserve  (ret.)                                                                                                |
| Daniel  Lehrfeld, |   | 1999      |   | Director                                                                                                                        |
| 58                |   |      |   | President  and Chief Executive Officer (2000-present),                                                                          |
|              |   |      |   | President and Chief Operating Officer(1999-2000),                                                                               |
|              |   |      |   | Vice President/General Manager (1995-1999)                                                                                      |
|              |   |      |   | Raytheon/GM Hughes Electro-Optics Center,                                                                                       |
|              |   |      |   | President (1989-1991)                                                                                                           |
|              |   |      |   | New England Research Center, (subsidiary)                                                                                       |
|              |   |      |   | Deputy General Manager (1989-1995) &                                                                                        |
|              |   |      |   | Director, Business Development,                                                                                                 |
|              |   |      |   | International Business, Operations, Cryogenic  Products                                                                         |
|              |   |      |   | Magnavox Electronic Systems E. Coast Div.,                                                                                      |
|              |   |      |   | Deputy Sector Director & Program Director                                                                                   |
|              |   |      |   | Philips Laboratories Briarcliff                                                                                                 |
|              |   |      |   | North American Philips,                                                                                                         |
|              |   |      |   | Group Leader/Project Leader                                                                                                     |
|              |   |      |   | Grumman Aerospace Corporation                                                                                                   |
| Frank  Wiedeman,  |   | 1998      |   | Director                                                                                                                        |
| 87                |   |      |   | Executive  Director (1980 — Present)                                                                                       |
|              |   |      |   | American Capital Management Inc.                                                                                                |
| Jan  Winston      |   | 2000      |   | Director                                                                                                                        |
| 65                |   |      |   | Principal (1997-Present) Winston Consulting,                                                                                    |
|              |   |      |   | Division Director/General Manager (1981-1997) IBM Corporation.  Executive positions held in Development, Finance and Marketing. |
| John  Rich,       |   | 2000      |   | Director                                                                                                                        |
| 64                |   |      |   | Vice President/General Manager (1999-Present) Power Electronics  Division, C&D Technologies                                 |
|              |   |      |   | President (1990-1999), Raytheon/GM Hughes Optical Systems                                                                       |
|              |   |      |   | Vice President (1983-1989), Perkin Elmer Microlithography,  Electro-Optics, and Systems                                         |
|              |   |      |   | Colonel, Commander, Air Force Avionics Laboratory and Air Force  Weapons Laboratory                                             |

 

The directors serve one-year terms.

 

18

----

 

###### **ExecutiveOfficers of the Registrant**

The following table sets forth the nameand age of each executive officer of the Company, the period during which eachsuch person has served as an executive officer and the positions with theCompany held by each such person:

 
| **Name and Age**         |   | **Since** |   | **Position With the Company**                          |
|--------------------------|--------|-----------|--------|--------------------------------------------------------|
| Daniel  Lehrfeld, 58     |   | 1999      |   | President  and Chief Executive Officer                 |
| Maria Murray, 44         |   | 1993      |   | Sr. Vice President—Business Development           |
| William  S. Miraglia, 52 |   | 1999      |   | Chief  Financial Officer and Secretary                 |
| Devaunshi  Sampat, 48    |   | 1999      |   | Vice  President — Sales and Marketing             |
| Thomas  A. Caughey, 52   |   | 2000      |   | Vice  President - Product R&D and Customer Support |

 

Daniel Lehrfeld has served as ChiefExecutive Officer and President since May 2000.  He joined the Company in 1999 as President and Chief OperatingOfficer.  Prior to joining the Company,Mr. Lehrfeld held the position of Vice President and General Manager ofElectro-Optic Systems, a division successively of the Raytheon, GM/HughesElectronics and Magnavox Electronic Systems Corporations.  He has also held executive positions withPhilips Laboratories and Grumman Aerospace Corporation.  Mr. Lehrfeld holds B.S. and M.S. degreesfrom Columbia University School of Engineering and Applied Science and anM.B.A. degree from the Columbia Graduate School of Business.

Maria Murray joined the Company inJanuary 1989, became Vice President of R&D Programs in 1993, and wasappointed Sr. Vice President, Business Development in 1999.  Prior to joining INRAD, Ms. Murray heldpositions in electronic design engineering in the laser and communicationindustries.  She holds a B.S. degree inElectrical Engineering from the University of Central Florida.

William S. Miraglia joined the Company asSecretary and Chief Financial Officer in June 1999.  Previously, he held the position of Vice President of Finance fora division of UNC, Inc., a NYSE aviation company.  Prior to his last position, Mr. Miraglia has held managementpositions in the aerospace industry and in public accounting.  He holds a B.B.A. from Pace University, andan M.B.A from Long Island University and is a Certified Public Accountant.

Devaunshi Sampat joined the Company in1998.  In 1999 she was appointed VicePresident of Marketing and Sales.  Priorto joining the Company, Ms. Sampat held sales management positions within thePhotonics industry with Princeton Instruments and Oriel Instruments.  Ms. Sampat holds a B.S. in MedicalTechnology from the University of Bridgeport.

Thomas A. Caughey joined the Company in1978.  He has focused on the developmentand improvement of the Company’s crystal devices and systems, and on theirapplication by the Company’s numerous customers.  In 2000, he was appointed Vice President of R&D and CustomerSupport.  Prior to joining INRAD, Dr.Caughey was a Research Associate at Texas Tech University.  He holds a Doctorate in Physical Chemistryfrom the University of Wisconsin - Madison, and a B.S. degree in Chemistry fromthe University of Michigan - Ann Arbor.

Each of the executive officers has beenelected by the Board of Directors to serve as an officer of the Company untilthe next election of officers, as provided by the Company’s by-laws.

 

 

19

----

 

 

**Item 11. ExecutiveCompensation**

###### **Summaryof Cash and Certain Other Compensation**

The following table sets forth, for theyears ended December 31, 2001, 2000 and 1999, the cash compensation paid by theCompany and its subsidiaries, to or with respect to the Company’s Officers,whose total annual salary and bonus exceeded $100,000, for services rendered inall capacities as an executive officer during such period:

 
|                    |   |     |       |       |    |      |   | **Stock**   |    |
|-------------------------|--------|----------|------------|------------|---------|-----------|--------|-------------|---------|
| **Name and Position**   |   | **Year** |       | **Salary** |    | **Bonus** |   | **Options** |    |
| Daniel Lehrfeld,        |   | 2001     |       | $          | 156,000 |      | None   |        | None    |   |
| President and           |   | 2000     |       | $          | 164,000 |      | $      | 50,000      |    | 360,000 |   |
| Chief Executive Officer |   | 1999     |       | $          | 40,000  |      | None   |        | 100,000 |   |
| Maria Murray,           |   | 2001     |       | $          | 115,000 |      | None   |        | None    |   |
| Vice President,         |   | 2000     |       | $          | 121,000 |      | None   |        | 60,000  |   |
| Business Development    |   | 1999     |       | $          | 110,000 |      | $      | 9,500       |    | 16,500 |   |
| Devaunshi Sampat,       |   | 2001     |       | $          | 139,000 |      | None   |        | None    |   |
| Vice President,         |   | 2000     |       | $          | 150,000 |      | $      | 17,600      |    | 31,500 |   |
| Sales and Marketing     |   | 1999     |       | $          | 111,000 |      | $      | 22,600      |    | 20,000 |   |
| William Miraglia        |   | 2001     |       | $          | 105,000 |      | None   |        | None    |   |
| Vice President,         |   | 2000     |       | $          | 110,000 |      | $      | 17,500      |    | 18,000 |   |
| Chief Financial Officer |   | 1999     |  < | $          | 100,000 |      | None   |        | None    |   |
|                         |        |          |            |            |         |           |        |             |         |  |  |  |  |  |

 

----

*  Compensation as of September 1999 EmploymentDate.

 

(A)           Duringthe periods covered, no Officer received perquisites (i.e., personal benefits)in excess of the lesser of $50,000 or 10% of such individual’s reported salaryand bonus.

###### **Compensationof Directors**

Each non-employee director is paid $400for each board meeting they attend, and $200 for each conference call meetingin which they participate.

