UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
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, 2009





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 o





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 o No x





As of
February 10, 2010 a total of 286,950,900 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, 2009and
      March 31, 2009
                              3Condensed
      Consolidated Statements of Operations for the threeand
      nine months ended December 31, 2009 and 2008
                              4Condensed
      Consolidated Statements of Cash Flows for the ninemonths
      ended December 31, 2009 and 2008
                              5Notes
      to Interim Consolidated Financial Statements
                              6Item
      2.
                              Management's
      Discussion and Analysis of FinancialCondition
      and Results of Operations
                              16Item
      4.
                              Controls
      and Procedures
                              22PART
      II. OTHER INFORMATIONItem
      1.
                              Legal
      Proceedings
                              23Item
      2.
                              Unregistered
      Sales of Equity Securities and Use of Proceeds
                              23Item
      3.
                              Defaults
      Upon Senior Securities
                              23Item
      4.
                              Submission
      of Matters to a Vote of Security Holders
                              23Item
      5.
                              Other
      Information
                              24Item
      6.
                              Exhibits
                              24SIGNATURES
                              24




2


Part I. Financial Information
 Item
1. Financial Statements:
 e.Digital
Corporation and subsidiary
 
 CONDENSED
CONSOLIDATED BALANCE SHEETS
 
 December 31,2009
                        
                        
                        March 31,(Unaudited)
                        
                        
                        2009$
                        
                        
                        $ASSETSCurrentCash
      and cash equivalents
                        
                        
                        2,838,967
                        
                        
                        
                        3,813,990Accounts
      receivable
                        
                        
                        212,656
                        
                        
                        
                        93,771Inventory
                        
                        
                        427,098
                        
                        
                        
                        517,163Deposits
      and prepaid expenses
                        
                        
                        19,452
                        
                        
                        
                        26,108Total
      current assets
                        
                        
                        3,498,173
                        
                        
                        
                        4,451,032Property,
      equipment and intangibles, net of accumulated depreciation and
      amortization of $179,230 and $165,449, respectively
                        
                        
                        14,068
                        
                        
                        
                        26,638Total
      assets
                        
                        
                        3,512,241
                        
                        
                        
                        4,477,670LIABILITIES
      AND STOCKHOLDERS' EQUITYCurrentAccounts
      payable, trade
                        
                        
                        100,957
                        
                        
                        
                        202,900Accrued
      and other liabilities
                        
                        
                        169,733
                        
                        
                        
                        589,814Current
      maturity of convertible term note, net of $-0- and $6,141 of debt
      discount
                        
                        
                        -
                        
                        
                        
                        381,093Total
      current liabilities
                        
                        
                        270,690
                        
                        
                        
                        1,173,807Deferred
      revenue - long term
                        
                        
                        -
                        
                        
                        
                        24,000Total
      long-term liabilities
                        
                        
                        -
                        
                        
                        
                        24,000Total
      liabilities
                        
                        
                        270,690
                        
                        
                        
                        1,197,807Commitments
      and ContingenciesStockholders'
      equityPreferred
      stock, $0.001 par value; 5,000,000 shares authorizedSeries
      AA Convertible Preferred stock, $0.001 par value, 100,000 shares
      designated: 55,000 and 75,000 issued and outstanding, respectively
      Liquidation preference of $591,589 and $778,459,
    respectively
                        
                        
                        542,779
                        
                        
                        
                        610,774Common
      stock, $0.001 par value, authorized 350,000,000, 286,950,900 and
      282,124,564 shares issued and outstanding, respectively
                        
                        
                        286,951
                        
                        
                        
                        282,125Additional
      paid-in capital
                        
                        
                        82,095,398
                        
                        
                        
                        81,534,566Accumulated
      deficit
                        
                        
                        (79,683,577
                        )
                        
                        
                        (79,147,602
                        )Total
      stockholders' equity
                        
                        
                        3,241,551
                        
                        
                        
                        3,279,863Total
      liabilities and stockholders' equity
                        
                        
                        3,512,241
                        
                        
                        
                        4,477,670
 
 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
      31,2009
                              
                              
                              2008
                              
                              
                              2009
                              
                              
                              2008$
                              
                              
                              $
                              
                              
                              $
                              
                              
                              $Revenues:Products
                              
                              
                              106,570
                              
                              
                              
                              120,463
                              
                              
                              
                              164,085
                              
                              
                              
                              356,444Services
                              
                              
                              177,600
                              
                              
                              
                              135,570
                              
                              
                              
                              605,382
                              
                              
                              
                              451,746Patent
      license
                              
                              
                              -
                              
                              
                              
                              3,650,000
                              
                              
                              
                              1,250,000
                              
                              
                              
                              5,250,000Total
      revenues
                              
                              
                              284,170
                              
                              
                              
                              3,906,033
                              
                              
                              
                              2,019,467
                              
                              
                              
                              6,058,190Cost
      of revenues:Products
                              
                              
                              96,630
                              
                              
                              
                              96,334
                              
                              
                              
                              173,423
                              
                              
                              
                              303,793Services
                              
                              
                              83,188
                              
                              
                              
                              57,230
                              
                              
                              
                              259,996
                              
                              
                              
                              169,438Patent
      license
                              
                              
                              -
                              
                              
                              
                              1,465,919
                              
                              
                              
                              443,000
                              
                              
                              
                              2,027,245Total
      cost of revenues
                              
                              
                              179,818
                              
                              
                              
                              1,619,483
                              
                              
                              
                              876,419
                              
                              
                              
                              2,500,476Gross
      profit
                              
                              
                              104,352
                              
                              
                              
                              2,286,550
                              
                              
                              
                              1,143,048
                              
                              
                              
                              3,557,714Operating
      expenses:Selling
      and administrative
                              
                              
                              558,600
                              
                              
                              
                              576,997
                              
                              
                              
                              1,386,013
                              
                              
                              
                              1,743,389Research
      and related expenditures
                              
                              
                              130,163
                              
                              
                              
                              111,922
                              
                              
                              
                              336,493
                              
                              
                              
                              387,672Total
      operating expenses
                              
                              
                              688,763
                              
                              
                              
                              688,919
                              
                              
                              
                              1,722,506
                              
                              
                              
                              2,131,061Operating
      income (loss)
                              
                              
                              (584,411
                              )
                              
                              
                              1,597,631
                              
                              
                              
                              (579,458
                              )
                              
                              
                              1,426,653Other
      income (expense):Interest
      expense
                              
                              
                              (1,265
                              )
                              
                              
                              (38,717
                              )
                              
                              
                              (17,099
                              )
                              
                              
                              (129,425
                              )Other
      income (expense) - net
                              
                              
                              32,891
                              
                              
                              
                              (11,119
                              )
                              
                              
                              29,332
                              
                              
                              
                              (183,473
                              )Other
      income (expense)
                              
                              
                              31,626
                              
                              
                              
                              (49,836
                              )
                              
                              
                              12,233
                              
                              
                              
                              (312,898
                              )Income
      (loss) before income taxes
                              
                              
                              (552,785
                              )
                              
                              
                              1,547,795
                              
                              
                              
                              (567,225
                              )
                              
                              
                              1,113,755Income
      tax benefit (provision)
                              
                              
                              237,500
                              
                              
                              
                              -
                              
                              
                              
                              31,250
                              
                              
                              
                              (264,000
                              )Income
      (loss) for the period
                              
                              
                              (315,285
                              )
                              
                              
                              1,547,795
                              
                              
                              
                              (535,975
                              )
                              
                              
                              849,755Accrued
      and deemed dividends on preferred stock
                              
                              
                              (45,387
                              )
                              
                              
                              (43,284
                              )
                              
                              
                              (144,088
                              )
                              
                              
                              (87,978
                              )Income
      (loss) attributable to common stockholders
                              
                              
                              (360,672
                              )
                              
                              
                              1,504,511
                              
                              
                              
                              (680,063
                              )
                              
                              
                              761,777Income
      (loss) per common share - basic and diluted
                              
                              
                              (0.00
                              )
                              
