MicroVision, Inc.

Contact

M I C R O V I S I O N  

2 0 0 3   A N N U A L   R E P O RT

When breakthrough products connect with ready 

markets, it generates a spark. You see it in the 

eyes of workers given the tools they need to excel.

It flashes at the heart of genuine innovation. And

it’s the charge that crackles through a company 

as it enters a new phase of growth.

These pages hold a snapshot of our company at 

a pivotal moment, one in which we are energized 

and moving forward with the critical momentum 
that only comes with contact.

Forward-looking statements
Statements contained in this annual report that relate to future plans, events or performance and potential applications of our technology, including projections of revenues,

expenses and losses, plans for product development, sales, customers and channel partners, reductions in sales cycle, signing of contracts, future operations and shipping of

products, as well as statements containing words like “expect,” “believe,” “anticipate,” “estimate,” “will,” “poised,” and other similar expressions, are forward-looking statements

that involve a number of risks and uncertainties. Factors that could cause actual results to differ materially from those projected in the Company’s forward-looking statements

include the following: market acceptance of and the current developmental stage of our technologies and products; our financial and technical resources relative to those of

our competitors; our ability to obtain financing; our history of negative cash flows and current expectation of additional losses; our lack of manufacturing experience and ongoing

capital requirements; our dependence on key personnel; our ability to keep up with rapid technological change; changes in display technologies; government regulation of our

technologies; our ability to enforce our intellectual property rights and protect our proprietary technologies; the ability to obtain additional contract awards and to develop part-

nership opportunities; the timing of commercial product launches; the ability to achieve key technical milestones in key products; dependency on advances by third parties in

certain technology used by us and other risk factors identified from time to time in the Company’s SEC reports, including in its Prospectuses filed pursuant to Rule 424(b) on

November 3, 2003, its Annual Report on Form 10-K for the year ended December 31, 2003 and its Quarterly Reports on Form 10-Q. Except as expressly required by the federal

securities laws, we undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, changed circum-

stances or any other reason.

M V I S 03

To our shareholders  

Contact. A connection made. An engine sparking to life. A message 

2003 Events

getting through. 2003 for Microvision was about our products connect-

ing  with  the  marketplace  and  setting  the  stage  for  growth  in  product

revenue. We introduced breakthrough products and compelling proto-

types that we believe will be the engine for revenue growth in 2004 and

beyond. 2003 was about making contact with customers, with whom we

collaborated to design solutions that best meet their needs and contact

with  resellers  and  OEM  partners  who  are  delivering  our  products  to 

new users. 

Leading the way for expected product revenue growth is the Nomad®

Expert Technician System that we introduced to the automotive industry

in late 2003. The Nomad System provides head-up, hands-free access to

detailed diagnostic and repair information for automotive technicians

Develop automotive market strategy and
opportunities

Ship handheld Bar Code Scanners to NCR

Two projects use laser projection technology
for in-vehicle applications

Lumera demonstrates new polymer-based
radio frequency phase shifter for lightweight
phased array antenna systems

Awarded additional subcontract to support
Navy’s Battlespace Information Display
Technology Program

Company sets new benchmark for MEMS 
performance capabilities

Enter into new agreement with Canon

who otherwise must move between a computer screen and the vehicle

Completed $12.5 million equity offering

they are servicing. In time trials and demonstrations, the Nomad System

improved productivity by almost 40 percent.

The marketplace has eagerly received the Nomad System (hear the

raves for yourself at www.microvison.com/nomadexpert), and that’s no

accident. We’ve worked closely with American Honda Motor Company,

Volvo Trucks, and others in the industry to maximize the potential success

of the commercial product when it is introduced in the first part of 2004. 

We  chose  the  automotive  market  as  our  launch  application  for

Nomad  because  the  potential  in  this  market  is  enormous.  The  service

portion of the automotive aftermarket was estimated at $132 billion in

2003, with labor accounting for roughly $59 billion. Sales of tools in that

market were estimated at $7.9 billion. And, use by service technicians is

just one of several of industry-related applications for the Nomad System.

Awarded additional $2.2 million from 
U.S. Army

U.S. Army adds $1.6 million to development
contract for wearable displays for mobile
medics

Received $900K order to deliver prototype 
displays for automotive applications

Nomad System at American Honda Motor
Company increases mechanic efficiency by
39% in trial

As we prepare to meet the anticipated demand from the auto indus-

try,  the  Nomad  System  is  already  proving  itself  in  some  very  tough 

conditions.  Vehicle  commanders  in  the  U.S.  Army’s  Stryker  Brigade

Combat Team in Iraq are using Nomad Systems mounted on their hel-

mets to provide remote display of information from the vehicle’s battle-

field computer. With Nomad’s Augmented Vision System, they can view

vital tactical information without losing visual contact with the battlefield.

The Army is enthusiastic about the Nomad’s performance, and we expect

more orders.

Also  poised  for  strong  sales  growth  beginning  in  2004  is  our  Flic®

handheld laser bar code scanner. After a slow start in early 2003, sales

picked  up,  thanks  in  large  part  to  an  OEM  agreement  with  NCR,  the

world  leader  in  bar  code  scanners,  as  well  as  the  development  of  our

own  distribution  channels  and  our  introduction  of  Flic  Cordless.  Flic  is

targeted  at  the  sizable  segment  of  the  $984  million  handheld  scanner

market that is seeking high-performance, low-cost solutions. We’re seeing

increasingly varied applications for the device, including wage tracking,

point-of-sale, equipment rentals, inventory control, cost accounting, and

manufacturing. We expect strong sales for Flic in 2004 and beyond.

LumeraTM, our majority-owned subsidiary and an emerging leader in

nanotechnology-based applications, passed key milestones in 2003 that

enabled the introduction of its first commercial products in early 2004:

two mini panel antennas that provide improved range, security and qual-

ity  of  service  at  remarkably  low  cost  for  the  high-growth  WiFi  market.

Lumera has also recently unveiled its NanoCaptureTM  biochip array that

uses  proprietary  polymer  coating  and  processes  for  genetic  testing

applications. We expect 2004 to be a breakout year for Lumera.

Team with MobilePlanet to offer Flic Laser 
Bar Code Scanner

Development contract for design of laser 
printer engine

Marubeni Aerospace Group to spearhead
Microvision sales in Japan

Held first public demonstration of laser 
scanning camera

Achieved breakthrough for size, cost and
power consumption of miniature displays 
and imaging systems

Partnered with Electronics Research Lab 
of Volkswagen of America to develop
advanced automotive prototype display

American Honda signs letter of intent 
to purchase 3,800 Nomad Augmented 
Vision Systems

Lumera closes $1.9 million private equity
financing

Lumera aims at WiFi and Wi-Max markets 
with smart-antenna breakthroughs

Former U.S. Senator Slade Gorton joins 
Board of Directors

U.S. Army To deploy Nomad Augmented
Vision System; First Stryker Brigade Combat
Team orders 100 Nomad Systems 

M V I S

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In addition to bringing products to market, we continued to invest in

research and development to advance our pipeline of powerful future

products.  In  2003,  we  claimed  important  ground  in  developing  our

MEMS (micro-electro-mechanical systems) scanner by reducing its size,

cost, and power consumption and by eliminating the need for a vacuum

housing. With these steps, we’re much closer to offering a new, better

scanning  platform  with  a  myriad  of  applications  for  microdisplays  and

imaging. A critical building block for the future of our company is now

in place.

Shareholder letter cont.”

American Honda Motor Company introduces
Nomad to Honda and Acura dealers

Nomad System in trial at Volvo Trucks North
America; increases service technician 
efficiency by 31%

Entered into phase III agreement for supply 
of microdisplay prototypes with Canon

Received $1 million follow-on contract 
for further work on laser printer engine

Lumera closes $800,000 in private equity
financing

Our commercial development activities progressed as we continued

Completed $22.25 million equity offering

Lumera awarded additional $950,000 in 
continuing contract from U.S. government
agency

Awarded $854K to support Navy’s Battlespace
Information Display Technology Program

Launched Nomad Expert Technician System 
to automotive service market at National 
Auto Dealers Association Conference

Lumera introduces LP53A and LP24A mini
panel antennas. Compact panels provide 
high performance, affordable connections 
for wireless networks and WiFi HotSpots

making prototype devices for BMW, Volkswagen, and a  Tier 1 supplier to

the automotive industry. The most promising is our new “Micro-HUD,” a

display embedded in a car’s windshield for heads-up viewing of naviga-

tional  data  and  other  information.  It’s  generating  widespread  interest

throughout the auto industry.

We  also  received  two  new  contracts  from  Canon  (one  of  them  our

largest to date) and two contracts from a large Asian printer manufactur-

er. Meanwhile, our work for the U.S. military continued with flight tests of

our Spectrum system for the Army and further miniature display develop-

ment work for the Navy.

In all, 2003 was a thrilling year for us at Microvision as we watched our

products and development initiatives take tangible shape and connect in

the marketplace with the people for which we created them. We believe

this  initial  contact  between  our  products  and  ready  markets  is  just  the

start of an exciting journey. Thank you for being part of it, and thank you

for your support during this landmark year.

Sincerely,

Richard F. Rutkowski

Chief Executive Officer

April 2004

Driving growth from a platform

Invest

Enable

Partner 

+

Target

Solutions

in proprietary core 
microscanning technology 

multiple high performance 
display and imaging products

with dominant players 
in product categories

large market opportunities

with higher performance,
smaller size, and lower cost

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In 2003, we worked with our strategic partners to put 

powerful products in the hands of eager customers from 

a variety of industries. All of these products leverage 

our proprietary technologies along with superior price, 

performance, and design to meet rapidly emerging 

market needs.

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The Nomad System epitomizes the importance of 

contact — putting real solutions in the hands of

customers. Consultation with American Honda,

Volvo Trucks, and others resulted in a smaller,

lighter, wireless Nomad System.

 
 
 
A hands-free grasp on
profitable information

The Nomad™ Expert Technician System

Auto technicians log miles walking between computer screens and the vehicles they’re servicing. This wastes 

time and money and increases the likelihood of error. Our Nomad Expert Technician System solves that problem.

The Nomad Expert Technician System is the world’s only wireless wearable computer with a head-worn, head-up 

display. With a unique “connect and work” capability, the Nomad System enables automotive services technicians 

to superimpose text and diagrams from online and Internet service manuals directly over their workspace at the

point of task, hands-free. Trials show up to 40 percent gains in productivity, as well as improvements in quality 

of work, increased training efficiencies, and rapid return on investment.

WHAT  THE  MARKET  IS  SAYING

Higher productivity, more sales margin

“The more complex these cars get, the more infor-

mation you need. Instead of having information just

in manuals, on a computer or laptop, it’s right there

at your fingertips, right there in front of you, infor-

mation all the time.” Ray Mesa, Technician, 

Roger Beasley Lincoln/Mercury, Victoria, TX

Increased quality and customer satisfaction

“Nomad will help us have more accurate, more time-

ly repairs. Our customers want perfect Hondas, we

want to give them perfect Hondas, and American

Honda Motor Company wants that, too. It’s a win-

win-win product.” Larry Mallory, General Manager,

Honda of Kirkland, WA

A large market, motivated and ready to buy
IN  THE  AUTOMOTIVE  AFTERMARKET

$7.9

$59

$  BILLIONS  SPENT  ANNUALLY

•  $7.9  BILLION  TOOLS

•  $59  BILLION  SERVICE  LABOR

SOURCE:  AAIA

POTENTIAL  USERS

•  550K  SERVICE  TECHNICIANS

•  125K  PARTS  MANAGERS

•  75K  SERVICE  ADVISORS

SOURCE:  COMPANY  ESTIMATES

550K

125K

75K

A hands-free lifeline

Proven performance and reliability

The Nomad System has been in Iraq with the U.S.

Army’s First Stryker Brigade since December 2003,

proving itself under the conditions of battle. Stryker

commanders use helmet-mounted Nomads to access

tactical information from their onboard computers

without taking their eyes off the battlefield.

Market opportunities

Defense & Aerospace

Nomad’s technology foundation is leveraged

for a broad range of future display applica-

tions in the military, government, commercial,

and private sectors.

INTELLIGENCE     

AIRPORT  OPERATIONS 

PUBLIC  SAFETY 

Government

Military

NAVIGATION 

NAVAL 

ASSEMBLY 

WEAPONS  SYSTEMS 

PRODUCTION 

GROUND  TROOPS 

REPAIR 

AIRBORNE 

MAINTENANCE 

LOGISTICS  &  MAINTENANCE 

MEDICAL 

GROUND  VEHICLES

Commercial & Private

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In addition to the auto service market, the Nomad 

System can be adapted for multiple markets, espe-

cially those like the military or healthcare, where

ready access to information can mean life or death.

Given the presence of mission-critical digital infor-

mation in so many workplaces, Nomad is poised 

to become a widely-used tool.

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By equipping mobile workforces with strong capabil-

ities at a fraction of the cost of integrated hardware

solutions, Flic has targeted a distinct niche in the

marketplace. Among the increasingly broad range 

of applications for Flic are retail point-of-purchase,

equipment rental, wage tracking, cost accounting,

inventory control, manufacturing, and more.

 
 
 
A grip on mobile markets

Flic™ Laser Bar Code Scanner

In 2003, we introduced a wireless function to our Flic handheld bar

WHAT  THE  MARKET  IS  SAYING

code scanner, and the market responded enthusiastically. We also

became an OEM supplier to NCR, the world leader in customer

transactions, opening a large range of market opportunities in retail

point-of-sale. Versatile, simple to use, and extremely affordable, Flic’s

flexibility makes it ideal for numerous data collection applications.

Increased benefits at reduced cost

“One of the more remarkable prod-

uct launches of the past year is

Microvision Inc.’s Flic Laser Scan-

ner… Flic was designed simply 

to achieve laser accuracy at a price

point of $100 or below. We think

the scanner has real potential 

in price-sensitive markets, such 

as small businesses, that are not 

wed to any particular scanner tech-

nology.” Bear, Stearns & Co., Inc. 

Equity Research, “Automatic

Identification and Data Capture”

Applications and growth opportunity
A  $1.0  BILLION  MARKET

Bar code scanners, total potential 

market: The total scanner market 

reached $1 Billion in 2002 with only 

33% penetration of the estimated 

available market. SOURCES: VDC; 

BEAR,  STEARNS  &  CO.,  INC.

33%

67%

REPLACEMENT  OF 

EXISTING  HARDWARE  FOR 

RETAIL  POINT-OF-SALE

NEW  USERS  AND  APPLICATIONS

•  INVENTORY  CYCLE  COUNTS

•  FIELD  SERVICE/SALES

•  WORK  IN  PROCESS

•  ASSET  TRACKING

•  HEALTHCARE

Reaching farther

AccuPath™ Panel Antennas 

LUMERA’S  ACCUPATH  PANEL  ANTENNAS

TARGET  MARKETS  FOR  WIFI  NETWORKS

AND  HOTSPOT  BUILDOUTS.  THE  2.4  AND

5.25  GHz ANTENNAS  PROVIDE  UNPRECE-

DENTED  POWER  IN  A  LOW-COST,  LOW-

PROFILE,  LIGHTWEIGHT  DESIGN  FOR  A

FULL  RANGE  OF  WIRELESS  APPLICATIONS.

Lumera™

With its work in nanotechnology-based polymers and

processes, our majority-owned subsidiary is developing

innovative products and material solutions for wire-

less technologies, biotechnology, and electro-optics.

New products giving dramatically improved perform-

ance at a reduced cost have been developed for the

booming WiFi market as well as for opportunities in

the markets for bioassay testing.

ACCUPATH

5.25  GHz

MicroArray Biochips

LUMERA’S  NANOCAPTURE  ARRAY 

BIOCHIPS  PROVIDE  COST-EFFECTIVE  TEST-

ING  SOLUTIONS  WITH  THEIR  HIGH-DENSITY

SAMPLE  SPOT  SURFACES.  LUMERA’S  CUS-

TOMIZED  POLYMER  SURFACES  HAVE  THE

FAR-REACHING  POTENTIAL  TO  ANSWER

SPECIFIC  CLIENT  TESTING  REQUIREMENTS,

INCLUDING  POSSIBILITIES  FOR  LOW-COST

DIAGNOSTICS.

ACCUPATH 

2.4  GHz

Lumera — multi-billion dollar markets and application opportunities

Wireless 

Biotechnology

Electro-optic Devices

WiFi antenna — AccuPath

MicroArrays — NanoCapture™

Modulators

Used by broadband wireless networks

WIFI NETWORKS ($163B FORECASTED TO BE

Biochips for genomic and 
proteomic testing

SPENT OVER NEXT 5 YEARS ON EQUIPMENT

BIOCHIP MARKET ($2.7B MARKET FORECASTED

AND SERVICE)

BY 2007)

Used to connect networks and
telecommunication hubs to the fiber-
optic backbone of the Internet

METRO MARKET HUBS ($1.5B MARKET 

HOTSPOT BUILDOUTS (120,000 HOTSPOTS,

66 MILLION USERS FORECASTED BY 2007)

SOURCE: GARTNER GROUP, 2002

Phased array applications

High performance tracking and 
guidance systems

WEAPONS AND ADVANCED MOBILE COMMUNI-

CATIONS SYSTEMS ($1.5B MARKET FORECASTED

BY 2007*)

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SOURCE: MRG, INC., 2003

FORECASTED BY 2007*)

High-speed optical interconnects

Chip-to-chip, chip-to-circuit board,
circuit board-to-computer system —
high-speed optical network integra-
tion on silicon

SEMI-CONDUCTOR MARKET

*COMPANY ESTIMATES

 
 
 
Lumera’s world-class team of scientists and 

engineers is creating far-reaching new products,

bringing higher-performance and lower-cost 

solutions to customers in diverse industries while

building a strong and growing portfolio of intel-

lectual property.

On the horizon  Our new Micro-HUD (head-up display) for automotive applications

displays navigation data and other information on a vehicle’s windshield, so drivers

can keep their eyes on the road. It’s attracting widespread interest among OEMs

and Tier 1 auto suppliers. Designed as a standard module to adapt to a wide range

of vehicles, the new head-up display provides superior performance in a compact

package with greater affordability, along with our signature high contrast and high

color saturation. Production potentials for automotive installations range from the

low hundreds of thousands in the first few years to a million units within five years.

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Fingers on the 
pulse of the future

Research & development

Our groundbreaking display and imaging technology is the foundation for products

that is expected to transform existing markets and enable new ones. With a steady

increase in our intellectual property and the breakthrough in our MEMS (micro-electro-

mechanical systems) scanning device, Microvision has moved significantly closer to

providing solutions for high-volume consumer products.

