MVIS 10-K Annual Report for 2006

MVIS 10-K Annual Report

Here's an excerpt from the full document. Also, be sure to check out the comment discussion on the prior post about augmented reality. Great stuff!

ITEM 1. BUSINESS

Overview

We are developing miniature display and imaging engines based upon our integrated photonics module (IPM) architecture. The IPM utilizes our expertise in two dimensional Micro-Electrical Mechanical system ("MEMS") light scanning technologies, lasers, optics and electronics to create a high quality video or still image from a small form factor device with lower power needs than conventional display technologies. Historically, we have entered into development agreements with commercial and U.S. government customers to develop advanced prototype and demonstration units based on our light scanning technologies.

In 2006, we announced our strategy to develop and supply IPM-based miniature display engines to potential OEM customers who will embed them into a variety of consumer and automotive products. The primary objective for consumer applications is to provide users of mobile devices with a large screen viewing experience produced by a small embedded projector. Mobile devices may include cell phones, PDA's, gaming consoles and other consumer electronics products. These potential products would allow users to watch movies, play videos, display images, and other data onto a variety of surfaces. The same display engines with some modification could be embedded into the dashboard of an automobile or an airplane to create a heads up display (HUD) that could project point-by-point navigation, critical operational, safety and other information important to the driver or pilot. The IPM-based engine could be further modified to be embedded into a pair of glasses to provide the mobile user with a see-through or occluded personal display to view movies, play games or access other content.

The development and procurement of intellectual property rights relating to our light scanning technologies is a key aspect of our business strategy. Since our inception in 1993, we have acquired under license agreements exclusive rights to various technologies. We also generate intellectual property as a result of our ongoing performance on development contracts and our internal research and development activities.

Technology

As our IPM is a technology platform for our current imaging and display engines, it includes the components necessary to create a video or still image. The IPM includes the drive electronics that acquire and process signals from a data source to control and synchronize the color mix and placement of individual picture elements (pixels). Color pixels are generated by combining modulated red, green and blue light sources. The intensity of each of the light sources is varied to generate a complete palette of colors and shades. The pixels are arranged by a continuous high frequency scanner motion that rapidly sweeps the beam of light vertically and horizontally to create the image. Optical elements direct the beam of light onto a surface for viewing. Since the IPM uses a single beam of light and a small scanning mirror to create an image, we can create a large image from a small package.

We believe that our light scanning technology offers significant advantages over traditional display and imaging systems. Depending on the specific product application these advantages may include:

Small and thin package size
Higher brightness
Reduced power requirements
Higher contrast
Higher resolution
Lower price

Miniature Projectors

Based on the inquiries we have received from potential customers, we believe there is an emerging market for a large screen viewing experience embedded within a personal handheld device. We believe we can use our scanning technologies to create a miniature full-color projection display (which we refer to as "PicoP") that meets the cost, size and power requirements to be embedded in portable hand-held devices including mobile phones. The PicoP uses laser light to create a brilliant, full color, high contrast, uniform display over the entire field of view. With our PicoP, the image remains in focus at any distance and even on curved surfaces without the need of a focusing lens. We are also planning to develop the PicoP as an accessory device that can be connected to a video device such a video iPod or computer. We plan to enter into agreements with original equipment manufacturers that would result in production and distribution of the PicoP.

Automotive Head-Up Displays

We believe an automotive HUD will improve driver safety by reducing the distraction of looking away from the road to read information such as GPS images, audio controls and other automobile instrumentation. We are working with Tier 1 suppliers to develop a unique automotive head-up display based on the IPM. We have produced prototype automotive HUDs that demonstrate that the IPM-based automotive HUD can project a daylight or night-time readable image onto the windscreen of an automobile to provide the driver with a variety of information related to the car's operation. We believe that the IPM-based automotive HUD offers three distinct advantages over competing head-up displays:

Size - Our prototype display is less than half the size of current competitive offerings. This smaller form factor can accommodate a wider variety of vehicle configurations.

Contrast Ratio - Our prototype has a contrast ratio an order of magnitude higher than current competitive offerings. The high contrast ratio allows the driver to see the display clearly in any ambient lighting conditions.

Installation Cost - Our prototype can be electronically customized to the unique curvature of a particular automobile's windshield, thereby reducing installation time and cost. The current competitive offerings must be manually adjusted to match the curvature of a windshield.

