**U.S. SECURITIES AND EXCHANGECOMMISSION**

** **

**WASHINGTON, D.C. 20549**

** **

**FORM 10-Q**

** **

**QUARTERLY REPORT PURSUANT TOSECTION 13 OR 15(d)OF THE SECURITIES EXCHANGE ACT OF 1934**

** **

**For The Quarterly Period EndedMarch 31, 2004**

** **

**Commission file number: 0-30391**

** **

**MEDIS TECHNOLOGIES LTD.**(ExactName of Registrant as Specified in its Charter)

 

| **Delaware**                     |   | **13-3669062**         |
|----------------------------------|--------|------------------------|
| (State or other  jurisdiction of |   | (I.R.S. Employer       |
| incorporation or  organization)  |   | Identification Number) |

** **

**805 Third AvenueNew York, New York 10022**(Address of Principal Executive Offices and Zip Code)

** **

**(212) 935-8484**(Registrant’s Telephone Number, Including Area Code)

** **

**Indicate by checkmark whether theregistrant: (1) has filed all reports required to be filed by Section 13 or15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (orfor 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****ý** |   | **No****o** |
|-------------------|--------|-------------|

 

 

**Indicate by checkmark whether the registrant is anaccelerated filer as defined in Rule 12b-2 of the Exchange Act.**

| **Yes****ý** |   | **No****o** |
|-------------------|--------|-------------|

 

The number of shares of Common Stock, parvalue $.01 per share, outstanding as of May 5, 2004 was 26,203,981.

 

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**MEDIS TECHNOLOGIES LTD.**

 

# **INDEX TO FORM 10-Q**

 

**FOR THE QUARTER ENDED MARCH 31,2004**

 
|                                    |                                                                                                     |
|-----------------------------------------|----------------------------------------------------------------------------------------------------------|
| **PART I.  FINANCIAL INFORMATION** |                                                                                                     |
|                                    |                                                                                                     |
| Item 1.                                 | Financial Statements                                                                                     |   |
|                                    |                                                                                                     |   |
|                                    | Condensed  Consolidated Balance Sheets December 31, 2003 and March 31, 2004 (Unaudited)                  |   |
|                                    |                                                                                                     |   |
|                                    | Condensed  Consolidated Statements of Operations (Unaudited) Three months ended March  31, 2003 and 2004 |   |
|                                    |                                                                                                     |   |
|                                    | Condensed  Consolidated Statements of Cash Flows (Unaudited) Three months ended March  31, 2003 and 2004 |   |
|                                    |                                                                                                     |   |
|                                    | Notes  to Condensed Consolidated Financial Statements (Unaudited)                                        |   |
|                                    |                                                                                                     |   |
| Item  2.                                | Management’s  Discussion and Analysis of Financial Condition and Results of Operations              |   |
|                                    |                                                                                                     |   |
| Item  3.                                | Quantitative  and Qualitative Disclosures About Market Risk                                              |   |
|                                    |                                                                                                     |   |
| Item 4.                                 | Controls and Procedures                                                                                  |   |
|                                    |                                                                                                     |   |
| **PART II.  OTHER INFORMATION**    |                                                                                                     |
|                                    |                                                                                                     |   |
| Item  2.                                | Changes  in Securities, Use of Proceeds and Issuer Purchases of Equity Securities                        |   |
|                                    |                                                                                                     |   |
| Item 5.                                 | Other Information                                                                                        |   |
|                                    |                                                                                                     |   |
| Item 6.                                 | Exhibits and  Reports on Form 8-K                                                                        |   |

** **

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**PARTI - FINANCIAL INFORMATION**

**Item1.**             Financial Statements

** **

**Medis Technologies Ltd. andSubsidiariesCondensed Consolidated Balance Sheets**

 
|                                                                                                                                                                              |   | **December  31, 2003** |       | **March 31,  2004** |     |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|------------------------|------------|---------------------|----------|
|                                                                                                                                                                              |   |                   |       | **(unaudited)**     |     |
| **ASSETS**                                                                                                                                                                        |   |                   |       |                |     |
| Current assets                                                                                                                                                                    |   |                   |       |                |     |
| Cash and cash equivalents                                                                                                                                                         |   | $                      | 6,620,000  |                | $        | 7,754,000 |   |
| Short-term deposits                                                                                                                                                               |   | *—*               |       | 12,198,000          |     |
| Accounts receivable—trade, net                                                                                                                                               |   | 74,000                 | * *   | *—*            | * * |
| Accounts receivable—other                                                                                                                                                    |   | 237,000                |       | 266,000             |     |
| Prepaid expenses and other current assets                                                                                                                                         |   | 110,000                |       | 47,000              |     |
| Total current assets                                                                                                                                                              |   | 7,041,000              |       | 20,265,000          |     |
| Property and equipment, net                                                                                                                                                       |   | 1,470,000              |       | 1,435,000           |     |
| Goodwill, net                                                                                                                                                                     |   | 58,205,000             |       | 58,205,000          |     |
| Intangible assets, net                                                                                                                                                            |   | 880,000                |       | 828,000             |     |
| Long-term note                                                                                                                                                                    |   | 158,000                |       | 159,000             |     |
| Severance pay fund                                                                                                                                                                |   | 697,000                |       | 737,000             |     |
| Total assets                                                                                                                                                                      |   | $                      | 68,451,000 |                | $        | 81,629,000 |   |
|                                                                                                                                                                              |   |                   |       |                |     |
| **LIABILITIES  AND**

