##### Table of Contents



SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 FORM 10-QSB
  þ
    
    Quarterly Report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
   o
    
    Transition Report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
  MDI, INC.
  DELAWARE
    
    75-2626358(State or other jurisdiction
    
    (I.R.S. EmployerOf incorporation or organization)
    
    Identification No.)
 9725 DATAPOINT DRIVE, SUITE 200SAN ANTONIO, TEXAS
    
    78229(Address of principal executive offices)
    
    (Zip Code)
 (210) 477-5400
 NONE
  COMMON STOCK, $.01 PAR VALUE




---



MDI, INC.
FORM 10-QSB
TABLE OF CONTENTS
 FORWARD LOOKING STATEMENTSPART IITEM 1: FINANCIAL STATEMENTSITEM 2: MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONSITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKITEM 4: CONTROLS AND PROCEDURESPART IIITEM 1: LEGAL PROCEEDINGSITEM 2: CHANGES IN SECURITIES AND USE OF PROCEEDSITEM 3: DEFAULTS UPON SENIOR SECURITIESITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERSITEM 5: OTHER INFORMATIONITEM 6: EXHIBITS AND REPORTS ON FORM 8-KSIGNATURESCertification of Chief Executive OfficerCertification of Chief Financial OfficerJoint Certification of Chief Executive Officer and Chief Financial Officer
  CERTIFICATIONS
 
 Forward Looking Statements
  2




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##### Table of Contents



ITEM 1. FINANCIAL STATEMENTS
 MDI, INC. and SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share data)
(Unaudited)
 September 30,
    
    
    December 31,2005
    
    
    2004ASSETSCurrent Assets:Cash and cash equivalents
    
    $
    3,068
    
    
    $
    3,368Trade accounts receivable, net
    
    
    1,863
    
    
    
    3,249Inventories
    
    
    900
    
    
    
    742Prepaid expenses and other current assets
    
    
    273
    
    
    
    103Total current assets
    
    
    6,104
    
    
    
    7,462Property and Equipment, net
    
    
    877
    
    
    
    1,336Other Assets:Goodwill
    
    
    2,792
    
    
    
    2,792Other intangible assets, net
    
    
    36
    
    
    
    42Other assets
    
    
    450
    
    
    
    573Total assets
    
    $
    10,259
    
    
    $
    12,205LIABILITIES AND STOCKHOLDERS EQUITYCurrent Liabilities:Trade accounts payable
    
    $
    956
    
    
    $
    1,019Accrued expenses
    
    
    265
    
    
    
    521Deferred legal settlement
    
    
    350
    
    
    
    388Accrued compensation
    
    
    410
    
    
    
    874Accrued royalties
    
    
    
    
    
    
    82Severance
    
    
    10
    
    
    
    97Other current liabilities
    
    
    79
    
    
    
    106Deferred revenue
    
    
    194
    
    
    
    218Total current liabilities
    
    
    2,264
    
    
    
    3,305Long-Term Liabilities
    
    
    
    
    
    
    Commitments and Contingencies
    
    
    
    
    
    
    Stockholders Equity:Preferred stock, $5 par value, issuable in
series; 2,000,000 shares authorized; Series A,
LIBOR + 2% cumulative convertible; 195,351
shares authorized, issued and outstanding
    
    
    977
    
    
    
    977Common stock, $.01 par value; 50,000,000 shares
authorized; 21,103,037 and 18,105,953 shares
issued at September 30, 2005 and December 31,
2004, respectively
    
    
    211
    
    
    
    181Additional paid-in-capital
    
    
    166,860
    
    
    
    163,146Accumulated deficit
    
    
    (121,352
    )
    
    
    (116,703
    )Treasury stock, at cost (3,488,350 common shares
at September 30, 2005 and December 31,
2004)
    
    
    (38,701
    )
    
    
    (38,701
    )Total stockholders equity
    
    
    7,995
    
    
    