We plan to work with Tier 1 automotive suppliers to market the head up display to OEM customers. We are developing the scanning engine subsystem portion of the HUD which is based upon our IPM. We expect that a Tier I supplier would integrate our scanning engine subsystem into a HUD product package for automobile companies. During 2006, we continued to improve upon our prototype head-up displays for Tier 1 suppliers to demonstrate to automotive companies.

Color Eyewear

We believe the IPM can be modified and integrated with a light-weight optical design to create a color eyewear platform. Our color eyewear could be used to provide personal viewing of information from mobile devices. We believe that our color eyewear platform could provide the following advantages over competing wearable displays:

See-through performance - See-through eyewear displays enable the wearer to interact with the real-world and their personal mobile services at the same time. Unlike competing wearable displays a see-through display does not obstruct the wearer's vision or reduce their awareness of what is happening around them.

Daylight readability - The high-brightness capability of color eyewear based on the IPM enables images to be clearly visible in brightly lit ambient environments, including direct sunlight. Current LCD based head worn displays are difficult to see in bright light environments.

Fashion and ergonomics - We are developing thin and lightweight optics that can be integrated with the IPM to create color eyewear that matches conventional eyewear frames in size and weight to provide significantly improved ergonomics compared to competing wearable displays.

We are working with the US Army and US Air Force to further develop IPM-based color eyewear for military applications such as helmet mounted displays and full color see-through eyewear. We plan to work with OEMs and system integrators to incorporate our see-through eyewear into integrated solutions for potential military and commercial customers.

Laser Bar Code Scanners and Advanced Imaging Systems

We currently market our line of hand held laser bar code scanners, branded as the Flic Scanner, and the Flic Cordless Scanner, a Bluetooth version of the Flic Scanner. The Flic Scanners feature a proprietary design that provides for lower power consumption and total operating cost than many other laser bar code scanners currently available. During 2006 we took several steps to improve the performance of the Flic business including implementing processes to improve the quality of the Flic Scanner.

Flic Scanners are manufactured for us by a contract manufacturer located in Malaysia. We distribute branded and private-labeled Flic Scanners directly to end users through value added resellers, original equipment manufacturers and phone and internet orders.

Working with a development partner, we have also created prototype versions of a high resolution, miniature laser camera for certain medical applications. Under the agreement, we developed prototype units that are being used in product evaluation. We have delivered the prototype units and our development partner is evaluating the units to determine a commercialization plan.

We believe that certain components of our technology can also be used to develop two-dimensional bar code readers that have cost and performance advantages over existing imaging technologies for certain applications.

Go to Market Strategy

Certain potential applications using the IPM, such as automotive HUD or the miniature projector, could require integration of our technology with other related technologies. In markets requiring high volume production of IPM components or subsystems that are to be integrated with other components, we may provide designs for components, subsystems and systems to original equipment manufacturers under licensing agreements.

We expect that some customers will require unique designs for their displays. We expect that such relationships will generally involve a period of co- development during which engineering, manufacturing and marketing professionals from potential customers and original equipment manufacturers would work with our technical staff to modify the IPM for their targeted market and application. We may charge fees to our customers or original equipment manufacturers to fund the costs of the engineering effort incurred on such development projects. The nature of the relationships with such customers or original equipment manufacturers may vary from partner to partner depending on the proposed specifications for the IPM, the product to be developed, and the customers' or original equipment manufacturers' design, manufacturing and distribution capabilities. We believe that by limiting our own direct manufacturing investment for products, we will reduce our capital requirements and risks inherent in taking the IPM to the consumer market.

Human Factors, Ergonomics and Safety

As part of our research and development activities, we conduct ongoing research on the cognitive, physiological, ergonomic safety factors that must be addressed by products incorporating our technology, including such issues as the maximum permissible laser exposure limits established by American National Standards Institute ("ANSI") and others. Researchers from the University of Washington Human Interface Technology Lab and other independent institutions have concluded that laser exposure to the eye resulting from use of the light scanning displays under normal operating conditions would be below the calculated maximum permissible exposure level set by ANSI.

Competitive Conditions

The information display industry is highly competitive. Our potential display products will compete with established manufacturers of miniaturized cathode ray tube and flat panel display devices. Our competitors include companies such as Sony Corporation and Texas Instruments Incorporated, most of which have much greater financial, technical and other resources than we do. Many of our competitors are developing alternative miniature display technologies. Our competitors may succeed in developing information display technologies and products that could render our technology or our proposed products commercially infeasible or technologically obsolete.