**STOCKHOLDERS’  EQUITY**                                                                                                                              |   |                   |       |                |     |
| Current liabilities                                                                                                                                                               |   |                   |       |                |     |
| Accounts payable                                                                                                                                                                  |   | $                      | 323,000    |                | $        | 529,000 |   |
| Accrued expenses and other current liabilities                                                                                                                                    |   | 958,000                |       | 1,144,000           |     |
| Total current liabilities                                                                                                                                                         |   | 1,281,000              |       | 1,673,000           |     |
| Accrued severance pay                                                                                                                                                             |   | 1,193,000              |       | 1,294,000           |     |
|                                                                                                                                                                              |   |                   |       |                |     |
| Total Liabilities                                                                                                                                                                 |   | 2,474,000              |       | 2,967,000           |     |
|                                                                                                                                                                              |   |                   |       |                |     |
| Commitments and contingent liabilities                                                                                                                                            |   |                   |       |                |     |
| Stockholders’ equity                                                                                                                                                         |   |                   |       |                |     |
| Preferred stock, $.01 par value; 10,000 shares authorized; none  issued                                                                                                           |   | *—*               | * *   | *—*            | * * |
| Common stock, $.01 par value; 35,000,000 shares authorized;  24,538,268 and 26,198,434 shares issued and outstanding, at December 31,  2003 and March 31, 2004, respectively |   | 245,000                |       | 262,000             |     |
| Additional paid-in capital                                                                                                                                                        |   | 173,185,000            |       | 189,094,000         |     |
| Accumulated deficit                                                                                                                                                               |   | (107,453,000           | )          | (110,694,000        | )        |
| Total stockholders’ equity                                                                                                                                                   |   | 65,977,000             |       | 78,662,000          |     |
| Total liabilities and stockholders’ equity                                                                                                                                   |   | $                      | 68,451,000 |                | $        | 81,629,000 |   |

 

The accompanying notes are an integral partof these statements.

 

1

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**Medis Technologies Ltd. and Subsidiaries**

**Condensed Consolidated Statementsof Operations**

**(Unaudited)**

 

      
|                                                                            |   | **Three  Months Ended March 31,** |       |
|---------------------------------------------------------------------------------|--------|-----------------------------------|------------|
|                                                                            |   | **2003**                          |       | **2004** |   |
|                                                                            |   |                              |       |   |   |
| Sales                                                                           |   | $                                 | 37,000     |   | $ | — |   |
| Cost of sales                                                                   |   | 18,000                            | * *   | *—* | * * |
|                                                                            |   |                              |       |   |   |
| Gross profit                                                                    |   | 19,000                            | * *   | *—* | * * |
|                                                                            |   |                              |       |   |   |
| Operating expenses                                                              |   |                              |       |   |   |
| Research and development costs, net                                             |   | $                                 | 1,192,000  |   | $ | 2,010,000 |   |
| Selling, general and administrative expenses                                    |   | 817,000                           |       | 1,238,000 |   |
| Amortization of intangible assets                                               |   | 518,000                           |       | 52,000 |   |
| Total operating expenses                                                        |   | 2,527,000                         |       | 3,300,000 |   |
| Loss from operations                                                            |   | (2,508,000                        | )          | (3,300,000 | ) |
| Other income (expenses)                                                         |   |                              |       |   |   |
| Interest income                                                                 |   | 33,000                            |       | 64,000 |   |
| Interest expense                                                                |   | (10,000                           | )          | (5,000 | ) |
|                                                                            |   | 23,000                            |       | 59,000 |   |
| NET LOSS                                                                        |   | $                                 | (2,485,000 | ) | $ | (3,241,000 | ) |
| Basic and diluted net loss per share                                            |   | $                                 | (.11       | ) | $ | (.13 | ) |
| Weighted-average shares used in computing basic and diluted net loss  per share |   | 22,446,271                        |       | 25,880,979 |   |

 

The accompanying notes are an integral partof these statements.

 

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**Medis Technologies Ltd. and Subsidiaries**

