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United States Securities And Exchange Commission
Washington, D.C. 20549

FORM 10-K

Commission File Number 0-12728

INTEGRAL VISION, INC.
(Exact name of registrant as specified in its charter)

Securities registered pursuant to Section 12(b) of the Act:

None

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, No Par Value, Stated Value $.20 Per Share
(Title of Class)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months and (2) has been subject to the filing requirements for at least the past 90 days. YES ü NO      

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). YES       NO ü

The aggregate market value of the voting stock held by non-affiliates of the registrant as of February 28, 2003:

Common Stock, No Par Value, Stated Value $.20 Per Share — $1,066,296

The number of shares outstanding on each of the issuer’s classes of common stock, as of February 28, 2003:

Common Stock, No Par Value, Stated Value $.20 Per Share — 9,429,901

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Annual Report on Form 10-K contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Actual results could differ materially from those projected in the forward-looking statements as a result of a number of factors, risks and uncertainties. Generally, the words “anticipate”, “expect”, “intend”, “believe” and similar expressions identify forward-looking statements. The information included in this Form 10-K is as of the filing date with the Securities and Exchange Commission and future events or circumstances could differ significantly from the forward-looking statements included herein. Accordingly, we caution readers not to place undue reliance on such statements.

Part I

ITEM 1. Business

General

Integral Vision, Inc. (or the “Company”) develops, manufactures and markets microprocessor-based process monitoring and control systems for use in industrial manufacturing environments. The principle application for the Company’s products is optical display inspection (“machine vision products”). The Company’s products are generally sold as capital goods. Depending on the application, machine vision systems have an indefinite life. Machine vision applications are more likely to require replacement due to possible technological obsolescence rather than physical wear.

	Sales of machine vision products are effected through Integral Vision and through Integral Vision LTD., a wholly owned subsidiary of the Company, located in Bedford, England. The Integral Vision LTD office was closed at December 31, 2002 due to the sale of the Company’s packaging and disc inspection product lines.

Overview

	Integral Vision is a supplier of machine vision systems used to ensure product quality during the manufacturing process.

Machine vision has become a necessity for manufacturers who need to continually improve production efficiency to meet the increasing demand for high quality products. The Company’s vision systems automatically identify, gauge or inspect parts with speed and accuracy. Quantitative information about each part is evaluated for functional or cosmetic defects. Our systems can be configured to statistically monitor the production process and send data to other equipment in the manufacturing cell. Such data could be used, for example, by a diverter to send defective parts to a reject bin, or by process controllers to automatically adjust process variables.

	The Company markets its turnkey systems to the flat panel display industry. Applications development software, such as our Industrial Vision Controller (IVC) technology, can be applied to an extensive array of applications in industries that run the gamut from aerospace to medical to textiles, and everything in between.

Products

	Flat Panel Display Inspection
	Integral Vision has over nine years of experience in the display industry. Our initial product, LCI-Professional, is used for inspection of LCD Displays as components or final assemblies. Applications include cell phones, car radios, pagers, electronic organizers and hand-held video games. Integral Vision’s display inspection systems are designed to detect two classes of defects: cosmetic and functional. Cosmetic defects do not affect the functionality of the display, but they cause user annoyance and reduce product value. Functional defects are flaws that cause the device to be inoperable or have a significant effect on functionality.

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Integral Vision’s SharpEye provides small Flat Panel Display (FPD) inspection for reflective, emissive and transmissive display technologies. SharpEye is designed for the detection of functional and cosmetic defects in LCOS, OLED, Poly OLED, DMD, EL, HTPS, LTPS, LCD and other emerging display technologies. These technologies are applied to consumer products such as camcorders, rear projection computer monitors, digital still cameras, HDTV, projectors, video headsets and video telephones. The core technology of SharpEye inspection algorithms is the ability to quantize data to the level of a single display pixel. SharpEye can be configured for production inspection or for display evaluation in a laboratory based on the equipment configuration selected.

Integral Vision’s ChromaSee, which was introduced in 2003, provides luminance, color matching and defect inspections for FPD displays. Defect detection includes functional (e.g. failed pixels, icons) and cosmetic (e.g. scratches) defects. ChromaSee integrates with production equipment to allow inline or offline testing. A configuration interface (Task Sequencer) uses a familiar “Tree View” representation of the inspection sequence flow. For deployment into production, the operator’s interface provides essential views of results, images and statistics for production floor personnel.

Production and Suppliers

	The Company’s production process consists principally of assembling standard electrical, electronic and optical components and hardware subassemblies purchased from suppliers into finished products. When proprietary circuit boards are needed, the Company generally contracts for outside vendors to build the boards based on internal company designs.

The Company generally does not rely on a single source for parts and subassemblies, although certain components and subassemblies included in the Company’s products may only be obtained from a limited number of suppliers. Management believes alternative sources or designs could be developed for any of the components used in its products thereby mitigating any exposure to product interruption from shortages of parts or limited suppliers.

Intellectual Property

Management believes that the technology incorporated in its products gives it advantages over its competitors and prospective competitors. Protection of technology is attempted through a combination of patents, applied for patents, confidentiality agreements and trade secrets. The Company presently has 14 patents. There can be no assurance that that the Company will have the resources to defend its patents or that patents the Company holds will be considered valid if challenged. In addition, it is possible that some patents will be rendered worthless as the result of technological obsolescence.

Marketing

	The Company generally markets its vision products to end users, but the Company has had success integrating its products with OEM’s in certain circumstances. Although sales are made worldwide, the Company’s strongest presence is maintained in the US (through Company employees), and in Europe and Asia (through sales representatives).

Product Development

The market for Machine Vision is characterized by rapid and continuous technological development and product innovation. The Company believes that continued and timely development of new products and enhancements to existing products is necessary to maintain its competitive position. Accordingly, the Company devotes a significant portion of its personnel and financial resources to product development programs and seeks to maintain close relationships with customers to remain responsive to their needs. The Company’s net engineering and development costs amounted to $852,000, $1.6 million, and $2.7 million for the years ended December 31, 2002, 2001, and 2000, respectively. The Company’s current product development efforts are primarily directed to Small Flat Panel Display Inspection products.

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Environmental Factors

	The costs to the Company of complying with federal, state and local provisions regulating protection of the environment are not material.

Competition

	The Company experiences competition in all areas in which it operates. Competition for Small Flat Panel Display Inspection comes primarily from Westar Display Technologies, Inc. Cognex Corp. competes either directly or indirectly via systems integrators in certain general vision application work, as do numerous niche producers of machine vision solutions.

Export Sales

	Sales outside of the United States accounted for 54%, 46% and 61% of the Company’s net sales in 2002, 2001 and 2000. Management expects that such sales will continue to represent a significant percentage of its net sales. Most of the Company’s export billings are denominated in US dollars. On occasion other export billings are denominated in the currency of the customer’s country.

	See Note I to the Consolidated Financial Statements Part II — ITEM 8 for details of geographic area information.

Major Customers

The nature of the Company’s product offerings may produce sales to one or a small number of customers in excess of 10% of total sales in any one year. It is possible that the specific customers reaching this threshold may change from year to year. Loss of any one of these customers could have a material impact on the Company’s result of operations. For the year ended December 31, 2002 sales to Ness Display Co., LTD and Uniax Corporation represented 13.2% and 13.7% of consolidated sales, respectively. Amounts due from these customers represented 2.6% of the respective outstanding trade receivable balance at December 31, 2002. In 2001 the Company did not have sales to a single customer that exceeded 10% of total sales. For the year ended December 31, 2000, sales to Machines Dubuit, Hanky America and Protronix Ltd represented 33% of consolidated sales. Amounts due from these customers represented 40% of the respective outstanding trade receivable balance at December 31, 2000.

