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SECURITIES AND EXCHANGE COMMISSION

FORM S-3

THREE-FIVE SYSTEMS, INC.

1600 North Desert Drive

Jeffrey D. Buchanan

Copies to:

      Approximate date of proposed sale to the public: As soon as practicable after the effective date of this Registration Statement.

      If the only securities being registered on this form are being offered pursuant to dividend or interest reinvestment plans, please check the following box.  [   ]

      If any of the securities being registered in this form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, other than securities offered only in connection with dividend or interest reinvestment plans, check the following box.  [   ]

      If this form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  [   ]                 

      If this form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  [   ]                 

      If delivery of the prospectus is expected to be made pursuant to Rule 434, check the following box.  [   ]

CALCULATION OF REGISTRATION FEE

(1)	Estimated solely for the purpose of calculating the registration fee pursuant to Rule 457(o).

     The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the Registration Statement shall become effective on such date as the Commission, acting pursuant to said Section 8(a), may determine.

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The information in this prospectus is not complete and may be changed without notice. Three-Five Systems, Inc. may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus is not an offer to sell these securities, and Three-Five Systems, Inc. is not soliciting offers to buy these securities, in any jurisdiction where the offer or sale of these securities is not permitted.

Prospectus (Not Complete)

2,600,000 Shares

[THREE-FIVE SYSTEMS LOGO]

Common Stock

      Three-Five Systems, Inc. is offering 2,600,000 shares of common stock in a firmly underwritten offering.

      Our common stock is traded on the New York Stock Exchange under the symbol “TFS.” The last reported sale price of our common stock on the New York Stock Exchange on April 24, 2000 was $51.67 per share on a split-adjusted basis ($77.50 actual).

       Investing in our common stock involves risks. See “Risk Factors” beginning on page 5.

      Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

      We have granted the underwriters the right to purchase up to an additional 390,000 shares to cover any over-allotments. The underwriters can exercise this right at any time within thirty days after the offering. The underwriters expect to deliver the shares of common stock to investors on              , 2000.

Joint Lead and Book-Running Managers

ING Barings

The date of this prospectus is                , 2000

Inside Front Cover Page:

      Upper-right: Picture of a woman using a cellular telephone

      Top: (Heading) “Technology, Design and Flexible, High-Volume Manufacturing To Serve Today’s Growing LCD Market”

      Text beneath top heading:

“We have over ten years of LCD design and manufacturing experience. We provide display design services and LCD manufacturing or the design, manufacturing, and integration of complete, custom LCD display module systems. Three-Five partners with each customer to add value at each step of the process, with fast, flexible, worldwide capability to meet any OEM demand.”

“Custom liquid crystal displays for the cellular communication and other established markets.”

Diagram describing the mechanics of an LCD display

      Text in Middle:

“Our advanced research and technology center in Arizona, supported by our core
LCD business, is the cornerstone of ongoing LCD enhancements and an incubator
for commercializing innovative display technologies of tomorrow.”

      Middle: (Heading)

“Innovation To Meet The Demands of Tomorrow’s Dynamic Markets: Microdisplays”

      Text in Middle:

“Market-driven proprietary technologies, including LCoS(TM) microdisplays and LCiD displays, are based on Three-Five’s core competencies in design and manufacturing. Microdisplays are tiny LCDs with high resolution that are magnified for individual or group viewing. Our LCoS microdisplays are being assessed by major OEM customers for various applications, including AV projectors, HDTV screens, computer monitors, and virtual, full-page displays for use in cell phones and other communications products.”

      Bottom: Diagram describing the mechanics of Liquid Crystal on Silicon (LCoS) microdisplays

      Bottom text:

“Liquid Crystal on Silicon (LCoS) is a technology that merges the high-density resolution of silicon integrated circuits with liquid crystal displays. LCoS combines the benefits of high performance, low cost, and low power consumption.”

Bottom left: Picture of an LCoS handheld device

Text beneath picture of LCoS picture: “Example of a potential mobile Internet appliance with a full SVGA resolution microdisplay and a mousepad.”

Gatefold Page

Upper-left: (Heading) “Evolutionary Display Technologies”

Middle: Arranged under the heading, “LCD Modules Customized For Today’s Growing Markets” are pictures of a printer, cellular phone and MP3 player in which our display technology has been incorporated. The pictures have captions superimposed on them with text above the captions and pictures.

Left margin: (Caption) “LCD Display with LED Lamp”; above the caption is text that reads, “Since our beginning in the mid-1980s, Three-Five has offered customers a variety of information display solutions. These solutions include LCDs integrated with LED devices and other components. Soon after our inception, we began to drive the evolution of our display capabilities away from standard LED products and into custom LCDs.”

Left-middle: (Caption) “LCD — Liquid Crystal Display”; above the caption is text that reads, “LCDs are today’s predominant flat panel display technology. We produce TN, STN, FSTN and DSTN, as well as color and monochrome LCDs at our automated, high-volume manufacturing facility in Arizona, the largest of its kind in North America.”

Middle: (Caption) “LCiD(TM) — Liquid Crystal intense Display”; above the caption is text that reads, “Our LCiD(TM) display was one of the first products developed by our highly experienced research and technology team in Arizona in 1997. This display resembles a brightly-colored LED, but offers customers the low power requirements of an LCD combined with sunlight readability and customized colors.”

Right: Under the heading, “Microdisplays For Newly Emerging Markets” is text that reads, “The most exciting technology yet to emerge from our research laboratories is the LCoS microdisplay. Our LCoS technology has the ability to deliver millions of pixels of information with clear resolution on a space about the size of a thumbnail. The applications for this low-cost technology are many and range from business projector systems to a variety of portable communications devices. The potential for LCoS rests in future products both in existing and emerging markets. Potential applications include rear projection computer monitors, rear and front projection digital TV, and head-mounted displays for computers, games, and movies. Data viewers for wireless portable information devices such as cell phones are believed to have the highest market potential. Other applications include head-mounted displays for flight, flight simulation, equipment maintenance, and medicine.” Under the text are pictures of a monitor, a rear projection display and a hand held internet access device incorporating LCoS microdisplays bearing the caption “LCoS(TM) — Liquid Crystal on Silicon” superimposed on them.

Bottom-left: (Heading) “Expanding Markets”. Beneath the heading are sub-headings with text. The sub-headings and text read, “Communications/Computing: mobile radios, pagers, global positioning systems, cellular phones, cordless phones, feature phones, remote controls, personal digital assistants; Office Automation: mail processing equipment, data storage devices, printers, multifunction peripherals, facsimile machines, photo copiers, scanners, computer peripherals; Industrial: temperature controllers, industrial ovens, portable controllers, vehicle instrumentation, gas pumps, scales, chart recorders; Medical: patient monitors and controls, digital assistants, diagnostic equipment, digital thermometers and glucometers, oximeters, infusion systems; Point of Sale: test & measurement, point-of-sale terminals, barcode scanners, transaction terminals, electronic shelf labeling; Consumer: white goods, brown goods, audio systems, video systems, home theater, radios.”

Bottom-left:“Rear-Projection: large format monitors, digital television, high-definition television, projection television, and display cubes. Front-Projection: portable audio-visual projectors, and home theater. Portable: mobile Internet appliances, wireless convergence products, commercial/industrial wearable computers, and personal DVD viewers.”

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      All references to “we,” “us,” “our,” “Three-Five,” or “the Company” in this prospectus mean Three-Five Systems, Inc. and all entities owned or controlled by Three-Five Systems, Inc., except where it is clear that the term means only the parent company.

      Except as otherwise indicated, all information in this prospectus reflects a four-for-three stock split effected in the form of a stock dividend in December 1999, reflects the completion of a three-for-two stock split to be effected in the form of a stock dividend on or about May 12, 2000 to stockholders of record on May 1, 2000, and assumes no exercise by the underwriters of their over-allotment option to purchase up to 390,000 additional shares of common stock.

