SECURITIES AND EXCHANGE COMMISSION

                             Washington, D.C. 20549
                             ----------------------

                                    FORM 10-K

                             Annual Report Pursuant
                          to Section 13 or 15(d) of the
                         Securities Exchange Act of 1934


                            For the fiscal year ended
                                December 31, 1997

                             Commission file number
                                     0-26694

                 SPECIALIZED HEALTH PRODUCTS INTERNATIONAL, INC.
             (Exact name of registrant as specified in its charter)


               Delaware                                  93-0945003
     (State or other jurisdiction            (IRS employer identification no.)
           of incorporation)

  655 East Medical Drive, Bountiful, Utah 84010            (801) 298-3360
         (Address of principal executive offices)     (Registrant's telephone
                                                    number, including area code)

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

        Title of each class           Name of each exchange on which registered
        -------------------           -----------------------------------------
   Common Stock, $.02 Par Value                         None

         Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the  Securities  Exchange  Act of
1934  during  the  preceding  12 months  (or for such  shorter  period  that the
registrant was required to file such reports),  and (2) has been subject to such
filing requirements for the past 90 days. [X] Yes [ ] No

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

         The aggregate  market value of voting stock held by  non-affiliates  of
the  registrant at March 18, 1998,  was  $30,824,695.  On that date,  there were
12,271,440 outstanding shares of the registrant's common stock.

<PAGE>

SPECIALIZED HEALTH PRODUCTS INTERNATIONAL, INC.


                       TABLE OF CONTENTS TO ANNUAL REPORT
                                  ON FORM 10-K
                          YEAR ENDED DECEMBER 31, 1997


                                     PART I

Item 1.    Business ...........................................................3
Item 2.    Properties ........................................................16
Item 3.    Legal Proceedings .................................................17
Item 4.    Submission of Matters to a Vote of Security Holders ...............17

                                     PART II

Item 5.    Market for Registrant's Common Equity and Related
            Stockholder Matters ..............................................18
Item 6.    Selected Financial Data ...........................................20
Item 7.    Management's Discussion and Analysis of Financial Condition
            and Results of Operations ........................................21
Item 8.    Financial Statements and Supplementary Data .......................31
Item 9.    Changes in and Disagreements with Accountants on Accounting
            and Financial Disclosure .........................................31

                                    PART III

Item 10.   Directors and Executive Officers of the Registrant ................31
Item 11.   Executive Compensation ............................................33
Item 12.   Security Ownership of Certain Beneficial Owners and Management ....36
Item 13.   Certain Relationships and Related Transactions ....................38

                                     PART IV

Item 14.   Exhibits, Financial Statement Schedules, and Reports on
            Form 8-K .........................................................38

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<PAGE>

                                     PART I

Item 1. Business.

General

         The   Company   is   engaged   principally   in  the   development   of
cost-effective,  disposable, proprietary health care products designed to reduce
the incidence of accidental injury in the health care industry,  and thus reduce
the spread of disease. The Company has created a portfolio of proprietary health
care  products  that  are  in  various  stages  of  production,  pre-production,
development and research.  At present, the Company is focusing its resources and
activities  principally  on marketing  products  currently  available  for sale,
preparing   products  nearing   completion  for   manufacturing  and  marketing,
developing  new  products  designed  to reduce the risk of  acquiring  HIV/AIDS,
hepatitis B and other blood-borne  diseases through accidental  needlesticks and
the development of other medical products.

         In August 1996, the Company entered into a distribution  agreement (the
"BDSDS  Distribution  Agreement")  with  Becton  Dickinson  and  Company  Sharps
Disposal  Systems  ("BDSDS")  whereby  BDSDS is marketing and  distributing  the
Company's Safety Cradle(R) sharps containers. Safety Cradle(R) sharps containers
are used for the  disposal of  contaminated  sharps  (i.e.,  needles,  syringes,
intravenous  catheters,  surgical blades,  lancets,  etc.). The Safety Cradle(R)
sharps  containers  covered by the BDSDS  Distribution  Agreement are redesigned
versions of an earlier  container  developed by the Company.  In 1997,  however,
BDSDS did not order the minimum  required  amount of product  under the terms of
the BDSDS Distribution  Agreement and, therefore,  BDSDS' exclusive distribution
rights became nonexclusive.  In addition, the Company gave notice of termination
of the BDSDS Distribution  Agreement,  as it was authorized to do in the case of
BDSDS' failure to purchase the minimum  amount of product  required by the BDSDS
Distribution   Agreement.   The  parties   subsequently  agreed  to  extend  the
termination  date and  exclusivity  provision until May 26, 1998. Both BDSDS and
the Company are working  diligently to negotiate a long term  agreement with the
proper focus and strategy to accelerate sales of the Company's sharps containers
into the home healthcare market. In the meantime, BDSDS has the same opportunity
to sell sharps containers as under the terms of the original agreement.