FASHIONABLE  EYEWARE 

INTEGRATED  WITH  MICRO-

DISPLAY  TECHNOLOGY

Microdisplays for digital cameras and camcorders 

In 2003, Microvision moved closer to providing

electronic viewfinder solutions to the digital cam-

era marketplace. Working with Canon under two

contracts, Microvision is now supplying a series of

sub-assemblies in a third phase of development.

Our key breakthroughs in scanner development

for the microdisplay have dropped the power and

voltage requirements and eliminated the need for

a vacuum housing, decreasing the cost of scan-

ning components going into the Nomad and

Micro-HUD by 90 percent. 

Laser printers — a potential frontier

Within the last year, Microvision has moved from a first contract with a large Asian

laser printer manufacturer for a technical feasibility study to an engineering prototype

phase. The application has required challenging new designs for the MEMS scanner

and is a significant demonstration of the flexibility of Microvision’s MEMS-based dis-

play and imaging architecture. 

DIRECT  VIEW  NEAR-TO-EYE

DISPLAYS  DESIGNED  INTO

MOBILE  COMMUNICATION

DEVICES

The ground we gained in 2003 was our staging area

for future growth. The objectives we realized during

the year will enable us to move quickly and confi-

dently as we advance our strategy, bring more of our

ideas to life, and create new value for shareholders. 

Contact is just the beginning.

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M V I S 03

Microvision, Inc. 2003 financial information

Financial information

M V I S 03

Selected financial data 

A summary of selected financial data as of and for the five years ended December 31, 2003 is set forth below:

Year ended December 31,

2003

2002

2001

2000

1999

in thousands, except per share information (unaudited)

Statement of operations data
Revenue
Net loss available for common shareholders
Basic and diluted net loss per share
Weighted-average shares 

$ 14,652
(26,163)
(1.46)

$  15,917 
(27,176)
(1.93)

$ 10,762 
(34,794)
(2.85)

$

8,121 
(26,601)
(2.33)

$

6,903 
(16,700)
(2.04)

outstanding – basic and diluted

17,946

14,067 

12,200 

11,421 

8,169 

Balance sheet data
Cash, cash equivalents and investments

available-for-sale

Working capital
Total assets
Long-term liabilities
Mandatorily redeemable preferred stock
Total shareholders’ equity

$ 21,778 
19,781 
33,918 
2,204
—
23,295 

$ 15,176 
14,511 
32,267 
1,480 
—
17,416 

$ 33,652 
33,098 
54,055 
552 
—
32,326 

$ 40,717 
40,551 
56,172 
714 
—
50,042 

$ 32,167 
32,802 
41,619 
836 
1,536 
35,359 

The company includes both Microvision, Inc. (“Microvision”) and its consolidated subsidiary, Lumera Corporation (“Lumera”),
(collectively the “Company”). The Company designs and markets information display and image capture products and prod-
ucts utilizing its optical and related materials technology. The Company is developing and seeks to commercialize technolo-
gies and products in two business segments relating to the display, capture and transmission of information: 

Microvision – Develops and commercializes scanned beam technology for information displays and image capture products. 

Lumera – Develops and commercializes a new class of organic non-linear optical materials, that can be used to change the
properties of light waves used to transmit information.

Financial information for these segments is included in Note 16 beginning on page 45 of this annual report. To date, sub-
stantially all of the Microvision segment’s revenue has been generated from development contracts to develop the scanned
beam display technology to meet customer specifications. To date, substantially all of the Lumera’s revenue has been gener-
ated from performance on development contracts with the United States government.

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Report of independent auditors

M V I S 03

To the Board of Directors and Shareholders of Microvision, Inc.

In our opinion, the consolidated financial statements listed in the accompanying index present fairly, in all material respects,
the financial position of Microvision, Inc. and its subsidiary at December 31, 2003 and 2002, and the results of their opera-
tions and their cash flows for each of the three years in the period ended December 31, 2003, in conformity with accounting
principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule
listed in the accompanying index presents fairly, in all material respects, the information set forth therein when read in con-
junction with the related consolidated financial statements. These financial statements and financial statement schedule are
the responsibility of the Company’s management; our responsibility is to express an opinion on these financial statements
and  financial  statement  schedule  based  on  our  audits.  We  conducted  our  audits  of  these  statements  in  accordance  with
auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to
obtain  reasonable  assurance  about  whether  the  financial  statements  are  free  of  material  misstatement.  An  audit  includes
examining,  on  a  test  basis,  evidence  supporting  the  amounts  and  disclosures  in  the  financial  statements,  assessing  the
accounting principles used and significant estimates made by management, and evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our opinion.

Seattle, Washington 
March 12, 2004

Financial information

Consolidated balance sheet 

2003

2002

$ 10,700
11,078 
1,896
664 
331
1,684
26,353 

5,958
1,269
— 
338 
$ 33,918 

$

1,223
5,164
53
62
70
6,572

1,948
34
99
107
16
8,776 

$

9,872 
5,304 
1,315 
1,073 
747
2,348 
20,659 

7,672
1,356 
2,043 
537 
$  32,267 

$

1,462
4,309
230
84
63
6,148

1,025
94
169
192
—
7,628

1,847

7,223

21

—

180,354

147,058

—
(846)
(166)
(1,823)
25
(154,270)
23,295
$ 33,918

—
(1,490)
(166)
—
121
(128,107)
17,416 
$ 32,267 

M V I S 03

December 31,

in thousands, except per share information

Assets
Current assets
Cash and cash equivalents
Investment securities, available-for-sale
Accounts receivable, net of allowances of $109 and $109
Costs and estimated earnings in excess of billings on uncompleted contracts
Inventory
Other current assets
Total current assets

Property and equipment, net
Restricted investments
Receivables from related parties
Other assets
Total assets

Liabilities, minority interests and shareholders’ equity
Current liabilities
Accounts payable
Accrued liabilities
Billings in excess of costs and estimated earnings on uncompleted contracts
Current portion of capital lease obligations
Current portion of long-term debt
Total current liabilities

Research liability, net of current portion
Capital lease obligations, net of current portion
Long-term debt, net of current portion
Deferred rent, net of current portion
Other long-term liabilities
Total liabilities

Commitments and contingencies (Note 13)
Minority interests

Shareholders’ equity
Common stock, par value $.001; 73,000 shares authorized;

21,449 and 0 shares issued and outstanding

Paid-in capital and common stock: no par value; 0 and 31,250

shares authorized; 0 and 15,154 shares issued and outstanding
Preferred stock, par value $.001 and $0; 25,000 and 31,250 shares

authorized; and 0 and 0 shares issued and outstanding

Deferred compensation
Subscriptions receivable from related parties
Receivables from related parties, net
Accumulated other comprehensive income
Accumulated deficit
Total shareholders’ equity
Total liabilities, minority interests and shareholders’ equity

The accompanying notes are an integral part of these financial statements.

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Financial information

Consolidated statement of operations 

2003

2002

2001

$ 14,652 

$ 15,917 

$ 10,762 

7,046 
7,606

6,997 
8,920 

6,109 
4,653 

23,316

25,519 

31,899 

15,827
2,156 
41,299 
(33,693)
381 
(51)
36 
39
— 

16,798 
1,984 
44,301 
(35,381)
1,059 
(59)
— 
88 
(624)

14,356 
2,533 
48,788 
(44,135)
2,523 
(92)
— 
316 
—

M V I S 03

Year ended December 31,

in thousands, except per share information

Revenue

Cost of revenue
Gross margin

Research and development expense (exclusive of non-cash 

compensation expense of $1,006, $1,138 and $865 
for 2003, 2002 and 2001, respectively)

Marketing, general and administrative expense (exclusive 
of non-cash compensation expense of $1,150, $846 and 
$1,668 for 2003, 2002 and 2001, respectively)

Non-cash compensation expense
Total operating expenses
Loss from operations
Interest income
Interest expense
Gain on disposal of fixed assets, net
Realized gain on sale of investment securities
Loss due to impairment of long-term investment

Loss before minority interests

(33,288)

(34,917)

(41,388)

Minority interests in loss of consolidated subsidiary

7,125

7,741 

6,594 

Net loss available for common shareholders

$ (26,163)

$ (27,176)

$ (34,794)

Net loss per share – basic and diluted

$

(1.46)

$

(1.93)

$

(2.85)

Weighted-average shares outstanding – basic and diluted

17,946 

14,067 

12,200 

The accompanying notes are an integral part of these financial statements.

Financial information

Consolidated statement of shareholders’ equity 

Common stock

Shares

Par value

Paid-in capital &
common stock
no par value

Subscriptions
Receivables
Deferred receivable from from related
parties

related parties

compensation

Accum. other 
comprehensive
(loss) income

Accumulated
deficit

Shareholders’
equity

M V I S 03

in thousands

Balance at December 31, 2000

11,884

$ — $ 120,506 

$ (4,378)

$ (403)

$

— 

$ 454  $

(66,137)

$ 50,042

Issuance of stock to board 

members for services

Issuance of stock and options 

to non-employees for services

Exercise of warrants and options

Sales of common stock

Effect of change in interest in 

subsidiary from issuance of 

subsidiary common stock

Issuance of stock for 

acquisition of license

Revaluations of warrants and options

Collection of subscriptions receivable

Amortization of deferred compensation

Other comprehensive income

Net loss 

6 

1 

99 

971 

37 

133 

(133)

108 

1,177 

10,355 

3,001 

970 

(296)

(52)

296 

1,464 

82 

(27)

(34,794)

Balance at December 31, 2001

12,998 

— 

135,954 

(2,803)

(321)

— 

427 

(100,931)

Exercise of warrants and options

Sales of common stock

8 

2,148 

Revaluations of warrants and options

Collection of subscriptions receivable

Amortization of deferred compensation

Other comprehensive income

Net loss 

15 

11,560 

(471)

471 

842 

155 

(306)

(27,176)

Balance at December 31, 2002

15,154 

— 

147,058 

(1,490)

(166)

— 

121 

(128,107)

Issuance of options to board 

members for services

Issuance of stock, options and 

warrants to non-employees 

for services

Exercise of warrants and options

Sales of common stock

Revaluations of warrants and options

Extension of expiring employee options

Amortization of deferred compensation

9 

82 

6,204 

Reclassification of receivables 

from related parties

Establishment of par value 

of common stock

Other comprehensive income

Net loss 

1 

(1)

252 

538 

32,385 

(4)

145 

(189)

4 

830

21 

(21)

(1,823)

(96)

Balance at December 31, 2003

21,449 

$ 21 

$ 180,354 

$   (846)

$ (166) $ (1,823)

$ 25  $ (154,270) $ 23,295

The accompanying notes are an integral part of these financial statements.

(26,163)

(26,163)

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56 

1,177 

10,355 

3,001 

970 

— 

82 

1,464 

(27)

(34,794)

32,326 

15 

11,560 

—

155 

842 

(306)

(27,176)

17,416 

— 

63

538 

32,385 

—

145 

830

(1,823)

—

(96)

 
 
Financial information

M V I S 03

Consolidated statement of comprehensive loss 

Year ended December 31,

in thousands

Net loss available for common shareholders
Other comprehensive income (loss) – unrealized gain (loss) 

on investment securities, available-for-sale:
Unrealized holding gains (losses) arising during period
Less: reclassification adjustment for gains realized in net loss
Net unrealized gain (loss)

Comprehensive loss

The accompanying notes are an integral part of these financial statements.

2003

2002

2001

$ (26,123)

$ (27,176)

$ (34,794)

(57)
(39)
(96)
$ (26,259)

(218)
(88)
(306)
$ (27,482)

289 
(316)
(27)
$ (34,821)

Financial information

M V I S 03

Year ended December 31,

in thousands

Cash flows from operating activities
Net loss

Adjustments to reconcile net loss to net cash used in operations
Depreciation
Gain (loss) on disposal of fixed assets, net
Non-cash expenses related to issuance of stock, warrants

Consolidated statement of cash flows 

2003

2002

2001

$ (26,163)

$ (27,176)

$ (34,794)

3,109 
(36)

2,943 
—

2,381 
—

and options, and amortization of deferred compensation 

2,156 

1,984 

2,533 

Non-cash expenses related to issuance of stock

for an exclusive license agreement 

Impairment of long-term investment
Allowance for receivables from related parties
Realized gain on sale of investment securities
Minority interests in loss of consolidated subsidiary
Non-cash deferred rent
Allowance for estimated contract losses

Change in
Accounts receivable
Costs and estimated earnings in excess 
of billings on uncompleted contracts

Inventory
Other current assets
Other assets
Accounts payable 
Accrued liabilities
Billings in excess of costs and estimated
earnings on uncompleted contracts
Research liability, current and long-term
Net cash used in operating activities

Cash flows from investing activities
Sales of investment securities
Purchases of investment securities
Sales of restricted investment securities
Purchases of restricted investment securities
Collections of receivables from related parties
Advances under receivables from related parties
Purchases of property and equipment
Proceeds from sale of fixed assets
Net cash provided by (used in) investing activities

—
— 
200
(39)
(7,125)
(85)
—

(581)

409
416
(93)
40 
(68)
705 

—
624 
700 

(7,741)
(9)
(155)

397 

511 
(648)
(46)
(206)
(325)
(47)

970 
— 
— 

(6,594)
17 
(140)

(679)

532 
(99)
(323)
(59)
(361)
1,939 

(177)
923 
(26,409)

170 
1,025 
(27,999)

(359)
— 
(35,036)

3,249 
(9,080)
1,356 
(1,269)
20 
— 
(1,549)
4 
(7,269)

12,701 
(246)
1,536 
(1,356)
— 
(491)
(1,354)
— 
10,790 

23,874 
(8,556)
1,748 
(1,208)
25 
(1,277)
(3,769)
— 
10,837

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Financial information

M V I S 03

Consolidated statement of cash flows cont. 

Year ended December 31,

in thousands 

Cash flows from financing activities
Principal payments under capital leases
Principal payments under long-term debt
Payments received on subscriptions receivable
Net proceeds from issuance of common stock and warrants
Net proceeds from sale of subsidiary’s equity to minority interests
Net cash provided by financing activities
Net increase (decrease) in cash and cash equivalents
Cash and cash equivalents at beginning of year
Cash and cash equivalents at end of year

Supplemental disclosure of cash flow information
Cash paid for interest

Supplemental schedule of non-cash investing and financing activities
Property and equipment acquired under capital leases

Other non-cash additions to property and equipment

Issuance of common stock and warrants for services

Effect of change in interest in subsidiary from issuance 

of subsidiary common stock

Issuance of subsidiary stock and stock options for services rendered

The accompanying notes are an integral part of these financial statements.

2003

2002

2001

(90)
(63)
—
32,924 
1,735
34,506
828 
9,872 
$ 10,700

$

$

$

$

51

8 

66 

159 

—

— 

(180)
(57)
155 
11,576 
—
11,494 
(5,715)
15,587 
$ 9,872 

$

$

$

59 

127 

173

— 

— 

— 

(324)
(53)
82 
11,532 
21,242 
32,479 
8,280 
7,307 
$ 15,587 

$

$

92 

56 

— 

— 

$ 3,001 

$ 1,013 

M V I S 03

N O T E 1

Notes to consolidated financial statements

The Company

The consolidated financial statements include the accounts of Microvision, Inc. (“Microvision”), a Delaware corporation, and
its subsidiary, Lumera Corporation (“Lumera”), a Washington corporation, (collectively the “Company”). In 2003, Microvision
was reincorporated under the laws of the State of Delaware. Microvision was established to acquire, develop, manufacture
and market scanned beam technology, which projects images using a single beam of light. Microvision has entered into con-
tracts  with  commercial  and  U.S.  government  customers  to  develop  applications  using  the  scanned  beam  technology.
Microvision has introduced two commercial products, Nomad, a see-through head-worn display, and Flic, a hand-held bar
code scanner. In addition, Microvision has produced and delivered various demonstration units using Microvision’s display
technology. Microvision is working to commercialize additional products for potential defense, industrial, aviation, medical
and consumer applications.

Lumera, a majority owned subsidiary of Microvision, is a development stage company. Lumera was established to devel-
op, manufacture and market optical devices using organic non-linear electro-optical chromophore materials (“Optical Mate-
rials”). Lumera is working to commercialize the devices for potential wireless networking and optical networking applications.
The Company has incurred significant losses since inception. The Company believes that Microvision’s cash, cash equiv-
alent and investment securities balances totaling $21,200,000 at December 31, 2003, will satisfy its budgeted cash require-
ments through December 31, 2004 based on Microvision’s current operating plan. 

The Company believes that Lumera’s cash, cash equivalent and investment securities balances totaling $560,000 as of
December 31, 2003 in addition to the $500,000, before issuance costs, raised on March 12, 2004, will satisfy Lumera’s current
budgeted cash requirements through April, 2004 (see Note 18 “Subsequent Event”). Lumera plans to seek additional financ-
ing in order to fund operations beyond April, 2004. There can be no assurance that Lumera will obtain additional financing.
Microvision is not contractually obligated to provide additional funding to Lumera and will not provide additional funds to
Lumera unless Microvision believes that it has sufficient funds to finance Microvision’s 2004 operating plan as well as any addi-
tional funding for Lumera.

The Company’s operating plan calls for the addition of sales, marketing, technical and other staff and the purchase of
additional laboratory and production equipment. The Company’s future expenditures and capital requirements will depend
on  numerous  factors,  including  the  progress  of  its  research  and  development  program,  the  progress  in  commercialization
activities and arrangements, the cost of filing, prosecuting, defending and enforcing any patent claims and other intellectual
property rights, competing technological and market developments and the ability of the Company to establish cooperative
development, joint venture and licensing arrangements. There can be no assurance that additional financing will be available
to the Company or that, if available, it will be available on terms acceptable to the Company on a timely basis. If adequate
funds are not available to satisfy either short-term or long-term capital requirements or planned revenues are not generated,
the Company may be required to limit its operations substantially. This limitation of operations may include reduction in cap-
ital expenditures and reductions in staff and discretionary costs, which may include non-contractual Microvision and Lumera
research costs. The Company’s capital requirements will depend on many factors, including, but not limited to, the rate at
which the Company can, directly or through arrangements with original equipment manufacturers, introduce products incor-
porating  the  scanned  beam  technology  and  optical  polymer  based  products  and  the  market  acceptance  and  competitive
position of such products.

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Notes to consolidated financial statements cont.