      The triangle logo, Three-Five and the triangle logo, and LCiD® are registered trademarks of Three-Five, and LCoS™ and LCoS™ stylized are trademarks of Three-Five. This prospectus also includes trademarks, service marks, and trade names of other companies.

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PROSPECTUS SUMMARY

      This summary highlights information contained elsewhere in this prospectus. You should read this entire prospectus carefully. This prospectus contains forward-looking statements, which involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those set forth under “Risk Factors” and elsewhere in this prospectus.

Introduction

      We are a leading worldwide supplier of custom designed and manufactured display modules for use in the end products of original equipment manufacturers, or OEMs. We currently specialize in custom liquid crystal display, or LCD, components and technology. We collaborate closely with our customers in providing our design and manufacturing services. Our LCD modules are used in mobile handsets and other wireless communication devices as well as in the data collection, medical electronics, and other commercial and consumer marketplaces. In addition to our traditional LCD module business, we are pursuing the commercialization of our liquid crystal on silicon, or LCoS , microdisplays following substantial research and development over the past three years. We market our services in North America, Europe, and Asia through a direct technical sales force. Motorola is our largest customer.

      We believe we are well positioned to expand our custom LCD module business through securing new customers and increasing our business with existing customers. Our facilities, technology, and personnel enable us to design, develop, and manufacture, on a timely and cost-effective basis, a wide range of innovative, distinctive, and high-quality display modules that our customers require in their end products. Our Arizona headquarters includes the largest high-volume LCD manufacturing line in North America and a research and technology center dedicated to custom design engineering and development of advanced display technology. Our new manufacturing facility in Beijing, China substantially increases our capacity and complements our long-standing manufacturing facility in Manila, the Philippines. We operate our highly automated, high-volume LCD manufacturing line in Arizona to produce the majority of our LCDs. We utilize advanced, flexible manufacturing systems for high-volume module assembly in Manila and Beijing. We believe our three manufacturing facilities provide us with a competitive advantage in meeting the custom LCD needs of our customers.

      Our technological capabilities closely coupled with our LCD manufacturing expertise have been essential to our ability to develop and commercialize new types of displays. We are engaged in research and development efforts on several types of new display technologies, including reflective color LCDs, color-filter LCDs, plastic LCDs, monochrome LCDs with a paper-white background, bi-stable LCDs, and organic and polymer light emitting displays. We will continue to undertake some of these initiatives with partners and in strategic alliances.

      We are pursuing the commercialization of our LCoS microdisplay technology. This technology addresses market demands for high-information content, power-efficient displays with increased functionality and smaller sizes at relatively low costs. LCoS microdisplays are no larger than a thumbnail, but contain all of the information appearing on a high-resolution personal computer screen. The tiny image on an LCoS microdisplay can be projected onto a screen or other surface for individual or group viewing or used in a portable application and viewed through a magnifying device similar to a viewfinder. We are working with various international OEMs on LCoS microdisplay product offerings for a broad range of applications for anticipated introduction during the next six to twelve months. Initial applications are expected to include use in business projection equipment and computer monitors. Other potential applications include the use of LCoS microdisplays in digital and high-definition televisions and in a wide variety of portable devices, such as wireless Internet access devices, mobile handsets, pagers, and personal digital assistants, or PDAs, as well as in wearable computing equipment.

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      Our strategy is to enhance our position as a leading worldwide supplier of custom designed and manufactured displays for application in various high-growth segments of the electronics industry. Key elements of our strategy include the following:

	•	targeting leading companies in high-growth industries;
	•	intensifying our efforts to expand our customer base;
	•	emphasizing strong and long-lasting customer relationships that enable us to become seamless extensions of our customers’ design and manufacturing functions;
	•	combining domestic design and prototyping with low-cost, high-volume production capacity through the use of advanced computer-aided design software and advanced, efficient, and highly automated production processes;
	•	emphasizing innovative design and manufacturing techniques to improve the speed, efficiency, and performance of our design and manufacturing services; and
	•	emphasizing the development of new display technologies to meet customers’ continual requirements for higher information content and lower costs.

We believe our strategy has enabled us to provide our customers with displays that have competitive advantages in terms of size, cost, and product differentiation.

      We maintain our principal executive offices at 1600 North Desert Drive, Tempe, Arizona 85281, and our telephone number is (602) 389-8600. Our Web site is located at www.threefive.com. Information contained on our Web site does not constitute a part of this prospectus.

The Offering

      The total number of shares that we assume will be outstanding after the offering excludes (a) 1,797,108 shares of common stock issuable upon exercise of stock options outstanding as of March 31, 2000, with a weighted average exercise price of $10.09 per share, (b) 539,052 shares of common stock reserved for future issuance under our stock option plans, and (c) 140,000 shares issuable upon exercise of outstanding warrants, with an exercise price of $8.47 per share.

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Summary Consolidated Financial Data

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RISK FACTORS

      Before you invest in our common stock, you should be aware that there are risks, including those set forth below. You should carefully consider these risk factors, together with all the other information included in this prospectus, before you decide to purchase shares of our common stock.

Motorola accounts for a significant portion of our sales.

      Our business depends to a significant extent on Motorola’s success in the mobile handset business, particularly in the various major mobile handset programs in which we participate. Any material delay, cancellation, or reduction of orders from Motorola could have a material adverse effect on our business.

      Motorola has been our largest customer during each of the last five years. Sales to Motorola accounted for approximately 84.9% of our net sales in the first three months of 2000, 86.1% in 1999, 63.6% in 1998, 34.6% in 1997, 65.1% in 1996, and 80.5% in 1995. Throughout this period, substantially all of our sales to Motorola were for mobile handset applications.

      We anticipate that sales to Motorola in 2000 will exceed 1999 levels and that the percentage of our net sales attributable to Motorola will stay in the current range for the remainder of 2000 as a result of increased worldwide demand for mobile handsets. Sales to Motorola currently are made under multiple product programs administered by eight buyers operating in eight separate plants. During the first three months of 2000, the five largest of these product programs accounted for a total of 79.5% of our net sales, with the largest program accounting for 27.0% of our net sales. During 1999, the five largest of these product programs accounted for a total of 79.1% of our net sales, with the largest program accounting for 33.0% of our net sales.

      A decline in sales to Motorola could occur at any time. For example, an unexpected reduction in Motorola mobile handset programs reduced our net sales to Motorola from $73.7 million in 1995 to $39.5 million in 1996 and $29.2 million in 1997. Since Motorola has no long-term contractual commitments to purchase any of our products, we could experience similar declines in our net sales in the future.

We are subject to lengthy development periods and product acceptance cycles.

      We sell our display modules to OEMs, which then incorporate them into the products they sell. OEMs make the determination during their product development programs whether to incorporate our display modules or pursue other alternatives. This requires us to make significant investments of time and capital in the custom design of display modules well before our customers introduce their products incorporating these displays and before we can be sure that we will generate any significant sales to our customers or even recover our investment. During a customer’s entire product development process, we face the risk that our display will fail to meet our customer’s technical, performance, or cost requirements or will be replaced by a competing product or alternative technological solution. Even if we complete our design process in a manner satisfactory to our customer, the customer may delay or terminate its product development efforts. The occurrence of any of these events would adversely affect our operating results.

We do not have long-term purchase commitments from our customers.

      Our customers, including Motorola, generally do not provide us with firm, long-term volume purchase commitments. Although we have begun to enter into more manufacturing contracts with our customers, these contracts clarify order lead times, inventory risk allocation, and similar matters rather than provide firm, long-term volume purchase commitments. As a result, customers can cancel purchase commitments or reduce or delay orders at any time. The cancellation, delay, or reduction of customer commitments could result in our holding excess and obsolete inventory or having unabsorbed manufacturing overhead. The large percentage of our sales to customers in the electronics industry, which is subject to severe competitive pressures, rapid technological change, and product obsolescence, increases our inventory and overhead risks.