         The  Company  received  approval  to use  the  name  ExtreSafe(R)  as a
registered  trademark in 1997.  It plans to use this  trademark in safety needle
and lancet products.

         In May 1997,  the  Company  entered  into an  agreement  (the  "License
Agreement") with Becton Dickinson and Company Infusion Therapy Division ("BDIT")
relating to a single  application  of the Company's  ExtreSafe(R)  safety needle
withdrawal  technology (the "Technology").  Pursuant to the terms of the License
Agreement,  BDIT made payments of $1,750,000 and $250,000 to the Company in June
and September 1997, respectively,  and is required to make an additional payment
of  $2,000,000  upon the  earlier  of the date of the  first  sales by BDIT of a
product  utilizing the  Technology  or April 5, 1998.  Of these total  payments,
$3,750,000  represents  advanced  royalties for sales occurring  before the year
2002  and the  $250,000  represents  a  product  development  fee.  BDIT is also
required to pay  ongoing  royalties  to the  Company  based on sales of products
utilizing  the  Technology.  In addition,  beginning in BDIT's fiscal year 2002,
BDIT is required to pay minimum royalties in order to maintain  exclusive rights
under the License Agreement.

         The ExtreSafe(R) Lancet Strip has previously been assembled manually by
the  Company  with some  automated  assembly  beginning  in November  1997.  The
automated production equipment is not yet in full operation. The costs of manual
assembly   exceeded  the  related   revenues  from  the  minimal  sales  of  the
ExtreSafe(R)   Lancet  Strip.   The  use  of  automated   production   equipment
substantially  reduces the cost to manufacture the ExtreSafe(R) Lancet Strip and
increases manufacturing capacity.

         In September 1997, the Company entered into an agreement (the "Alliance
Agreement")  with New Alliance of  Independent  Medical  Distributors,  Inc. dba
Alliance  Medical  ("Alliance  Medical")  which  provides  for  the  Company  to

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<PAGE>

manufacture  and  Alliance  Medical to market and sell the  ExtreSafe(R)  Lancet
Strip on an exclusive basis in hospitals, alternate site (e.g., homecare, plasma
centers and blood banks) and consumer  markets in the United  States.  Effective
March 1, 1998, the Alliance Agreement was converted to a non-exclusive agreement
with no sales  minimums  so that the Company  can pursue  additional  sources of
distribution.  There is no assurance  that the Company will realize  significant
sales under the Alliance Agreement or that the Company will enter into any other
arrangements  with respect to the marketing  and  distribution  of  ExtreSafe(R)
Lancet Strips.

         In December  1997, the Company  entered into a development  and license
agreement (the "J&J Agreement") with Johnson & Johnson Medical,  Inc. ("J&J") to
commercialize two applications of the ExtreSafe(R) safety needle technology. The
J&J Agreement provides for monthly development payments by J&J, sharing of field
related patent costs,  payments for initial periods of low volume manufacturing,
an ongoing royalty stream and a J&J investment in molds,  assembly equipment and
other  capital  costs  related to  commercialization  of each  product.  The J&J
Agreement  also provides for an ongoing joint  cooperative  program  between the
Company and J&J which  derives  future  funding  directly  from sales of Company
created  products,  low volume  manufacturing  revenue  for the  Company  and an
ongoing royalty stream for additional safety products which are jointly approved
for  development.  In  connection  with the J&J  Agreement,  Johnson  &  Johnson
Development  Corporation purchased $2,000,000 of Company securities in a private
placement that closed in January 1998.