The information display industry has been characterized by rapid and significant technological advances. Our technology and potential products may not remain competitive with such advances, and we may not have sufficient funds to invest in new technologies, products or processes. Although we believe the light scanning technology and proposed display products could deliver images of a quality and resolution substantially better than those of commercially available miniaturized liquid crystal displays and cathode ray tube based display products, manufacturers of liquid crystal displays and cathode ray tubes may develop further improvements of screen display technology that could reduce or eliminate the anticipated advantages of our proposed products.

We compete with other companies in the display industry and other technologies for government funding. In general, our government customers plan to integrate our technology into larger systems. Ongoing contracts are awarded based on our past performance on government contracts, the customer's progress in integrating our technology into the customer's overall program objectives, and the status of the customer's overall program.

The image capture industry is also highly competitive. Our current and planned bar code products will compete with existing laser and wand type scanners produced by established bar code companies. Our current products compete on the basis of price and performance. The bar code industry is dominated by Symbol Technologies, who was recently acquired by Motorola, Inc. Symbol Technologies sells products that directly compete with our current and planned bar code products.

Intellectual Property and Proprietary Rights

Since our inception in 1993, we have acquired under license agreements exclusive rights to various technologies, including, among others, rights related to the ability to superimpose images on the user's field of view and with a retinal display, and rights related to the design and fabrication of micro miniature devices using semiconductor fabrication techniques. In some cases, the licensors have retained limited, non-commercial rights with respect to the technology, including the right to use the technology for non-commercial research and for instructional purposes. Some licensors have the right to consent to our sublicensing arrangements and to the prosecution and settlement by us of our of infringement disputes.

We also generate intellectual property as a result of our ongoing performance on development contracts and our internal research and development activities. The inventions covered by our patent applications generally relate to component miniaturization, specific implementation of various system components and design elements to facilitate mass production. We consider protection of these key enabling technologies and components to be a fundamental aspect of our strategy to penetrate diverse markets with unique products. As such, we intend to continue to develop our portfolio of proprietary and patented technologies at the system, component and process levels.

Our ability to compete effectively in the display and image capture market will depend, in part, on our ability and the ability of the licensors to maintain the proprietary nature of these technologies.

We also rely on unpatented proprietary technology. To protect our rights in these areas, we require all employees and, where appropriate, contractors, consultants, advisors and collaborators, to enter into confidentiality and non- compete agreements. There can be no assurance, however, that these agreements will provide meaningful protection for our trade secrets, know-how or other proprietary information in the event of any unauthorized use, misappropriation or disclosure of such trade secrets, know-how or other proprietary information.

We have registered the marks "Flic", "Flicware", "Flicprint", "MicroHud," and "Nomad" with the United States Patent and Trademark Office. We have filed for registration of various other marks including "Pico" , "PicoP" and a "tri-curve" logo in the United States Patent and Tradmark Office.

Additional Information

We perform research and development to design and develop the integrated photonics module and modifications to the integrated photonics module that will be required for specific applications. Research and development expense for the fiscal years ended December 31, 2006, 2005 and 2004 was $10.7 million, $6.6 million, and $15.2 million, respectively. In 2004, research and development expense would have been $13.6 million excluding the impact of our previously consolidated subsidiary, Lumera.

Prior to 2004, substantially all of our revenue was generated from development contracts to develop the light scanning technology to meet customer specifications. Our customers have included both the United States government and commercial enterprises. In 2006, 51% of revenue was derived from performance on development contracts with the United States government, 24% from performance on development contracts with commercial customers and the remainder from sales of Nomad and Flic units. In 2005, 35% of revenue was derived from performance on development contracts with the United States government, 42% from performance on development contracts with commercial customers and the remainder from sales of Nomad and Flic units. In 2005, Ethicon Endo-Surgery Inc. accounted for 33% of total revenue. Our contracts with the United States government can be terminated for convenience by the United States government at any time. See Management's Discussion and Analysis of Financial Condition and Results of Operations.

We had a backlog of $7.1 million at December 31, 2006 compared to a backlog of $3.4 million at December 31, 2005. The backlog at December 31, 2006, is composed of $6.8 million in development contracts entered into through December 31, 2006 and $353,000 in orders for Flic. Microvision plans to complete all of the backlog contracts by the end of the first quarter of 2008.

Employees

As of February 28, 2007, we had 127 employees.