    8,900Total liabilities and stockholders equity
    
    $
    10,259
    
    
    $
    12,205
  3




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##### Table of Contents



MDI, INC. and SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except share and per share data)
(Unaudited)
 Three months ended September 30,2005
    
    
    2004Net sales
    
    $
    2,346
    
    
    $
    4,575Cost of sales (exclusive of depreciation
shown separately below)
    
    
    1,267
    
    
    
    2,222Gross profit
    
    
    1,079
    
    
    
    2,353Other operating costs:Selling, general and administrative
    
    
    2,450
    
    
    
    3,673Depreciation and amortization
    
    
    198
    
    
    
    1952,648
    
    
    
    3,868Operating loss
    
    
    (1,569
    )
    
    
    (1,515
    )Other income (expense):Interest income
    
    
    
    
    
    
    17Loss from disposal of fixed assets
    
    
    
    
    
    
    (489
    )Other, net
    
    
    
    
    
    
    (46
    )
    
    
    
    (518
    )Loss before income taxes and discontinued operations
    
    
    (1,569
    )
    
    
    (2,033
    )Income tax benefit
    
    
    
    
    
    
    Loss from continuing operations
    
    
    (1,569
    )
    
    
    (2,033
    )Income (loss) from discontinued operations
    
    
    (11
    )
    
    
    1,206Net loss
    
    
    (1,580
    )
    
    
    (828
    )Dividend requirements on preferred stock
    
    
    (8
    )
    
    
    (8
    )Net loss allocable to common stockholders
    
    $
    (1,588
    )
    
    $
    (836
    )Basic and diluted earnings (loss) per share from:Continuing operations
    
    $
    (0.10
    )
    
    $
    (0.14
    )Discontinued operations
    
    
    0.00
    
    
    
    0.08Basic and diluted loss per share
    
    $
    (0.10
    )
    
    $
    (0.06
    )Number of common shares used in computations
    
    
    16,381,997
    
    
    
    14,633,388
  4




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MDI, INC. and SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except share and per share data)
(Unaudited)
 Nine months ended September 30,2005
    
    
    2004Net sales
    
    $
    6,048
    
    
    $
    11,299Cost of sales (exclusive of depreciation shown separately below)
    
    
    3,181
    
    
    
    6,114Gross profit
    
    
    2,867
    
    
    
    5,185Other operating costs:Selling, general and administrative
    
    
    7,480
    
    
    
    11,051Depreciation and amortization
    
    
    592
    
    
    
    7988,072
    
    
    
    11,849Operating loss
    
    
    (5,205
    )
    
    
    (6,664
    )Other income (expense):Interest income
    
    
    3
    
    
    
    62Loss from disposal of fixed assets
    
    
    (2
    )
    
    
    (498
    )Other, net
    
    
    628
    
    
    
    31629
    
    
    
    (405
    )Loss before income taxes and discontinued operations
    
    
    (4,576
    )
    
    
    (7,069
    )Income tax benefit
    
    
    
    
    
    
    Loss from continuing operations
    
    
    (4,576
    )
    
    
    (7,069
    )Income (loss) from discontinued operations
    
    
    (48
    )
    
    
    1,057Net loss
    
    
    (4,624
    )
    
    
    (6,012
    )Dividend requirements on preferred stock
    
    
    (25
    )
    
    
    (25
    )Net loss allocable to common stockholders
    
    $
    (4,649
    )
    
    $
    (6,037
    )Basic and diluted earnings (loss) per share from:Continuing operations
    
    $
    (0.30
    )
    
    $
    (0.49
    )Discontinued operations
    
    
    (0.00
    )
    
    
    0.07Basic and diluted loss per share
    
    $
    (0.30
    )
    
    $
    (0.42
    )Number of common shares used in computations
    
    
    15,212,197
    
    
    
    14,456,216
  5




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MDI, INC. and SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
 Nine months ended September 30,2005
    
    
    2004Operating Activities:Net loss
    
    $
    (4,624
    )
    
    $
    (6,012
    )Adjustments to reconcile net loss to net cash used in operating activities:Loss on disposal of fixed assets
    