Backlog

	As of December 31, 2002, the Company had an order backlog of approximately $399,000 compared to $251,000 at December 31, 2001. Management expects that the Company will ship products representing this entire backlog in 2003.

Employees

	As of February 28, 2003, the Company had approximately 13 permanent employees, as compared to 18 at February 28, 2002 and 67 at February 28, 2001. None of the Company’s employees are represented by a labor union.

ITEM 2. Properties

	Manufacturing, engineering and administrative functions of Integral Vision are performed at an approximately 5,000 square foot facility leased by the Company in Farmington Hills, Michigan.

ITEM 3. Legal Proceedings

	The Company is not currently involved in any material litigation.

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ITEM 4. Submission of Matters to a Vote of Security Holders

	None.

Part II

ITEM 5. Market for Registrant’s Common Equity and Related Stockholder Matters

	The Company’s common stock is traded on the Over the Counter Bulletin Board (OTCBB) under the symbol INVI. As of February 28, 2003, there were approximately 3,200 stockholders of the Company including individual participants in security position listings.

The Company’s common stock was moved to the Over the Counter Bulletin Board (OTCBB) effective with its delisting from The Nasdaq SmallCap Market with the open of business August 16, 2001. The Company was informed by Nasdaq that the delisting was decided by the Nasdaq Listing Qualifications panel which approved the Nasdaq’s staff decision to delist the stock due to its failing to maintain a minimum bid price of $1.00 for 30 consecutive trading days as required by Marketplace Rule 4450(a)(5) for continued listing.

Information on the current quotes on the stock, which will continue to use the ticker symbol INVI, are available at the OTCBB’s website, www.otcbb.com and most financial information portals, such as that provided at http://finance.yahoo.com or http://quote.bloomberg.com. Integral Vision will continue to provide information through filings with the Securities and Exchange Commission (SEC) as required for continued listing on the OTCBB. These filings can be found at the SEC’s website at www.sec.gov.

	The table below shows the high and low sales prices for the Company’s common stock for each quarter in the past two years. The closing sales price for the Company’s common stock on February 28, 2003 was $0.17 per share.

The market for securities of small market-capitalization companies has been highly volatile in recent years, often for reasons unrelated to a company’s results of operations. Management believes that factors such as quarterly fluctuations in financial results, failure of new products to develop as expected, sales of common stock by existing shareholders, and substantial product orders may contribute to the volatility of the price of the Company’s common stock. General economic trends such as recessionary cycles and changing interest rates may also adversely affect the market price of the Company’s common stock. No cash dividends on common stock have been paid during any period.

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ITEM 6. Selected Financial Data

	(a)		In 1999, the Company charged-off inventory of $1.5 million resulting from a review of the marketability of inventory related to a previously discontinued product line.
	(b)		Includes an $8.7 million after tax gain on disposal of the Welding Controls division and a $583,000 charge, net of tax credit, for the early retirement of debt.
	(c)		In 1998, the Company charged-off inventory of $1.4 million as a result of Management’s decision to no longer pursue the sale of certain products for the audio CD market.
	(d)		Net revenues included $1.5 million from the sale of patent technology in 1998 which resulted in lower direct cost of sales as a percentage of sales.
	(e)		Includes a $4.2 million write-off of capitalized software development costs.
	(f)		In 2000, Management made a change in estimate, primarily related to inventory, that resulted in a $666,000 charge to direct costs of sales.

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	(g)		In 2001, Management made a change in estimate that resulted in a $1.9 million charge to direct costs of sales to write down inventory and capitalized software to estimated net realizable values. The amount of the charge applicable to inventory was $540,000 with the remaining $1.3 million applicable to capitalized software.
	(h)		See Note B to “Notes to Consolidated Financial Statements.”

The above selected financial data should be read in conjunction with Consolidated Financial Statements, including the notes thereto (Part II — ITEM 8) and Management’s Discussion and Analysis of Financial Condition and Results of Operations (Part II - - ITEM 7). The Company has never paid a dividend and does not anticipate doing so in the foreseeable future. The Company expects to retain earnings to finance the expansion and its development of business.

ITEM 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview

Integral Vision, Inc. develops, manufactures and markets microprocessor-based process monitoring and control products for use in industrial manufacturing environments. The Company’s revenues are primarily derived from the sale of flat panel display inspection equipment. Except for the historical information contained herein, the matters discussed in this document are forward-looking statements made pursuant to the safe harbor provisions of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Act of 1934. Such statements are based on management’s current expectations and are subject to a number of factors and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements. Such factors and uncertainties include, but are not limited to: the impact of the level of the Company’s indebtedness; the Company’s ability to obtain the cash needed to allow it to continue as a going concern; general economic conditions and conditions in the specific industries in which the Company has significant customers; price fluctuations in the materials purchased by the Company for assembly into final products; competitive conditions in the Company’s markets and the effect of competitive products and pricing; and technological development by the Company, its customers and its competition. As a result, the Company’s results may fluctuate. Additional information concerning risk factors that could cause actual results to differ materially from those projected in the forward-looking statements is contained in the Company’s filings with the Securities and Exchange Commission. These forward-looking statements represent the Company’s best estimates as of the date of this document. The Company assumes no obligation to update such estimates except as required by the rules and regulations of the Securities and Exchange Commission.

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Results of Operations

	The following table sets forth for the periods indicated certain items from the Company’s Statements of Operations as a percentage of net revenues. The impact of inflation for the periods presented was not significant.

	(a)		In 2000, Management made a change in estimate, primarily related to inventory, that resulted in a $666,000 charge to direct costs of sales.
	(b)		In 2001, Management made a change in estimate that resulted in a $1.9 million charge to direct costs of sales to write down inventory and capitalized software to estimated net realizable values. The amount of the charge applicable to inventory was $540,000 with the remaining $1.3 million applicable to capitalized software.
	(c)		Direct cost of sales includes capitalized software amortization as a percentage of sales of 11.1%, 100% and 27.9% in 2002, 2001 and 2000, respectively.
	(d)		In 2001, other income(expense) includes a loss on the sale of a note receivable of $441,000 (see Note B of the notes to consolidated financial statements).

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

Net revenues decreased $1.1 million (40.0%) to $1.6 million in 2002 from $2.6 million in 2001. Net revenue is reported net of sales commission expense of approximately $83,000 in 2002 compared to $84,000 in 2001. The decrease in net revenue was partially attributable to the fact that the Company sold its packaging product line in 2001 (see Note K to consolidated financial statements). Sales from the Company’s packaging product line accounted for $516,000 of the net revenue in the 2001 period. Additionally, sales of the Company’s disc identification/print inspection (CDiD/CDiP) products were lower in the 2002 period. The Company sold its disc identification/print inspection product line in early September 2002 (see Note K to consolidated financial statements). Sales from the disc inspection product line accounted for approximately $743,000 and $1.1 million of the Company’s net revenue for the years ended December 31, 2002 and 2001, respectively. The Company’s revenue from service activities was approximately $398,000 and $511,000 in 2002 and 2001, respectively. These decreases were partially offset by increased sales of the Company’s flat panel display inspection product. Sales from the flat panel display inspection product line accounted for approximately $447,000 and $413,000 of the Company’s net revenue for the years ended December 31, 2002 and 2001, respectively.