         The Company is developing a number of products  using its  ExtreSafe(R)
medical needle  withdrawal  technology.  This  technology  allows a contaminated
needle to be retracted  and  immediately  encapsulated  without  exposure of the
health care worker to the contaminated  needle.  Products under development that
incorporate  the  ExtreSafe(R)  medical  needle  withdrawal  technology  include
ExtreSafe(R)  phlebotomy devices,  ExtreSafe(R)  catheters and several different
ExtreSafe(R)  syringe  applications.  Prototypes of the ExtreSafe(R)  phlebotomy
device, and ExtreSafe(R) catheters have been completed.  The FDA has granted one
510(k) clearance to market a product relating to the ExtreSafe(R) medical needle
withdrawal  technology and a second 510(k)  application with the FDA relating to
an  additional   application  of  the  ExtreSafe(R)  medical  needle  withdrawal
technology  has been filed.  The  Company is planning to develop an  intravenous
flow gauge and additional blood collection devices.

         An affiliate of the Company is developing  filmless  digitized  imaging
technology for which a prototype has been developed.

Company Background

         The  Company  was  incorporated  in  1986  as a Utah  corporation.  The
Company's corporate domicile was changed to the State of Delaware,  and its name
was changed to Russco,  Inc., effective December 20, 1990, by merger into a then
newly created Delaware corporation. The Company had no operations until July 28,
1995. On that date, the Company acquired  Specialized  Health Products,  Inc., a
Utah corporation ("SHP"), through a merger with a subsidiary of the Company (the
"Acquisition").  The Company  changed its name to  "Specialized  Health Products
International,  Inc." ("SHPI") and SHP became a wholly owned subsidiary of SHPI.
The persons  serving as officers and directors of SHP  immediately  prior to the
consummation of the  Acquisition  were elected to the same offices with SHPI and
retained  their  positions  as directors  and officers of SHP. In addition,  the
outstanding  securities of SHP became  outstanding  securities of SHPI. Prior to
the Acquisition, neither SHP nor any affiliate of SHP had an interest in Russco,
Inc.

Products

         Sharps Containers

         In January 1994, SHP acquired the Sharp-Trap(R) name and all technology
developed by Sharp-Trap,  Inc., a Michigan  corporation,  relating to a patented
container  entry system  designed to reduce the risk of accidental  needlesticks
and exposure to contaminated  needles,  blades and instruments when disposing of

                                       4
<PAGE>

such devices.  At the time of SHP's  purchase of the  Sharp-Trap(R)  technology,
Sharp-Trap,   Inc.  was   manufacturing   sharps   container   products  in  two
configurations,  a 0.5 quart and a 1.5 quart (the  "Sharp-Trap(R)"  Containers).
Following  additional research and discussions with medical product distributors
and end users, SHP designed an improved line of sharps containers (the Company's
"Safety Cradle(R)" line) which incorporated  improvements to the basic container
closure  technology to make them safer,  higher quality,  easier to use and less
costly to manufacture than the Sharp-Trap(R) Containers.

         The  self-closing  Safety  Cradle(R)  sharps  containers  allow for the
disposal  of  sharps  in  containers  that  incorporate  a  self-closing  sharps
containment  flap and  incorporate  both a  temporary  and a  permanent  locking
mechanism.  Especially  adapted for alternate site use (alternate  sites include
emergency  vehicle,   in-home  and  insurance  testing),  the  Company's  Safety
Cradle(R) sharps containers provide  convenience and safety for home health care
and other  portable  applications.  In addition,  each of the  Company's  sharps
containers  is designed to be used as a shipping  container for the transport of
medical  products.  The containers  then readily convert at the user's site into
safe and efficient  sharps  disposal  containers.  This special  design  feature
permits the Safety  Cradle(R)  container to fill a unique market niche.  Made of
polypropylene  material,  the Safety Cradle(R) sharps container's novel,  single
injection  molded part lid fits three sizes of containers,  allowing the Company
to offer  products  for a broad  spectrum  of sharps  containment  applications,
especially alternate site use. Because each Safety Cradle(R) sharps container is
formed  from  only two  molded  parts,  unit  manufacturing  costs are low which
enhances the Company's competitive position.