**Item 12. Security Ownership of Certain Beneficial Owners and Management**

The following table presents certaininformation with respect to the security ownership of the directors of theCompany and the security ownership of each individual or entity known by theCompany to be the beneficial owner of more than 5% of the Company’s CommonStock as of March 1, 2002.  Percentagesthat include ownership of options or convertible securities are calculatedassuming exercise or conversion by each individual or entity of the options orconvertible securities owned by each individual or entity separately withoutconsidering the dilutive effect of option exercises and security conversions byany other individual or entity.  TheCompany has been advised that all individuals listed have the sole power tovote and dispose of the number of shares set opposite their names in the table.
|                          |   |                 |      | **Percent of**   |
|-------------------------------|--------|----------------------|-----------|------------------|
| **Name and Address**          |   | **Number of shares** |      | **Common Stock** |
| Clarex, Ltd.                  |   | 3,176,914            | (1)       | 52.7             |
| Bay Street and Rawson  Square |   |                 |      |             |
| P.O. Box N 3016               |   |                 |      |             |
| Nassau, Bahamas               |   |                 |      |             |
| Warren  Ruderman              |   | 1,467,046            |      | 28.6             |
| 45 Duane Lane                 |   |                 |      |             |
| Demarest, NJ 07627            |   |                 |      |             |
| Kern  Capital Management      |   | 328,500              |      | 6.4              |
| 114  West 7th Street          |   |                 |      |             |
| New  York, NY  10036     |   |                 |      |             |
| Hoechst  Celanese Corp.       |   | 300,000              |      | 5.8              |
| Routes 202-206 North          |   |                 |      |             |
| Box 2500                      |   |                 |      |             |
| Somerville, NJ 08876          |   |                 |      |             |
| Daniel  Lehrfeld              |   | 303,700              | (2)       | 5.7              |
| c/o INRAD, Inc.               |   |                 |      |             |
| Frank  Wiedeman               |   | 62,500               | (3)  | 1.2              |
| c/o INRAD, Inc.               |   |                 |      |             |
| Thomas  Lenagh                |   | 50,000               | (4)  | 1.0              |
| c/o INRAD, Inc.               |   |                 |      |             |
| John  Rich                    |   | 12,000               | (5)  | .2               |
| c/o INRAD, Inc.               |   |                 |      |             |
| Jan  Winston                  |   | 4,000                | (6)  | .1               |
| c/o INRAD, Inc.               |   |                 |      |             |
| Directors  and Executive      |   | 533,310              | (7)  | 9.7              |
| Officers  as a group          |   |                 |      |             |
| (9 persons)                   |   |                 |      |             |

 

 

20

----

 

----

(1)                                  Including 900,000 shares subject to convertible preferred stockexercisable or convertible within 60 days.

(2)                                  Including 48,000 shares subject to convertible preferred stock and153,300 stock options convertible within 60 days.

(3)                                  Including 12,500 shares subject to options exercisable within 60 days.

(4)                                  Including 25,000 shares subject to options exercisable within 60 days.

(5)                                  Including 12,000 shares subject to convertible preferred stockexercisable or convertible within 60 days.

(6)                                  Including 4,000 shares subject to convertible preferred stockexercisable or convertible within 60 days.

(7)                                  Including 306,250 shares subject to convertible preferred stock, stockoptions, and warrants exercisable within 60 days.

 

 

**Item 13. Certain Relationship and Related Transactions**

During the years ended December 31, 2001,2000 and 1999 approximately 4%, 3%, and 6%, respectively of the Company’s netproduct sales were through a foreign agent, in which, Warren Ruderman aprincipal shareholder has an investment. Terms of sales to this foreign agent were substantially the same as tounrelated foreign agents.

During 1999, Clarex, Ltd., a shareownerand debt holder purchased 500 shares of 10% convertible Preferred stock for$500,000.

During 2000, Clarex, Ltd., a shareownerand debt holder purchased 1000 shares of 10% convertible preferred stock for$1,000,000, converted a 10% convertible secured note and received 200,000shares of the Company’s common stock and exercised 345,000 of warrants andreceived 345,000 shares of the Company’s common stock.

During 2000, the following directors and officers of the Companypurchased 263 shares of 10% convertible preferred stock for $263,000:

 
| Daniel Lehrfeld, President and CEO           |   | $ | 120,000 | (1)    |
|----------------------------------------------|--------|---|---------|--------|
| John Rich, Director                          |   | $ | 30,000  |   |
| Jan Winston, Director                        |   | $ | 10,000  |   |
| Maria Murray, VP business Development        |   | $ | 50,000  | (1)    |
| Devaunshi Sampat, VP Sales & Marketing   |   | $ | 20,000  | (2)    |
| William S. Miraglia, Chief financial Officer |   | $ | 23,000  | (1)    |
| Relinda Walker, VP Manufacturing             |   | $ | 10,000  | (3)    |

 

----

(1) Due as of December 31, 2000

(2) $10,000 due as of December 31, 2000

(3) $5,000 due as of December 31, 2000

Allamounts were paid to the Company on or before March 31, 2001.

 

 

21

----

 

#### **PARTIV**

**Item 14B.              Form 8K’s Filed:**

                                                None

**Item 14C.              Exhibits, Financial StatementSchedules and Reports on Form 8-K**

(a)           Financial statements filed as part ofthis report:

                See Index to ConsolidatedFinancial Statements at F-1.

(b)           Exhibits filed as part of thisreport:

The following exhibits are incorporatedby reference to exhibits in the Company’s Registration Statement or amendmentsthereto on Form S-18 (Registration No. 2-83689), initially filed with theSecurities and Exchange Commission on May 11, 1983:

 
| **Present Exhibit  No.** |   | **Description of Exhibit**                                 |   | **Exhibit No.  in Registration  Statement or  or Amendments** |
|--------------------------|--------|------------------------------------------------------------|--------|---------------------------------------------------------------|
| 3.1                      |   | Restated  Certificate of                                   |   | 3.1  of Amendment                                             |
|                     |   | Incorporation,  as amended.                                |   | No.  1.                                                       |
| 3.2                      |   | By-laws, as amended.                                       |   | 3.2 of Amendment                                              |
|                     |   |                                                       |   | No.  1.                                                       |
| 3.3                      |   | Certificate  of Amendment of Certificate of Incorporation  |   |                                                          |
| 3.4                      |   | Exhibit  A — Series A 10% Convertible Preferred Stock |   |                                                          |
| 3.5                      |   | Exhibit  B — Series B 10% Convertible Preferred Stock |   |                                                          |

 

The following exhibit is incorporated byreference to the Report to the Securities and Exchange Commission on Form 10-Kfor the fiscal year ended December 31, 1985:

10.1                                                                                              CommonStock Purchase and Option Agreements, dated 10/14/85 and 11/17/85, between theCompany and Celanese Corporation (now Hoechst Celanese Corporation).

The following exhibit is incorporated byreference to the Company’s proxy statement filed with the Securities andExchange Commission related to the annual meeting held on June 20, 1991:

10.2(*)                                                                               INRAD,Inc. Key Employee Compensation Plan.

The following exhibit is incorporated byreference to the Report to the Securities and Exchange Commission on Form 10-Kfor the fiscal year ended December 31, 1991:

10.3                                                                                              Lease datedOctober 4, 1991 between S&R Costa as lessor and the Company as lessee.

The following exhibit is incorporated byreference to the Report to the Securities and Exchange Commission on Form 10-Kfor the fiscal year ended December 31, 1993:

10.5                                                                                              Stockand Note Purchase Agreement with exhibits.

The following exhibits are incorporatedby reference to the Report to the Securities and Exchange Commission on Form10-K for the fiscal year ended December 31, 1995:

10.6                                                                                              SubordinatedConvertible Note dated April 9, 1995 between Clarex Limited and INRAD, Inc.

10.7                                                                                              UnsecuredDemand Convertible Promissory Note dated September 27, 1995 between ClarexLimited and INRAD, Inc.

The following exhibits are incorporatedby reference to the Report to the Securities and Exchange Commission on Form10-K for the fiscal year ended December 31, 1996:

10.8                                                                                              Addendumto lease dated October 4, 1991, between S&R 

 

22

----

 

                Costaas lessor and the Company as lessee.

10.9                                                                                             Amendment andwaiver to the stock and purchase agreement dated as of December 15, 1993.