      Our operating results have been materially and adversely affected in the past as a result of the failure to obtain anticipated orders and deferrals or cancellations of purchase commitments because of changes in

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We depend on the market acceptance of the products of our customers.

      We do not sell any products to end users. Instead, we design and manufacture various product solutions that our customers incorporate into their products. As a result, our success depends almost entirely upon the widespread market acceptance of our customers’ products. Any significant slowdown in the demand for our customers’ products would adversely affect our business.

      Because our success depends on the widespread market acceptance of our customers’ products, we must identify industries that have significant growth potential and establish relationships with OEMs in those industries. Our failure to identify potential growth opportunities or establish relationships with OEMs in those industries would adversely affect our business.

      Our dependence on the success of the products of our customers exposes us to a variety of risks, including the following:

	•	our ability to provide significant design and manufacturing services for customers on a timely and cost-effective basis;
	•	our success in maintaining customer satisfaction with our design and manufacturing services;
	•	our ability to match our design and manufacturing capacity with customer demand and to maintain satisfactory delivery schedules;
	•	customer order patterns, changes in order mix, and the level and timing of orders placed by customers that we can complete in a quarter; and
	•	the cyclical nature of the industries and markets we serve.

Our failure to address these risks may cause our sales to decline.

Our emerging microdisplay business may not be successful.

      A key element of our current business plan involves the commercialization of our microdisplay technology. The success of this effort depends on numerous factors. As a result, we could be unable to expand our business as we currently anticipate and may make substantial investments in product development, manufacturing, and marketing efforts that may not result in microdisplay sales.

      Manufacturing an LCoS microdisplay involves a significantly different procedure than manufacturing a typical liquid crystal display. Although we added additional equipment to our Arizona manufacturing facility in the last two years for manufacturing LCoS microdisplays, the manufacture of microdisplays will require us to overcome numerous challenges, including the following:

	•	the use of new materials, including silicon;
	•	the modification of equipment and processes to accommodate the miniature size of the product;
	•	the implementation of new manufacturing techniques;
	•	the incorporation of new handling procedures;
	•	the maintenance of cleaner manufacturing environments; and
	•	the ability to master tighter tolerances in the manufacturing process.

      We could experience significant problems in commencing volume production of LCoS microdisplays. These problems could result in the delay of the full implementation of high-volume LCoS microdisplay production. In addition, lower than expected manufacturing yields could significantly and adversely affect us because of the relatively high cost of the silicon backplanes used in LCoS microdisplays.

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      Various target markets for our microdisplays, including projectors, monitors, digital and high-definition televisions, and portable microdisplays, are uncertain, may be slow to develop, or could utilize competing technologies. Many manufacturers have well-established positions in the projector and monitor markets. As a result, we must provide these manufacturers with lower cost, comparable performance microdisplays for their products. Digital and high-definition television has only recently become available to consumers, and widespread market acceptance is uncertain. Penetrating this market will require us to offer lower cost alternatives to existing technology. In addition, the commercial success of the portable microdisplay market is uncertain. Gaining acceptance in this market may prove difficult because of the radically different approach of microdisplays to the presentation of information. The failure of any of these target markets to develop as we expect, or our failure to penetrate these markets, will impede our anticipated sales growth. Even if our technology successfully meets our price and performance goals, our customers may not achieve commercial success in selling their products that incorporate our microdisplay technology.

We face intense competition.

      We serve intensely competitive industries that are characterized by price erosion, rapid technological change, and competition from major domestic and international companies. This intense competition could result in pricing pressures, lower sales, reduced margins, and lower market share. Many of our competitors have greater market recognition, larger customer bases, and substantially greater financial, technical, marketing, distribution, and other resources than we possess. As a result, they may be able to introduce new products and respond to customer requirements more quickly than we can.

      Our competitive position could suffer if one or more of our customers decide to design and manufacture their own display modules, to use standard devices, to contract with our competitors, or to use alternative technologies. In addition, our customers typically develop a second source, even for displays we design for them. These second source suppliers may win an increasing share of a program, particularly as it grows and matures, by competing primarily on price rather than on design capability.

      Our ability to compete successfully depends on a number of factors, both within and outside our control. These factors include the following:

	•	our success in designing and manufacturing new product solutions, including those implementing new technologies;
	•	our ability to address the needs of our customers;
	•	the quality, performance, reliability, features, ease of use, pricing, and diversity of our product solutions;
	•	foreign currency fluctuations, which may cause a foreign competitor’s products to be priced significantly lower than our product solutions;
	•	the quality of our customer services;
	•	our efficiency of production;
	•	the rate at which customers incorporate our product solutions into their own products; and
	•	product or technology introductions by our competitors.

Shortages of components and materials may delay or reduce our sales and increase our costs.

      Our inability to obtain sufficient quantities of components and other materials necessary to produce our displays could result in reduced or delayed sales or lost orders. Any delay in or loss of sales could adversely impact our operating results. We obtain many of the materials we use in the manufacture of our displays from a limited number of foreign suppliers, particularly suppliers located in Asia, and we do not have long-term supply contracts with any of them. As a result, we are subject to economic instability and currency fluctuations in these Asian countries as well as to increased costs, supply interruptions, and difficulties in

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      Materials and components for some of our major programs from time to time have been subject to allocation because of shortages of these materials and components. During 1998, we occasionally delayed sales of our LCD modules as a result of the unavailability of LCD polarizers and IC drivers, or ASICs. During 1999 and the first quarter of 2000, we experienced difficulties obtaining our requirements for ASICs as a result of a worldwide shortage. These shortages resulted in lost sales opportunities. Similar shortages in the future could have a material adverse effect on our business.

We must maintain satisfactory manufacturing yields and capacity.

      Our inability to maintain high levels of productivity or satisfactory delivery schedules at our manufacturing facilities in Manila, Beijing, or Arizona would adversely affect our operating results. The design and manufacture of LCDs and display modules are highly complex processes that are sensitive to a wide variety of factors, including the level of contaminants in the manufacturing environment, impurities in the materials used, and the performance of personnel and equipment. As is typical in the industry, at times we have experienced lower than anticipated manufacturing yields and lengthening of delivery schedules. We may encounter lower manufacturing yields and longer delivery schedules as we continue to ramp up our high-volume LCD line to greater production levels and begin to manufacture LCoS microdisplays. In addition, the complexity of manufacturing processes will increase along with increases in the sophistication of display modules.

      We anticipate that we will expand our capacity by establishing one or more additional production facilities. We will face all of the risks inherent in constructing, equipping, and commencing operations in any new facilities that we establish. These risks include the following:

	•	the ability to identify and acquire or lease suitable property;
	•	construction delays and cost overruns;
	•	the ability to procure and install necessary equipment;
	•	the ability to hire, train, and manage manufacturing personnel; and
	•	production delays, unfavorable manufacturing yields, and lengthening delivery schedules.

These risks could be more pronounced with respect to any facilities that we establish in foreign countries. Any problems with our LCD manufacturing operations could result in the lengthening of our delivery schedules, reductions in the quality or performance of our design and manufacturing services, and reduced customer satisfaction.

Our business depends on new products and technologies.

      We operate in rapidly changing industries. Technological advances, the introduction of new products, and new design and manufacturing techniques could adversely affect our business unless we are able to adapt to the changing conditions. As a result, we will be required to expend substantial funds for and commit significant resources to

	•	continue research and development activities on existing and potential product solutions;
	•	engage additional engineering and other technical personnel;
	•	purchase advanced design, production, and test equipment; and
	•	expand our manufacturing capacity.

      Our future operating results will depend to a significant extent on our ability to continue to provide new product solutions that compare favorably on the basis of time to introduction, cost, and performance with the

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	•	utilization of advances in technology;
	•	innovative development of new solutions for customer products;
	•	efficient and cost-effective services; and
	•	timely completion of the design and manufacture of new product solutions.

Our efforts to develop new technologies may not result in commercial success.