Direct costs of sales decreased $4.2 million (78.2%) to $1.2 million (approximately 74.5% of sales) in 2002 from $5.4 million (approximately 205% of sales) in 2001. This was primarily attributable to the lower sales volume and lower depreciation and amortization expense in the 2002 period. Depreciation and amortization expense was lower in 2002 primarily due to the 2001 sale of the Company’s building (see Note J to consolidated financial statements) and the write-off of capitalized software costs in 2001. Management periodically performs an analysis of the net realizable value of capitalized software costs. In 2001, based on market conditions and the direction of the Company, Management determined that capitalized software development costs exceeded the estimated net realizable value of amounts capitalized and a write-down was necessary. For the year ended December 31, 2001, $1.3 million of additional amortization was included in costs of sales as a result of these analyses. Additionally, as a result of the analyses, direct costs of sales for the year ended December 31, 2001 includes a $540,000 charge for the write-down of inventory. In the 2002 period, Management determined that capitalized patent costs exceeded the estimated net realizable value of amounts capitalized and a write-down was necessary. In the year ended December 31, 2002, $74,000 of additional amortization was included in costs of sales as a result of this determination. The gross margin in the 2001 period was negative due to the fact that the sales volume was not sufficient to cover the fixed charges, depreciation and amortization, included in direct cost of sales.

Marketing costs decreased 62.4%, or $926,000, to $557,000 in 2002 compared to $1.5 million in 2001. This decrease is primarily attributable to workforce reductions resulting from the implementation of a cost reduction plan by Management in late 2000 and throughout 2001. Employee related costs in the marketing division were $828,000 lower in 2002 compared to 2001 levels. The plan also called for workforce reductions in both the general and administrative department and the engineering department, as evidenced by the figures below. Advertising costs were $106,000 lower in 2002 compared to 2001 levels.

General and administrative costs decreased 38.1%, or $649,000, to $1.1 million in 2002 compared to $1.7 million in 2001. Messrs. Charles Drake and Mark Doede each had loans from the Company. In August 2001, the Compensation Committee of the Company’s Board of Directors resolved to forgive $100,000 of the outstanding balance on each of their loans from the Company, which resulted in a $200,000 charge to compensation expense. Additionally, Mr. Charles Drake was provided with 400,000 shares of unregistered stock of the Company, subject to certain sale restrictions. An additional $56,000 of compensation expense was charged to general and administrative expense in 2001 as a result of the issuance of these shares. Exclusive of these infrequent charges, general and administrative costs decreased 27.2% or $393,000 in 2002. Employee related costs in the general and administrative division were $398,000 lower in 2002 compared to 2001 levels. Additionally, general and administrative costs included charges for bad debts of approximately $99,000 in 2002 and $109,000 in 2001.

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	Engineering and development expenditures decreased 56.2%, or $1.1 million, to $852,000 in 2002 compared to $1.9 million in 2001. Employee related costs in the engineering and development division were $947,000 lower in 2002 compared to 2001 levels.

On September 9, 2002, DaTARIUS Technologies Inc., a subsidiary of global test equipment manufacturer DaTARIUS Technologies GmbH, purchased Integral Vision’s assets related to inspection systems for the optical disc industry, including the names “Automatic Inspection Systems” and “AID.” The sale included Integral Visions optical disc scanner products as well as its range of print and identification code products used to inspect the printing stage of disc manufacture. The consideration the Company received for the technology consisted of a non-refundable $100,000 advanced minimum royalty payment in addition to future royalties. The Company expects to receive additional royalties in excess of $100,000 a year for the three years following the sale. Additionally, the Company received $25,000 from the sale of equipment to DaTARIUS. The Company recognized a gain on the transaction of approximately $112,000, which is included in gain on sale of assets in 2002, primarily attributable to the advanced minimum royalty payment received. The proceeds from the transaction were used primarily to fund current operations.

	Included with the transaction was a Transition Services Agreement whereby Integral Vision provides assembly and agreed upon technical support services for the product line for up to twelve months after the closing date at an agreed upon rate. Revenue generated under this agreement was $24,000 in 2002 and is not expected to be significant in the future.

On August 24, 2001, the Company completed the sale of certain of its packaging applications software and most of the fixed assets of its subsidiary, Integral Vision Ltd., to n.v. DIMACO, s.a. for $500,000 in cash and future royalties (see Note K to consolidated financial statements). Included in the transaction was the sale of the worldwide exclusive rights to Integral Vision’s “Full Bottle Inspection System” (FBIS), a product that performs certain inspections on bottles at the end of a filling line. Integral Vision will receive a royalty on each FBIS sold for the three years following the sale. The proceeds from the transaction were used primarily to fund current operations and to pay down existing trade payables.

	Also included with the transaction was a manufacturing agreement whereby DIMACO will manufacture products for Integral Vision’s Optical Disc and Display Inspection customers in Europe.

	Under the terms of the sale, most of Integral Vision Ltd.’s personnel and costs transferred to DIMACO. However, Integral Vision Ltd. maintained sales and service staff to support its Optical Disc and Display Inspection customers in Europe.

	In 2001, the Company recognized a gain on the transaction of approximately $114,000, which is included in gain(loss) on sales of assets, primarily attributable to the software included in the sale.

This gain was offset by a $22,000 loss on the sale of the Company’s building in Farmington Hills, MI in July 2001 and a $210,000 charge to write-down the carrying value of the Company’s fixed assets in 2001. On July 27, 2001, the Company completed a transaction to sell the 50,000 square foot building it occupied in Farmington Hills, MI for $2.45 million, at which time the existing mortgages were retired. The Company continued to occupy a portion of the building under a five-year lease agreement with the new owner. Effective April 1, 2002, the Company entered into a new lease agreement whereby it moved into a smaller space, 5,000 square feet, in exchange for a reduced lease rate. Given the reduction in square footage, the Company disposed of a significant portion of its equipment in 2002, which was written-down to its estimated net realizable value in 2001. Net proceeds from the sale was approximately $200,000 of which $186,000 was used to prepay nine months of rent, a requirement of the lease agreement.

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On June 30, 1999, the Company completed an agreement to sell substantially all the assets of its Welding Controls division for $25.7 million, net of costs of the sale, for cash, the assumption of certain liabilities, and a subordinated note (WTC note). The interest bearing portion of the note, approximately $1.9 million, carried an interest rate approximating prime plus 1% and required quarterly payments beginning on February 15, 2000, with a February 15, 2001 maturity date. The non-interest bearing portion of the note, $1.5 million, was discounted using an imputed interest rate of 9% and matured on February 15, 2001.

In January 2001, the Company sold 19.9% of the $1.7 million then outstanding under the note agreement to third party investors in exchange for consideration of $300,000. In May 2001, the Company completed a transaction whereby it repurchased the portion of the note previously sold to the investors and then sold the entire note receivable, which had an outstanding balance of $1.1 million at April 30, 2001, to a third party for $750,000. The Company recognized a loss on sale of the note receivable of $441,000 in the quarter ended March 31, 2001, which is included in other income(expense) in 2001.