                              
                              0.01
                              
                              
                              
                              (0.00
                              )
                              
                              
                              0.00Weighted
      average common shares outstandingBasic
                              
                              
                              286,625,653
                              
                              
                              
                              279,143,996
                              
                              
                              
                              284,520,917
                              
                              
                              
                              276,916,733Diluted
                              
                              
                              286,625,653
                              
                              
                              
                              281,454,506
                              
                              
                              
                              284,520,917
                              
                              
                              
                              277,912,376
 
 See notes
to interim consolidated financial statements
  4
 
 e.Digital Corporation and subsidiary
 
 CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS
 [See
Note 1 - Nature of Operations and Basis of Presentation]
 
 For
      the nine months endedDecember
      31,2009
                          
                          
                          2008$
                          
                          
                          $OPERATING
      ACTIVITIESIncome
      (loss) for the period
                          
                          
                          (535,975
                          )
                          
                          
                          849,755Adjustments
      to reconcile income (loss) to net cash used in operating
      activities:Depreciation
      and amortization
                          
                          
                          13,781
                          
                          
                          
                          12,175Accretion
      related to promissory notes
                          
                          
                          6,141
                          
                          
                          
                          32,632Warrant
      modification and warrant derivative revaluation
                          
                          
                          -
                          
                          
                          
                          174,667Interest
      paid with common stock
                          
                          
                          10,631
                          
                          
                          
                          29,500Warranty
      provision
                          
                          
                          9,502
                          
                          
                          
                          (41,615
                          )Stock-based
      compensation
                          
                          
                          147,663
                          
                          
                          
                          31,526Changes
      in assets and liabilities:Accounts
      receivable
                          
                          
                          (118,885
                          )
                          
                          
                          (1,963,060
                          )Inventory
                          
                          
                          90,065
                          
                          
                          
                          (26,796
                          )Deposits
      and prepaid expenses
                          
                          
                          6,656
                          
                          
                          
                          2,959Accounts
      payable, trade
                          
                          
                          (101,943
                          )
                          
                          
                          (262,760
                          )Accrued
      and other liabilities
                          
                          
                          (217,665
                          )
                          
                          
                          758,251Accrued
      employee benefits
                          
                          
                          (22,105
                          )
                          
                          
                          (44,634
                          )Accrued
      income taxes
                          
                          
                          (157,500
                          )
                          
                          
                          -Warranty
      reserve
                          
                          
                          (18,298
                          )
                          
                          
                          (43,072
                          )Deferred
      revenue
                          
                          
                          (38,015
                          )
                          
                          
                          (7,547
                          )Cash
      used in operating activities
                          
                          
                          (925,947
                          )
                          
                          
                          (498,019
                          )INVESTING
      ACTIVITIESPurchase
      of equipment
                          
                          
                          (1,211
                          )
                          
                          
                          -Cash
      used in investing activities
                          
                          
                          (1,211
                          )
                          
                          
                          -FINANCING
      ACTIVITIESProceeds
      from sale of common stock
                          
                          
                          -
                          
                          
                          
                          580,000Proceeds
      from sale of preferred stock
                          
                          
                          -
                          
                          
                          
                          700,000Payment
      on convertible term note
                          
                          
                          (47,865
                          )
                          
                          
                          (51,357
                          )Payments
      on secured promissory note
                          
                          
                          -
                          
                          
                          
                          (150,000
                          )Proceeds
      from unsecured promissory note
                          
                          
                          -
                          
                          
                          
                          40,000Cash
      (used in) provided by financing activities
                          
                          
                          (47,865
                          )
                          
                          
                          1,118,643Net
      increase (decrease) in cash and cash equivalents
                          
                          
                          (975,023
                          )
                          
                          
                          620,624Cash
      and cash equivalents, beginning of period
                          
                          
                          3,813,990
                          
                          
                          
                          122,116Cash
      and cash equivalents, end of period
                          
                          
                          2,838,967
                          
                          
                          
                          742,740Supplemental
      disclosures of cash flow information:Cash
      paid for interest
                          
                          
                          327
                          
                          
                          
                          64,893Cash
      paid for taxes
                          
                          
                          368,750
                          
                          
                          
                          264,000Supplemental
      schedule of noncash investing and financing activities:Common
      stock issued on conversion of preferred stock
                          
                          
                          212,083
                          
                          
                          
                          -Accounts
      payable exchanged for preferred stock
                          
                          
                          -
                          
                          
                          
                          50,000Accrued
      and deemed dividends on preferred stock
                          
                          
                          144,088
                          
                          
                          
                          87,978Term
      note payments paid in common stock
                          
                          
                          350,000
                          
                          
                          
                          230,000Financing
      fees paid in common stock
                          
                          
                          -
                          
                          
                          
                          9,800Warrant
      derivative liability reclassified to equity
                          
                          
                          -
                          
                          
                          
                          132,315
 
 See
accompanying notes to 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 has innovated a proprietary secure digital video/audio technology
platform ("DVAP") and markets the eVUTM mobile entertainment device for the
travel and recreational industries. The Company also obtains revenue from
licensing 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, 2009, 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 three and nine months ended December 31, 2009 are not
necessarily indicative of the results that may be expected for the fiscal year
ending March 31, 2010. For further information, refer to the Company's
consolidated financial statements and footnotes thereto for the year ended March
31, 2009 filed on Form 10-K.





Going
Concern


Until the
fiscal year ended March 31, 2009 (fiscal 2009), the Company incurred significant
losses and negative cash flow from operations and has an accumulated deficit of
$79,683,577 at December 31, 2009. The Company’s profitability for the prior year
resulted from one-time patent licensing revenues and there is no assurance of
future licensing revenues from new licensees. Accordingly, 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 three and nine
months ended December 31, 2009, 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, 2009, that are of significance, or potential
significance to the Company.





Adopted
Accounting Pronouncements




Effective
July 1, 2009, the Company adopted The “FASB Accounting Standards
Codification” and the Hierarchy of Generally Accepted Accounting Principles(ASC 105). This standard establishes only two levels of U.S. generally
acceptedaccounting principles
(“GAAP”), authoritative and nonauthoritative. The Financial Accounting
Standards Board (“FASB”) Accounting Standards Codification (the“Codification” or
“ASC”) became the source of authoritative, nongovernmental GAAP, except for
rules and interpretive releases of theSEC, which are sources
of authoritative GAAP for SEC registrants. All other non-grandfathered, non-SEC
accounting literaturenot included in the
Codification became nonauthoritative. The Company began using the new guidelines
and numbering systemprescribed by the
Codification when referring to GAAP in the second quarter of fiscal 2010. As the
Codification was not intendedto change or alter
existing GAAP, it did not have any impact on the Company’s consolidated
financial statements.





6





Effective
April 1, 2009, the Company adopted three accounting standard updates that were
intended to provide additional application guidance and enhanced disclosures
regarding fair value measurements and impairments of securities established in
ASC 820, Fair Value
Measurements and Disclosures. They also provide additional guidelines for
estimating fair value in accordance with fair value accounting. The first
update, as codified in ASC 820-10-65, provides additional guidelines for
estimating fair value in accordance with fair value accounting. The second
accounting update, as codified in ASC 320-10-65, changes accounting requirements
for other-than-temporary-impairment for debt securities by replacing the current
requirement that a holder have the positive intent and ability to hold an
impaired security to recovery in order to conclude an impairment was temporary
with a requirement that an entity conclude it does not intend to sell an
impaired security and it will not be required to sell the security before the
recovery of its amortized cost basis. The third accounting update, as codified
in ASC 825-10-65, increases the frequency of fair value disclosures. These
updates were effective for fiscal years and interim periods ended after June 15,
2009. The adoption of these accounting updates did not have any impact on the
Company’s consolidated financial statements.





