UNITED
STATES SECURITIES AND EXCHANGE COMMISSION


Washington,
D.C. 20549








Form
10-Q








(Mark
      One)R
            QUARTERLY
      REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
      1934For
      the quarterly period ended March 31, 2008or£
            TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934For
      the transition period
      from           to





Commission
file number 001-15751





eMAGIN
CORPORATION


(Exact
name of registrant as specified in its charter)





Delaware
            56-1764501(State
      or other jurisdiction of
            (I.R.S.
      Employerincorporation
      or organization)
            Identification
      No.)





10500
NE 8th Street,
Suite 1400, Bellevue, Washington 98004


(Address
of principal executive offices)





(425)
749-3600


(Registrant’s
telephone number, including area code)





Securities
registered pursuant to Section 12(b) of the Act:  None





Securities
registered pursuant to Section 12(g) of the Act: Common Stock, $.001 Par Value
Per Share








Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days.  Yes R     No
£





Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer.  See definition of
“accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange
Act.   (Check one):





Large
accelerated filer £               Accelerated
filer £             Non-accelerated
filer £         Smaller
reporting company R





Indicate
by check mark whether the registrant is a shell company (as defined by Rule
12b-2 of the Exchange Act) Yes £    No
R


The
number of shares of common stock outstanding as of April 30, 2008 was
14,389,439.
  1


eMagin
Corporation


Form
10-Q


For
the Quarter ended March 31, 2008





Table
of Contents


PagePART
      I   FINANCIAL INFORMATIONItem
      1
            Condensed
      Consolidated Financial StatementsCondensed
      Consolidated Balance Sheets as of March 31, 2008 (unaudited) and December
      31, 2007
            3Condensed
      Consolidated Statements of Operations for the Three months ended March 31,
      2008 and 2007 (unaudited)
            4Condensed
      Consolidated Statements of Changes in Capital Deficit for the Three months
      ended March 31, 2008 (unaudited)
            5Condensed
      Consolidated Statements of Cash Flows for the Three months ended March 31,
      2008 and 2007 (unaudited)
            6Notes
      to Condensed Consolidated Financial Statements (unaudited)
            7Item
      2
            Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
            15Item
      3
            Quantitative
      and Qualitative Disclosures About Market
      Risk
            19Item
      4T
            Controls
      and
      Procedures
            19PART
      II OTHER INFORMATIONItem
      1
            Legal
      Proceedings
            20Item
      1A
            Risk
      Factors
            20Item
      2
            Unregistered
      Sales of Equity Securities and Use of
      Proceeds
            20Item
      3
            Defaults
      Upon Senior
      Securities
            21Item
      4
            Submission
      of Matters to a Vote of Security
      Holders
            21Item
      5
            Other
      Information
            21Item
      6
            Exhibits
            22SIGNATURESCERTIFICATIONS





2


ITEM
1.  Condensed Consolidated Financial Statements





eMAGIN
CORPORATION


CONDENSED
CONSOLIDATED BALANCE SHEETS


(In
thousands, except share data)


March
      31,2008
              (unaudited)
            
            
            December
      31, 2007ASSETSCurrent
      assets:Cash
      and cash equivalents
            
            $
            344
            
            
            $
            713Investments
      – held to maturity
            
            
            94
            
            
            
            94Accounts
      receivable, net
            
            
            2,101
            
            
            
            2,383Inventory
            
            
            1,826
            
            
            
            1,815Prepaid
      expenses and other current assets
            
            
            424
            
            
            
            850Total
      current assets
            
            
            4,789
            
            
            
            5,855Equipment,
      furniture and leasehold improvements, net
            
            
            456
            
            
            
            292Intangible
      assets, net
            
            
            50
            
            
            
            51Other
      assets
            
            
            232
            
            
            
            232Deferred
      financing costs, net
            
            
            508
            
            
            
            218Total
      assets
            
            $
            6,035
            
            
            $
            6,648LIABILITIES
      AND CAPITAL DEFICITCurrent
      liabilities:Accounts
      payable
            
            $
            1,472
            
            
            $
            620Accrued
      compensation
            
            
            882
            
            
            
            891Other
      accrued expenses
            
            
            746
            
            
            
            729Advance
      payments
            
            
            5
            
            
            
            35Deferred
      revenue
            
            
            100
            
            
            
            179Current
      portion of  debt
            
            
            7,568
            
            
            
            7,089Other
      current liabilities
            
            
            776
            
            
            
            1,020Total
      current liabilities
            
            
            11,549
            
            
            
            10,563Long-term
      debt
            
            
            50
            
            
            
            60Total
      liabilities
            
            
            11,599
            
            
            
            10,623Commitments
      and contingenciesCapital
      deficit:Preferred
      stock, $.001 par value: authorized 10,000,000 shares; no shares issued and
      outstanding
            
            
            —
            
            
            
            —Series
      A Senior Secured Convertible Preferred stock, stated value $1,000 per
      share, $.001 par value:  3,198 shares designated and none
      issued
            
            
            —
            
            
            
            —Common
      stock, $.001 par value: authorized 200,000,000 shares, issued and
      outstanding, 12,620,900 shares as of March 31, 2008 and December 31,
      2007
            
            
            12
            
            
            
            12Additional
      paid-in capital
            
            
            196,411
            
            
            
            195,326Accumulated
      deficit
            
            
            (201,987
            )
            
            
            (199,313
            )Total
      capital deficit
            
            
            ( 5,564
            )
            
            
            ( 3,975
            )Total
      liabilities and capital deficit
            
            $
            6,035
            
            
            $
            6,648




See notes
to Condensed Consolidated Financial Statements.


3


eMAGIN
CORPORATION


CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS


(In
thousands, except share and per share data)


(unaudited)





Three
      Months Ended
              March
      31,2008
            
            
            2007Revenue:Product
      revenue
            
            $
            2,462
            
            
            $
            3,523Contract
      revenue
            
            
            203
            
            
            
            86Total
      revenue, net
            
            
            2,665
            
            
            
            3,609Cost
      of goods sold
            
            
            2,313
            
            
            
            3,115Gross
      profit
            
            
            352
            
            
            
            494Operating
      expenses:Research
      and development
            
            
            674
            
            
            
            853Selling,
      general and administrative
            
            
            1,807
            
            
            
            2,221Total
      operating expenses
            
            
            2,481
            
            
            
            3,074Loss
      from operations
            
            
            (2,129
            )
            
            
            (2,580
            )Other
      income (expense):Interest
      expense
            
            
            (631
            )
            
            
            (840
            )Gain
      on warrant derivative liability
            
            
            —
            
            
            
            460Other
      income, net
            
            
            86
            
            
            
            23Total
      other expense
            
            
            (545
            )
            
            
            (357
            )Net
      loss
            
            $
            (2,674
            )
            
            $
            (2,937
            )Loss
      per share, basic and diluted
            
            $
            (0.21
            )
            
            $
            (0.27
            )Weighted
      average number of shares outstanding:Basic
      and diluted
            
            
            12,620,900
            
            
            
            10,792,074







See notes
to Condensed Consolidated Financial Statements.


4


eMAGIN
CORPORATION


CONDENSED
CONSOLIDATED STATEMENT OF CHANGES IN CAPITAL DEFICIT


(In
thousands)








Additional
            
            
            
            
            
            TotalCommon
      Stock
            
            
            Paid-In
            
            
            Accumulated
            
            
            Shareholders’Shares
            
            
            Amount
            
            
            Capital
            
            
            Deficit
            
            
            DeficitBalance,
      December 31, 2007
            
            
            12,621
            
            
            $
            12
            
            
            $
            195,326
            
            
            $
            (199,313
            )
            
            $
            (
      3,975
            )Stock-based
      compensation
            
            
            —
            
            
            
            —
            
            
            
            356
            
            
            
            —
            
            
            
            356Fair
      value of warrants issued
            
            
            —
            
            
            
            —
            
            
            
            729
            
            
            
            —
            
            
            
            729Net
      loss
            
            
            —
            
            
            
            —
            
            
            
            —
            
            
            
            (2,674
            )
            
            
            (2,674
            )Balance,
      March 31, 2008 (unaudited)
            
            
            12,621
            
            
            $
            12
            
            
            $
            196,411
            
            
            $
            (201,987
            )
            
            $
            (5,564
            )
















See notes
to Condensed Consolidated Financial Statements.