         The Safety Cradle(R) can be used for a variety of purposes, including:

         Safety  Cradle(R)  Sharps Container - all three sizes (1.8, 3.4 and 5.3
quart) can be used as Safety  Cradle(R)  sharps  containers  for the disposal of
contaminated sharps.

         Transporter  - all three sizes are  designed to be shipping  containers
for new medical devices being sent to customers.  Each Safety  Cradle(R)  sharps
container can then be utilized by the customer for sharps disposal.

         Recycler - all three  sizes are  designed  for use by  medical  product
manufacturers  as secured  containers,  so that discarded  sharps may be shipped
back to the manufacturer for recycling or to a sharps disposal facility.

         BDSDS began marketing and  distribution of the Safety  Cradle(R) sharps
containers  in the first  quarter  of 1997  pursuant  to the BDSDS  Distribution
Agreement  pertaining to the Safety Cradle(R) product line. See "--Marketing and
Sales."

         The ExtreSafe(R) Lancet Strip

         Lancets  are  small  devices  containing  needles  or  blades  used  to
penetrate  the  skin,  usually  a  finger,  to  obtain a few  drops of blood for
analysis. Lancets are used by health care workers on patients and by individuals
on themselves, such as by diabetics using insulin. The same safety concerns that
exist with handling needles exist with the handling of lancets,  because lancets
become contaminated after coming into contact with blood.

         There are a number of lancets on the market today. The most common is a
small "nail" type  instrument  which is pressed against the finger at which time
the "nail" penetrates the skin by hand pressure. Some lancets penetrate the skin
with a blade,  which generally  produces better blood flow. The nail type lancet
is often inserted into a spring loaded  activation  device,  about the size of a
large  pen.  The  device  is  pressed  against  the  patient's  finger  which is
penetrated when the spring is triggered. After triggering, the activation device
must be  emptied  and then  reloaded  with  another  lancet  for use on the next
patient.  Activation  devices  currently  marketed by other companies may become
contaminated by blood splattering when the finger is penetrated. To help prevent
contamination, activation devices should be sterilized or disposed of after each
use.  However,  while intended for use on multiple  patients,  these  activation
devices are not designed or intended to be sterilized,  thus increasing the risk
of cross contamination.

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<PAGE>

         The Company's  management believes that the ExtreSafe(R) Lancet product
is easier and faster to use than existing  lancets although only limited testing
has been  conducted to verify this  opinion.  The product has been designed such
that it can only be used one time.  ExtreSafe(R)  Lancets are sold in  cartridge
strips of six lancets per strip, a  configuration  that is patent  protected.  A
lancet strip is loaded into a  convenient,  low-cost,  activation  device (which
comes  packaged with each box of  ExtreSafe(R)  Lancet Strips) that provides for
the safe and convenient  triggering of each lancet. After a lancet is used once,
the blade automatically  returns inside its protective housing and the mechanism
is disabled so that the lancet cannot be reused.  The used lancet is then broken
off the strip and can be  appropriately  discarded into a sharps container which
provides additional  protection.  After using a strip of lancets,  reloading the
activation device with another  cartridge is a simple process.  The blade of the
Company's  ExtreSafe(R)  Lancet Strip has a revolutionary  design and its rotary
spring motion drives the blade both outward to lance and inward for  retraction.
In the opinion of Company  management,  the  ExtreSafe(R)  Lancet Strip's design
makes it less  painful  than nail type  lancets,  although no formal  comparison
testing has been conducted. It is also noteworthy that the part of the lancet in
contact with the patient's  skin prior to lancing is sterile until  contaminated
by the procedure.

Products Under Development

         Company  sponsored   research   activities   resulted  in  expenses  of
$1,191,857  for 1997,  compared with  $1,264,186 and $804,639 for 1996 and 1995,
respectively.   Customers   sponsored  research   activities   relating  to  the
development  of new  products,  services or  techniques  or the  improvement  of
existing  products,  services or techniques for which the Company earned revenue
of $250,000 during 1997 and $0 for the prior two years.  The following  products
are currently under development.