N O T E 2

Summary of significant accounting policies

Use of estimates The  preparation  of  financial  statements  in  conformity  with  generally  accepted  accounting  principles
requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and dis-
closure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those estimates. The Company’s management has
identified the following areas where significant estimates and assumptions have been made in preparing the financial state-
ments: revenue recognition, allowance for uncollectible receivables, inventory valuation and potential losses from litigation.

Principles of consolidation The consolidated financial statements include the accounts of the Company and Lumera. As of
December 31, 2003, Microvision owns 76%, 11% and 32% of the outstanding common stock, Series A convertible preferred
stock and Series B convertible preferred stock of Lumera, respectively. The balance of Lumera is owned by public companies
and private investors, directors, Microvision employees and the University of Washington (“UW”). Lumera’s losses were first
allocated to its common shareholders until such losses exceeded their common equity and then to its preferred sharehold-
ers pro rata in accordance with their respective ownership interest. All material intercompany accounts and transactions have
been eliminated in consolidation.

Cash, cash equivalents and investment securities The Company considers all investments that mature within 90 days of the
date of purchase to be cash equivalents. 

Short-term investment securities are primarily debt securities. The Company has classified its entire investment portfo-
lio as available-for-sale. Available-for-sale securities are stated at fair value with unrealized gains and losses included in other
comprehensive income (loss). Dividend and interest income are recognized when earned. Realized gains and losses are pre-
sented separately on the income statement. The cost of securities sold is based on the specific identification method.

Inventory Inventory consists of raw material, work in process and finished goods for the Company’s Nomad and Flic prod-
ucts. Inventory is recorded at the lower of cost or market with cost determined on the weighted-average method.

Restricted investments Restricted investments represents certificates of deposit held as collateral for letters of credit issued
in connection with a lease agreement for the corporate headquarters building. Substantially all of the balance is required to
be maintained for the term of the lease, which expires in 2006. 

Long-term investment In December 1999, the Company invested $624,000 in Gemfire Corporation (“Gemfire”), a privately
held corporation. Gemfire is a developer of diode laser components for display applications. The Company accounts for the
investment in Gemfire using the cost method.

In June 2002, Gemfire announced a recapitalization plan that reduced the value of the Company’s investment. As a result,

in June 2002, the Company recorded an impairment for the entire value of the investment in Gemfire. 

Property and equipment  Property and equipment is stated at cost and depreciated over the estimated useful lives of the
assets (three to five years) using the straight-line method. Leasehold improvements are depreciated over the shorter of esti-
mated useful lives or the lease term.

Revenue recognition Revenue has primarily been generated from contracts for further development of the scanned beam
technology and to produce demonstration units for commercial enterprises and the United States government. Revenue on
such contracts is recorded using the percentage-of-completion method measured on a cost incurred basis. The percentage
of  completion  method  is  used  because  the  Company  can  make  reasonably  dependable  estimates  of  the  contract  cost.
Changes  in  contract  performance,  contract  conditions,  and  estimated  profitability,  including  those  arising  from  contract
penalty provisions, and final contract settlements, may result in revisions to costs and revenues and are recognized in the peri-
od in which the revisions are determined. Profit incentives are included in revenue when realization is assured.

The Company recognizes losses, if any, as soon as identified. Losses occur when the estimated direct and indirect costs
to complete the contract exceed unrecognized revenue. The Company evaluates the reserve for contract losses on a con-
tract-by-contract basis.

Notes to consolidated financial statements cont.

Revenue  from  product  shipments  is  recognized  in  accordance  with  Staff  Accounting  Bulletin  No.  104  “Revenue
Recognition.” Revenue is recognized when there is sufficient evidence of an arrangement, the selling price is fixed and deter-
minable and collection is reasonably assured. Revenue for product shipments is recognized upon acceptance of the product
by the customer or expiration of the contractual acceptance period, after which there are no rights of return. Provision is made
for warranties at the time revenue is recorded. Warranty expense was not material during 2003, 2002 or 2001.

Concentration of credit risk and sales to major customers Financial instruments that potentially subject the Company to
concentrations of credit risk are primarily cash equivalents, investments and accounts receivable. The Company typically does
not require collateral from its customers. The Company has a cash investment policy that generally restricts investments to
ensure preservation of principal and maintenance of liquidity.

The United States government accounted for approximately 49%, 83% and 93% of total revenue during 2003, 2002 and
2001, respectively. Three commercial enterprises represented 35%, 14% and 6% of total revenues during 2003, 2002, and 2001,
respectively. The United States government accounted for approximately 34% and 80% of the accounts receivable balance at
December 31, 2003 and 2002, respectively. In 2003, 27% of consolidated revenue was earned from development contracts
with a single commercial customer. 

Income taxes Deferred tax assets and liabilities are recorded for differences between the financial statement and tax bases
of the assets and liabilities that will result in taxable or deductible amounts in the future, based on enacted tax laws and rates
applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances are established
when necessary to reduce deferred tax assets to the amount expected to be realized. Income tax expense is recorded for the
amount of income tax payable for the period increased or decreased by the change in deferred tax assets and liabilities dur-
ing the period.

Net loss per share  Basic net loss per share is calculated on the basis of the weighted-average number of common shares
outstanding during the periods. Net loss per share assuming dilution is calculated on the basis of the weighted-average num-
ber of common shares outstanding and the dilutive effect of all potentially dilutive securities, including common stock equiv-
alents and convertible securities. Net loss per share assuming dilution for 2003, 2002 and 2001 is equal to basic net loss per
share because the effect of dilutive securities outstanding during the periods including options and warrants computed using
the treasury stock method, is anti-dilutive. The dilutive securities and convertible securities that were not included in earnings
per share were 6,295,000, 4,051,000, and 5,672,000 at December 31, 2003, 2002 and 2001, respectively. 

Research and development Research and development costs are expensed as incurred. As described in Note 9, Lumera
issued shares of its common stock in connection with a research agreement. The value of these shares is amortized over the
period of the research agreement.

Fair value of financial instruments The Company’s financial instruments include cash and cash equivalents, investment secu-
rities, accounts receivable, accounts payable, accrued liabilities and long-term debt. The carrying amount of long-term debt
at December 31, 2003 and 2002 was not materially different from the fair value based on rates available for similar types of
arrangements.

Long-lived assets The Company periodically evaluates the recoverability of its long-lived assets based on expected undis-
counted cash flows and recognizes impairment of the carrying value of long-lived assets, if any, based on the fair value of such
assets.

Research liability As described in Note 13, the Company recognizes expense under the Sponsored Research Agreement with
the UW on a straight-line basis over the remaining term of the agreement. The Company has recorded a liability for the dif-
ference between the expense recognized and cash payments. As of December 31, 2003, the Company had recognized cumu-
lative expense of $6,323,000 and made cumulative cash payments of $4,375,000.

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Notes to consolidated financial statements cont.

Stock-based compensation The Company and its subsidiary each have stock-based employee compensation plans, which
are more fully described in Note 12.

The  Company  accounts  for  stock-based  employee  compensation  arrangements  in  accordance  with  the  provisions  of
Accounting Principles Board Opinion (“APB”) No. 25, “Accounting for Stock Issued to Employees” and related amendments
and interpretations, including FASB Interpretation Number (“FIN”) 44, “Accounting for Certain Transactions Involving Stock
Compensation,” and complies with the disclosure provisions of SFAS No. 123, “Accounting for Stock-based Compensation.”
The Company accounts for equity instruments issued to non-employees in accordance with the provisions of SFAS No. 123
and Emerging Issues Task Force Issue No. 96-18. 

Total non-cash stock option expense related to employee and director awards was $271,000, $277,000, and $642,000 for
the years ended December 31, 2003, 2002 and 2001, respectively. Had compensation cost for employee and director options
been determined using the fair values at the grant dates consistent with the methodology prescribed under SFAS 123, the
Company’s consolidated net loss available to common shareholders and associated net loss per share would have increased
to the pro forma amounts indicated below: 

Year ended December 31,

in thousands

Net loss available for common shareholders, as reported
Add: Stock-based employee compensation expense included 
in net loss available for common shareholders, as reported
Deduct: Total stock-based employee compensation expense
determined under fair value based method for all awards

2003

2002

2001

$ (26,163)

$ (27,176)

$ (34,794)

266 

270 

618 

(8,915)

(16,410)

(18,954)

Net loss available for common shareholders, pro forma

$ (34,812)

$ (43,316)

$ (53,130)

Net loss per share – basic and diluted

As reported
Pro forma

$
$

(1.46)
(1.94)

$
$

(1.93)
(3.08)

$
$

(2.85)
(4.35)

New accounting pronouncements In January 2003, the FASB issued FASB Interpretation No. 46 (FIN 46), “Consolidation of
Variable  Interest  Entities,  an  interpretation  of  ARB  No.  51.”  In  December  2003,  the  FASB  revised  this  interpretation.  The
Company is required to adopt the provisions of FIN 46 no later than March 31, 2004. At December 31, 2003, the Company
does not own an interest in any entities which meet the definition of a “variable interest entity.” As a result, the Company
does not anticipate that the adoption of FIN 46 during the first quarter of 2004 will have a material impact on its results of
operations, financial position, or cash flows. 

In May 2003, the FASB issued SFAS No. 150 “Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity” (“SFAS No. 150”), which establishes standards for how an issuer classifies and measures certain financial
instruments with characteristics of both liabilities and equity. SFAS No. 150 requires that an issuer classify a financial instrument
that is within its scope as a liability (or an asset in some circumstances), many of which were previously classified as equity. On
October 29, 2003, the FASB voted to defer the provisions of paragraphs 9 and 10 of SFAS No. 150 as they apply to manda-
torily redeemable noncontrolling interests. The Company adopted the non-deferred provisions of SFAS No. 150 effective July
1, 2003. The Company will evaluate the applicability of any changes to the deferred provisions upon their reissuance, but does
not anticipate the adoption of these provisions to have a material impact on its financial position or results of operations.

Notes to consolidated financial statements cont.

N O T E 3

Long-term contracts

Cost and estimated earnings in excess of billings on uncompleted contracts comprises amounts of revenue recognized on
contracts that the Company has not yet billed to customers because the amounts were not contractually billable at December
31, 2003 and 2002.

The following table summarizes when the Company will be contractually able to bill the balance as of December 31, 2003 and
2002: 

December 31,

Billable within 30 days
Billable between 31 and 90 days
Billable after 90 days

2003

2002

$ 392,000 
204,000
68,000 
$ 664,000

$

821,000 
105,000 
147,000 
$ 1,073,000 

The Company’s current contracts with the U.S. government are primarily cost plus fixed fee type contracts. Under the terms
of a cost plus fixed fee contract, the U.S. government reimburses the Company for negotiated actual direct and indirect cost
incurred in performing the contracted services. The Company is under no obligation to spend more than the contract value
to complete the contracted services. The period of performance is generally one year. Each of the Company’s contracts with
the United States government can be terminated for convenience by the government at any time.

In  April  2003,  the  Company  entered  into  a  $2,200,000  contract  modification  with  the  U.S.  Army’s  Aviation  Applied
Technology Directorate to continue work on an advanced helmet mounted display and imaging system to be used in the
Virtual Cockpit Optimization Program.

In  April  2003,  the  Company  entered  into  a  $1,600,000  contract  modification  with  the  U.S.  Army’s  Medical  Research
Acquisition Activities, Telemedicine and Advanced Technology Research Center to continue development of a mobile wire-
less personal display system for medical applications.

In  May  2002,  the  Company  entered  into  a  $3,300,000  contract  modification  with  the  U.S.  Army’s  Aviation  Applied
Technology  Directorate  to  continue  work  on  an  advanced  helmet-mounted  display  and  imaging  system  to  be  used  in  the
Virtual Cockpit Optimization Program. 

In July 2002, the Company entered into a $1,900,000 contract with the NASA Langley Research Center to deliver a pro-

totype cockpit helmet display for the Synthetic Visions Systems project. 

In August 2002, the Company entered into a $1,100,000 contract modification with the U.S. Army’s Medical Research
Acquisition Activities Telemedicine and Advanced Technology Research Center to continue development of a mobile wire-
less personal display system for medical applications.

In  November  2002,  Lumera  entered  into  a  $1,000,000  contract  modification  with  the  U.S.  government  to  design  new

Optical Materials appropriate for the fabrication of a wideband optical modulator demonstration system.

In  April  2001,  the  Company  entered  into  a  $2,900,000  contract  modification  with  the  U.S.  Army’s  Aviation  Applied
Technology  Directorate  to  continue  work  on  an  advanced  helmet-mounted  display  and  imaging  system  to  be  used  in  the
Virtual Cockpit Optimization Program. In addition, the Company entered into a $4,200,000 contract modification with the U.S.
Army’s Aircrew Integrated Helmet Systems Program office to further advance the form and functional development of a hel-
met-mounted display.

In October 2001, the Company entered into a $1,500,000 subcontract with Concurrent Technologies Corporation in sup-
port of the Office of Naval Research’s Battlespace Information Display Technology program. The purpose of the program is
to develop micro-electrical mechanical systems for use in displaying information on the battlefield.

In December 2001, the Company entered into a $3,300,000 contract with the U.S. Army’s Medical Research Acquisition
Activities Telemedicine and Advanced Technology Research Center for the initial phase in the development of a mobile wire-
less personal display system for medical applications.

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Notes to consolidated financial statements cont.

The following table summarizes the costs incurred on the Company’s revenue contracts:

December 31,

2003

2002

Costs and estimated earnings incurred on uncompleted contracts
Billings on uncompleted contracts

$ 15,478,000  $ 18,909,000 
(18,066,000)
843,000 

(14,867,000)

611,000 $

$

Included in accompanying balance sheets under the following captions:

Costs and estimated earnings in excess of billings on uncompleted contracts
Billings in excess of costs and estimated earnings on uncompleted contracts

$

$

664,000 $
(53,000)
611,000  $

1,073,000 
(230,000)
843,000 

N O T E 4

Investments available-for-sale

The following table summarizes the composition of the Company’s available-for-sale investment securities at December 31,
2003 and 2002: 

December 31,

U.S. government debt securities
U.S. corporate debt securities

2003

2002

$ 6,976,000
4,102,000
$ 11,078,000

$ 3,768,000
1,536,000
$ 5,304,000

The fair value of the available-for-sale investment securities by contractual maturity at December 31, 2003 is as follows:

Due in one year or less
Due in one year through two years
Due in two years through three years

N O T E 5

Inventory consists of the following:

December 31,

Raw materials
Work in process
Finished goods

Fair Value

$ 11,078,000
—
—
$ 11,078,000

Inventory

2003

2002

$ 98,000
— 
233,000
$ 331,000

$ 456,000 
92,000 
199,000
$ 747,000 

N O T E 6

Accrued liabilities consist of the following:

December 31,

Bonuses
Payroll and payroll taxes
Compensated absences
Taxes other than income taxes
Facility closing costs
Professional fees
Relocation
Subcontractors
Other

Notes to consolidated financial statements cont.

Accrued liabilities

2003

2002

$ 1,487,000 
858,000
508,000
429,000
431,000
236,000
205,000
81,000 
929,000
$ 5,164,000

$ 1,413,000
831,000
512,000
324,000
— 
408,000 
196,000 
163,000
462,000
$ 4,309,000

N O T E 7

Property and equipment, net

Property and equipment consist of the following:

December 31,

Lab and production equipment
Leasehold improvements
Computer hardware and software
Office furniture and equipment

Less: Accumulated depreciation

2003

2002

$

$

7,152,000  $ 6,261,000 
4,606,000 
4,666,000 
3,648,000 
3,874,000 
1,043,000 
1,030,000 
15,558,000 
16,722,000 
(7,886,000)
(10,764,000)
5,958,000  $ 7,672,000 

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Notes to consolidated financial statements cont.

N O T E 8

Receivables from related parties

In 2000, the Board of Directors authorized the Company to provide unsecured lines of credit to each of the Company’s three
senior officers. The limit of the line of credit is three times the executives’ base salary less any amounts outstanding under the
Executive Option Exercise Note Plan. In 2002 and 2001, the Board of Directors authorized a $200,000 and $500,000 addition,
respectively, to the limit for one senior officer. The lines of credit carry interest rates of 5.4% to 6.2%. The lines of credit must
be repaid within one year of the senior officer’s termination or within thirty days of demand by the Company in the event of
a plan termination, provided that in the event of such a demand the senior officer may elect to deliver a promissory note with
a one-year term in lieu of payment. At December 31, 2003 and 2002, a total of $2,723,000 and $2,743,000, respectively, was
outstanding under the lines of credit.

The Company determined that one of its senior officers may have insufficient net worth and short-term earnings potential
to repay loans outstanding under the Company’s lines of credit. In 2003 and 2002, the Company recorded an allowance for
doubtful accounts for receivables from senior officers of $200,000 and $700,000, respectively. The balance of the allowance for
doubtful accounts for receivables from senior officers was $900,000 and $700,000 at December 31, 2003 and 2002, respectively.
Under current SEC rules, the Company is prohibited from changing the repayment terms of the lines of credit. No repay-
ments have been made on the outstanding lines of credit. At December 31, 2003, the Company reclassified the loan balance
to shareholder’s equity under the guidance provided by the SEC for loans to shareholders due to the absence of any repay-
ments of the loans to date. The Company has no plans to forgive the principal balance outstanding under the lines of credit.
In 2000, three executive officers of the Company exercised a total of 128,284 stock options, in exchange for full recourse
notes totaling $285,000. These notes bear interest at 4.6% to 6.2% per annum. Each note is payable in full upon the earliest
of (1) a fixed date ranging from January 31, 2001 to December 31, 2004 depending on the expiration of the options exercised;
(2) the sale of all of the shares acquired with the note; (3) on a pro rata basis upon the partial sale of shares acquired with the
note, or (4) within 90 days of the officer’s termination of employment. At both December 31, 2003 and 2002, a total of $165,600
was  outstanding  under  the  full  recourse  notes.  The  notes  are  included  as  subscriptions  receivable  from  related  parties  in
shareholders’ equity on the consolidated balance sheet. 

The  interest  on  both  the  lines  of  credit  and  the  full  recourse  notes  is  forgiven  if  the  executive  is  an  employee  of  the
Company at December 31 of the respective year. Compensation expense of $163,000 and $159,000 was recognized in 2003
and 2002, respectively, for interest forgiven.

N O T E 9

Lumera subsidiary equity transactions

In March 2000, Lumera issued 4,700,000 shares of its Class B common stock to the Company for services provided by the
Company to Lumera valued at $94,000. At the same time, Lumera issued 670,000 shares of its Class B common stock to cer-
tain Microvision employees for $12,000 in cash. Shares of Lumera Class B common stock have ten votes per share.