5


eMAGIN
CORPORATION


CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS


(In
thousands)





Three
      months EndedMarch
      31,2008
            
            
            2007(unaudited)Cash
      flows from operating activities:Net
      loss
            
            $
            (2,674
            )
            
            $
            (2,937
            )Adjustments
      to reconcile net loss to net cash used in    operating
      activities:Depreciation
      and amortization
            
            
            68
            
            
            
            117Amortization
      of deferred financing and waiver fees
            
            
            448
            
            
            
            133Reduction
      of provision for sales returns and doubtful accounts
            
            
            (47
            )
            
            
            (8
            )Stock-based
      compensation
            
            
            356
            
            
            
            514Issuance
      of common stock for services
            
            
            —
            
            
            
            620Amortization
      of discount on notes payable
            
            
            25
            
            
            
            574Gain
      on warrant derivative liability
            
            
            —
            
            
            
            (460
            )Changes
      in operating assets and liabilities:Accounts
      receivable
            
            
            329
            
            
            
            (558
            )Inventory
            
            
            (11
            )
            
            
            510Prepaid
      expenses and other current assets
            
            
            426
            
            
            
            (108
            )Deferred
      revenue
            
            
            (79
            )
            
            
            (62
            )Accounts
      payable, accrued compensation, other accrued expenses, and advance
      payments
            
            
            830
            
            
            
            461Other
      current liabilities
            
            
            (244
            )
            
            
            —Net
      cash used in operating activities
            
            
            (573
            )
            
            
            (1,204
            )Cash
      flows from investing activities:Purchase
      of equipment
            
            
            (231
            )
            
            
            —Purchase
      of investments – held to maturity
            
            
            —
            
            
            
            (4
            )Net
      cash used in investing activities
            
            
            (231
            )
            
            
            (4
            )Cash
      flows from financing activities:Proceeds
      from line of credit
            
            
            700
            
            
            
            —Payments
      related to deferred financing costs
            
            
            (9
            )
            
            
            —Payments
      of debt and capital leases
            
            
            (256
            )
            
            
            (15
            )Net
      cash provided by (used in) financing activities
            
            
            435
            
            
            
            (15
            )Net
      decrease in cash and cash equivalents
            
            
            (369
            )
            
            
            (1,223
            )Cash
      and cash equivalents beginning of period
            
            
            713
            
            
            
            1,415Cash
      and cash equivalents end of period
            
            $
            344
            
            
            $
            192Cash
      paid for interest
            
            $
            158
            
            
            $
            87Cash
      paid for taxes
            
            $
            10
            
            
            $
            31During
      the three months ended March 31, 2008, the Company:·Entered
      into amended Loan and Security Agreement on January 30, 2008 and
      issued warrants that are exercisable at $1.50 per share into 750,000
      shares of common stock valued at approximately $0.6
    million.





See notes
to Condensed Consolidated Financial Statements.


6




eMAGIN
CORPORATION


NOTES TO CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS


(Unaudited)





Note
1:  Description of the Business and Summary of Significant Accounting
Policies





The
Business





eMagin
Corporation (the “Company”) designs, develops, manufactures, and markets virtual
imaging products for consumer, commercial, industrial and military
applications.  The Company’s products are sold mainly in North
America, Asia, and Europe.





Basis
of Presentation





In the
opinion of management, the accompanying unaudited condensed consolidated
financial statements of eMagin Corporation and its subsidiary reflect all
adjustments, including normal recurring accruals, necessary for a fair
presentation.  Certain information and footnote disclosure normally
included in annual financial statements prepared in accordance with accounting
principles generally accepted in the United States have been condensed or
omitted pursuant to instructions, rules and regulations prescribed by the
Securities and Exchange Commission.  The Company believes that the
disclosures provided herein are adequate to make the information presented not
misleading when these unaudited condensed consolidated financial statements are
read in conjunction with the audited consolidated financial statements contained
in the Company’s Annual Report on Form 10-K for the year ended December 31,
2007.  The results of operations for the period ended March 31, 2008
are not necessarily indicative of the results to be expected for the full
year.





The
unaudited condensed consolidated financial statements have been prepared
assuming that the Company will continue as a going concern.  The Company
has had recurring losses from operations which it believes will continue through
the foreseeable future.  The Company’s cash requirements over the next
twelve months are greater than the Company’s current cash, cash equivalents, and
investments at March 31, 2008.  The Company has working capital and
capital deficits as of March 31, 2008. These factors raise substantial doubt
regarding the Company’s ability to continue as a going concern without
continuing to obtain additional funding.  The Company does not have
commitments for such financing and no assurance can be given that additional
financing will be available, or if available, will be on acceptable terms.If the Company is unable
to obtain sufficient funds during the next twelve months, the Company will
further reduce the size of its organization and/or curtail operations which will
have a material adverse impact on the Company’s business prospects. The
unaudited condensed consolidated financial statements do not include any
adjustments that might result from the outcome of this uncertainty. To partially
address the liquidity issue, the Company completed a private placement of its
common stock for gross proceeds of $1.65 million on April 2,
2008.  Please see Note 15 – Subsequent Events for additional
information.




Use
of Estimates





In
accordance with accounting principles generally accepted in the United States of
America, management utilizes certain estimates and assumptions that affect the
reported amounts of assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. On an on-going basis, management evaluates its estimates and
judgments. Management bases its estimates and judgments on historical experience
and on various other assumptions that are believed to be reasonable under the
circumstances, the results of which form the basis for making judgments about
the carrying values of assets and liabilities that are not readily apparent from
other sources. Actual results could differ from those estimates.





Revenue
Recognition





Revenue
is recognized when products are shipped to customers, net of allowances for
anticipated returns.  The Company’s revenue-earning
activities generally involve delivering products and revenues
are considered to be earned when the Company has completed the process
by which it is entitled to such revenues.
Revenue is recognized when persuasive evidence of
an arrangement exists, delivery has occurred, selling price is
fixed or determinable and collection is reasonably assured.  The
Company defers revenue recognition on products sold directly to the consumer
with a fifteen day right of return.  Revenue is recognized upon the
expiration of the right of return.




7





The
Company also earns revenues from certain R&D activities under
both firm fixed-price contracts and cost-type
contracts, including some cost-plus-fee contracts.  Revenues on
cost-plus-fee contracts include costs incurred plus a portion of
estimated fees or profits based on the relationship of costs incurred to total
estimated costs. Contract costs include all direct material and labor costs
and an allocation of allowable indirect costs as defined by each
contract, as periodically adjusted to reflect revised agreed upon
rates. These rates are subject to audit by the other party.





Note
2:  Recently Issued Accounting Pronouncements





In
September 2006, the FASB issued Statement of Financial Accounting Standards
No. 157, “Fair Value Measurements,” (“SFAS No. 157”), which defines
fair value, establishes a framework for measuring fair value under generally
accepted accounting principles and expands disclosures about fair value
measurements. SFAS No. 157 does not require any new fair value
measurements, but provides guidance on how to measure fair value by providing a
fair value hierarchy used to classify the source of the information. In
February 2008, the FASB issued FASB Staff Position No. FSP 157-2,
“Effective Date of FASB Statement No. 157”, which provides a one year
deferral of the effective date of SFAS 157 for non-financial assets and
non-financial liabilities, except those that are recognized or disclosed in the
financial statements at fair value on a recurring basis. The Company adopted
SFAS 157 as of January 1, 2008, with the exception of the application of
the statement to non-recurring non-financial assets and non-financial
liabilities which it will defer the adoption until January 1, 2009. The adoption
of SFAS 157 did not have a material impact on the Company’s consolidated results
of operations, financial condition or cash flows.





In
February 2007, the FASB issued SFAS No. 159, “The Fair Value Option
for Financial Assets and Financial Liabilities — including an amendment of FASB
Statement No. 115,” (SFAS 159) which is effective for fiscal years
beginning after November 15, 2007. This statement permits entities to
choose to measure many financial instruments and certain other items at fair
value. This statement also establishes presentation and disclosure requirements
designed to facilitate comparisons between entities that choose different
measurement attributes for similar types of assets and liabilities. Unrealized
gains and losses on items for which the fair value option is elected would be
reported in earnings. The Company has adopted SFAS 159 and has elected not to
measure any additional financial instruments and other items at fair value and
therefore the adoption of SFAS 159 did not have an impact on the Company’s
condensed consolidated results of operations, financial condition or cash
flows.





