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     In 1997,TPL have entered into the Limited Liability Company Operating Agreement of PDS (“LLC Agreement”). We and TPL each own 50% of the membership interests of PDS, and each have the right to appoint one member of the three (3) member management committee. The two (2) appointees are required to select a mutually acceptable third member of the management committee. Pursuant to the LLC Agreement, we emerged fromand TPL must each contribute to the development stage primarilyworking capital of PDS (in addition to the Microprocessor Patent licenses described above), and are obligated to make future contributions in equal amounts in order to maintain a working capital fund. The LLC Agreement provides that PDS shall indemnify its members, managers, officers and employees to the fullest extent permitted by applicable law, for any liabilities incurred as a result of their involvement with PDS, if the person seeking indemnification acted in good faith and in a manner reasonably believed to be in the best interest of PDS.

Background

     In February 1989, we completed our initial public offering under a registration statement on Form S-18 under the Securities Actall Talis shares previously held by SSDI. The acquisition of 1933. This offering raised gross proceeds of $50,000 and net proceeds of approximately $28,640 upon the sale of 2,500,000 units at $.02 per unit. Each unit soldTalis shares previously owned by SSDI was made for $100,000 in the public offering consisted of one common share and one Class A common stock purchase warrant exercisable to acquire one share of common stock and one Class B common stock purchase warrant. All Class A and Class B warrants have since been exercised or have lapsed.

     On May 12, 1992, we redomiciled ourselves from Colorado to Delaware by merging into a wholly owned Delaware subsidiary, Patriot Scientific Corporation, organized for that purpose. The reincorporation resulted in a reverse stock split. Three shares of the Colorado corporation, par value $.00001, were converted into one share of the Delaware corporation, par value $.00001. The reincorporation also effected a change in our charter and bylawscash and a name change to Patriot Scientific Corporation.

     In May 1993, we registered under the Securities Act of 1933 a total of 7,631,606 shares issuable upon the exercise of outstanding Class A and Class B common stock purchase warrants. We received net proceeds of $3,343,915 upon the exercise of those warrants and the issuance of 7,538,102 common shares. None of such warrants remain outstanding.

     Effective May 31, 1994, we entered into an asset purchase agreement and plan of reorganization with nanoTronics Corporation located in Eagle Point, Oregon and Helmut Falk. We issued a total of 8,500,000 restricted common shares to nanoTronics to acquire certain microprocessor technology of nanoTronics. The technology acquired was used to develop a sophisticated yet low cost microprocessor. 5,000,000 of the shares were issued on a non-contingent basis, and the remaining 3,500,000 shares were issued subject to the terms of an earnout escrow arrangement, which concluded on May 31, 1999.

     Effective December 26, 1996, we acquired 96.9% of the outstanding shares of Metacomp, Inc., a California corporation, from 56 shareholders in exchange for the issuance of 1,272,068 shares of our common stock. Based on the closing price of our common stock of $1.375 on the date of the acquisition, the price of the acquisition was $1,749,094. This business combination was accounted for as a pooling-of-interests.

Business

Organization and Corporate Development.Our business involves the following technologies:

	•		Ignite microprocessor technology,
	•		JUICEtechnology,
	•		high-speed data communications technology, and
	•		radar technology.

     The stages of development of our technologies is as follows:

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	•		JUICEtechnology. This technology was introduced to address the need to conserve power in embedded applications by varying the speed at which any microprocessor processes data. By varying the speed of the microprocessor, battery life can be significantly expanded thereby enhancing the users internet experience on a variety of handheld devices including cell phones, smart phones, pocket PCs and personal digital assistants. There has been no revenue generated from this product as of yet.
	•		High-speed data communications. Revenue from this technology was phased out during fiscal year 2002 as a result of the products reaching the end of their life cycles. During fiscal 2002 we initiated a last time buy program and except for minor repeat orders have discontinued to sell this product line. We have decided to concentrate our efforts on the Ignite microprocessor and JUICEtechnology. Although the communications product line accounted for approximately 97% of our fiscal year 2002 revenue, we anticipate that the Ignite microprocessor and JUICEtechnology will be our main product lines in the future.
	•		Radar and antenna. We sold the gas plasma antenna technology in August 1999. Our radar technology has not generated any revenue and we have suspended further development of this technology in order to concentrate our resources on our Ignite and JUICEtechnology products.

     Due to our small size and staffing overlaps among the technologies, certain personnel may work on any or all of our technologies from time to time.

     During at least the last three years, we have focused the majority of our efforts on the Ignite and high-speed data communications technologies. The Ignite technology is targeted for the embedded controller and Java language processor marketplaces.

Internet Growth and the Emergence of the Java Programming Language.The Internet is a global web of computer networks. This “network of networks” allows computers connected to the Internet to “talk” to one another. The Internet provides organizations and individuals with new means to conduct business. Commercial uses of the Internet include business-to-business and business-to-consumer transactions, product marketing, advertising, entertainment, electronic publishing, electronic services and customer support. We believe that organizations will also increasingly use the Internet and private Intranet networks to improve communications, distribute information, lower operating costs and change operations. Use of the Internet has grown rapidly impacting computer hardware, software and peripheral industries. The rapid growth in popularity of the Internet is in part due to continuing penetration of computers and modems into U.S. households, growth of the informational, entertainment and commercial applications and resources of the Internet, the growing awareness of such resources among individuals, and the increasing availability of user-friendly navigational and utility tools which enable easier access to the Internet’s resources.

     The growth of the Internet and corporate Intranets is creating a demand for hardware, software and peripherals. Software, such as Java, has been developed to serve the requirements of Internet users.

     Java is a programming language that was originally developed for personal digital assistant devices and television set top boxes. It was formally announced as an object-oriented language for the Internet in May 1995 by Sun Microsystems Inc. A large number of major computer, software, browser and on-line service provider companies have licensed the Java language. Accordingly, Java is a fundamental platform for Internet related applications. A significant number of Java applications, or applets, are now available on the Internet. These applications not only enhance web pages but also perform many functions of traditional computer software programs. Our Ignite technology lends itself to potential markets in which the use of Java is prevalent.

     With Java, data and programs do not have to be stored on the user’s computer, but can reside anywhere on the Internet to be called upon as needed. Among its various attributes, two key features of Java are (1) its ability to run on a variety of computer operating systems thus avoiding the problem of incompatibility across networks, and (2) security, because Java enables the construction of virus-resistant, tamper-resistant systems by using resource-access control and public-key encryption. Because of Java’s useful features, it has also become a popular programming language for embedded applications.

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     Since Java is designed to run on multiple types of devices and operating systems, it allows developers to write a program once for many types of operating systems, instead of having to write new versions for each type. Java does this by interpreting a program’s commands into something that a particular type of computer can understand. This interpretive design runs programs slower than if they were tailored for each type of computer and is resulting in a need for specialized microprocessors and compilers to increase Java’s speed.