In January 2001, Lumera issued 802,000 shares of Lumera Class A common stock to the UW at a value of $3.75 per share
in connection with the research agreement described in Note 13. Shares of Lumera Class A common stock have one vote per
share. The valuation of the shares issued to the UW was more than the per share carrying amount of the Company’s interest
in Lumera. Although the Company’s percentage ownership in Lumera was reduced as a result of this transaction, the increased
value of Lumera stock on the change in ownership interest resulted in a gain for the Company. The amount of the gain of
$3,001,000 resulting from the revaluation of the Company’s interest in Lumera was credited to paid-in capital.

Notes to consolidated financial statements cont.

In March 2001, Lumera issued 2,400,000 shares of its Series A preferred stock at a price of $10.00 per share. Included in
this total were 264,000 shares issued to the Company in repayment of intercompany borrowings. The Lumera Series A pre-
ferred stock is convertible into shares of Lumera Class A common stock and has voting rights equivalent to the Class A com-
mon stock. Holders of the Lumera Series A preferred stock are entitled to receive noncumulative dividends at a rate of $0.60
per share per annum, when and if declared by Lumera’s Board of Directors. On any liquidation of Lumera, each holder of
Lumera Series A preferred stock is entitled to receive an amount of $10.00 per share in preference to any distribution to the
holders of Lumera common stock. Upon full payment of the Series A preferences, the holders of Lumera preferred and com-
mon stock share in any further distributions based on the number of shares of common stock held (on an as converted basis)
until the holders of the Lumera Series A preferred stock receive an aggregate of $30.00 per share. Thereafter, any remaining
funds and assets of Lumera are distributed pro rata among the holders of the common stock. While not redeemable, the
Series A preferred stock contains a provision which, in the event of a change in control of Lumera, gives the holders of the
preferred stock the right to receive a cash distribution equal to the liquidation preference on the preferred stock.

In September 2001, Lumera issued fully vested options to purchase 33,000 shares of Class A common stock at an exer-
cise price of $10.00 per share to a consultant for services completed. The options expire 10 years following the date of issue.
The options were valued at $137,000 on the grant date, are not subject to remeasurement and were fully expensed in the peri-
od  granted.  The  estimated  fair  value  was  determined  using  the  Black-Scholes  option-pricing  model  with  the  following
assumptions: underlying security fair market value of $5.34, dividend yield of zero percent, expected volatility of 80%, risk-free
interest rate of 4.0%, expected life of 10 years. 

In October 2002, Lumera paid $200,000 and issued a warrant to purchase 164,000 shares of Lumera Class A Common
Stock  at  an  exercise  price  of  $3.65  per  share  to  Arizona  Microsystems,  Inc.  in  exchange  for  a  license  of  certain  Arizona
Microsystems, Inc. technology. The warrant expires 10 years following the date of grant, and vests 25% on the date of grant
and 25% annually from the date of grant. The warrant was valued at the date of grant at $133,000. The total purchase price
of $333,000 was recorded as capitalized licensing costs and is included in “Other Assets” at December 31, 2002. The fair value
of the warrant was estimated using the Black-Scholes option pricing model with a stock price of $0.98 per share, dividend
yield  of  zero  percent;  expected  volatility  of  100%;  risk-free  interest  rate  of  4.0%  and  expected  life  of  ten  years.  Lumera  is
required to pay an additional $200,000 to Arizona Microsystems, Inc. if Lumera completes financing transactions accumulat-
ing to greater than $10,000,000.

In August 2003, Lumera raised $1,900,000, before issuance costs of $34,000, from the sale of 944,000 shares of Series B
convertible preferred stock to Microvision and other purchasers. Microvision purchased 434,000 of these shares for an aggre-
gate purchase price of $868,000. In October 2003, Lumera raised $782,000 before issuance costs of $32,000, from the sale of
391,000 shares of Series B convertible preferred stock. Microvision did not purchase additional shares of Series B preferred
stock in the October 2003 offering. Each share of Series B preferred stock is convertible into one share of Lumera common
stock. The Lumera Series B preferred stock is convertible into shares of Lumera Class A common stock and has voting rights
equivalent to the Class A common stock. Holders of the Lumera Series B preferred stock are entitled to receive noncumula-
tive dividends at a rate of $0.12 per share per annum, when and if declared by Lumera’s Board of Directors. On any liquida-
tion of Lumera, each holder of Lumera Series B preferred stock is entitled to receive an amount of $2.00 per share in prefer-
ence to any distribution to the holders of Lumera common stock. Upon full payment of the Series B preferences, the holders
of Lumera preferred and common stock share in any further distributions based on the number of shares of common stock
held (on an as converted basis) until the holders of the Lumera Series B preferred stock receive an aggregate of $6.00 per
share. Thereafter, any remaining funds and assets of Lumera are distributed pro rata among the holders of the common stock.
While not redeemable, the Series B preferred stock contains a provision which, in the event of a change in control of Lumera,
gives the holders of the preferred stock the right to receive a cash distribution equal to the liquidation preference on the pre-
ferred stock.

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Notes to consolidated financial statements cont.

In August 2003, Lumera issued options to purchase an aggregate of 164,000 shares of its Class A Common Stock to two
consultants in connection with entering into certain consulting agreements. Each holder was granted a warrant to purchase
up to 82,000 shares of Class A Common Stock at a price of $3.65 per share with a ten year life. In aggregate, 41,000 of the
options were vested on the grant date. The remaining 123,000 shares vest one-third on each subsequent annual anniversary
of the grant date and are subject to remeasurement at each balance sheet date during the vesting period. The deferred com-
pensation and liability related to these options is being amortized to non-cash compensation expense over the two year peri-
od of service under the agreements. The aggregate value of both options was estimated at $136,000 at the grant date and
December 31, 2003. Total non-cash compensation expense was $32,000 for the year ended December 31, 2003. The fair val-
ues of the options were estimated at the grant date and December 31, 2003, using the Black-Scholes option pricing model
with the following weighted-average assumptions: underlying security fair market value of $0.98, dividend yield of zero per-
cent; expected volatility of 100% for both measurement dates; risk-free interest rates of 4.4% and 4.3%; and expected lives of
10 and 9.7 years, respectively.

Losses in Lumera are first allocated to the holders of the common stock and then to the holders of the preferred share-
holders pro rata in accordance with their respective ownership interest. Losses are not allocated to the options and warrants
until exercised.

Lumera  common  stock,  Series  A  preferred  stock  and  Series  B  preferred  stock  are  eliminated  in  consolidation  with
Microvision interests in Lumera common stock, Series A preferred stock, Series B preferred stock and options and warrants to
purchase  equity  in  Lumera  held  by  investors  other  than  the  Company,  and  are  presented  as  minority  interests  on  the
Company’s consolidated balance sheet. A reconciliation of the changes in ownership interests is as follows:

in thousands

Balance at December 31, 2000
Issuance of common stock to UW
Change in interest
Issuance of preferred stock, net 
Options and warrants
Loss allocation for 2001

Balance at December 31, 2001
Options and warrants
Loss allocation for 2002

Balance at December 31, 2002
Issuance of preferred stock, net 
Options and warrants
Loss allocation for 2003

Common

Preferred

Total

Microvision

Total

Minority Interests

—
3,009 
(3,001)
— 
168 
(8)

168 
140 
— 

308 
— 
14 
—

—
—
—
21,242 
—
(6,586)

14,656 
—
(7,741)

6,915 
1,735 
—
(7,125)

—
3,009 
(3,001)
21,242 
168 
(6,594)

14,824 
140 
(7,741)

7,223 
1,735 
14 
(7,125)

(2,798)
—
3,001 
2,640 
719 
(3,045)

517 
— 
(957)

(440)
868 
—
(958)

(2,798)
3,009 
—
23,882 
887 
(9,639)

15,341 
140 
(8,698)

6,783 
2,603 
14 
(8,083)

Balance at December 31, 2003

$

322 

$  1,525 

$  1,847 

$   (530)

$ 1,317

Notes to consolidated financial statements cont.

N O T E10

Common stock

As described in Note 13 “Commitments and Contingencies”, in February 2001 the Company issued 37,000 shares of com-
mon stock valued at $1,000,000 to the UW in connection with the purchase of an exclusive license agreement.

In October 2001, the Company raised $11,000,000 (before issuance costs) upon issuance of 971,000 shares of common
stock to a group of private investors. The investors also acquired fully vested warrants to purchase an aggregate of 146,000
shares of common stock at a price of $14.62 per share for a period of four years. The exercise price of the warrants was greater
than the fair market value of the common stock of the date of issue.

In March 2002, the Company raised $6,028,000 (before issuance costs) upon issuance of 524,000 shares of common stock

to a group of private investors.

In July 2002, the Company raised $3,000,000 (before issuance costs) upon issuance of 938,000 shares of common stock
to a group of private investors. The investors also acquired fully vested warrants to purchase 234,000 shares of common stock
at a price of $4.80 per share, for a period of five years. The exercise price of the warrants was greater than the fair market value
of the common stock on the date of issue.

In  August  2002,  the  Company  raised  $3,000,000  (before  issuance  costs)  upon  issuance  of  686,000  shares  of  common
stock to a group of private investors. The investors also acquired fully vested warrants to purchase 137,000 shares of common
stock at a price of $6.56 per share, for a period of five years. The exercise price of the warrants was greater than the fair mar-
ket value of the common stock on the date of issue.

In March 2003, the Company raised $12,560,000, before issuance costs of $970,000, from the sale of 2,644,000 shares of
common stock and warrants to purchase 529,000 shares of common stock at an exercise price of $6.50 per share. Each share
of common stock and accompanying partial warrant was sold for $4.75. The warrants are first exercisable in September 2003
and expire in March 2008. The exercise price of the warrants was greater than the fair market value of the common stock on
the date of issue.

In August 2003, the Company issued 8,600 fully vested shares of Microvision common stock to a professional services
firm in connection with consulting services provided to the Company. The shares were valued at $7.28, the closing price on
the date of issuance, and the full value of the shares, $63,000, was charged to non-cash compensation at the time of issuance. 
In  November  2003,  the  Company  raised  $22,250,000,  before  issuance  costs  of  $1,454,000,  from  the  sale  of  3,560,000

shares of common stock to a group of private investors.

N O T E11

Warrants

In September 2003, the Company issued two warrants to purchase an aggregate of 70,000 shares of common stock to a third
party in exchange for services provided to the Company. One warrant grants the holder the right to purchase up to 60,000
shares  of  common  stock  at  a  price  of  $7.50  per  share.  The  warrant  vests  in  three  equal  tranches  on  the  date  of  grant,  in
December 2003, and March 2004. The other warrant grants the holder the right to purchase up to 10,000 shares at a price of
$12.00 per share and vests in March 2004. The unvested warrants are subject to remeasurement at each balance sheet date.
The deferred compensation related to these warrants is being amortized to non-cash compensation expense over the four-
teen month service period of the agreement. Non-cash amortization expense related to these warrants was $192,000 for 2003.
The total value of the warrants was estimated on December 31, 2003 and the grant date at $318,000 and $328,000, respec-
tively. The fair values of the warrants were estimated on the date of grant and December 31, 2003, using the Black-Scholes
option-pricing model with the following weighted-average assumptions: expected volatilities of 83%, risk-free interest rates
of 2.7% and dividend yields of zero percent. The expected lives used at the measurement dates above were 4 years and 3.9
years, respectively.

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Notes to consolidated financial statements cont.

In August 2000, the Company issued warrants to purchase an aggregate of 200,000 shares of common stock to two con-
sultants  in  connection  with  entering  into  certain  consulting  agreements  with  the  Company.  One  of  the  consultants  subse-
quently became a director. The warrants grant each of the holders the right to purchase up to 100,000 shares of common stock
at a price of $34.00 per share. The warrants to purchase an aggregate of 150,000 shares vested over three years and were sub-
ject to remeasurement at each balance sheet date during the vesting period. The remaining warrants to purchase an aggre-
gate of 50,000 shares had a measurement date at the time of grant. The deferred compensation related to these warrants is
being amortized to non-cash compensation expense over the five-year period of service under the agreements. The total
original value of both warrants was estimated at $5,476,000. Due to stock price fluctuations, the subsequent values for those
warrants subject to remeasurement were estimated at $2,975,000, $2,979,000 and $3,441,000 as of June 7, 2003, December
31, 2002 and 2001, respectively. On June 7, 2003, the warrants became fully vested and the value of both warrants was fixed.
Total non-cash amortization expense was $595,000, $542,000 and $775,000 for the years ended December 31, 2003, 2002 and
2001, respectively. The fair values of the warrants were estimated at June 7, 2003, December 31, 2002 and 2001, using the
Black-Scholes option-pricing model with the following weighted-average assumptions: dividend yield of zero percent; and
expected volatility of 83% for all measurement dates; risk-free interest rates of 4.0%, 5.0% and 5.9%; and expected lives of 7.4,
8.1 and 9.2 years. 

The  following  table  summarizes  activity  with  respect  to  Microvision  common  stock  warrants  during  the  three  years  ended
December 31, 2003:

Outstanding at December 31, 2000
Granted:

Exercise price greater than fair value
Exercise price less than fair value

Exercised
Canceled/expired

Outstanding at December 31, 2001
Granted:

Exercise price greater than fair value

Exercised
Canceled/expired

Outstanding at December 31, 2002
Granted:

Exercise price greater than fair value
Exercise price less than fair value

Exercised
Canceled/expired

Outstanding at December 31, 2003
Exercisable at December 31, 2003

Shares

Weighted-average
Exercise Price

463,000 

$ 29.11 

158,000 
1,000 
(7,000)
—

14.62 
8.00 
11.57 
— 

615,000 

25.55 

372,000 
(5,000)
(7,000)

5.45 
8.00 
8.00 

975,000 

18.10 

539,000 
60,000 
— 
—

6.60 
7.50 
— 
— 

1,574,000 
1,544,000 

$ 13.76
$ 13.85

The  following  table  summarizes  information  about  the  weighted-average  fair  value  of  Microvision  common  stock  warrants
granted:

Year ended December 31,

Exercise price greater than fair value
Exercise price less than fair value

2003

$ 1.69
4.10

2002

2001

$ 1.29
—

$ 5.82
18.39

Notes to consolidated financial statements cont.

The  following  table  summarizes  information  about  Microvision  common  stock  warrants  outstanding  and  exercisable  at
December 31, 2003:

Range of Exercise Prices

$  4.80 – $  6.50
$  6.56 – $  7.50
$12.00 – $14.62
$16.00 – $20.32
$34.00
$53.00 – $61.13
$  4.80 – $61.13

Warrants outstanding and exercisable

Warrants exercisable

Number
outstanding at
Dec. 31, 2003

Weighted-avg.
remaining
contractual
life (years)

763,000 
197,000 
180,000 
179,000 
200,000 
55,000 
1,574,000 

3.99 
3.67 
1.70 
0.30 
6.61 
1.28 

Weighted-
average
exercise
price

$ 5.98
6.85
14.33
19.09
34.00
53.73

Number
exercisable at
Dec. 31, 2003

763,000 
177,000 
170,000 
179,000 
200,000
55,000 
1,544,000

Weighted-
average
exercise
price

$ 5.98
6.77
14.47
19.09
34.00
53.73

The fair value of the Microvision common stock warrants granted was estimated on the date of grant using the Black-Scholes
option-pricing model with the following weighted-average assumptions used for grants in 2003, 2002 and 2001, respectively:
dividend yield of zero percent and expected volatility of 83% for all years; risk-free interest rates of 2.1%, 2.2% and 2.9%; and
expected lives of 3, 2 and 2 years, respectively.

N O T E12

Options

The Company has several stock option plans (“Option Plans”) that provide for granting incentive stock options (“ISOs”) and
nonqualified stock options (“NSOs”) to employees, directors, officers and certain non-employees of the Company as deter-
mined by the Board of Directors, or its designated committee (“Plan Administrator”). The Company deems the fair market
value of its stock on any given trading day to be the closing price of its stock on the Nasdaq National Market on that date.

In December 2003, the Board of Directors authorized extending the original expiration date for all outstanding employ-
ee options with original expiration terms of less than 10 years. Under terms of the offer, employees could extend the life of
options that had original lives less than ten years by five years from the original expiration date. No other terms of the options
were amended. All options were fully vested on the offer date. The extensions were voluntary and, in total, holders elected
to extend 263,000 of the 264,000 eligible shares. At the time of the extensions the Company recorded $145,000 in non-cash
compensation expense for the excess of the fair market value of the common stock over the relevant exercise prices of the
options on the modification date.

In November 2002, the Company offered to exchange most of its outstanding options to purchase common stock for
new  options  scheduled  to  be  granted  on  or  after  June  11,  2003.  All  eligible  options  that  were  properly  submitted  for
exchange were accepted and cancelled effective December 10, 2002. Employees tendered options to purchase an aggregate
of 2,521,714 shares of the Company’s common stock. Under the terms of the exchange program, the Company granted new
options to purchase an aggregate of 1,731,825 shares of the Company’s common stock on June 13, 2003. The exercise price
of the new options was $7.00 per share. 

In May 2002, shareholders approved an amendment to the 1996 Stock Option Plan, increasing the number of shares
reserved for the Plan by 2,500,000 to 8,000,000. The shareholders also approved amendments to the Independent Director
Stock Option Plan (“Director Option Plan”) that increased the total shares reserved for the Plan by 350,000 to 500,000 shares;
established  a  fully  vested  option  grant  to  purchase  15,000  shares  to  each  independent  director  upon  initial  election  or
appointment to the Board of Directors; increased the number of shares granted in the annual initial and reelection grants from
5,000  to  15,000;  granted  a  one-time  option  to  each  independent  director  to  purchase  10,000  shares;  and,  authorized  the
Board of Directors to make discretionary grants.

In October 2001, the Board of Directors granted the independent directors options to purchase an aggregate of 57,232

shares subject to shareholder approval. In May 2002, the shareholders approved the grants.

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Notes to consolidated financial statements cont.

For Option Plan grants, other than non-discretionary grants to directors, the date of grant, option price, vesting period
and  other  terms  specific  to  options  granted  are  determined  by  the  Plan  Administrator.  The  specific  terms  of  Mandatory
Director Grants are specified by the plan document.

Stock options issued under the Option Plans, other than the Director Option Plan, generally have vesting ranges from
three years to four years; expirations of 10 years; and exercise prices greater than or equal to the fair market value of the
Company’s stock on the date of grant. 