**Condensed Consolidated Statements of Cash Flows**

**(Unaudited)**

 
|                                                                                                                           |   | **Three  Months Ended March 31,** |       |
|--------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------------------|------------|
|                                                                                                                           |   | **2003**                          |       | **2004** |   |
| Cash flows from operating activities                                                                                           |   |                              |       |   |   |
| Net loss                                                                                                                       |   | $                                 | (2,485,000 | ) | $ | (3,241,000 | ) |
| Adjustments to reconcile net loss to net cash used in operating  activities                                                    |   |                              |       |   |   |
| Depreciation and amortization of property and equipment                                                                        |   | 67,000                            |       | 117,000 |   |
| Amortization of intangible assets                                                                                              |   | 518,000                           |       | 52,000 |   |
| Non-cash stock based compensation expense                                                                                      |   | —                            |       | 300,000 |   |
| Changes in operating assets and liabilities                                                                                    |   |                              |       |   |   |
| Accounts receivable-trade                                                                                                      |   | (28,000                           | )          | 74,000 |   |
| Accounts receivable-other                                                                                                      |   | (34,000                           | )          | (29,000 | ) |
| Prepaid expenses and other current assets                                                                                      |   | 7,000                             |       | 62,000 |   |
| Accounts payable                                                                                                               |   | 100,000                           |       | 206,000 |   |
| Accrued expenses and other current liabilities                                                                                 |   | 32,000                            |       | 186,000 |   |
| Accrued severance payable, net                                                                                                 |   | 68,000                            |       | 61,000 |   |
| Net cash used in operating activities                                                                                          |   | (1,755,000                        | )          | (2,212,000 | ) |
| Cash flows from investing activities                                                                                           |   |                              |       |   |   |
| Capital expenditures                                                                                                           |   | (58,000                           | )          | (82,000 | ) |
| Investment in short-term deposits                                                                                              |   | —                            |       | (12,198,000 | ) |
| Net cash used in investing activities                                                                                          |   | (58,000                           | )          | (12,280,000 | ) |
| Cash flows from financing activities                                                                                           |   |                              |       |   |   |
| Proceeds from issuance of common stock, net                                                                                    |   | 4,900,000                         |       | 15,626,000 |   |
| Net cash provided by financing activities                                                                                      |   | 4,900,000                         |       | 15,626,000 |   |
| Net increase in cash and cash equivalents                                                                                      |   | 3,087,000                         |       | 1,134,000 |   |
| Cash and cash equivalents at beginning of period                                                                               |   | 6,036,000                         |       | 6,620,000 |   |
| Cash and cash equivalents at end of period                                                                                     |   | $                                 | 9,123,000  |   | $ | 7,754,000 |   |
|                                                                                                                           |   |                              |       |   |   |
|                                                                                                                           |   |                              |       |   |   |
| Supplemental disclosures of cash flow information:                                                                             |   |                              |       |   |   |
| Cash paid during the period for:                                                                                               |   |                              | ** ** |   |   |
| Interest                                                                                                                       |   | $                                 | 10,000     |   | $ | 4,000 |   |
| Non-cash investing and financing activities:                                                                                   |   |                              |       |   |   |
| Acquisition of shares of majority-owned subsidiary — purchase price  allocated to intangible assets, financed as follows: |   | $                                 | 1,045,000  |   | — |   |
| Issuance of common stock                                                                                                       |   | $                                 | 525,000    |   | — |   |
| Cost of option purchased in prior period                                                                                       |   | $                                 | 520,000    |   | — |   |

 

The accompanying notes are an integral partof these statements.

 

3

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**Medis Technologies Ltd. and SubsidiariesNotes to Condensed Consolidated Financial Statements(Unaudited)**

 

**Note A -Nature Of Operations And Basis Of Presentation**

 

Medis Technologies Ltd. (“MTL”), a Delawarecorporation, is a holding company, which through its wholly-ownedsubsidiaries, Medis El Ltd. (“Medis El”) and More Energy Ltd. (“MoreEnergy”) (collectively, the “Company”), engages in research and development oftechnology products to license, sell, or enter into joint ventures with largecorporations. The Company’s primary business focus is on the advanceddevelopment, manufacturing, marketing and distribution of direct liquid fuelcell products for portable electronic devices. Included in this categoryare the most modern cell phones with a full range of functionality, digitalcameras, PDAs, MP3 players, other devices with similar power requirements and abroad array of military devices.  The Company’s other technologies, whichare in various stages of development, include the CellScan, inherentlyconductive polymers, the toroidal engine, stirling cycle system, and the Rankincycle linear compressor.

 

The accompanying condensed consolidated financialstatements should be read in conjunction with the following notes and with theconsolidated financial statements for the year ended December 31, 2003 and relatednotes included in the Company’s Annual Report on Form 10-K. The condensedconsolidated financial statements as of March 31, 2004 and for the three monthsended March 31, 2003 and 2004 are unaudited and have been prepared inaccordance with accounting principles generally accepted in the United Statesapplicable to interim financial information and the rules and regulationspromulgated by the Securities and Exchange Commission. Accordingly, suchcondensed consolidated financial statements do not include all of theinformation and footnote disclosures required in annual financial statements.In the opinion of the Company’s management, the March 31, 2003 and 2004unaudited condensed consolidated interim financial statements include alladjustments, consisting of normal recurring adjustments necessary for a fairpresentation of such condensed consolidated financial statements. The resultsof operations for the three months ended March 31, 2004 are not necessarilyindicative of the results to be expected for the entire year.

 

The condensed consolidated balance sheet as ofDecember 31, 2003 has been derived from the audited financial statements atthat date but does not include all of the information and notes required byaccounting principles generally accepted in the United States for completefinancial statements.

** **

**Note B -Certain Transactions**

* *

*1.**        **Private Placements of Common Stock*—In January2004, MTL issued 1,425,000 shares of its common stock in a private placement toinstitutional investors, for gross proceeds of approximately $14,588,000, lessrelated costs of approximately $295,000.

 

*2.**        **Exercise of Stock Options —*From January 1through March 31, 2004, MTL issued 213,303 shares of its common stock pursuantto the exercise of stock options granted under its 1999 Stock Option Plan, asamended, for aggregate proceeds of approximately $1,217,000.

 

*3.**        **Exerciseof Warrants* - From January 1 through March 31, 2004, MTL issued21,863 shares of its common stock pursuant to the exercise of warrants, atexercise prices ranging from $4.92 to $9.60 per share, for aggregate proceedsof approximately $113,000.