      Our research and development efforts with respect to new technologies may not result in customer or widespread market acceptance. Some or all of those technologies may not successfully make the transition from the research and development lab to cost-effective production as a result of technology problems, competitive cost issues, yield problems, and other factors. Even when we successfully complete a research and development effort with respect to a particular technology, our customers may determine not to introduce or may terminate products utilizing the technology for a variety of reasons, including the following:

	•	difficulties with other suppliers of components for the products;
	•	superior technologies developed by our competitors;
	•	price considerations;
	•	lack of anticipated or actual market demand for the products; and
	•	unfavorable comparisons with products introduced by others.

      For example, in 1999 we deferred the commercialization of our Liquid Crystal active Drive, or LCaD®, display product line. We have decided to concentrate our resources elsewhere and have not yet determined whether or to what extent we will pursue commercialization of the LCaD product line.

      The nature of our business requires us to make capital expenditures and investments for new technologies. For example, our capital expenditures, including tooling and licenses, for LCoS microdisplays, currently our largest research and development effort, have been over $8.0 million through March 31, 2000. To facilitate the development of our LCoS microdisplay products, we also made an equity investment of $3.8 million in Inviso, Inc., formerly Siliscape, Inc., during 1998 and 2000 and purchased assets and technology of the former Light Valve business unit of National Semiconductor Corporation for approximately $3.6 million during 1999. We may be required to make similar investments and acquisitions in the future to maintain or enhance our ability to offer technological solutions.

      Significant expenditures relating to one or more new technologies, especially LCoS microdisplays, that ultimately prove to be unsuccessful for any reason could have a material adverse effect on us. In addition, any investments or acquisitions, such as Inviso and the assets and technology of the former Light Valve business unit, made to enhance our technologies may prove to be unsuccessful.

We face risks associated with international operations.

      Our manufacturing operations in Manila, Beijing, and Arizona and our sales and distribution operations in Europe and Asia create a number of logistical and communications challenges. Our international operations also expose us to various economic, political, and other risks, including the following:

	•	management of a multi-national organization;
	•	compliance with local laws and regulatory requirements as well as changes in those laws and requirements;
	•	employment and severance issues;
	•	overlap of tax issues;
	•	tariffs and duties;

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	•	possible employee turnover or labor unrest;
	•	lack of developed infrastructure;
	•	the burdens and costs of compliance with a variety of foreign laws; and
	•	political or economic instability in certain parts of the world.

      Changes in policies by the United States or foreign governments resulting in, among other things, increased duties, higher taxation, currency conversion limitations, restrictions on the transfer or repatriation of funds, limitations on imports or exports, or the expropriation of private enterprises also could have a material adverse effect on us. Any actions by our host countries to reverse policies that encourage foreign investment or foreign trade also could adversely affect our operating results. In addition, U.S. trade policies, such as “most favored nation” status and trade preferences for certain Asian nations, could affect the attractiveness of our services to our U.S. customers.

We depend on our operations in Arizona.

      Our Arizona facility and its high-volume LCD manufacturing line are critical to our success. We utilize this high-volume line to produce a majority of our own requirements for LCDs. We also have installed a dedicated high-volume microdisplay manufacturing line in this facility. We intend, at least initially, to produce all of our LCoS microdisplays on this dedicated line. This facility also houses our principal research, development, engineering, design, and managerial operations. Any event that causes a disruption of the operation of this facility for even a relatively short period of time would adversely affect our ability to provide both technical and manufacturing support for our customers.

We depend on our manufacturing operations in the Philippines.

      Any disruption or termination of our manufacturing operations in Manila or air transportation with the Philippines, even for a relatively short period of time, would adversely affect our operations. The Philippines have been subject to volcanic eruptions, typhoons, and substantial civil disturbances, including attempted military coups against the government, since we commenced operations at the facility in 1986. We have made cumulative capital investments in the Philippines amounting to approximately $15.2 million through March 31, 2000. We believe that our manufacturing operations in Manila constitute one of our most important resources and that it would be difficult to replace the low-cost, high-performance facility or the highly trained production staff in the event of the disruption or termination of our manufacturing operations in Manila.

      Our operations in Manila also depend on the business and financial condition of the third-party subcontractor that owns the manufacturing facility, which is located on land the subcontractor leases from the Philippine government. The subcontractor operates the facility utilizing equipment, processes, and documentation that we own and supervisory personnel that we employ. The subcontractor provides us with direct production personnel and leases space to us. The subcontractor also utilizes additional space in the facility to produce products for other entities unrelated to us. The failure of the subcontractor to fulfill its obligations to us would adversely affect our operating results. Our agreements with the subcontractor extend through December 31, 2000 and are renewable from year to year thereafter, but may be terminated by the subcontractor or us upon 180 days written notice.

      We are considering establishing our own production facility in Manila during the last half of 2000. In such event, we would likely retain our existing facility because of expected capacity requirements in 2001.

We depend on our manufacturing operations in China.

      We commenced manufacturing operations in Beijing, China, during 1998 in a leased temporary facility. During 1999, we completed the construction of a permanent, high-volume LCD module manufacturing facility in Beijing, which is similar to our Manila facility. We have made cumulative capital investments in

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      Our operations and assets are subject to significant political, economic, legal, and other uncertainties in China. The Chinese government recently has been pursuing economic reform policies, including the encouragement of foreign trade and investment and greater economic decentralization. The Chinese government, however, may not continue to pursue these policies, may not successfully pursue these policies, or may significantly alter these policies from time to time. China currently does not have a comprehensive and highly developed system of laws, particularly with respect to foreign investment activities and foreign trade. Enforcement of existing and future laws and contracts is uncertain, and implementation and interpretation of laws may be inconsistent. As the Chinese legal system develops, the passage of new laws, changes in existing laws, and the preemption of local regulations by national laws may adversely affect us. We also could be adversely affected by a number of other factors, including the following:

	•	the imposition of austerity measures intended to reduce inflation;
	•	inadequate development or maintenance of infrastructure, including the unavailability of adequate power and water supplies, transportation, raw materials, and parts; and
	•	a deterioration of the general political, economic, or social environment in China.

      In November 1999, the United States and China signed an agreement that will lift trade barriers between the two countries and that advances China’s efforts to join the World Trade Organization. Special interest groups have raised objections to these efforts and we cannot be certain whether or to what extent trade relations with China will continue to improve. Any developments that adversely affect trade relations between the United States and China in the future could adversely affect us by increasing the cost to U.S. customers of products manufactured by us in China.

We face risks associated with international trade and currency exchange.

      Political and economic conditions abroad may adversely affect the foreign manufacture and sale of our displays. Protectionist trade legislation in either the United States or foreign countries, such as a change in the current tariff structures, export or import compliance laws, or other trade policies, could adversely affect our ability to manufacture or sell displays in foreign markets and to purchase materials or equipment from foreign suppliers.

      While we transact business predominantly in U.S. dollars and bill and collect most of our sales in U.S. dollars, we collect a portion of our revenue in non-U.S. currencies, such as the Chinese renminbi. In the future, customers increasingly may make payments in non-U.S. currencies, such as the Euro. In addition, we account for a portion of our costs, such as payroll, rent, and indirect operating costs, in non-U.S. currencies, including Philippine pesos, British pounds sterling, and Chinese renminbi.

      Fluctuations in foreign currency exchange rates could affect our cost of goods and operating margins and could result in exchange losses. In addition, currency devaluation can result in a loss to us if we hold deposits of that currency. The Philippine peso suffered a major devaluation in late 1997, and the Chinese renminbi has experienced significant devaluation against most major currencies over the last five years. Hedging foreign currencies can be difficult, especially if the currency is not freely traded. We cannot predict the impact of future exchange rate fluctuations on our operating results.

      The risks described above are particularly important since international sales represented 81.2% of our net sales in the first three months of 2000 and 82.0% of our net sales in 1999. Sales in foreign markets, primarily Europe and China, to OEMs based in the United States accounted for almost all of our international sales in both of these periods. In the future, we expect sales to OEMs based in Europe and China to increase.