     The growth of Java is causing a number of companies to consider it as a basis for a new style of computing tailored to the Internet and not encumbered by the limitations of, or requiring, traditional computer operating systems. The concept is to design inexpensive access devices to communicate via the Internet.

Our Microprocessor Technology.

     General Background. In 1991, nanoTronics Corporation was formed and acquired a base technology for an advanced microprocessor integrated on a single computer chip. nanoTronics subsequently engaged in substantial technical development and fabricated a first-generation microprocessor in early 1994.

     Since the acquisition of the technology from nanoTronics, effective May 31, 1994, we have been engaged in enhancing the microprocessor design, adding additional technical features to further modernize the design, and improving and testing the new design. We initially fabricated a prototype 0.8-micron microprocessor in May 1996. The next generation was a 0.5-micron microprocessor that was delivered in September 1997. The 0.5-micron microprocessor was employed in demonstrations for prospective customers and was shipped in limited numbers to customers as an embedded microprocessor. In 1998 we introduced a 0.35-micron microprocessor whose features included a reduction in size and improved performance. In addition, in September 2000 we completed a VHDL model of this technology which enables customers to purchase intellectual property incorporating microprocessor functions with other parties’ applications to arrive at a system on a chip solution. By purchasing this software model, customers can significantly reduce their time to market by simulating results as opposed to trial and error commitment to silicon production. We are currently working on a 0.18-micron enhancement of silicon production for our Ignite microprocessor technology.

     Industry Background. The semiconductor logic market has three major sectors:

	•		standard logic products,
	•		application specific standard products, and
	•		application specific integrated circuits.

     Standard logic products, such as the Intel’s X86 and Pentium and Motorola’s 680X0 microprocessor families, are neither application nor customer specific. They are intended to be utilized by a large group of systems designers for a broad range of applications. Because they are designed to be used in a broad array of applications, they may not be cost effective for specific applications. Application specific integrated circuits are designed to meet the specific application of one customer. While cost effective for that application, application specific integrated circuits require large sales volumes of that application to recover their development costs. Application specific standard processors are developed for one or more applications but are not generally proprietary to one customer. Examples of these applications include modems, cellular telephones, wireless communications, multimedia applications, facsimile machines and local area networks. We have designed our microprocessor to be combined with application specific software to serve as an embedded control product for the application specific standard processor market sector.

     Application specific standard processors are typically used in embedded control systems by manufacturers to provide an integrated solution for application specific control requirements. Such systems usually contain a microprocessor or microcontroller, logic circuitry, memory and input/output circuitry. Electronic system manufacturers combine one or more of these elements to fit a specific application. The microprocessor provides the intelligence to control the system. The logic circuitry provides functions specific to the end application. The input/output circuitry may also be application specific or an industry standard component. The memory element, if not on the microprocessor, is usually a standard product used to store program instructions and data. In the past, these functions have been executed through multiple integrated circuits assembled on a printed circuit board. The requirements for reduced cost and improved system performance have created market opportunities for semiconductor suppliers to integrate some or all of these elements into a single application specific standard processor or chip set, such as the Ignite family of

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microprocessors. The Ignite family provides close integration of the microprocessor and input/output function with the logic circuitry, thereby providing an advanced application specific standard processor.

     Embedded control systems enable manufacturers to differentiate their products, replace less efficient electromechanical control devices, add product functionality and reduce product costs. In addition, embedded control systems facilitate the emergence of completely new classes of products. Embedded control systems have been incorporated into thousands of products and subassemblies worldwide, including automotive systems, remote controls, appliances, portable computers and devices, cordless and cellular telephones, motor controls and many other systems.

     Microprocessors are generally available in 4-bit through 64-bit architectures, which refers to the amount of data they can process. 4-bit microprocessors are relatively inexpensive, typically less than $1.00 each. Although they lack certain performance and features, they account for more than 40% of worldwide microcontroller volume. Also in general use today are 8-bit architectures, generally costing $1.00 to $10.00 each and accounting for an additional 40% of worldwide microcontroller volume. To date 16-bit, 32-bit and 64-bit architectures, with typical costs of over $10.00 each, have offered very high performance, but are generally considered to be expensive for high-volume embedded control applications. The use of 16-bit, 32-bit and 64-bit architectures offers fewer internal limitations, making programming easier and providing higher performance. Although generally more expensive per unit and requiring more support logic and memory, these devices offer many advantages for more sophisticated embedded control systems.

     Electronic system designers, driven by competitive market forces, seek semiconductor products with more intelligence, functionality and control that can be used to reduce system costs and improve performance. For these needs, the Ignite product family was designed to be a sophisticated 32-bit microprocessor with advanced features. The Ignite product family uses a smaller number of transistors compared to other RISC processors which results in less power consumption and more economical prices compared to other embedded control applications. This creates the opportunity for the development of new, cost-effective applications.

     Technology Description. Conventional high-performance microprocessors are register-based with large register sets. These registers are directly addressable storage locations requiring a complex architecture that consumes costly silicon. This conventional architecture provides processing power for computer applications but complicates and slows the execution of individual instructions and increases silicon size, thereby increasing the microprocessor cost.

     Our technology is fundamentally different from most other microprocessors in that the data is stored in groups. Our microprocessor employs certain features of both register and stack designs. The resultant merged stack-register architecture improves program execution for a wide range of embedded applications. Our design combines two processors in one highly integrated package, a microprocessing unit for performing conventional processing tasks, and an input-output processor for performing input-output functions. This replaces many dedicated peripheral functions supplied with other processors. The microprocessor’s design simplifies the manipulation of data. Our architecture employs instructions that are shrunk from 32-bits to 8-bits. This simplified instruction scheme improves execution speed for computer instructions. Our architecture incorporates many on-chip system functions, thus eliminating the requirement of support microprocessors and reducing system cost to users.

     The 0.8-micron microprocessor was designed to operate at a speed of 50Mhz; the 0.5-micron microprocessor at a speed of 100Mhz; the 0.35-micron microprocessor at 150MHz; and the 0.18-micron to operate at speeds in excess of 300Mhz. They are all compatible with a wide range of memory technology from low cost dynamic random access memory to high-speed static random access memory. The microprocessors can be packaged in various surface-mount and die-form packaging. There can be no assurance that the designed speed will be achieved with production models of the 0.5 or 0.18-micron microprocessors or future versions or that all of the desired functions will perform as anticipated.

     Our technology is not designed or targeted to compete with high-end processors for use in personal computers. It is targeted for embedded control applications. We believe that the features described above differentiate the Ignite family from other 8-bit to 64-bit microprocessors targeted for embedded control applications. Considering the reduced requirement for support microprocessors, the Ignite family is intended to be available at a high volume price that should be price competitive with high-end 8-bit microprocessor and general 16-bit microprocessor systems but with higher performance (speed and functional capability). The Ignite family has been designed to allow high-speed and high-yield fabrication using generally available wafer fabrication technology and facilities.