In March 2008, the
Financial Accounting Standards Board (FASB) issued Statement of Financial
Accounting Standards No. 161, Disclosures about Derivative Instruments and
Hedging Activities, an amendment of FASB Statement No. 133 (SFAS 161). SFAS
161 requires entities to provide greater transparency about (a) how and why
an entity uses derivative instruments, (b) how derivative instruments and
related hedged items are accounted for under Statement 133 and its related
interpretations and (c) how derivative instruments and related hedged items
affect an entity’s financial position, results of operations, and cash flows.
SFAS 161 is effective prospectively for financial statements issued for fiscal
years and interim periods beginning after November 15, 2008, with early
application permitted. The Company is currently evaluating the disclosure
implications of this statement.




Note
3:  Receivables




The
majority of the Company’s commercial accounts receivable are due from Original
Equipment Manufacturers ("OEM’s”). Credit is extended based on evaluation of a
customer’s financial condition and, generally, collateral is not required.
Accounts receivable are payable in U.S. dollars, are due within 30-90 days and
are stated at amounts due from customers, net of an allowance for doubtful
accounts. Any account outstanding longer than the contractual payment terms is
considered past due.





The
Company determines the allowance for doubtful accounts
by considering a number of factors, including the length of time the
trade accounts receivable are past due, eMagin's previous loss history, the
customer's current ability to pay its obligation, and the condition of
the general economy and the industry as a whole.   The Company will
record a specific reserve for individual accounts when the Company becomes aware
of a customer's inability to meet its financial obligations, such as in the case
of bankruptcy filings or deterioration in the customer's operating results or
financial position.  If circumstances related to customers change, the
Company would further adjust estimates of the recoverability of
receivables.





8


Receivables
consisted of the following (in thousands):





March
      31,
              2008
              (unaudited)
            
            
            December
      31, 2007Accounts
      receivable
            
            $
            2,505
            
            
            $
            2,741Less
      allowance for doubtful accounts
            
            
            (404
            )
            
            
            (358
            )Net
      receivables
            
            $
            2,101
            
            
            $
            2,383





Note
4:  Research and Development Costs





Research
and development costs are expensed as incurred.





Note
5:  Net Loss per Common Share





In
accordance with SFAS No. 128, net loss per common share amounts ("basic EPS")
was computed by dividing net loss by the weighted average number
of common shares outstanding and excluding any
potential dilution.  Net loss per common share assuming dilution
("diluted EPS") was computed by reflecting potential dilution from the
exercise of stock options and warrants.  Common stock equivalent
shares are excluded from the computation if their effect is
antidilutive.  As of March 31, 2008 and 2007, there were stock
options, warrants and convertible notes outstanding to acquire 10,359,106 and
4,363,909 shares of our common stock, respectively.  These shares were
excluded from the computation of diluted loss per share because their
effect would be antidilutive.





Note
6:  Inventory





Inventory
is stated at the lower of cost or market. Cost is determined using the first-in
first-out method.  The Company reviews the value of its inventory and
reduces the inventory value to its net realizable value based upon current
market prices and contracts for future sales. The components of inventories are
as follows (in thousands):





March
      31,
              2008
              (unaudited)
            
            
            December
      31, 2007Raw
      materials
            
            $
            898
            
            
            $
            1,069Work
      in process
            
            
            459
            
            
            
            370Finished
      goods
            
            
            469
            
            
            
            376Total
      inventory
            
            $
            1,826
            
            
            $
            1,815





Note
7:  Prepaid Expenses and Other Current Assets:





Prepaid
expenses and other current assets consist of the following (in
thousands):




March
      31,
              2008
              (unaudited)
            
            
            December
      31, 2007Vendor
      prepayments
            
            $
            249
            
            
            $
            537Other
      prepaid expenses *
            
            
            172
            
            
            
            310Other
      assets
            
            
            3
            
            
            
            3Total
      prepaid expenses and other current assets
            
            $
            424
            
            
            $
            850


*No individual amounts greater
than 5% of current assets.





9


Note
8:  Debt





Debt is
as follows (in thousands):




March
      31,2008
              (unaudited)
            
            
            December
      31,
              2007Current
      portion of long-term debt:Other
      debt
            
            $
            39
            
            
            $
            44Line
      of credit
            
            
            1,567
            
            
            
            1,1088%
      Senior Secured Convertible Notes
            
            
            5,962
            
            
            
            5,962Less:  Unamortized
      discount on notes payable
            
            
            —
            
            
            
            (25
            )Current
      portion of long-term debt, net
            
            
            7,568
            
            
            
            7,089Long-term
      debt:Other
      debt
            
            
            50
            
            
            
            60Long-term
      debt, net
            
            
            50
            
            
            
            60Total
      debt, net
            
            $
            7,618
            
            
            $
            7,149





On August
7, 2007, the Company enteredinto a loan agreement
with Moriah Capital, L.P. (“Moriah)and established a
revolving line of credit (the “Loan”) of $2.5 million.  The Company is
permitted to borrow an amount not to exceed 90% of its domestic eligible
accounts receivable and 50% of its eligible inventory capped at $600
thousand.  As part of the transaction, the Company issued 162,500
shares of unregistered common stock valued at $195 thousand and paid a servicing
fee of $82,500 to Moriah which are amortized to interest expense over the life
of the agreement. In conjunction with entering into this loan and issuing
unregistered common stock, the Company granted Moriah registration
rights.  The Loan can be converted into shares of the Company’s common
stock pursuant to the terms of the Loan Conversion agreement.  The
Loan matures on August 8, 2008 however the Company has the option of extending
it an additional year if it meets certain requirements.





On
January 30, 2008, the Company amended and restated its Loan and Security
Agreement (“Amended Loan Agreement”) with Moriah.  The Amended Loan
Agreement’s borrowing base calculation was modified to include 70% of eligible
foreign accounts.  The Loan Conversion agreement was terminated. The
Amended Loan Agreement eliminated optional conversion of principal up to $2.0
million into common stock at $1.50.  In connection with the amendment,
the Company issued a Warrant to purchase 750,000 shares of its common stock at a
price of $1.50 per share with an expiration date of January 29,
2013.





The
Amended Loan Agreement has specific terms to which the Company must comply
including (a) maintaining a lockbox account into which payments from related
accounts receivable must be deposited, (b) periodic certifications as to
borrowing base amounts equaling or exceeding net balances outstanding under the
Line of Credit, and (c) a requirement that a registration statement with respect
to shares held or to be issued to the lender be filed within thirty days of
January 30, 2008.  A delay in establishing the required lockbox
account created a technical default under the Line of Credit
agreement.  Similarly, the production and subsequent discovery of
defective displays resulted in an inadvertent overstatement of inventory during
December, January and early February that created a technical default under the
agreement.  Finally, the Company was not able to complete the
registration of shares within the thirty day timeframe mandated in the amended
agreement.  On March 25, 2008 the Company received a waiver from the
lender (a) waiving compliance with the lockbox account requirement through March
14, 2008, (b) waiving compliance with the borrowing base requirement in so far
as it related exclusively to the defective displays inadvertently included in
inventory, and (c) extending the period for filing a registration statement for
certain shares held or to be issued to the lender until April 29,
2008.  The Company established a lockbox account by March 14, 2008 and
filed a registration statement with the SEC on April 29, 2008.





Effective March 25, 2008, the Company
amended the Warrant Issuance Agreement (“Amended Warrant Agreement”) with
Moriah. In connection with such amendment, the Company issued a Warrant to
purchase an additional 250,000 shares of its common stock at a price of $1.50
expiring March 25, 2013.





The
Company determined the fair value of the 1,000,000 warrants to be $729 thousand
of which $561 thousand was recorded as deferred debt issuance costs
and will be amortized over the life of the loan and $168 thousand was recorded
as interest expense.  The following assumptions were used to determine
the fair value of the warrants:  dividend yield of 0%; risk free
interest rates of 2.61 % and 2.96%; expected volatility of 90.9% and 92.3%; and
expected contractual term of 5 years.  The deferred debt issuance
costs are being amortized to interest expense over the life of the
loan.