 

4

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*4.**        **Stock-basedCompensation* - SFAS No. 148, “Accounting for Stock-BasedCompensation — Transition and Disclosure” (“SFAS No. 148”) amends SFAS No. 123,“Accounting for Stock-Based Compensation” (“SFAS No. 123”) to providealternative methods of transition for a voluntary change to the fair valuebased methods of accounting for stock-based employee compensation. In addition,SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require moreprominent disclosures in both annual and interim financial statements about themethod of accounting for stock-based employee compensation and the effect of themethod used on reported results.

 

As provided for in SFAS No. 148, the Company has elected to continue tofollow Accounting Principles Board Opinion No. 25, “Accounting for StockIssued to Employees,” and FASB Interpretation No. 44, “Accounting for CertainTransactions Involving Stock Compensation” in accounting for its employee stockoptions, under which compensation expense, if any, is generally based on thedifference between the exercise price of an option or the amount paid for theaward and the market price or fair value of the underlying common stock at thedate of the grant. To the extent that compensation expense is recognized withrespect to stock options issued to employees or directors, such expense isamortized over the vesting period of such options. Stock-based compensationarrangements involving non-employees or non-directors are accounted for underSFAS No. 123 and Emerging Issues Task Force No. 96-18, “Accounting for EquityInstruments That Are Issued to Other Than Employees for Acquiring, or inConjunction with Selling, Goods or Services,” under which such arrangements areaccounted for based on the fair value of the option or award.

 

Had compensation cost forthe Company’s stock option plans been determined based on the fair value at thegrant dates for all awards, the Company’s net loss attributable to commonstockholders and basic and diluted net loss per share would have been the proforma amounts indicated below:

 

|                                                                                              |   | **Three  Months Ended March 31,** |       |
|---------------------------------------------------------------------------------------------------|--------|-----------------------------------|------------|
|                                                                                              |   | **2003**                          |       | **2004** |   |
| Net loss, as reported                                                                             |   | $                                 | (2,485,000 | ) | $ | (3,241,000 | ) |
| Add: Total stock-based employee compensation expense included in the  reported loss               |   | —                            |       | 51,000 |   |
| Deduct: Total stock-based employee compensation expense determined  under fair value based method |   | (398,000                          | )          | (345,000 | ) |
| Pro forma net loss                                                                                |   | $                                 | (2,883,000 | ) | $ | (3,535,000 | ) |
| Basic and diluted net loss per share as reported                                                  |   | $                                 | (.11       | ) | $ | (.13 | ) |
| Pro forma net loss per share                                                                      |   | $                                 | (.13       | ) | $ | (.14 | ) |

 

The fair value of each option granted is estimatedon the date of the grant using the Black-Scholes option pricing model with thefollowing weighted average assumptions:

 

|                    |   | **Three  Months Ended March 31,** |   |
|-------------------------|--------|-----------------------------------|--------|
|                    |   | **2003**                          |   | **2004** |   |
| Dividend yield          |   | 0                                 | %      | 0 | % |
| Risk-free interest rate |   | 2.50                              | %      | 2.50 | % |
| Expected life in years  |   | 1-2                               |   | 1.5 |   |
| Volatility              |   | 95                                | %      | 73%  - 82 | % |

 

5

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*5.**        **Fuel CellTechnology Cooperation Agreements* - In April 2001, theCompany entered into a mutually exclusive agreement with General DynamicsGovernment Systems Corporation, a unit of General Dynamics Corporation (“GD”),to develop and market fuel cells and fuel cell-powered portable electronicdevices for the United States Department of Defense (the “DOD”). As part ofsuch agreement, among other things, GD agreed to market the Company’s fuel cellproducts to the DOD. In May 2002, the Company received a $75,000 purchase orderfrom GD to develop an initial prototype of a fuel cell charger.

 

OnMay 5, 2003, the Company announced that it had signed a second agreementwith GD, to design and develop on a best efforts basis a pre-productionprototype of its fuel cell Power Pack for the ruggedized personal digitalassistant system that GD is developing for the military (the “Agreement”). Thetotal price for the Company’s services provided for in the Agreement is $500,000,with an initial payment of $100,000 and the balance in accordance with thepayment and performance milestones established in the Agreement through January2005. The Company expects that it will benefit from the development effortbeyond the scope of the Agreement and development costs will exceed the$500,000 price. The Company is accounting for the Agreement as a fixed priced,best efforts research and development arrangement. The Company receivedpayments aggregating $275,000 from the inception of the Agreement through March31, 2004. During the three months ended March 31, 2004, the Company recordedapproximately $25,000 as a credit to research and development expense and fromthe inception of the agreement through March 31, 2004 the Company recordedapproximately $249,000 as credits to research and development expense relatedto the Agreement.

* *

*7.**        **DistributionAgreement* - On March 9, 2004, the Company entered into adistribution agreement with Kensington Technology Group, a leading maker ofcomputer accessories and a division of ACCO Brands, Inc.  Pursuant to the distribution agreement,among other things, the Company has granted Kensington the limited, exclusiveright to market and distribute its Power Pack and other products using its fuelcell technology under the Kensington and Medis brand names.

 

**Note C - Liquidity**

 

Since inception, the Company has incurred operatinglosses and has used cash in its operations. Accordingly, the Company has reliedon financing activities, principally the sale of its stock, to fund itsresearch and development activities and operations. The Company believes thisdependence will continue unless it is able to successfully develop and marketits technologies. However, there can be no assurance that the Company will beable to continue to obtain financing or successfully develop and market itstechnologies.