In February 2008, the FASB
issued an accounting standard update that delayed the effective date of fair
value measurements accounting for all non-financial assets and non-financial
liabilities, except for items that are recognized or disclosed at fair value in
the financial statements on a recurring basis (at least annually), until the
beginning of thefirst quarter of fiscal 2010. These include goodwill and
other non-amortizable intangible assets. The Company adopted this accounting
standard update effective April 1, 2009 and elected not to adopt the option
available under ASC 825-10-10 to measure any of its other eligible financial
instruments or other items at fair value. Accordingly, the Company continues to
measure all of its assets and liabilities on the historical cost basis of
accounting except as required under generally accepted accounting
principles.





Effective
April 1, 2009, the Company adopted a new accounting standard for subsequent
events, as codified in ASC 855-10. The update modifies the names of the two
types of subsequent events either as recognized subsequent events (previously
referred to in practice as Type I subsequent events) or non-recognized
subsequent events (previously referred to in practice as Type II subsequent
events). In addition, the standard modifies the definition of subsequent events
to refer to events or transactions that occur after the balance sheet date, but
before the financial statements are issued (for public entities) or available to
be issued (for nonpublic entities). It also requires the disclosure of the date
through which subsequent events have been evaluated. The update did not result
in significant changes in the practice of subsequent event disclosures, and
therefore the adoption did not have any impact on the Company’s consolidated
financial statements.





Effective
April 1, 2009, the Company adopted a new accounting standard update regarding
business combinations. As codified under ASC 805 the update requires the
acquisition method to be applied to all transactions and other events in which
an entity obtains control over one or more other businesses, requires the
acquirer to recognize the fair value of all assets and liabilities acquired,
even if less than one hundred percent ownership is acquired, and establishes the
acquisition date fair value as measurement date for all assets and liabilities
assumed. For the Company, this accounting update was effective on a prospective
basis for all business combinations for which the acquisition date is on or
after April 1, 2009. Since the Company is not
contemplating any business combinations it does not presently expect any impact
of adoption on its consolidated financial statements.





ASC 810,
Consolidation(“ASC
810”), ASC 810-10-65, Transition and Open Effective Date
Information(“ASC 810-10-65”)
establishes accounting and reporting standards for the non-controlling interest
in a subsidiary and for the deconsolidation of a subsidiary. It clarifies that a
non-controlling interest in a subsidiary is an ownership interest in the
consolidated financial statements. ASC 810-10-65 is effective for our fiscal
years beginning after December 15, 2008.


The
provisions of are applied prospectively upon adoption except for the
presentation and disclosure requirements that are applied retrospectively. The
Company has no non-controlling interests and accordingly the adoption on April
1, 2009 did not have a material impact on the Company’s consolidated financial
statements.





ASC 815,
Derivatives and Hedging(“ASC 815”) and ASC 815-10-65, Transition and Open Effective Date
Information (“ASC
815-10-65”) includes a requirement for enhanced disclosures about an entity’s
derivative and hedging activities. ASC 815 is effective prospectively for fiscal
years beginning after November 15, 2008. The Company currently has
no derivatives or hedging activities and theadoptionon April 1, 2009did not have
a material impact on the Company’s consolidated financial
statements.


7





ASC
808, Collaborative
Arrangements provides guidance for income statement presentation,
classification, and disclosures related to collaborative arrangements. The
arrangements generally provide that the collaborators will share, based on
contractually defined calculations, the profits or losses from the associated
activities. Periodically, the collaborators share financial information related
to product revenues generated (if any) and costs incurred that may trigger a
sharing payment for the combined profits or losses. The guidance requires
collaborators in such an arrangement to present the result of activities for
which they act as the principal on a gross basis and report any payments
received from (made to) other collaborators based on other applicable GAAP or,
in the absence of other applicable GAAP, based on analogy to authoritative
accounting literature or a reasonable, rational, and consistently applied
accounting policy election. ASC 808 is effective for collaborative arrangements
in place at the beginning of the annual period beginning after December 15,
2008. The Company does not have any such collaborative arrangements and the
adoption of ASC 808 on April 1, 2009 did not have a material impact on the
Company’s consolidated financial statements.




In June
2008, the FASB issued ASC 850-15-5, Evaluating Whether an Instrument
Involving a Contingency Is Considered Indexed to an Entity's Own
Stock.  ASC 850-15-5 requires entities to evaluate whether an
equity-linked financial instrument (or embedded feature) is indexed to its own
stock by assessing the instrument’s contingent exercise provisions and
settlement provisions.  Instruments not indexed to their own stock
fail to meet the first part of the scope exception in ASC 815-10-15-74(a), and
should be classified as a liability and marked-to-market.  The
statement is effective for fiscal years beginning after December 15, 2008 and is
to be applied to outstanding instruments upon adoption with the cumulative
effect of the change in accounting principle recognized as an adjustment to the
opening balance of retained earnings.  The Company evaluated its
various convertible securities and determined that no change in accounting was
required related to this pronouncement at April 1, 2009 or for the period ended
December 31, 2009.





New
Accounting Pronouncements


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 is
currently assessing the future impact of this new accounting update to its
consolidated financial statements.





3.
INCOME (LOSS) PER SHARE


Basic
earnings (loss) per common share is computed by dividing income (loss)
attributable to common shareholders by the weighted-average number of shares of
common stock outstanding during the period. The income attributable to common
stockholders was reduced by and the loss to common stockholders increased by
accrued and deemed dividends on preferred stock during the three and nine months
ended December 31, 2009 of $45,387 and $144,088, respectively (three and nine
months ended December 31, 2008 by $43,283 and $87,978, respectively). Diluted
earnings per common share is computed by dividing income (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 convertible preferred stock, stock options, warrants and convertible
debt. The dilutive effect of potentially dilutive securities is reflected in
diluted earnings per share by application of the treasury stock method. Under
the treasury stock method, an increase in the fair market value of the Company’s
common stock can result in a greater dilutive effect from potentially dilutive
securities.





The
following table sets forth the computation of basic and diluted earnings per
share:


8





Three
      Months Ended
                  
                  
                  Nine
      Months EndedDecember 31,
                  
                  
                  December 31,2009
                  
                  
                  2008
                  
                  
                  2009
                  
                  
                  2008BasicIncome
      (loss) attributable to common stockholders
                  
                  $
                  (360,672
                  )
                  
                  $
                  1,504,511
                  
                  
                  $
                  (680,063
                  )
                  
                  $
                  761,777Weighted
      average common shares outstanding (basic)
                  
                  
                  286,625,653
                  
                  
                  
                  279,143,996
                  
                  
                  
                  284,520,917
                  
                  
                  
                  276,916,733Basic
      income (loss) per common share
                  
                  $
                  (0.00
                  )
                  
                  $
                  0.01
                  
                  
                  $
                  (0.00
                  )
                  
                  $
                  0.00DilutedIncome
      (loss) attributable to common stockholders
                  
                  $
                  (360,672
                  )
                  
                  $
                  1,504,511
                  
                  
                  $
                  (680,063
                  )
                  
                  $
                  761,777Plus:Accrued
      and deemed dividends on preferred stock (1)
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Income
      (loss) for diluted
                  
                  $
                  (360,672
                  )
                  
                  $
                  1,504,511
                  
                  
                  $
                  (680,063
                  )
                  
                  $
                  761,777Common
      and potential common shares:Weighted
      average common shares outstanding
                  
                  
                  286,625,653
                  
                  
                  
                  279,143,996
                  
                  
                  
                  284,520,917
                  
                  
                  
                  276,916,733Assumed
      exercise of options and warrants
                  
                  
                  -
                  
                  
                  
                  2,310,510
                  
                  
                  
                  -
                  
                  
                  
                  995,643Common
      and potential common shares (1)
                  
                  
                  286,625,653
                  
                  
                  
                  281,454,506
                  
                  
                  
                  284,520,917
                  
                  
                  
                  277,912,376Diluted
      income (loss) per common share
                  
                  $
                  (0.00
                  )
                  
                  $
                  0.01
                  
                  
                  $
                  (0.00
                  )
                  