10




The 8%
Senior Secured Convertible Notes can also convert into the Company’s Series A
convertible Preferred Stock (the “Preferred Stock”).  See Note
10:  Shareholders’ Equity for additional information.





In the
three months ended March 31, 2008, approximately $280 thousand of deferred debt
issuance costs were amortized to interest expense.  For the three
months ended March 31, 2008, interest expense includes interest paid or accrued
on outstanding debt of $159 thousand.





Note
9:  Stock-based Compensation





The
Company accounts for the measurement and recognition of compensation expense for
all share-based payment awards made to employees and directors under Statement
of Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment, (SFAS
123(R)). Under SFAS 123(R), the fair value of stock awards is estimated at the
date of grant using the Black-Scholes option valuation
model.  Stock-based compensation expense is reduced for estimated
forfeitures and is amortized over the vesting period using the straight-line
method.





The
following table summarizes the allocation of non-cash stock-based compensation
to our expense categories for the three month periods ended March 31, 2008 and
2007 (in thousands):





Three
      Months Ended March 31,2008
            
            
            2007Cost
      of revenue
            
            $
            52
            
            
            $
            69Research
      and development
            
            
            82
            
            
            
            103Selling,
      general and administrative
            
            
            222
            
            
            
            342Total
      stock compensation expense
            
            $
            356
            
            
            $
            514




The
Company recognizes compensation expense for options granted to non-employees in
accordance with the provisions of Emerging Issues Task Force (“EITF”) consensus
Issue 96-18, “Accounting for
Equity Instruments that are Issued to Other Than Employees for Acquiring, or in
Conjunction with Selling Goods or Services,” which requires using a fair
value options pricing model and re-measuring such stock options to the current
fair market value at each reporting period as the underlying options vest and
services are rendered.





During
the quarter ended March 31, 2008, the Company granted 160,000 stock options to
employees and directors.  The following key assumptions were used in
the Black-Scholes option pricing model to determine the fair value of stock
options granted:




For
      the Three Months Ended March 31, 2008Dividend
      yield
            
            
            0
            %Risk
      free interest rates
            
            
            2.46
      – 2.82
            %Expected  volatility
            
            
            90.9
      – 92.3
            %Expected
      term (in years)
            
            
            5





There
were no stock options granted during the three month period ended March 31,
2007.  We have not declared or paid any dividends and do not currently
expect to do so in the near future.  The risk-free interest rate used
in the Black-Scholes option pricing model is based on the implied yield
currently available on U.S. Treasury securities with an equivalent
term.   Expected volatility is based on the weighted average
historical volatility of the Company’s common stock for the most recent five
year period.  The expected term of options represents the period that
our stock-based awards are expected to be outstanding and was determined based
on historical experience and vesting schedules of similar awards.




11





On
February 20, 2008, the Board of Directors authorized the establishment of the
2007 Incentive Stock Plan with 2,000,000 options available for
grant.  The 2007 Incentive Stock Plan is intended to provide long-term
performance incentives to directors, executives, selected employees and
consultants and reward them for making major contributions to the success and
well being of the Company.  No options were granted from this plan as
of March 31, 2008.





Note
10:  Shareholders’ Equity





Preferred
Stock





The
Company has designated but not issued 3,198 shares of the Company’s Preferred
Stock at a stated value of $1,000 per share.  The Preferred Stock is
entitled to cumulative dividends which accrue at a rate of 8% per annum, payable
on December 21, 2008.  Each share of the Preferred Stock has voting
rights equal to (1)  in any case in which the Preferred Stock votes
together with the Company's Common Stock or any other class or series of stock
of the Company, the number of shares of Common Stock issuable upon conversion of
such shares of Preferred Stock at such time (determined without regard to the
shares of Common Stock so issuable upon such conversion in respect of accrued
and unpaid dividends on such share of Preferred Stock) and (2) in any case not
covered by the immediately preceding clause one vote per share of Preferred
Stock.  The Preferred Stock has a mandatory redemption at December 21,
2008.





Common
Stock





On
January 30, 2008, the Company amended and restated its Loan and Security
Agreement (“Amended Loan Agreement”) with Moriah.   As part of the
amended agreement, the Loan Conversion agreement was terminated which eliminated
the optional conversion of principal up to $2.0 million into common stock at
$1.50.  In connection with the Amended Loan agreement, the Company
issued a Warrant to purchase 750,000 shares of its common stock at a price of
$1.50 per share with an expiration date of January 29, 2013.





Effective March 25, 2008, the Company
amended the Warrant Issuance Agreement (“Amended Warrant Agreement”) with
Moriah. In connection with such amendment, the Company issued a Warrant to
purchase an additional 250,000 shares of its common stock at a price of $1.50
expiring March 25, 2013.





For the
three months ended March 31, 2008 and 2007, there were no stock options or
warrants exercised.





For the
three months ended March 31, 2008, the Company did not issue any shares of
common stock for payment for services rendered or to be rendered in the
future.  For the three months ended March 31, 2007, the Company issued
approximately 708,000 shares of common stock for payment of approximately $620
thousand for services rendered and to be rendered in the future.  As
such, the Company recorded the fair value of the services rendered in prepaid
expenses and selling, general and administrative expenses in the accompanying
unaudited condensed consolidated statement of operations for the three months
ended March 31, 2007.





Note
11:  Income Taxes





The
Company adopted the provisions of Financial Standards Accounting Board
Interpretation No. 48 Accounting for Uncertainty in Income Taxes (“FIN 48”) an
interpretation of FASB Statement No. 109 (“SFAS 109”) on January 1, 2007. As a
result of the implementation of FIN 48, we did not recognize any adjustment in
the liability for unrecognized income tax benefits. The tax years 2004-2007
remain open to examination by the major taxing jurisdictions to which we are
subject. In the event that the Company is assessed interest or penalties at some
point in the future, they will be classified in the financial statements as
general and administrative expense.




Note
12:  Commitments and Contingencies





Royalty
Payments





The Company, in accordance with
a royalty agreement with Eastman Kodak, must pay to Eastman Kodak a
certain percentage of net sales with respect to certain
products, which percentages are defined in the agreement. The percentages
are on a sliding scale depending on the amount of sales generated. Any
minimum royalties paid will be credited against the amounts due based on
the percentage of sales. The royalty agreement terminates upon the
expiration of the issued patent which is the last to expire.




12





Effective
May 30, 2007, Kodak and eMagin entered into an intellectual property agreement
where eMagin has assigned Kodak the rights, title, and interest to a Company
owned patent currently not being used by the Company and in consideration, Kodak
waived the royalties due under existing licensing agreements for the first six
months of 2007, and reduced the royalty payments by 50% for the second half of
2007 and for the entire calendar year of 2008. In addition, the minimum royalty
payment is delayed until December 1st for the
years 2007 and 2008.  The Company recorded approximately $84 thousand
for the three months ended March 31, 2008 as income from the license of
intangible assets and included this amount as other income in the condensed
consolidated statements of operations.





Royalty
expense was approximately $168 thousand and $255 thousand, respectively, for the
three months ended March 31, 2008 and 2007.





Contractual
Obligations





The Company leases
office facilities and office, lab and factory equipment under operating leases
expiring through 2009.  Certain leases provide for payments of monthly
operating expenses. The Company currently has lease commitments for space in
Hopewell Junction, New York and Bellevue, Washington.  Rent expense
was approximately $332 thousand for the three months ended March 31, 2008 and
2007.





Note
13:  Legal Proceedings





A former
employee (“plaintiff”) of the Company commenced legal action in the United
States District Court for the Southern District of New York, on or about October
12, 2007, alleging that the plaintiff was subject to gender based discrimination
and retaliation in violation of Title VII of the Civil Rights Act of 1964 ( Case
No. 07-CV-8827 (KMK)). The plaintiff seeks unspecified compensatory damages,
punitive damages and attorneys’ fees.  On November 26, 2007, the
Company served and filed its Answer, in which it denied the material allegations
of the Complaint and asserted numerous affirmative defenses.  This
action is presently in the discovery stage.  The Company disputes the
allegations of the Complaint and intends on vigorously defending this
action.