 

On September 30, 2003, the Company entered into athird amendment to the agreement governing its existing $5,000,000 revolvingcredit line. Pursuant to the amendment, the termination date of the revolvingcredit line was extended from July 1, 2004 to July 1, 2005. No other terms ofthe agreement were changed. The loan agreement bears interest on anyoutstanding balances based on either the LIBOR or Prime Rate. Any outstandingbalances would be collateralized by all deposits with the bank and anassignment of certain leases owned by a partnership in which the Company’schairman and chief executive officer and its president are partners.  Additionally, the Company’s chairman andchief executive officer and its president have personally guaranteed anyamounts due under such credit line. As of March 31, 2004, the Company had notborrowed any funds under its credit line.

 

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**Item2.**                   Management’s Discussion AndAnalysis Of Financial Condition And Results Of Operations Forward LookingStatements

** **

Some of the information in this quarterly reportcontains forward-looking statements that involve substantial risks anduncertainties. You can identify these statements by forward-looking words suchas “may,” “will,” “expect,” “anticipate,” “believe,” “estimate,” “plans,” and“continue” or similar words. You should read statements that contain thesewords carefully because they:

 

•             discuss ourfuture expectations;

 

•             containprojections of our future results of operations or of our financial condition;or

 

•             state other“forward-looking” information.

 

We believe it is important to communicate our expectations to ourinvestors. However, there may be events in the future that we are not able toaccurately predict or over which we have no control. The risk factors listed inour Annual Report on Form 10-K for the fiscal year ended December 31, 2003, aswell as any cautionary language in this quarterly report, provide examples ofrisks, uncertainties and events that may cause our actual results to differmaterially from the expectations we describe in our forward-looking statements.You should be aware that the occurrence of the events described in these riskfactors and elsewhere in this quarterly report could have a material adverseeffect on our business, operating results and financial condition.

** **

**Introduction**

 

Our primary business focus is on the development,manufacturing, marketing and distribution of direct liquid fuel cell productsfor portable electronic devices, for the consumer (personal and professional)and military markets.  We are alsoworking to develop and commercialize other technologies we own or own therights to, including the CellScan, inherently conductive polymers, stirlingcycle system, toroidal technologies and Rankin cycle linear compressor. Basedupon our decision to devote more resources to developing our fuel celltechnologies and commercializing fuel cell-based products, in recent years wehave increased funding of our fuel cell related efforts, which increases weexpect will continue until such time as we successfully commercialize our firstfuel cell products, of which we can give no assurance, and perhaps thereafter.

 

This presentation includes the operations of our wholly and majorityowned subsidiaries, unless we tell you otherwise.

** **

**Results Of Operations**

 

From our inception in April 1992 through March 31,2004 we have generated an accumulated deficit of approximately $110,694,000,including approximately $43,439,000 from amortization expense. We expect toincur additional operating losses during remainder of 2004 and possiblythereafter, principally as a result of our continuing anticipated research anddevelopment costs, increases in selling, general and administrative expensesrelated to the introduction of our products and the uncertainty of bringing ourfuel cell technology or any of our other technologies to commercial success.Since our inception, we have relied principally on outside sources of fundingto finance our operations, as our revenues have been minimal.  We expect this to continue until we are ableto successfully commercialize our fuel cell or any of our other products ortechnologies, of which we can give no assurance.

 

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Our research and development costs have increasedfrom approximately $2,749,000 in 1999 to approximately $5,010,000 in 2003 andare expected to increase further in 2004; however, we anticipate that ourfailure to successfully commercially develop our fuel cell technology or any ofour other technologies will force us to curtail our spending levels until suchtime, if ever, as we generate revenues or otherwise receive funds from thirdparty sources. If we begin to market and sell any of our technologies, we willincrease such expenses to the extent necessary, which we expect to fund out ofrevenues.

*** ***

***Three Months EndedMarch 31, 2004 Compared To Three Months Ended March 31, 2003***

 

We sustained net losses of $3,241,000 during the three months endedMarch 31, 2004, compared to $2,485,000 during the three months ended March 31,2003. The increase in the net loss can primarily be attributed to an increasein research and development costs as we increase funding of our fuel cellrelated efforts and an increase in selling, general and administrativeexpenses, somewhat offset by a decrease in amortization of intangible assets ascertain intangible assets have become fully amortized.

 

We did not recognized any revenues during the three months ended March31, 2004, compared to revenues of approximately $37,000 and gross profit ofapproximately $19,000 during the three months ended March 31, 2003. Therevenues recognized during the three months ended March 31, 2003 wereattributable to a January 2002 agreement to develop for a third party anapplication for the use of our inherently conductive polymers in its fuel cellproducts.

 

Research and development costs amounted to $2,010,000 during the threemonths ended March 31, 2004, compared to $1,192,000 during the three monthsended March 31, 2003. The increase in research and development costs can beprimarily attributed to an increase of approximately $851,000 in costs relatedto our fuel cell technologies and an increase of approximately $19,000 in costsrelated to our CellScan, somewhat offset by a decrease of approximately $70,000in aggregate costs related to our toroidal technologies, stirling cycle systemand linear compressor. The research and development activities for the periodspresented include:

 

•             *Fuel Cell Technologies*. We incurredcosts relating to our fuel cell technologies of approximately $1,670,000 duringthe three months ended March 31, 2004, compared to costs of approximately$819,000 during the three months ended March 31, 2003. The increases in ourresearch and development expenses relating to our fuel cell technologies ofapproximately $851,000 reflects our decision to continue to devote substantialand increasing amounts of resources to the further development of our fuel celltechnologies and products.