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     The Ignite Microprocessor as a Java Processor. We believe the Ignite microprocessor architecture is capable of being an efficient and cost effective Java programming language processor, because Java is designed to run on a stack-oriented architecture and the Ignite architecture executes the virtual stack machine internal to Java efficiently. Many Java operation codes or instructions require only a single 8-bit Ignite family instruction to be executed, providing a performance advantage over other more expensive processors that require six or more 32-bit instructions to do the same task. This feature allows the execution of Java programs with increased speed and reduced code size thereby enabling lower system memory costs. In addition, the incorporation of many on-chip system functions is expected to allow the Ignite family to perform most of the other functions required of an Internet computer device or Java accelerator, thereby eliminating components. Since Internet computers are designed to be inexpensive appliances for Internet access, cost, speed and performance are expected to be key requirements for designers. We believe the Ignite technology can compete favorably on the basis of such requirements, although there can be no assurance we can successfully exploit Java related applications or that competitors will not create superior Java processors.

     We have ported the Java operating environment to the Ignite family, which currently uses the C programming language for software support. We are a licensee of Sun Microsystems Inc. This enables us to develop and distribute products based on Sun’s personalJava, a platform on which to run Java applications. We have also licensed from Wind River an operating system, VxWorks, and entered into a relationship with Forth Inc. whereby Forth will provide software support and operating system development tools for the Forth Programming language. We expect that successful implementation of this software should result in a microprocessor which is competitive in the Java virtual machine and embedded applications markets. We believe that, if the implementation is successfully completed, the Ignite I family will be competitive with Java microprocessors announced by competitors. However, there can be no assurance of successful implementation of this package of software or of a market for an Ignite family Java microprocessor.

     Stage of Development. In early 1994, nanoTronics initiated production of a first generation of wafers at a contract fabrication facility using 6 inch wafers employing 0.8-micron double-metal CMOS technology. After the May 31, 1994 acquisition, we improved the original design, added new features and performed simulations and tests of the improved designs. In October 1995, a run of six wafers of second generation 0.8-micron microprocessors was fabricated by a contract fabrication facility. Subsequently, we tested these microprocessors, while completing a C computer language compiler and preparing application development tools. The compiler and application development tools are necessary to enable system designers to program the Ignite family for specific applications. We made corrections to the design suggested by the testing of prototype units and produced an additional run of second generation microprocessors from remaining wafers in May 1996. In July 1996, we employed these microprocessors in demonstration boards for use by developers and prospective customers and licensees.

     In December 1997, we completed development of and started shipping a 0.5-micron microprocessor based on the Ignite technology and found that 0.5-micron double-metal CMOS technology improved operating speed, reduced power requirements, reduced physical size and reduced fabrication cost. In May 1998, we began a production run of a 0.35-micron microprocessor that further increased operating speed and cost performance over the previous generations of the Ignite family of microprocessors.

     At each stage of development, microprocessors require extensive testing to ascertain performance limitations and the extent and nature of errors (bugs), if any. When significant limitations or errors are discovered, additional rounds of design modifications and fabrication are required prior to having functional and demonstrable microprocessors for prospective customers and licensees. Although our 0.5 and 0.35-micron microprocessors have been sent to prospective customers in anticipation of production orders, there can be no assurance that we, during our continued testing of these products, will not identify errors requiring additional rounds of design and fabrication prior to commercial production. Additional delays could have an adverse effect on the marketability of our technology and financial condition.

     In September 2000, we completed the VHDL soft-core version of the Ignite microprocessor family. The hardware design inside a microprocessor, or silicon device, can be represented as a software program. This, in essence, replaces the old style of designing microprocessors using schematics. VHDL is the predominant software language used to design semiconductors. In addition to the design aspects, VHDL also contains sophisticated simulation tools that allow the designer to simulate the functionality of the entire design before committing to silicon. Also VHDL enables a designer to easily modify and enhance the design. A design represented in VHDL goes through a synthesis process

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whereby it is converted to the most basic element of a design, logical gates. This gate level representation in turn is used with computer aided engineering tools to translate the design into the most fundamental component of semiconductors, transistors. The characteristics of the transistors can be given as a library to a foundry. Therefore, a design represented in VHDL is technology and foundry independent and can be targeted for any given transistor geometry (such as 0.18, 0.25, or 0.35- micron) for any foundry of choice.

     We have developed marketing materials, product manuals and application development tools for use by licensees and customers. The manuals and tools are necessary to enable system designers to quickly and easily program the Ignite family for specific applications.

     We believe that the Ignite family is ready for licensing or sale and that any additional changes encountered in current testing will be minor and can be made during subsequent production runs of Ignite family microprocessors for customers, when and if orders are obtained. We also believe the core technology is ready for licensing for use by others to develop custom multiple function microprocessors.

     Business Strategy. The increasing demand for embedded control has made the market for microprocessors one of the largest segments of the semiconductor logic market. This demand will drive the need for embedded processors. Our strategy does not entail competing directly with suppliers who have multiple microprocessor types addressing all parts of the embedded systems market, but on identifying certain market niches that the Ignite would best address due to its low cost, low power consumption and small number of transistors.

     Because of the above factors, we intend to focus the majority of our efforts on the embedded microprocessor business, a market without an established base of microprocessor products and for which we believe the Ignite has desirable technical and market advantages.

     We believe that our architecture is suited for controller applications requiring high performance and low system cost, such as cell phones, printers, video terminals, robotics, motion controllers, industrial controllers, digital communication devices, video games, kiosks, cable and satellite modems and TV set top boxes. We expect that early licensing of the technology and product applications will focus on embedded control.

     We have three international distributors for foreign markets and are addressing the domestic market with an in-house business development person. We also have a strategic alliance with an outside microprocessor design house.

     We believe the appropriate approach for us initially lies in a balanced effort of cultivating licensees and developing specific product enhancement partnerships, producing original equipment manufactured products, and providing technical support to third parties on a contract basis. The overall balance of these approaches will be monitored and modified as we attempt to ascertain and capitalize on the highly dynamic and competitive embedded microprocessor market. There can be no assurance that we can successfully exploit our microprocessor technology.

     Subject to the availability of financial and personnel resources, while we are commercializing the Ignite family and the core technology, our strategy is to also design and develop future versions of the microprocessor with more demanding sub-micron technology and with more features. However, our resources are limited, and there can be no assurance that we will be able to continue microprocessor enhancement.

     Initial fabrications of the 0.8-micron and 0.5-micron processors were performed by contract fabrication facilities. The 0.35-micron microprocessor was fabricated by a contract fabrication facility that had agreed to provide production quantities for our customers. We are currently working with a contract fabrication facility and our design house partner to produce a 0.18-micron version of the Ignite. There can be no assurance fabrication facilities will be available to produce the Ignite family in the future. However, since there are a large number of fabrication facilities with the capability to produce the Ignite family of microprocessors, we believe microprocessors can be produced on a contract basis. Industry shortages of fabrication facilities that may exist and are predicted to exist in the future are generally limited to the more demanding architectures. If a shortage of fabrication facilities develops, it could have a material adverse effect on our financial condition.

