UNITED
      STATESSECURITIES
      AND EXCHANGE COMMISSIONWashington,
      D.C. 20549





FORM
10-Q





QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE


SECURITIES
EXCHANGE ACT OF 1934





For the
quarterly period ended December 31, 2010





Commission
File Number 0-20734









e.Digital
Corporation


(Exact
name of registrant as specified in its charter)





Delaware
              33-0591385(State
      or other jurisdiction of
              (I.R.S.
      Empl. Ident. No.)incorporation
      or organization)16770
      West Bernardo Drive, San Diego, California
              92127(Address
      of principal executive offices)
              (Zip
      Code)





(858)
304-3016


(Registrant’s
telephone number, including area code)





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 x NO  ̈





Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files).    ̈Yes    ̈ No  (not
required)





Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer or a smaller reporting company. See
the definitions of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.





Large
      Accelerated Filer  ̈
              Accelerated
      filer  ̈Non-accelerated
      filer     ̈(Do not check if a smaller
      reporting company)
              Smaller
      reporting company x





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





As
      of February 1, 2011 a total of 293,003,158 shares of the Registrant’s
      Common Stock, par value $0.001, were issued and
    outstanding.





e.DIGITAL
CORPORATION





INDEX





PagePART
      I. FINANCIAL INFORMATIONItem
      1.
                        Financial
      Statements (unaudited):
                        
                        3Condensed
      Consolidated Balance Sheets as of December 31, 2010 and March 31,
      2010
                        
                        3Condensed
      Consolidated Statements of Operations for the three and nine months
      ended December 31, 2010 and 2009
                        
                        4Condensed
      Consolidated Statements of Cash Flows for the nine months ended
      December 31, 2010 and 2009
                        
                        5Notes
      to Interim Consolidated Financial Statements
                        
                        6Item
      2.
                        Management's
      Discussion and Analysis of Financial Condition and Results of
      Operations
                        
                        14Item
      4.
                        Controls
      and Procedures
                        
                        20PART
      II. OTHER INFORMATIONItem
      1.
                        Legal
      Proceedings
                        
                        21Item
      2.
                        Unregistered
      Sales of Equity Securities and Use of Proceeds
                        
                        22Item
      3.
                        Defaults
      Upon Senior Securities
                        
                        22Item
      4.
                        (Removed
      and Reserved)
                        
                        22Item
      5.
                        Other
      Information
                        
                        22Item
      6.
                        Exhibits
                        
                        22SIGNATURES
                        
                        22


2


Part I. Financial Information


Item
1. Financial Statements:


e.Digital
Corporation and subsidiary





CONDENSED
CONSOLIDATED BALANCE SHEETS





December
      31,2010
                    
                    
                    March
      31,(Unaudited)
                    
                    
                    2010$
                    
                    
                    $ASSETSCurrentCash
      and cash equivalents
                    
                    
                    1,931,824
                    
                    
                    
                    2,818,727Accounts
      receivable
                    
                    
                    93,202
                    
                    
                    
                    108,749Inventory,
      net
                    
                    
                    289,969
                    
                    
                    
                    347,078Deposits
      and prepaid expenses
                    
                    
                    47,763
                    
                    
                    
                    59,072Total
      current assets
                    
                    
                    2,362,758
                    
                    
                    
                    3,333,626Property,
      equipment and intangibles, net of accumulated depreciation and
      amortization of $191,864 and $184,382, respectively
                    
                    
                    6,384
                    
                    
                    
                    11,090Total
      assets
                    
                    
                    2,369,142
                    
                    
                    
                    3,344,716LIABILITIES
      AND STOCKHOLDERS' EQUITYCurrentAccounts
      payable, trade
                    
                    
                    99,108
                    
                    
                    
                    51,997Accrued
      and other liabilities
                    
                    
                    124,332
                    
                    
                    
                    315,948Total
      current liabilities
                    
                    
                    223,440
                    
                    
                    
                    367,945Total
      liabilities
                    
                    
                    223,440
                    
                    
                    
                    367,945Commitments
      and ContingenciesStockholders'
      equityPreferred
      stock, $0.001 par value; 5,000,000 shares authorized Series AA Convertible
      Preferred stock, $0.001 par value, 100,000 shares designated: -0- and
      55,000 issued and outstanding, respectively Liquidation preference of $-0-
      and $598,370, respectively
                    
                    
                    -
                    
                    
                    
                    573,830Common
      stock, $0.001 par value, authorized 350,000,000, 293,003,158 and
      286,950,900 shares issued and outstanding, respectively
                    
                    
                    293,003
                    
                    
                    
                    286,951Additional
      paid-in capital
                    
                    
                    82,745,550
                    
                    
                    
                    82,073,012Accumulated
      deficit
                    
                    
                    (80,892,851
                    )
                    
                    
                    (79,957,022
                    )Total
      stockholders' equity
                    
                    
                    2,145,702
                    
                    
                    
                    2,976,771Total
      liabilities and stockholders' equity
                    
                    
                    2,369,142
                    
                    
                    
                    3,344,716





See notes
to interim consolidated financial statements


3





e.Digital Corporation and subsidiary





CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS


(Unaudited)





For
      the three months ended
                              
                              
                              For
      the nine months endedDecember
      31,
                              
                              
                              December
      31,2010
                              
                              
                              2009
                              
                              
                              2010
                              
                              
                              2009$
                              
                              
                              $
                              
                              
                              $
                              
                              
                              $Revenues:Products
                              
                              
                              8,253
                              
                              
                              
                              106,570
                              
                              
                              
                              361,080
                              
                              
                              
                              164,085Services
                              
                              
                              126,639
                              
                              
                              
                              177,600
                              
                              
                              
                              499,041
                              
                              
                              
                              605,382Patent
      license
                              
                              
                              5,778
                              
                              
                              
                              -
                              
                              
                              
                              31,042
                              
                              
                              
                              1,250,000140,670
                              
                              
                              
                              284,170
                              
                              
                              
                              891,163
                              
                              
                              
                              2,019,467Cost
      of revenues:Products
                              
                              
                              14,764
                              
                              
                              
                              96,630
                              
                              
                              
                              291,445
                              
                              
                              
                              173,423Services
                              
                              
                              74,820
                              
                              
                              
                              83,188
                              
                              
                              
                              259,752
                              
                              
                              
                              259,996Patent
      license
                              
                              
                              5,778
                              
                              
                              
                              -
                              
                              
                              
                              31,042
                              
                              
                              
                              443,00095,362
                              
                              
                              
                              179,818
                              
                              
                              
                              582,239
                              
                              
                              
                              876,419Gross
      profit
                              
                              
                              45,308
                              
                              
                              
                              104,352
                              
                              
                              
                              308,924
                              
                              
                              
                              1,143,048Operating
      expenses:Selling
      and administrative
                              
                              
                              280,582
                              
                              
                              
                              558,600
                              
                              
                              
                              920,495
                              
                              
                              
                              1,386,013Research
      and related expenditures
                              
                              
                              81,653
                              
                              
                              
                              130,163
                              
                              
                              
                              327,737
                              
                              
                              
                              336,493Total
      operating expenses
                              
                              
                              362,235
                              
                              
                              
                              688,763
                              
                              
                              
                              1,248,232
                              
                              
                              
                              1,722,506Operating
      loss
                              
                              
                              (316,927
                              )
                              
                              
                              (584,411
                              )
                              
                              
                              (939,308
                              )
                              
                              
                              (579,458
                              )Other
      income (expense):Interest
      expense
                              
                              
                              -
                              
                              
                              
                              (1,265
                              )
                              
                              
                              -
                              
                              
                              
                              (17,099
                              )Other
      income (expense) - net
                              
                              
                              -
                              
                              
                              
                              32,891
                              
                              
                              
                              -
                              
                              
                              
                              29,332Other
      income (expense)
                              
                              
                              -
                              
                              
                              
                              31,626
                              
                              
                              
                              -
                              
                              
                              
                              12,233Loss
      before provision for income taxes
                              
                              
                              (316,927
                              )
                              
                              
                              (552,785
                              )
                              
                              
                              (939,308
                              )
                              
                              
                              (567,225
                              )Income
      tax benefit
                              
                              
                              3,479
                              
                              
                              
                              237,500
                              
                              
                              
                              3,479
                              
                              
                              
                              31,250Loss
      for the period
                              
                              
                              (313,448
                              )
                              
                              
                              (315,285
                              )
                              
                              
                              (935,829
                              )
                              
                              
                              (535,975
                              )Accrued
      and deemed dividends on preferred stock
                              
                              
                              -
                              
                              
                              
                              (45,387
                              )
                              
                              
                              (31,396
                              )
                              
                              
                              (144,088
                              )Loss
      attributable to common stockholders
                              
                              
                              (313,448
                              )
                              