	Other income(expense) in 2002 includes $18,000 of royalty income from the Company’s VisionBlox software. Additionally, the Company received $24,000 for engineering fees and $19,000 for royalties in connection with the DaTARIUS Technologies transaction.

Interest income decreased $85,000 to $11,000 in 2002 compared to $96,000 in 2001. The income in the 2002 period is primarily attributable to interest charged on the officers’ notes receivable. The income in the 2001 period is primarily attributable to $62,000 of interest charged on the officers’ notes receivable and $34,000 of interest charged on the note receivable that resulted from the sale of the Company’s Welding Controls division (see Note B to consolidated financial statements). The decrease in interest income from the prior year period is primarily attributable to the sale of the Company’s note receivable in May 2001 and the receipt of principal payments on the outstanding balance of the note throughout the year. Reductions to the officers’ notes receivable throughout 2001 also contributed to the decrease in interest income in the 2002 period (see Note M to consolidated financial statements).

Interest expense increased $79,000 to $251,000 in 2002 compared to $172,000 in 2001. The increase is primarily attributable to the debentures and Class 2 notes that were sold under the 2001 Note and Warrant Purchase Agreement (see Note C to consolidated financial statements). The increase was partially offset by a reduction in mortgage interest as the Company’s mortgages were paid in full when the sale of its building closed on July 27, 2001 (see Note J to consolidated financial statements). Additionally, the Company used proceeds from the sale of its note receivable in May 2001 (see Note B to consolidated financial statements) to pay in full its revolving line of credit at which time that agreement was terminated.

In June 2002, Integral Vision, Inc. wrote-off an inter-company receivable due from Integral Vision Ltd., its subsidiary in the United Kingdom. As the consolidated financial statements include the accounts of both entities, upon consolidation, the charge recorded by Integral Vision, Inc., approximately $3.1 million, was eliminated against the gain recorded by Integral Vision Ltd. However, previously unrecognized losses that resulted from foreign currency translation adjustments were recognized in the June 30, 2002 quarter and totaled approximately $208,000.

Year Ended December 31, 2001, compared to the year ended December 31, 2000

Net revenues decreased $3.3 million (55.8%) to $2.6 million in 2001 from $6.0 million in 2000. Net revenue is reported net of sales commission expense of approximately $84,000 in 2001 compared to $142,000 in 2000. Sales from the Company’s flat panel display inspection product line decreased to $413,000 in 2001 compared to $1.2 million in 2000. Sales from the Company’s disc inspection product line decreased to $1.1 million in 2001 compared to $3.1 million in 2000. Additionally, the decrease was partially attributable to the fact that the Company sold its packaging applications software in August 2001 (see Note K to consolidated financial statements). Sales from the Company’s packaging product line accounted for $516,000 of the net revenue in 2001

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	compared to $115,000 in 2000. The Company’s revenue from service activities was approximately $511,000 and $635,000 in 2001 and 2000, respectively.

Direct costs of sales decreased $1.1 million (16.9%) to $5.4 million in 2001 from $6.5 million in 2000. Direct costs of sales as a percentage of sales increased to 205% in 2001 compared to 109% in 2000. Management periodically performs an analysis of the net realizable value of capitalized software costs. Based on current market conditions and the direction of the Company, Management determined that capitalized software development costs exceeded the estimated net realizable value of amounts capitalized and a write-down was necessary. For the year ended December 31, 2001, $1.3 million of additional amortization is included in costs of sales as a result of these analyses. Additionally, as a result of the analyses, direct costs of sales includes a $540,000 charge for the write-down of inventory. In 2000, management made a change in estimate, primarily related to inventory, that resulted in a $666,000 charge to direct costs of sales. The Company was in the process of liquidating the inventory related to previously discontinued product lines, however, due to disappointing results of the inventory liquidation effort, management decided that a change in estimate was necessary. Exclusive of the aforementioned adjustments, direct costs of sales as a percentage of sales would have been 134% in 2001 compared to 97.8% in 2000. The gross margin in both periods was negatively impacted by the low sales volume as the fixed charges, depreciation and amortization, included in costs of sales make up a significant portion of the total costs of sales.

Marketing costs decreased 36.5%, or $851,000, to $1.5 million in 2001 compared to $2.3 million in 2000. This decrease is primarily attributable to workforce reductions resulting from the implementation of a cost reduction plan by Management in late 2000 and throughout 2001. Employee related costs in the marketing division were $477,000 lower in 2001 compared to 2000 levels. The plan also called for workforce reductions in both the general and administrative department and the engineering department, as evidenced by the figures below. Advertising costs were $124,000 lower in 2001 compared to 2000 levels.

General and administrative costs decreased 1.7%, or $30,000, to $1.7 million in 2001 compared to $1.7 million in 2000. Messrs. Charles Drake and Mark Doede each had loans from the Company. In August 2001, the Compensation Committee of the Company’s Board of Directors resolved to forgive $100,000 of the outstanding balance on each of their loans from the Company, which resulted in a $200,000 charge to compensation expense. Additionally, Mr. Charles Drake was provided with 400,000 shares of unregistered stock of the Company, subject to certain sale restrictions. An additional $56,000 of compensation expense was charged to general and administrative expense in 2001 as a result of the issuance of these shares. General and administrative costs for 2001 also includes a $109,000 charge for bad debts as certain of the Company’s debtors’ financial conditions have worsened over the last several months. Exclusive of these infrequent charges, general and administrative costs decreased 22.8% or $395,000 in 2001. Employee related costs in the general and administrative division were $141,000 lower in 2001 compared to 2000 levels. Reductions in expenditures for stockholder relations, facilities, communications and other general overhead costs also contributed to the decrease in general and administrative costs in 2001 compared to 2000 levels.

	Engineering and development expenditures decreased 41.5%, or $1.4 million, to $1.9 million in 2001 compared to $3.3 million in 2000. Employee related costs in the engineering and development division were $1.1 million lower in 2001 compared to 2000 levels.

On August 24, 2001, the Company completed the sale of certain of its packaging applications software and most of the fixed assets of its subsidiary, Integral Vision Ltd., to n.v. DIMACO, s.a. for $500,000 in cash and future royalties (see Note K to consolidated financial statements). Included in the transaction was the sale of the worldwide exclusive rights to Integral Vision’s “Full Bottle Inspection System” (FBIS), a product that performs certain inspections on bottles at the end of a filling line. Integral Vision will receive a royalty on each FBIS sold for the three years following the sale. The proceeds from the transaction were used primarily to fund current operations and to pay down existing trade payables.

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	Also included with the transaction was a manufacturing agreement whereby DIMACO will manufacture products for Integral Vision’s Optical Disc and Display Inspection customers in Europe.

	Under the terms of the sale, most of Integral Vision Ltd.’s personnel and costs transferred to DIMACO. However, Integral Vision Ltd. maintained sales and service staff to support its Optical Disc and Display Inspection customers in Europe.

	In 2001, the Company recognized a gain on the transaction of approximately $114,000, which is included in gain(loss) on sales of assets, primarily attributable to the software included in the sale.

This gain was offset by a $22,000 loss on the sale of the Company’s building in Farmington Hills, MI in July 2001 and a $210,000 charge to write-down the carrying value of the Company’s fixed assets in 2001. On July 27, 2001, the Company completed a transaction to sell the 50,000 square foot building it occupied in Farmington Hills, MI for $2.45 million, at which time the existing mortgages were retired. The Company continued to occupy a portion of the building under a five-year lease agreement with the new owner. Effective April 1, 2002, the Company entered into a new lease agreement whereby it moved into a smaller space, 5,000 square feet, in exchange for a reduced lease rate. Given the reduction in square footage, the Company disposed of a significant portion of its equipment in 2002, which was written-down to its estimated net realizable value in 2001. Net proceeds from the sale was approximately $200,000 of which $186,000 was used to prepay nine months of rent, a requirement of the lease agreement.