     Competition. The semiconductor industry is intensely competitive and has been characterized by price erosion, rapid technological change and foreign competition in many markets. The industry consists of major domestic and

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international semiconductor companies, most of which have greater financial, technical, marketing, distribution, development and other resources than ours. The market for microprocessors and for embedded control applications is at least as competitive.

     While our strategy is to target high-volume licensees and microprocessor customers requiring more sophisticated but low-cost, low-power consumption devices, we can still expect significant competition. We may also elect to develop embedded control system products utilizing our own architecture or by contract for other manufacturers.

     We expect that the Ignite family, if successfully commercialized in the embedded controller market, will compete with a variety of 16/64-bit microprocessors including those based on intellectual property from ARM and MIPS and microprocessors from Hitachi, Motorola and IBM. As a Java processor, we expect our Ignite family will compete with a broad range of microprocessors including those incorporating co-processor accelerator technology. The producers of these microprocessors have significantly greater resources than ours.

     A new entrant, such as ours, is at a competitive disadvantage compared to these and other established producers. A number of factors contribute to this, including:

	•		the lack of product performance experience,
	•		lack of experience by customers in using application development systems,
	•		no record of technical service and support, and
	•		limited marketing and sales capabilities.

JUICEtechnology

     General Background. During 2001 we introduced a technology to enhance the users experience of the wireless internet by expanding the capabilities of his device (either a cell phone, PDA, smart phone or pocket PC). By varying the speed at which the microprocessor processes information, the device can present information in a richer format than is available from current technologies and, additionally, doing so with less drain on the device’s battery.

     Industry Background. The wireless industry currently provides voice and text data over airwaves ranging from 8Kbps to 19.6Kbps in North America. Voice transmissions account for the majority of wireless use, however at these band widths data content providers are limited to the type of product they are able to transmit and display on a user’s device. In addition, users are now familiar with the internet content they receive on their desk top and lap top computers provided by land lines and, therefore, may not be overly enthusiastic about inferior products provided by the wireless internet. Eventually the band width is expected to increase to over 2Mbits. When this happens, content providers will be able to transmit information to a user’s device in a way similar to existing land lines thereby meeting the user’s current expectations. These enhanced transmissions may include items such as video streaming, video mail, mobile television, video conferencing and video on demand just to name a few. In North America we are still several years away from this solution. Currently only 4%outstanding line of wireless users are internet connected. Significant funds will need to be expended to procure band width and provide the infrastructure to meet the demandscredit of next generation wireless applications. In the meantime, device manufacturers, wireless data network providers and content providers continue to attempt to attract a larger number of wireless internet subscribers with existing technology. Several areas which are having a dampening effect on attracting internet subscribers are the mobile wireless device’s small screen size and limited battery power, the user’s difficulty in interacting when using small keypads or number pads, and the network carrier’s transmission of text only or limited graphics.

     Technology Description. JUICEtechnology provides a solution for text only and limited graphics content and limited battery power. Juice allows interaction between the microprocessor contained in the user’s device and the data being transmitted by the content provider. When the content is such that increased processor speed is required to provide a better display, as would be the case in expanded graphics, the microprocessor simply increases its functioning speed. Conversely, if the content is such that the microprocessor can effectively process the content at a lower speed, then the processor slows down, thereby, conserving energy. This combination provides for both expanded battery life for the user’s device and for a richer wireless internet experience for the user.

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     Stage of Development. The engineering is complete for JUICEtechnology, however, we are awaiting significant customer interest before we commit to the development of a working model available for demonstrations and commercialization.

     Business Strategy. To launch JUICEtechnology we will need the support of a major manufacturer, wireless service provider or content supplier who can introduce the product as a defacto standard.

     Competition. Although we are not aware of any other solutions which condition data in the manner that JUICEtechnology does, there are a variety of companies that are attempting to vary the speed at which a microprocessor processes data including Intel, Hitachi, Transmeta and AMD. Some of our existing and potential competitors have substantially greater financial, technical, marketing and distribution resources than we do. Additionally, many of these companies have greater name recognition and more established relationships with our target customers. Furthermore, these competitors may be able to adopt more aggressive pricing policies and offer customers more attractive terms than we can.

High Speed Data Communications Products.

     The communication products that reached the end of their life cycles are:

	VME Product Line— a line of intelligent high-speed communications engines in a virtual memory European form factor. Some of our customers for these products included the military as well as large satellite based data communications companies.
	Atcomm2/4 Product Line— an intelligent two or four channel product that was used for high-speed data communications.

     Except for minor repeat orders, we no longer are supporting this product line. Our strategy is to sell this product line so we may concentrate our efforts and resources on Ignite and JUICEtechnology.

Radar and Antenna Technology.

     General Background. We commenced active development of our ground penetrating radar technology in April 1992. By May 1993, we were able to demonstrate the sensing, processing and crude visualization of images from our technology, and by May 1994 we had completed our prototype device. Since May 1994, we have focused our efforts and limited financial resources on the microprocessor technology and communication products, effectively suspending development and marketing efforts related to ground penetrating radar.

     Gas Antenna Technology Description.

     We sold our gas plasma technology in August 1999.

Research and Development.Our current development efforts are focused on improvement of and additional features for the Ignite family microprocessor and developing the JUICEtechnology. The development of these technologies has taken longer than anticipated and could be subject to additional delays. Therefore, there can be no assurance of timely or successful marketing of these technologies.

     We incurred research and development expenditures of $1,372,421, $2,218,433 and $3,170,166 for our fiscal years ended May 31, 2002, 2001 and 2000. The majority of these expenditures have been devoted to our microprocessor technology. We believe that technical advances are essential to our success and expect that we will continue to expend substantial funds on research and development of our technology. However, there can be no assurance that such research and development efforts will result in the design and development of a competitive technology in a timely manner.

$219,000.

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agreements to protect our proprietary technologies. Our policy is to seek the issuance of patents that we consider important to our business to protect inventions and technology that support our microprocessor technology.

     Based on the asset purchase agreement and plan of reorganization between Patriot, nanoTronics and Mr. Falk, we were the recipients of a number of warranties and indemnities. We believe nanoTronics has been liquidated and, due to Mr. Falk’s death in July 1995, we may be limited in our ability to obtain satisfaction should we have any future claims against nanoTronics or its successor, the Falk Family Estate.

     We have entered into the following licenses related to the microprocessor technology:

	•		Sierra Systems. In June 1994, we entered into an agreement with Sierra Systems whereby we could provide the C programming language on the Ignite. We currently provide development boards with the C programming language.
	•		Sun Microsystems Inc. In June 1997, we entered into an agreement with Sun Microsystems, Inc. which enabled us to develop and distribute products based on Sun’s Java’s technology. In June 1998, we exercised an option under that agreement to license from Sun, personalJava, a smaller platform on which to run Java applications that did not include an operating system. We determined that personalJava was better suited to the markets available to the Ignite. We have ported personalJava to the Ignite.
	•		Wind River. In July 1997, we entered into an agreement with Wind River that provided us with a license for an operating system, VxWorks, to be used in conjunction with personalJava. We have ported VxWorks to the Ignite.
	•		Forth Inc. In July 1997, we entered into a license agreement with Forth Inc. whereby Forth will provide software support and operating system development tools for the Forth programming language. Several customers are evaluating the Ignite as a microprocessor using the Forth programming language.