                  $
                  0.00Potentially
      dilutive securities outstanding at period end excluded from diluted
      computation as they were antidilutive
                  
                  
                  22,281,390
                  
                  
                  
                  18,597,387
                  
                  
                  
                  22,281,390
                  
                  
                  
                  18,897,387




(1)
The convertible preferred stock and convertible term note were antidilutive for
the respective 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 31,2009
                              
                              
                              2009$
                              
                              
                              $Raw
      materials
                              
                              
                              129,225
                              
                              
                              
                              140,544Work
      in process
                              
                              
                              25,636
                              
                              
                              
                              28,335Finished goods
                              
                              
                              272,237
                              
                              
                              
                              348,284427,098
                              
                              
                              
                              517,163





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 718requires 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
      MonthsEnded
                          
                          
                          Nine
      MonthsEndedDecember 31,
                          
                          
                          December 31,2009
                          
                          
                          2008
                          
                          
                          2009
                          
                          
                          2008$
                          
                          
                          $
                          
                          
                          $
                          
                          
                          $Research
      and development
                          
                          
                          19,446
                          
                          
                          
                          8,918
                          
                          
                          
                          20,483
                          
                          
                          
                          8,918Selling and administrative
                          
                          
                          109,891
                          
                          
                          
                          (731
                          )
                          
                          
                          127,180
                          
                          
                          
                          31,526Total stock-based compensation
      expense
                          
                          
                          129,337
                          
                          
                          
                          8,187
                          
                          
                          
                          147,663
                          
                          
                          
                          40,444





As of
December 31, 2009 total estimated compensation cost of stock options granted but
not yet vested was $37,147 and is expected to be recognized over the weighted
average period of 1.3 years.


9





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, 2009 and 2008 (annualized percentages).





Nine
      Months EndedDecember
      31,2009
                        
                        
                        2008Volatility
                        
                        
                        77
                        %
                        
                        
                        71
                        %Risk-free
      interest rate
                        
                        
                        0.95
                        %
                        
                        
                        2.3
                        %Forfeiture
      rate
                        
                        
                        0.0%-0.5
                        %
                        
                        
                        0.0
                        %Dividend
      yield
                        
                        
                        0.0
                        %
                        
                        
                        0.0
                        %Expected
      life in years
                        
                        
                        2.2
                        
                        
                        
                        3.5Weighted-average
      fair value of options granted
                        
                        $
                        0.06
                        
                        
                        $
                        0.05





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 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 each option group. 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.





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 31,2009
                                  
                                  
                                  2008
                                  
                                  
                                  2009
                                  
                                  
                                  2008$
                                  
                                  
                                  $
                                  
                                  
                                  $
                                  
                                  
                                  $Beginning
      balance
                                  
                                  
                                  5,359
                                  
                                  
                                  
                                  33,875
                                  
                                  
                                  
                                  14,155
                                  
                                  
                                  
                                  109,138Warranty
      provision
                                  
                                  
                                  1,036
                                  
                                  
                                  
                                  (7,472
                                  )
                                  
                                  
                                  9,502
                                  
                                  
                                  
                                  (43,072
                                  )Warranty deductions
                                  
                                  
                                  (1,036
                                  )
                                  
                                  
                                  (1,952
                                  )
                                  
                                  
                                  (18,298
                                  )
                                  
                                  
                                  (41,615
                                  )Ending balance
                                  
                                  
                                  5,359
                                  
                                  
                                  
                                  24,451
                                  
                                  
                                  
                                  5,359
                                  
                                  
                                  
                                  24,451




7.
STOCKHOLDERS’ EQUITY


The
following table summarizes stockholders’ equity transactions during the
nine-month period ended December 31, 2009:





Preferred stock
                            
                            
                            Common stock
                            
                            
                            Additional
                            
                            
                            AccumulatedAmount
                            
                            
                            Shares
                            
                            
                            Amount
                            
                            
                            paid-incapital
                            
                            
                            deficit
                            
                            
                            TotalBalance, April 1, 2009
                            
                            
                            610,774
                            
                            
                            
                            282,124,564
                            
                            
                            
                            282,125
                            
                            
                            
                            81,534,566
                            
                            
                            
                            (79,147,602
                            )
                            
                            
                            3,279,863Dividends
      on Series AA preferred stock
                            
                            
                            25,212
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            (25,212
                            )
                            
                            
                            -
                            
                            
                            
                            -Accretion
      of discount on Series AA preferred stock
                            
                            
                            118,876
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            (118,876
                            )
                            
                            
                            -
                            
                            
                            
                            -Conversion
      of Series AA preferred stock
                            
                            
                            (212,083
                            )
                            
                            
                            2,120,821
                            
                            
                            
                            2,121
                            
                            
                            
                            209,962
                            
                            
                            
                            -
                            
                            
                            
                            -Shares
      issued for term debt payments
                            
                            
                            -
                            
                            
                            
                            2,705,515
                            
                            
                            
                            2,705
                            
                            
                            
                            347,295
                            
                            
                            
                            -
                            
                            
                            
                            350,000Stock-based
      compensation
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            147,663
                            
                            
                            
                            -
                            
                            
                            
                            147,663Loss
      and comprehensive loss
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            (535,975
                            )
                            
                            
                            (535,975
                            )Balance,
      December 31, 2009
                            
                            
                            542,779
                            
                            
                            
                            286,950,900
                            
                            
                            
                            286,951
                            
                            
                            
                            82,095,398
                            
                            
                            
                            (79,683,577
                            )
                            
                            
                            3,241,551




10





Options


The
following table summarizes stock option activity for the period:





Weighted average
                            
                            
                            AggregateShares
                            
                            
                            exercise price
                            
                            
                            Intrinsic Value#
                            
                            
                            $
                            
                            
                            $Outstanding
      April 1, 2009
                            
                            
                            8,050,500
                            
                            
                            
                            0.16Granted
                            
                            
                            2,330,000
                            
                            
                            
                            0.15Exercised
                            
                            
                            -Canceled/expired
                            
                            
                            (1,515,000
                            )
                            
                            
                            0.22Outstanding December 31,
    2009
                            
                            
                            8,865,500
                            
                            
                            
                            0.15
                            
                            
                            
                            111,000Exercisable at December 31,
      2009
                            
                            
                            7,369,665
                            
                            
                            
                            0.15
                            
                            
                            
                            60,000





(1)
            Options
      outstanding are exercisable at prices ranging from $0.11 to $0.23 and
      expire over the period from 2010 to
2013.


(2)
            Aggregate
      intrinsic value is based on the closing price of our common stock on
      December 31, 2009 of $0.155 and excludes the impact of options that were
      not in-the-money.





Share
warrants


The
following table summarizes information on warrant activity during the nine
months ended December 31, 2009:





Number
                            
                            
                            Average Purchase
                              Price Per Share $Shares purchasable under outstanding warrants at
      April 1, 2009
                            
                            
                            9,831,572
                            
                            
                            
                            0.11Stock
      purchase warrants exercised
                            
                            
                            -Stock purchase warrants
    expired
                            
                            
                            (2,331,572
                            )
                            
                            
                            0.15Shares purchasable under outstanding warrants at
      December 31, 2009
                            
                            
                            7,500,000
                            
                            
                            
                            0.10




The
Company has outstanding share warrants as of December 31, 2009, as
follows:





Number of
                        
                        
                        Exercise PriceDescription
                        
                        Common Shares
                        
                        
                        PerShare $
                        
                        ExpirationDateWarrants
                        
                        
                        7,500,000
                        
                        
                        
                        0.10
                        
                        June 30,
2011





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 are 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
Series AA Stock has voting rights of ten votes per share and a liquidation
preference equal to $10.00 per share plus accrued and unpaid dividends. The
stated value plus accrued dividends on Series AA Stock is convertible into
common stock at $0.10 per common share with automatic conversion on June 30,
2010 subject to certain limitations. The Company may call the Series AA Stock
for conversion if the common stock market price is at least $0.25 per share for
ten consecutive trading days.