On June 30, 1999, the Company completed an agreement to sell substantially all the assets of its Welding Controls division for $25.7 million, net of costs of the sale, for cash, the assumption of certain liabilities, and a subordinated note (WTC note). The interest bearing portion of the note, approximately $1.9 million, carried an interest rate approximating prime plus 1% and required quarterly payments beginning on February 15, 2000, with a February 15, 2001 maturity date. The non-interest bearing portion of the note, $1.5 million, was discounted using an imputed interest rate of 9% and matured on February 15, 2001.

In January 2001, the Company sold 19.9% of the $1.7 million then outstanding under the note agreement to third party investors in exchange for consideration of $300,000. In May 2001, the Company completed a transaction whereby it repurchased the portion of the note previously sold to the investors and then sold the entire note receivable, which had an outstanding balance of $1.1 million at April 30, 2001, to a third party for $750,000. The Company recognized a loss on sale of the note receivable of $441,000 in the quarter ended March 31, 2001, which is included in other income(expense) in 2001.

	Interest income decreased $234,000 to $96,000 in 2001 compared to $330,000 in 2000. This decrease is primarily attributable to the sale of the Company’s note receivable in May 2001 and the receipt of principal payments on the outstanding balance of the note throughout the year (see Note B to consolidated financial statements).

Interest expense was $172,000 in 2001 compared to $177,000 in 2000. Interest expense decreased due to the fact that the Company’s mortgages were paid in full when the sale of its building closed on July 27, 2001 (see Note C to consolidated financial statements). Additionally, the Company used proceeds from the sale of its note receivable in May 2001 (see Note B to consolidated financial statements) to pay in full its revolving line of credit at which time that agreement was terminated. However, these decreases were offset by additional interest expense attributable to the debentures that were sold in 2001 (see Note C to consolidated financial statements).

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Quarterly Information

	The following table sets forth Consolidated Statements of Operations data for each of the eight quarters in the two-year period ended December 31, 2002. The unaudited quarterly information has been prepared on the same basis as the annual information and, in management’s opinion, includes all adjustments necessary for a fair presentation of the information for the quarters presented.

*		The sum of the quarterly net income per share amounts may not equal the annual amounts reported. Net income per share is computed independently for each quarter and the full year and is based on the respective weighted average common shares outstanding.
		See MD&A for additional discussion

Seasonality and Quarterly Fluctuations

The Company’s revenues and operating results have varied substantially from quarter to quarter. Net revenues and earnings are typically lower in the first and fourth quarters. The most significant factors affecting these fluctuations are the seasonal buying patterns of the Company’s customers. The end users of the Company’s optical inspection products typically add manufacturing capacity in the second and third quarters in anticipation of higher production requirements in the fourth quarter. The Company expects its net revenues and earnings to continue to fluctuate from quarter to quarter.

Liquidity and Capital Resources

Operating activities for 2002 used cash of approximately $1.5 million primarily due to the Company’s loss from operations of $2.2 million. The cash used in operating activities was partially offset by a net decrease of $243,000 in certain working capital items. Decreases in accounts receivable and prepaid expenses and other current assets were partially offset by decreases in accounts payable and other current liabilities and an increase in inventory.

On September 9, 2002, DaTARIUS Technologies Inc., a subsidiary of global test equipment manufacturer DaTARIUS Technologies GmbH, purchased Integral Vision’s assets related to inspection systems for the optical disc industry, including the names “Automatic Inspection Systems” and “AID.” The sale included Integral Visions optical disc scanner products as well as its range of print and identification code products used to inspect the printing stage of disc manufacture. The consideration the Company received for the technology consisted of a non-refundable $100,000 advanced minimum royalty payment in addition to future royalties. The Company expects to receive additional royalties in excess of $100,000 a year for the three years following the sale. Additionally, the Company received $25,000 from the sale of equipment to DaTARIUS. The Company recognized a gain on the transaction of approximately $112,000, which was included in gain on sale of assets in the third quarter of 2002, primarily attributable to the advanced minimum royalty payment received. The proceeds from the transaction were used primarily to fund current operations.

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	Included with the transaction was a Transition Services Agreement whereby Integral Vision provides assembly and agreed upon technical support services for the product line for up to twelve months after the closing date at an agreed upon rate. Revenue generated under this agreement was $24,000 in 2002 and is not expected to be significant in the future.

The Company’s financing activities included the receipt of $590,000 from the sale of the Company’s senior debentures and the receipt of $907,000 from the sale of the Company’s Class 2 Notes. The Company made principal payments of approximately $396,000 on its Class 2 Notes in the period. The Company also received a $70,000 short term advance from Max A. Coon, an officer of the Company. The advance from Mr. Coon was repaid in 2003.

The Company’s continuation as a going concern is dependent upon its ability to generate sufficient cash flow to meet its obligations on a timely basis, to obtain additional financing as may be required, and ultimately to attain profitability. The Company’s anticipated cash provided by operating activities will not be sufficient to support the Company’s cash flow needs over the next twelve months. Additionally, at December 31, 2002, substantially all of the Company’s $678,000 in trade accounts payable was overdue, of which $221,000 was paid subsequent to December 31, 2002. The Company also has an estimated $425,000 in amounts owed to certain regulatory agencies for which no payment arrangements have been made to date. In March 2001, the Company’s board of directors approved the issuance of up to $1.5 million of senior debentures (increased to $2.5 million in March 2003), which could provide additional financing to the Company. Additionally, effective May 1, 2002, the Company’s Note and Warrant Purchase Agreement was amended to provide for “Class 2 Notes” and “Class 2 Warrants” which are subordinated to the prior purchasers. Class 2 Notes are working capital notes which are secured by accounts receivable of the Company. At December 31, 2002, there was approximately $215,000 in principal and interest due to the Class 1 Note holders under the terms of the agreement. Subsequent to December 31, 2002, the holders of those Notes agreed to a modification to the Note and Warrant Purchase Agreement which extends the due dates, increases the maximum amount of Notes outstanding to $2.5 million and changes the conversion price on previously issued warrants to $.25 per share. The terms of the Class 1 Notes were changed such that all accrued interest will be due on December 31, 2003, which is projected to be approximately $310,000. Additionally, the first principal payments on the Class 1 Notes will be due on March 31, 2004 and the maturity dates extended to February 2007. The principal and interest due on March 31, 2004 is projected to be approximately $204,000. The Class 2 Notes were modified to have a due date, both principal and accrued interest, of September 30, 2003. Principal and interest due on the Class 2 notes on September 30, 2003 is projected to be approximately $390,000. A principal payment of approximately $154,000 was paid to a Class 2 Note holder in January 2003. Management is projecting a cash shortfall over the next twelve months of approximately $1.8 million, $360,000 of which was raised subsequent to December 31, 2002, through placements of the Company’s Class 1 debentures. Charles J. Drake, the Company’s chairman, acquired $150,000 of these debentures. Management plans to seek out additional investors for an additional $1.0 million of its debentures to cover a portion of the anticipated shortfall, which would bring the amount of debentures outstanding to the maximum allowable of $2.5 million. The Company is currrently assessing its options relative to the remaining $400,000 projected shortfall. Management anticipates that it could be covered through a combination of short term advances and further deferrals of debt repayments from certain of its debt holders. Additionally, if necessary, Management would attempt to obtain any additional cash needed to enable the Company to continue as a going concern through possible joint ventures and other strategic alliances. Additional financing may or may not be available through banks. There can be no assurance that Management will be able to successfully execute these plans before the Company has exhausted all of its resources. These uncertainties raise substantial doubt about the Company’s ability to continue as a going concern.