                              
                              (360,672
                              )
                              
                              
                              (967,225
                              )
                              
                              
                              (680,063
                              )Loss
      per common share - basic and diluted
                              
                              
                              (0.00
                              )
                              
                              
                              (0.00
                              )
                              
                              
                              (0.00
                              )
                              
                              
                              (0.00
                              )Weighted
      average common shares outstandingBasic
      and diluted
                              
                              
                              293,003,158
                              
                              
                              
                              286,625,653
                              
                              
                              
                              291,000,411
                              
                              
                              
                              284,520,917





See notes
to interim consolidated financial statements


4





e.Digital Corporation and subsidiary





CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS





For
      the nine months endedDecember
      31,2010
                        
                        
                        2009$
                        
                        
                        $OPERATING
      ACTIVITIESLoss
      for the period
                        
                        
                        (935,829
                        )
                        
                        
                        (535,975
                        )Adjustments
      to reconcile loss to net cash used in operating
activities:Depreciation
      and amortization
                        
                        
                        7,482
                        
                        
                        
                        13,781Accretion
      related to promissory notes
                        
                        
                        -
                        
                        
                        
                        6,141Interest
      paid with common stock
                        
                        
                        -
                        
                        
                        
                        10,631Warranty
      provision
                        
                        
                        13,731
                        
                        
                        
                        9,502Stock-based
      compensation
                        
                        
                        104,760
                        
                        
                        
                        147,663Changes
      in assets and liabilities:Accounts
      receivable
                        
                        
                        15,547
                        
                        
                        
                        (118,885
                        )Inventory
                        
                        
                        57,109
                        
                        
                        
                        90,065Deposits
      and prepaid expenses
                        
                        
                        11,309
                        
                        
                        
                        6,656Accounts
      payable, trade
                        
                        
                        47,111
                        
                        
                        
                        (101,943
                        )Accrued
      and other liabilities
                        
                        
                        (205,347
                        )
                        
                        
                        (453,583
                        )Cash
      used in operating activities
                        
                        
                        (884,127
                        )
                        
                        
                        (925,947
                        )INVESTING
      ACTIVITIESPurchase
      of equipment
                        
                        
                        (2,776
                        )
                        
                        
                        (1,211
                        )Cash
      used in investing activities
                        
                        
                        (2,776
                        )
                        
                        
                        (1,211
                        )FINANCING
      ACTIVITIESPayment
      on convertible term note
                        
                        
                        -
                        
                        
                        
                        (47,865
                        )Cash
      used in financing activities
                        
                        
                        -
                        
                        
                        
                        (47,865
                        )Net
      decrease in cash and cash equivalents
                        
                        
                        (886,903
                        )
                        
                        
                        (975,023
                        )Cash
      and cash equivalents, beginning of period
                        
                        
                        2,818,727
                        
                        
                        
                        3,813,990Cash
      and cash equivalents, end of period
                        
                        
                        1,931,824
                        
                        
                        
                        2,838,967Supplemental
      disclosures of cash flow information:Cash
      paid for interest
                        
                        
                        -
                        
                        
                        
                        327Cash
      paid for taxes
                        
                        
                        -
                        
                        
                        
                        368,750Supplemental
      schedule of noncash investing and financing activities:Common
      stock issued on conversion of preferred stock
                        
                        
                        605,226
                        
                        
                        
                        212,083Accrued
      and deemed dividends on preferred stock
                        
                        
                        31,396
                        
                        
                        
                        144,088Term
      note payments paid in common stock
                        
                        
                        -
                        
                        
                        
                        350,000





See notes
to interim consolidated financial statements


5





1.
NATURE OF OPERATIONS AND BASIS OF PRESENTATION


e.Digital
Corporation is a holding company incorporated under the laws of Delaware that
operates through a wholly-owned California subsidiary of the same name. The
Company markets the eVUTM mobile entertainment system for the travel and
recreational industries and licenses and enforces its Flash-RTM portfolio of
patents related to the use of flash memory in portable devices.





Unaudited Interim Financial
Statements


These
unaudited consolidated financial statements have been prepared by management in
accordance with accounting principles generally accepted in the United States
and with the instructions to Form 10-Q and Article 10 of Regulation S-X on a
going concern basis, which contemplates the realization of assets and the
discharge of liabilities in the normal course of business for the foreseeable
future. These interim consolidated financial statements do not include all of
the information and footnotes required by accounting principles generally
accepted in the United States for complete financial statements. In the opinion
of management, the unaudited consolidated financial statements reflect all
adjustments considered necessary for a fair statement of the Company's financial
position at December 31, 2010, and the results of its operations and cash flows
for the periods presented, consisting only of normal and recurring adjustments.
All significant intercompany transactions have been eliminated in consolidation.
Operating results for the nine months ended December 31, 2010 are not
necessarily indicative of the results that may be expected for the fiscal year
ending March 31, 2011. For further information, refer to the Company's
consolidated financial statements and footnotes thereto for the year ended March
31, 2010 filed on Form 10-K.





Going
Concern


The
Company has incurred significant losses and negative cash flow from operations
and has an accumulated deficit of $80,892,851 at December 31, 2010. The Company
has incurred losses in the current fiscal year to date and could continue to
incur losses in the future until product, service and/or licensing revenues are
sufficient to sustain continued profitability. Until the Company can demonstrate
sustained profitability its ability to continue as a going concern is in doubt
and may be dependent upon obtaining additional financing in the future. These
consolidated financial statements do not give effect to any adjustments that
would be necessary should the Company be unable to continue as a going concern
and therefore be required to realize its assets and discharge its liabilities in
other than the normal course of business and at amounts different from those
reflected in the accompanying consolidated financial statements.





Estimates


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





2.
RECENT ACCOUNTING PRONOUNCEMENTS


With the
exception of those discussed below, there have been no recent accounting
pronouncements or changes in accounting pronouncements during the nine months
ended December 31, 2010, as compared to the recent accounting pronouncements
described in the Company’s Annual Report on Form 10-K for the fiscal year ended
March 31, 2010, that are of significance, or potential significance to the
Company.





In
February 2010, the FASB issued ASU 2010-09, Subsequent Events (Topic
855). This update provides amendments to Subtopic 855-10-50-4 and related
guidance within U.S. GAAP to clarify that an SEC registrant is not required to
disclose the date through which subsequent events have been evaluated. This
change alleviates potential conflicts between Subtopic 855-10 and the SEC’s
requirements. The Company adopted this update effective June 15, 2010 and
it had no effect on its financial position.





In
September 2009, the FASB issued Accounting Standards Update (ASU) No. 2009-13,
Multiple-Deliverable Revenue
Arrangements—a consensus of the FASB Emerging Issues Task Force (ASU
2009-13). It updates the existing multiple-element revenue arrangements guidance
currently included under ASC 605-25, which originated primarily from the
guidance in EITF Issue No. 00-21, Revenue Arrangements with Multiple
Deliverables (EITF 00-21). The revised guidance primarily provides two
significant changes: 1) eliminates the need for objective and reliable evidence
of the fair value for the undelivered element in order for a delivered item to
be treated as a separate unit of accounting, and 2) eliminates the residual
method to allocate the arrangement consideration. In addition, the guidance also
expands the disclosure requirements for revenue recognition. ASU 2009-13 will be
effective for the first annual reporting period beginning on or after June 15,
2010, with early adoption permitted provided that the revised guidance is
retroactively applied to the beginning of the year of adoption. The Company
believes this pronouncement is consistent with and will not change its revenue
recognition for patent licenses and will have no impact on its consolidated
financial statements.


6





In April
2010, the FASB issued ASU No. 2010-17—Revenue Recognition—Milestone
Method (Topic 605), which provides guidance on the criteria that should
be met for determining whether the milestone method of revenue recognition is
appropriate. A vendor can recognize consideration that is contingent upon
achievement of a milestone in its entirety as revenue in the period in which the
milestone is achieved only if the milestone meets all criteria to be considered
substantive. The amendments in this Update are effective on a prospective basis
for milestones achieved in fiscal years, and interim periods within those years,
beginning on or after June 15, 2010. The Company expects that the adoption of
the amendments in this update will not have any significant impact on its
financial position and results of operations.




In
January 2010, the FASB issued ASU No. 2010-06—Fair Value Measurements and
Disclosures (Topic 820): Improving Disclosures about Fair
Value Measurements.  This update amends Subtopic 820-10 that
requires new disclosures about transfers in and out of Levels 1 and 2 and
activity in Level 3 fair value measurements. This update also amends Subtopic
820-10 to clarify certain existing disclosures. The new disclosures and
clarifications of existing disclosures are effective for interim and annual
reporting periods beginning after December 15, 2009, except for the disclosures
about purchases, sales, issuances, and settlements in the roll forward of
activity in Level 3 fair value measurements, which are effective for fiscal
years beginning after December 15, 2010. The adoption of this update had no
effect on the Company’s financial position.