 

•             *CellScan*. We incurredcosts relating to the refinement and assembly of the desktop CellScan systemand on various CellScan research activities of approximately $275,000 during thethree months ended March 31, 2004, compared to costs of approximately $256,000during the three months ended March 31, 2003. The increase can be primarilyattributed to increases in costs related to the retention of third partyresearchers in the development and testing of new CellScan applications andlabor costs, partially offset by a decrease in other costs.

 

•             *Toroidal Technologies, StirlingCycle System and Linear Compressor*. We incurred aggregatecosts relating to our toroidal engine and compressor, stirling cycle system andlinear compressor of approximately $49,000 during the three months ended March31, 2004, compared to costs of approximately $117,000 during the three monthsended March 31, 2003. The decrease reflects management’s decision to allocatelimited resources to these 

 

8

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                   technologies and more of our research anddevelopment resources to development of our fuel cell technologies andproducts.

 

Selling, general and administrative (“SG&A”)expenses during the three months endedMarch 31, 2004 amounted to approximately $1,238,000, compared toapproximately $817,000 during the threemonths ended March 31, 2003. The increase of $421,000 is primarilyattributable to an increase in non-cash charges relating to stock options andwarrants of approximately $249,000; an increase in labor costs of approximately$54,000; an increase in insurance costs of approximately $53,000; an increasein selling and marketing expenses of approximately $53,000; and a net increasein various other SG&A cost categories of approximately $12,000.

 

Amortization of intangible assets amounted to$52,000 during the three months ended March31, 2004, compared to $518,000 during the three months ended March 31, 2003. The decrease is primarilyattributable to intangible assets acquired in our June 2000 exchange offer forshares of Medis El that we did not already own becoming fully amortized duringthe year ended December 31, 2003, partially offset by amortization of intangibleassets acquired in our March 2003 acquisition of the remaining 7% of MoreEnergy that we did not already own.

** **

**Liquidity And Capital Resources**

 

We finance our operations primarily through the proceeds of investorequity financing, which we expect will continue until such time as wesuccessfully commercialize our fuel cell products or products derived from anyof our other technologies.

 

Our working capital and capital requirements at any given time dependupon numerous factors, including, but not limited to:

 

•             the progress ofresearch and development programs;

•             the status ofour technologies; and

•             the level ofresources that we devote to the development of our technologies, patents,marketing and sales capabilities.

 

Another source of revenue or other means to effect our cashexpenditures are collaborative arrangements with businesses and institutes forresearch and development and companies participating in the development of ourtechnologies. Since January 2002, we have realized revenues of $323,000 on costsof sales of $176,000, as well as credits against our research and developmentcosts of approximately $331,000, with respect to collaborative arrangementswith third parties relating to our fuel cell technologies. There can be noassurance that we will realize additional revenue or credits to our researchand development expense from such collaborative arrangements still in existenceor that we will enter into additional collaborative arrangements in the future.Furthermore, there can be no assurance that we will raise additional fundsthrough any financing approach implemented by us.

 

In January 2004, we issued 1,425,000 shares of ourcommon stock in a private placement to institutional investors. We receivedgross proceeds of approximately $14,588,000, less related costs ofapproximately $295,000.

 

During the three months ended March 31, 2004, option holders exercised outstanding optionsissued under our 1999 Stock Option Plan, as amended, to acquire 213,303 sharesof our common stock for aggregate proceeds of approximately $1,217,000.

 

9

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During the three months ended March 31, 2004,warrantholders exercised outstanding warrants to acquire 21,863 shares of ourcommon stock, at exercise prices ranging from $4.92 to $9.60 per share, foraggregate proceeds of approximately $113,000.

 

Proceeds from all of the above financing and optionand warrant exercises have been and will continue to be used for workingcapital, including for the continued development of our direct liquid fuel celltechnologies and related products, as well as for selling, general andadministrative expenses.

 

For the three months ended March 31, 2004, net cashused in operating activities was $2,212,000, as compared to $1,755,000 for the threemonths ended March 31, 2003. The increase was primarily attributable tomanagement’s decision to continue to increase levels of spending on researchand development related to our fuel cell technologies during the three monthsended March 31, 2004 compared to the three months ended March 31, 2003.

 

For the three months ended March 31, 2004, net cash used in investingactivities was $12,280,000, which represented investments in short-termdeposits aggregating $12,198,000 and purchases of property and equipment of$82,000. This is compared to net cash used in investing activities of $58,000for the three months ended March 31, 2003, which was used to purchase propertyand equipment. The $12,198,000 in short-term deposits represents funds receivedby us in our January 2004 private placement discussed elsewhere in thissection.

For the three months ended March 31, 2004, cash aggregating $15,626,000was provided by financing activities, compared to $4,900,000 for the threemonths ended March 31, 2003. During the three months ended March 31, 2004, cashwas provided by the financing activities described in detail above. The cash provided by financingactivities for the three months ended March 31, 2003 aggregating $4,900,000 wasgenerated from our March 11, 2003 rights offering from which we generated grossproceeds of approximately $5,000,000 less costs of such offering ofapproximately $121,000. Additionally, during the three months ended March 31,2003, warrant holders under our loyalty program exercised warrants to purchasean aggregate of 4,820 shares of our common stock, for proceeds of approximately$21,000.