The following exhibits are incorporatedby reference to the Report to the Securities and Exchange Commission on Form10-K for the fiscal year ended December 31, 1999:
| 10.10* | Employment contract with Devaunshi Sampat.                  |
|--------|-------------------------------------------------------------|
| 10.11* | Employment  contract with Daniel Lehrfeld.                  |
| 10.12* | INRAD,  Inc. 2000 Equity Compensation Program.              |
| 11.1   | A  statement regarding computation of per-share             |
|   | earnings  is omitted because the computation can be clearly |
|   | determined  from the material contained herein.             |
| 23.2   | Consent from Holtz  Rubenstein LLP.                         |
|        |                                                             |  |

 

----

*Management contracts and employment agreements

 

 

23

----

 

** **

**SIGNATURES**

Pursuant to the requirements of Section13 or 15(d) of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned, thereuntoduly authorized.

|   | INRAD INC.               |   |
|--------|--------------------------|--------|
| By:    | /s/  Daniel Lehrfeld     |   |
|   | Daniel  Lehrfeld         |   |
|   | Chief  Executive Officer |   |
|   | Dated: March 15, 2002    |   |

                Pursuant to the requirements ofthe Securities Exchange Act of 1934, this report has been signed below by thefollowing persons on behalf of the registrant and in the capacities and on thedates indicated.
| **Signature**            |   | **Title**                 |   | **Date**        |   |
|--------------------------|--------|---------------------------|--------|-----------------|--------|
|                     |   |                      |   |            |   |
| /s/  Thomas Lenagh       |   | Chairman  of the Board    |   | March  15, 2002 |   |
| Thomas  Lenagh           |   | of  Directors             |   |            |   |
|                     |   |                      |   |            |   |
| /s/  Daniel Lehrfeld     |   | President,  Chief         |   | March  15, 2002 |   |
| Daniel  Lehrfeld         |   | Executive  Officer        |   |            |   |
|                     |   | and  Director             |   |            |   |
|                     |   |                      |   |            |   |
| /s/  Frank Wiedeman      |   | Director                  |   | March  15, 2002 |   |
| Frank  Wiedeman          |   |                      |   |            |   |
|                     |   |                      |   |            |   |
| /s/  John Rich           |   | Director                  |   | March  15, 2002 |   |
| John  Rich               |   |                      |   |            |   |
|                     |   |                      |   |            |   |
| /s/  Jan Winston         |   | Director                  |   | March  15, 2002 |   |
| Jan  Winston             |   |                      |   |            |   |
|                     |   |                      |   |            |   |
| /s/  William S. Miraglia |   | Chief  Financial Officer  |   | March  15, 2002 |   |
| William  S. Miraglia     |   | and  Secretary            |   |            |   |
|                     |   | (Principal  Financial and |   |            |   |
|                     |   | Accounting  Officer)      |   |            |   |

 

 

 

24

----

 

 

**INRAD, INC.AND SUBSIDIARY**

 

**REPORT ON AUDITSOF CONSOLIDATED FINANCIAL STATEMENTS**

 

**THREE YEARSENDED DECEMBER 31, 2001**

 

 

**CONTENTS**

 

 
|                                                                                             |
|--------------------------------------------------------------------------------------------------|
| Report of Holtz Rubenstein  & Co., LLP, Independent Certified Public Accountants             |
|                                                                                             |
| Consolidated  balance sheets as of December 31, 2001 and 2000                                    |
|                                                                                             |
| Consolidated  statements of operations for the three years ended December 31, 2001               |
|                                                                                             |
| Consolidated  statements of shareowners’ equity for the three years ended December 31, 2001 |
|                                                                                             |
| Consolidated statements of  cash flows for the three years ended December 31, 2001               |
|                                                                                             |
| Notes  to consolidated financial statements                                                      |

 

 

 

----

 

IndependentAuditors’ Report

 

 

 

 

Boardof Directors and ShareownersInrad, Inc. and SubsidiaryNorthvale, New Jersey

 

Wehave audited the accompanying consolidated balance sheets of Inrad, Inc. andSubsidiary as of December 31, 2001, and 2000, and the related consolidatedstatements of operations, shareowners’ equity and cash flows for the threeyears ended December 31, 2001.  Theseconsolidated financial statements are the responsibility of the Company’smanagement.  Our responsibility is toexpress an opinion on these consolidated financial statements based on ouraudits.

We conducted our audits in accordancewith auditing standards generally accepted in the United States ofAmerica.  Those standards require thatwe plan and perform the audits to obtain reasonable assurance about whether thefinancial statements are free of material misstatement.  An audit includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financialstatements.  An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statementpresentation.  We believe that ouraudits provide a reasonable basis for our opinion.

Inour opinion, the consolidated financial statements referred to above presentfairly, in all material respects, the consolidated financial position of Inrad,Inc. and Subsidiary as of December 31, 2001 and 2000, and the results of theiroperations and their cash flows for the three years then ended December 31,2001, in conformity with accounting principles generally accepted in the UnitedStates of America.

 

 

 

                HOLTZ RUBENSTEIN & CO., LLP

 

 

 

Melville,New YorkFebruary 28, 2002

 

 

 

F-2

----

 

**INRAD, INC.AND SUBSIDIARY**

 

**CONSOLIDATED BALANCE****SHEETS**

 
|                                                     |   | **December  31,** |      |
|----------------------------------------------------------|--------|-------------------|-----------|
| ASSETS                                                   |   | **2001**          |      | **2000** |   |
| CURRENT ASSETS:                                          |   |              |      |   |   |
| Cash and cash equivalents                                |   | $                 | 548,949   |   | $ | 2,233,878 |   |
| Accounts receivable, net of allowance for  uncollectible |   |              |      |   |   |
| accounts of $54,000, in 2001 and 2000                    |   | 1,295,394         |      | 1,237,050 |   |
| Unbilled contract costs                                  |   | 391,756           |      | 524,103 |   |
| Inventories                                              |   | 2,356,884         |      | 1,762,689 |   |
| Other current assets                                     |   | 140,366           |      | 62,307 |   |
| Total current assets                                     |   | 4,733,349         |      | 5,820,027 |   |
|                                                     |   |              |      |   |   |
| PROPERTY AND EQUIPMENT, net:                             |   |              |      |   |   |
| Property and equipment at cost                           |   | 8,754,197         |      | 6,555,913 |   |
| Less:   accumulated depreciation and amortization   |   | (5,499,498        | )         | (5,149,518 | ) |
| Total property and equipment                             |   | 3,254,699         |      | 1,406,395 |   |
|                                                     |   |              |      |   |   |
| PRECIOUS METALS                                          |   | 309,565           |      | 307,265 |   |
| DEFERRED TAXES                                           |   | 100,000           |      | - |   |
| OTHER ASSETS                                             |   | 201,459           |      | 296,068 |   |
| TOTAL ASSETS                                             |   | $                 | 8,599,072 |   | $ | 7,829,755 |   |
|                                                     |   |              |      |   |   |
| LIABILITIES AND SHAREOWNERS’ EQUITY                 |   |              |      |   |   |
|                                                     |   |              |      |   |   |
| CURRENT LIABILITIES:                                     |   |              |      |   |   |
| Note Payable -Bank                                       |   | $                 | 750,000   |   | $ | — |   |
| Accounts payable and accrued expenses                    |   | 729,392           |      | 1,017,320 |   |
| Current obligations under capital leases                 |   | 87,021            |      | 97,596 |   |
| Total current liabilities                                |   | 1,566,413         |      | 1,114,916 |   |
|                                                     |   |              |      |   |   |
| CAPITAL LEASE OBLIGATIONS                                |   | 287,170           |      | 326,059 |   |
| Total liabilities                                        |   | 1,853,583         |      | 1,440,975 |   |
| COMMITMENTS                                              |   |              |      |   |   |
| SHAREOWNERS’ EQUITY:                                |   |              |      |   |   |
| 10% Convertible preferred stock, Series A,               |   |              |      |   |   |
| no par value; 500 shares issued                          |   |              |      |   |   |
| and outstanding, respectively                            |   | 500,000           |      | 500,000 |   |
| 10% Convertible preferred stock, Series B,               |   |              |      |   |   |
| no par value; 2,100 shares issued                        |   |              |      |   |   |
| and outstanding, respectively                            |   | 2,100,000         |      | 2,100,000 |   |
| Common stock, $.01 par value; authorized  15,000,000     |   |              |      |   |   |
| shares; 5,135,603 and  4,957,678 issued and              |   |              |      |   |   |
| outstanding, respectively                                |   | 51,356            |      | 49,577 |   |
| Capital in excess of par value                           |   | 9,331,194         |      | 9,084,898 |   |
| Deficit                                                  |   | (5,222,111        | )         | (5,110,745 | ) |
|                                                     |   | 6,760,439         |      | 6,623,730 |   |
| Subscription receivable                                  |   | —            |      | (220,000 | ) |
| Treasury stock, at cost; 4,600 shares                    |   | (14,950           | )         | (14,950 | ) |
| TOTAL SHAREOWNERS’ EQUITY                           |   | 6,745,489         |      | 6,388,780 |   |
| TOTAL LIABILITIES AND SHAREOWNERS’ EQUITY           |   | $                 | 8,599,072 |   | $ | 7,829,755 |   |

 

See notes to consolidated financial statements

 

 

F-3

----

 

 

**INRAD, INC.AND SUBSIDIARY**

 