The Director Option Plan provides for two types of Mandatory Grants: a fully vested option to purchase 15,000 shares of
common stock to each independent director upon initial election or appointment to the Board of Directors, and an additional
initial or annual reelection option to purchase 15,000 shares of common stock, which vests no later than the Company’s sub-
sequent regularly scheduled annual shareholders’ meeting. For both types of Mandatory Grants, the exercise prices are set
equal to the average closing price of the Company’s common stock as reported on the Nasdaq National Market during the
ten trading days prior to the date of grant and have ten year terms. Upon leaving the Board, the director’s grants remain exer-
cisable until their expiration dates. 

During 2001, the Company issued 462,000 options, outside of its stock option plans, to employees who are not execu-
tive officers of the Company. The terms and conditions of these options issued are the same as those issued under the Option
Plans, except for the vesting provisions. These grants vest 25% on the grant date, 25% six months from the grant date, 25%
one year from grant date and 25% eighteen months from grant date.

In October 2001, the Company granted, subject to shareholder approval, 127,000 options to independent directors. As
the issuance of these options was contingent upon shareholder approval, there was no measurement date for these options
at December 31, 2001. In May 2002, shareholders approved these issuances. Deferred compensation of $133,000 was record-
ed related to these options as the fair value of the stock at the measurement date was greater than the exercise price.

The  following  table  summarizes  activity  with  respect  to  Microvision  common  stock  options  for  the  three  years  ended
December 31, 2003:

Outstanding at December 31, 2000
Granted:

Exercise price greater than fair value
Exercise price equal to fair value
Exercise price less than fair value

Exercised
Forfeited

Outstanding at December 31, 2001
Granted:

Exercise price greater than fair value
Exercise price equal to fair value

Exercised
Cancelled under exchange program
Forfeited

Outstanding at December 31, 2002
Granted:

Exercise price greater than fair value
Exercise price equal to fair value
Exercise price less than fair value

Exercised
Forfeited
Outstanding at December 31, 2003
Exercisable at December 31, 2003

Weighted-
average
exercise price

Shares

3,054,000 

$ 24.65 

1,566,000 
934,000 
70,000 
(92,000)
(475,000)

18.35 
19.24 
13.52 
11.85 
27.30 

5,057,000 

21.52 

106,000 
694,000 
(3,000)
(2,522,000)
(256,000)

10.23 
9.71 
7.40 
24.63 
20.28 

3,076,000 

16.03 

1,935,000 
378,000 
197,000 
(82,000)
(783,000)
4,721,000 
3,030,000 

7.15 
6.76 
6.93 
6.60 
10.06 
$ 12.43 
$ 13.56 

Notes to consolidated financial statements cont.

The  following  table  summarizes  information  about  the  weighted-average  fair  value  of  Microvision  common  stock  options
granted:

Year ended December 31,

Exercise price greater than fair value
Exercise price equal to fair value
Exercise price less than fair value

2003

$ 3.19
4.26
2.69

2002

2001

$ 5.45
6.58
—

$ 8.89
12.84
8.68

The  following  table  summarizes  information  about  Microvision  common  stock  options  outstanding  and  exercisable  at
December 31, 2003:

Range of exercise prices

$  3.25 – $  3.25
$  3.37 – $  5.25
$  5.32 – $  6.21
$  6.25 – $  7.02
$  7.06 – $10.21
$10.31 – $15.00
$15.13 – $20.00
$20.25 – $30.88
$31.11 – $42.94
$47.13 – $60.75
$  3.25 – $60.75

Options outstanding

Options exercisable

Number
outstanding at
Dec. 31, 2003

Weighted-avg.
remaining
contractual
life (years)

Weighted-
average
exercise
price

Number
exercisable at
Dec. 31, 2003

Weighted-
average
exercise
price

5,000 
96,000 
140,000 
1,808,000 
498,000 
1,439,000 
227,000 
233,000 
266,000 
9,000 
4,721,000 

8.55 
8.59 
9.23 
9.21 
7.88 
7.23 
7.08 
7.04 
6.33 
6.18 

$ 3.25
4.36
5.93
6.97
8.88
14.27
18.34
25.33
35.02
49.26

1,000 
21,000 
13,000 
932,000 
304,000 
1,282,000 
142,000 
146,000 
182,000 
7,000 
3,030,000 

$ 3.25
4.41
5.43
6.95
8.89
14.56
18.40
25.27
35.39
49.26

Lumera subsidiary stock option plans In 2000, Lumera adopted the 2000 Stock Option Plan (the “Lumera Plan”). The Lumera
Plan provides for the granting of stock options to employees, consultants and non-employee directors of Lumera. Lumera has
reserved 3,000,000 shares of Class A common stock for issuance pursuant to the Lumera Plan. The terms and conditions of
any  options  granted,  including  date  of  grant,  the  exercise  price  and  vesting  period  are  to  be  determined  by  the  Plan
Administrator. Stock options issued under the Lumera Plan generally vest over four years and expire after ten years.

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Notes to consolidated financial statements cont.

The  following  table  summarizes  activity  with  respect  to  Lumera  common  stock  options  for  the  period  from  inception  to
December 31, 2003:

Outstanding at December 31, 2000
Granted:

Exercise price greater than fair value
Exercise price equal to fair value

Exercised
Forfeited

Outstanding at December 31, 2001
Granted:

Exercise price equal to fair value

Forfeited

Outstanding at December 31, 2002
Granted:

Exercise price greater than fair value

Forfeited

Outstanding at December 31, 2003

Exercisable at December 31, 2003

Weighted-
average
exercise price

Shares

167,000 

$ 1.01 

412,000 
99,000 
— 
(43,000)

10.00 
4.23 
— 
.76 

635,000 

7.36 

96,000 
(98,000)

10.00 
4.63 

633,000 

8.18 

309,000 
(37,000)

3.38 
10.00

905,000 

$ 6.47 

463,000 

$ 7.26

Lumera options outstanding at December 31, 2003, 2002 and 2001 had weighted-average contractual lives of 8.2, 8.5 and 9.4
years, respectively. 

The following table summarizes consolidated non-cash compensation expense related to options and warrants:

Year ended December 31,

2003

2002

2001

Lumera stock issued to the University of Washington
Company and Lumera stock options issued to consultants
Lumera stock warrant issued to Arizona Microsystems 
Company and Lumera stock options issued to employees
Company stock and options issued to independent directors

$ 1,003,000 
882,000 
— 
270,000
1,000 
$ 2,156,000 

$ 1,003,000 
571,000 
133,000 
219,000 
58,000 
$ 1,984,000 

$   844,000 
1,047,000 
— 
411,000 
231,000 
$ 2,533,000 

Notes to consolidated financial statements cont.

Fair value disclosures  The fair values of Microvision common stock options granted were estimated on the date of each grant
using the Black-Scholes option-pricing model with the following weighted-average assumptions used for grants in 2003, 2002
and 2001, respectively: dividend yield of zero percent; expected volatility of 83% for all years; risk-free interest rates of 2.2%,
4.2% and 4.1%; and expected lives of 3, 5 and 4 years. Actual forfeitures of 25.4%, 54.9% and 15.5% were used for the years
ended December 31, 2003, 2002 and 2001, respectively. Excluding shares cancelled under the voluntary extension for grants
with terms less than ten years, the actual forfeiture rate for 2003 was 16.3%. Excluding shares cancelled under the November
1, 2002 voluntary stock option exchange offer, the actual forfeiture rate for 2002 was 5.0%.

The  fair  values  of  the  options  granted  by  Lumera  were  estimated  on  the  date  of  each  grant  using  the  Black-Scholes
option-pricing model with the following weighted-average assumptions used for grants in 2003, 2002 and 2001, respectively:
dividend yield of zero percent; expected volatility of zero percent for all years; risk-free interest rates of 3.8%, 4.6% and 4.5%;
and expected lives of 7, 7 and 6 years. Actual forfeitures of 5.8%, 15.4% and 10.0% were used for the years ended December
31, 2003, 2002 and 2001, respectively. 

N O T E13

Commitments and contingencies

Agreements with the University of Washington In October 1993, the Company entered into a Research Agreement and an
exclusive license agreement (“License Agreement”) with the UW. The License Agreement grants the Company the rights to
certain intellectual property, including the technology being subsequently developed under the Microvision research agree-
ment (“Research Agreement”), whereby the Company has an exclusive, royalty-bearing license to make, use and sell or sub-
license  the  licensed  technology.  In  consideration  for  the  license,  the  Company  agreed  to  pay  a  one-time  nonrefundable
license issue fee of $5,134,000. Payments under the Research Agreement were credited to the license fee. In addition to the
nonrefundable fee, which has been paid in full, the Company is required to pay certain ongoing royalties. Beginning in 2001,
the  Company  is  required  to  pay  the  UW  a  nonrefundable  license  maintenance  fee  of  $10,000  per  quarter,  to  be  credited
against royalties due.

In March 1994, the Company entered into an exclusive license agreement (“HALO Agreement”) with the UW. This tech-
nology involves the projection of data and images onto the inside of a dome that is placed over the viewer’s head. The HALO
Agreement  grants  the  Company  the  exclusive  right  to  market  the  technical  information  for  the  purpose  of  commercial
exploitation. Under the agreement, the Company was obligated to pay to the UW $75,000 and issue 31,250 shares of com-
mon stock upon filing of the first patent application and $100,000 and issue 62,500 shares of common stock upon issuance of
the first patent awarded. In 1999, the UW filed a patent application under the HALO Agreement and the Company recorded
$452,000 as an expense, based on the value of the 31,250 shares of common stock on the patent filing date and the $75,000
cash payment, as an expense. The shares of common stock were issued and the cash payment was made in February 2000.
In February 2001, the Company entered into an amendment to the HALO Agreement, whereby it purchased the rights
to HALO display technology from the UW for an additional cash payment of $100,000 and 37,000 shares of Microvision com-
mon stock valued at the closing price of the Company’s common stock on the date of the amendment. The Company record-
ed $1,100,000, the total value of the shares of common stock and the cash payment, as a research and development expense.
In October 2000, Lumera entered into an exclusive license agreement (“Lumera License Agreement”) and a Sponsored
Research Agreement with the UW. The Lumera License Agreement grants Lumera exclusive rights to certain intellectual prop-
erty including technology being developed under the Sponsored Research Agreement whereby Lumera has an exclusive roy-
alty-bearing  license  to  make,  use,  sell  or  sublicense  the  licensed  technology.  In  consideration  for  the  Lumera  License
Agreement, Lumera agreed to pay a one-time nonrefundable license issue fee of $200,000 to the UW, which was expensed
as research and development, as there are no known alternative uses for the technology. 

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Notes to consolidated financial statements cont.

Under the terms of the Sponsored Research Agreement, Lumera issued 802,000 shares of Lumera’s Class A common
stock. The shares were vested in full by mutual agreement between the UW and Lumera on January 8, 2001. The estimated
fair value of the shares issued was $3,009,000 and has been recorded as prepaid research and development expense, and will
be amortized over the term of the research plan. Amortization expense of $1,003,000, $1,003,000 and $844,000 was recorded
as  non-cash  compensation  expense  in  2003,  2002  and  2001,  respectively.  The  balance  in  prepaid  research  expenses  at
December 31, 2003, December 31, 2002 and December 31, 2001 was $159,000, $1,162,000 and $2,165,000, respectively.

In connection with the Sponsored Research agreement, Lumera agreed to pay an aggregate of $9,000,000 in quarterly pay-
ments over three years. The first payment was made upon Lumera’s acceptance of the UW research plan on February 26, 2001. 
In February 2002, Lumera and the UW amended the Sponsored Research Agreement to extend quarterly payments and
performance through 2005. In March 2003, Lumera and the UW entered into a second amendment to the Sponsored Research
Agreement, which deferred certain 2003 payments until 2004. The amounts deferred under this second amendment were to
be due on April 1, 2004. In November 2003, Lumera and the UW entered into a third amendment to the Sponsored Research
Agreement. Under the terms of the amendment to, Lumera’s payment obligation to the UW is reduced to $125,000 per quar-
ter from October 1, 2003 to September 30, 2004, and $300,000 for the quarter ending December 31, 2004. If Lumera and the
UW agree to extend the Sponsored Research Agreement though 2006, Lumera would be required to pay the UW $325,000 per
quarter in 2005 and $375,000 per quarter in 2006. The amendment requires Lumera to make its unpaid payments of $2,000,000
due by May 2005, unless making the payment would materially adversely affect Lumera’s ability to continue operations.

Under the terms of the third amendment, Lumera’s payment obligation to the University of Washington is reduced to
$7,050,000  from  $9,000,000.  Lumera  has  made  payments  to  the  University  of  Washington  of  $1,000,000,  $1,125,000  and
$2,250,000 and recognized expense of $1,924,000, $2,400,000 and $2,000,000 during 2003, 2002 and 2001, respectively under
the Sponsored Research Agreement.

Lumera has also conditionally committed to provide $300,000 per year to the UW during the original three-year term of
the Sponsored Research Agreement for additional research related to the Optical Materials. Lumera has paid $800,000 of this
conditional commitment as of December 31, 2003.

Under  the  terms  of  the  agreements,  Lumera  is  also  required  to  pay  certain  costs  related  to  filing  and  processing  of

patents and copyrights related to the agreements. Additionally, Lumera will pay certain ongoing royalties.

As described in Note 9, Lumera is required to make an additional payment of $200,000 to Arizona Microsystems, Inc. if

Lumera completes financing transactions totaling more than $10,000,000.

Litigation The Company is subject to various claims and pending or threatened lawsuits in the normal course of business.
The Company is not currently party to any legal proceedings that management believes the adverse outcome of which would
have a material adverse effect on the Company’s financial position, results of operations or cash flows.

Lease commitments The Company leases its office space and certain equipment under noncancelable capital and operat-
ing leases with initial or remaining terms in excess of one year. The Company entered into a facility lease that commenced in
April 1999, which includes extension and rent escalation provisions over the seven-year term of the lease. Rent expense is rec-
ognized on a straight-line basis over the lease term.

The Company entered into a 42 month facility lease that commenced in 2002 for office space in San Mateo, California.

The Company has entered into a sublease agreement for this office space.

Notes to consolidated financial statements cont.

Future minimum rental commitments under capital and operating leases for years ending December 31 are as follows:

2004
2005
2006
2007
2008
Thereafter
Total minimum lease payments
Less: Amount representing interest
Present value of capital lease obligations
Less: Current portion
Long-term obligation at December 31, 2003

Capital leases Operating leases

$ 1,988,000 
1,992,000 
473,000 
46,000 
— 
— 
$ 4,499,000 

$ 68,000 
36,000 
— 
— 
— 
— 
104,000 
(8,000)
96,000 
(62,000)
$ 34,000 

Operating lease commitments amounts do not include the impact of contractual sublease receipts of $179,000 and $144,000
for the years ended December 31, 2004 and 2005, respectively.

The capital leases are collateralized by the related assets financed and by security deposits held by the lessors under the
lease agreements. The cost and accumulated depreciation of equipment under capital leases was $1,160,000 and $928,000,
respectively, at December 31, 2003 and $1,231,000 and $810,000, respectively, at December 31, 2002.

Rent expense was $2,302,000, $1,639,000 and $1,557,000, for 2003, 2002 and 2001, respectively. Rent expense in 2003

includes $540,000 for the closure of the Company’s facility in San Mateo, California.

Long-term debt  During 1999, the Company entered into a loan agreement with the lessor of the Company’s corporate head-
quarters to finance $420,000 in tenant improvements. The loan carries a fixed interest rate of 10% per annum, is repayable
over the initial term of the lease, which expires in 2006, and is secured by a letter of credit. 

N O T E14

Income taxes

A provision for income taxes has not been recorded for 2003, 2002 or 2001 due to valuation allowances placed against the
net  operating  losses  and  deferred  tax  assets  arising  during  such  periods.  A  valuation  allowance  has  been  recorded  for  all
deferred tax assets because based on the Companies’ history of losses since inception, the available objective evidence cre-
ates sufficient uncertainty regarding the realizability of the deferred tax assets.

At  December  31,  2003,  Microvision  has  net  operating  loss  carry-forwards  of  approximately  $139,268,000,  for  federal
income  tax  reporting  purposes.  In  addition,  Microvision  has  research  and  development  tax  credits  of  $1,927,000.  The  net
operating  loss  carry-forwards  and  research  and  development  credits  available  to  offset  future  taxable  income,  if  any,  will
expire in varying amounts from 2008 to 2023 if not previously utilized. In certain circumstances, as specified in the Internal
Revenue Code, a 50% or more ownership change by certain combinations of the Company’s stockholders during any three-
year period would result in limitations on the Company’s ability to utilize its net operating loss carry-forwards. The Company
has determined that such a change occurred during 1995 and the annual utilization of loss carry-forwards generated through
the period of that change will be limited to approximately $761,000. An additional change occurred in 1996; and the limita-
tion for losses generated in 1996 is approximately $1,600,000.

Lumera files a separate tax return. At December 31, 2003, Lumera has net operating loss carry-forwards of approximately
$27,241,000  for  federal  income  tax  reporting  purposes.  In  addition,  Lumera  has  research  and  development  tax  credits  of
$692,000.  The  net  operating  loss  carry-forwards  and  research  and  development  credits  available  to  offset  future  taxable
income, if any, will expire in varying amounts from 2020 through 2023, if not previously utilized.

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Notes to consolidated financial statements cont.

Deferred tax assets are summarized as follows:

December 31,

2003

2002

Net operating loss carry-forwards – Microvision 
Net operating loss carry-forwards – Lumera
R&D credit carry-forwards – Microvision
R&D credit carry-forwards – Lumera
Other 

Less: Valuation allowance
Deferred tax assets

$ 47,351,000 $ 39,684,000 
6,784,000 
2,127,000 
273,000 
3,191,000 
52,059,000 
(52,059,000)
—

9,262,000
1,927,000
692,000
4,281,000
63,513,000 
(63,513,000)

— $

$

The valuation allowance and the research and development credit carry-forwards account for substantially all of the difference
between the Company’s effective income tax rate and the Federal statutory tax rate of 34%.

Certain  net  operating  losses  arise  from  the  deductibility  for  tax  purposes  of  compensation  under  nonqualified  stock
options  equal  to  the  difference  between  the  fair  value  of  the  stock  on  the  date  of  exercise  and  the  exercise  price  of  the
options. For financial reporting purposes, the tax effect of this deduction when recognized is accounted for as a credit to
shareholders’ equity.