Note
14:  Separation and Employment Agreements





Effective
January 2, 2008, John Atherly resigned as Chief Financial
Officer.  There was no separation agreement executed between Mr.
Atherly and the Company.  Michael D. Fowler became the Company’s
Interim Chief Financial Officer effective December 27,
2007.  Subsequently, Mr. Fowler has resigned.  See Note
15:  Subsequent Events for additional information.





Effective
January 31, 2008, K.C. Park resigned as Interim Chief Executive Officer,
President and Director.  Dr. Park and the Company entered into a
Separation Agreement and General Release (“Separation
Agreement”).  The Company recorded severance expense of $60
thousand to be payable over a three month period.  Dr. Park and the
Company also entered into a Consulting Agreement (“Agreement”) for a term
beginning February 1 and ending on August 1, 2008.  He will be paid a
sum of $75 thousand, payable in monthly installments of $10 thousand for the
first three months of the term and $15 thousand for the remaining three months
of the term.  In addition to the compensation, Dr. Park will be
entitled to receive non-qualified stock options to acquire 18,750 shares of
common stock on each three month anniversary of the Agreement at the fair market
value on the date of the grant and will be fully vested and exercisable on the
date of the grant.  If the Agreement is not renewed at the end of the
term, he will be entitled to an additional grant of 18,750 shares of common
stock with the same terms.  In addition, on May 1, 2008, Dr. Park will
be entitled to receive non-qualified stock options to acquire 51,703 shares of
common stock at the fair market value and will be fully vested. The compensation
expense related to the options issued has been recorded based  on the
estimated fair value at March 31, 2008 and will be adjusted to its fair value at
the vesting date.





Effective
January 30, 2008, the Company entered into an amended employment agreement with
Susan K. Jones, its Chief Business Officer.  The amended agreement
provides for an increase in compensation, extends the term of the agreement to
January 31, 2010, changes certain incentive award payment requirements,
clarifies the basis for incentive award determination, and extends the
change-of-control/material change/termination-without-cause compensation payout
periods.





Note 15:  Subsequent
Events





On April
2, 2008, the Company completed a private placement of its common stock with
several institutional investors for gross proceeds of $1.65
million.  The transaction involved the sale of 1,586,539 shares of
common stock at $1.04 per share, or the 5-day average closing price of the
Company’s common stock on the trading days immediately preceding the closing
date.  The Company also issued to the investors 793,273 warrants to
buy its common stock at a price of $1.30 per share.  Pursuant to the
transaction, the Company is obligated to file a registration statement for the
shares issued as well as shares underlying the warrants by May 17,
2008.  The Company filed a registration statement with the SEC on
April 29, 2008.




13





Effective
April 14, 2008, Michael D. Fowler, the Company’s Interim Chief Financial
Officer, resigned his position with the Company. There was no separation
agreement executed between Mr. Fowler and the Company. On April 15, 2008, Paul
Campbell was appointed as Interim Chief Financial Officer of the
Company.





On May
13, 2008, the Company signed an executive employment agreement with Andrew
Sculley, Jr. to serve as the Company’s Chief Executive Officer and President
effective June 1, 2008.  Pursuant to the Employment Agreement, Mr.
Sculley will be paid a salary of $300,000.  The salary will increase to
$310,000, per annum, after six months and to $320,000 per annum at the end of
the first year.   If Mr. Sculley voluntarily terminates his employment
with the Company, other than for Good Reason as defined in the Employment
Agreement, he shall cease to accrue salary, personal time off, benefits and
other compensation on the date of voluntary termination.  The Company may
terminate Mr. Sculley’s employment with or without cause.  If the Company
terminates without cause, Mr. Sculley will be entitled to, at the Company’s sole
discretion, either (i) monthly salary payments for twelve (12) months, based on
his monthly rate of base salary at the date of such termination, or (ii) a
lump-sum payment of his salary for such 12 month period, based on his monthly
rate of base salary at the date of such termination. Mr. Sculley shall also be
entitled to receive (i) payment for accrued and unpaid vacation pay and (ii) all
bonuses that have accrued during the term of the Employment Agreement, but not
been paid.





Effective
June 1, 2008, Admiral Thomas Paulsen will resign from his position as
Interim Chief Executive Officer.   Admiral Paulsen will continue
to serve as the Company’s non-executive Chairman of the Board.





14


Item
2. Management’s Discussion and Analysis of Financial Condition and Results of
Operations





Statement
of Forward-Looking Information





In this
quarterly report, references to "eMagin Corporation," "eMagin," "Virtual
Vision," "the Company," "we," "us," and "our" refer to eMagin Corporation and
its wholly owned subsidiary, Virtual Vision, Inc.





Except
for the historical information contained herein, some of the statements in this
Report contain forward-looking statements that involve risks and
uncertainties.  These statements are found in the sections entitled
"Management's Discussion and Analysis or Plan of Operations" and "Risk
Factors."  They include statements concerning: our business strategy;
expectations of market and customer response; liquidity and capital
expenditures; future sources of revenues; expansion of our proposed product
line; and trends in industry activity generally.  In some cases, you
can identify forward-looking statements by words such as "may," "will,"
"should," "expect," "plan," "could," "anticipate," "intend," "believe,"
"estimate," "predict," "potential," "goal," or "continue" or similar
terminology.  These statements are only predictions and involve known
and unknown risks, uncertainties and other factors, including, but not limited
to, the risks outlined under "Risk Factors," that may cause our or our
industry's actual results, levels of activity, performance or achievements to be
materially different from any future results, levels of activity, performance or
achievements expressed or implied by such forward-looking
statements.  For example, assumptions that could cause actual results
to vary materially from future results include, but are not limited to: our
ability to successfully develop and market our products to customers; our
ability to generate customer demand for our products in our target markets; the
development of our target markets and market opportunities; our ability to
manufacture suitable products at competitive cost; market pricing for our
products and for competing products; the extent of increasing competition;
technological developments in our target markets and the development of
alternate, competing technologies in them; and sales of shares by existing
shareholders.  Although we believe that the expectations reflected in
the forward looking statements are reasonable, we cannot guarantee future
results, levels of activity, performance or achievements.  Unless we
are required to do so under federal securities laws or other applicable laws, we
do not intend to update or revise any forward-looking statements.





Overview





We design, develop, manufacture, and
market virtual imaging products which utilize OLEDs, or organic light emitting
diodes, OLED-on-silicon microdisplays and related information technology
solutions.  We integrate OLED technology with silicon chips to produce
high-resolution microdisplays smaller than one-inch diagonally which, when
viewed through a magnifier, create virtual images that appear comparable in size
to that of a computer monitor or a large-screen television.  Our
products enable our original equipment manufacturer, or OEM, customers to
develop and market improved or new electronic products.  We believe
that virtual imaging will become an important way for increasingly mobile people
to have quick access to high-resolution data, work, and experience new more
immersive forms of communications and entertainment.





Our first
commercial product, the SVGA+ (Super Video Graphics Array of 800x600 plus 52
added columns of data) OLED microdisplay, was initially offered for sampling in
2001, and our first SVGA-3D (Super Video Graphics Array plus built-in
stereovision capability) OLED microdisplay was shipped in early
2002.  We are in the process of completing development of 2 additional
OLED microdisplays, namely the SVGA 3DS (SVGA 3D shrink, a smaller format SVGA
display with a new cell architecture with embedded features) and an SXGA (1280 x
1024).





We
license our core OLED technology from Eastman Kodak and we have developed our
own technology to create high performance OLED-on-silicon microdisplays and
related optical systems.  We believe our technology licensing
agreement with Eastman Kodak, coupled with our own intellectual property
portfolio, gives us a leadership position in OLED and OLED-on-silicon
microdisplay technology.  We believe we are the only company to sell
full-color active matrix small molecule OLED-on-silicon
microdisplays.





15


Company
History





Historically,
we have been a developmental stage company. As of January 1, 2003, we were no
longer classified as a development stage company. We have transitioned to
manufacturing our product and intend to significantly increase our marketing,
sales, and research and development efforts, and expand our operating
infrastructure. Currently, most of our operating expenses are fixed. If we are
unable to generate significant revenues, our net losses in any given period
could be greater than expected.