Variability of customer requirements may adversely affect our operating results.

      Custom manufacturers for OEMs must provide increasingly rapid product turnaround and respond to ever-shorter lead times. A variety of conditions, both specific to individual customers and generally affecting

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Our operating results have significant fluctuations.

      In addition to the variability resulting from the short-term nature of our customers’ commitments, other factors contribute to significant periodic and seasonal quarterly fluctuations in our results of operations. These factors include the following:

	•	the timing of orders;
	•	the volume of orders relative to our capacity;
	•	product introductions and market acceptance of new products or new generations of products;
	•	evolution in the life cycles of customers’ products;
	•	timing of expenditures in anticipation of future orders;
	•	effectiveness in managing manufacturing processes;
	•	changes in cost and availability of labor and components;
	•	product mix;
	•	pricing and availability of competitive products and services; and
	•	changes or anticipated changes in economic conditions.

      Accordingly, you should not rely on the results of any past periods as an indication of our future performance. It is likely that in some future period, our operating results may be below expectations of public market analysts or investors. If this occurs, our stock price may drop.

We must effectively manage our growth.

      The failure to manage our growth effectively could adversely affect our operations. We have increased the number of our manufacturing and design programs and plan to expand further the number and diversity of our programs in the future. Our ability to manage our planned growth effectively will require us to

	•	enhance our operational, financial, and management systems;
	•	expand our facilities and equipment; and
	•	successfully hire, train, and motivate additional employees, including the technical personnel necessary to operate our new production facility in Beijing.

      The expansion and diversification of our product and customer base may result in increases in our overhead and selling expenses. We also may be required to increase staffing and other expenses as well as our expenditures on capital equipment and leasehold improvements in order to meet the anticipated demand of our customers. For example, prior to the receipt of orders, we substantially increased our manufacturing capacity in 1998 by starting up manufacturing operations in Beijing. We plan further expansion of our manufacturing capacity. Customers, however, generally do not commit to firm production schedules for more than a short time in advance. Any increase in expenditures in anticipation of future orders that do not materialize would adversely affect our profitability. Customers also may require rapid increases in design and production services that place an excessive short-term burden on our resources.

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We depend on key personnel.

      Our development and operations depend substantially on the efforts and abilities of our senior management and technical personnel. The competition for qualified management and technical personnel is intense. The loss of services of one or more of our key employees or the inability to add key personnel, including those required for our LCD manufacturing facility, could have a material adverse effect on us. Although we maintain non-competition and nondisclosure covenants with certain key personnel, we do not have any fixed-term agreements with, or key person life insurance covering, any officer or employee.

We must protect our intellectual property, and others could infringe on or misappropriate our rights.

      We believe that our continued success depends in part on protecting our proprietary technology. Third parties could claim that we are infringing their patents or other intellectual property rights. In the event that a third party alleges that we are infringing its rights, we may not be able to obtain licenses on commercially reasonable terms from the third party, if at all, or the third party may commence litigation against us. The failure to obtain necessary licenses or other rights or the institution of litigation arising out of such claims could materially and adversely affect us.

      We rely on a combination of patent, trade secret, and trademark laws, confidentiality procedures, and contractual provisions to protect our intellectual property. We seek to protect certain of our technology under trade secret laws, which afford only limited protection. We face risks associated with our intellectual property, including the following:

	•	pending patent applications may not be issued;
	•	intellectual property laws may not protect our intellectual property rights;
	•	third parties may challenge, invalidate, or circumvent any patent issued to us;
	•	rights granted under patents issued to us may not provide competitive advantages to us;
	•	unauthorized parties may attempt to obtain and use information that we regard as proprietary despite our efforts to protect our proprietary rights;
	•	others may independently develop similar technology or design around any patents issued to us; and
	•	effective protection of intellectual property rights may be limited or unavailable in some foreign countries, such as China, in which we operate.

      We may not be able to obtain effective trademark, service mark, copyright, and trade secret protection in every country in which we sell our products. We may find it necessary to take legal action in the future to enforce or protect our intellectual property rights or to defend against claims of infringement. Litigation can be very expensive and can distract our management’s time and attention, which could adversely affect our business. In addition, we may not be able to obtain a favorable outcome in any intellectual property litigation.

The market price of our common stock may be volatile.

      The market price of our common stock has been extremely volatile. Our stock price increased dramatically during the three-year period ended December 31, 1994, but declined significantly during 1995 and 1996. The stock price increased again during 1997, but declined significantly in 1998. Our stock price again increased significantly during 1999 and the first three months of 2000. The trading price of our common stock in the future could continue to be subject to wide fluctuations in response to various factors, including the following:

	•	variations in our quarterly operating results;
	•	actual or anticipated announcements of technical innovations or new product developments by us or our competitors;
	•	changes in analysts’ estimates of our financial performance;

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	•	general conditions in the electronics industry; and
	•	worldwide economic and financial conditions.

      In addition, the stock market has experienced extreme price and volume fluctuations that have particularly affected the market prices for many high-technology companies and that often have been unrelated to the operating performance of these companies. These broad market fluctuations and other factors may adversely affect the market price of our common stock.

The electronics industry is cyclical.

      The electronics industry has experienced significant economic downturns at various times, characterized by diminished product demand, accelerated erosion of average selling prices, and production over-capacity. In addition, the electronics industry is cyclical in nature. We have sought to reduce our exposure to industry downturns and cyclicality by providing design and production services for leading companies in rapidly expanding segments of the electronics industry. We may, however, experience substantial period-to-period fluctuations in future operating results because of general industry conditions or events occurring in the general economy.

We must finance the growth of our business and the development of new products.

      To remain competitive, we must continue to make significant investments in research and development, equipment, and facilities. As a result of the increase in fixed costs and operating expenses related to these capital expenditures, our failure to increase sufficiently our net sales to offset these increased costs would adversely affect our operating results.

      From time to time, we may seek additional equity or debt financing to provide for the capital expenditures required to maintain or expand our design and production facilities and equipment. We cannot predict the timing or amount of any such capital requirements at this time. If such financing is not available on satisfactory terms, we may be unable to expand our business or to develop new business at the rate desired and our operating results may suffer. Debt financing increases expenses and must be repaid regardless of operating results. Equity financing could result in additional dilution to existing stockholders.

Potential strategic alliances may not achieve their objectives.

      We anticipate that we will enter into various strategic alliances. Among other matters, we will explore strategic alliances designed to enhance or complement our technology or to work in conjunction with our technology; to increase our manufacturing capacity; to provide necessary know-how, components, or supplies; and to develop, introduce, and distribute products utilizing our technology. Any strategic alliances may not achieve their strategic objectives, and parties to our strategic alliances may not perform as contemplated.

Any acquisitions that we undertake could be difficult to integrate, disrupt our business, dilute stockholder value, and harm our operating results.

      We expect to review opportunities to buy other businesses or technologies that would complement our current products, expand the breadth of our markets or enhance our technical capabilities, or may otherwise offer growth opportunities. While we have no current agreements or negotiations underway, we may buy businesses, products or technologies in the future. If we make any future acquisitions, we could issue stock that would dilute existing stockholders’ percentage ownership, incur substantial debt, or assume contingent liabilities. Our experience in acquiring other businesses and technologies is limited. Potential acquisitions also involve numerous risks, including the following:

	•	problems assimilating the purchased operations, technologies, or products;
	•	unanticipated costs associated with the acquisition;
	•	diversion of management’s attention from our core businesses;

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	•	adverse effects on existing business relationships with suppliers and customers;
	•	risks associated with entering markets in which we have no or limited prior experience; and
	•	potential loss of key employees of purchased organizations.

      We cannot assure you that we would be successful in overcoming problems encountered in connection with such acquisitions, and our inability to do so could adversely affect our business.

We are subject to environmental regulations.