 

As of March 31, 2004, we had approximately $19,952,000 in cash and cashequivalents and short-term deposits, as well as an unused $5,000,000 revolvingcredit line which terminates in accordance with its terms on July 1, 2005.  As of March 31, 2004, we believe that ourcash and cash equivalent and short-term deposits (but excluding moniescurrently available to us from our credit facility), will be sufficient tosupport our operating and developmental activities for approximately the next19 months. Beyond such time, or prior to that if we increase our research anddevelopment costs and other costs beyond that currently contemplated, we mayrequire capital infusions of cash to continue our operations, whether throughdebt financing, issuance of shares or from companies or other organizationsparticipating in the development of our technologies. However, to the extent weare unable to raise or acquire additional other funds, we will curtail researchand development of one or more technologies until such time as we have adequatefunds available.

** **

**Commitments and Contingencies**

 

The following table sets forth our contractual obligations at March 31,2004.

 

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|                            |   | **Payment  Due By Period** |      |
|---------------------------------|--------|----------------------------|-----------|
| **Contractual  Obligations**    |   | **Total**                  |      | **2004 (2)** |   | **2005** |   | **2006** |   | **2007** |   | **2008 and  thereafter** |   |
| Operating Lease Obligations     |   | $                          | 202,000   |   | $ | 116,000 |   | $ | 64,000 |   | $ | 22,000 |   | $ | — |   | $ | — |   |
| Purchase Obligations            |   | 4,019,000                  |      | 2,259,000 |   | 359,000 |   | 359,000 |   | 359,000 |   | 683,000 |   |
| Other Long-Term Liabilities (1) |   | 1,294,000                  |      | 97,000 |   | 129,000 |   | 129,000 |   | 129,000 |   | 810,000 |   |
|                            |   |                       |      |   |   |   |   |   |   |   |   |   |   |
| Total                           |   | $                          | 5,515,000 |   | $ | 2,472,000 |   | $ | 552,000 |   | $ | 510,000 |   | $ | 488,000 |   | $ | 1,493,000 |   |

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(1)        Other Long-Term Liabilitiesrepresents our accrued severance pay as of March 31, 2004.  Since we do not expect a high level ofemployee turnover giving rise to the payment of significant amounts ofseverance obligations, we have included approximately 10% of the totalliability in each of the years  2004through 2007 and the remainder in 2008 and thereafter.

 

(2)        Contractual obligationamounts for 2004 are for the period from April 1, 2004 through December 31,2004.

 

**Item 3. Quantitative And Qualitative Disclosures About Market Risk**

** **

**Disclosure About Market Risk**

*** ***

***Impact OfInflation And Devaluation On Results Of Operations, Liabilities And Assets***

 

In connection with our currency use, we operate in amixed environment. Payroll is paid in our local currency and the local currencyof each of our subsidiaries, such as the New Israeli Shekel (NIS) with respectto our Israeli-based operations, as are most of our other operating expenses.Consideration for virtually all sales is either in dollars or dollar-linkedcurrency. As a result, not all monetary assets and all monetary liabilities arelinked to the same base in the same amount at all points in time, which maycause currency fluctuation related losses. In order to help minimize suchlosses, we currently invest our liquid funds in both dollar-based andNIS-based assets.

 

For many years prior to 1986, the Israeli economywas characterized by high rates of inflation and devaluation of the Israelicurrency against the United States dollar and other currencies. Since theinstitution of the Israeli Economic Program in 1985, inflation, whilecontinuing, has been significantly reduced and the rate of devaluation has beensubstantially diminished. However, Israel effected devaluations of the NISagainst the dollar as follows: 

 

| 1999 |   | (0.17 | )      |
|------|--------|-------|--------|
| 2000 |   | (2.7  | )      |
| 2001 |   | 9.2   |   |
| 2002 |   | 7.3   |   |
| 2003 |   | (7.6  | )      |

 

In 1999 and 2000, the rate of inflation in Israelexceeded the rate of devaluation of the NIS against the dollar, but in 2001 and2002 the rate of devaluation of the NIS against the dollar exceeded the rate ofinflation in Israel. In 2003, Israel experienced both price deflation and anappreciation of the NIS against the dollar. In 2003, the rate of inflation (deflation) in Israel was (1.9)% and therate of devaluation (appreciation) of the NIS was (7.6)%, against the dollar.Additionally, in 2004, through March 31, the rate of inflation in Israelwas (0.1)% and the rate of devaluation of the NIS was 3.4% againstthe dollar.

** **

**Impact Of Political And Economic Conditions**

 

The state of hostility which has existed in varyingdegrees in Israel since 1948, its unfavorable balance of payments and itshistory of inflation and currency devaluation, all represent uncertaintieswhich may adversely affect our business.

** **

**11**

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** **

**Item4.**            Controls and Procedures

 

Our management carried out an evaluation, with the participation of ourChief Executive Officer and Chief Financial Officer, of the effectiveness ofour disclosure controls and procedures as of March 31, 2004. Based upon thatevaluation, our Chief Executive Officer and Chief Financial Officer concludedthat our disclosure controls and procedures were effective to ensure thatinformation required to be disclosed by us in reports that we file or submitunder the Securities Exchange Act of 1934 is recorded, processed, summarizedand reported, within the time periods specified in the rules and forms of theSecurities and Exchange Commission.