CRITICAL
ACCOUNTING POLICIES





The
Securities and
Exchange Commission ("SEC") defines "critical accounting
policies" as those that require application of management's most
difficult, subjective or complex judgments, often as a result of the need to
make estimates about the effect of matters that
are inherently uncertain and may change in subsequent periods.
Not all of the accounting policies require
management to make difficult, subjective or complex judgments or
estimates.  However, the following policies could be deemed to be
critical within the SEC definition.





Revenue
Recognition





Revenue
is recognized when products are shipped to customers, net of allowances for
anticipated returns.  The Company’s revenue-earning
activities generally involve delivering products and revenues
are considered to be earned when the Company has completed the process
by which it is entitled to such revenues.
Revenue is recognized when persuasive evidence of
an arrangement exists, delivery has occurred, selling price is
fixed or determinable and collection is reasonably assured.  The
Company defers revenue recognition on products sold directly to the consumer
with a fifteen day right of return.  Revenue is recognized upon the
expiration of the right of return.





The
Company also earns revenues from certain R&D activities under
both firm fixed-price contracts and cost-type
contracts, including some cost-plus-fee contracts. 
Revenues on firm fixed-price contracts are recognized as costs
are incurred (cost-to-cost basis).  Revenues on
cost-plus-fee contracts include costs incurred plus a portion of
estimated fees or profits based on the relationship of costs incurred to total
estimated costs. Contract costs include all direct material and labor costs
and an allocation of allowable indirect costs as defined by each
contract, as periodically adjusted to reflect revised agreed upon
rates. These rates are subject to audit by the other party.





Use
of Estimates





In
accordance with accounting principles generally accepted in the United States of
America, management utilizes certain estimates and assumptions that affect the
reported amounts of assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. On an on-going basis, management evaluates its estimates and
judgments. Management bases its estimates and judgments on historical experience
and on various other assumptions that are believed to be reasonable under the
circumstances, the results of which form the basis for making judgments about
the carrying values of assets and liabilities that are not readily apparent from
other sources. Actual results could differ from those estimates.





Fair
Value of Financial Instruments





The
Company's cash, cash equivalents, accounts receivable, short-term investments,
accounts payable and debt are shown at cost which approximates fair value due to
the short-term nature of these instruments.





Stock-based
Compensation





We
maintain several stock equity incentive plans.  The 2005 Employee
Stock Purchase Plan provides our employees with the opportunity to purchase
common stock through payroll deductions. Employees purchase stock semi-annually
at a price that is 85% of the fair market value at certain plan-defined dates.
As of March 31, 2008, the plan had not been implemented.





The 2003
Stock Option Plan (the”2003 Plan”) provides for grants of shares of common stock
and options to purchase shares of common stock to employees, officers, directors
and consultants.   Under the 2003 Plan, an ISO grant is granted
at the market value of our common stock at the date of the grant and a non-ISO
is granted at a price not to be less than 85% of the market value of the common
stock.  These options have a term of up to 10 years and vest over a
schedule determined by the Board of Directors, generally over a five year
period.  The amended 2003 Plan provides for an annual increase of 3%
of the diluted shares outstanding on January 1 of each year for a period of 9
years which commenced January 1, 2005.




16





On
February 20, 2008, the Board of Directors authorized the establishment of the
2007 Incentive Stock Plan with 2,000,000 options available for
grant.  The 2007 Incentive Stock Plan is intended to provide long-term
performance incentives to directors, executives, selected employees and
consultants and reward them for making major contributions to the success and
well being of the Company.  As of March 31, 2008, no options have been
issued from this plan.





Effective
January 1, 2006, the Company adopted the provisions of SFAS No. 123R,
“Share-Based Payment”, which requires the Company to recognize expense related
to the fair value of the Company’s share-based compensation issued to employees
and directors. SFAS 123R requires companies to estimate the fair value of
share-based payment awards on the date of grant using an option-pricing model.
The value of the portion of the award that is ultimately expected to vest is
recognized as expense over the requisite service periods in the Company’s
condensed consolidated statement of operations. The Company uses the
straight-line method for recognizing compensation expense. An estimate for
forfeitures is included in compensation expense for awards under SFAS
123R.  See Note 9 to the Condensed Consolidated Financial Statements
for a further discussion on stock-based compensation.





NEW
ACCOUNTING PRONOUNCEMENTS





See Note
2 of the Condensed Consolidated Financial Statements in Item 1 for a description
of recent accounting pronouncements, including the expected dates of adoption
and estimated effects on results of operations and financial
condition.





RESULTS
OF OPERATIONS





THREE
MONTHS ENDED MARCH 31, 2008 COMPARED TO THREE MONTHS ENDED MARCH 31,
2007





Revenues




Revenues
for the three months ended March 31, 2008 were approximately $2.7 million,
as compared to approximately $3.6 million for the three months ended March 31,
2007, a decrease of approximately 26%.  Lower product revenue for the
three month period was a result of a shortage of displays available for sale as
a result of a temporary production issue.





Cost
of Goods Sold





Cost of
goods sold includes direct and indirect costs associated with
production.  Cost of goods sold for the three months ended March 31, 2008
was approximately $2.3 million as compared to approximately $3.1 million for the
three months ended March 31, 2007, a decrease of approximately $0.8
million.  The gross margin for the three months ended March 31,
2008 was approximately $0.4 million as compared to approximately $0.5 million
for the three months ended March 31, 2007. As a percentage of revenue this
translates to a gross margin of 13% for the three months ended March 31, 2008 as
compared to 14% for the three months ended March 31, 2007.  The
decrease in the gross margin was attributed to inefficient utilization of our
fixed production overhead due to lower unit production volume.





Operating
Expenses





Research and
Development.  Research and development expenses include salaries,
development materials and other costs specifically allocated to the development
of new microdisplay products, OLED materials and subsystems.  Research
and development expenses for the three months ended March 31, 2008
were approximately $0.7 million as compared to $0.9 million for the three
months ended March 31, 2007, a decrease of approximately $0.2 million.  The
decrease was due to the re-deployment of research and development personnel to
production contract services which are included in cost of goods
sold.





Selling, General and
Administrative.  Selling, general and administrative
expenses consist principally of salaries and fees for professional
services, legal fees incurred in connection with patent filings
and related matters, as well as other marketing and administrative
expenses.  Selling, general and administrative expenses for the
three months ended March 31, 2008 were approximately $1.8 million as
compared to approximately $2.2 million for the three months ended March 31,
2007.  The decrease of approximately $0.4 for the three months ended March
31, 2008 was primarily related to non-recurring employment costs for the three
months ended March 31, 2007.




17





Other Income (Expense), net.
Other income (expense), net consists primarily of interest income earned on
investments, interest expense related to the secured debt, and gain from the
change in the derivative liability.  For the three months ended March
31, 2008, interest income was approximately $2 thousand as compared to
approximately $16 thousand for the three months ended March 31,
2007.   The decrease in interest income was primarily a result of
lower cash balances available for investment.





For the
three months ended March 31, 2008, interest expense was approximately $631
thousand as compared to $840 thousand for the three months ended March 31,
2007.   The breakdown of the interest expense for the three month
period in 2008 is as follows:  interest expense associated with debt
of approximately $158 thousand; the amortization of the deferred costs and
waiver fees associated with the debt of approximately $448 thousand; and the
amortization of the debt discount associated with the debt of approximately $25
thousand.  The breakdown of the interest expense for the three month
period in 2007 is as follows:  interest expense associated with debt
of approximately $133 thousand; the amortization of the deferred costs
associated with the debt of approximately $133 thousand; and the amortization of
the debt discount associated with the debt of approximately $574
thousand.





The gain
from the change in the derivative liability was $0 as compared to $460 thousand
for the three months ended March 31, 2008 and 2007, respectively.





Other
income for the three months ended March 31, 2008 was approximately $84 thousand
as compared to $0 for the three months ended March 31, 2007.  The
increase in other income for the three months ended March 31, 2008 was
income from a gain on the license of intangible assets.  See Note
12:  Commitments and Contingencies – Royalty Payments for additional
information.