**CONSOLIDATED STATEMENTS OFOPERATIONS**

 

 
| ** **                                    | ** ** | **Years Ended  December 31,** |
|-----------------------------------------------|------------|-------------------------------|
|                                          |       | **2001**                      |   | **2000** |   | **1999** |   |
| REVENUES:                                     |       |                          |   |   |   |   |   |
| Net product sales                             |       | $                             | 7,886,037 |   | $ | 6,864,956 |   | $ | 5,177,900 |   |
| Contract research and development             |       | 189,168                       |   | 1,045,011 |   | 1,028,192 |   |
|                                          |       | 8,075,205                     |   | 7,909,967 |   | 6,206,092 |   |
| COST AND EXPENSES:                            |       |                          |   |   |   |   |   |
| Cost of goods sold                            |       | 5,014,822                     |   | 3,752,973 |   | 3,568,075 |   |
| Contract research and development expenses    |       | 63,530                        |   | 1,188,647 |   | 993,513 |   |
| Selling, general and  administrative expenses |       | 2,501,621                     |   | 2,198,226 |   | 1,551,320 |   |
| Internal research and  development expenses   |       | 201,603                       |   | 369,643 |   | 295,822 |   |
| Special charges                               |       | 299,733                       |   | — |   | — |   |
|                                          |       | 8,081,309                     |   | 7,509,489 |   | 6,408,730 |   |
| OPERATING INCOME (LOSS)                       |       | (6,104                        | ) | 400,478 |   | (202,638 | ) |
|                                          |       |                          |   |   |   |   |   |
| OTHER INCOME (EXPENSE):                       |       |                          |   |   |   |   |   |
| Gain on sale of  technology                   |       | 44,800                        |   | 325,000 |   | — |   |
| Interest expense                              |       | (91,154                       | ) | (15,327 | ) | (33,330 | ) |
| Interest income                               |       | 50,919                        |   | 46,828 |   | 6,047 |   |
| Other                                         |       | (38,071                       | ) | (49,110 | ) | — |   |
|                                          |       | (33,506                       | )  | 307,391 |   | (27,283 | )  |
|                                          |       |                          |   |   |   |   |   |
| (LOSS) INCOME BEFORE  INCOME                  |       |                          |   |   |   |   |   |
| TAX BENEFIT AND  PREFERRED                    |       |                          |   |   |   |   |   |
| STOCK DIVIDENDS                               |       | (39,610                       | ) | 707,869 |   | (229,921 | ) |
|                                          |       |                          |   |   |   |   |   |
| INCOME TAX BENEFIT (NET)                      |       | 83,244                        |   | — |   | 251,710 |   |
| NET INCOME                                    |       | 43,634                        |   | 707,869 |   | 21,789 |   |
|                                          |       |                          |   |   |   |   |   |
| PREFERRED STOCK DIVIDENDS                     |       | (155,000                      | ) | (50,000 | ) | — |   |
|                                          |       |                          |   |   |   |   |   |
| NET (LOSS) INCOME APPLICABLE TO               |       |                          |   |   |   |   |   |
| COMMON SHAREOWNERS                            |       | $                             | (111,366 | ) | $ | 657,869 |   | $ | 21,789 |   |
| NET (LOSS) INCOME PER  COMMON SHARE           |       |                          |   |   |   |   |   |
| Basic                                         |       | $                             | (.02 | ) | $ | .14 |   | $ | .01 |   |
|                                          |       |                          |   |   |   |   |   |
| Diluted                                       |       | $                             | (.02 | ) | $ | .12 |   | $ | .01 |   |

 

See notes to consolidated financial statements

 

 

F-4

----

 

## **INRAD, INC. AND SUBSIDIARY**

 

**CONSOLIDATED STATEMENT OF SHAREOWNERS’EQUITY**

** **
| ** **                                 | ** ** | **Common Stock** | ** ** | **Preferred Stock   (Series A)** | ** ** | **Preferred Stock   (Series B)** | ** ** | **Capital in excess  of  par value** |       | **Deficit** |       | **Subscription   ****Receivable** |   | **Treasury ****Stock** |      |       |
|--------------------------------------------|------------|------------------|------------|----------------------------------|------------|----------------------------------|------------|-------------------------------------------|------------|-------------|------------|--------------------------------------------------|--------|-----------------------------|-----------|------------|
|                                       |       | **Shares**       |       | **Amount**                       |       | **Shares**                       |       | **Amount**                                | **Shares** |        | **Amount** |                                             |
| Balance, December 31,  1998                |       | 4,100,678        |       | 41,007                           |       | —                           |       | —                                    |       | —      |       | —                                           |   | 8,237,718                   |      | (5,790,403 | ) | — |   | (14,950 | ) |   |
| Issuance of Preferred  Stock               |       | —           |       | —                           |       | 500                              |       | 500,000                                   |       | —      |       | —                                           |   | —                      |      | —     |   | — |   | — |   |   |
| Net income for the  year                   |       | —           |       | —                           |       | —                           |       | —                                    |       | —      |       | —                                           |   | —                      |      | 21,789     |   | — |   | — |   |   |
|                                       |       |             |       |                             |       |                             |       |                                      |       |        |       |                                             |   |                        |      |       |   |   |   |   |   |   |
| Balance, December 31,  1999                |       | 4,100,678        |       | 41,007                           |       | 500                              |       | 500,000                                   |       | —      |       | —                                           |   | 8,237,718                   |      | (5,768,614 | ) | — |   | (14,950 | ) |   |
| Issuance of Preferred  Stock               |       | —           |       | —                           |       | —                           |       | —                                    |       | 2,100       |       | 2,100,000                                        |   | —                      |      | —     |   | (220,000 | ) | — |   |   |
| Exercise of Options                        |       | 107,000          |       | 1,070                            |       | —                           |       | —                                    |       | —      |       | —                                           |   | 68,430                      |      | —     |   | — |   | — |   |   |
| Exercise of Warrants                       |       | 420,000          |       | 4,200                            |       | —                           |       | —                                    |       | —      |       | —                                           |   | 382,050                     |      | —     |   | — |   | — |   |   |
| Common Stock Issued on  Conversion of Debt |       | 280,000          |       | 2,800                            |       | —                           |       | —                                    |       | —      |       | —                                           |   | 347,200                     |      | —     |   | — |   | — |   |   |
| Dividend on Preferred  Stock               |       | 50,000           |       | 500                              |       | —                           |       | —                                    |       | —      |       | —                                           |   | 49,500                      |      | (50,000    | ) | — |   | — |   |   |
| Net income for the  year                   |       | —           |       | —                           |       | —                           |       | —                                    |       | —      |       | —                                           |   | —                      |      | 707,869    |   | — |   | — |   |   |
|                                       |       |             |       |                             |       |                             |       |                                      |       |        |       |                                             |   |                        |      |       |   |   |   |   |   |   |
| Balance, December 31,  2000                |       | 4,957,678        |       | 49,577                           |       | 500                              |       | 500,000                                   |       | 2,100       |       | 2,100,000                                        |   | 9,084,898                   |      | (5,110,745 | ) | (220,000 | ) | (14,950 | ) |   |
| Exercise of Options                        |       | 29,250           |       | 293                              |       | —                           |       | —                                    |       | —      |       | —                                           |   | 30,833                      |      | —     |   | — |   | — |   |   |
| Exercise of Warrants                       |       | 51,675           |       | 516                              |       | —                           |       | —                                    |       | —      |       | —                                           |   | 56,683                      |      | —     |   | — |   | — |   |   |
| Dividend on Preferred  Stock               |       | 92,000           |       | 920                              |       | —                           |       | —                                    |       | —      |       | —                                           |   | 154,080                     |      | (155,000   | ) | — |   | — |   |   |
| Subscription received                      |       | —           |       | —                           |       | —                           |       | —                                    |       | —      |       | —                                           |   | —                      |      | —     |   | 220,000 |   | — |   |   |
| Contribution                               |       | 5,000            |       | 50                               |       | —                           |       | —                                    |       | —      |       | —                                           |   | 4,700                       |      | —     |   | — |   | — |   |   |
| Net income for the  year                   |       | —           |       | —                           |       | —                           |       | —                                    |       | —      |       | —                                           |   | —                      |      | 43,634     |   | — |   | — |   |   |
|                                       |       |             |       |                             |       |                             |       |                                      |       |        |       |                                             |   |                        |      |       |   |   |   |   |   |   |
| Balance, December 31,  2001                |       | 5,135,603        |       | $                                | 51,356     |                             | 500        |                                      | $          | 500,000     |       | 2,100                                            |   | $                           | 2,100,000 |       | $ | 9,331,194 |   | $ | (5,222,111 | ) | $ | —— |   | $ | (14,950 | ) |
|                                            |            |                  |            |                                  |            |                                  |            |                                           |            |             |            |                                                  |        |                             |           |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

See notes to consolidated financial statements

 

F-5

----

 