         ExtreSafe(R) Phlebotomy Devices

         The present  method for drawing  larger  amounts of blood from patients
for blood tests involves  insertion of a needle,  which is attached to a barrel,
into a blood  vessel.  Blood is then  obtained by way of vacuum  pressure,  most
often into a small evacuated  tube-like container inserted into the barrel. (The
barrel is commonly known as a Vacutainer(R); Vacutainer(R) is not a trademark of
the  Company.)  After blood is drawn,  the needle is manually  removed  from the
patient.  While the health care worker continues  attending to the patient,  the
Vacutainer(R),  barrel  and  needle are often  placed on a tray,  bed,  table or
otherwise set aside. Afterward,  the needle is usually unscrewed from the barrel
and discarded into a sharps container, while the barrel is often used again with
another patient (which increases the risk of cross contamination). The Company's
ExtreSafe(R)  phlebotomy  devices  provide a safer method.  The devices  quickly
retract the needle from the patient directly into a safe housing, minimizing the
chance of an inadvertent stick by a contaminated needle. Retraction is initiated
by simply depressing a designated  distortable  portion of the housing which has
been designed to ensure that there is no action directed toward or away from the
patient  which might affect the depth of needle  penetration.  Prototypes of the
ExtreSafe(R) phlebotomy device have been completed.

         ExtreSafe(R) Catheters

         Catheters  are devices that are  inserted  into veins or other areas of
the body to allow blood or other fluids to be removed from or delivered into the
patient's body. Contemporary catheter use has problems similar to those faced in
drawing blood.  Inserting a catheter involves a percutaneous (i.e.,  through the
skin)  needlestick  followed by threading  the  catheter  over the needle into a
patient's vein or artery. This method can be unsafe in two respects. First, when
the needle is pulled out of the  catheter,  there is often a discharge  of blood
which could contaminate the health care worker. Second, inadvertent needlesticks
can occur  when the  needle is  withdrawn  from the  catheter  because,  in most
instances, the needle is temporarily left exposed while the patient is tended to
by the  health  care  worker.  Like  the  ExtreSafe(R)  phlebotomy  device,  the
Company's  ExtreSafe(R)  catheters quickly retract the contaminated  needle from
the patient and enclose it safely in a  protective  housing.  Prototypes  of the
ExtreSafe(R) catheter have been completed.

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<PAGE>

         ExtreSafe(R) Syringes

         Another  area where there is  significant  risk of  needlesticks  is in
syringe  use.  Generally,  use of a  needle  for a  medical  procedure  involves
removing a cap over the needle just prior to performing  the  procedure.  In the
past,  medical  personnel   attempted  to  achieve  protection  from  accidental
needlesticks by replacing the needle cap after  performing a procedure,  but the
volume of accidental  needlesticks related to needle cap replacement resulted in
such  practice  being  prohibited.  Medical  personnel  began using  needles and
syringes  having sheaths which could be extended over the exposed needle after a
procedure.  Also,  medical  facilities  began  installing  sharps  containers in
patients  rooms (they had  previously  been  centrally  located) and health care
workers began  disposing of exposed  needles after use in the sharps  containers
found in the patient's  room. The  ExtreSafe(R)  syringe  provides an extendible
needle  which  is  retracted  into a safe  housing  in a manner  similar  to the
retraction of the ExtreSafe(R) phlebotomy devices and catheter systems described
above.

         Filmless Digitized Imaging Technology

         The  procedure  for taking a large area x-ray  image  having  generally
acceptable  resolution and  presenting  the x-ray to an attending  physician for
interpretation  has changed little over the past 40 years. The most common x-ray
image today is taken using film which requires  development  in a darkroom.  The
physician  personally handles the x-ray image, which is generally imprinted on a
14" x 17" plastic sheet. For record keeping  purposes,  hospitals usually retain
x-ray  images for at least six years.  X-ray  storage and  retrieval is a costly
problem for many medical facilities. While some filmless x-ray systems have been
introduced recently, none provide the resolution of standard x-rays.