There
have been no other recent accounting pronouncements or changes in accounting
pronouncements during the period ended December 31, 2010, or subsequently
thereto, that the Company believes are of potential significance to its
financial statements.





3.
LOSS PER SHARE


Basic
loss per common share is computed by dividing loss attributable to common
shareholders by the weighted-average number of shares of common stock
outstanding during the period. The loss to common stockholders was increased by
accrued and deemed dividends on preferred stock during the three and nine months
ended December 31, 2010 of $-0- and $31,396 respectively (three and nine months
ended December 31, 2009 by $45,387 and $144,088, respectively). Diluted earnings
per common share is computed by dividing loss attributable to common
shareholders by the weighted-average number of shares of common stock
outstanding during the period increased to include the number of additional
shares of common stock that would have been outstanding if the potentially
dilutive securities had been issued. Potentially dilutive securities included
outstanding stock options, and warrants. These securities were not included in
the computation of diluted loss per share for the periods because they are
antidilutive, but they could potentially dilute earnings per share in future
periods.




4.
INVENTORIES




Inventories
are stated at the lower of cost, which approximates actual costs on a first in,
first out cost basis, or market.


Inventories
consisted of the following:





December
      31,
                        
                        
                        March
      31,2010
                        
                        
                        2010$
                        
                        
                        $Raw
      materials
                        
                        
                        79,962
                        
                        
                        
                        111,399Work
      in process
                        
                        
                        19,027
                        
                        
                        
                        19,033Finished
      goods
                        
                        
                        190,980
                        
                        
                        
                        216,646289,969
                        
                        
                        
                        347,078


7





5.
STOCK-BASED COMPENSATION COSTS




The
Company accounts for stock-based compensation under the provisions of ASC 718,
Share-Based Paymentand
ASC 505-50, Equity-Based
Payments to Non-Employees.ASC 718 requires measurement of all employee
stock-based awards using a fair-value method and recording of related
compensation expense in the consolidated financial statements over the requisite
service period. Further, as required under ASC 718, the Company estimates
forfeitures for stock-based awards that are not expected to vest. The Company
recorded stock-based compensation in its consolidated statements of operations
for the relevant periods as follows:




Three
      Months Ended
                        
                        
                        Nine
      Months EndedDecember
      31,
                        
                        
                        December
      31,2010
                        
                        
                        2009
                        
                        
                        2010
                        
                        
                        2009$
                        
                        
                        $
                        
                        
                        $
                        
                        
                        $Research
      and development
                        
                        
                        4,330
                        
                        
                        
                        19,446
                        
                        
                        
                        26,694
                        
                        
                        
                        20,483Selling
      and administrative
                        
                        
                        266
                        
                        
                        
                        109,891
                        
                        
                        
                        78,066
                        
                        
                        
                        127,180Total
      stock-based compensation expense
                        
                        
                        4,596
                        
                        
                        
                        129,337
                        
                        
                        
                        104,760
                        
                        
                        
                        147,663





As of
December 31, 2010 total estimated compensation cost of stock options granted but
not yet vested was $18,439 and is expected to be recognized over the weighted
average period of 1.23 years.





The
following table sets forth the weighted-average key assumptions and fair value
results for stock options granted during the nine-month periods ended December
31, 2010 and 2009 (annualized percentages).





Nine
      Months EndedDecember
      31,2010
                      
                      
                      2009Volatility
                      
                      
                      76
                      %
                      
                      
                      77
                      %Risk-free
      interest rate
                      
                      
                      0.47
                      %
                      
                      
                      0.95
                      %Forfeiture
      rate
                      
                      
                      0.0
                      %
                      
                      
                      0.0%-0.5
                      %Dividend
      yield
                      
                      
                      0.0
                      %
                      
                      
                      0.0
                      %Expected
      life in years
                      
                      
                      2.1
                      
                      
                      
                      2.2Weighted-average
      fair value of options granted
                      
                      $
                      0.04
                      
                      
                      $
                      0.06





The
dividend yield of zero is based on the fact that the Company has never paid cash
dividends and has no present intention to pay cash dividends. Expected
volatility is based on the historical volatility of the common stock over the
period commensurate with the expected life of the options. The Company has a
small number or option grants and limited exercise history and accordingly has
for all new option grants applied the simplified method prescribed by SEC Staff
Accounting Bulletin 110, Share-Based Payment: Certain
Assumptions Used in Valuation Methods - Expected Term, to estimate
expected life (computed as vesting term plus contractual term divided by two).
The expected
forfeiture rate is estimated based on historical and expected experience for
determined option groups and is zero for options vesting on grant. Additional
expense is recorded when the actual forfeiture rates are lower than estimated
and a recovery of prior expense will be recorded if the actual forfeitures are
higher than estimated.





See Note
7 for further information on outstanding stock options.


8





6.
WARRANTY RESERVE





Details
of the estimated warranty liability included in other accounts payable and
accrued liabilities are as follows:





Three
      Months Ended
                            
                            
                            Nine
      Months EndedDecember
      31,
                            
                            
                            December
      31,2010
                            
                            
                            2009
                            
                            
                            2010
                            
                            
                            2009$
                            
                            
                            $
                            
                            
                            $
                            
                            
                            $Beginning
      balance
                            
                            
                            10,123
                            
                            
                            
                            5,359
                            
                            
                            
                            5,262
                            
                            
                            
                            14,155Warranty
      provision
                            
                            
                            2,404
                            
                            
                            
                            1,036
                            
                            
                            
                            13,731
                            
                            
                            
                            9,502Warranty
      deductions
                            
                            
                            (7,187
                            )
                            
                            
                            (1,036
                            )
                            
                            
                            (13,653
                            )
                            
                            
                            (18,298
                            )Ending
      balance
                            
                            
                            5,340
                            
                            
                            
                            5,359
                            
                            
                            
                            5,340
                            
                            
                            
                            5,359





7.
STOCKHOLDERS’ EQUITY


The
following table summarizes stockholders’ equity transactions during the
nine-month period ended December 31, 2010:





Preferred
      stock
                        
                        
                        Common
      stock
                        
                        
                        Additional
                        
                        
                        Accumulated
                        
                        
                        Total
      stockholders'Amount
                        
                        
                        Shares
                        
                        
                        Amount
                        
                        
                        paid-in
      capital
                        
                        
                        deficit
                        
                        
                        equity$
                        
                        
                        
                        
                        
                        $
                        
                        
                        $
                        
                        
                        $
                        
                        
                        $Balance,
      April 1, 2010
                        
                        
                        573,830
                        
                        
                        
                        286,950,900
                        
                        
                        
                        286,951
                        
                        
                        
                        82,073,012
                        
                        
                        
                        (79,957,022
                        )
                        
                        
                        2,976,771Dividends
      on Series AA preferred stock
                        
                        
                        6,856
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        (6,856
                        )
                        
                        
                        -
                        
                        
                        
                        -Accretion
      of discount on Series AA preferred stock
                        
                        
                        24,540
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        (24,540
                        )
                        
                        
                        -
                        
                        
                        
                        -Conversion
      of Series AA preferred stock
                        
                        
                        (605,226
                        )
                        
                        
                        6,052,258
                        
                        
                        
                        6,052
                        
                        
                        
                        599,174
                        
                        
                        
                        -
                        
                        
                        
                        -Stock-based
      compensation
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        104,760
                        
                        
                        
                        -
                        
                        
                        
                        104,760Loss
      and comprehensive loss
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        (935,829
                        )
                        
                        
                        (935,829
                        )Balance,
      December 31, 2010
                        
                        
                        -
                        
                        
                        
                        293,003,158
                        
                        
                        
                        293,003
                        
                        
                        
                        82,745,550
                        
                        
                        
                        (80,892,851
                        )
                        
                        
                        2,145,702





Options


The
following table summarizes stock option activity for the period:





Weighted average
                          
                          
                          AggregateShares
                          
                          
                          exercise
      price
                          
                          
                          Intrinsic Value#
                          
                          
                          $
                          
                          
                          $Outstanding
      April 1, 2010
                          
                          
                          4,965,500
                          
                          
                          
                          0.15Granted
                          
                          
                          2,490,000
                          
                          
                          
                          0.09Exercised
                          
                          
                          -Canceled/expired
                          
                          
                          (1,280,000
                          )
                          
                          
                          0.16Outstanding
      December 31, 2010
                          
                          
                          6,175,500
                          
                          
                          
                          0.12
                          
                          
                          $
                          23,200Exercisable
      at December 31, 2010
                          
                          
                          5,488,830
                          
                          
                          
                          0.12
                          
                          
                          $
                          23,200





(1)
            Options
      outstanding are exercisable at prices ranging from $0.09 to $0.23 and
      expire over the period from 2011 to
2014.