# **INRAD, INC. AND SUBSIDIARY**

# **CONSOLIDATED STATEMENTS OF CASH FLOWS**

 

 
|                                                                                            |   | **Years  Ended**  |    |
|-------------------------------------------------------------------------------------------------|--------|-------------------|---------|
|                                                                                            |   | **December  31,** |    |
|                                                                                            |   | **2001**          |    | **2000** |   | **1999** |   |
| CASH FLOWS FROM OPERATING ACTIVITIES:                                                           |   |              |    |   |   |   |   |
| Net income                                                                                      |   | $                 | 43,634  |   | $ | 707,869 |   | $ | 21,789 |   |
| Adjustments to reconcile income (loss) to net cash  (used in) provided by operating activities: |   |              |    |   |   |   |   |
| Depreciation and amortization                                                                   |   | 349,980           |    | 289,677 |   | 313,190 |   |
| Deferred tax asset                                                                              |   | (100,000          | )       | — |   | — |   |
| Allowance for uncollectible accounts                                                            |   | —            |    | 10,000 |   | 36,600 |   |
| Increase in inventory reserve                                                                   |   | —            |    | 70,000 |   | — |   |
| Contribution of stock                                                                           |   | 4,750             |    | — |   | — |   |
| Changes in operating assets and liabilities:                                                    |   |              |    |   |   |   |   |
| (Increase) decrease in assets:                                                                  |   |              |    |   |   |   |   |
| Accounts receivable                                                                             |   | (58,344           | )       | (505,492 | ) | (138,554 | ) |
| Inventories                                                                                     |   | (594,195          | )       | (496,404 | ) | 96,796 |   |
| Unbilled contract costs                                                                         |   | 132,347           |    | (63,390 | ) | (335,617 | ) |
| Other current assets                                                                            |   | (78,059           | )       | 29,663 |   | (27,344 | ) |
| Precious metals                                                                                 |   | (2,300            | )       | (869 | ) | (24,000 | ) |
| Other assets                                                                                    |   | 120,176           |    | (141,225 | ) | (300 | ) |
| Increase (decrease) in liabilities:                                                             |   |              |    |   |   |   |   |
| Accounts payable and accrued expenses                                                           |   | (287,929          | )       | 413,862 |   | 75,467 |   |
| Advances from customers                                                                         |   | —            |    | (152,608 | ) | 121,721 |   |
| Other current liabilities                                                                       |   | —            |    | (12,000 | ) | (28,400 | ) |
| Total adjustments                                                                               |   | (513,574          | )       | (558,786 | ) | 89,559 |   |
| Net cash   (used in) provided by operating activities                                      |   | (469,940          | )       | 149,083 |   | 111,348 |   |
|                                                                                            |   |              |    |   |   |   |   |
| CASH FLOWS FROM INVESTING ACTIVITIES:                                                           |   |              |    |   |   |   |   |
| Capital expenditures                                                                            |   | (2,223,850        | )       | (581,520 | ) | (326,700 | ) |
|                                                                                            |   |              |    |   |   |   |   |
| Net cash used in investing activities                                                           |   | (2,223,850        | )       | (581,520 | ) | (326,700 | ) |
|                                                                                            |   |              |    |   |   |   |   |
| CASH FLOWS FROM FINANCING ACTIVITIES:                                                           |   |              |    |   |   |   |   |
| Proceeds from issuance of preferred stock                                                       |   | 220,000           |    | 1,880,000 |   | 500,000 |   |
| Increase (decrease) note payable —bank, net                                                |   | 750,000           |    | — |   | (107,500 | ) |
| Principal payments of capital lease obligations                                                 |   | (49,464           | )       | (46,604 | ) | (8,007 | ) |
| Proceeds from exercise of warrants and options                                                  |   | 88,325            |    | 455,750 |   | — |   |
| Net cash provided by financing activities                                                       |   | 1,008,861         |    | 2,289,146 |   | 384,493 |   |
|                                                                                            |   |              |    |   |   |   |   |
| NET (DECREASE) INCREASE IN CASH                                                                 |   |              |    |   |   |   |   |
| AND CASH EQUIVALENTS                                                                            |   | (1,684,929        | )       | 1,856,709 |   | 169,141 |   |
|                                                                                            |   |              |    |   |   |   |   |
| CASH AND CASH EQUIVALENTS, beginning of year                                                    |   | 2,233,878         |    | 377,169 |   | 208,028 |   |
|                                                                                            |   |              |    |   |   |   |   |
| CASH AND CASH EQUIVALENTS, end of year                                                          |   | $                 | 548,949 |   | $ | 2,233,878 |   | $ | 377,169 |   |

 

See notes to consolidated financial statements

 

 

F-6

----

 

**INRAD, INC.AND SUBSIDIARY**

**NOTES TOCONSOLIDATED** FINANCIAL STATEMENTS

**THREE YEARS ENDED DECEMBER 31, 2001**

**1.         Nature of Business and Summary ofSignificant Accounting Policies:**

            a.   Nature of Operations

                  Inrad, Inc. and Subsidiary(the “Company”) is a manufacturer of crystals, crystal devices, electro-opticand optical components, and sophisticated laser subsystems andinstruments.  The Company’s principalcustomers include commercial instrumentation companies and OEM lasermanufacturers, research laboratories, government agencies, and defensecontractors.  The Company’s products aresold domestically using its own sales staff, and in major overseas markets,principally Europe and the Far East, using independent sales agents.

            b.   Principles of consolidation

                  The accompanying consolidatedfinancial statements include the accounts of the Company and its wholly-ownedsubsidiary.  Upon consolidation, allintercompany accounts and transactions are eliminated.

            c.   Depreciation and amortization

                    Depreciationis computed using the straight-line method over the estimated useful lives ofthe related assets.  Amortization ofleasehold improvements is computed using the straight-line method over theestimated useful lives of the related assets or the remaining term of thelease, whichever is shorter. Maintenance and repairs of property and equipment are charged tooperations and major improvements are capitalized.  Upon retirement, sale or other disposition of property andequipment, the cost and accumulated depreciation are eliminated from theaccounts and gain or loss is included in operations.

            d.     Inventories

                    Inventories,including certain precious metals consumed in the manufacturing process, arestated at the lower of cost (first-in, first-out method) or market.

            e.     Income taxes

                    Deferredtax assets and liabilities are determined based on differences betweenfinancial reporting and tax bases of assets and liabilities, and are measuredusing the enacted tax rates and laws that will be in effect when thedifferences are expected to reverse.

            f.      Impairment of long-lived assets

                    Inaccordance with Statement of Financial Accounting Standard No. 121, “Accountingfor the Impairment of Long-Lived Assets and for Long-Lived Assets to beDisposed of,” an impairment loss is recognized whenever events or changes incircumstances indicate that the carrying amount of an asset may not berecoverable.

            g.     Stock-based compensation

                    The Company accounts forstock-based compensation arrangements in accordance with the provisions ofAccounting Principles Board (“APB”) Opinion No. 25, Accounting for Stock Issuedto Employees, and accounts for stock issued for services provided by other thanemployees in accordance with and complies with the disclosure provisions ofSFAS No. 123, Accounting for Stock-Based Compensation.  Under APB No. 25, compensation expense isbased on the difference, if any, on the date of the grant, between the fairvalue of the Company’s stock and the exercise price.  During December 2001, the Company issued all stock options atmarket.  A new measurement date forpurposes of determining compensation is established when there is a substantivechange to the terms of an underlying option.

Contractresearch and development

                    Revenues from sponsoredresearch and development are recorded using the percentage-of-completionmethod.  Under this method, revenues arerecognized based on direct labor and other direct costs incurred compared withtotal estimated direct costs.  ContractR&D costs include allocations of plant overhead and general andadministrative costs.

 

 

F-7

----

 

h.              Internalresearch and development costs

                    Internalresearch and development costs are charged to expense as incurred

i.                  Precious metals

                    Preciousmetals not consumed in the manufacturing process are valued at cost, cost beingdetermined on the first-in, first-out basis.

j.                  Use ofestimates

                    Thepreparation of financial statements in conformity with generally acceptedaccounting principles requires management to make estimates and assumptionsthat affect the reported amounts of assets and liabilities and disclosure ofcontingent assets and liabilities at the date of the financial statements andthe reported amounts of revenues and expenses during the reporting period.  Actual amounts could differ from those estimates.

k.               Advertising costs

Advertising costs are charged to operations whenthe advertising first takes place. Included in selling, general and administrative expenses are advertisingcosts of $45,000, $43,000 and $44,000 for the years ended December 31, 2001,2000 and 1999.

l.                  Statement of cashflows

                    For purposes of theconsolidated statement of cash flows, the Company considers all highly liquiddebt instrumentspurchased with a maturity of three months or less to be cash equivalents.

                    Interestpaid during the years ended December 31, 2001, 2000 and 1999 was $91,154,$15,327 and $6,755, respectively.

m.            Statement ofcash flows  (cont’d)

                    In 2000, theCompany converted $350,000 of notes payable into 280,000 shares of its commonstock.

                    During2000, the Company entered into capital lease obligations approximating $470,000in connection with the acquisition of plant equipment.

n.              Concentrationof risk

                    TheCompany invests its excess cash in deposits and money market accounts withmajor financial institutions and in commercial paper of companies with strongcredit ratings.  Generally, theinvestments mature within ninety days, and therefore, are subject to littlerisk.  The Company has not experiencedlosses related to these investments.

                    Theconcentration of credit risk in the Company’s accounts receivable is mitigatedby the Company’s credit evaluation process, reasonably short collection termsand the geographical dispersion of revenue.