    
    2
    
    
    
    Gain on sale of investments
    
    
    
    
    
    
    55Gain on sale of business
    
    
    
    
    
    
    (1,355
    )Realized foreign currency translation losses
    
    
    
    
    
    
    48Depreciation and amortization
    
    
    592
    
    
    
    447Provision for losses on accounts receivable
    
    
    (14
    )
    
    
    267Mark-to-market interest rate swap
    
    
    
    
    
    
    52Changes in operating assets and liabilities, net of dispositions:Trade accounts receivable
    
    
    1,400
    
    
    
    (1,400
    )Inventories
    
    
    (158
    )
    
    
    1,744Prepaid and other current assets
    
    
    (46
    )
    
    
    1,908Trade accounts payable
    
    
    (63
    )
    
    
    (1,673
    )Accrued and other current liabilities
    
    
    (978
    )
    
    
    (3,375
    )Net cash used in operating activities
    
    
    (3,889
    )
    
    
    (9,294
    )Investing Activities:Purchases of property and equipment
    
    
    (130
    )
    
    
    (110
    )Proceeds from the sale of property and equipment
    
    
    
    
    
    
    517Proceeds from the sale of business
    
    
    
    
    
    
    5,340Proceeds from redemption of marketable securities
    
    
    
    
    
    
    1,444Net cash provided by (used in) investing activities
    
    
    (130
    )
    
    
    7,191Financing Activities:Proceeds from issuance of common stock, net of issuance costs
    
    
    3,744
    
    
    
    534Payment of preferred stock dividends
    
    
    (25
    )
    
    
    (25
    )Net cash provided by financing activities
    
    
    3,719
    
    
    
    509Net decrease in cash and cash equivalents
    
    
    (300
    )
    
    
    (1,594
    )Effect of exchange rate changes on cash
    
    
    
    
    
    
    (8
    )Cash and cash equivalents, beginning of period
    
    $
    3,368
    
    
    $
    6,307Cash and cash equivalents, end of period
    
    $
    3,068
    
    
    $
    4,705
  6




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##### Table of Contents



MDI, Inc.
 Notes to Consolidated Financial Statements
 Note 1: General / Nature of Operations and Significant Accounting Principles
 General
      Basis of Presentation
  7




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Revenue Recognition
  Stock-Based Compensation
  Three months ended September 30,2005
    
    
    2004Net loss from continuing operations
allocable to common stockholders:As reported
    
    $
    (1,588
    )
    
    $
    (836
    )Deduct: Total stock-based compensation under fair value
based method for all awards, net of taxes
    
    
    (902
    )
    
    
    (752
    )Pro forma
    
    $
    (2,490
    )
    
    $
    (1,588
    )Basic and diluted loss per share from continuing
operationsAs reported
    
    $
    (0.10
    )
    
    $
    (0.06
    )Pro forma
    
    $
    (0.15
    )
    
    $
    (0.11
    )
 Nine months ended September 30,2005
    
    
    2004Net loss from continuing operations
allocable to common stockholders:As reported
    
    $
    (4,649
    )
    
    $
    (6,037
    )Deduct: Total stock-based compensation under fair value
based method for all awards, net of taxes
    
    
    (1,282
    )
    
    
    (1,447
    )Pro forma
    
    $
    (5,931
    )
    
    $
    (7,484
    )Basic and diluted loss per share from continuing
operationsAs reported
    
    $
    (0.30
    )
    
    $
    (0.42
    )Pro forma
    
    $
    (0.39
    )
    
    $
    (0.52
    )
 8




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##### Table of Contents



Warranty Reserves
   Three months ended September 30,2005
    
    
    2004Beginning balance
    
    $
    69
    
    
    $
    194Charged to expense
    
    
    13
    
    
    
    4Usage
    
    
    (1
    )
    
    
    (120
    )Closing balance
    
    $
    81
    
    
    $
    78
 Nine months ended September 30,2005
    
    
    2004Beginning balance
    
    $
    80
    
    
    $
    184Charged to expense
    
    
    16
    
    
    