(2)
            Aggregate
      intrinsic value is based on the closing price of our common stock on
      December 31, 2010 of $0.10 and excludes the impact of options that were
      not in-the-money.


9





Share
warrants


The
Company has outstanding share warrants as of December 31, 2010, as
follows:





Number
      of
                    
                    
                    Exercise
      PriceDescription
                    
                    Common
      Shares
                    
                    
                    Per
      Share $
                    
                    Expiration
      DateWarrants
                    
                    
                    7,500,000
                    
                    
                    
                    0.10
                    
                    June
      30, 2011





No
warrants were granted, exercised or cancelled/expired during the nine months
ended December 31, 2010.





8.
PREFERRED STOCK


On June
27, 2008 the Company issued 75,000 shares of 5% Series AA Convertible Preferred
Stock (the “Series AA Stock”) with a stated value of $10 per share. Dividends of
5% per annum were payable in shares of common stock or at the Company’s election
additional shares of Series AA Stock or under certain circumstances in cash. The
stated value plus accrued dividends on Series AA Stock was convertible into
common stock at $0.10 per common share with automatic conversion on June 30,
2010. On June 30, 2010 the Company issued 6,052,258 shares of common stock upon
the conversion of 55,000 shares of Series AA Stock and as a result no shares of
Series AA Stock remained outstanding thereafter.





9.
FAIR VALUE MEASUREMENTS


Cash and
cash equivalents are measured at fair value in the Company’s financial
statements. Accounts receivable are financial assets with carrying values that
approximate fair value due to the short-term nature of these assets. Accounts
payable, deferred revenue and accrued and other liabilities are financial
liabilities with carrying values that approximate fair value due to the
short-term nature of these liabilities. Effective April 1, 2008 the Company
adopted and follows ASC 820, Fair Value Measurements and
Disclosures (“ASC 820”) which established a fair value hierarchy that
requires the Company to maximize the use of observable inputs and minimize the
use of unobservable inputs when measuring fair value. A financial instruments
categorization within the hierarchy is based on the lowest level of input that
is significant to the fair value measurement.





The
Company’s cash and cash equivalents are valued using unadjusted quoted prices in
active markets for identical assets or liabilities (Level 1 inputs under ASC
820).





10.
SEGMENT INFORMATION


ASC 280
Segment Reporting
provides annual and interim reporting standards for an enterprise’s business
segments and related disclosures about its products, services, geographical
areas and major customers. The Company has two operating segments: (1) products
and services and (2) patent licensing. Products and services consist of sales of
the Company’s electronic eVU mobile entertainment device and related content
services and patent licensing consists of intellectual property revenues from
the Flash-R patent portfolio.





Accounting
policies for each of the operating segments are the same as on a consolidated
basis.


10





Our
reportable segment information for the three and nine months ended December 31,
2010 and 2009 is as follows:





For
      the three months ended
                  
                  
                  For
      the nine months endedDecember
      31,
                  
                  
                  December
      31,2010
                  
                  
                  2009
                  
                  
                  2010
                  
                  
                  2009$
                  
                  
                  $
                  
                  
                  $
                  
                  
                  $REVENUES:Products
      and services
                  
                  
                  134,892
                  
                  
                  
                  284,170
                  
                  
                  
                  860,121
                  
                  
                  
                  769,467Patent
      licensing
                  
                  
                  5,778
                  
                  
                  
                  -
                  
                  
                  
                  31,042
                  
                  
                  
                  1,250,000Total
      revenue
                  
                  
                  140,670
                  
                  
                  
                  284,170
                  
                  
                  
                  891,163
                  
                  
                  
                  2,019,467GROSS
      PROFIT:Products
      and services
                  
                  
                  45,308
                  
                  
                  
                  104,352
                  
                  
                  
                  308,924
                  
                  
                  
                  336,048Patent
      licensing
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  807,000Total
      gross profit
                  
                  
                  45,308
                  
                  
                  
                  104,352
                  
                  
                  
                  308,924
                  
                  
                  
                  1,143,048RECONCILIATION:Total
      segment gross profit
                  
                  
                  45,308
                  
                  
                  
                  104,352
                  
                  
                  
                  308,924
                  
                  
                  
                  1,143,048Operating
      expenses
                  
                  
                  (362,235
                  )
                  
                  
                  (688,763
                  )
                  
                  
                  (1,248,232
                  )
                  
                  
                  (1,722,506
                  )Other
      income (expense)
                  
                  
                  -
                  
                  
                  
                  31,626
                  
                  
                  
                  -
                  
                  
                  
                  12,233Loss
      before income taxes
                  
                  
                  (316,927
                  )
                  
                  
                  (552,785
                  )
                  
                  
                  (939,308
                  )
                  
                  
                  (567,225
                  )





The
Company does not have significant assets employed in the patent license segment
and does not track capital expenditures or assets by reportable segment.
Consequently it is not practical to show this information.





Revenue
by geographic region is determined based on the location of the Company’s direct
customers or distributors for product sales and services. Patent license revenue
is considered United States revenue as payments are for licenses for United
States operations irrespective of the location of the licensee’s home
domicile.





For
      the three months ended
                  
                  For
      the nine months endedDecember
      31,
                  
                  
                  December
      31,2010
                  
                  
                  2009
                  
                  
                  2010
                  
                  
                  2009$
                  
                  $
                  
                  $
                  
                  $United
      States
                  
                  
                  5,778
                  
                  
                  
                  77,600
                  
                  
                  
                  31,042
                  
                  
                  
                  1,327,600International
                  
                  
                  134,892
                  
                  
                  
                  206,570
                  
                  
                  
                  860,121
                  
                  
                  
                  691,867Total
      revenue
                  
                  
                  140,670
                  
                  
                  
                  284,170
                  
                  
                  
                  891,163
                  
                  
                  
                  2,019,467





Revenues
from three customers comprised 27%, 16% and 12% of revenue for the nine months
ended December 31, 2010, with no other customer accounting for more than 10% of
revenues. Revenues from two customers comprised 61% and 13% of revenue for the
nine months ended December 31, 2009. Accounts receivable from three customers
comprised 40%, 25% and 10% of net accounts receivable at December 31,
2010.





11.
COMMITMENTS AND CONTINGENCIES





Legal
Matters





Intellectual Property
Litigation


In
September 2007 and March 2008, the Company filed complaints against eight
electronic product manufacturers in the U.S. District Court for the Eastern
District of Texas asserting that products made by the companies infringe four of
the Company's U.S. patents covering the use of flash memory technology. These
patents are part of the Company’s Flash-R patent portfolio. By September 30,
2009 the Company had licensed and settled the litigation with seven of the
manufacturers and suspended the complaint against one defendant in
bankruptcy.


11




In
November 2009 the Company filed an additional patent infringement complaint in
the United States District Court for the District of Colorado against
nineteen companies that manufacture devices using flash memory. By March
31, 2010 the Company had licensed and settled the litigation with three of the
defendants.





Although
most fees, costs and expenses of intellectual property litigation are covered
under the Company’s arrangement with Duane Morris LLP as described below, the
Company may incur support and related expenses for this litigation that may
become material.





Commitment Related to
Intellectual Property Legal Services


On March
23, 2007, the Company entered into an agreement for legal services and a
contingent fee arrangement with Duane Morris LLP. The agreement provides that
Duane Morris is the Company’s legal counsel in connection with the assertion of
the Company’s flash memory related patents against infringers (“Patent
Enforcement Matters’).





Duane
Morris has agreed to handle the Company’s Patent Enforcement Matters and certain
related appeals on a contingent fee basis. Duane Morris also has agreed to
advance certain costs and expenses including travel expenses, court costs and
expert fees. The Company has agreed to pay Duane Morris a fee equal to 40% of
any license or litigation recovery related to Patent Enforcement Matters, after
recovery of expenses, and 50% of recovery if appeal is necessary.





In the
event the Company is acquired or sold or elects to sell the covered patents or
upon certain other corporate events or in the event the Company terminates the
agreement for any reason, then Duane Morris shall be entitled to collect accrued
costs and a fee equal to three times overall time and expenses accrued in
connection with the agreement and a fee of 15% of a good faith estimate of the
overall value of the covered patents. Any such corporate event or termination
fee will only be recorded if and when such applicable event becomes probable.
The Company has provided Duane Morris a lien and a security interest in the
covered patents to secure its obligations under the agreement.





Contract
Manufacturers and Suppliers


At
December 31, 2010, the Company had outstanding unfilled purchase orders and was
committed to a contract manufacturer and component suppliers for approximately
$14,181 of future deliveries.