                    The Companyutilizes many relatively uncommon materials and compounds to manufacture itsproducts.  Therefore, any failure by itssuppliers to deliver materials of an adequate quality and quantity could havean adverse effect on the Company’s ability to meet the commitments of itscustomers.

o.              Net income(loss) per common share

                    Thebasic net income (loss) per share is computed using weighted average number ofcommon shares outstanding for the applicable period.  The diluted income (loss) per share is computed using theweighted average number of common shares plus common equivalent sharesoutstanding, except if the effect on the per share amounts, includingequivalents, would be anti- dilutive.

p.              Comprehensiveincome (loss)

                    Othercomprehensive income refers to revenues, expenses, gains and losses that undergenerally accepted accounting principles are included in comprehensive incomebut are excluded from net income as these amounts are recorded directly as anadjustment to stockholders’ equity.

 

 

 

F-8

----

 

 

q.              New accountingpronouncements

                    In July 2001, the FinancialAccounting Standards Board (FASB) issued SFAS No. 141, “Business Combinations”and SFAS No. 142, “Goodwill and Intangible Assets”.  SFAS No. 141 requires the use of the purchase method ofaccounting for business combinations and prohibits the use of the pooling ofinterests method.  SFAS No. 141 alsoexpands the definition of intangible assets acquired in a purchase businesscombination.  SFAS No. 142 eliminatesthe amortization of goodwill, requires annual impairment testing of goodwilland introduces the concept of indefinite life intangible assets.  It must be adopted on January 1, 2001.  The new rules also prohibit the amortizationof goodwill associated with business combinations that close after June 30,2001.

                    In October 2001, the FASBissued SFAS No. 144, “Accounting for the Impairment or Disclosure of Long-livedAssets”.  SFAS No. 144 addressessignificant issues relating to the implementation of SFAS No. 121, “Accountingfor the Impairment of Long-lived Assets and for Long-lived Assets to beDisposed Of”, develops a single accounting model, based on the frameworkestablished in SFAS No. 121 for long-lived assets to be disposed of by sale,whether previously held and used or newly acquired.

                    The Company is currentlyreviewing the provisions of these standards, which must be implemented no laterthan January 1, 2002.

 

 

F-9

----

 

 

**2.         Inventories:**

            Inventoriesare comprised of the following:
|                                                         |   | **December  31,** |      |
|--------------------------------------------------------------|--------|-------------------|-----------|
|                                                         |   | **2001**          |      | **2000** |   |
| Raw materials                                                |   | $                 | 455,491   |   | $ | 332,274 |   |
| Work in process, including manufactured parts and components |   | 1,767,016         |      | 1,302,243 |   |
| Finished goods                                               |   | 134,377           |      | 128,172 |   |
|                                                         |   | $                 | 2,356,884 |   | $ | 1,762,689 |   |

**3.         Property and Equipment:**

            Property and equipment arecomprised of the following:
|                                           |   | **December  31,** |      |
|------------------------------------------------|--------|-------------------|-----------|
|                                           |   | **2001**          |      | **2000** |   |
| Office and computer equipment                  |   | $                 | 655,248   |   | $ | 370,090 |   |
| Machinery and equipment                        |   | 6,803,855         |      | 5,737,928 |   |
| Leasehold improvements                         |   | 1,295,094         |      | 447,895 |   |
|                                           |   | 8,754,197         |      | 6,555,913 |   |
| Less accumulated depreciation and amortization |   | 5,499,498         |      | 5,149,518 |   |
|                                           |   | $                 | 3,254,699 |   | $ | 1,406,395 |   |

 

**4.         Line of Credit:**

            In 2001 the Company had available a$1,000,000 line of credit bearing interest at LIBOR plus 2%.

            Borrowingsunder the line of credit, in the amount of $750,000, are secured by accountsreceivable, inventory and all cash balances deposited with the lendinginstitution.

            InJanuary 2002 the Company repaid its obligation with its bank and entered into anew agreement with another bank.  Thisagreement provides for a $1,000,000 Line of Credit facility.  Borrowings will bear interest at the bank’sprime rate, maturing June 2002.

 

**5.         Accounts Payable and AccruedExpenses:**

            Accounts payable and accruedexpenses are comprised of the following:
|                                         |   | **December  31,** |    |
|----------------------------------------------|--------|-------------------|---------|
|                                         |   | **2001**          |    | **2000** |   |
| Trade accounts payable and accrued purchases |   | $                 | 528,729 |   | $ | 363,605 |   |
| Accrued vacation                             |   | 69,260            |    | 199,848 |   |
| Accrued payroll                              |   | 90,000            |    | 83,843 |   |
| Accrued bonuses                              |   | —            |    | 331,181 |   |
| Accrued expenses - other                     |   | 41,403            |    | 38,843 |   |
|                                         |   | $                 | 729,392 |   | $ | 1,017,320 |   |

 

 

 

F-10

----

 

**6.         Capital Leases:**

            Capital leases consist of thefollowing:
|                                                    |   | **December  31,** |    |
|---------------------------------------------------------|--------|-------------------|---------|
|                                                    |   | **2001**          |    | **2000** |   |
| Capital leases, payable in aggregate                    |   |              |    |   |   |
| monthly installments of $12,000, including  interest at |   |              |    |   |   |
| rates ranging from 11.0% to 11.6% expiring from         |   |              |    |   |   |
| June 2003 through October 2005, collateralized          |   |              |    |   |   |
| by equipment                                            |   | $                 | 374,191 |   | $ | 423,655 |   |
| Less current portion                                    |   | 87,021            |    | 97,596 |   |
|                                                    |   |              |    |   |   |
| Long-term debt, excluding current portion               |   | $                 | 287,170 |   | $ | 326,059 |   |

 

            Maturities of capitalleases are as follows:

 
| **Year  Ending**                    |   |   |    |    |
|-------------------------------------|--------|--------|---------|---------|
| **December  31,**                   |   |   |    |    |
| 2002                                |   |   | $       | 145,925 |   |
| 2003                                |   |   | 140,579 |    |
| 2004                                |   |   | 124,543 |    |
| 2005                                |   |   | 95,478  |    |
|                                |   |   |    |    |
| Total minimum payments              |   |   | 506,525 |    |
| Less amounts representing  interest |   |   | 132,334 |    |
|                                |   |   |    |    |
| Present value of minimum  payments  |   |   | $       | 374,191 |   |

 

            Capital lease obligations arecollateralized by property and equipment with cost and related accumulateddepreciation approximating $470,000 and $55,000 respectively at December 31,2001.

**7.         Income Taxes:**

            Areconciliation of the income tax (benefit) computed at the statutory Federalincome tax rate to the reported amount follows:

 
|                                               |   | **Year Ended December  31,** |    |
|----------------------------------------------------|--------|------------------------------|---------|
|                                               |   | **2001**                     |    | **2000** |   | **1999** |   |
| Federal statutory rate                             |   | 34                           | %       | 34 | % | 34 | % |
| Tax provision (benefit) at Federal statutory rates |   | $                            | 14,836  |   | $ | 239,550 |   | $ | (78,173 | )  |
| Alternative minimum tax                            |   | —                       |    | 16,000 |   | — |   |
| Loss in excess of available benefit                |   | —                       |    | — |   | 63,401 |   |
| Change in valuation allowance                      |   | (114,836                     | )       | (255,550 | ) | — |   |
| State taxes  <benefit>                       |   | 16,756                       |    | — |   | (251,710 | ) |
| Other, net                                         |   | —                       |    | — |   | 14,772 |   |
|                                               |   | $                            | (83,244 | ) | $ | — |   | $ | (251,710 | ) |

 

 

 

 

 

F-11

----

 

            At December 31, 2001,the Company has Federal net operating loss carryforwards for tax purposes ofapproximately $5,084,000.  The tax losscarryforwards expire at various dates through 2021.

            Internal Revenue Code Section 382places a limitation on the utilization of Federal net operating loss and othercredit carryforwards when an ownership change, as defined by the tax law, occurs.  Generally, this occurs when a greater than50 percentage point change in ownership occurs.  Accordingly, the actual utilization of the net operating loss andcarryfowards for tax purposes may be limited annually to a percentage(approximately 6%) of the fair market value of the Company at the time of anysuch ownership change.

            The State of New Jersey has enacteda program that allows new or expanding emerging technology and biotechnologybusinesses to sell their unused Net Operating Loss (NOL) carryover to anycorporate taxpayer in the state, for at least 75% of the value of the taxbenefits.  In November 1999, the Companysold $3,349,441 of their NOL for $251,710.