During
the nine months ended December 31, 2009 the Company issued 2,120,821 shares of
common stock upon the conversion of 20,000 shares of Series AA Stock and
accordingly 55,000 shares of Series AA Stock were outstanding at December 31,
2009.


11





9.
FAIR VALUE MEASUREMENTS


The
carrying amounts of cash and cash equivalents, accounts receivables, accounts
payable, accrued liabilities and convertible term debt approximate their fair
values due to the short-term maturities of these instruments.





On April
1, 2008, the Company adopted ASC 820, Fair Value Measurements and
Disclosures that defines fair value, establishes a framework for
measuring fair value in generally accepted accounting principles, and expands
disclosures about fair value measurements. ASC 820 does not require any new fair
value measurements, but provides guidance on how to measure fair value by
providing a fair value hierarchy used to classify the source of the
information.





ASC 820
establishes a three-level valuation hierarchy of valuation techniques that is
based on observable and unobservable inputs. Classification within the hierarchy
is determined based on the lowest level of input that is significant to the fair
value measurement. The first two inputs are considered observable and the last
unobservable, that may be used to measure fair value and include the
following:


Level 1
- Quoted prices in active markets for identical assets or
liabilities.


Level 2
- Inputs other than Level 1 that are observable, either directly or
indirectly, such as quoted prices for similar assets or liabilities; quoted
prices in markets that are not active; or other inputs that are observable or
can be corroborated by observable market data for substantially the full term of
the assets or liabilities.


Level 3
- Unobservable inputs that are supported by little or no market activity and
that are significant to the fair value of the assets or
liabilities.




As of
December 31, 2009, the Company held certain assets and liabilities that are
required to be measured at fair value on a recurring basis, including its cash
and cash equivalents. The fair value of these assets and liabilities was
determined using the following inputs in accordance with ASC 820 at December 31,
2009:





Fair Value Measurement as of December 31,
      2009Total
                      
                      
                      Level
      1
                      
                      
                      Level
      2
                      
                      
                      Level
      3Description
                      
                      $
                      
                      
                      $
                      
                      
                      $
                      
                      
                      $Cash and cash equivalents
    (1)
                      
                      
                      2,838,967
                      
                      
                      
                      2,838,967
                      
                      
                      
                      -
                      
                      
                      
                      -





(1)
            Included
      in cash and cash equivalents on the accompanying consolidated balance
      sheet.





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.


12





Our
reportable segment information for the three and nine months ended December 31,
2009 and 2008 is as follows:





For
      the three months ended
                    
                    
                    For
      the nine months endedDecember
      31,
                    
                    
                    December
      31,2009
                    
                    
                    2008
                    
                    
                    2009
                    
                    
                    2008$
                    
                    
                    $
                    
                    
                    $
                    
                    
                    $REVENUES:Products
      and services
                    
                    
                    284,170
                    
                    
                    
                    256,033
                    
                    
                    
                    769,467
                    
                    
                    
                    808,190Patent
      licensing
                    
                    
                    -
                    
                    
                    
                    3,650,000
                    
                    
                    
                    1,250,000
                    
                    
                    
                    5,250,000Total
      revenue
                    
                    
                    284,170
                    
                    
                    
                    3,906,033
                    
                    
                    
                    2,019,467
                    
                    
                    
                    6,058,190GROSS
      PROFIT:Products
      and services
                    
                    
                    104,352
                    
                    
                    
                    102,469
                    
                    
                    
                    336,048
                    
                    
                    
                    334,959Patent
      licensing
                    
                    
                    -
                    
                    
                    
                    2,184,081
                    
                    
                    
                    807,000
                    
                    
                    
                    3,222,755Total
      gross profit
                    
                    
                    104,352
                    
                    
                    
                    2,286,550
                    
                    
                    
                    1,143,048
                    
                    
                    
                    3,557,714RECONCILIATION:Total
      segment gross profit
                    
                    
                    104,352
                    
                    
                    
                    2,286,550
                    
                    
                    
                    1,143,048
                    
                    
                    
                    3,557,714Operating
      expenses
                    
                    
                    (688,763
                    )
                    
                    
                    (688,919
                    )
                    
                    
                    (1,722,506
                    )
                    
                    
                    (2,131,061
                    )Other
      income (expense)
                    
                    
                    31,626
                    
                    
                    
                    (49,836
                    )
                    
                    
                    12,233
                    
                    
                    
                    (312,898
                    )Income
      (loss) before income taxes
                    
                    
                    (552,785
                    )
                    
                    
                    1,547,795
                    
                    
                    
                    (567,225
                    )
                    
                    
                    1,113,755




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
      31,2009
                  
                  2008
                  
                  2009
                  
                  2008$
                  
                  
                  $
                  
                  
                  $
                  
                  
                  $United
      States
                  
                  
                  77,600
                  
                  
                  
                  3,650,000
                  
                  
                  
                  1,327,600
                  
                  
                  
                  5,250,000International
                  
                  
                  206,570
                  
                  
                  
                  256,033
                  
                  
                  
                  691,867
                  
                  
                  
                  808,190Total
      revenue
                  
                  
                  284,170
                  
                  
                  
                  3,906,033
                  
                  
                  
                  2,019,467
                  
                  
                  
                  6,058,190





Revenues
from two customers comprised 61% and 13% of revenue for the nine months ended
December 31, 2009. Revenues from three customers comprised 33%, 27% and 26% of
revenue for the nine months ended December 31, 2008. Accounts receivable from
four customers comprised 23%, 20%, 20% and 11% of net accounts receivable at
December 31, 2009 and one customer accounted for 95% of net accounts receivable
at December 31, 2008.





11.
COMMITMENTS AND CONTINGENCIES





Legal
Matters





Business
Litigation


On
November 13, 2009 the Company entered into a settlement agreement ending certain
litigation with digEcor, Inc.
(“digEcor”)agreeing
to waive any right to appeal prior Court’s rulings and orders in favor of the
Company and the Company withdrawing its applications for costs of suit. The
agreement also reduced and settled the judgment (related to batteries) to
$60,000 from $80,000 that the Company had previously accrued resulting in
$20,000 of other income. The agreement included standard mutual release of
claims and covenants not to sue.


13





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.





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.





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
corporateevents 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. 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, 2009 the Company had outstanding unfilled purchase orders and was
committed to a contract manufacturer and component suppliers for approximately
$108,000 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 an aggregate payment of $6,344 per
month excluding utilities and costs. The aggregate payments adjust annually with
maximum aggregate payments totaling $6,535 in the fifty-first through the
sixty-second month. Future lease commitments aggregated $122,819 at December 31,
2009.





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, 2009 had substantially all of its cash and cash
equivalents at one financial institution in a non-interest bearing account.
Effective October 14, 2008, Federal Deposit Insurance Corporation deposit
insurance was changed to provide full deposit insurance coverage for
non-interest bearing deposit transaction accounts through December 31,
2009.





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.


14





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 currently
relies on one legal firm to represent it in patent licensing
matters.





12.
INCOME TAXES


During the nine months
ended December 31, 2009 the Company recorded a tax benefit of $31,250 which
included a refund of prior taxes paid offset by foreign taxes paid during the
period for which a credit (a deferred tax asset) may be allowable against future
United States taxes subject to certain limitations.At December 31, 2009,
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. In spite of state NOLs the
Company may be subject to California state taxes during fiscal 2010 if it
generates sufficient taxable income due to the California suspension of the net
operating loss (“NOL”) carryforwards for the 2008 and 2009 tax
years.





When, and
if, the Company can sustain consistent profitability, and management determines
that it is likely it will be able to utilize the net operating losses and/or tax
credits prior to their expiration, then the valuation allowance can be reduced
or eliminated.





13.
SUBSEQUENT EVENTS




The
subsequent events have been evaluated through February 11, 2010, which was the
date the Financial Statements were issued.


15


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 AND UNDER THE SUB-HEADING,
"BUSINESS RISKS." SEE ALSO THE COMPANY'S ANNUAL REPORT ON FORM 10-K FOR THE YEAR
ENDED MARCH 31, 2009.