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Impact of Inflation

The amounts presented in the financial statements do not provide for the effect of inflation on the Company’s operations or its financial position. Amounts shown for property, plant and equipment and for costs and expenses reflect historical cost and do not necessarily represent replacement cost or charges to operations based on replacement cost. The Company’s operations together with other sources are intended to provide funds to replace property, plant and equipment as necessary. Net income would be lower than reported if the effects of inflation were reflected either by charging operations with amounts that represent replacement costs or by using other inflation adjustments.

Recently Issued Accounting Standards

In June 2001, the FASB issued SFAS No. 141, “Business Combinations” and SFAS No. 142, “Goodwill and Other Intangible Assets.” SFAS No. 141 requires that all business combinations initiated after June 30, 2001 are to be accounted for using the purchase method and specifies the criteria for the recognition and measurement of goodwill and other intangible assets acquired in a business combination. SFAS No. 142 requires that goodwill and intangible assets with indefinite useful lives are to no longer be amortized but rather be tested at least annually for impairment. SFAS No. 142 also requires that intangible assets with definite useful lives will continue to be amortized over their respective useful lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” (which supersedes SFAS No. 121). The Company adopted the provisions of SFAS No. 141 immediately and adopted SFAS No. 142 effective January 1, 2002. There was no material impact resulting from the application of SFAS No. 141 and SFAS No. 142.

Statement of Financial Accounting Standard No. 143, “Accounting for Asset Retirement Obligations” (SFAS 143), which was released in August 2001, addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and their associated asset retirement costs. SFAS 143 requires an enterprise to record the fair value of an asset retirement obligation as a liability in the period in which it incurs a legal obligation associated with the retirement of intangible long-lived assets that result from the acquisition, construction, development, or normal use of the asset. The enterprise is also required to record a corresponding increase to the carrying amount of the related long-lived asset (i.e. the associated asset retirement cost) and to depreciate that cost over the life of the asset. The liability is changed at the end of each period to reflect the passage of time (i.e. accretion expense) and changes in the estimated future cash flows underlying the initial fair value measurement. Because of the extensive use of estimates, most enterprises will record a gain or loss when they settle the obligation. We are required to adopt SFAS 143 for our fiscal year beginning January 1, 2003; we do not expect the adoption of SFAS 143 to have a material impact on our financial position or results of operations.

In October 2001, the FASB issued SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets”, effective for fiscal years beginning after December 15, 2001. SFAS No. 144 addresses financial accounting and reporting for the impairment or disposal of long-lived assets. SFAS No. 144 also extends the reporting requirements to report separately as discontinued operations, components of an entity that have either been disposed of or classified as held-for-sale. The Company adopted the provisions of SFAS No. 144 effective January 1, 2002. There was no material impact resulting from the application of SFAS No. 144.

In April 2002, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 145, “Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections.” SFAS 145 amends existing guidance on reporting gains and losses on the extinguishment of debt to prohibit the classification of the gain or loss as extraordinary, as the use of such extinguishments have become part of the risk management strategy of many companies. SFAS 145 also amends SFAS 13 to require sale-leaseback accounting for certain lease modifications that have economic effects similar to sale-leaseback transactions. The provisions of the Statement related to the

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	rescission of Statement No. 4 are applied in fiscal years beginning after May 15, 2002. Earlier application of these provisions is encouraged. The provisions of the Statement related to Statement No. 13 were effective for transactions occurring after May 15, 2002, with early application encouraged. The adoption of SFAS 145 is not expected to have a material effect on our financial statements.

In June 2002, the Financial Accounting Standards Board issued Statement of Financial Accounting Standard No. 146, “Accounting for Exit or Disposal Activities” (SFAS 146). SFAS 146 addresses significant issues regarding the recognition, measurement and reporting of costs associated with exit and disposal activities, including restructuring activities. SFAS 146 also addresses recognition of certain costs related to terminating a contract that is not a capital lease, costs to consolidate facilities or relocate employees and termination of benefits provided to employees that are involuntarily terminated under the terms of a one-time benefit arrangement that is not an ongoing benefit arrangement or an individual deferred compensation contract. SFAS 146 is effective for exit or disposal activities that are initiated after December 31, 2002. Adoption of SFAS 146 is not expected to have a material impact on our financial position or results of operations.

In November 2002, the FASB issued Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness to Others, an interpretation of FASB Statements No. 5, 57 and 107 and a rescission of FASB Interpretation No. 34.” This Interpretation elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under guarantees issued. The Interpretation also clarifies that a guarantor is required to recognize, at inception of a guarantee, a liability for the fair value of the obligation undertaken. The initial recognition and measurement provisions of the Interpretation are applicable to guarantees issued or modified after December 31, 2002, and are not expected to have a material effect on our financial statements. The disclosure requirements are effective for financial statements of interim and annual periods ending after December 31, 2002.

In December 2002, the FASB issued SFAS 148, “Accounting for Stock-Based Compensation — Transition and Disclosure, an amendment of FASB Statement No. 123.” This Statement amends FASB Statement No. 123, “Accounting for Stock-Based Compensation,” to provide alternative methods of transition for a voluntary change to the fair value method of accounting for stock-based employee compensation. In addition, this Statement amends the disclosure requirements of Statement No. 123 to require prominent disclosures in both annual and interim financial statements. Certain of the disclosure modifications are required for fiscal years ending after December 15, 2002, and are included in the notes to the financial statements included in this Form 10-K.

In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities, an interpretation of ARB No. 51.” This Interpretation addresses the consolidation by business enterprises of variable interest entities as defined in the Interpretation. The Interpretation applies immediately to variable interests in variable interest entities created after January 31, 2003, and to variable interests in variable interest entities obtained after January 31, 2003. Because we have no involvement with any variable interest entities, the application of this Interpretation is not expected to have a material effect on our financial statements.

Management’s Discussion of Critical Accounting Policies

The Company’s consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires Management to make estimates and judgments that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The accounting policies discussed below are considered by management to be the most important to an understanding of our financial statements, because their application places the most significant demands on management’s judgment and estimates about the effect of matters that are inherently

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	uncertain. Our assumptions and estimates were based on the facts and circumstances known at December 31, 2002, future events rarely develop exactly as forecast, and the best estimates routinely require adjustment. These policies are also discussed in Note 1 of the Notes to Consolidated Financial Statements included in Item 8 of this report.

	Revenue Recognition

	The Company recognizes revenue in accordance with SOP 97-2, Software Revenue Recognition and Staff Accounting Bulletin No. 101 (“SAB 101”), Revenue Recognition in Financial Statements. Revenue is recognized when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the selling price is fixed or determinable and collectibility is reasonably assured.