            The<provision> benefit for income taxes consists of the following:

 
| ** ** | ** ** | **Years  Ended********December 31,** | ** **     |
|------------|------------|--------------------------------------|----------------|
|       |       | **2001**                             |           | **2000** |   | **1999** |   |
| Current:   |       |                                 |           |   |   |   |   |
| State      |       | $                                    | <16,756> |   | $ | — |   | $ | — |   |
| Deferred:  |       |                                 |           |   |   |   |   |
| Federal    |       | 100,000                              |           | — |   | — |   |
| State      |       | —                               |           | — |   | 251,711 |   |
|       |       |                                 |           |   |   |   |   |
| Total      |       | $                                    | (83,244        | ) | $ | — |   | $ | 251,711 |   |

            Deferred tax assets comprise thefollowing:

 
|                      |   | **December  31,** |    |
|---------------------------|--------|-------------------|---------|
|                      |   | **2001**          |    | **2000** |   |
| Inventory reserves        |   | $                 | 48,000  |   | $ | 48,000 |   |
| Vacation liabilities      |   | 26,000            |    | 80,000 |   |
| Other                     |   | 41,000            |    | 62,000 |   |
| Depreciation              |   | 149,000           |    | 62,000 |   |
| Loss carryforwards        |   | 1,932,000         |    | 1,776,000 |   |
| Gross deferred tax assets |   | 2,196,000         |    | 2,101,000 |   |
| Valuation allowance       |   | (2,096,000        | )       | (2,101,000 | ) |
|                      |   |              |    |   |   |
|                      |   | $                 | 100,000 |   | $ | — |   |

**8.         Commitments:**

a.     Lease commitment

            The Company leases its office andmanufacturing facility under an operating lease which expires in 2006.  The lease provides for additional rentalpayments based upon a pro rata share of real estate taxes and certain otherexpenses.  Rental expense wasapproximately $212,000, $206,000 and $198,000 in 2001, 2000 and 1999,respectively, and real estate taxes were $39,000, $38,000 and $43,000 in 2001,2000 and 1999, respectively.

            Future minimum annualrentals are payable as follows:
| **Year  Ending**  |   |   |    |
|-------------------|--------|--------|---------|
| **December  31,** |   |   |    |
| 2002              |   | $      | 210,000 |   |
| 2003              |   | $      | 210,000 |   |
| 2004              |   | $      | 210,000 |   |
| 2005              |   | $      | 218,000 |   |
| 2006              |   | $      | 225,000 |   |

 

 

F-12

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b.              Retirementplans

        The Company maintains a401(k) savings plan for all eligible employees (as defined in the plan).  The 401(k) plan allows employees tocontribute from 1% to 15% of their compensation on a salary reduction, pre-taxbasis.  The 401(k) plan also providesthat the Company, at the discretion of the Board of Directors, may matchemployee contributions.  The Companycontributed $20,346 in the form of 14,032 shares of the Company’s common stockin 2001 and did not contribute any amounts to the 401(k) plan during 2000 or1999.  The shares were issued inFebruary 2002.

c.               Employmentagreements

        The Company is party to anemployment agreement with an officer that provides for minimum annual salaries.

        The aggregate minimumcommitment under these agreements are as follows:

 
| **Year  Ending**  |   |   |    |
|-------------------|--------|--------|---------|
| **December  31,** |   |   |    |
| 2002              |   | $      | 149,000 | ** ** |
| 2003              |   | $      | 175,000 | ** ** |
| 2004              |   | $      | 175,000 | ** ** |
| 2005              |   | $      | 175,000 | ** ** |
| 2006              |   | $      | 175,000 | ** ** |
| Thereafter        |   | $      | 350,000 | ** ** |

 

**9.         Product Sales, Foreign Sales andSales to Major Customers:**

**           **The Company’s sales for eachmajor category of its product line are as follows:

 
|                     |   | **Years Ended**   |   |
|--------------------------|--------|-------------------|--------|
|                     |   | **December  31,** |   |
|                     |   | **2001**          |   | **2000** |   | **1999** |   |
| Crystals and  components |   | $2,823,256        |   | $2,953,000 |   | $1,852,719 |   |
| Custom optics            |   | 3,211,793         |   | 3,145,956 |   | 2,398,681 |   |
| Systems and  instruments |   | 1,850,988         |   | 766,000 |   | 926,500 |   |
|                     |   |              |   |   |   |   |   |
| Total                    |   | $7,886,037        |   | $6,864,956 |   | $5,177,900 |   |

            Exportsales, primarily to customers in Europe, Asia and Canada, amounted to 32%, 38%and 41% of net product sales in 2001, 2000 and 1999, respectively.

            One foreign customer accounted for11%, 13% and 12% of net product sales in 2001, 2000 and 1999,respectively.  One U.S. customeraccounted for 18% of sales in 2001.  TwoU.S. customers accounted for 13% and 12%, respectively, of product sales in2000.  No U.S. customers accounted formore than 10% of net product sales in 1999. During the year ended December 31, 1999, approximately 6% of theCompany’s net product sales were through a foreign agent, in which a principalshareowner has an investment.

 

**10.      Shareowners’ Equity:**

            a.     Common shares reserved
| Common shares reserved at December 31,  2001, are as follows: |   |      |   |
|---------------------------------------------------------------|--------|-----------|--------|
| 1991 Stock option plan                                        |   | 334,000   |   |
| 2000 Stock option plan                                        |   | 1,500,000 |   |
| Convertible preferred stock                                   |   | 1,340,000 |   |

            b.     Preferred stock

                    TheCompany has authorized 1,000,000 shares of preferred stock, no par value, whichthe Board of Directors has the authority to issue from time to time in aseries.  The Board of Directors also hasthe authority to fix, before the issuance of each series, the number of sharesin each series and the designation, preferences, rights and limitations of eachseries.

 

 

F-13

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                    In 2000 and1999, the Company sold 2,100 and 500 shares of Series B and Series A (the“Preferred Stock”), 10% convertible preferred stock at a price of $1,000 pershare for proceeds of $2,100,000 and $500,000, respectively.  Each share of Preferred Stock is convertible,at the option of the holder at any time, into common stock at the rate of $2.50and $1.00 per share, respectively. Dividends on outstanding preferred stock are payable in common stock atthe rate of $2.50 and $1.00 per share, respectively.

                    The Preferred Stock hassenior preference and priority as to the dividend as well as distributions andpayments upon the liquidation, dissolution, or winding up of affairs before anypayment to other shareowners of the Company.

                    For the yearsended December 31, 2001 and 2000, the Company paid a common stock dividendequal to  $105,000 and $50,000,respectively.

            c.     Stock options

                    (i)      The Company has adopted two stock option plans which providefor the granting of options to employees, officers, directors, and others whorender services to the Company.  Underthese plans in the aggregate, options to purchase no more than 2,000,000 sharesof common stock may be granted, at a price which may not be less than the fairmarket value per share.

                              Underthe 1991 Stock Option Plan the Company may grant options to purchase up to500,000 shares of Common Stock to its officers, key employees and other whorender services to the Company.  The1991 Stock Option Plan expired in December 2001.

                              Atthe annual meeting of shareowners held on August 14, 2000, shareowners approvedthe adoption of the 2000 Equity Compensation Program, which provides for theissuance of options to purchase up to 1,500,000 shares of Common Stock.  The Equity Compensation Program authorizesthe issuance of incentive stock options. The 2000 equity compensation plan expires in August 2010.

            A summary of the status of theCompany’s program as of December 31, 2001, 2000 and 1999, and changes duringthe years then ended is presented below:
|                                                         |   | **Years  Ended**  |       |
|--------------------------------------------------------------|--------|-------------------|------------|
|                                                         |   | **December  31,** |       |
|                                                         |   | **2001**          |       | **2000** |   | **1999** |   |
|                                                         |   |              |       | **Weighted** |   |   |   | **Weighted** |   |   |   | **Weighted** |   |
|                                                         |   |              |       | **Average** |   |   |   | **Average** |   |   |   | **Average** |   |
|                                                         |   |              |       | **Exercise** |   |   |   | **Exercise** |   |   |   | **Exercise** |   |
| **Fixed Stock Options**                                      |   | **Shares**        | ** ** | **Price** | ** ** | **Shares** | ** ** | **Price** | ** ** | **Shares** | ** ** | **Price** | ** ** |
| Outstanding, beginning of year                               |   | 729,500           |       | $1.96 |   | 358,500 |   | $1.02 |   | 189,000 |   | $1.05 |   |
| Granted                                                      |   | 289,700           |       | 4.97 |   | 514,000 |   | 2.40 |   | 207,500 |   | 1.00 |   |
| Exercised                                                    |   | (29,250           | )          | 1.05 |   | (107,000 | ) | 1.00 |   | — |   | — |   |
| Expired                                                      |   | (15,500           | )          | 1.25 |   | — |   | — |   | — |   | — |   |
| Forfeited                                                    |   | (276,350          | )          | 1.90 |   | (36,000 | ) | 1.13 |   | (38,000 | ) | 1.00 |   |
| Outstanding, end of year                                     |   | 698,600           |       | 2.20 |   | 729,500 |   | 1.96 |   | 358,500 |   | 1.02 |   |
| Options  exercisable, end of year                            |   | 238,160           |       | 1.70 |   | 175,625 |   | 1.32 |   | 102,875 |   | 1.08 |   |
|                                                         |   |              |       |   |   |   |   |   |   |   |   |   |   |
| Weighted-average  fair values of options granted during year |   |              |       | 4.97 |   |   |   | 2.40 |   |   |   | .28 |   |