 

There has not been any change in our internalcontrol over financial reporting in connection with the evaluation required byRule 13a-15(d) under the Exchange Act that occurred during the quarter endedMarch 31, 2004 that has materially affected, or is reasonably likely tomaterially affect, our internal control over financial reporting.

** **

**PART II - OTHER INFORMATION**

** **

**Item 2**               Changes in Securities, Use of Proceeds and IssuerPurchases of Equity Securities

 

In January 2004, we sold in a private placement to accredited investorsan aggregate of 1,425,000 share of our common stock for aggregate grossproceeds of approximately $14,588,000. The placement agent for the sale of anaggregate of 510,000 of such shares was Stonegate Securities, Inc. We paidcommissions and other expenses to Stonegate Securities aggregatingapproximately $255,000.

 

During the three months ended March 31, 2004, warrant holders exercisedoutstanding warrants to acquire 12,950 shares of our common stock, at anexercise price of $5.00 per share, for aggregate proceeds of approximately$64,750.

 

Exemption from registration under the Securities Act of 1933, asamended, in connection with the foregoing transactions, is claimed underSection 4(2) of the Securities Act as a transaction or transactions by theissuer not involving a public offering.

** **

**Item 5.**            OtherInformation

** **

**Agreement With Kensington Technology Group**

 

On March 10, 2004, we announced that we had entered into a distributionagreement with Kensington Technology Group, a leading maker of computeraccessories and a division of ACCO Brands, Inc.  Pursuant to the distribution agreement, among other things, wehave granted Kensington the limited, exclusive right to market and distributeour Power Pack charger and other products using our fuel cell technology underthe Kensington brand name.

** **

**Loan to Key Employee**

 

In April 2004, we loaned $109,000 to Gennadi Finkelshtain, the GeneralManager of More Energy. Such loan was provided principally to permitMr. Finkelshtain to pay the final installment of certain taxes incurred uponour issuance to him in March 2003 of 120,000 shares of our common stock aspayment for the 7% of More Energy we did not already own. The loan was madeunder an existing three year promissory note dated April 11, 2003, as amended,pursuant to which Mr. Finkelshtain agrees to pay interest on the loansthen outstanding at a rate equal to the applicable federal rate in effect for 

 

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mid-termloans on the date of each loan. The loans are secured by the 120,000 shares ofour common stock.

** **

**Item 6.    Exhibits and Reports on Form 8-K**

 

(a)            Exhibits.

 
| **Exhibit Number** |   | **Exhibit Description**                                                                                                                       |
|--------------------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------|
|               |   |                                                                                                                                          |
| 10.1               |   | Product  and Manufacturing Development Agreement made as of May 3, 2004, between Medis  Technologies Ltd. and Flextronics International Ltd.* |
|               |   |                                                                                                                                          |
| 31.1               |   | Rule  13a-14(a)/15d-14(a) Certification                                                                                                       |
|               |   |                                                                                                                                          |
| 31.2               |   | Rule  13a-14(a)/15d-14(a) Certification                                                                                                       |
|               |   |                                                                                                                                          |
| 32                 |   | Section  1350 Certifications                                                                                                                  |

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*Portions of this document have been submitted to the Secretary of theSecurities and Exchange Commission for application for “ConfidentialTreatment.”

 

(b)           Reports on Form8-K.  We filed the following reports onForm 8-K during the first quarter of the year ending December 31, 2004.

 
| **Date of Report** |   | **Date  Report**

**Filed with  SEC** |   | **Items Reported**                                                                                                           |
|--------------------|--------|---------------------------------------|--------|------------------------------------------------------------------------------------------------------------------------------|
|               |   |                                  |   |                                                                                                                         |
| March 11, 2004     |   | March 11, 2004                        |   | Item 12. Results of  Operations and Financial Condition                                                                      |
| February 18, 2004  |   | February 19, 2004                     |   | Item 9. Regulation FD  Disclosure                                                                                            |
| January 26, 2004   |   | January 27, 2004                      |   | Item 5. Other Events and  Required FD Disclosure

Item 7. Financial  Statements, Pro Forma Financial Statements and Exhibits |
| January 13, 2004   |   | January 13, 2004                      |   | Item 5. Other Events and  Required FD Disclosure

Item 7. Financial  Statements, Pro Forma Financial Statements and Exhibits |

 

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**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 theundersigned thereunto duly authorized.

 

 
|   | MEDIS TECHNOLOGIES LTD. |
|--------|-------------------------|
|   |                    |   |
|   | By:                     | /s/  Robert  K. Lifton |
|   |                    | Robert K. Lifton |
|   |                    | Chairman and Chief |
|   |                    | Executive Officer |
|   |                    |   |
|   |                    |   |
|   | By:                     | /s/  Israel  Fisher |
|   |                    | Israel Fisher |
|   |                    | Senior Vice President-Finance |
|   |                    | (Principal Financial Officer) |
|   |                    |   |
|   |                    |   |
|   | By:                     | /s/  Michael  S. Resnick |
|   |                    | Michael S. Resnick |
|   |                    | Vice President and Controller |
|   |                    | (Principal Accounting Officer) |

 

Date: May 10, 2004

 

 

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