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
have innovated a proprietary secure digital video/audio technology platform
(“DVAP”) and market our eVUTM mobile entertainment device for the travel and
recreational industries. We also own and are licensing our Flash-RTM portfolio of
patents related to the use of flash memory in portable devices.





Our
strategy is to market our eVU products and services to a growing base of U.S.
and international companies for use in the airline, healthcare, 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 who we
believe may be infringing our patents. The international law firm of Duane
Morris LLP is handling our patent enforcement matters on a contingent fee basis.
In September 2007 and March 2008 we filed a first tranche of patent infringement
litigation against eight defendants. In September 2008 we recorded our first
patent license revenue and by September 30, 2009 we had licensed and settled the
litigation with seven of the defendants and suspended the complaint against one
defendant currently in bankruptcy. In November 2009 we filed a new patent
infringement complaint against nineteen additional companies that
manufacture devices using flash memory. In December 2009 we licensed and settled
with one defendant that agreed to make a lump sum payment in November 2010 for
past infringing sales through December 31, 2009 and to pay an annual royalty for
any on-going sales that practice our U.S. Patent 5,491,774, until its
expiration.





We
believe the successful licensing of all seven active manufacturers from our
first round of patent enforcement actions evidences strength of our fundamental
intellectual property. While we expect additional patent license revenues from
the manufacturers in the new complaint and from others in future periods, there
can be no assurance of the timing or amounts of any related license
revenue. A number of factors, many outside our control, affect the amount
of each licensing arrangement and the timing of when parties elect to license
our intellectual property. These factors include the number and nature of
infringing products, estimates of past and future infringement, importance of
the infringing technology to the total product, the legal environment
surrounding a particular case, estimates of the cost, time and complexity of
litigation through trial and possible appeals as well as other
factors.





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.


16





Overall
Performance and Trends


Until the
fiscal year ended March 31, 2009 (fiscal 2009), we incurred significant losses
and negative cash flow from operations. Our fiscal 2009 profitability resulted
from one-time patent licensing revenues and there is no assurance of future
licensing revenues from new licensees. Accordingly, we could 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.





eVU sales
activity has been slow due to airline industry economics and industry credit
concerns resulting in airlines curtailing expansion and new projects. We are
aggressively pursuing new business but our results will be dependent on the
timing and quantity of eVU orders and any future patent licenses. We seek to
expand and diversify our customer base both in the in-flight
entertainment (“IFE”) space and other markets. 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.





For the
nine months ended December 31, 2009 we recognized a net loss before income taxes
of $567,225 compared to a net income before income taxes of $1,113,755 for the
comparable period of the prior fiscal year. Our revenues were $2.0 million for
the first nine months of fiscal 2010 including $1.25 million of patent license
revenue. This compares to $6.1 million for the prior year’s first nine
months including $5.25 million of patent license revenue. We reported reduced
operating expenses of $1.7 million in the nine months ended December 31, 2009
compared to $2.1 million in the comparable period prior primarily due to reduced
staffing and reduced legal 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. 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 expect
our operating costs to be lower for the balance of fiscal 2010 compared to the
prior year. Our monthly cash operating costs average approximately $150,000 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.





Critical
Accounting Policies


We have
identified a number of accounting policies as critical to our business
operations and the understanding of our results of operations. These are
described in 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, 2009. The impact and any associated risks related
to these policies on our business operations is discussed throughout
Management’s Discussion and Analysis of Financial Condition and Results of
Operations when such policies affect our reported and expected financial
results.





The
methods, estimates and judgments we use in applying our accounting policies, in
conformity with generally accepted accounting principles in the United States,
have a significant impact on the results we report in our financial statements.
We base our estimates on historical experience and on various other assumptions
that we believe to be reasonable under the circumstances. The estimates affect
the carrying values of assets and liabilities. Actual results may differ from
these estimates under different assumptions or conditions.





Our
previous patent licenses have been one time fully paid up license agreements and
the accounting policy for such agreements is detailed in the notes to our
consolidated financial statements included in our Annual Report on Form 10-K for
the year ended March 31, 2009. In December 2009 we entered into our first
on-going royalty bearing license agreement. We recognize revenue from on-going
royalty patent license agreements when all revenue recognition criteria have
been met: (i) the patent license agreement is executed, (ii) the amounts due are
fixed, determinable, and billable, (iii) the customer has been provided rights
to the licensed technology and (iv) collection of the resulting receivable, if
any, is probable. We generally recognize on-going royalties as amounts are
reported, verified and collection is probable. We recorded no revenue from this
first license as no amounts have yet been reported pursuant to the terms of the
license agreement.


17


Results
of Operations
 
 Three months ended December
31, 2009 compared to the three months ended December 31,
2008
 
 Three
      Months Ended December 31,2009
                              
                              
                              
                              
                              
                              2008%
      of
                              
                              
                              
                              
                              
                              %
      of
                              
                              
                              ChangeDollars
                              
                              
                              Revenue
                              
                              
                              Dollars
                              
                              
                              Revenue
                              
                              
                              Dollars
                              
                              
                              %Revenues:Products
                              
                              
                              106,570
                              
                              
                              
                              38
                              %
                              
                              
                              120,463
                              
                              
                              
                              3
                              %
                              
                              
                              (13,893
                              )
                              
                              
                              (12
                              )%Services
                              
                              
                              177,600
                              
                              
                              
                              62
                              %
                              
                              
                              135,570
                              
                              
                              
                              3
                              %
                              
                              
                              42,030
                              
                              
                              
                              31
                              %Patent
      license
                              
                              
                              -
                              
                              
                              
                              0
                              %
                              
                              
                              3,650,000
                              
                              
                              
                              93
                              %
                              
                              
                              (3,650,000
                              )
                              
                              
                              (100
                              )%284,170
                              
                              
                              
                              100
                              %
                              
                              
                              3,906,033
                              
                              
                              
                              100
                              %
                              
                              
                              (3,621,863
                              )
                              
                              
                              (93
                              )%Gross
      Profit:Product
      gross profit
                              
                              
                              9,940
                              
                              
                              
                              3
                              %
                              
                              
                              24,129
                              
                              
                              
                              1
                              %
                              
                              
                              (14,189
                              )
                              
                              
                              (59
                              )%Service
      gross profit
                              
                              
                              94,412
                              
                              
                              
                              33
                              %
                              
                              
                              78,340
                              
                              
                              
                              2
                              %
                              
                              
                              16,072
                              
                              
                              
                              21
                              %Patent
      license
                              
                              
                              -
                              
                              
                              
                              0
                              %
                              
                              
                              2,184,081
                              
                              
                              
                              56
                              %
                              
                              
                              (2,184,081
                              )
                              
                              
                              (100
                              )%104,352
                              
                              
                              
                              37
                              %
                              
                              
                              2,286,550
                              
                              
                              
                              59
                              %
                              
                              
                              (2,182,198
                              )
                              
                              
                              (95
                              )%Operating
      Expenses:Selling
      and administrative
                              
                              
                              558,600
                              
                              
                              
                              197
                              %
                              
                              
                              576,997
                              
                              
                              
                              15
                              %
                              
                              
                              (18,397
                              )
                              
                              
                              (3
                              )%Research
      and related
                              
                              
                              130,163
                              
                              
                              
                              46
                              %
                              
                              
                              111,922
                              
                              
                              
                              3
                              %
                              
                              
                              18,241
                              
                              
                              
                              16
                              %688,763
                              
                              
                              
                              242
                              %
                              
                              
                              688,919
                              
                              
                              
                              18
                              %
                              
                              
                              (156
                              )
                              
                              
                              (0
                              )%Other
      income (expense)
                              
                              
                              31,626
                              
                              
                              
                              11
                              %
                              
                              
                              (49,836
                              )
                              
                              
                              (1
                              )%
                              
                              
                              81,462
                              
                              
                              
                              (163
                              )%Income
      (loss) before income taxes
                              
                              
                              (552,785
                              )
                              
                              
                              (195
                              )%
                              
                              
                              1,547,795
                              
                              
                              
                              40
                              %
                              
                              
                              (2,100,580
                              )
                              
                              
                              (136
                              )%
 
 Income
(Loss) Before Income Taxes
 We
reported loss before income taxes of $552,785 for the three months ended
December 31, 2009 compared to net income before income taxes of $1,547,795 for
the comparable period of the prior year. The prior year’s third quarter included
$3,650,000 of patent license revenue and related margin while no comparable
revenue was recognized in the most recent quarter.
 