Facility
Lease


In March
2006, the Company entered into a sixty-two month lease, commencing June 1, 2006,
for approximately 4,800 square feet with a current aggregate payment of $6,535
per month excluding utilities and costs. Future lease commitments aggregated
$45,740 at December 31, 2010.





Concentration
of Credit Risk and Sources of Supply


Financial
instruments that potentially subject the Company to concentration of credit risk
consist principally of cash and cash equivalents and trade receivables. The
Company at December 31, 2010 had substantially all of its cash and cash
equivalents at one financial institution in a non-interest bearing account. FDIC
deposit insurance has changed to provide full deposit insurance coverage for
non-interest bearing deposit transaction accounts through December 31,
2010.  The Company does not believe that it is subject to any unusual
financial risk beyond the normal risk associated with commercial banking
relationships. The Company performs periodic evaluations of the relative credit
standing of these financial institutions. The Company has not experienced any
significant losses on its cash equivalents.





Concentrations
of credit risk with respect to trade accounts receivable are limited due to the
number and nature of customers comprising the Company’s customer base and their
geographic dispersion. The Company has not incurred any significant credit
related losses.





The
Company relies on one third-party contract manufacturer to produce its eVU
mobile entertainment product and generally relies on single suppliers for
batteries, charging stations and other components. The Company also relies on
one legal firm to represent it in patent licensing and enforcement
matters.





Guarantees
and Indemnifications


The
Company enters into standard indemnification agreements in the ordinary course
of business. Some of the Company’s product sales and services agreements include
a limited indemnification provision for claims from third parties relating to
the Company’s intellectual property. Such indemnification provisions are
accounted for in accordance with ASC 450, Contingencies. The
indemnification is generally limited to the amount paid by the customer. To
date, there have been no claims under such indemnification
provisions.


12





The
Company provides a one-year limited warranty for most of its
products.





12.
INCOME TAXES


During
the nine months ended December 31, 2010 the Company recorded a tax benefit of
$3,479 reflecting refunds of prior taxes paid.  There was no other
income tax provision or benefit for the three or nine months ended December 31,
2010 due to net operating losses.





At
December 31, 2010, the Company had deferred tax assets associated with federal
net operating losses (“NOLs”), related state NOLs, foreign tax credits and
certain Federal and California research and development tax credits, but
recorded a corresponding full valuation allowance as it is more likely than not
that some portion or all of the deferred tax assets will not be
realized.


13


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





THE
FOLLOWING DISCUSSION INCLUDES FORWARD-LOOKING STATEMENTS WITH RESPECT TO THE
COMPANY'S FUTURE FINANCIAL PERFORMANCE. ACTUAL RESULTS MAY DIFFER MATERIALLY
FROM THOSE CURRENTLY ANTICIPATED AND FROM HISTORICAL RESULTS DEPENDING UPON A
VARIETY OF FACTORS, INCLUDING THOSE DESCRIBED BELOW. SEE ALSO THE COMPANY'S
ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED MARCH 31, 2010.





Cautionary
Note on Forward Looking Statements


In
addition to the other information in this report, the factors listed below
should be considered in evaluating our business and prospects.  This
report contains a number of forward-looking statements that reflect our current
views with respect to future events and financial performance.  These
forward-looking statements are subject to certain risks and uncertainties,
including those discussed below and elsewhere herein, that could cause actual
results to differ materially from historical results or those
anticipated.  In this report, the words “anticipates,” “believes,”
“expects,” “intends,” “future” and similar expressions identify forward-looking
statements.  Readers are cautioned to consider the specific factors
described below and not to place undue reliance on the forward-looking
statements contained herein, which speak only as of the date
hereof.  We undertake no obligation to publicly revise these
forward-looking statements, to reflect events or circumstances that may arise
after the date hereof.





General


We are a
holding company incorporated under the laws of Delaware that operates through a
wholly-owned California subsidiary of the same name. We market our eVU mobile
entertainment system for the travel and recreational industries and license and
enforce our Flash-R portfolio of flash memory patents for use in portable
devices produced by electronic product manufacturers.





With the
inception of patent license revenue in September 2008, we determined that we
have two operating segments: (1) products and services and (2) patent licensing
and enforcement. Our products and services revenue is derived from the sale of
eVU products and accessories to customers, warranty and technical support
services and content integration fees and related services. Our patent licensing
and enforcement revenue consists of intellectual property revenues from our
Flash-R patent portfolio.





Our
strategy is to market our eVU products and services to U.S. and international
companies for use in the airline and other travel and leisure industries. We
employ direct sales and sales through value added resellers (VARs) that provide
marketing, logistic and/or content services to corporate customers.





We are
commercializing our Flash-R patent portfolio through licensing and we are
aggressively pursuing enforcement by litigating against targeted parties that we
believe are infringing our patents. The international law firm of Duane Morris
LLP is handling our patent enforcement matters on a contingent fee basis. During
the period commencing September 2007 through March 2008, we filed complaints
against eight electronic product manufacturers and subsequently licensed and
settled the litigation with seven of the manufacturers and suspended the
complaint against one defendant that filed for bankruptcy. In November 2009, we
filed an additional patent infringement complaint against nineteen companies and
we have subsequently licensed and settled with three companies. While we expect
to file future complaints against additional companies and license additional
companies there can be no assurance of the timing or amounts of any related
license revenue.





Our
business is high risk in nature. There can be no assurance we can achieve
sufficient eVU or patent license revenues to sustain profitability. We continue
to be subject to the risks normally associated with any new business activity,
including unforeseeable expenses, delays and complications. Accordingly, there
is no guarantee that we can or will report operating profits in future
periods.





Overall
Performance and Trends


We
focused significant efforts on developing, licensing and enforcing our patent
portfolio during the first nine months and during the fiscal years ended March
31, 2010 and 2009. We successfully completed our first round of enforcement
litigation in September 2009 when we licensed the last of the remaining original
defendants. In November 2009 we filed additional enforcement actions against
nineteen defendants, licensed our first customer from the second round in
December 2009 and by December 31, 2010 had licensed a total of three licensees
from the second round. There is a reluctance of patent infringers to negotiate
and ultimately take a patent license without at least the threat of legal
action. However, the majority of patent infringement contentions settle out of
court, based on the strength of the patent claims, validity, and persuasive
evidence and clarity that the patent is being infringed. We believe we are
building a track record of demonstrating the strength, validity and clarity of
our patent claims that could result in significant future revenues from our
patent portfolio.


14





We are proceeding toward
trial on the remaining sixteen defendants. AMarkman hearing (patent
claims construction hearing) for our second round enforcement action was held
January 28, 2011. In related enforcement developments the United States Patent
and Trademark Office (“USPTO”) granted a Request for Ex Parte Reexamination of
our U.S. Patent No. 5,491,774 (the “‘774 patent”) related to a handheld
record and playback device with flash memory. During the reexamination process,
the USPTO will review the patent and could determine that the patent claims, as
written, were properly allowed. This determination would assist us in defending
challenges to the validity of the ‘774 patent. Alternatively, the USPTO could
narrow or reject certain or all of the claims of the ‘774 patent. Depending upon
the specifics of what narrowing amendments are required and the claims rejected,
these determinations of the USPTO could have a material adverse impact on our
results of operations. The timing of the USPTO’s completion of the reexamination
is uncertain. We believe that the USPTO should reconfirm the validity of the
‘774 patent. However, there can be no guarantee as to the outcome.





We
recently reorganized personnel and consultants and we are developing several new
technologies in the areas of communication networks and digital data
distribution. These efforts are in the early stage of development and our intent
is to seek strategic relationships for these technologies. There can be no
assurance we can exploit these new innovations in future periods.





Our eVU
in-flight entertainment (“IFE”) business has remained slow due to airline
economics. While we are seeing continued interest from existing and new
customers, we are unable to predict future sales levels in this market as orders
have been are expected to remain sporadic in the future. As a leading producer
of dedicated portable IFE products we continue to respond to inquiries and
pursue new business in the airline and other markets for our eVU product
line.





Management
faces challenges for the remainder of fiscal 2011 to execute its plan to grow
product and service revenues and increase Flash-R patent portfolio license fees.
We are in the early stages of licensing our patents and only recently filed
additional infringement claims as described above and in Part II, Item 1 “Legal
Proceedings” below. While we expect additional patent licenses in future periods
there can be no assurance of the timing or amounts of any such license revenue.
The failure to obtain additional patent license revenues or eVU orders or delays
of orders or production delays could have a material adverse impact on our
operations. Our patent licensing business is subject to significant
uncertainties as to the timing and amount of future license revenues, if any. We
may also face unanticipated technical or manufacturing obstacles as well as
warranty and other risks in our business.