    26Usage
    
    
    (15
    )
    
    
    (132
    )Closing balance
    
    $
    81
    
    
    $
    78
 Reclassifications
  Note 2: Discontinued Operations
  9




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Note 3: Trade Accounts Receivable
  September 30,
    
    
    December 31,2005
    
    
    2004Gross trade accounts receivable
    
    $
    2,050
    
    
    $
    3,523Less: allowance for doubtful
accounts
    
    
    (187
    )
    
    
    (274
    )$
    1,863
    
    
    $
    3,249
 Note 4: Earnings Per Share
   Note 5: Comprehensive Loss
  Three months ended September 30,2005
    
    
    2004Net loss
    
    $
    (1,580
    )
    
    $
    (828
    )Other comprehensive income (loss):Unrealized loss on marketable
securities
    
    
    
    
    
    
    (13
    )Currency translation adjustment
    
    
    
    
    
    
    (1
    )$
    (1,580
    )
    
    $
    (842
    )
 Nine months ended September 30,2005
    
    
    2004Net loss
    
    $
    (4,624
    )
    
    $
    (6,012
    )Other comprehensive income (loss):Unrealized loss on marketable
securities
    
    
    
    
    
    
    (4
    )Currency translation adjustment
    
    
    
    
    
    
    $
    (4,624
    )
    
    $
    (6,016
    )
 10




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Note 6: Severance and Royalty Settlement Expenses
  Accrued at
    
    
    2005 Charges
    
    
    
    
    
    
    Accrued atDecember 31, 2004
    
    
    (credits)
    
    
    Amount paid in cash
    
    
    September 30, 2005Royalty Claim
    
    $
    82
    
    
    $
    
    
    
    $
    (82
    )
    
    $
    Severance
    
    
    97
    
    
    
    40
    
    
    
    (127
    )
    
    
    10$
    179
    
    
    $
    40
    
    
    $
    (209
    )
    
    $
    10
 Royalty Claim
  Severance
  Note 7: Sale of MDI Securities
   11




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##### Table of Contents



ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 Results of Operations
  PercentagePercentage of Net Sales
    
    
    Increase (Decrease)Three Months ended September 30,
    
    
    Between Periods2005
    
    
    2004
    
    
    2005 vs. 2004Net Sales
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    -48.7
    %Cost of sales
    
    
    54.0
    %
    
    
    48.6
    %
    
    
    -43.0
    %Gross profit
    
    
    46.0
    %
    
    
    51.4
    %
    
    
    -54.1
    %Operating expenses:Selling, general and administrative
    
    
    104.4
    %
    
    
    80.3
    %
    
    
    -33.3
    %Depreciation and amortization
    
    
    8.4
    %
    
    
    4.3
    %
    
    
    1.5
    %Operating loss
    
    
    -66.9
    %
    
    
    -33.1
    %
    
    
    -3.6
    %Other income (expense)
    
    
    0.0
    %
    
    
    -11.3
    %
    
    
    100.0
    %Loss before taxes and discontinued operations
    
    
    -66.9
    %
    
    
    -44.2
    %
    
    
    22.8
    %Income taxes
    
    
    0.0
    %
    
    
    0.0
    %
    
    
    0.0
    %Loss from continuing operations
    
    
    -66.9
    %
    
    
    -44.2
    %
    
    
    22.8
    %Income (loss) from discontinued operations
    
    
    -0.5
    %
    
    
    26.4
    %
    
    
    100.9
    %Net loss
    
    
    -67.3
    %
    
    
    -18.1
    %
    
    
    -90.8
    %Net loss allocable to common stockholders
    
    
    -67.7
    %
    
    
    -18.3
    %
    
    
    -90.0
    %
 PercentagePercentage of Net Sales
    
    
    Increase (Decrease)Nine Months ended September 30,
    
    
    Between Periods2005
    
    
    2004
    
    
    2005 vs. 2004Net Sales
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    -46.5
    %Cost of sales
    