 Revenues
 Revenues
of $284,170 in the third quarter of fiscal 2010 compared to $3,906,033 for the
comparable prior period. Our most recent quarter’s
revenuesincluded $106,570 of eVU product and $177,600 of service
revenues. While the prior year’s third quarter eVU product and service revenues
were comparable, the prior year included $3,650,000 of patent license revenue.
We recently filed a complaint against nineteen 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 any future license revenue.eVU product
sales activity has been slow due to airline industry economics and industry
credit concerns resulting in airlines curtailing expansion and new projects. Our
service revenues have grown as result of prior year customer additions but as
service arrangements and terms vary with each customer 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
are pursuing new 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 2010 was $104,352 or 37% of
revenues.  The gross profit for the prior year’s third quarter was
$2,286,550 or 59% of revenues including $2,184,081 of patent licensing margin.
Gross profit margins are highly dependent on revenue mix, prices charged, volume
of orders, and for patent licensing the amounts of contingency legal fees and
costs.
  18
  Operating
Expenses
 While
selling and administrative costs for the three months ended December 31, 2009,
were comparable to the same period in the year prior there were changes in the
components. The current period included a $57,500 expense for shareholder
related costs due to the annual meeting held in the third quarter of the current
year and $109,891 of noncash stock-based compensation expense. Reduced current
period expenses included $28,000 of reduced staffing costs due to fewer
personnel and $163,000 of reduced professional fees primarily due to reduced
business litigation costs as a result of the favorable outcome of the digEcor
litigation. We expect professional fees in the fourth quarter to be less than
the prior year due to the conclusion of the digEcor business
litigation.
 
 Research
and related expenditures for the three months ended December 31, 2009 were
comparable to the prior year’s third quarter but included $19,446 of noncash
stock-based compensation expense compared to $8,918 for the prior year’s third
quarter.
 
 Other
Income (Expense)
 Net other
income of $31,626 for the third quarter of fiscal 2010 included a foreign
exchange gain of $10,391 and $20,000 of other income from a favorable litigation
settlement. Net other expenses for the third quarter of the prior year of
$49,836 included $38,717 of interest expense including $20,717 of non-cash
interest.
 
 Income
Taxes
 Income
tax benefit of $237,500 resulted primarily from foreign taxes
refunded.
 
 Income
(Loss) Attributable to Common Stockholders
 The loss
attributable to common stockholders for the most recent third quarter included
the net loss after taxes of $315,285 reduced by accrued and deemed dividends on
the Series AA Stock of $45,387 for a net loss attributable to common
stockholders of $360,672. The net income after tax for the prior comparable
third quarter was $1,547,795 decreased by accrued and deemed dividends of
$43,284 for net income attributable to common stockholders of
$1,504,511.
 
 Nine months ended December
31, 2009 compared to the nine months ended December 31, 2008
 
 Nine
      Months Ended December 31,2009
                        
                        
                        
                        
                        
                        2008%
      of
                        
                        
                        
                        
                        
                        %
      of
                        
                        
                        ChangeDollars
                        
                        
                        Revenue
                        
                        
                        Dollars
                        
                        
                        Revenue
                        
                        
                        Dollars
                        
                        
                        %Revenues:Product
      revenues
                        
                        
                        164,085
                        
                        
                        
                        8
                        %
                        
                        
                        356,444
                        
                        
                        
                        6
                        %
                        
                        
                        (192,359
                        )
                        
                        
                        (54
                        )%Service
      revenues
                        
                        
                        605,382
                        
                        
                        
                        30
                        %
                        
                        
                        451,746
                        
                        
                        
                        7
                        %
                        
                        
                        153,636
                        
                        
                        
                        34
                        %Patent
      license
                        
                        
                        1,250,000
                        
                        
                        
                        62
                        %
                        
                        
                        5,250,000
                        
                        
                        
                        87
                        %
                        
                        
                        (4,000,000
                        )
                        
                        
                        (76
                        )%2,019,467
                        
                        
                        
                        100
                        %
                        
                        
                        6,058,190
                        
                        
                        
                        100
                        %
                        
                        
                        (4,038,723
                        )
                        
                        
                        (67
                        )%Gross
      Profit:Product
      gross profit
                        
                        
                        (9,338
                        )
                        
                        
                        (0
                        )%
                        
                        
                        52,651
                        
                        
                        
                        1
                        %
                        
                        
                        (61,989
                        )
                        
                        
                        (118
                        )%Service
      gross profit
                        
                        
                        345,386
                        
                        
                        
                        17
                        %
                        
                        
                        282,308
                        
                        
                        
                        5
                        %
                        
                        
                        63,078
                        
                        
                        
                        22
                        %Patent
      license gross profit
                        
                        
                        807,000
                        
                        
                        
                        40
                        %
                        
                        
                        3,222,755
                        
                        
                        
                        53
                        %
                        
                        
                        (2,415,755
                        )
                        
                        
                        (75
                        )%1,143,048
                        
                        
                        
                        57
                        %
                        
                        
                        3,557,714
                        
                        
                        
                        59
                        %
                        
                        
                        (2,414,666
                        )
                        
                        
                        (68
                        )%Operating
      Expenses:Selling
      and administrative
                        
                        
                        1,386,013
                        
                        
                        
                        69
                        %
                        
                        
                        1,743,389
                        
                        
                        
                        29
                        %
                        
                        
                        (357,376
                        )
                        
                        
                        (20
                        )%Research
      and related
                        
                        
                        336,493
                        
                        
                        
                        17
                        %
                        
                        
                        387,672
                        
                        
                        
                        6
                        %
                        
                        
                        (51,179
                        )
                        
                        
                        (13
                        )%1,722,506
                        
                        
                        
                        85
                        %
                        
                        
                        2,131,061
                        
                        
                        
                        35
                        %
                        
                        
                        (408,555
                        )
                        
                        
                        (19
                        )%Other
      income (expense)
                        
                        
                        12,233
                        
                        
                        
                        1
                        %
                        
                        
                        (312,898
                        )
                        
                        
                        (5
                        )%
                        
                        
                        325,131
                        
                        
                        
                        (104
                        )%Income
      (loss) before income taxes
                        
                        
                        (567,225
                        )
                        
                        
                        (28
                        )%
                        
                        
                        1,113,755
                        
                        
                        
                        18
                        %
                        
                        
                        (1,680,980
                        )
                        
                        
                        (151
                        )%
  19
  Income
(loss) Before Income Taxes
 We showed
a loss before income taxes of $567,225 for the nine months ended December 31,
2009 compared to net income before income taxes of $1,113,755 for the comparable
period of the prior year. The income from the prior period resulted primarily
from the higher patent licensing gross margin in such period.
 
 Revenues
 Revenues
of $2,019,467 for the first nine months of fiscal 2010 compared to $6,058,190
for the same period of the prior year. The reduction in revenues reflected
reduced patent license revenues. Fiscal 2010 nine-month revenues included eVU
products and service revenue of $769,467 and patent license revenue of
$1,250,000.
 
 Gross
Profit
 Gross
profit for the first nine months of fiscal 2010 was $1,143,048 or 57% of
revenues. The gross profit for the prior year’s
first nine months was $3,557,714 or 59% of revenues as a result of higher patent
license revenue. The amount and percentage of gross profit margins are highly
dependent on revenue mix, prices charged, volume of orders and
costs.
 