For the
nine months ended December 31, 2010 we recognized a net loss before income taxes
of $939,308 compared to a net loss before income taxes of $567,225 for the
comparable period of the prior fiscal year. Our revenues were $891,163 for the
first nine months of fiscal 2011 with $31,042 of patent license revenue. This
compares to $2,019,467 for the prior year’s first nine months with $1,250,000 of
patent license revenue reported. We reported reduced operating expenses totaling
$1,248,232 in the nine months ended December 31, 2010 compared to $1,722,506 in
the comparable period prior primarily due to reduced legal fees for litigation
concluded in the prior year.





Our
monthly cash operating costs average approximately $125,000 per month. However,
we may increase expenditure levels in future periods to support and expand our
revenue opportunities and continue advanced product and technology research and
development. Our quarterly results are highly dependent on the timing and amount
of licensing fees and accordingly quarterly results can vary dramatically from
period to period. As a result of this and other factors, past results and
expenditure levels may not be indicative of future quarters. We have incurred
losses and negative cash flow from operations during fiscal 2010 and the first
half of fiscal 2011. We expect to incur losses in the future until product,
service and/or licensing revenues are sufficient to sustain continued
profitability. Our ability to continue as a going concern is in doubt and is
dependent upon achieving a profitable level of operations and if necessary
obtaining additional financing.


15





Critical
Accounting Policies


The
discussion and analysis of our financial condition and results of operations is
based upon our consolidated financial statements located in Item 1 of Part
I, “Financial Statements,” and in Management’s Discussion and Analysis of
Financial Condition and Results of Operations in our Annual Report of Form 10-K
for the year ended March 31, 2010. The preparation of these financial statements
prepared in accordance with accounting principles generally accepted in the
United States requires us to make estimates and judgments that affect the
reported amounts of assets, liabilities, revenues and expenses, and related
disclosure of contingent assets and liabilities.  On an on-going
basis, we evaluate our estimates, including but not limited to those related to
revenue recognition, bad debts, inventory valuation, intangible assets,
financing operations, warranty obligations, stock-based compensation, fair
values, derivatives, income taxes, contingencies and litigation.  We
base our estimates on historical experience and on various other assumptions
that we believe 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 may differ from these estimates under different assumptions or
conditions.





We
believe that, of the significant accounting policies discussed in our
consolidated financial statements, the following accounting policies require our
most difficult, subjective or complex judgments:





·
            revenue
      recognition;


·
            estimates
      and allowances (primarily doubtful accounts and inventory
      obsolescence);


·
            stock-based
      compensation expense; and


·
            income
      taxes.





Historically,
our assumptions, judgments and estimates relative to our critical accounting
policies have not differed materially from actual results. There were no
significant changes or modification of our critical accounting policies and
estimates involving management valuation adjustments affecting our results for
the nine months ended December 31, 2010. For further information on our critical
accounting policies, refer to Note 2 to the consolidated financial statements in
our Annual Report on Form 10-K for the year ended March 31, 2010.





Results
of Operations





Three months ended December
31, 2010 compared to the three months ended December 31,
2009





Three Months Ended December 31,2010
                      
                      
                      
                      
                      
                      2009% of
                      
                      
                      
                      
                      
                      % of
                      
                      
                      ChangeDollars
                      
                      
                      Revenue
                      
                      
                      Dollars
                      
                      
                      Revenue
                      
                      
                      Dollars
                      
                      
                      %Revenues:Products
                      
                      
                      8,253
                      
                      
                      
                      6
                      %
                      
                      
                      106,570
                      
                      
                      
                      38
                      %
                      
                      
                      (98,317
                      )
                      
                      
                      (92
                      )%Services
                      
                      
                      126,639
                      
                      
                      
                      90
                      %
                      
                      
                      177,600
                      
                      
                      
                      62
                      %
                      
                      
                      (50,961
                      )
                      
                      
                      (29
                      )%Patent
      license
                      
                      
                      5,778
                      
                      
                      
                      4
                      %
                      
                      
                      -
                      
                      
                      
                      0
                      %
                      
                      
                      5,778140,670
                      
                      
                      
                      100
                      %
                      
                      
                      284,170
                      
                      
                      
                      100
                      %
                      
                      
                      (143,500
                      )
                      
                      
                      (50
                      )%Gross
      Profit:Product
      gross profit (loss)
                      
                      
                      (6,511
                      )
                      
                      
                      (5
                      )%
                      
                      
                      9,940
                      
                      
                      
                      3
                      %
                      
                      
                      (16,451
                      )
                      
                      
                      (166
                      )%Service
      gross profit
                      
                      
                      51,819
                      
                      
                      
                      37
                      %
                      
                      
                      94,412
                      
                      
                      
                      33
                      %
                      
                      
                      (42,593
                      )
                      
                      
                      (45
                      )%Patent
      license
                      
                      
                      -
                      
                      
                      
                      0
                      %
                      
                      
                      -
                      
                      
                      
                      0
                      %
                      
                      
                      -45,308
                      
                      
                      
                      32
                      %
                      
                      
                      104,352
                      
                      
                      
                      37
                      %
                      
                      
                      (59,044
                      )
                      
                      
                      (57
                      )%Operating
      Expenses:Selling
      and administrative
                      
                      
                      280,582
                      
                      
                      
                      199
                      %
                      
                      
                      558,600
                      
                      
                      
                      197
                      %
                      
                      
                      (278,018
                      )
                      
                      
                      (50
                      )%Research
      and related
                      
                      
                      81,653
                      
                      
                      
                      58
                      %
                      
                      
                      130,163
                      
                      
                      
                      46
                      %
                      
                      
                      (48,510
                      )
                      
                      
                      (37
                      )%362,235
                      
                      
                      
                      258
                      %
                      
                      
                      688,763
                      
                      
                      
                      242
                      %
                      
                      
                      (326,528
                      )
                      
                      
                      (47
                      )%Other
      expense
                      
                      
                      -
                      
                      
                      
                      0
                      %
                      
                      
                      31,626
                      
                      
                      
                      11
                      %
                      
                      
                      (31,626
                      )
                      
                      
                      (100
                      )%Loss
      before income taxes
                      
                      
                      (316,927
                      )
                      
                      
                      (225
                      )%
                      
                      
                      (552,785
                      )
                      
                      
                      (195
                      )%
                      
                      
                      235,858
                      
                      
                      
                      (43
                      )%





Loss
Before Income Taxes


The loss
before income taxes resulted primarily from limited product and service sales
and margins insufficient to cover reduced operating expenses compared to the
comparable quarter of the prior year.


16





Revenues


Revenues
decreased during third fiscal quarter of 2011 compared to the same quarter of
the prior fiscal year due to reduced product and service revenues due to no
significant new customers on service revenue which varies significantly from
customer to customer and quarter to quarter. eVU product sales activity has been
slow and sporadic due to airline industry economics, with airlines curtailing
expansion and new projects. Our product sales in the second quarter are not
necessarily indicative of future orders and we had no significant product
backlog at December 31, 2010. Our service arrangements and terms vary with each
customer and there is no assurance in the current airline environment that our
service revenues will continue at comparable levels for the balance of the
fiscal year or in future periods.





We have
an outstanding complaint against sixteen additional electronics manufacturers,
and while we expect additional patent licenses from these and other companies in
future periods, there can be no assurance of the timing or amounts of future
patent license revenue. We are pursuing new eVU and other technology business
but our results will continue to be dependent on the timing and quantity of eVU
orders and the timing and amount of any patent licensing
arrangements.





Gross
Profit


Gross
profit for the third quarter of fiscal 2011 was $45,308 or 32% of revenues. The
gross profit for the prior year’s third quarter was $104,352 or 37% of revenues
due to fixed costs being absorbed by lower revenues. Our margin on service
declined from 53% to 41% due to repair and content mix. Gross profit margins are
highly dependent on revenue mix, prices charged, volume of orders, and for
periods with patent licensing revenues the amounts of contingency legal fees and
costs.





Operating
Expenses


Selling
and administrative costs for the three months ended December 31, 2010 declined
by $278,018 compared to the same period in the year prior. The current period
included a $266 expense for noncash stock-based compensation expense compared to
$109,891 for the prior year’s third quarter as a result of granting immediately
vested stock options. Reduced current period selling and administrative expenses
included $91,000 of reduced professional fees resulting primarily from reduced
tax related consulting costs incurred in the prior year’s third quarter. In the
prior year’s third quarter we also incurred $57,500 of annual meeting costs with
no comparable costs incurred in the most recent quarter.





Research
and related expenses in the most recent quarter included $4,330 of noncash
stock-based compensation costs compared to $19,446 in the prior year third
quarter. Research and related expenses decreased $48,510 due to reduced staffing
costs and more allocation of dual use personnel to service revenue work.
Research and related expenses can vary significantly from quarter to quarter
based on the allocation of time spent by personnel who work on both revenue
producing service and repair projects and on internal research projects. Such
expenses also vary based on decisions made regarding outside engineering and
consulting.