      Our operations result in the creation of small amounts of hazardous waste, including various epoxies, gases, inks, solvents, and other wastes. Any failure by us to control the use, or adequately restrict the discharge, of hazardous substances could subject us to future liabilities. We are subject to federal, state, and local governmental regulations related to the use, storage, discharge, and disposal of toxic, volatile, or otherwise hazardous chemicals used in our design and manufacturing processes. The amount of hazardous waste produced by us may increase in the future depending on changes in our operations. Our failure to comply with present or future environmental regulations could result in the imposition of fines, suspension of production, or a cessation of operations. Compliance with these regulations could require us to acquire costly equipment or to incur other significant expenses.

The application of the net proceeds of this offering is uncertain.

      We plan to use the net proceeds of this offering to increase our manufacturing capacity through the expansion of facilities and the acquisition of equipment; to fund the continued development of our LCoS microdisplay technology and to develop new display or display-related technologies; and to provide additional working capital to finance the expansion of our business. We may expand our manufacturing capacity and technology development in part through strategic acquisitions, investments, and alliances. We do not, however, have any commitments respecting capital expenditures, acquisitions, investments, or alliances. As a result, management will have wide discretion in the application of the net proceeds of this offering and investors will not have the opportunity to assess the use of proceeds of this offering. Our management may not utilize the proceeds in an effective manner, and the use of the proceeds may not increase our profitability or market value.

Change in control provisions may adversely affect existing stockholders.

      Our restated certificate of incorporation and the Delaware General Corporation Law contain provisions that may have the effect of making more difficult or delaying attempts by others to obtain control of our company, even when these attempts may be in the best interests of stockholders. Our restated certificate also authorizes the board of directors, without stockholder approval, to issue one or more series of preferred stock, which could have voting and conversion rights that adversely affect or dilute the voting power of the holders of common stock. Delaware law also imposes conditions on certain business combination transactions with “interested stockholders.”

Sales of large numbers of shares could adversely affect the price of our common stock.

      All of our outstanding shares are freely tradeable without restriction or further registration. Affiliates must sell all shares they own in compliance with the volume and other requirements of Rule 144, except for the holding period requirements. Our directors and executive officers have agreed that for a period of 90 days after the date of this prospectus, they will not directly or indirectly sell any shares of common stock without the joint consent of Banc of America Securities LLC and Needham & Company, Inc. Sales of substantial amounts of common stock by our stockholders, or even the potential for such sales, may have a depressive effect on the market price of our common stock and could impair our ability to raise capital through the sale of our equity securities.

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We do not pay cash dividends.

      We have never paid any cash dividends on our common stock and do not anticipate that we will pay cash dividends in the foreseeable future. Instead, we intend to apply earnings to the expansion and development of our business.

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

      Certain statements and information contained in this prospectus regarding revenue, margins, expenses, and earnings analysis for fiscal 2000 and thereafter; technological innovations; future products or product development; our product development strategies; potential acquisitions or strategic alliances; the success of particular product or marketing programs; the amounts of revenue generated as a result of sales to significant customers; and liquidity and anticipated cash needs; and other statements contained in this prospectus regarding matters that are not historical facts are forward-looking statements, as such term is defined under applicable securities laws. Forward-looking statements, by their very nature, include risks and uncertainties, many of which are beyond our control. Accordingly, actual results may differ, perhaps materially, from those expressed in or implied by such forward-looking statements. Factors that could cause actual results to differ materially include those discussed under “Risk Factors.”

USE OF PROCEEDS

      The net proceeds to us from the sale of our common stock are estimated to be approximately $126.9 million, assuming a public offering price of $51.67 per share, after deducting the estimated underwriting discounts and offering expenses. We plan to use the net proceeds to increase our manufacturing capacity through the expansion of facilities and the acquisition of equipment; to fund the continued development of our LCoS microdisplay technology and to develop new display or display-related technologies; and to provide additional working capital to finance the expansion of our business. We may expand our manufacturing capacity and technology development in part through strategic acquisitions, investments, and alliances. We do not have any commitments respecting capital expenditures, acquisitions, investments, or alliances. Prior to using the net proceeds, we plan to invest the net proceeds in short-term, interest bearing, investment grade securities.

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PRICE RANGE OF COMMON STOCK

      Our common stock has been listed on the New York Stock Exchange under the symbol “TFS” since December 29, 1994. The following table sets forth the quarterly high and low closing prices of our common stock as reported on the New York Stock Exchange for the periods indicated, as adjusted for the four-for-three stock split effected in December 1999 and the three-for-two stock split to be effected in May 2000.

      As of April 24, 2000, there were approximately 780 holders of record and approximately 7,171 beneficial owners of our common stock. The closing sale price of our common stock on the New York Stock Exchange on April 24, 2000 was $51.67 per share on a split-adjusted basis ($77.50 actual).

DIVIDEND POLICY

      Our policy is to retain earnings to provide funds for the operation and expansion of our business. We have not paid cash dividends on our common stock and do not anticipate that we will do so in the foreseeable future. Furthermore, our credit facility with Imperial Bank does not permit us to pay dividends without the consent of Imperial Bank. The payment of cash dividends in the future will depend on our growth, profitability, financial condition, and other factors that our board of directors may deem relevant.

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CAPITALIZATION

      The following table sets forth our capitalization at March 31, 2000 and as adjusted to reflect the sale of the 2,600,000 shares of common stock offered by us in this offering at an assumed public offering price of $51.67 per share, after deducting estimated underwriting discounts and offering expenses and giving effect to our receipt and application of the net proceeds:

	•	1,797,108 shares issuable upon exercise of options outstanding at March 31, 2000 under our stock option plans, with a weighted average exercise price of $10.09 per share;
	•	539,052 shares available for future issuance under our stock plans; and
	•	140,000 shares issuable upon exercise of outstanding warrants with an exercise price of $8.47 per share.

    For a discussion of our benefit plans, see Note 5 to the Consolidated Financial Statements.

(2)	Adjusted for the three-for-two stock split to be effected on or about May 12, 2000 to stockholders of record on May 1, 2000.

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SELECTED CONSOLIDATED FINANCIAL INFORMATION

      The following table contains selected consolidated financial data and is qualified by the more detailed Consolidated Financial Statements and Notes thereto included elsewhere in this prospectus. The consolidated statement of operations data for the fiscal years ended December 31, 1997, December 31, 1998, and December 31, 1999 have been derived from our Consolidated Financial Statements, which statements have been audited by Arthur Andersen LLP, independent public accountants, and are included elsewhere in this prospectus. The consolidated statement of operations data for the fiscal years ended December 31, 1995 and December 31, 1996 have been derived from our consolidated financial statements, which have been audited by Arthur Andersen LLP but which are not included in this prospectus. Data as of March 31, 2000 and for the three months ended March 31, 1999 and 2000 have been derived from our unaudited Consolidated Financial Statements included elsewhere in this prospectus and, in our opinion, include all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation of the results of operations for the periods presented. Results for the three months ended March 31, 2000 are not necessarily indicative of the results to be expected for the full year. This data should be read in conjunction with the Consolidated Financial Statements and Notes thereto and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” appearing elsewhere in this prospectus.

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF

Overview

      We offer advanced design and manufacturing services to original equipment manufacturers, commonly referred to as OEMs. We specialize in custom display modules utilizing liquid crystal display, or LCD, components and technology. Our LCD modules have varying levels of integration. At a minimum, each module includes an LCD, a custom LCD driver, and a flexible connector. We also provide value-added services, which increase our competitiveness, by assembling additional components onto the module based upon the specific needs of the customer. These additional components include such items as keypads, microphones, speakers, light guides, and optics.

      We currently sell substantially all of our LCD modules to major OEMs. We derived more than 80% of our net sales in 1999 and in the first quarter of 2000 from the mobile handset market. When we win a design program, our customer typically pays all or a portion of our nonrecurring engineering expenses to defray the costs of custom design, as well as the costs of nonrecurring tooling for custom components. The typical program life cycle of a custom-designed LCD module is three to twelve months and includes technical design, prototyping, pilot manufacturing, and high-volume manufacturing. We typically seek large volume programs from major OEMs. The minimum production quantity for an LCD module typically approximates 100,000 units per year, although the production rate for some programs has been as high as 100,000 units per week. The selling price of our LCD modules usually ranges between $5 and $20 per unit. We recognize revenue upon product shipment.