     We had one U.S. patent on our gas plasma antenna technology that was sold in August 1999.

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to domestic customers.

i) selective expansion of our IP portfolio, ii) pursuit of strategic minority investments in certain early-stage revenue or technology ventures that represent a technology or capability of interest to us, and iii) full M&A transactions.

     All of the above sales were for communication products and were shipped against multiple purchase orders from each customer.

Employees.May 31, 2008 and 2007. We incurred research and development expenditures of $225,565 for our fiscal year ended May 31, 2006. The majority of these expenditures have been devoted to our microprocessor technology. As our primary business strategy has been to enforce our intellectual property patents through licensing, we are not currently making expenditures relating to research and development, although future research and development costs may be incurred as a result of our merger and acquisition activities.

needed.

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will be able to retain our key managerial and technical employees or that we will be able to attract and retain additional highly qualified technical and managerial personnel in the future. None of our employees isare represented by a labor union, and we consider our relations with our employees to be good. None of our employees isare covered by key man life insurance policies.

Government Regulation.To

     Were-examination process would have not incurred costs associated with environmental lawsa very significant and do not anticipate such laws will have any significantadverse effect on our business.

     We have2007.

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comparability of the information provided in the charts below.

	•		the overall state of the semiconductor and communications segments of the economy,
	•		the development status of and demand for our products,
	•		economic conditions in our markets,
	•		the timing of orders,
	•		the timing of expenditures in anticipation of future sales,
	•		the mix of products sold by us,
	•		the introduction of new products,
	•		product enhancements by us or our competitors, and
	•		pricing and other competitive conditions.

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Critical Accounting Policies

our technology. We believe that utilizing the following representoption of working through TPL, as compared to creating and using a Company licensing team for those activities, avoids a competitive devaluation of our critical accounting policies:

Property, Equipment and Depreciation

     Property and equipment are stated at cost. Depreciation is computed over the estimated useful life of three to five years using the straight-line method. Long-livedprincipal assets and certain identifiable intangiblesis a prudent way to be held and used byachieve the Company are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We continuously evaluate the recoverabilitydesired results as we seek to obtain fair value from users of our long-lived assets based on estimated future cash flows fromintellectual property.

Patents and Trademarks

     Patents and trademarks are carried at cost less accumulated amortization and are amortized over their estimated useful lives of four years. The carrying value of patents and trademarks is periodically reviewed and impairments, if any, are recognized when the expected future benefit to be derived from an individual intangible asset is less than its carrying value.

Revenue Recognition

     We recognize revenue on the shipment to our customers of communication products, microprocessor integrated chips and evaluation boards. We anticipate thatcompanies operating in the future we will also deriveelectronics technology market sector by way of i) selective expansion of our IP portfolio, ii) pursuit of strategic minority investments in certain early-stage revenue from fees for the transferor technology ventures that represent a technology or capability of proveninterest to us, and reusable intellectual property components or the performance of engineering services. We anticipate to enter into licensing agreements that will provide licensees the right to incorporate our intellectual property components in their products with termsiii) full M&A transactions.

Resultscan make a reliable estimate of Operationssuch loss and it is probable that it has been incurred. By their very nature, contingencies are difficult to estimate. We continually evaluate information related to all contingencies to determine that the basis on which we have recorded our estimated exposure is appropriate.

Our cost of sales in fiscal 2002, 2001 and 2000 were as follows:

     Cost of sales. Cost of sales as a percentage of net sales decreased inoperations for the fiscal year ended May 31, 2002 compared2007 included compensation expense for share-based payment awards granted prior to, but not yet vested as of May 31, 2006 based on the previous fiscal year. This decrease was due to a reductiongrant date fair value estimated in fixed manufacturing overhead as a result of cost cutting programs instituted in conjunctionaccordance with the completionpro forma provisions of SFAS No. 123 and compensation expense for the communication product line duringshare-based payment awards granted subsequent to May 31, 2006 based on the current fiscal year. Costgrant date fair value estimated in accordance with the provisions of sales as a percentageSFAS No. 123(R). Stock-based compensation expense recognized in our consolidated statement of net sales increased inoperations for the fiscal year ended May 31, 20012008 included compensation expense for share-based payment awards granted subsequent to May 31, 2007 based on the grant date fair value estimated in accordance with the provisions of SFAS No. 123(R). As stock-based compensation expense recognized in the consolidated statements of operations is based on awards ultimately expected to vest, it has been reduced for estimated forfeitures. SFAS No. 123(R) requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. The estimated average forfeiture rate for the fiscal year ended May 31, 2008 and 2007, of approximately 5% was based on historical forfeiture experience and estimated future employee forfeitures.

fiscal year ended May 31, 2007. Our researchrevenue amounts do not include approximately $27,848,000 and development expensesapproximately $48,965,000 in income resulting from our investment in Phoenix Digital Solutions, LLC for the fiscal 2002, 2001years ended May 31, 2006 and 2000May 31, 2007, respectively. In the first quarter of the 2006 fiscal year we entered into an agreement with Intel Corporation licensing our intellectual property, in connection with which we received a one-time payment of $10,000,000. The license revenue was recognized during the 2006 fiscal year. In addition, product sales amounting to approximately $310,000 were also recorded during the 2006 fiscal year in connection with communications products that we no longer market. Inventory associated with the sales of these communications products was carried at zero value. Cost of sales of approximately $103,000 consisted of payments made to subcontractors for materials and labor in connection with the product sales. During the fourth quarter of the 2007 fiscal year we recorded sales amounting to approximately $559,000 by our consolidated variable interest entity, SSDI with cost of sales amounting to approximately $308,000. Also during the 2007 fiscal year we recognized maintenance fee revenues totaling approximately $25,000 in connection with an agreement with AMD Corporation during the 2005 fiscal year. The agreement called for maintenance fees totaling $100,000 connected with a license agreement for our Ignite technology; the license fee revenue is being recognized as follows:

revenue evenly over the four year period of the license. In addition during the 2007 fiscal year, we recorded sales of approximately $55,000 from the sale of microprocessor chips that we no longer market. Inventory associated with the sales of these microprocessor chips is carried at zero value.

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Research and development expenses decreased during the fiscal year ended May 31, 2001 compared to the previous fiscal year. This decrease was due primarily to non-cash compensation expense of $1,588,960 being recorded the previous fiscal year as a result of the Company providing employees and directors the option of exercising their stock options using a cashless exercise provision compared to no similar expense in the current fiscal year. This decrease was partially offset by an increase in personnel costs of approximately $300,000 and consulting services of $150,000. The increase in personnel and consulting costs was attributable to the introduction of the new soft core version of the microprocessor technology and to accelerate the effort to complete and improve the marketability of the Ignite I and JUICEtechnology. We added four research and development personnel, including one executive, during the fiscal year ended May 31, 2001.