    
    52.6
    %
    
    
    54.1
    %
    
    
    -48.0
    %Gross profit
    
    
    47.4
    %
    
    
    45.9
    %
    
    
    -44.7
    %Operating expenses:Selling, general and administrative
    
    
    123.7
    %
    
    
    97.8
    %
    
    
    -32.3
    %Depreciation and amortization
    
    
    9.8
    %
    
    
    7.1
    %
    
    
    -25.8
    %Operating loss
    
    
    -86.0
    %
    
    
    -59.0
    %
    
    
    -21.9
    %Other income (expense)
    
    
    10.4
    %
    
    
    -3.6
    %
    
    
    255.3
    %Loss before taxes and discontinued operations
    
    
    -75.6
    %
    
    
    -62.6
    %
    
    
    35.3
    %Income taxes
    
    
    0.0
    %
    
    
    0.0
    %
    
    
    0.0
    %Loss from continuing operations
    
    
    -75.6
    %
    
    
    -62.6
    %
    
    
    35.3
    %Income (loss) from discontinued operations
    
    
    -0.8
    %
    
    
    9.4
    %
    
    
    104.5
    %Net loss
    
    
    -76.4
    %
    
    
    -53.2
    %
    
    
    23.1
    %Net loss allocable to common stockholders
    
    
    -76.9
    %
    
    
    -53.4
    %
    
    
    23.0
    %
 12




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Three Months Ended September 30, 2005 Compared to Three Months Ended September 30, 2004
       Nine Months Ended September 30, 2005 Compared to Nine Months Ended September 30, 2004
     13




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Financial Condition, Liquidity and Capital Resources
       14




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Contractual Obligations and Commitments
  Total
    
    
    2005
    
    
    2006
    
    
    2007
    
    
    2008
    
    
    2009Contractual
obligations and
commitments:Operating leases
    
    $
    2,257
    
    
    $
    145
    
    
    $
    519
    
    
    $
    536
    
    
    $
    544
    
    
    $
    513Severance obligations
    
    
    10
    
    
    
    10
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    2,267
    
    
    $
    155
    
    
    $
    519
    
    
    $
    536
    
    
    $
    544
    
    
    $
    513
    Subsequent Events
  
 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 Warrant Obligation
  Interest Rates
   
 ITEM 4. CONTROLS AND PROCEDURES
  15




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##### Table of Contents



PART II
 
 ITEM 1. LEGAL PROCEEDINGS
     
 ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
  
 ITEM 3. DEFAULTS UPON SENIOR SECURITIES
  
 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
  
 ITEM 5. OTHER INFORMATION
  
 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
 a)
    
    Exhibits. The following is a list of the Exhibits filed with this Form 10-QSB.
 16




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##### Table of Contents



b)
    
    Reports on Form 8-K. The following reports on Form 8-K were filed during the three
months ended September 30,2005:
 1.
    
    On September 27, 2005, upon the recommendation and approval of the audit committee of
its board of directors, MDI, Inc., Inc. (the Company) engaged Helin, Donovan, Trubee &
Wilkinson, LLP (HDT&W) to serve as the Companys independent auditors, replacing Grant
Thornton LLP.2.
    
    On August 23, 2005, Grant Thornton LLP (Grant Thornton) notified MDI, Inc. (the
Company) that it will decline to stand for reappointment as our independent registered
public accounting firm for the year ending December 31, 2005.3.
    
    On August 8, 2005, MDI, Inc. (MDI) entered into 8 identical Securities Purchase
Agreements, Registration Rights Agreements and Common Stock Purchase Warrants providing for
the sale by MDI of 2,900,000 shares of common stock priced at $1.40 per share and warrants
totaling 1,450,000 shares exercisable at $3.14 having a five year term from the date of
issuance.
 17




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SIGNATURES
  MDI, INC.Dated: November 11, 2005
    
    
    
    By:
    
    /s/ Jon D. GreenwoodJon D. GreenwoodSenior Vice President and Chief Financial Officer
 18