      We experienced substantial growth from 1993 through 1995, primarily as a result of sales to OEMs in the wireless communications industry, which grew substantially during that period. During that period, our primary customer was Motorola. In 1996, our net sales declined, primarily as a result of the phase-out by Motorola of a significant family of programs. In 1997, our net sales returned to pre-1996 levels primarily as a result of several new programs and customers, including Hewlett-Packard. Motorola accounted for 65.1% of our net sales in 1996, 34.6% in 1997, and 63.6% in 1998. In 1999, net sales to Motorola increased at a rate faster than net sales to our other customers and represented 86.1% of our net sales. In the first quarter of 2000, net sales to Motorola represented 84.9% of our net sales. Hewlett-Packard accounted for 32.0% of our net sales in 1997, and less than 10.0% in 1998, 1999, and the first quarter of 2000. This percentage decrease occurred as several older Hewlett-Packard programs matured and ended. In addition, new programs launched by Hewlett-Packard in 1998 and 1999 either did not require our LCD modules or required less complex, lower cost modules.

      During the past several years, we have experienced seasonal quarterly fluctuations in our net sales as our OEM customers developed retail products with shorter product life cycles and phased out older programs early in the year following holiday sales. As a result, sales usually peak in the fourth quarter of a calendar year and are lower in the following quarter.

      Several factors impact our gross margins, including manufacturing efficiencies, product mix, product differentiation, product uniqueness, inventory management, and volume pricing. Currently, significant pricing pressure exists in the LCD module market, especially in higher volume programs in the wireless communications industry. Accordingly, as the production levels of some of our new higher volume programs have increased, the lower standard gross margins on those programs have impacted our overall margins.

      We vertically integrate our manufacturing facilities. In Arizona, we own and operate the largest high-volume LCD production line in North America. We generally use the Arizona facility for the manufacture of more technologically complex and custom high-volume LCDs. We also purchase LCDs from Asian and European sources to provide us an alternate source and to ensure available capacity. In order to take advantage of lower labor costs, we ship our LCDs to our facilities in Manila, the Philippines, or Beijing, China, for assembly into modules.

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      Historically, we have conducted most of our manufacturing operations at our facility in Manila. At that facility, we assemble LCDs into modules and perform certain back-end LCD processing operations. We conduct our operations in Manila under an agreement with a third-party subcontract manufacturer. Under this agreement, the subcontractor supplies direct labor and incidental services required to manufacture our products. We also lease our manufacturing facility from the subcontractor. All indirect manufacturing employees, primarily technicians, supervisors, and engineers, are our employees.

      In early 1998, we decided to open a similar display module manufacturing facility in Beijing. Within six months, we located a temporary manufacturing facility, equipped the facility, trained our personnel, qualified the facility for customers, and qualified products manufactured at the facility. We commenced construction of our permanent Beijing facility in late 1998. This facility was substantially completed in early July 1999, and we began production in the new manufacturing facility late in the third quarter of 1999. All production in Bejing beginning in the fourth quarter of 1999 was conducted at our new permanent facility. We own our Beijing facility through a wholly owned foreign subsidiary.

      Selling, general, and administrative expense consists principally of administrative and selling costs, salaries, commissions, and benefits to personnel and related facility costs. We make substantially all of our sales directly to OEMs, and our sales force consists of a small number of direct technical sales persons. As a result, there is no material cost of distribution in our selling, general, and administrative expense. Selling, general, and administrative expense has increased as we have expanded our business and increased our diversification efforts. In addition, we have recently incurred substantial marketing and administrative expenses in connection with our LCoS microdisplay business.

      Research, development, and engineering expense consists principally of salaries and benefits to scientists, design engineers, and other technical personnel, related facility costs, process development costs, and various expenses for projects, including new product development. Research, development, and engineering expense continues to increase as we develop new display products and technologies, especially LCoS microdisplays, while we continue with our in-house process development efforts related to the high-volume LCD manufacturing line located in Arizona.

      Since 1997, we have been working on the development of LCoS microdisplays. In 1997, we entered into a strategic alliance with National Semiconductor Corporation for the development of LCoS microdisplay products. Under that alliance, National focused on the silicon technologies needed for microdisplays, and we focused on the liquid crystal technologies. In 1999, National decided to close its microdisplay business unit. In connection with that closing, in July 1999, we purchased certain assets and licensed silicon technologies from National relating to LCoS microdisplays. We paid approximately $3.0 million in cash and issued warrants to purchase 140,000 shares of our common stock in the transaction, which valued the transaction at approximately $3.6 million. No additional payments are required under the licenses. We also hired several key technical employees of National to assist in the implementation of the acquired technologies.

      In April 1998, we entered into a strategic relationship with Inviso, Inc., formerly Siliscape, Inc., a privately held company with numerous patents and proprietary technology related to microdisplay development. We acquired a minority equity interest in Inviso for approximately $3.3 million. In March 2000, we acquired an additional interest in Inviso for $500,000, raising our total minority equity interest to $3.8 million. As part of this strategic relationship, we provide proprietary manufacturing capabilities and liquid crystal expertise, and Inviso provides patented and proprietary technologies and components for the joint development of microdisplay products.

      In August 1999, we licensed the microdisplay technology of S-Vision Corporation, which had recently ceased operations. This license is an irrevocable, royalty free, fully paid-up, worldwide license to manufacture and package certain microdisplay products and patented optical engines.

      In October 1999, we entered into an agreement with Tecdis S.p.A., a European-based LCD company, to form an ASIC design center in Chatillon, Italy. The ASIC design center will be known as Dora and will focus on the design of ASICs necessary to drive the LCDs we and Tecdis design for our respective

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      These acquisitions, investments, and licenses will result in increased research, development, and engineering expense as we expand our LCoS microdisplay development efforts in preparation for the commercial introduction of LCoS microdisplay products. We are also considering licensing other technologies from other companies that could be optimized on our LCD manufacturing line as well as entering into further alliances. We expect to continue to devote substantial resources to research and development, especially on our LCoS microdisplay technology and related products. As a result, the actual dollar amount of our research, development, and engineering expense will continue to increase.

Results of Operations

      The following table sets forth, for the periods indicated, the percentage of net sales of certain items in our Consolidated Financial Statements.

Three months ended March 31, 2000 compared to three months ended March 31, 1999

      Net Sales. Net sales increased 70.0% to $39.2 million in the three months ended March 31, 2000 from $23.0 million in the three months ended March 31, 1999. The revenue increase was the result of the increased worldwide demand for mobile handsets.

      Cost of Sales. Cost of sales decreased significantly to 75.0% of net sales in the three months ended March 31, 2000 from 87.6% in the three months ended March 31, 1999. Our cost of sales in the three months ended March 31, 2000 was favorably impacted by operating efficiencies and cost reduction efforts as a result of the continued high levels of production for programs that have been ongoing for several quarters. In addition, the quarter ended March 31, 1999 was adversely impacted by delayed program start-ups, yield issues related to new programs, and start-up expenses for our Beijing facility. In the second quarter, we do not expect cost reduction efforts to offset new, lower pricing for our older programs because production levels are expected to remain relatively constant. In the second half of 2000, a substantial number of new programs for new and existing customers are expected to begin. Many of these new programs are for lower tier mobile handsets and are aggressively priced. Accordingly, we expect our cost of sales as a percentage of net sales to increase during the balance of 2000, although we currently believe that our annual cost of sales as a percentage of net sales in 2000 will remain below that in 1999.