Our selling, general and administrative expenses in fiscal 2002, 2001 and 2000 were as follows:

     Selling, general and administrative expenses increased during the fiscal year ended May 31, 2002. This increase was due primarilyamounting to approximately $294,000 of legal, accounting and shareholder costs associated with several registrations of securities and two shareholder meetings, non-cash compensation of $105,000 related$1,527,000. On October 23, 2006, 230,000 options were granted to services provided to support our merger and acquisition activities, offset by reductionsemployees resulting in consulting expenses of $286,000. Selling, general and administrative expenses decreased during the fiscal year ended May 31, 2001, compared to the previous fiscal year. This decrease was due primarily to non-cash compensation expense of approximately $2,150,000 being recorded during the previous fiscal year as a result of the Company providing$184,000. On February 9, 2007, 1,070,000 options were granted to employees and directors the optionresulting in non-cash compensation expense of exercising their stock options using a cashless exercise provision compared to no similar expense in the current fiscal year. This decrease was partially offset by an increase in marketing, employment and consulting costs of approximately $1,174,000. This increase was due to increased marketing expenses related to Ignite I and JUICEtechnology and additional$584,000. Additional non-cash compensation and relocation costs related to changes in several executive level positions. We added six selling, general and administrative personnel, including two executives, during the fiscal year ended May 31, 2001.

Our other income (expenses) in fiscal 2002, 2001 and 2000 were as follows:

     Other income (expense) changed significantly for the fiscal year ended May 31, 2002 compared2007 amounted to $61,000 for vesting of employee stock options in accordance with SFAS No. 123(R). No such compensation expense was incurred for the previous2006 fiscal year. This change resulted primarily from the recognition of non-cash interest expense ofOther salary expenses increased by approximately $1,324,000 related to the amortization of the debt discount associated with the issuance of warrants under the secured note payable, convertible debentures, and equity line of credit and interest expense related to the excess of the market price over the carrying value of the common shares sold to Swartz for which the proceeds were applied to the note payable balance. Other income (expenses) changed significantly$398,000 for the fiscal year ended May 31, 2001,2007 as compared towith the previousfiscal year ended May 31, 2006 including approximately $223,000 in salaries and related expenses for SSDI during the fourth quarter of the 2007 fiscal year. Salary expenses for PTSC including expenses connected with bonuses and 401(k) employer matching of salaries increased by approximately $175,000 in the 2007 fiscal year as compared with the 2006 fiscal year. Marketing related expenses decreased by approximately $139,000 for the fiscal year ended May 31, 2007 as compared with the fiscal year ended May 31, 2006 as product marketing activities were largely discontinued. Public and investor relations expenses increased by approximately $165,000 for the fiscal year ended May 31, 2007 as compared with the 2006 fiscal year as a result of a change in our public relations firm and one-time contracts with investor relations consultants. Insurance expense increased by approximately $158,000 for the fiscal year ended May 31, 2007 as compared with the 2006 fiscal year primarily as a result of increased costs of directors and officers insurance coverage. Travel and related expenses for the 2007 fiscal year increased by approximately $44,000 as expenses for SSDI were combined with travel expenses for PTSC which increased due to travel to attend various lawsuit mediations.

Liquidity and Capital Resources

     In connection with their report onVIE (see Note 8 to our consolidated financial statements as of andfor more information).

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PDS. At May 31, 2002,2007 we had deficit working capitalhave utilized all of $918,768our state net operating loss carryforwards of approximately $17,822,000 and utilized approximately $29,090,000 of our federal net operating loss carryforwards.

     We estimate our current cash requirements to sustain our operations for the next twelve months through May 2003 to be $2.4 million. Since we are attempting to sell the communications product line, we are assuming that there will be no communications product revenue. We have a note payable to Swartz of $635,276 at May 31, 2002 which is due in October 2002. We also have a convertible debenture with one investor as of May 31, 2002 of $225,000 and have received advances against additional convertible dentures of $283,000. In addition to limitations based on trading volume and market price of the common stock, our ability to obtain equity financing under the $25 million equity line of credit (see Note 7 to the consolidated financial statements) is dependent on our having registered shares of our common stock to sell to Swartz Private Equity, LLC (“Swartz”). As of May 31, 2002, we do not have any registered shares to sell to Swartz. Subsequent to May 31, 2002, we completed the first funding of the convertible debentures by receiving an additional $492,000. At the option of the debenture holders, they may purchase additional debentures up to $1 million at any time during the next two years as long as the price of our common stock is in excess of $0.20 per share.

     The terms of the $25 million equity line of credit, including limitations on the amount of shares that can be sold to Swartz based on the trading volume and market price of the common stock and the potential additional amounts that may be raised under the convertible debentures may not provide funds sufficient to meet our cash requirements. In order to meet our cash requirements, we may need to receive additional advances from Swartz, secure short-term debt, private placement debt and/or equity financings with individual or institutional investors. In addition to the cost reduction plan implemented during the current fiscal year, including the reduction in personnel, we may need to make additional cost reductions if our cash requirements cannot be met from external sources. We expect that the $2.4 million requirement will be provided by:

	•		the additional funds received subsequent to May 31, 2002, related to the convertible debentures of $492,000;
	•		optional amounts which may received under the convertible debentures of $1,000,000;
	•		additional funds under the $25 million equity line of credit if we are successful in registering additional shares of common stock, limitations based on trading volume and market price of the common stock allow adequate funding, and such available funding exceeds the remaining balance of the note payable to Swartz;
	•		proceeds from the exercise of outstanding stock options and warrants; and
	•		additional debt and/or equity financings.

In addition, we have formulated additional cost reduction plans which can be implemented if the required funds are not obtainable. We also have remaining a $400,000 accounts receivable factoring agreement with our bank; however, we have no eligible accounts receivable to factor as of May 31, 2002.

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     We anticipate our future revenue to be derived primarily from the sale of licenses and royalties. To receive this revenue, we may require additional equipment, fabrication, components and supplies during the next twelve months to support potential customer requirements and further develop our technologies. Product introductions such as those currently underway for the Ignite I and JUICEtechnology may require significant product launch, marketing personnel and other expenditures that cannot be currently estimated. Further, if expanded development is commenced or new generations of microprocessor technology are accelerated beyond current plans, additional expenditures we cannot currently estimate, may be required. It is possible therefore, that higher levels of expenditures may be required than we currently contemplate resulting from changes in development plans or as required to support new developments or commercialization activities or otherwise.