N O T E15

Retirement savings plan

The Company has a retirement savings plan (“the Plan”) that qualifies under Internal Revenue Code Section 401(k). The Plan
covers all qualified employees. Contributions to the Plan by the Company are made at the discretion of the Board of Directors. 
In February 2000, the Board of Directors approved a plan amendment to match 50% of employee contributions to the
Plan up to 6% of the employee’s per pay period compensation, starting on April 1, 2000. During 2003, 2002 and 2001, the
Company contributed $392,000, $351,000 and $271,000, respectively, to the Plan under the matching program. 

N O T E16

Segment information

The Company is organized into two segments – Microvision, which is engaged in scanned beam displays and related tech-
nologies, and Lumera, which is engaged in optical systems components technology. The segments were determined based
on how management views and evaluates the Company’s operations.

The accounting policies used to derive reportable segment results are generally the same as those described in Note 2,

“Summary of Significant Accounting Policies.”

A portion of each segments’ administration expenses arise from shared services and infrastructure that Microvision has
provided to both segments in order to realize economies of scale and to efficiently use resources. These efficiencies include
costs of certain legal, accounting, human resources and other Microvision corporate and infrastructure costs. These expens-
es are allocated to the segments and the allocation has been determined on a basis that the Company considered to be a
reasonable reflection of the utilization of services provided to, or benefits received by, the segments.

Notes to consolidated financial statements cont.

The following tables reflect the results of the Company’s reportable segments under the Company’s management sys-
tem. The performance of each segment is measured based on several metrics. These results are used, in part, by manage-
ment, in evaluating the performance of, and in allocation of resources to, each of the segments.

Microvision

Lumera

Elimination

Total

in thousands

Year ended December 31, 2003
Revenues
Cost of revenue
Research and development expense
Marketing, general and administrative expense
Non-cash compensation expense
Interest income
Interest expense
Segment loss
Depreciation
Expenditures for capital assets
Segment assets

Year ended December 31, 2002
Revenues
Cost of revenue
Research and development expense
Marketing, general and administrative expense
Non-cash compensation expense
Interest income
Interest expense
Segment loss
Depreciation
Expenditures for capital assets
Segment assets

Year ended December 31, 2001
Revenues
Cost of revenue
Research and development expense
Marketing, general and administrative expense
Non-cash compensation expense
Interest income
Interest expense
Segment loss
Depreciation
Expenditures for capital assets
Segment assets

$ 12,927 
6,032 
16,755 
14,557 
1,115 
342 
51 
25,205 
1,924 
1,094 
37,224 

$ 14,971 
6,667 
18,362 
15,577 
841 
860 
59 
26,219 
1,894 
792 
30,144 

$

9,902 
5,799 
25,513 
11,635 
1,521 
2,593 
92 
31,749 
1,531 
1,897 
44,606 

$ 1,725 
1,014 
6,561 
1,270 
1,041 
39 
— 
8,083 
1,185 
455 
4,058 

$

946 
330 
7,157 
1,221 
1,143 
199 
—
8,698 
1,049 
562 
8,589 

$

860 
310 
6,386 
2,849 
1,012 
377 
447 
9,639 
850 
1,872 
15,988 

$

$

$

— 
— 
— 
— 
— 
— 
— 
(7,125)
— 
— 
(7,364)

— 
— 
— 
— 
—
—
—
(7,741)
— 
— 
(6,466)

— 
— 
— 
(128)
— 
(447)
(447)
(6,594)
— 
— 
(6,539)

$ 14,652
7,046 
23,316 
15,827
2,156 
381
51
26,163 
3,109 
1,549 
33,918 

$ 15,917 
6,997 
25,519 
16,798 
1,984 
1,059 
59 
27,176 
2,943 
1,354 
32,267 

$ 10,762 
6,109 
31,899 
14,356 
2,533 
2,523 
92 
34,794 
2,381 
3,769 
54,055 

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Notes to consolidated financial statements cont.

N O T E17

Quarterly financial information (unaudited)

The following table presents the Company’s unaudited quarterly financial information for the years ending December 31, 2003
and 2002:

December 31

September 30

June 30

March 31

Year ended December 31, 2003
Revenue
Gross Margin
Net loss
Net loss per share – basic and diluted

Year ended December 31, 2002
Revenue
Gross Margin
Net loss
Net loss per share – basic and diluted

$ 4,039,000 
2,102,000 
(5,210,000)
(.26)

$ 3,193,000 
2,121,000 
(6,901,000)
(.46)

$ 2,565,000  $ 4,511,000  $ 3,537,000
2,128,000
(7,396,000)
(.46)

2,310,000 
(6,692,000)
(.38)

1,066,000 
(6,865,000)
(.39)

$ 4,186,000  $ 4,734,000  $ 3,804,000
1,993,000
(8,226,000)
(.63)

2,539,000 
(6,648,000)
(.49)

2,267,000 
(5,401,000)
(.37)

N O T E18

Subsequent events

On March 12, 2004 Lumera raised $500,000, before issuance costs, from the sale of 250,000 shares of Series B convertible pre-
ferred stock to a group of private investors. Microvision did not participate in the offering. 

M V I S 03 Management’s discussion & analysis of financial condition & results of operations

Overview The  Company  commenced  operations  in  May  1993  to  develop  and  commercialize  technology  for  displaying
images and information onto the retina of the eye. In 1993, the Company acquired an exclusive license to the Virtual Retinal
Display  technology  from  the  University  of  Washington  and  entered  into  a  research  agreement  with  the  University  of
Washington  to  further  develop  the  Virtual  Retinal  Display  technology.  The  Company  has  continued  to  develop  the  Virtual
Retinal Display technology as part of its broader research and development efforts relating to the scanned beam technology. 
In  February  2004,  Microvision  introduced  a  new  version  of  its  see-through  monochrome  head-worn  display  called

Nomad Expert Technician System.

In 2002, the Company introduced Flic, a hand-held bar code scanner. The Company has also developed demonstration
scanned  beam  displays,  including  hand-held  and  head-worn  color  versions  and  is  currently  refining  and  developing  its
scanned  beam  display  technology  for  potential  defense,  industrial,  medical,  aerospace  and  consumer  applications.  The
Company expects to continue funding prototype and demonstration versions of products incorporating the scanned beam
technology at least through 2004. Future revenues, profits and cash flow and the Company’s ability to achieve its strategic
objectives as described herein will depend on a number of factors, including acceptance of the scanned beam technology by
various industries and original equipment manufacturers, market acceptance of products incorporating the scanned beam
technology and the technical performance of such products. 

The Company has incurred substantial losses since its inception and expects to incur a substantial loss during the year

ended December 31, 2004.

In 2000, Microvision formed a subsidiary, Lumera Corporation (“Lumera”), to develop and commercialize a new class of
non-linear optical chromophores (“Optical Materials”) that interact with and can be used to change the properties of light
waves, including the speed and direction at which light waves travel. 

Lumera, which is a development stage enterprise, has incurred substantial net losses since inception. Lumera has satis-

fied its capital requirements through the sale of convertible preferred stock.

Lumera has established and built in-house laboratories to develop and characterize new materials, create new device
designs and perform small-scale production of new devices and systems based on the Optical Materials. As of December 31,
2003, Microvision owned 76% of the common stock, 11% of the Series A convertible preferred stock and 32% of the Series B
convertible preferred stock of Lumera.

Key accounting policies and estimates The Company’s discussions and analysis of its financial condition and results of oper-
ations  are  based  upon  the  Company’s  consolidated  financial  statements,  which  have  been  prepared  in  accordance  with
accounting  principles  generally  accepted  in  the  United  States.  The  preparation  of  these  financial  statements  requires  the
Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and
related disclosure of contingent liabilities. On an on-going basis, the Company evaluates its estimates, including those relat-
ed to revenue recognition, contract losses, bad debts, investments and contingencies and litigation. The Company bases its
estimates on historical experience, terms of existing contracts, its evaluation of trends in the display and optical systems com-
ponents industries, information provided by its current and prospective customers and strategic partners, information available
from  other  outside  sources,  and  on  various  other  assumptions  management  believes  to  be  reasonable  under  the  circum-
stances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not
readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
The Company believes the following key accounting policies require its more significant judgments and estimates used

in the preparation of its consolidated financial statements:

Revenue recognition The Company recognizes revenue as work progresses on long-term, cost plus fixed fee and fixed price
contracts  using  the  percentage-of-completion  method,  which  relies  on  estimates  of  total  expected  contract  revenue  and
costs. The Company uses this revenue recognition methodology because it can make reasonably dependable estimates of
the revenue and costs. Recognized revenues are subject to revisions as the contract progresses to completion and actual rev-
enue and cost become certain. Revisions in revenue estimates are reflected in the period in which the facts that give rise to
the revision become known.

The Company’s product sales generally include acceptance provisions. The Company recognizes revenue for product

shipments upon acceptance of the product by the customer or expiration of the contractual acceptance period.

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Management’s discussion & analysis cont.

Losses on uncompleted contracts  The Company maintains an allowance for estimated losses if a contract has an estimated
cost to complete that is in excess of the remaining contract value. The entire estimated loss is recorded in the period in which
the loss is first determined. The Company determines the estimated cost to complete a contract through a detail review of
the work to be completed, the resources available to complete the work and the technical difficulty of the remaining work. If
the actual cost to complete the contract is higher than the estimated cost, the entire loss is recognized. The actual cost to
complete a contract can vary significantly from the estimated cost, due to a variety of factors including availability of techni-
cal staff, availability of materials and technical difficulties that arise during a project. Most of the Company’s development con-
tracts are cost plus fixed fee type contracts. Under these types of contracts, the Company is not required to spend more than
the contract value to complete the contracted work.

Allowance for uncollectible receivables  The Company maintains a general allowance for uncollectible receivables, including
accounts receivable, cost and estimated earnings in excess of billings on uncompleted contracts and receivables from relat-
ed parties. The Company reviews several factors in determining the allowance including the customer’s past payment histo-
ry and financial condition. If the financial condition of our customers or the related parties who have receivable balances with
the Company were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances could
be required.

Inventory  The Company values inventory at the lower of cost or market with cost determined on a weighted-average basis.
The Company reviews several factors in determining the market value of its inventory including evaluating the replacement
cost of the raw materials and the net realizable value of the finished goods. If we do not achieve our targeted sales prices or
if market conditions for our components or products were to decline, additional reductions in the carrying value of the inven-
tory would be required. 

Litigation  The Company believes that the probability of an unfavorable outcome to any potential pending or threatened lit-
igation is low and therefore has not recorded an accrual for any potential loss. The Company’s current estimated range of lia-
bility related to any potential pending litigation is based on claims for which our management can estimate the amount and
range of potential loss. As additional information becomes available, the Company will assess the potential liability related to
any pending litigation and, if appropriate, revise its estimates. Such revisions in the Company’s estimates of the potential lia-
bility could materially impact our results of operation and financial position. 

The key accounting policies described above are not intended to be a comprehensive list of all of our accounting poli-
cies. In many cases, the accounting treatment of a particular transaction is specifically dictated by generally accepted account-
ing principles, with no need for management to apply its judgment or make estimates. There are also areas in which man-
agement’s judgment in selecting any available alternative would not produce a materially different result to the Company’s
consolidated  financial  statements.  Additional  information  about  Microvision’s  accounting  policies,  and  other  disclosures
required by generally accepted accounting principles, are set forth in the notes to the Company’s consolidated financial state-
ments, which begin on page 26 of the Annual Report on Form 10-K.

Inflation has not had a material impact on the Company’s net sales, revenues, or income from continuing operations over

the Company’s three most recent fiscal years.

Results of operations 
Year ended December 31, 2003 compared to year ended December 31, 2002

Revenue Revenue decreased by $1.3 million, or 8%, to $14.7 million from $15.9 million in 2002. The decrease resulted from
a lower level of development contract business in 2003 than that performed in 2002 on contracts entered into in both 2003
and 2002. 

To date, substantially all of the Company’s revenue has been generated from development contracts. The Company’s
customers  have  included  both  the  United  States  government  and  commercial  enterprises.  In  2003,  49%  of  revenue  was
derived from performance on development contracts with the United States government, 44% from performance on devel-
opment contracts with commercial customers and the remainder from sales of Nomad and Flic units. This compared to 83%
of revenue was derived from performance on development contracts with the United States government and 14% from per-
formance on development contracts with commercial customers and the remainder from product sales in 2002. In 2003, 27%
of consolidated revenue was earned from development contracts with a single commercial customer. The Company expects
contract revenue to fluctuate significantly from year to year. 

Microvision expects that product revenue will grow in both absolute volume and as a percentage of total revenue. 

Management’s discussion & analysis cont.

During 2003, Microvision recorded $855,000 in revenue from the sale of 133 Nomads. In September 2003, Microvision
entered into a contract with the Program Executive Office Soldier within the U.S. Army to supply the Stryker Brigade Combat
Team with 100 Nomads. In addition, Microvision continued development of a next generation Nomad that was launched in
February 2004. In July 2003, America Honda Motor Company, Inc. signed a non-binding letter of intent to purchase 3,800 of
the next generation Nomads. Microvision has been working closely with Honda to meet their product performance require-
ments. Microvision is also participating in trials with other automotive service providers. Based on its work with Honda and
other automotive service providers, Microvision expects Nomad revenue to increase in 2004.

During 2003, Microvision recorded $280,000 in revenue from sales of Flic bar code scanners. In January 2003, Microvision
entered into a supply agreement to provide a private labeled Flic bar code scanner to NCR. During 2003, Microvision and
NCR worked together to optimize the Flic performance for NCR’s customers. NCR placed orders for $392,000 of product dur-
ing  the  fourth  quarter  of  2003.  Microvision  ended  the  year  with  a  backlog  of  $378,000  in  Flic  product  and  accessories.
Microvision expects revenue from Flic to increase in 2004.

During 2003, the Company entered into several development contracts with both commercial and government entities

for further development of the scanned beam technology to meet specific customer applications:

In February 2003, Microvision extended a development agreement with Canon to further develop miniature displays for use
in consumer products including digital cameras and digital video equipment. In October 2003, Microvision entered into a new
agreement with Canon to further develop miniature displays for use in consumer products including digital cameras and dig-
ital video equipment.

In April 2003, the Company entered into a $2.2 million contract modification with the U.S. Army’s Aviation Applied Technology
Directorate to continue work on an advanced helmet mounted display and imaging system to be used in the Virtual Cockpit
Optimization Program.

In April 2003, the Company entered into a $1.6 million contract modification with the U.S. Army’s Medical Research Acquisition
Activities, Telemedicine and Advanced Technology Research Center to continue development of a mobile wireless personal
display system for medical applications.

In December 2003, Lumera entered into a contract extension with a U.S. government agency to continue development of
electro-optical polymer materials and devices for wideband optical modulators.

During 2003, Microvision performed development work for several automotive companies including BMW and Volkswagen of
America, to develop automotive displays using the scanned beam technology. The total value of these contracts was approx-
imately $1.3 million.

The Company had a backlog of $3.8 million at December 31, 2003. The backlog is composed primarily of development con-
tracts, including amendments, entered through December 31, 2003. The Company plans to complete all of the contract back-
log during 2004. 

Cost of revenue Cost of revenue includes both the direct and allocated indirect costs of performing on development con-
tracts and the Nomad and Flic product costs. Direct costs include labor, materials and other costs incurred directly in per-
forming specific projects. Indirect costs include labor and other costs associated with operating the Company’s research and
product  development  department  and  building  the  technical  capabilities  of  the  Company.  Cost  of  revenue  is  determined
both by the level of direct costs incurred on development contracts and by the level of indirect costs incurred in managing
and building the technical capabilities and capacity of the Company. The cost of revenue can fluctuate substantially from peri-
od to period depending on the level of both the direct costs incurred in the performance of projects and the level of indirect
costs incurred.

Cost of revenue increased by $49,000, or 1%, to $7.0 million. On a percentage of revenue basis, cost of revenue increased
by 9 % to 48% from 44% in 2002. The change in cost of revenue as a percentage of revenue is primarily attributable to changes
in  the  contract  mix.  Total  direct  costs  decreased  approximately  7%  from  2002.  The  direct  labor  cost  portion  of  direct  cost
decreased by approximately 10% from 2002. The decrease in direct labor cost resulted from a lower volume of contract work
performed during 2003 compared to 2002.

Research  and  development  overhead  is  allocated  to  both  cost  of  revenue  and  research  and  development  expense

based on the proportion of direct labor cost incurred in cost of revenue and research and development, respectively. 

Microvision’s costs to produce Nomad units during 2003 were substantially higher than product revenue. Microvision has
classified production cost in excess of product revenue as research and development expense. Through December 31, 2003,
Nomad production and the design and manufacturing processes did not become sufficiently mature to support “commercial
production” as described in SFAS No. 2 “Accounting for Research and Development Costs.”

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Management’s discussion & analysis cont.

Management periodically assesses the need to provide for obsolescence of inventory and adjusts the carrying value of
inventory to its net realizable value when required. During 2003, Microvision recorded a write down of Nomad inventory of
approximately $450,000.

The Company expects that cost of revenue on an absolute dollar basis will increase in the future. This increase will like-
ly result from planned shipments of commercial products, additional development contract work that the Company expects
to perform, and commensurate growth in the Company’s personnel and technical capacity required to perform on such con-
tracts. The cost of revenue, as a percentage of revenue, can fluctuate significantly from period to period depending on the
contract mix, the cost of future planned products and the level of direct and indirect cost incurred. The Company expects the
cost of contract revenue, as a percentage of contract revenue, to remain relatively flat over time. 

Research and development expense Research and development expense consists of:

Compensation related costs of employees and contractors engaged in internal research and product development activities,

Research fees paid to the University of Washington under the Sponsored Research Agreement,

Laboratory operations, outsourced development and processing work,

Fees and expenses related to patent applications, prosecution and protection, and

Related operating expenses. 

Included in research and development expenses are costs incurred in acquiring and maintaining licenses. 

Research and development expense decreased by $2.2 million, or 9%, to $23.3 million from $25.5 million in 2002. During 2002,
the Company recorded $1.5 million in expense relating to light source research performed for the Company by Cree Inc. The
Company’s research agreement with Cree ended in April 2002, resulting in a $1.4 million expense reduction in 2003 from 2002.
In 2003, Lumera recorded $1.9 million expense on its sponsored research agreement with the University of Washington
compared to $2.4 million in 2002. The reduction in expense is the result of two modifications to the sponsored research agree-
ment. In March 2003, Lumera and the University of Washington entered into an amendment to the sponsored research agree-
ment,  which  deferred  certain  2003  payments  until  2004  and  extended  the  period  of  performance  for  the  contract.  The
amounts deferred under this amendment were to be due on April 1, 2004. 