      Selling, General, and Administrative Expense. Selling, general, and administrative expense decreased 4.2% to $2.3 million in the three months ended March 31, 2000 from $2.4 million in the three months ended March 31, 1999. The decrease in SG&A expense was the result of a variety of factors, including reduced recruiting fees. Our goal is to keep SG&A expense approximately the same as 1999 levels. SG&A expense

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      Research, Development, and Engineering Expense. Research, development, and engineering expense increased 55.6% to $2.8 million in the three months ended March 31, 2000 from $1.8 million in the three months ended March 31, 1999. RD&E expense was 7.1% of net sales in the three months ended March 31, 2000 compared to 7.9% in the three months ended March 31, 1999. RD&E expense overall increased as the result of the development of new display products and technologies, primarily LCoS microdisplays. LCoS microdisplays accounted for approximately $1.5 million of RD&E expense in the three months ended March 31, 2000 compared to approximately $866,000 in the three months ended March 31, 1999.

      Other Income (Expense), Net. Other income was $580,000 in the three months ended March 31, 2000 compared to other expense of $185,000 in the three months ended March 31, 1999. The difference was a result of increased interest income and reduced interest expense. Increased interest income was a result of significantly larger cash balances. The decrease in interest expense was primarily a result of the elimination of all indebtedness.

      Provision for (Benefit From) Income Taxes. We had a provision for income taxes of $1.8 million in the three months ended March 31, 2000 compared to a benefit from income taxes of $960,000 for the quarter ended March 31, 1999. This change resulted from having income in the three months ended March 31, 2000 compared to a net loss in the same period in 1999. Generally, the tax rate was lower in the three months ended March 31, 2000 as a result of higher net income in China, which is a low tax rate jurisdiction. We expect our worldwide tax rate in 2000 to be approximately 33%.

      Net Income (Loss). Net income was $3.6 million, or $0.18 per diluted share, in the three months ended March 31, 2000 compared to a net loss of $642,000, or $0.05 per diluted share, in the three months ended March 31, 1999. Excluding LCoS microdisplay related expenses, our net income for our core passive display business for the three months ended March 31, 2000 was approximately $4.9 million, or $0.24 per diluted share.

Year ended December 31, 1999 compared to year ended December 31, 1998

      Net Sales. Net sales increased 55.2% to $147.4 million in 1999 from $95.0 million in 1998. This increase resulted from several new programs, primarily for Motorola. Net sales in the fourth quarter of 1999 were 117.2% greater than net sales in the first quarter of 1999.

      Cost of Sales. Cost of sales decreased to 79.8% of net sales in 1999 from 80.1% in 1998. This percentage decrease resulted primarily from increased operating efficiencies as a result of a significant increase in production volume. Most of those operating efficiencies occurred in the fourth quarter of 1999. In addition, our permanent China manufacturing facility was operational during the entire fourth quarter, and in that new facility we experienced better yields and absorption than when we operated in our temporary China facility.

      Selling, General, and Administrative Expense. Selling, general, and administrative expense increased 53.4% to $11.2 million in 1999 from $7.3 million in 1998. Selling, general, and administrative expense was 7.6% of net sales in 1999 compared to 7.7% in 1998. The increase in selling, general, and administrative expense reflected the continued expansion of our business. In particular, we incurred approximately $2.2 million of marketing and administrative expenditures relating to our LCoS microdisplay business in 1999 compared to approximately $300,000 in 1998.

      Research, Development, and Engineering Expense. Research, development, and engineering expense increased 20.8% to $8.7 million in 1999 from $7.2 million in 1998. Research, development, and engineering expense was 5.9% of net sales in 1999 compared to 7.6% in 1998. Although research, development, and engineering expense associated with in-process developments on the LCD line decreased in 1999, research, development, and engineering expense overall increased as the result of the development of new display products and technologies. For example, LCoS microdisplays accounted for approximately $4.4 million of research, development, and engineering expense in 1999 compared to approximately $2.4 million in 1998.

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      Other Income (Expense), Net. Other expense was $18,000 in 1999 compared to other expense of $42,000 in 1998. We had sharply higher interest income in the fourth quarter of 1999 as a result of increased cash balances and a tax refund. That interest income offset interest expense we had in the first three quarters of 1999 as a result of additional borrowing incurred in connection with our stock repurchase program and increased borrowings on our working capital line of credit. All credit lines were paid off and cash balances increased as a result of our equity offering in the third quarter of 1999.

      Provision for Income Taxes. We recorded a provision for income taxes of $3.0 million in 1999 compared to $1.8 million in 1998. This change resulted primarily from higher pre-tax income in 1999 compared to the same period in 1998. In addition, we recorded tax benefits in the first and fourth quarters of 1999 relating to a state income tax refund. Generally, the tax rate was also lower in 1999 as a result of higher net income in China (which is a low tax rate jurisdiction) compared to a net loss in China in 1998.

      Net Income. Net income increased 165% to $6.9 million, or $0.43 per diluted share, in 1999 from $2.6 million, or $0.17 per diluted share, in 1998. Excluding LCoS microdisplay related expenses, our net income for 1999 was approximately $11.4 million, or $0.71 per diluted share.

Year ended December 31, 1998 compared to year ended December 31, 1997

      Net Sales. Net sales increased 12.3% to $95.0 million in 1998 from $84.6 million in 1997. The increase resulted from several new programs in 1998 for a variety of customers, including Motorola. In 1998, we recorded 56.7% of our net sales in the third and fourth quarters. Net sales in the fourth quarter of 1998 were almost 58.6% greater than in the first quarter of 1998.

      Cost of Sales. Cost of sales increased to 80.1% of net sales in 1998 from 76.5% in 1997. The corresponding decrease in our gross margin was primarily the result of manufacturing variances occurring as a result of the start-up of our new manufacturing facility in Beijing, unfavorable manufacturing yields experienced in connection with the start of several new programs, and increased pricing pressure from customers and competitors, partially as a result of the Asian economic crisis.

      Selling, General, and Administrative Expense. Selling, general, and administrative expense increased 10.6% to $7.3 million in 1998 from $6.6 million in 1997. Selling, general, and administrative expense was 7.7% of net sales in 1998 compared to 7.8% in 1997. Selling, general, and administrative expense increased in absolute terms as a result of increased selling expenses and the addition of administrative personnel. As a result of increased net sales in 1998, however, selling, general, and administrative expense declined slightly as a percent of net sales.

      Research, Development, and Engineering Expense. Research, development, and engineering expense increased 41.2% to $7.2 million in 1998 from $5.1 million in 1997. Research, development, and engineering expense was 7.6% of net sales in 1998 compared to 6.0% in 1997. In 1998, we continued to expand and intensify our research and development efforts on proprietary display products as well as ongoing LCD manufacturing process improvements, including increased use of the LCD manufacturing line in our Arizona facility as a resource for development of these new products.

      Other Income (Expense), Net. Other expense was $42,000 in 1998 compared to other income of $358,000 in 1997. Net interest income in 1998 was $75,000, down from $548,000 in 1997. The decrease in net interest income was the result of investing lower average cash balances during the year as well as increased interest expense as a result of increased debt. This decline in net interest income was partially offset by reduced foreign exchange losses.

      Provision for Income Taxes. We recorded a provision for income taxes of $1.8 million in 1998 compared to $3.3 million in 1997. Our overall tax rate was 40.6% in 1998 compared to 38.9% in 1997. The increased tax rate resulted primarily from losses in Beijing for which we did not receive a tax benefit proportionate to our tax rate elsewhere in the world.

      Net Income. Net income decreased 50.0% to $2.6 million, or $0.17 per diluted share, in 1998 compared to $5.2 million, or $0.32 per diluted share, in 1997.

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Quarterly Results of Operations

      The following table presents unaudited consolidated statement of operations data for each of the nine quarters in the period ended March 31, 2000, as well as such data expressed as a percentage of net sales. We believe that all necessary adjustments have been included to present fairly the quarterly information when read in conjunction with the Consolidated Financial Statements. The operating results for any quarter are not necessarily indicative of the results for any subsequent quarter.