     Based on our current plan and assumptions, we anticipate that we will be able to meet our cash requirements for the next twelve months. We anticipate meeting our cash needs as follows:

     As shown above, we need to obtain $3,035,276. Any additional funding under the existing $25 million equity line of credit is dependent on many factors. However, there can be no assurance that any funds required during the next twelve months or thereafter can be generated from sales of common stock under the existing $25 million equity line of credit or that we will be able to secure additional debt or equity financing. The lack of additional capital could force us to substantially curtail or cease operations and would, therefore, have a material adverse effect on our business. Further, there can be no assurance that we will be able to timely receive shareholder approval to increase the number of authorized shares or that required funds, if available, will be available on attractive terms or that they will not have a significantly dilutive effect on our existing shareholders. As such, there is substantial doubt about our ability to continue as a going concern. The consolidated financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classification of liabilities that may result from our possible inability to continue as a going concern.

$25 Million Equity Line of Credit

Overview.On September 17, 2001, we entered into an investment agreement with Swartz. The investment agreement entitles us to issue and sell our common stock to Swartz for up to an aggregate of $25 million from time to time during a three-year period following the effective date of the registration statement. This is also referred to as a put right. We filed a registration statement on Form S-1 on October 11, 2001 that was declared effective on November 5,

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2001 for 15,000,000 shares of our common stock which we issued to Swartz during the fiscal year ended May 31, 2002. There remains2006 of approximately $24 million available under this line conditioned on us filing one or more additional registration statements. As$6,474,000. The principal components of August 1, 2002,the current year amount were: net income of approximately $9,388,000 adjusted for: minority interest in SSDI of approximately $115,000, non-cash charges of approximately $510,000 related to issuance and vesting of stock options and warrants. These increases were partially offset by: the equity in earnings of our investees of approximately $19,918,000, change in deferred taxes of approximately $9,937,000, and a decrease in trade payables and accrued expenses of approximately $1,091,000 primarily due to our accrual of royalties payable at May 31, 2007 of which we have not filedno obligation at May 31, 2008.  The cash provided by operating activities during fiscal year 2006 was primarily due to our one-time license of $10,000,000 from Intel Corporation.

Put Rights.In ordercredit of approximately $590,000 to invoke a put right, we must have an effective registration statement on file with the SEC registering the resale of the common shares which may be issued as a consequence of the invocation of that put right. Additionally, we must give at least ten but not more than twenty business days advance notice to Swartz of the date on which we intend to exercise a particular put right, and we must indicate the number of shares of common stock we intend to sell to Swartz. At our option, we may also designate a maximum dollar amount of common stock (not to exceed $3 million) which we will sell to Swartz during the put and/or a minimum purchase price per common share at which Swartz may purchase shares during the put. The number of common shares sold to Swartz may not exceed 20% of the aggregate daily reported trading volume during each of two consecutive ten business day periods beginning on the business day immediately following the day we invoked the put right.

     The price Swartz will pay for each share of common stock soldHolocom Networks, Inc.

     We issuedfiscal year 2008 consisted primarily of approximately $2,761,000 to Swartz a commitment warrantrepurchase warrants from an investor and approximately $3,891,000 used to purchase up to 900,000repurchase shares of our common stock concurrent withfor treasury. The cash used in fiscal year 2008 was partially offset by proceeds received of approximately $31,000 from the execution of the investment agreement. This warrant is exercisable through September 17, 2006 at an initial exercise price of $0.22. The commitment warrant exercise price is subject to being reset on each six month anniversary of its issuance.

Limitations and Conditions Precedent to Our Put Rights.We may not initiate a put if, as of the proposed date of such put:

	•		we have issued shares of our common stock that have been paid for by Swartz and the amount of proceeds we have received is equal to the maximum offering amount;
	•		the registration statement covering the resale of the shares becomes ineffective or unavailable for use;
	•		our common stock is not actively trading on the OTC Bulletin Board, the Nasdaq Small Cap Market, the Nasdaq National Market, the American Stock Exchange, or the New York Stock Exchange, or is suspended or delisted with respect to the trading on such market or exchange.

     If any of the following events occur during the pricing period for a put, the volume accrual shall cease. For the put, the pricing period shall be adjusted to end 10 business days after the date that we notify Swartz of the event, and any minimum price per share we specified shall not apply to the put:

	•		we have announced or implemented a stock split or combination of our common stock between the advanced put notice date and the end of the pricing period;
	•		we have paid a common stock dividend or made any other distribution of our common stock between the advanced put notice date and the end of the pricing period;
	•		we have made a distribution to the holders of our common stock or of all or any portion of our assets or evidences of indebtedness between the put notice date and the end of the pricing period;
	•		we have consummated a major transaction (including a transaction, which constitutes a change of control) between the advance put notice date and the end of the pricing period, the registration statement covering the resale of the shares becomes ineffective or unavailable for use, or our stock becomes delisted for trading on our then primary exchange; or

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Short Sales.Swartz and its affiliates are prohibited from engaging in short sales of our common stock unless they have received a put notice and the amount of shares involved in a short sale does not exceed the number of shares specified in the put notice.

Shareholder Approval.We may currently issue more than 20% of our outstanding shares under the investment agreement. If we become listed on the Nasdaq Small Cap Market or Nasdaq National Market, then we must get shareholder approval to issue more than 20% of our outstanding shares. Since we are currently a bulletin board company, we do not need shareholder approval.

Termination of Investment Agreement.We may also terminate our right to initiate further puts or terminate the investment agreement by providing Swartz with notice of such intention to terminate; however, any such termination will not affect any other rights or obligations we have concerning the investment agreement or any related agreement.

Restrictive Covenants.During the term of the investment agreement and for a period of two months thereafter, we are prohibited from certain transactions. These include the issuance of any debt or equity securities in a private transaction which are convertible or exercisable into shares of common stock at a price based on the trading priceoptions and warrants. Cash used in financing activities in fiscal year 2007 consisted primarily of theapproximately $8,115,000 in cash dividends to common stock at any time after the initial issuance of such securities or with a fixed conversion or exercise price subjectshareholders and approximately $8,832,000 used to adjustment without obtaining Swartz’s prior written approval.

Right of First Refusal.Swartz has a right of first refusal to purchase any variable priced securities offered by us in any private transaction which closes on or prior to two months after the termination of the investment agreement and a right of participation for any equity securities offered by us in any private transaction which closes on or prior to two months after the termination of the investment agreement.

Swartz’s Right of Indemnification.We are obligated to indemnify Swartz (including their stockholders, officers, directors, employees and agents) from all liability and losses resulting from any misrepresentations or breaches we made in connection with the investment agreement, our registration rights agreement, other related agreements, or the registration statement.

Waiver and Agreement.On March 12, 2002, we entered into an amended waiver and agreement with Swartz which replaced and superseded all previous waivers and agreements. This amended waiver and agreement extended the time of the put beyond twenty days and redefined the price of the put to be the lesser of the factor of (a) the volume weighted average price per share, as defined by Bloomberg L.P., for each day of the put multiplied by .70 or (b) the volume weighted average price per share minus $0.05 multiplied by 20% of the acceptable daily volume as defined in the waiver. At the discretion of Swartz, the 20% daily volume limitation could be increased up to 30% of the daily volume. In addition, the amended waiver and agreement increased the intended put share amount for the first put to 14,100,000 shares, which is the total number of shares we had registered so far under the $25 million equity line of credit. On May 30, 2002 we closed the first put under the $25 million equity line of credit by applying the proceeds of $926,924 to the secured note payable discussed below.