The Company accounts for certain product sales of its flat panel display inspection systems as multiple-element arrangements. If specific customer acceptance requirements are met, the Company recognizes revenue for a portion of the total contract price due and billable upon shipment, with the remainder recognized when it becomes due (generally upon acceptance). The Company recognizes all other product sales with customer acceptance provisions upon final customer acceptance. The Company recognizes revenue from the sale of spare parts upon shipment. Revenue from service contracts is recognized over the life of the contract. Revenue is reported net of sales commissions.

	Inventories

	Inventories are stated at the lower of first-in, first-out cost or market. Cost is computed using currently adjusted standards which approximates actual costs on a first-in, first-out basis. The Company assesses the recoverability of all inventory to determine whether adjustments for impairment are required.

	Impairment of Long-lived Assets

The Company reviews its long-lived assets, including property, equipment and intangibles, for impairment whenever events or changes in business circumstances indicate that the carrying amount of the assets may not be fully recoverable. An impairment loss would be recognized when estimated undiscounted future cash flows expected to result from the use of the asset and its eventual disposition are less than the carrying amount of the asset.

	Contingencies and Litigation

	The Company makes an assessment of the probability of an adverse judgment resulting from current and threatened litigation. The Company accrues the cost of an adverse judgment if, in Management’s estimation, an adverse settlement is probable and Management can reasonably estimate the ultimate cost of such litigation. The Company has made no such accruals at December 31, 2002.

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ITEM 7a. Quantitative and Qualitative Disclosures about Market Risks

The Company is exposed to market risk stemming from changes in foreign exchange rates, interest rates and prices of inventory purchased for assembly into finished products. Changes in these factors could cause fluctuations in earnings and cash flows. In the normal course of business, exposure to interest rates is managed by fixing the interest rates on the Company’s long-term debt whenever possible. The Company does not generally enter into long-term purchase contracts but instead purchases inventory to fill specific sales contracts thereby minimizing risks with respect to inventory price fluctuations.

	Foreign Exchange Rates — The Company’s location outside the US is in the United Kingdom. This is a sales office with net non-current assets that are not significant. This office was closed at December 31, 2002 due to the sales of the Company’s packaging and disc inspection product lines. On a consolidated basis the Company denominates sales in the following currencies:

	•		US Dollars
	•		Pound Sterling
	•		Euros
	•		Yen

In management’s opinion, as the currencies of Western Europe and the UK are generally stable, there is no significant exposure to losses due to currency fluctuations. However, because the Yen has not been stable over the past several years, the Company does enter into forward sales contracts equal to the future amount of Yen to be received at the time the order is accepted. These hedging transactions are on an order by order basis and at no time are they speculative in nature. At December 31, 2002, the Company had no open positions.

ITEM 8. Financial Statements and Supplementary Data

	Financial statements and quarterly results of operations are submitted in separate sections of this report.

ITEM 9. Changes in and Disagreements with Accountants and Financial Disclosure

	Moore Stephens Doeren Mayhew, the Company’s independent auditors, (“Doeren”) has informed the Company that it will resign following completion of its audit of the Company’s financial statements for the year ended December 31, 2002. Doeren’s resignation is based on its decision to terminate its engagements with any publicly owned companies.

Doeren’s report on the Company’s financial statements for the current and prior year was qualified as to uncertainty regarding the Company’s ability to continue as a going concern. The reports did not contain an adverse opinion or a disclaimer of opinion and were not qualified or modified as to any other uncertainty or as to audit scope, or accounting principles. In connection with the audits of the Company’s financial statements for each of the years in the two-year period ended December 31, 2002, there have been no disagreements between the Company and Doeren on any matter of accounting principles or practices, financial statement disclosure, or auditing scope or procedure which, if not resolved to the satisfaction of Doeren, would have caused Doeren to make reference to the matter in its report. The Company has provided Doeren with a copy of this disclosure and has requested Doeren to furnish it a letter addressed to the Commission stating whether it agrees with the above statements. A copy of that letter, dated March 19, 2003, is filed as Exhibit 16 to this Form 10-K.

	Consistent with Section 10A(i)(2) of the Securities Exchange Act of 1934, as added by Section 202 of the Sarbanes-Oxley Act of 2002, the Company is responsible for listing the non-audit services approved by the Company’s Audit Committee to be performed by

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Moore Stephens Doeren Mayhew, the Company’s external auditor. Non-audit services are defined as services other than those provided in connection with an audit or a review of the financial statements of the Company. In the period covered by this filing, the Audit Committee approved the following non-audit services currently being rendered to the Company by Moore Stephens Doeren Mayhew, or to be rendered to the Company by Moore Stephens Doeren Mayhew:

	•		preparation of tax returns, and tax advice in preparing for and in connection therewith;
	•		all work required to be performed by Ernst & Young LLP in connection with preparing and giving consents required to be given in connection with the Company’s filings with the Securities and Exchange Commission;
	•		accounting advice on the proper recording of various transactions entered into, or to be entered into, by the Company.

Part III

ITEM 10. Directors and Executive Officers of the Registrant

	The following information is furnished concerning the nominees, all of whom have been nominated by the Board of Directors and are presently Directors of the Company.

DIRECTORS

	All of the foregoing Directors and nominees have been engaged in the principal occupation specified for the previous five years.

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	Messrs. Coon, Drake and Shunsky are also Directors of Maxco, Inc., the stock of which is traded on the Over the Counter Bulletin Board.

	During the year ended December 31, 2002, there were a total of four meetings of the Board of Directors. Craig A. Black and Samuel O. Mallory were the only nominees who attended fewer than 75% of the meetings held during the period.

The Board of Directors has established a Compensation Committee whose members are Max A. Coon and Vincent Shunsky. The Compensation Committee is responsible for establishing compensation for the Company’s Chief Executive Officer, approving executive compensation levels of all other executives and authorizing the levels and timing of bonus payments. In addition, this committee is responsible for administering the Company’s Stock Option Plans, including designating the recipients and terms of specific option grants. The Compensation Committee met one time during the period ended December 31, 2002 to establish compensation criteria and levels and to grant options. The Company does not have a standing nominating committee.

EXECUTIVE OFFICERS

	The following table sets forth information concerning the Executive Officers of the Company.

	All of the foregoing officers of the Company have been engaged in the principal occupations specified above for the previous five years except as follows:

	Mark R. Doede was appointed as President and Chief Operating Officer of the Company in February 1998 and was appointed Chief Financial Officer in September 2002. Prior to that time, Mr. Doede served as Vice President and Chief Operating Officer of the Welding Products Division of the Company since 1996 and served the Company in various other capacities since 1980.

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	Andrew Blowers was appointed as Chief Technical Officer in May 2002. Prior to that time, Mr. Blowers served as Manager of Advanced Product Development for the Company since 1998 and as an Application Engineer from 1996 to 1998.

	Mark A. Michniewicz was appointed as Vice President of Engineering in May 2002. Prior to that time, Mr. Michniewicz served as Director of Engineering since 2000, Manager of Optical/Mechanical Engineering from January 2000 to May 2000 and Optical/Mechanical Engineer from 1994 to 2000.

Compliance with Reporting Requirements

Section 16(a) of the Securities Exchange Act of 1934 requires the Company’s Directors and Executive Officers or beneficial owners of over 10% of any class of the Company’s equity securities to file certain reports regarding their ownership of the Company’s securities or any changes in such ownership. Reports on Form 3 were not timely filed on behalf of Messrs. Blowers and Michniewicz upon their appointment as officers of the Company. Messrs. Doede and Harmala failed to file timely reports on Form 4 to report the expiration of employee stock options. Messrs. Drake and Coon failed to file timely reports on Form 4 to report warrants that were received in connection with the purchase of the Company’s debentures. All reports required to be filed to report the aforementioned events were filed as of March 31, 2003.