In  November  2003,  Lumera  and  the  University  of  Washington  entered  a  third  amendment  to  the  sponsored  research
agreement. Under the terms of the amendment, Lumera’s payment obligation to the University of Washington is reduced to
$125,000 per quarter from October 1, 2003 to September 30, 2004, and $300,000 for the quarter ending December 31, 2004.
If Lumera and the University of Washington agree to extend the sponsored research agreement through 2006, Lumera would
be required to pay the University of Washington $325,000 per quarter in 2005 and $375,000 per quarter in 2006. The amend-
ment  requires  Lumera  to  make  its  unpaid  payments  totaling  $2.0  million  by  May  2005,  unless  making  the  payment  would
materially adversely affect Lumera’s ability to continue operations. 

Under the terms of the third amendment, Lumera’s payment obligation to the University of Washington is reduced to

$7.1 million from $9.0 million. 

In  May  2003,  Microvision  closed  its  research  and  development  facility  in  San  Mateo,  California  and  consolidated  its
research and development activities in Bothell, Washington. Research and development expense for 2003 includes $540,000
for the closing of Microvision’s approximately 5,200 square foot facility in San Mateo and $290,000 for severance and reloca-
tion of 11 employees. Microvision paid $270,000 in severance and relocation costs in 2003, and expects to pay the remaining
$20,000 in 2004. The accrual related to the closing of the facility at December 31, 2003 is $431,000.

The  Company  believes  that  a  substantial  level  of  continuing  research  and  development  expense  will  be  required  to
develop commercial products using the scanned beam technology and the Optical Materials technology. Accordingly, the
Company anticipates that its research and development expenditures will continue to be significant. These expenses could
be incurred as a result of:

Subcontracting work to development partners, 

Expanding and equipping in-house laboratories,

Acquiring rights to additional technologies, 

Incurring related operating expenses, and

Hiring additional technical and support personnel.

Management’s discussion & analysis cont.

The Company expects that the rate of spending on research and product development will remain high in future quar-

ters as we:

Continue development and commercialization of the Company’s scanned beam technology, 

Develop and commercialize the Optical Materials technology,

Accelerate development of microdisplays and imaging products to meet emerging market opportunities, and

Pursue other potential business opportunities.

Marketing, general and administrative expense  Marketing, general and administrative expenses include compensation and
support  costs  for  sales,  marketing,  management  and  administrative  staff,  and  for  other  general  and  administrative  costs,
including legal and accounting, consultants and other operating expenses.

The Company’s marketing activities include corporate awareness campaigns, such as web site development and partic-
ipation at trade shows; corporate communications initiatives; and working with potential customers and joint venture partners
to identify and evaluate product applications in which the Company’s technology could be integrated or otherwise used.

Marketing,  general  and  administrative  expenses  decreased  by  $971,000,  or  6%,  to  $15.8  million  from  $16.8  million  in
2002. The decrease is primarily attributable to a reduction in the charge to the allowance for doubtful accounts for receivables
from senior officers. The Company expects marketing, general and administrative expenses to increase in future periods as
the Company:

Adds to its sales and marketing staff,

Makes additional investments in sales and marketing activities, and

Increases the level of corporate and administrative activity.

The Board of Directors authorized Microvision to provide unsecured lines of credit to each of its three senior officers. No
loans have been made under either Microvision’s Executive Option Exercise Note Plan or the Executive Loan Plan since July
2002, and Microvision does not intend to make any additional loans under these plans. 

In 2002 and again in 2003, Microvision determined that certain of its senior officers may have insufficient net worth and
short-term earnings potential to repay their outstanding loans. As a result, Microvision recorded an allowance for doubtful
accounts for the receivables from senior officers of $200,000 and $700,000 during 2003 and 2002, respectively. The balance of
the allowance for doubtful accounts for receivables from senior officers was $900,000 at December 31, 2003. Microvision has
no plans to forgive any portion of the principal of the outstanding receivable balance.

Non-cash compensation expense  Non-cash compensation expense includes the amortization of the value of stock options
granted to individuals who are not employees or directors of the Company for services provided to the Company as well as
employee stock-based compensation expenses. Non-cash compensation expense increased by $172,000 or 9% to $2.2 mil-
lion from $2.0 million in 2002. 

In September 2003, Microvision issued two warrants to purchase an aggregate of 70,000 shares of common stock to a
third party for services provided to Microvision. One warrant grants the holder the right to purchase up to 60,000 shares of
common stock at a price of $7.50 per share. The warrant vests in three equal tranches on the date of grant, in December 2003
and in March 2004. The other warrant to purchase up to 10,000 shares of common stock at a price of $12.00 per share vests
in March 2004. The unvested warrants are subject to remeasurement at each balance sheet date. The deferred compensation
related to these warrants is being amortized to non-cash compensation expense over the fourteen month service period of
the agreement. Non-cash amortization expense related to these warrants was $192,000 for 2003. The total value of the war-
rants was estimated on December 31, 2003 and the grant date at $318,000 and $328,000, respectively. The fair values of the
warrants were estimated on the date of grant and December 31, 2003, using the Black-Scholes option-pricing model with the
following weighted-average assumptions: expected volatilities of 83%, risk-free interest rates of 2.7% and dividend yields of
zero percent. The expected lives used at the measurement dates above were 4 years and 3.9 years, respectively.

In August 2003, Lumera issued options to purchase an aggregate of 164,000 shares of its Class A Common Stock to two
consultants in connection with entering into consulting agreements. Each holder was granted a warrant to purchase up to
82,000 shares of Class A Common Stock at a price of $3.65 per share with a ten year life. In aggregate, 41,000 of the options
were vested on the grant date. The remaining 123,000 shares vest one-third on each subsequent annual anniversary of the
grant date and are subject to remeasurement at each balance sheet date during the vesting period. The deferred compen-
sation and liability related to these options is being amortized to non-cash compensation expense over the two year period

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Management’s discussion & analysis cont.

of  service  under  the  agreements.  The  aggregate  value  of  both  options  was  estimated  at  $136,000  at  the  grant  date  and
December 31, 2003. Total non-cash compensation expense was $32,000 for the year ended December 31, 2003. The fair val-
ues of the options were estimated at the grant date and December 31, 2003, using the Black-Scholes option pricing model
with the following weighted-average assumptions: underlying security fair market value of $0.98, dividend yield of zero per-
cent; expected volatility of 100% for both measurement dates; risk-free interest rates of 4.4% and 4.3%; and expected lives of
10 and 9.7 years, respectively.

In January 2001, Lumera issued 802,000 shares of its Class A Common Stock to the University of Washington pursuant to
the Sponsored Research Agreement. The shares were valued at the fair market price of $3.75 per share, as determined by the
board of directors. The total value of the stock of $3.0 million was recorded as a prepaid research expense and is being amor-
tized  over  the  term  of  the  Sponsored  Research  Agreement.  The  total  amortization  expense  relating  to  the  Sponsored
Research Agreement was $1.0 million in both 2003 and 2002. 

In August 2000, Microvision entered into five-year consulting agreements with two independent consultants to provide
strategic business and financial consulting services. Under the terms of the agreements, each consultant received a warrant
to purchase 100,000 shares of common stock at an exercise price of $34.00 per share. The warrants vested over three years
and the unvested shares were subject to remeasurement at each balance sheet date during the vesting period until the end
of the vesting period on June 7, 2003. The original value of the warrants was estimated at $5.5 million. Due to a decrease in
the Company stock price, the value at June 7, 2003 was estimated to be $3.0 million. In 2003, total non-cash amortization for
these agreements was $595,000 compared to $542,000 recognized in 2002. The fair values of the warrants were determined
at June 7, 2003, December 31, 2002, 2001 and the issue date, using the Black-Scholes option-pricing model with the follow-
ing weighted-average assumptions: dividend yield of zero percent; and expected volatility of 83% for all measurement dates;
risk-free interest rates of 4.0%, 5.0% and 5.9%; and expected lives of 7.4, 8.1 and 9.2 years.

The following table shows the components of non-cash compensation expense for 2003 and 2002, respectively:

Year ended December 31,

Lumera stock issued to the University of Washington
Microvision and Lumera stock options issued to third parties
Lumera stock warrant issued to Arizona Microsystems 
Microvision and Lumera stock options issued to employees
Microvision stock and options issued to independent directors

2003

2002

$ 1,003,000 
882,000 
— 
270,000
1,000 
$ 2,156,000 

$ 1,003,000 
571,000 
133,000 
219,000 
58,000 
$ 1,984,000 

At December 31, 2003, the Company had $1.0 million of unamortized non-cash compensation expense that will be amortized
over the next three years.

Interest income and expense Interest income in 2003 decreased by $678,000, or 64%, to $381,000 from $1.1 million in 2002.
This decrease resulted primarily from lower average cash and investment securities balances in 2003 than the average cash
and investment securities balances in the prior year.

Interest expense was consistent with 2003 because the amount of borrowings did not change significantly.

Income taxes No  provision  for  income  taxes  has  been  recorded  because  the  Company  has  experienced  net  losses  from
inception through December 31, 2003. At December 31, 2003, Microvision had net operating loss carry-forwards of approxi-
mately $139.3 million for federal income tax reporting purposes. In addition, Microvision has research and development tax
credits of $1.9 million. The net operating losses begin expiring in 2008 if not previously utilized. In certain circumstances, as
specified  in  the  Internal  Revenue  Code,  a  50%  or  more  ownership  change  by  certain  combinations  of  Microvision’s  share-
holders during any three-year period would result in a limitation on Microvision’s ability to utilize a portion of its net operat-
ing loss carry-forwards. Microvision has determined that such a change of ownership occurred during 1995 and that the annu-
al utilization of loss carry-forwards generated through the period of that change will be limited to approximately $761,000. An
additional change of ownership occurred in 1996 and the limitation for losses generated in 1996 is approximately $1.6 million.
Lumera has net operating loss carry-forwards of $27.2 million and research and development tax credits of $692,000, which
are available only to Lumera.

Management’s discussion & analysis cont.

Year ended December 31, 2002 compared to year ended December 31, 2001

Revenue Revenue increased by $5.1 million, or 48%, to $15.9 million from $10.8 million in 2001. The increase resulted from a
higher level of development contract business in 2002 than that performed in 2001 on contracts entered into in both 2002 and
2001.

In 2002, 83% of revenue was derived from performance on development contracts with the United States government,
14% from performance on development contracts with commercial customers and the remainder from sales of Nomad units.
This compared to 93% of revenue was derived from performance on development contracts with the United States govern-
ment and 7% from performance on development contracts with commercial customers in 2001. 

During 2002, the Company entered into several development contracts with both commercial and government entities

for further development of the scanned beam technology to meet specific customer applications.

In March 2002, the Company entered into a $1.0 million contract with a commercial company to begin work on integrating
the Company’s technology into the commercial company’s products.

In May 2002, the Company entered into a $3.3 million contract modification with the U.S. Army’s Aviation Applied Technology
Directorate to continue work on an advanced helmet-mounted display and imaging system to be used in the Virtual Cockpit
Optimization Program. 

In July 2002, the Company entered into a $1.9 million contract with the NASA Langley Research Center to deliver a prototype
cockpit helmet display for the Synthetic Visions Systems project. 

In  August  2002,  the  Company  entered  into  a  $1.1  million  contract  modification  with  the  U.S.  Army’s  Medical  Research
Acquisition Activities, Telemedicine and Advanced Technology Research Center to continue development of a mobile wire-
less personal display system for medical applications. 

In November 2002, Lumera entered into a $1.0 million contract modification with the U.S. government to design new Optical
Materials appropriate for the fabrication of a wideband optical modulator demonstration system. 

The Company also delivered a prototype rear seat entertainment display to BMW, which was integrated into a BMW 7

Series sedan research car and shown at the World Congress on Intelligent Transport Systems. 

The Company continued production of Nomad, a monochrome head-worn display. The Company delivered 55 units dur-

ing 2002 to customers for use in industrial, medical, defense and aviation applications.

The Company had a backlog of $2.6 million at December 31, 2002. The backlog was composed of development con-

tracts, including amendments, entered through December 31, 2002. 

Cost of revenue Cost of revenue increased by approximately $900,000, or 15%, to $7.0 million from $6.1 million in 2001. On
a percentage of revenue basis, cost of revenue declined by 23 % to 44% from 57% in 2001. Total direct costs increased approx-
imately 7% from 2001. The direct labor costs portion of direct cost increased by approximately 80% over 2001. The increase
in direct labor cost resulted from a higher volume of contract work performed during 2002 compared to 2001.

Research  and  development  overhead  is  allocated  to  both  cost  of  revenue  and  research  and  development  expense
based on the proportion of direct labor cost incurred in cost of revenue and research and development, respectively. As a
result of the higher direct labor cost in cost of revenue in 2002, approximately 25% more overhead was allocated to cost of
revenue than in 2001. 

Research and development expense Research and development expense decreased by $6.4 million, or 20%, to $25.5 mil-
lion from $31.9 million in 2001. During 2002, the Company recorded $1.5 million in expense relating to light source research
performed for the Company by Cree Inc. The Company’s research agreement with Cree ended in April 2002, resulting in a
$3.5 million expense reduction in 2002 from 2001.

The decrease in research and development expense is also partially a result of a license fee paid to the University of
Washington in February 2001 for the HALO technology. The HALO technology involves the projection of data and images
onto  the  inside  of  a  dome  that  is  placed  over  the  viewer’s  head.  In  February  2001,  the  Company  issued  37,000  shares  of
Common Stock valued at $1.0 million and paid $100,000 to the University of Washington as final payment for the license.

As discussed above, due to the higher volume of work performed on revenue contracts, more indirect costs were allo-

cated to cost of revenue during 2002 than in 2001.

The decreases in the Cree research and HALO license fee expenses were offset in part by increases in other costs, reflect-
ing the continued implementation of the Company’s operating plan, which calls for building technical staff and supporting
activities, establishing and equipping in-house laboratories, and developing and maintaining intellectual property.

Research and development expense for Lumera during 2002, including the payments under the Sponsored Research

Agreement, was $7.2 million compared to $6.4 million in 2001.

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Management’s discussion & analysis cont.

Marketing, general and administrative expense Marketing, general and administrative expenses increased by $2.4 million,
or  17%,  to  $16.8  million  from  $14.4  million  in  2001.  The  increase  includes  increased  compensation  and  support  costs  for
employees and contractors. 

During 2002, the Company determined that certain of its senior officers may have insufficient net worth and short-term
earnings  potential  to  repay  loans  outstanding  under  the  Company’s  executive  loan  program.  The  Company  recorded  an
allowance for doubtful accounts for receivables from related parties of $700,000 during 2002.

Marketing, general and administrative expenses for Lumera during 2002 were $1.2 million compared to $2.8 million in 2001. 

Non-cash compensation expense  Non-cash compensation expense in 2002 decreased by $549,000, or 22%, to $2.0 million
from $2.5 million in 2001. 

In  October  2002,  Lumera  paid  $200,000  cash  and  issued  a  warrant  to  purchase  164,000  shares  of  Lumera  Class  A
Common  Stock  at  an  exercise  price  of  $3.65  per  share  to  Arizona  Microsystems,  Inc.  in  exchange  for  a  license  of  certain
Arizona Microsystems, Inc technology. The warrant will expire in 2012 and vested 25% on the date of grant with the remain-
der vesting 25% annually from the date of grant. The warrant was valued at the date of grant at $133,000. The total purchase
price of $333,000 was recorded as capitalized licensing costs and is included in “Other Assets” at December 31, 2002. The
fair value of the warrant was estimated using the Black-Scholes option pricing model with a stock price of $0.98 per share, div-
idend yield of zero percent; expected volatility of 100%; risk-free interest rate of 4.0% and expected life of ten years. Lumera
is required to pay an additional $200,000 to Arizona Microsystems, Inc. if Lumera completes financing transactions accumu-
lating to greater than $10,000,000.

In January 2001, Lumera issued 802,000 shares of its Class A Common Stock to the University of Washington pursuant to
the Sponsored Research Agreement. The shares were valued at the fair market price of $3.75 per share, as determined by the
board of directors. The total value of the stock of $3.0 million was recorded as a prepaid research expense and is being amor-
tized  over  the  term  of  the  Sponsored  Research  Agreement.  The  total  amortization  expense  relating  to  the  Sponsored
Research Agreement was $1.0 million in 2002. 

In August 2000, the Company entered into five-year consulting agreements with two independent consultants to pro-
vide strategic business and financial consulting services to the Company. Under the terms of the agreements, each consult-
ant received a warrant to purchase 100,000 shares of common stock at an exercise price of $34.00 per share. The warrants vest
over three years and the unvested shares are subject to remeasurement at each balance sheet date during the vesting peri-
od. The original value of the warrants was estimated at $5.5 million. Due to a decrease in the Company stock price, the value
at December 31, 2002 was estimated at $3.0 million. In 2002, total non-cash amortization for these agreements was $542,000
compared to $775,000 in 2001. The fair values of the warrants were determined at December 31, 2002, 2001 and the issue
date, using the Black-Scholes option-pricing model with the following weighted-average assumptions: dividend yield of zero
percent; and expected volatility of 83% for all measurement dates; risk-free interest rates of 5.0%, 5.9% and 6.0%; and expect-
ed lives of 8.1, 9.2 and 10 years.

The following table shows the major components of non-cash compensation expense for 2002 and 2001 respectively:

Year ended December 31,

Lumera stock issued to the University of Washington
Microvision and Lumera stock options issued to third parties
Lumera stock warrant issued to Arizona Microsystems 
Microvision and Lumera stock options issued to employees
Microvision stock and options issued to independent directors

2002

2001

$ 1,003,000 
571,000 
133,000 
219,000 
58,000 
$ 1,984,000 

$

844,000
1,047,000
—
411,000
231,000
$ 2,533,000

At December 31, 2002, the Company had $2.7 million of unamortized non-cash compensation expense that will be amortized
over the next three years.

Interest income and expense Interest income in 2002 decreased by $1.4 million, or 58%, to $1.1 million from $2.5 million in
2001. This decrease resulted primarily from lower average cash and investment securities balances in 2002 than the average
cash and investment securities balances in the prior year.

Interest expense was consistent with 2002 because the amount of borrowings did not change significantly.

Management’s discussion & analysis cont.

Loss on long-term investment In December 1999, Microvision invested $624,000 in Gemfire Corporation (“Gemfire”), a pri-
vately held corporation. Gemfire is a developer of diode laser components for display and telecommunication applications.
Microvision accounts for the investment using the cost method. In June 2002, Gemfire announced a recapitalization plan that
would reduce the value of Microvision’s investment. In June 2002, Microvision recorded an impairment for the entire value of
its investment in Gemfire.