Liquidity
and Capital Resources





As of
March 31, 2008, we had approximately $0.4 million of cash and investments as
compared to $0.8 million as of December 31, 2007.  The decrease of
approximately $0.4 million was due primarily to cash used for operating
activities.





Cash flow
used in operating activities during the three months ended March 31, 2008 was
approximately $0.6 million attributable to our net loss of $2.7 million offset
by non-cash expenses of $0.9 million and working capital items of $1.2
million.  During the three months ended March 31, 2007, operating
activities used cash of $1.2 million attributable to our net loss of $2.9
million offset by non-cash expenses of $1.5 million and working capital items of
$0.2 million.





Cash used
in investing activities during the three months ended March 31, 2008 was
approximately $231 thousand used for equipment purchases.  During the
three months ended March 31, 2007, the cash used in investing activities was $4
thousand used for investment purchases.





Cash
provided by financing activities during the three months ended March 31, 2008
was approximately $0.4 million and was comprised of approximately $0.7 million
from the line of credit, and offset by payments on debt of $0.3
million.  The cash used in financing activities during the three
months ended March 31, 2007 primarily consisted of $15 thousand.  The
funds were used to make payments on debt.





Our
condensed consolidated financial statements as of March 31, 2008 have been
prepared under the assumption that we will continue as a going concern. Our
independent registered public accounting firm has issued a report dated April 9,
2008 that included an explanatory paragraph expressing substantial doubt in our
ability to continue as a going concern without additional capital becoming
available. Our ability to continue as a going concern ultimately is dependent on
our ability to generate a profit which is likely dependent upon our ability
to obtain additional equity or debt financing, attain further operating
efficiencies and, ultimately, to achieve profitable operations. The financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.





We
anticipate our business to experience significant revenue growth during the year
ended December 31, 2008. This trend may result in higher accounts receivable
levels and may require increased production and/or higher inventory
levels.  In addition, in December 2008, we will be obligated to repay
approximately $6.0 million to the note holders.  If the funds are not
available, we will negotiate with the note holders to defer the payment but no
assurances can be made that they will agree.  We anticipate that our
cash requirements to fund these requirements as well as other operating or
investing cash requirements over the next twelve months will be greater than our
current cash on hand.  We anticipate that we will still require
additional funds over the next twelve months.  We do not currently
have commitments for these funds and no assurance can be given that additional
financing will be available, or if available, will be on acceptable terms. If we
are unable to obtain sufficient funds during the next twelve months we will
further reduce the size of our organization and may be forced to reduce and/or
curtail our production and operations, all of which could have a material
adverse impact on our business prospects.




18





In
addition to the foregoing, as previously reported, we have retained CIBC World
Markets Corporation and Larkspur Capital Corporation to assist us in
investigating and evaluating various strategic alternatives, ranging from
investment to acquisition.




Off-Balance Sheet
Arrangements




We do not
have any off balance sheet arrangements that are reasonably likely to have a
current or future effect on our financial condition, revenues, results of
operations, liquidity or capital expenditures.





ITEM
3.  Quantitative and Qualitative Disclosures About Market
Risk





Market
Rate Risk





We are
exposed to market risk related to changes in interest rates and foreign currency
exchanges rates.





Interest
Rate Risk





We hold
our assets in cash and cash equivalents.  We do not hold derivative
financial instruments or equity securities.





Foreign
Currency Exchange Rate Risk





Our
revenue and expenses are denominated in U.S. dollars.  We have
conducted some transactions in foreign currencies and expect to continue to do
so; we do not anticipate that foreign exchange gains or losses will be
significant.  We have not engaged in foreign currency hedging to
date.





Our
international business is subject to risks typical of international activity,
including, but not limited to, differing economic conditions; change in
political climates; differing tax structures; and other regulations and
restrictions.  Accordingly, our future results could be impacted by
changes in these or other factors.





ITEM
4T.  Controls and Procedures





(a)  Evaluation of Disclosure Controls
and Procedures. Based on an evaluation of our disclosure controls and
procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the
Securities Exchange Act of 1934, as amended) required by paragraph (b) of
Rule 13a-15 or Rule 15d-15, as of the end of the period covered by
this Report, our Chief Executive Officer and Chief Financial Officer have
concluded that our disclosure controls and procedures were not effective in
ensuring that information required to be disclosed by us in the reports that we
file or submit under the Exchange Act is recorded, processed, summarized and
reported within the time periods specified in the Commission’s rules and
forms. Our Chief Executive Officer and Chief Financial Officer also concluded
that, as of the end of the period covered by this Report, there were material
weaknesses in both the design and effectiveness of our internal control over
financial reporting.  Management has assessed these deficiencies and
has determined that there were four general categories of material weaknesses in
eMagin’s internal control over financial reporting.  As a result of
our assessment that material weaknesses in our internal control over financial
reporting existed as of March 31, 2008, management has concluded that our
internal control over financial reporting was not effective as of March 31,
2008.  A material weakness is a deficiency, or a combination of
deficiencies, in internal control over financial reporting such that there is a
reasonable possibility that a material misstatement of our annual or interim
financial statements will not be prevented or detected on a timely
basis.





In
management’s opinion, our assessment as of March 31, 2008 regarding the
existence of material weaknesses in our internal control over financial
reporting relates to (1) the absence of adequate staffing, proper role
descriptions, inadequate training and excessive employee turnover, (2) the lack
of controls or ineffectively designed controls, (3) the failure in design and
operating effectiveness of information technology controls over financial
reporting, and (4) failures in operating control effectiveness identified during
the testing of the internal control over financial
reporting.  Management and our audit committee have assigned a high
priority to the short-term and long-term improvement of our internal control
over financial reporting.




19





The
material weaknesses we have identified include:





Deficiencies pertaining to a lack of
human resources within our finance and accounting
functions.  During the latter part of 2007 we experienced
significant turnover of personnel in our finance and accounting department,
including the positions of Chief Financial Officer and Staff
Accountant.  The reduced staffing resulted in instances of altered
responsibilities and improper role definition leading to lapses in proper
segregation of duties.  The lack of appropriately skilled personnel
and less effective monitoring activities related to employee turnover could
result in material misstatements to financial statements not being detected in a
timely manner.





Deficiencies pertaining to the lack
of controls or ineffectively designed controls.  Our control
design analysis and process walk-throughs disclosed a number of instances where
review approvals were undocumented, where established policies and procedures
were not defined, and controls were not in place.





Deficiencies related to information
technology control design and operating effectiveness
weaknesses.  This material weakness resulted from the absence
of key formalized information technology policies and procedures and could
result in (1) unauthorized system access, (2) application changes being
implemented without adequate reliability testing, (3) inconsistent investigation
of system errors and the absence of timely or properly considered remedial
actions, and (4) over reliance on spreadsheet applications without quality
control assurances.  These factors could lead to material errors and
misstatements to financial statements occurring without timely
detection.





Deficiencies related to failures in
operating effectiveness of the internal control over financial
reporting.  Certain internal control procedures were developed
during the latter part of 2007.  When testing occurred to confirm the
effectiveness of the internal control over financial reporting, controls were
not operating effectively.  Insufficient time remained to remediate
these material weaknesses prior to year-end.





(b)  Changes in Internal
Controls.  During the quarter ended March 31, 2008, there were
no changes in our internal control over financial reporting identified in
connection with the evaluation required by paragraph (d) of Rule 13a-15 or Rule
15d-15 that has materially affected, or is reasonably likely to materially
affect, our internal control over financial reporting.





PART
II - OTHER INFORMATION





ITEM
1.  Legal Proceedings




Other
than the  legal proceeding pending against the company as described in
the company’s Annual Report on Form 10-K for the year ended December 31,
2007, through March 31, 2008, there have been no material developments in
any legal proceedings reported in such Annual Report.





ITEM
1A.  Risk Factors





In
addition to other information set forth in this Report, you should carefully
consider the risk factors previously disclosed in “Item 1A to Part 1” of our
Annual Report on Form 10-KSB for the year ended December 31,
2007.  There were no material changes from the risk factors during the
three months ended March 31, 2008.





ITEM
2.  Unregistered Sales of Equity Securities and Use of
Proceeds.