ITEM 11. Executive Compensation

	Compensation Committee Interlocks and Insider Participation

	The Compensation Committee of the Board of Directors (the “Committee”) consists of Max A. Coon and Vincent Shunsky. Messrs. Coon and Shunsky, although officers of the Company, are also officers and directors of Maxco, Inc., are paid by Maxco, Inc. and receive no compensation from the Company. Mr. Charles J. Drake, the Company’s Chief Executive Officer, is a director of Maxco, Inc.

	Overview and Philosophy

	The Committee is responsible for developing and making recommendations to the Board with respect to the Company’s executive compensation policies. In addition, the Compensation Committee, pursuant to authority delegated by the Board, determines on an annual basis the compensation to be paid to the Chief Executive Officer and each of the other executive officers of the Company.

	The objectives of the Company’s executive compensation program are to:

	•		Support the achievement of desired Company performance.
	•		Provide compensation that will attract and retain superior talent and reward performance.
	•		Align the executive officers’ interests with the success of the Company by placing a portion of pay at risk, with payout dependent upon corporate performance, and through the granting of stock options.

	The executive compensation program provides an overall level of compensation opportunity that is competitive with companies of comparable size and complexity. The Compensation Committee will use its discretion to set executive compensation where, in its judgment, external, internal or an individual’s circumstances warrant it.

	Executive Officer Compensation Program

	The Company’s executive officer compensation program is comprised of base salary, long-term incentive compensation in the form of stock options, and various benefits, including medical and deferred compensation plans, generally available to employees of the Company.

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	Base Salary
	Due to the Company’s circumstances, base salary levels for the Company’s executive officers were unchanged from the prior year.
	Stock Option Program
	The stock option program is the Company’s long-term incentive plan for executive officers and key employees. The objectives of the program are to align executive and shareholder long-term interests by creating a strong and direct link between executive pay and shareholder return, and to enable executives to develop and maintain a significant, long-term stock ownership position in the Company’s common stock.
	In June 1999 a stock option plan allowing the issuance of options on up to 500,000 shares of the Company’s common stock was approved by the Shareholders. This stock option plan provides for the grant of both options intended to qualify as “incentive stock options” within the meaning of Section 422A of the Internal Revenue Code, as amended, and nonstatutory stock options which do not qualify for such treatment.
	The stock option plan authorizes a committee of directors to award executive and key employee stock options, as well as options to directors and nonemployees who are in a position to materially benefit the Company. Stock options are granted at an option price equal to the fair market value of the Company’s common stock on the date of grant, have ten year terms and can have exercise restrictions established by the committee.
	A stock option plan authorizing options on 500,000 shares of common stock of the Company on substantially the same terms was approved by the Shareholders in 1995.
	Deferred Compensation
	Effective July 1, 1986, the Company adopted a 401(k) Employee Savings Plan. The 401(k) is a “cash or deferred” plan under which employees may elect to contribute a certain portion of their compensation which they would otherwise be eligible to receive in cash. The Company has agreed to make a matching contribution of 20% of the employees’ contributions of up to 6% of their compensation. In addition, the Company may make a profit sharing contribution at the discretion of the Board. All full time employees of the Company who have completed six months of service are eligible to participate in the plan. Participants are immediately 100% vested in all contributions. The plan does not contain an established termination date and it is not anticipated that it will be terminated at any time in the foreseeable future.
	Benefits
	The Company provides medical benefits to the executive officers that are generally available to Company employees. In addition, executive officers may be provided with other benefits, such as life insurance and automobiles. The amount of perquisites, as determined in accordance with the rules of the Securities and Exchange Commission relating to executive compensation, did not exceed 10% of salary for any executive officer for fiscal 2002.
	Chief Executive Officer
	Charles J. Drake has served as the Company’s Chief Executive Officer since 1978. His base salary for the 2002 year was $160,000. No bonus was paid to Mr. Drake for 2002.
	Due to the Company’s circumstances, Mr. Drake’s salary was unchanged from the prior year.
	The Compensation Committee

	Max A. Coon Vincent Shunsky

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	Director Compensation
	Mr. Wallace earns $200 per meeting and $800 per month for his responsibilities as the Audit Committee Chairperson.
	Audit Committee Report.
	For the year ended December 31, 2002 the board of directors appointed an Audit Committee whose members were William B. Wallace, Craig A. Black and Samuel O. Mallory. The Audit Committee oversees the Company’s financial reporting process on behalf of the board of directors. Management has the primary responsibility for the financial statements and the reporting process including the systems of internal controls. In fulfilling its oversight responsibilities, the committee reviewed the audited financial statements to be included in the Company’s Annual Report with management including a discussion of the quality, not just the acceptability, of the accounting principles, the reasonableness of significant judgments, and the clarity of disclosures in the financial statements.
	The committee reviewed with the independent auditors, who are responsible for expressing an opinion on the conformity of those audited financial statements with generally accepted accounting principles, their judgments as to the quality, not just the acceptability, of the Company’s accounting principles and such other matters as are required to be discussed with the committee under generally accepted auditing standards. In addition, the committee has discussed with the independent auditors the auditors’ independence from management and the Company including the matters in the written disclosures required by the Independence Standards Board.
	The committee discussed with the Company’s independent auditors the overall scope and plans for their respective audits. The committee meets with the independent auditors, with and without management present, to discuss the results of the examinations, their evaluations of the Company’s internal controls, and the overall quality of the Company’s financial reporting. The committee held five meetings during the year ended December 31, 2002.
	In reliance on the reviews and discussions referred to above, the committee recommended to the board of directors (and the board has approved) that the audited financial statements be included in the Annual Report on Form 10-K for the year ended December 31, 2002 for filing with the Securities and Exchange Commission.
	William B. Wallace Craig A. Black Samuel O. Mallory

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	Summary Compensation Table
	The following table sets forth the cash and noncash compensation for each of the last three fiscal years awarded to or earned by the Chief Executive Officer of the Company and to the other executive officers whose compensation for the 2002 year exceeded $100,000:

	(1)		Unless otherwise indicated, compensation in this category represents the Company’s 20% match of employee deferrals of currently earned income into the 401(k) Employee Savings Plan.
	(2)		Includes $100,000 in forgiveness of a portion of a note owed to the Company and $56,000 representing the fair market value of 400,000 shares of the Company’s unregistered common stock awarded to Mr. Drake.
	(3)		$92,769 of Mr. Doede’s compensation was deferred until February 2002.
	(4)		Represents $100,000 in forgiveness of a portion of a note owed to the Company.
	(5)		$49,070 of Mr. Doede’s compensation was deferred as of December 31, 2002.
	(6)		$18,654 of Mr. Harmala’s compensation was deferred as of December 31, 2002.

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Table of Contents

Options

The following table summarizes option grants during 2002 to the executive officers named in the Summary Compensation Table above, and the potential realizable value of such options at assumed rates of appreciation.

The following table summarizes the value of the options held by the executive officers named in the Summary Compensation Table above as of December 31, 2002. No options were exercised by such persons during 2002.

Year End Option Values