            Thefollowing table summarizes information about stock options outstanding atDecember 31, 2001:
|   |                        |       | **Options  Outstanding** |       | **Options  Exercisable**                         |       |
|--------|-----------------------------|------------|--------------------------|------------|--------------------------------------------------|------------|
|   | **Range of Exercise Price** | ** ** | **Number  Outstanding**  | ** ** | **Weighted  Average Remaining Contractual Life** | ** ** | **Weighted  Average Exercise Price** | ** ** | **Number  Outstanding** | ** ** | **Weighted  Average Exercise Price** | ** ** |
|   | $1.00 - $2.00               |       | 528,450                  |       | 7.81 yrs.                                        |       | $1.68 |   | 206,575 |   | $1.44 |   |
|   | $3.00 - $5.00               |       | 169,600                  |       | 8.61 yrs.                                        |       | $3.81 |   | 31,585 |   | $3.39 |   |

 

 

F-14

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            (ii)   The Company has elected the disclosure-onlyprovisions of Statement of Financial Accounting Standard No. 123, “Accountingfor Stock-Based Compensation” (“FASB 123”) in accounting for its employee stockoptions.  Accordingly, no compensationexpense has been recognized.  Had theCompany recorded compensation expense for the stock options based on the fairvalue at the grant date for awards, consistent with the provisions of FASB 123,the Company’s net income (loss) and net income (loss) per share applicable tocommon shareowners would have changed to the following pro forma amounts:

 
| ** **               | ** ** | **Years  Ended December 31,** | ** ** |
|--------------------------|------------|-------------------------------|------------|
|                     |       | **2001**                      |       | **2000** |   | **1999** |   |
| Net (loss) income:       |       |                          |       |   |   |   |   |
| As reported              |       | $                             | (111,366   | ) | $ | 657,870 |   | $ | 21,789 |   |
| Pro forma                |       | (320,423                      | )          | 209,056 |   | 18,842 |   |
|                     |       |                          |       |   |   |   |   |
| Income (loss) per share: |       |                          |       |   |   |   |   |
| Basic:                   |       |                          |       |   |   |   |   |
| As reported              |       | $                             | (.02       | ) | $ | .14 |   | $ | .01 |   |
| Pro forma                |       | (.06                          | )          | .11 |   | .01 |   |
|                     |       |                          |       |   |   |   |   |
| Diluted:                 |       |                          |       |   |   |   |   |
| As reported              |       | $                             | (.02       | ) | $ | .12 |   | $ | .01 |   |
| Pro forma                |       | (.06                          | )          | .09 |   | .01 |   |

                              The fair value ofeach option grant is estimated on the date of grant using the Black-Scholesoption-pricing model.  The followingrange of weighted-average assumptions were used for grants during the yearsended December 31, 2001, 2000 and 1999:
| ** **               | ** ** | **Years  Ended December 31,** | ** ** |
|--------------------------|------------|-------------------------------|------------|
|                     |       | **2001**                      |       | **2000** |   | **1999** |   |
| Dividend yield           |       | 0.00                          | %          | 0.00 | % | 0.00 | % |
| Volatility               |       | 168.67                        | %          | 237.00 | % | 154.00 | % |
| Risk-free  interest rate |       | 6.0                           | %          | 6.0 | % | 5.50 | % |
| Expected  life           |       | 10 years                      |       | 10 years |   | 10 years |   |

d.              Warrants

                    At December 31, 2000, theCompany had outstanding 26,675 common stock warrants exercisable at $1.50, and25,000 exercisable at $.69.  In 2001,the warrants were exercised resulting in net proceeds to the Company of$57,000.

 

 

 

 

F-15

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            e.     Income per common share

                    A reconciliation of incomefrom continuing operations and basic to diluted share amounts is presentedbelow.

 
| ** **          | ** ** | **Years  Ended December 31,** | ** ** |
|---------------------|------------|-------------------------------|------------|
|                |       | **2001**                      |       | **2000** |   | **1999** |   |
| ** **          | ** ** | **Income**                    | ** ** | **Average  Shares** | ** ** | **Income** | ** ** | **Average  Shares** | ** ** | **Loss** | ** ** | **Average  Shares** | ** ** |
| Income (loss)       |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| before preferred    |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| dividends           |       | $                             | 43,634     |   |   |   | $ | 707,869 |   |   |   | $21,789 |   |   |   |
| Less: preferred     |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| stock dividends     |       | (155,000                      | )          |   |   | (50,000 | )  |   |   | — |   |   |   |
| Basic:              |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| Available to common |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| shareholders        |       | (111,366                      | )          | 5,046,666 |   | 657,869 |   | 4,563,350 |   | 21,789 |   | 4,096,078 |   |
| Dilutive effect of  |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| convertible         |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| preferred stock     |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| and stock options   |       | —                        |       | — |   | 50,000 |   | 1,045,163 |   | — |   | — |   |
| Diluted:            |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| Available to common |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| shareowners and     |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| assumed             |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| conversions         |       | $                             | (111,366   | ) | $ | 5,046,666 |   | $ | 707,869 |   | 5,608,513 |   | $ | 21,789 |   | $ | 4,096,078 |   |
|                     |            |                               |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

**11.      Fair Value of Financial Instruments:**

            The methods and assumptions used toestimate the fair value of the following classes of financial instruments were:

                                    *Current Assets and CurrentLiabilities:*  Thecarrying amount of cash, current receivables and payables and certain othershort-term financial instruments approximate their fair value.

                                    *Long-Term Debt:*  The fair value of the Company’s long-termdebt, including the current portion, was estimated using a discounted cash flowanalysis, based on the Company’s assumed incremental borrowing rates forsimilar types of borrowing arrangements. The carrying amount of variable and fixed rate debt at December 31, 2001approximates fair value.

**12.      Quarterly Data:  (Unaudited)**

            Summary quarterly resultswere as follows:

 
| **Year 2001**                      |   | **First** |      | **Second** |      | **Third** |      | **Fourth** |       |
|------------------------------------|--------|-----------|-----------|------------|-----------|-----------|-----------|------------|------------|
| Net product sales                  |   | $         | 2,351,720 |       | 2,323,713 |      | 1,583,298 |       | 1,627,756  |   |
| Contract R & D sales           |   | 37,378    |      | 10,000     |      | 94,587    |      | 47,203     |       |
| Gross profit - product sales       |   | 842,758   |      | 795,418    |      | 659,316   |      | 573,990    |       |
| Gross profit - contract R & D  |   | (19,425   | )         | 6,391      |      | 80,477    |      | 58,225     |       |
| Net income                         |   | 251,278   |      | 20,834     |      | 25,156    |      | (408,634   |       |
| Net income per share - Basic (a)   |   | 0.05      |      | 0.01       |      | 0.01      |      | (0.09      |       |
| Net income per share - Diluted (a) |   | 0.04      |      | 0.01       |      | 0.01      |      | (0.09      |       |
|                               |   |      |      |       |      |      |      |       |       |
| **Year 2000**                      |   | **First** |      | **Second** |      | **Third** |      | **Fourth** | ** ** |
| Net product sales                  |   | $         | 1,099,200 |       | $         | 1,481,960 |      | $          | 1,736,144  |   | $ | 2,547,652 |   |
| Contract R & D sales           |   | 359,497   |      | 255,458    |      | 226,137   |      | 203,919    |       |
| Gross profit - product sales       |   | 518,934   |      | 610,239    |      | 1,006,077 |      | 976,733    |       |
| Gross profit - contract R & D  |   | 117,232   |      | (41,197    | )         | (90,144   | )         | (129,527   |       |
| Net income                         |   | 11,555    |      | 2,819      |      | 533,059   |      | 110,436    |       |
| Net income per share - Basic (a)   |   | 0.01      |      | 0.01       |      | 0.12      |      | 0.02       |       |
| Net income per share - Diluted (a) |   | 0.01      |      | 0.01       |      | 0.10      |      | 0.02       |       |
|                                    |        |           |           |            |           |           |           |            |            |  |  |  |  |

 

----

(a)              Quarterly income per share amounts may not total tothe annual amounts due to changes in weighted-average shares outstanding duringthe year.

 

 

F-16

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**13.      Special Charges**

At the end of 2000, the Company announced aprocess engineering redesign program to formalize production operations, andimprove profitability through margin improvement.  The special charges associated with this program were $299,763($.06 per share on a basic and diluted basis) for the year ended December 31,2001.

 

 

 

F-17

----