         In October  1995,  SHP entered into a joint  venture with Zerbec,  Inc.
("Zerbec"),  whereby  Quantum  Imaging  Corporation  ("QIC")  was  organized  to
develop,  manufacture,  distribute and market products and technologies  using a
patented,  solid state,  filmless  digitized  imaging  technology.  The filmless
digitized  imaging  technology  involves  a  method  of  directly  producing  an
electrical  signal  from an image  recorded  on an x-ray  plate.  The  signal is
instantly  digitized  and stored on a CD-ROM  and the same  x-ray  plate is then
available for subsequent  procedures.  The filmless digitized imaging technology
eliminates film as the x-ray image recording  medium and enables x-ray images to
be  translated  to a CD-ROM  format to simplify  their  storage,  retrieval  and
handling.  The Company believes that QIC's filmless digitized imaging technology
can improve the way in which x-ray images are obtained,  interpreted and stored,
while also  providing  clearer  images having higher  resolutions  that are more
easily interpreted than x-ray films. Furthermore, the Company believes that this
technology  could be applicable  for use in x-ray  facilities in mobile  medical
emergency  units  which has not been  achieved  to date in part  because  of the
necessity of carrying chemical handling equipment required for film processing.

         Pursuant to the terms of the joint venture  agreement,  Zerbec assigned
patented filmless  digitized imaging  technology to QIC and will provide ongoing
support for the development and  commercialization of the technology.  The joint
venture  agreement  also  provides  that QIC is to finish  the  development  and
commercialize the filmless  digitized imaging  technology.  A prototype has been
produced  to  demonstrate   image  resolution   compatible  with  breast  cancer
diagnosis.

         At present,  SHP and Zerbec are equal  owners of QIC, but Zerbec has an
option to acquire  two-thirds of SHP's  current fifty percent (50%)  interest in
QIC for one dollar (the "Zerbec Option") because certain funding objectives were
not met. The parties are in the process of  negotiating  an  arrangement so that
the  Zerbec  Option  will be  eliminated  or its  exercise  will be  subject  to
substantial  restriction.  No assurance can be given, however, that an agreement
will be reached that  eliminates  or  materially  restricts  the exercise of the
Zerbec Option or that if such agreement is reached that it will be on terms that
are favorable to the Company.  The Company estimates that between $3,000,000 and
$6,000,000  in new  funding  will  be  required  by QIC  for it to  achieve  its
objectives.

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<PAGE>

Company Strategy

         The  Company's  primary  objective is to establish  itself as a leading
developer of safety medical products.  To achieve this objective,  the Company's
growth strategy is focused on the following five principal elements.

        *         Capturing significant market share of targeted segments of the
                  sharps  container,  lancet,  phlebotomy  device,  catheter and
                  syringe markets.

        *         Broadening the Company's existing products lines and
                  developing new product lines to penetrate related markets.

        *         Seeking additional market opportunities based on the Company's
                  existing or new proprietary technologies.

        *         Developing marketing, license, distribution and development
                  agreements with large medical product organizations.

        *         Arranging generally for the manufacture of these products by
                  reputable manufacturers.

         Sharps Containers

         Consistent with the Company's objective of selling and/or licensing its
products to large medical product organizations, on August 26, 1996, the Company
entered into the BDSDS  Distribution  Agreement relating to the Company's Safety
Cradle(R) sharps container products.  See "--Marketing and Sales." Manufacturing
of the Safety  Cradle(R)  sharps container is being performed by G&F Industries.
To date,  substantially all of the Company's sales revenues have come from sales
of the Company's Safety Cradle(R) sharps container products to purchasers within
the  United  States.  There  is no  assurance  that  the  Company  will  realize
significant sales under the BDSDS Distribution Agreement.

         ExtreSafe(R) Lancets

         In September 1997, the Company entered into the Alliance Agreement with
Alliance  Medical  which  provides for the Company to  manufacture  and Alliance
Medical to market and sell the  ExtreSafe(R)  Lancet Strip on an exclusive basis
in hospitals,  alternate site (e.g.,  homecare,  plasma centers and blood banks)
and consumer markets in the United States. Effective March 1, 1998, the Alliance
Agreement was converted to a  non-exclusive  agreement with no sales minimums so
that the  Company can pursue  additional  sources of  distribution.  There is no
assurance  that the Company  will realize  significant  sales under the Alliance
Agreement  or that the  Company  will  enter  into any other  arrangements  with
respect to the marketing and  distribution  of ExtreSafe(R)  Lancet Strips.  See
"--Marketing and Sales."