Other
Income (Expense)


We had no
other income or expenses in the current period compared to $31,626 of net other
income for the prior year’s third quarter including a foreign exchange gain of
$10,391 and $20,000 of other income from a favorable litigation
settlement.





Income
Taxes


We had a
$3,479 tax benefit for the current period from state refunds and the prior
year’s third quarter included a foreign tax benefit of $237,500 resulted from
foreign taxes refunded.





Loss
Attributable to Common Stockholders


The loss
attributable to common stockholders equaled the net loss after taxes of
$313,448. The net loss after tax for the prior comparable third quarter was
$315,285 decreased by accrued and deemed dividends of $45,387 for net loss
attributable to common stockholders of $360,672. Since all shares of Series AA
Stock were converted into common at June 30, 2010 we had no Series AA dividends
or accretion in the third quarter and will have no further dividends or
accretion in future quarters.


17





Nine months ended December
31, 2010 compared to the nine months ended December 31, 2009





NineMonthsEndedDecember31,2010
                        
                        
                        
                        
                        
                        2009% of
                        
                        
                        
                        
                        
                        % of
                        
                        
                        ChangeDollars
                        
                        
                        Revenue
                        
                        
                        Dollars
                        
                        
                        Revenue
                        
                        
                        Dollars
                        
                        
                        %Revenues:Product
      revenues
                        
                        
                        361,080
                        
                        
                        
                        41
                        %
                        
                        
                        164,085
                        
                        
                        
                        8
                        %
                        
                        
                        196,995
                        
                        
                        
                        120
                        %Service
      revenues
                        
                        
                        499,041
                        
                        
                        
                        56
                        %
                        
                        
                        605,382
                        
                        
                        
                        30
                        %
                        
                        
                        (106,341
                        )
                        
                        
                        (18
                        )%Patent
      license
                        
                        
                        31,042
                        
                        
                        
                        3
                        %
                        
                        
                        1,250,000
                        
                        
                        
                        62
                        %
                        
                        
                        (1,218,958
                        )
                        
                        
                        (98
                        )%891,163
                        
                        
                        
                        100
                        %
                        
                        
                        2,019,467
                        
                        
                        
                        100
                        %
                        
                        
                        (1,128,304
                        )
                        
                        
                        (56
                        )%Gross
      Profit:Product
      gross profit
                        
                        
                        69,635
                        
                        
                        
                        8
                        %
                        
                        
                        (9,338
                        )
                        
                        
                        0
                        %
                        
                        
                        78,973
                        
                        
                        
                        (846
                        )%Service
      gross profit
                        
                        
                        239,289
                        
                        
                        
                        27
                        %
                        
                        
                        345,386
                        
                        
                        
                        17
                        %
                        
                        
                        (106,097
                        )
                        
                        
                        (31
                        )%Patent
      license gross profit
                        
                        
                        -
                        
                        
                        
                        0
                        %
                        
                        
                        807,000
                        
                        
                        
                        40
                        %
                        
                        
                        (807,000
                        )
                        
                        
                        (100
                        )%308,924
                        
                        
                        
                        35
                        %
                        
                        
                        1,143,048
                        
                        
                        
                        57
                        %
                        
                        
                        (834,124
                        )
                        
                        
                        (73
                        )%Operating
      Expenses:Selling
      and administrative
                        
                        
                        920,495
                        
                        
                        
                        103
                        %
                        
                        
                        1,386,013
                        
                        
                        
                        69
                        %
                        
                        
                        (465,518
                        )
                        
                        
                        (34
                        )%Research
      and related
                        
                        
                        327,737
                        
                        
                        
                        37
                        %
                        
                        
                        336,493
                        
                        
                        
                        17
                        %
                        
                        
                        (8,756
                        )
                        
                        
                        (3
                        )%1,248,232
                        
                        
                        
                        140
                        %
                        
                        
                        1,722,506
                        
                        
                        
                        85
                        %
                        
                        
                        (474,274
                        )
                        
                        
                        (28
                        )%Other
      expense
                        
                        
                        -
                        
                        
                        
                        0
                        %
                        
                        
                        12,233
                        
                        
                        
                        1
                        %
                        
                        
                        (12,233
                        )
                        
                        
                        (100
                        )%Loss
      before income taxes
                        
                        
                        (939,308
                        )
                        
                        
                        (105
                        )%
                        
                        
                        (567,225
                        )
                        
                        
                        (28
                        )%
                        
                        
                        (372,083
                        )
                        
                        
                        66
                        %





Loss
Before Income Taxes


The loss
before income taxes of $939,308 resulted primarily from limited patent license
revenue in the most recent quarter and product sales and margins insufficient to
cover reduced operating expenses compared to the comparable nine months of the
prior year which included $1,250,000 of patent license revenue.





Revenues


Revenues
decreased during the most recent nine months compared to the comparable period
of the prior year due to the decrease in patent license revenue from $1,250,000
to $31,042. We currently have two licensees reporting periodic royalties with
all other royalties including the $1,250,000 in the prior year being one time
fully paid up royalties. We cannot predict future license revenue from existing
license agreements providing for periodic future payments tied to licensee
activity. Product revenues increased $196,995 due to increased first quarter
product sales. Service revenues declined $106,341 and vary depending on repair
and content services provided to a changing customer mix. eVU product sales
activity has been slow and sporadic due to airline industry economics with
airlines curtailing expansion and new projects. Our product sales for the first
nine months are not necessarily indicative of future orders and we had no
significant product backlog at December 31, 2010. Our service arrangements and
terms vary with each customer and there is no assurance in the current airline
environment that our service revenues will continue at comparable levels for the
balance of the fiscal year or in future periods.





We have
an outstanding complaint against sixteen additional electronics manufacturers,
and while we expect additional patent licenses from these and other companies in
future periods, there can be no assurance of the timing or amounts of future
patent license revenue. We are pursuing new eVU and other technology business
but our results will continue to be dependent on the timing and quantity of eVU
orders and the timing and amount of any patent licensing
arrangements.





Gross
Profit


Gross
profit for the nine months ended December 31, 2010 was $308,924 or 35% of
revenues.  The gross profit for the prior year’s first nine months was
$1,143,048 or 57% of revenues including $807,000 of margin from patent
licensing. While our margin on service declined from 57% to 48% due to repair
and content mix, our product gross margin was positive compared to the prior
year. Gross profit margins are highly dependent on revenue mix, prices charged,
volume of orders, and for periods with patent licensing revenues the amounts of
contingency legal fees and costs.


18





Operating
Expenses


Selling
and administrative costs for the nine months ended December 31, 2010 declined by
$465,518 compared to the same period in the year prior. The current period
included a $78,066 expense for noncash stock-based compensation expense compared
to $127,180 for the prior year’s first nine months. Reduced current period
selling and administrative expenses included $300,000 of reduced professional
fees primarily due to reduced business litigation costs as a result of the
favorable outcome of the digEcor litigation reported last year and a reduction
in tax consulting costs from those incurred in the prior year related to foreign
taxes. Shareholder costs reduced by $69,000 primarily as an annual meeting was
held last fiscal year with no comparable expenses incurred so far this fiscal
year.





Research
and related expenses in the most recent nine month period ended December 31,
2010 included $26,694 of noncash stock-based compensation costs compared to
$20,483 in the prior year. Research and related expenses included $6,000 of
increased consulting costs primarily associated with new projects offset by
$14,000 of reduced travel costs. Research and related expenses can vary
significantly from quarter to quarter based on the allocation of time spent by
personnel who work on both revenue producing service and repair projects and on
internal research projects. Such expenses also vary based on decisions made
regarding outside engineering and consulting.





Other
Income (Expense)


We had no
other income or expenses in the current nine month period ended December 31,
2010 compared to net other income of $12,233 for the nine months ended December
31, 2009 included a foreign exchange gain of $9,332 and $20,000 of other income
from a favorable litigation settlement reduced by interest expense of $17,099
(including $16,772 of noncash interest expense).





Income
Taxes


We had a
$3,479 tax benefit for the current period from state refunds and in the prior
year period we had the income tax benefit of $31,250 included a refund of
foreign taxes paid in the prior year offset by foreign taxes paid on current
year patent license revenue.





Loss
Attributable to Common Stockholders


The loss
attributable to common stockholders was $967,225 equal to the net loss after
taxes of $935,829 increased by accrued and deemed dividends of $31,396. The net
loss attributable to common stockholders for the prior comparable nine month
period was $680,063 including accrued and deemed dividends of $144,088. Since
all shares of Series AA Stock were converted into common stock at June 30, 2010
we will not have further Series AA dividends or accretion in future
quarters.