Income taxes At December 31, 2002, Microvision had net operating loss carry-forwards of approximately $116.7 million for
federal  income  tax  reporting  purposes.  In  addition,  Microvision  has  research  and  development  tax  credits  of  $2.1  million.
Lumera has net operating loss carry-forwards of $20.0 million and research and development tax credits of $273,000, which
are available only to Lumera.

Liquidity and capital resources  The Company has funded its operations to date primarily through the sale of common stock
and  convertible  preferred  stock  and,  to  a  lesser  extent,  revenues  from  development  contracts  and  product  sales.  As  of
December 31, 2003 the Company had an accumulated deficit of $154.3 million. At December 31, 2003, the Company had
$21.8 million in cash, cash equivalents and investment securities.

The Company had the following material changes in assets and liabilities during the year ended December 31, 2003:

“Inventory” decreased by $416,000 to $331,000 at December 31, 2003 from $747,000 at December 31, 2002. The decrease
was primarily attributable to the phase out of the first generation Nomad and includes the effect of the $450,000 valuation
adjustment recorded in 2003. The following table shows the composition of the inventory at December 31, 2003 and 2002,
respectively:

The Company values the inventory at the lower of cost or market with cost determined on a weighted-average cost basis. 

December 31,

Raw materials
Work in process
Finished goods

2003

2002

$ 98,000
—
233,000
$ 331,000 

$ 456,000 
92,000 
199,000 
$ 747,000 

“Other current assets” decreased by $664,000 to $1.7 million at December 31, 2003 from $2.3 million at December 31, 2002.
“Other assets” decreased by $199,000 to $338,000 at December 31, 2003 from $537,000 at December 31, 2002. The overall
decrease in “other current assets” and “other assets” was attributable to the amortization of the value of Lumera common
stock issued to the University of Washington for continued research under the Sponsored Research Agreement. The Company
recognizes the expense on the Sponsored Research Agreement on a straight-line basis over the remaining term of the agree-
ment. The portion of the payments that will be amortized to expense during the next twelve months is classified as “other
current assets,” and the portion that will be amortized to expense more than twelve months from the balance sheet date is
classified as “other assets.” 

“Receivables from related parties” relates to unsecured lines of credit the Board of Directors had authorized Microvision to
provide to each of its three senior officers. No loans have been made under Microvision’s Executive Loan Plan since July 2002,
and Microvision does not intend to make any additional loans under this plan. 

The lines of credit must be repaid within one year of the senior officer’s termination or within 30 days of plan termina-
tion, provided that in the event of a plan termination, the senior officer may elect to deliver a promissory note with a one-year
term in lieu of payment. Under the current SEC rules, Microvision is prohibited from changing the repayment terms of the
lines of credit. No repayments have been made on the outstanding lines of credit. At December 31, 2003, Microvision reclas-
sified the loan balance to shareholder’s equity under the guidance provided by the SEC for loans to shareholders due to the
absence of any repayment of the loans to date. Microvision has no plans to forgive the principal balance outstanding under
the lines of the credit.

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Management’s discussion & analysis cont.

“Research  liability”  is  due  to  the  timing  difference  of  expense  recognition  and  cash  payments  made  to  the  University  of
Washington under the Sponsored Research Agreement. As of December 31, 2003, the Company had recognized cumulative
expense  of  $6.3  million  and  made  cumulative  cash  payments  of  $4.4  million.  In  March  2003,  Lumera  and  the  University  of
Washington entered an amendment to the sponsored research agreement that deferred certain 2003 payments until 2004. In
November 2003, Lumera and the University of Washington entered an amendment to the Sponsored Research Agreement.
Under the terms of the amendment, Lumera’s payment obligation to the University of Washington is reduced to $125,000 per
quarter from October 1, 2003 to September 30, 2004, and $300,000 for the quarter ending December 31, 2004. If Lumera and
the University of Washington agree to extend the Sponsored Research Agreement through 2006, Lumera would be required
to pay the University of Washington $325,000 per quarter in 2005 and $375,000 per quarter in 2006. The amendment requires
Lumera to make its unpaid payments totaling $2.0 million, by May 2005, unless making the payment would materially adverse-
ly affect Lumera’s ability to continue operations.

Cash used in operating activities totaled $26.4 million in 2003 compared to $28.0 million in 2002. Cash used in operat-

ing activities for each period resulted primarily from the net loss for the period. 

Cash used in investing activities totaled $7.3 million in 2003, compared to cash provided by investing activities of $10.8
million in 2002. The Company used cash for capital expenditures of $1.5 million in 2003 compared to $1.4 million in 2002. The
Company had net purchases of investment securities of $5.8 million in 2003 compared to net sales of $12.5 million in 2002.
Historically, capital expenditures have been used to make leasehold improvements to leased office space and to purchase
production  equipment,  computer  hardware  and  software,  laboratory  equipment  and  furniture  and  fixtures  to  support  the
Company’s growth. Capital expenditures are expected to increase as the Company expands its operations. The Company had
open purchase commitments at December 31, 2003 to purchase $192,000 in capital equipment.

Cash provided by financing activities totaled $34.5 million in 2003 compared to $11.5 million in 2002. The increase in cash
provided by financing activities resulted primarily from increases in the net proceeds from the issuance of stock. The follow-
ing is a list of stock issuances during 2003 and 2002. 

In November 2003, Microvision raised $22.3 million before issuance costs of $1.5 million from the sale of 3,560,000 shares of
common stock.

In August 2003, Lumera raised $1.9 million before issuance costs of $34,000, from the sale of 944,000 shares of Series B con-
vertible preferred stock to Microvision and other purchasers. Microvision purchased 434,000 of these shares of Series B pre-
ferred  stock  for  an  aggregate  purchase  price  of  $868,000.  On  October  30,  2003,  Lumera  raised  $782,000,  before  issuance
costs, from the sale of 391,000 shares of Series B preferred stock to a group of investors. Microvision did not purchase addi-
tional shares of the Series B preferred stock in the October 2003 offering. Microvision owns 32% of the Series B preferred
stock. Each share of Series B preferred stock is convertible into one share of Lumera common stock. The conversion rate may
be subject to adjustment in the event of future equity issuance by Lumera at prices below the purchase price paid for the
Series B preferred stock.

In March 2003, Microvision raised $12.6 million before issuance costs of $970,000, from the sale of 2,644,000 shares of com-
mon stock and warrants to purchase 529,000 shares of common stock at an exercise price of $6.50 per share to a group of
investors. Each share of common stock and accompanying partial warrant was sold for $4.75. The five year warrants are first
exercisable in September 2003 and expire in March 2008.

In August 2002, Microvision raised $3.0 million before issuance costs of $100,000, from the sale of 686,000 shares of common
stock at a price of $4.37 per share and fully vested, five year warrants to purchase 137,000 shares of common stock at a price
of $6.56 per share, to two investors.

In July 2002, Microvision raised $3.0 million, before issuance costs of $150,000, from the sale of 938,000 shares of common
stock at $3.20 per share and fully vested five-year warrants to purchase 234,000 shares of common stock, at a price of $4.80
per share, to two investors.

In March 2002, Microvision raised $6.0 million before issuance costs of $141,000, from the sale of 524,000 shares of common
stock, at a price of $11.50 per share, to six investors.

The  Company’s  investment  policy  restricts  investments  to  ensure  principal  preservation  and  liquidity.  Generally,  the
Company  invests  cash  that  it  expects  to  use  within  approximately  sixty  days  in  U.S.  treasury-backed  instruments.  The
Company invests the balance of its cash in high quality investment securities. The investment securities portfolio is limited to
U.S. government and U.S. government agency debt securities and other high-grade securities generally with maturities of
three years or less.

Management’s discussion & analysis cont.

Microvision  and  Lumera  maintain  separate  cash  and  investment  accounts.  Each  company’s  cash  and  investments  are

generally used to fund its own business activities.

The Company’s future expenditures and capital requirements will depend on numerous factors, including the progress
of its research and development program, the progress in commercialization activities and arrangements, the cost of filing,
prosecuting, defending and enforcing any patent claims and other intellectual property rights, competing technological and
market  developments  and  the  ability  of  the  Company  to  establish  cooperative  development,  joint  venture  and  licensing
arrangements.  In  order  to  maintain  its  exclusive  rights  under  the  Company’s  license  agreement  with  the  University  of
Washington, the Company is obligated to make royalty payments to the University of Washington with respect to the Virtual
Retinal  Display  technology.  If  the  Company  is  successful  in  establishing  original  equipment  manufacturer  co-development
and joint venture arrangements, the Company expects its partners to fund certain non-recurring engineering costs for tech-
nology development and/or for product development. Nevertheless, the Company expects its cash requirements to increase
at a rate consistent with revenue growth as it expands its activities and operations with the objective of commercializing the
scanned beam technology and Optical Materials technologies.

The following table lists the Company’s contractual obligations including the amendment to the sponsored research agree-
ment discussed above:

Year ending December 31,

2004

2005

2006

2007

2008

After 2008

in thousands

Contractual obligations
Open purchase orders*
Minimum payments under capital leases
Minimum payments under 

$ 3,948 
68 

$ — 
36 

$   —
—

$   —
—

$   —
—

operating leases

1,988 

1,992 

473 

46 

—

Minimum payments under research, 
royalty and licensing agreements

Total

1,065 
$ 7,069 

2,290 
$ 4,318 

465 
$ 938 

465 
$ 511 

290 
$ 290 

$ —
— 

— 

† 
$ — 

* Open purchase orders represent commitments to purchase inventory, materials, capital equipment and other goods used in the normal course of the 

Company’s business. 

† License and royalty obligations continue through the lives of the underlying patents, which is currently at least 2017.

On March 12, 2004 Lumera raised $500,000, before issuance costs, from the sale of 250,000 shares of Series B convertible pre-
ferred stock to a group of private investors. Microvision did not participate in the offering. 

The Company believes that Microvision’s cash, cash equivalent and investment securities balances as of December 31,
2003 totaling $21.2 million, will satisfy its budgeted cash requirements through December 2004 based on Microvision’s cur-
rent operating plan. 

The Company believes that Lumera’s cash, cash equivalent and investment securities balances totaling $560,000 as of
December 31, 2003, in addition to the $500,000 raised on March 12, 2004, will satisfy Lumera’s current budgeted cash require-
ments through April 2004. Lumera plans to seek additional financing in order to fund operations beyond April, 2004. There
can be no assurance that Lumera will obtain additional financing. Microvision is not contractually obligated to provide addi-
tional  funding  to  Lumera  and  will  not  provide  additional  funds  to  Lumera  unless  Microvision  believes  that  it  has  sufficient
funds to finance Microvision’s 2004 operating plan as well as any additional funding for Lumera.

Should  expenses  exceed  the  amounts  budgeted,  the  Company  may  require  additional  capital  earlier  to  further  the
development of its technology, for expenses associated with product development, and to respond to competitive pressures
or to meet unanticipated development difficulties. In addition, the Company’s operating plan calls for the addition of sales,
marketing, technical and other staff and the purchase of additional laboratory and production equipment. The operating plan
also  provides  for  the  development  of  strategic  relationships  with  systems  and  equipment  manufacturers  that  may  require

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Management’s discussion & analysis cont.

additional investments by the Company. There can be no assurance that additional financing will be available to the Company
or that, if available, it will be available on terms acceptable to the Company on a timely basis. If adequate funds are not avail-
able to satisfy either short-term or long-term capital requirements or planned revenues are not generated, the Company may
be required to limit its operations substantially. This limitation of operations may include reduction in capital expenditures and
reductions in staff and discretionary costs, which may include non-contractual Microvision and Lumera research costs. The
Company’s capital requirements will depend on many factors, including, but not limited to, the rate at which the Company
can, directly or through arrangements with Original Equipment Manufacturers, introduce products incorporating the scanned
beam technology and the market acceptance and competitive position of such products.

New accounting pronouncements In January 2003, the FASB issued FASB Interpretation No. 46 (FIN 46), “Consolidation of
Variable  Interest  Entities,  an  interpretation  of  ARB  No.  51.”  In  December  2003,  the  FASB  revised  this  interpretation.  The
Company is required to adopt the provisions of FIN 46 no later than March 31, 2004. At December 31, 2003, the Company
does not own an interest in any entities which meet the definition of a “variable interest entity.” As a result, the Company
does not anticipate that the adoption of FIN 46 during the first quarter of 2004 will have a material impact on its results of
operations, financial position, or cash flows.

In May 2003, the FASB issued SFAS No. 150 “Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity” (“SFAS No. 150”), which establishes standards for how an issuer classifies and measures certain financial
instruments with characteristics of both liabilities and equity. SFAS No. 150 requires that an issuer classify a financial instrument
that is within its scope as a liability (or an asset in some circumstances), many of which were previously classified as equity. On
October 29, 2003, the FASB voted to defer the provisions of paragraphs 9 and 10 of SFAS No. 150 as they apply to manda-
torily redeemable noncontrolling interests. The Company adopted the non-deferred provisions of SFAS No. 150 effective July
1, 2003. The Company will evaluate the applicability of any changes to the deferred provisions upon their reissuance, but does
not anticipate the adoption of these provisions to have a material impact on its financial position or results of operations.

Quantitative and qualitative disclosures about market risk Substantially all of the Company’s cash equivalents and invest-
ment securities are at fixed interest rates and, as such, the fair value of these instruments is affected by changes in market
interest rates. Due to the generally short-term maturities of these investment securities, the Company believes that the mar-
ket risk arising from its holdings of these financial instruments is not significant. A one-percent change in market interest rates
would have approximately a $52,000 impact on the fair value of the investment securities.

The  Company’s  investment  policy  restricts  investments  to  ensure  principal  preservation  and  liquidity.  The  Company
invests cash that it expects to use within approximately sixty days in U.S. treasury-backed instruments. The Company invests
cash in excess of sixty days of its requirements in high quality investment securities. The investment securities portfolio is lim-
ited to U.S. government and U.S. government agency debt securities and other high-grade securities generally with maturi-
ties of three years or less.

The maturities of cash equivalents and investment securities, available-for-sale, as of December 31, 2003, are as follows:

Cash
Less than one year

Amount

Percent

$ 3,371,000
18,407,000
$ 21,778,000

15.5%
84.5%
100.0%

Presently, the Company has one development contract denominated in yen, all of the Company’s other development con-
tract payments are made in U.S. dollars. However, in the future the Company may enter into additional development con-
tracts in foreign currencies that may subject the Company to additional foreign exchange rate risk. The Company intends to
enter  into  foreign  currency  hedges  to  offset  the  exposure  to  currency  fluctuations  when  it  can  determine  the  timing  and
amounts of the foreign currency exposure.

Corporate information 

Form 10-K  A copy of the Company’s Annual Report on Form 10-K as filed with the Securities and Exchange Commission may
be obtained upon request without charge from the Company’s headquarters, attention: Investor Relations

Market for the registrant’s common stock and related shareholder matters The Company’s common stock trades on the
Nasdaq National Market under the symbol “MVIS.” As of March 1, 2004, there were 367 holders of record of 21,460,000 shares
of common stock outstanding. The Company has never declared or paid cash dividends on the common stock. The Company
currently anticipates that it will retain all future earnings to fund the operation of its business and does not anticipate paying
dividends on the common stock in the foreseeable future.

The Company’s common stock began trading publicly on August 27, 1996. The quarterly high and low sales prices of the
Company’s common stock for each full quarterly period in the last two fiscal years and the year to date as reported by the
Nasdaq National Market are as follows:

Quarter ended

March 31, 2002
June 30, 2002
September 30, 2002
December 31, 2002

March 31, 2003
June 30, 2003
September 30, 2003
December 31, 2003

January 1, 2004 to March 1, 2004

On March 1, 2004, the last sale price for the Common Stock was $10.29.

Common Stock

High

15.45
12.85
5.45
7.69

8.20
6.76
9.38
9.09

10.79

Low

9.60
4.55
2.64
3.23

3.43
3.85
5.89
6.50

7.34

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M V I S 03

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Board of Directors
Jacqueline Brandwynne
Founder & Chief Executive Officer 
Brandwynne Corporation

Richard A. Cowell
Principal
Booz Allen Hamilton Inc.

Slade Gorton
Of Counsel
Preston Gates & Ellis LLP;
Former U.S. Senator

Walter J. Lack, Chairman
Attorney at Law
Engstrom, Lipscomb & Lack

Robert A. Ratliffe
Vice President
Kennedy Associates 
Real Estate Counsel, Inc. 

Dennis J. Reimer
Retired, Chief of Staff, U.S. Army, 
and Director of the National 
Memorial Institute for the Prevention 
of Terrorism in Oklahoma City

Richard F. Rutkowski 
Chief Executive Officer 
Microvision, Inc.

Stephen R. Willey
President 
Microvision, Inc. 

Executive Officers
Richard F. Rutkowski 
Chief Executive Officer 

Stephen R. Willey
President 

Richard A. Raisig
Chief Financial Officer

Andrew U. Lee
Vice President
Sales

Todd R. McIntyre 
Senior Vice President 
Business Development

Thomas E. Sanko 
Vice President 
Marketing

Vilakkudi G. Veeraraghavan 
Senior Vice President
Research & Product Development

Thomas M. Walker 
Vice President 
General Counsel & Secretary

Jeff T. Wilson 
Vice President, Accounting

Officers and Directors

Technical Advisory Board
Ken Blakeslee
Chairman, WebMobility Ventures 

Dr. Aris Silzars 
Former President
Society for Information Display

Dr. Andrew Viterbi
Co-founder, QUALCOMM
President, The Viterbi Group

Independent Accountants
PricewaterhouseCoopers LLP

Transfer Agent
American Stock Transfer 
and Trust Company
59 Maiden Lane
New York, NY 10038
Shareholder Services
800 937-5449

Stock Listing
Microvision, Inc. common stock 
is traded on The Nasdaq Stock 
Market under the symbol MVIS.

Investor Inquiries
Microvision, Inc.
Attn: Investor Relations
P.O. Box 3008
Bothell, WA 98041
425 415-6847
ir@microvision.com

Corporate Counsel
Ropes & Gray, LLP

The Microvision logo, Nomad, and Flic are registered trademarks of Microvision, Inc. All other trademarks are the property of their respective owners.
©2004, Microvision, Inc. All rights reserved.

 
 
 
 
www.microvision.com

19910 North Creek Parkway

P.O. Box 3008, Bothell, WA 98011

425 415-6847 TEL

425 415-6600 FAX

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