On March
28, 2007, the Company entered into a Note Purchase Agreement for the sale of
$500 thousand of senior secured debentures (the “Note”) and warrants to purchase
approximately 1.0 million shares of common stock, par value $.001 per
share.  The investor purchased the Note with a conversion price of
$0.35 per share that may convert into approximately 1.4 million shares of common
stock and was issued warrants exercisable at $0.48 per share for approximately
1.0 million shares of common stock expiring in July 2011.  On April 9,
2007, the Company closed the transaction and received approximately $460
thousand, net of offering costs of approximately $40 thousand which are being
amortized over the life of the Note. On July 23, 2007, the investor converted
$250,000 of the principal amount of the Note which was due on July 23, 2007 and
$2,166.50 of accrued and unpaid interest totaling $252,166.50 and received
720,476 shares of Common Stock at the conversion price of $0.35.




20





On July
23, 2007, we entered into Amendment Agreements (the “Agreements”) with the
holders of the Notes issued July 21, 2006 and March 28, 2007 and agreed to issue
each Holder an amended and restated Note (the “Amended Notes”) in the principal
amount equal to the principal amount outstanding as of July 23,
2007.  The changes to the Amended Notes include the following: the due
date for the outstanding Notes (totaling after conversions an aggregate of
$6,020,000) has been extended to December 21, 2008; the Amended Notes are
convertible into (i) 8,407,612 shares of the Company’s common stock. The
conversion price for $5,770,000 of principal was revised from $2.60 to $0.75 per
share. The conversion price of $0.35 per share for $250,000 of principal was
unchanged; $3,010,000 of the Notes can convert into (ii) 3,010 shares of the
Company’s newly formed Series A Convertible Preferred Stock (the “Preferred
Stock”) at a conversion price of $1,000 per share. The Preferred Stock is
convertible into common stock at the same price allowable by the Amended
Notes, subject to adjustment as provided for in the Certificate of Designations;
the Amended Notes adjust the exercise price from $3.60 to $1.03 per share for
1,553,468 Warrants and require the issuance of 3,831,859 Warrants exercisable at
$1.03 per share pursuant to which the holders may acquire common stock, until
July 21, 2011; and as of July 23, 2007 the interest rate was raised from 6% to
8%.





On August
7, 2007, the Company enteredinto a loan agreement
with Moriah Capital, L.P. and established a revolving line of credit of $2.5
million.  As part of the transaction, the Company issued 162,500
shares of common stock, par value of $.001 per share, with an aggregate market
value of $195,000.





ITEM
3.  Defaults Upon Senior Securities





None.





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





None.





ITEM
5.  Other Information





On May
13, 2008, the Company and Andrew Sculley, Jr. signed an executive employment
agreement dated May 7, 2008 (the “Employment Agreement”) to serve as the
Company’s Chief Executive Officer and President effective June 1, 2008. From
2004 to 2008 Mr. Sculley served as the General Manager of Kodak’s OLED Systems
Business Unit and Vice President of Kodak’s Display Business, where he forged a
number of alliances with flat panel display manufacturers. From 2001 to 2004, he
was the CFO of Kodak’s Display Business. From 2003 to 2006, he served on the
Board of Directors of SK Display, a joint venture between Sanyo and Kodak to
manufacture active matrix OLED displays. SK Display was the first company to
commercialize an active matrix display for a mobile device. From 1996 to 2001
Mr. Sculley served on as the Manager of Operations, CFO and member of the Board
of Directors of Kodak Japan Ltd., where he managed Distribution, Information
Technologies, Legal, Purchasing and Finance. Previously, he held positions in
strategic planning and finance in Eastman Kodak Company.  Mr. Sculley holds
an MBA from Carnegie-Mellon University and an MS in physics from Cornell
University. He attended Harvard University’s International Senior Management
Program while an executive at Kodak.




Pursuant
to the Employment Agreement, Mr. Sculley will be paid a salary of
$300,000.  The salary will increase to $310,000, per annum, after six
months and to $320,000 per annum at the end of the first year.   If
Mr. Sculley voluntarily terminates his employment with the Company, other than
for Good Reason as defined in the Employment Agreement, he shall cease to accrue
salary, personal time off, benefits and other compensation on the date of
voluntary termination.  The Company may terminate Mr. Sculley’s employment
with or without cause.  If the Company terminates without cause, Mr.
Sculley will be entitled to, at the Company’s sole discretion, either (i)
monthly salary payments for twelve (12) months, based on his monthly rate of
base salary at the date of such termination, or (ii) a lump-sum payment of his
salary for such 12 month period, based on his monthly rate of base salary at the
date of such termination. Mr. Sculley shall also be entitled to receive (i)
payment for accrued and unpaid vacation pay and (ii) all bonuses that have
accrued during the term of the Employment Agreement, but not been
paid.




The
foregoing description of the Employment Agreement does not purport to be
complete and is qualified in its entirety by reference to the Employment
Agreement which is attached as an exhibit to this Quarterly Report.




On June
1, 2008, Adm. Thomas Paulsen will resign from his position as Interim Chief
Executive Officer of the Company.  Admiral Paulsen will continue to
serve as the Company’s Chairman of the Board.




21





ITEM
6.  Exhibits




EXHIBIT


NUMBER                                DESCRIPTION





10.1
            Common
      Stock Purchase Warrant, issued on January 30, 2008, by eMagin Corporation
      (the “Company”) to Moriah Capital, L.P. (“Moriah”)
  (2)





10.2
            Amendment
      No. 1, dated on January 30, 2008, amending the Loan and Security
      Agreement, dated on August 7, 2007, by and between Moriah and the
      Company (2)





10.3
            Warrant
      Issuance Agreement, dated on January 30, 2008, by and between Moriah and
      the Company (2)





10.4
            Common
      Stock Purchase Warrant No. 324, issued on March 25, 2008, by the Company
      to Moriah (3)





10.5
            Amendment
      No. 2, dated on March 25, 2008, to Loan and Security Agreement, dated
      August 7, 2007, as amended on January 30, 2008, by and between Moriah and
      the Company (3)





10.6
            Amendment
      No. 1, dated on March 25, 2008, to the Warrant Issuance Agreement, dated
      on January 30, 2008, by and between Moriah and the Company (3)





10.7
            Form
      of Warrant, dated on April 2, 2008, by the Company
  (4)





10.8
            Securities
      Purchase Agreement, dated on April 2, 2008, by and among the Company and
      purchasers signatory thereto (4)





10.9
            Registration
      Rights Agreement, dated on April 2, 2008, by and among the Company and
      purchasers signatory thereto (4)





10.10
            Executive
      Services Agreement, dated on April 2, 2008, by and between the Company and
      Tatum, LLC (5)





10.11
            Executive
      Employment Agreement, dated on May 7, 2008, by and between the Company and
      Andrew Sculley, Jr. (1)


31.1
              Certification by Chief Executive Officer pursuant to
      Sarbanes Oxley Section 302 (1)
 31.2
                Certification by Chief Financial Officer pursuant to
      Sarbanes Oxley Section 302 (1)
 32.1
                  Certification by Chief Executive Officer pursuant to 18
      U.S.C. Section 1350 (1)
 32.2
                    Certification by Chief Financial Officer pursuant to 18
      U.S.C. Section 1350 (1)


(1)           Filed
herewith.


(2)
            Incorporated
      by reference to the Current Report on Form 8-K, as filed by the Company
      with the SEC on February 8, 2008.


(3)
            Incorporated
      by reference to the Current Report on Form 8-K, as filed by the Company
      with the SEC on March 31, 2008.


(4)           Incorporated
by reference to the Current Report on Form 8-K, as filed by the Company with the
SEC on April 4, 2008.


(5)           Incorporated
by reference to the Current Report on Form 8-K, as filed by the Company with the
SEC on April 18, 2008.


22


SIGNATURES





Pursuant
to the requirements of the Securities Exchange Act of 1934, the registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized on this 15th day of
May 2008.




eMAGIN
      CORPORATIONBy:
            /s/ Adm.
      Thomas PaulsenAdm. Thomas
      PaulsenInterim Chief Executive
      OfficerPrincipal Executive
      Officer




By:
              /s/ Paul
      CampbellPaul
      CampbellInterim Chief Financial
      OfficerPrincipal Accounting and
      Financial Officer















23