Warrants.In connection with closing the $25 million equity line of credit, we issued to Swartz a commitment warrant to purchase 900,000repurchase shares of our common stock as discussed furtherfor treasury.

Secured Note Payable

     On March 12, 2002, we replaced and superceded a previously issued Secured Promissory Note with Swartz with an Amended Secured Promissory Note and Agreement with an effective date of October 9, 2001 and an Addendum to Amended Secured Promissory Note dated March 12, 2002. The amended note matures on October 9, 2002 and amounts outstanding under the note bear interest at the rate of 5% per annum. Upon mutual agreement between Swartz

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and ourselves, Swartz may advance additional amounts under the amended note. Per the addendum to the amended note, principal and interest payments are deferred until October 9, 2002.

     As part of the consideration for entering into the above amended note, we agreed to issue warrants to Swartz related to each advance against the note. In connection with each advance, we issued to Swartz a warrant to purchase a number of shares of common stock equal to the amount of the advance multiplied by 8.25 at an initial exercise price equal to the lesser of (a) the factor of the average of the volume weighted average price per share, as defined by Bloomberg L.P., for each trading day in the period beginning on the date of the previous advance and ending on the trading day immediately preceding the date of the current advance multiplied by .70 or (b) the volume weighted average price per share minus $0.05. In addition, if after March 12, 2002, we issue common stock to any parties other than Swartz, we are obligated to issue to Swartz warrants equal to 20% of the common stock so issued. The amended note also gives to Swartz the right of first refusal and rights to participate in subsequent debt or equity transactions entered into by us through March 15, 2003.

     As offiscal year ended May 31, 2002 we issued warrants2007 was approximately $16,757,000 as compared to purchase upapproximately $24,202,000 for the fiscal year ended May 31, 2006 primarily due to 12,188,150payments of approximately $8,115,000 in cash dividends to our common shareholders and qualifying warrant holders for fiscal year 2007 as compared to approximately $24,698,000 in cash dividends paid for fiscal year 2006, and approximately $8,832,000 paid to repurchase shares of our common stock for treasury in accordance withfiscal year 2007. The cash used in fiscal 2007 was partially offset by cash received of approximately $214,000 from the amended note agreement. The warrants issued were valued using the Black-Scholes pricing model based on the expected fair value at issuanceexercise of common stock options and the estimated fair value was also recordedwarrants.

     The note is secured by our assets.

     All debt discounts are to be amortized as additional interest expense over the projected term of the note payable. As of May 31, 2002, $1,107,238 has been reflected as debt discount of which $917,722 was amortized2008 is expected to interest expense duringprovide the funds necessary to support our operations through the fiscal year ended May 31, 2002.

     On November 9, 2001, an offset of $227,800 from2009.

     On May 30, 2002, an offset of $926,924 from the sale of 14,100,000 shares of common stock was applied against the first put under the $25 million equity line of credit discussed below. The excess of the market value of the underlying 14,100,000 shares of common stock over the principal reduction of $926,924 was recorded as additional interest expense of $201,076 during the year ended May 31, 2002.

8% Convertible Debentures

Overview.From April 23, 2002 through June 10, 2002, we sold an aggregate of $1,000,000 of 8% convertible debentures to a group of six investors. The initial funding of $225,000 was completed on April 23, 2002 and we received additional advances of $283,000 as of May 31, 2002 towards the $775,000 closing on June 10, 2002. The convertible debentures entitle the debenture holder to convert the principal and unpaid accrued interest into our common stock through June 10, 2004. In addition, the debenture holder received warrants exercisable into a number of our common shares.

Initial Number of Shares Debentures May Be Converted Into.The $225,000 debenture can be converted into a number of our common shares at a conversion price that initially equals $0.10289 per share and the $775,000 debenture can be converted into a number of our common shares at a conversion price that initially equals $0.086 per share.

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Resets of Conversion Price and Conversion Shares.A reset date occurs on each three month anniversary of the closing date of each debenture and on the date the registration statement filed in June 2002 becomes effective. If the volume weighted average price for our common stock for the ten days previous to the reset date is less than the conversion price in effect at the time of the reset date, then the number of common shares issuable to the selling shareholder on conversion will be increased. If the conversion price is reset, the debenture can be converted into a number of our common shares based on the following calculation: the amount of the debenture plus any unpaid accrued interest divided by the reset conversion price which shall equal the volume weighted average price for our common stock for the ten days previous to the reset date.

Warrants.Concurrent with the issuance of the convertible debentures, we issued to the debenture holders warrants to purchase up to 12,859,175 shares of our common stock. These warrants are exercisable for five years from the date of issuance at initial exercise prices equal to 115% of the volume weighted average price for our common stock for the ten days previous to the debenture date. The warrant exercise price is subject to being reset on each six month anniversary of its issuance.

Options to Purchase Additional Debentures.Subject to the price of our common stock being equal to or greater than $0.20 per share and a two year limitation, the debenture holders may purchase additional debentures equal to the value of their initial debentures. The price at which the optional additional debentures could be converted would initially equal 115% of the volume weighted average price for our common stock for the ten days previous to the date on which the optional additional debentures were closed. The optional additional debentures would carry the same warrant amounts and reset privileges as the initial debentures.

Shareholder Approval.We may currently issue more than 20% of our outstanding shares under the convertible debentures. If we become listed on the NASDAQ Small Cap Market or Nasdaq National Market, then we must get shareholder approval to issue more than 20% of our outstanding shares. Since we are currently a bulletin board company, we do not need shareholder approval.

Restrictive Covenants.For a period of 18 months from the date of the debentures, we are prohibited from certain transactions. These include the issuance of any debt or equity securities in a private transaction which are convertible or exercisable into shares of common stock at a price based on the trading price of the common stock at any time after the initial issuance of such securities; the issuance of any debt or equity securities with a fixed conversion or exercise price subject to adjustment; and any private equity line type agreements without obtaining the debenture holders’ prior written approval.

Right of First Refusal.The debenture holders have a right of first refusal to purchase or participate in any equity securities offered by us in any private transaction which closes on or prior to the date that is two years after the issue date of each debenture.

     As of May 31, 2002 we issued warrants to purchase up to 2,514,809 shares of our common stock outstanding increased from 171,156,363 at May 31, 2004 to 366,199,765 at May 31, 2006, largely as a result of financing activities including sales of common stock, the issuance of convertible debentures and notes payable and related conversions and exercises of common stock warrants. Beginning in accordance withfiscal year 2006, we were able to finance operations utilizing distributions we received from PDS. As we pursue our investment and acquisition strategy, we may use a combination of cash, debt, and common stock to finance these efforts.