 Operating
Expenses
 Selling
and administrative costs for the nine months ended December 31, 2009, were
$1,386,013 compared to $1,743,389 for the first nine months of fiscal 2009. The
$357,376 decrease included $147,000 of reduced staffing costs due to fewer
personnel, a $18,000 reduction in shareholder related costs primarily from
reduced annual meeting mailing costs and $273,000 of reduced professional fees
primarily due to reduced business litigation costs and the effect of a $100,000
reversal of a legal accrual related to such litigation as a result of the
favorable litigation outcome. The decreases were offset by a $95,456 increase in
noncash stock-based compensation expenses resulting from granting options in
December 2009 that vested on grant.
 
 Research
and related expenditures for the nine months ended December 31, 2009 were
$336,493, compared to $387,672 for the
nine months ended December 31, 2008. The decrease resulted primarily from
reduced outside engineering services of $55,000 due to reduced internally funded
research projects.
 
 Other
Income (Expense)
 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). Net other expense of $312,898 for the nine months ended
December 31, 2008 included a non-cash financing expense of $177,125 related to a
charge for warrant modification and $129,425 of interest expense including
$62,132 of non-cash interest.
 
 Income
Taxes
 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.
 
 Income
(Loss) Attributable to Common Stockholders
 The loss
attributable to common stockholders for the nine months ended December 31, 2009
included the loss after taxes of
$535,975 reduced by accrued and deemed dividends on Series AA Stock of $144,088
or a net loss of $680,063.  The
income attributable to common stockholders for the prior comparable nine months
included the income after taxes of $849,755 reduced by accrued and deemed
dividends on Series AA Stock of $87,978 or a net income of
$761,777.
 
 Liquidity
and Capital Resources
 At
December 31, 2009, we had working capital of $3,227,483 compared to a working
capital of $3,277,225 at March 31, 2009. At December 31, 2009 we had cash on
hand of $2,838,967.
 
 Operating
Activities
 Cash used
in operating activities was $925,947 for the nine months ended December 31,
2009. Cash used in operating activities included the net loss of $535,975
reduced by net non-cash expenses of $187,718. Major components also providing
operating cash was a decrease of $90,065 in inventories. Major components using
operating cash included an increase of $118,885 in accounts receivable, a
$101,943 reduction in accounts payable, a $217,665 reduction in accruals and
customer deposits and a $157,500 reduction in accrued income
taxes.
  20
  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.
 
 Cash used
in operating activities during the nine months ended December 31, 2008 was
$498,019 resulting from the $849,755 net income reduced by net non-cash expenses
of $238,885. Major components providing operating cash was an increase of
$713,617 in accrued liabilities. Major components using operating cash included
an increase of $1,963,060 in accounts receivable and a $262,760 reduction in
accounts payable.
 
 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.
 
 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
 For the
nine months ended December 31, 2009 we paid $47,865 as the final payment on our
term debt. At December 31, 2009 we had no debt outstanding. For the nine months
ended December 31, 2008, cash provided by financing activities was $1,118,643.
This included $580,000 from the sale of common stock and $700,000 cash from the
sale of Series AA Stock. We reduced our secured note balance by $150,000,
reduced our term note balance by $51,357 and obtained $40,000 in July 2008 from
a new one-year note.
 
 Debt
and Other Commitments
 We
currently have no debt outstanding.At December
31, 2009 we were committed to approximately $108,000 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,
2009 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.
 
 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.
  21
  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)
required by paragraph (b) of Rule 13a-15 or Rule 15d-15, as of December 31,
2009, our President and CEO (“Principal Executive Officer” or “PEO”) and Interim
Chief Accounting Officer (“Principal Financial Officer” or “PFO”) have concluded
that our disclosure controls and procedures were not effective in ensuring that
information required to be disclosed by us in the reports that we file or submit
under the Exchange Act is recorded, processed, summarized and reported within
the time periods specified in the Commission's rules and forms.
 
 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, 2009. 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, 2009, 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, 2009, we did not maintain effective internal control over financial
reporting. As defined by the Public Company Accounting Oversight Board Auditing
Standard No. 5, a material weakness is a deficiency or a combination of
deficiencies, such that there is a reasonable possibility that a material
misstatement of the annual or interim financial statements will not be prevented
or detected. Management has concluded
that with certain management oversight controls that are in place, the risks
associated with the lack of independent audit committee oversight is not
sufficient to justify the costs of adding additional directors and independent
audit committee members at this time. Management will periodically reevaluate
this situation. If we secure sufficient capital or sustain our improved
operating results it is our intention to change the composition and/or size of
the Board of Directors with emphasis on recruiting qualified independent audit
committee members.
 
 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.
 
 CHANGES
IN INTERNAL CONTROL OVER FINANCIAL REPORTING
 There
were no changes in our internal controls over financial reporting that could
significantly affect internal controls over financial reporting during the
quarter ended December 31, 2009.
  22
  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. In December 2009 we licensed and
settled with one defendant that agreed to make a future lump sum payment for
past infringing sales and to pay a royalty for any on-going sales that practice
our U.S. Patent 5,491,774.
 
 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.
 
 Item
2. Unregistered Sales of Equity Securities and Use of Proceeds
 
 (a)
              Thefollowing
      shares of common stock were issued during the fiscal quarter and not
      previously reported in a Quarterly Report on Form 10-Q or Current Report
      on Form 8-K:
 
 ·
              On
      October 20, 2009 we issued 1,065,616 shares of common stock upon the
      conversion of 10,000 shares of Series AA Stock sold for $100,000 cash on
      June 27, 2008. The shares issued on exchange were issued without
      restrictive legend in reliance on Rule
144(d).
 
 ·
              On
      October 29, 2009 we issued 296,912 shares of common stock to Davric
      Corporation in consideration of a $50,000 monthly payment on its 7.5% term
      note. The shares were sold upon the exemption provided by Section 4(2)
      under the Securities Act of 1933, no commissions were paid and a
      restrictive legend was placed on the shares
  issued.
 
 (b)
              NONE
 (c)
              NONE
 
 Item
3. Defaults Upon Senior Securities
 
 NONE
 
 Item
4. Submission of Matters to a Vote of Security Holders
 
 At our
Annual Meeting of Stockholders held on November 19, 2009, the following
individuals, all of the members of the Board of Directors were
elected: Alfred H. Falk, Allen Cocumelli, Robert Putnam, Renee Warden and
Eric M. Polis. For each elected director, the results of the voting
were:
 
 Affirmative
                    
                    
                    Against
                    
                    
                    Abstain/WithheldAlfred
      H. Falk
                    
                    
                    243,805,181
                    
                    
                    
                    3,268,956
                    
                    
                    
                    1,491,398Allen
      Cocumelli
                    
                    
                    246,993,528
                    
                    
                    
                    79,609
                    
                    
                    
                    1,492,398Robert
      Putnam
                    
                    
                    246,443,848
                    
                    
                    
                    630,289
                    
                    
                    
                    1,491,398Renee
      Warden
                    
                    
                    241,274,309
                    
                    
                    
                    5,798,828
                    
                    
                    
                    1,492,398Eric
      M. Polis
                    
                    
                    244,838,051
                    
                    
                    
                    2,236,086
                    
                    
                    
                    1,491,398
  23
  Our
stockholders also voted to ratify SingerLewak LLP as the Company’s independent
auditors for the fiscal year ending March 31, 2010. The results of the voting on
this proposal were:
 
 Affirmative
                      
                      Against
                      
                      
                      Abstain247,167,932
                      
                      
                      1,098,141
                      
                      
                      
                      299,462
 
 The
foregoing proposal was approved and accordingly ratified.
 
 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 Robert Putnam, Interim
Accounting Officer (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 Robert Putnam, Interim
Accounting Officer (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
      CORPORATIONDate:      February
      11, 2010
                  By:
                  /s/ ROBERT PUTNAMRobert Putnam, Interim Chief Accounting Officer(Principal Accounting and Financial Officerand duly authorized to sign on behalf of the Registrant)
  24