Liquidity
and Capital Resources


At
December 31, 2010, we had working capital of $2,139,318 compared to a working
capital of $2,965,681 at March 31, 2010. At December 31, 2010 we had cash on
hand of $1,931,824.





Operating
Activities


Cash used
in operating activities was $884,127 for the nine months ended December 31,
2010. Cash used in operating activities included the net loss of $935,829
reduced by net non-cash expenses of $125,973. Major components also providing
operating cash was a decrease of $57,109 in inventory and an increase of $47,111
in accounts payable. Major components using operating cash included a $205,347
reduction in accrued and other liabilities including a reduction of $153,743
reduction in deferred revenue and customer deposits at March 31, 2010 that
converted into revenue during the nine months ended September 30,
2010.





Cash used
in operating activities during the nine months ended December 31, 2009 was
$925,947 with the usage including a $118,885 increase in accounts receivable.
Our terms to customers vary but we often require payment prior to shipment of
product and any such payments are recorded as deposits. Patent license payments
are normally due at signing of the license or within 30-45 days of settlement or
end of royalty reporting period.





Individual
working capital components can change dramatically from period to period due to
timing of sales and shipments and corresponding receivable, inventory and
payable balances. Accordingly operating cash requirements vary significantly
from period to period.


19





Investing
Activities


The
Company’s efforts are primarily on operations and currently we have no
significant investing capital needs. We have no commitments requiring investment
capital.





Financing
Activities


There
were no cash financing activities during the nine months ended December 31,
2010. For the nine months ended December 31, 2009 we paid $47,865 as the final
payment on our term debt. On June 30, 2010 a total of $605,226 of preferred
stock automatically converted to common stock with no cash impact.





Debt
and Other Commitments


We
currently have no debt outstanding other than trade payables and accruals. At
December 31, 2010 we were committed to $14,181 as purchase commitments for
product and components. These orders are generally subject to modification as to
timing, quantities and scheduling and in certain instances may be cancelable
without penalty.





We are
also committed for our office lease as more fully described in our interim
consolidated financial statements.





Our legal
firm Duane Morris is handling patent enforcement matters and certain related
appeals on our Flash-R patent portfolio on a contingent fee basis. Duane Morris
also has agreed to advance certain costs and expenses including travel expenses,
court costs and expert fees. We have agreed to pay Duane Morris a fee equal to
40% of any license or litigation recovery related to patent enforcement matters,
after recovery of expenses, and 50% of recovery if appeal is
necessary.





In the
event we are acquired or sold or elect to sell the covered patents or upon
certain other corporate events or in the event we terminate the agreement for
any reason, then Duane Morris shall be entitled to collect accrued costs and a
fee equal to three times overall time and expenses accrued in connection with
the agreement and a fee of 15% of a good faith estimate of the overall value of
the covered patents. Duane Morris has a lien and a security interest in the
covered patents to secure its obligations under the agreement.





Cash
Requirements


Other
than cash on hand and accounts receivable, we have no material unused sources of
liquidity at this time.  Based on our cash position at December 31,
2010 and current planned expenditures and level of operation, we believe we have
sufficient capital resources for the next twelve months. Actual results could
differ significantly from management plans. We believe we may be able to obtain
additional funds from future patent licensing and eVU product sales and services
but the timing of licenses and shipments and the amount and quantities of
shipments, orders and reorders are subject to many factors and risks, many
outside our control. We may incur significant legal fees related to the
reexamination of patent ‘774 but management has not yet determined an estimate
of such costs.





Since we
have not demonstrated sustainable profitability, our company’s ability to
continue as a going concern is in doubt and is dependent upon achieving
sustained profitability and if necessary obtaining additional financing. We
currently have no plans, arrangements or understandings regarding any
acquisitions.





Item
4. 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) as
of December 31, 2010, our Chief Executive Officer and Principal Accounting
Officer have concluded that our disclosure controls and procedures were
effective at the reasonable assurance level 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.





In
designing and evaluating our disclosure controls and procedures, management
recognizes that any controls and procedures, no matter how well designed and
operated, can provide only reasonable assurance of achieving the desired control
objectives, and management necessarily is required to apply its judgment in
evaluating the relationship between the benefit of desired controls and
procedures and the cost of implementing new controls and
procedures.


20


CHANGES
IN INTERNAL CONTROL OVER FINANCIAL REPORTING


In
connection with the preparation of our annual financial statements, our
management performed an assessment of the effectiveness of internal control over
financial reporting as of March 31, 2010. Management's assessment included an
evaluation of the design of our internal control over financial reporting and
testing of the operational effectiveness of those controls. Based on this
evaluation, management determined that, as of March 31, 2010, there was a
material weakness in our internal control over financial reporting: the lack of
independent oversight by an audit committee of independent members of the Board
of Directors. In light of this material weakness, management concluded that, as
of March 31, 2010, we did not maintain effective internal control over financial
reporting.





During
our fiscal quarter ended December 31, 2010 we remediated the control deficiency
by changing members of our audit committee such that it is now comprised of two
members of the Board of Directors (Renee Warden and Allen Cocumelli) that we
believe to be independent as defined under the NASDAQ Stock Market rules and
Rule 10A-3 of the Securities Exchange Act of 1934. Allen Cocumelli as Chairman
of our Board of Directors, is technically considered as an executive officer
under our bylaws. However, we do not believe that he meets the definition of an
“executive officer” under Rule 16a-1(f) of the Securities Exchange Act of 1934
in that he does not perform any policy-making functions for our Company, nor is
he compensated for this position. Ms. Warden has been designated as the “Audit
Committee Financial Expert,” as defined by Regulation S-K.





Our
process for evaluating controls and procedures is continuous and encompasses
constant improvement of the design and effectiveness of established controls and
procedures and the remediation of any deficiencies which may be identified
during this process.





PART
      II.
            OTHER
      INFORMATION





Item
1. Legal Proceedings





Intellectual Property
Litigation


During
the period commencing September 2007 through and including March 2008, we filed
complaints against eight electronic product manufacturers in the U.S. District
Court for the Eastern District of Texas asserting that products made by the
companies infringe four of our U.S. patents covering the use of flash memory
technology. These patents are part of our Flash-R patent portfolio. By September
30, 2009 we had licensed and settled the litigation with seven of the
manufacturers and suspended the complaint against one defendant currently in
bankruptcy.





In
November 2009, we filed an additional patent infringement complaint in the
United States District Court for the District of Colorado against nineteen
companies that manufacture devices using flash memory. Subsequently we have
licensed and settled with three of the defendants.





We are proceeding toward
trial on the remaining sixteen defendants. AMarkman hearing (patent
claims construction hearing) for our second round enforcement action was held
January 28, 2011. In related enforcement developments the United States Patent
and Trademark Office (“USPTO”) granted a Request for Ex Parte Reexamination of
our U.S. Patent No. 5,491,774 (the “‘774 patent”) related to a handheld
record and playback device with flash memory. During the reexamination process,
the USPTO will review the patent and could determine that the patent claims, as
written, were properly allowed. This determination would assist us in defending
challenges to the validity of the ‘774 patent. Alternatively, the USPTO could
narrow or reject certain or all of the claims of the ‘774 patent. Depending upon
the specifics of what narrowing amendments are required and the claims rejected,
these determinations of the USPTO could have a material adverse impact on our
results of operations. The timing of the USPTO’s completion of the reexamination
is uncertain. We believe that the USPTO should reconfirm the validity of the
‘774 patent. However, there can be no guarantee as to the outcome.





Although
most fees, costs and expenses of the litigation are covered under our
arrangement with Duane Morris LLP, we may incur support and related expenses for
this litigation that may become material. This includes fees we may incur
related to the reexamination of the ‘774 patent described
above.


21





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





(a)
            NONE


(b)
            NONE


(c)
            NONE





Item
3. Defaults Upon Senior Securities





NONE





Item
4. (Removed and Reserved)





Item
5. Other Information





(a)
NONE


(b)
NONE





Item
6. Exhibits





Exhibit
31.1 – Certification pursuant to 18 U.S.C. Section 1350 as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002, signed by Alfred H. Falk,
President and CEO (Principal Executive Officer).





Exhibit
31.2 – Certification pursuant to 18 U.S.C. Section 1350 as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002, signed by MarDee Haring-Layton
(Principal Accounting Officer).





Exhibit
32.1 – Certification pursuant to 18 U.S.C. Section 1350 as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002, signed by Alfred H. Falk,
President and CEO (Principal Executive Officer) and MarDee Haring-Layton
(Principal Accounting Officer).





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.





e.DIGITAL
      CORPORATIONBy:
                /s/ ALFRED H.
      FALKAlfred
      H. Falk, President and Chief Executive OfficerBy:
                /s/ MARDEE HARING-LAYTONMarDee
      Haring-Layton, Principal Accounting
Officer





Date:
            February
      3, 2011




22