         Products in Development

         The Company's ExtreSafe(R) phlebotomy devices,  ExtreSafe(R) catheters,
ExtreSafe(R)  syringes,  intravenous flow gauge, blood collection devices, other
ExtreSafe(R)  medical  needle  withdrawal  technology  products  and the Imaging
Technology are in various stages of research or  development.  The Company plans
to continue development of each of these products/systems  assuming availability
of adequate capital resources. The necessary development,  production equipment,
testing  and  government  approvals,  however,  must be  completed  before  such
products are brought to market.

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<PAGE>

         Future Market Opportunities

         The Company intends to enter additional  markets where it believes that
it can gain  significant  market  share based on  proprietary  technology  or by
capitalizing on the sales and distribution channels it establishes.  There are a
number of possible future applications for the Company's  technology,  but there
can be no  assurance  that the Company  will  commence  development  of any such
products  or  that,  if  commenced,  such  development  will  be  successful  or
profitable.

Marketing and Sales

         The  Company  currently  plans to employ a limited  number of sales and
marketing  personnel;  the precise number will depend on the extent to which the
Company  contracts  with third parties or forms  strategic  alliances with third
parties to market and sell its products.  The Company will seek third parties to
market and  distribute  its products in the United  States and selected  foreign
countries. The Company may enter into contracts,  licensing agreements and joint
ventures with such third  parties  whereby the Company would receive a licensing
fee and/or  royalty  payment  based on the  licensee's  revenues  from  licensed
products.  The Company would likely enter into such licensing  arrangements with
several  companies based on geographical  regions and/or product types,  but may
enter into  exclusive  arrangements  with  individual  companies  having a major
presence in the markets the Company seeks to penetrate.  To date,  substantially
all of the  Company's  revenue has come from sources  within the United  States.
There can be no assurance that the Company will be able to enter into contracts,
license  agreements or joint ventures with third parties on terms  acceptable to
the Company.

         The Company  intends to support the marketing of its products by, among
other things,  attending trade shows and  advertising in industry  publications.
The Company  intends to  distribute  samples of its  products  free of charge to
various health care  institutions and  professionals in the United States and in
selected  foreign  countries to introduce and attempt to create a demand for its
products in the marketplace.

         Sharps Containers

         In  August  1996,  the  Company  entered  into the  BDSDS  Distribution
Agreement with BDSDS whereby BDSDS is marketing and  distributing  the Company's
Safety Cradle(R) sharps containers.  Safety Cradle(R) sharps containers are used
for the disposal of contaminated sharps (i.e.,  needles,  syringes,  intravenous
catheters,   surgical  blades,  lancets,  etc.).  The  Safety  Cradle(R)  sharps
containers covered by the BDSDS Distribution  Agreement are redesigned  versions
of an earlier container developed by the Company.  In 1997,  however,  BDSDS did
not order the minimum  required  amount of product  under the terms of the BDSDS
Distribution  Agreement and,  therefore,  BDSDS' exclusive  distribution  rights
became nonexclusive.  In addition, the Company gave notice of termination of the
BDSDS Distribution  Agreement,  as it was authorized to do in the case of BDSDS'
failure  to  purchase  the  minimum  amount  of  product  required  by the BDSDS
Distribution   Agreement.   The  parties   subsequently  agreed  to  extend  the
termination  date and  exclusivity  provision until May 26, 1998. Both BDSDS and
the Company are working  diligently to negotiate a long term  agreement with the
proper focus and strategy to accelerate sales of the Company's sharps containers
into the home healthcare market. In the meantime, BDSDS has the same opportunity
to sell sharps containers as under the terms of the original agreement.

         There is no  assurance  that the Company  will be able to continue  the
BDSDS  Distribution  Agreement  after May 26,  1998 on  satisfactory  terms.  In
addition,  sales of the Company's  Safety  Cradle(R)  sharps  containers  may be
minimal and there is no assurance that the Company will ever realize significant
sales of its Safety Cradle(R) sharps containers.

         ExtreSafe(R) Lancets

         The ExtreSafe(R) Lancet Strip has previously been assembled manually by
the  Company  with some  automated  assembly  beginning  in November  1997.  The
automated production equipment is not yet in full operation. The costs of manual

                                       9
<PAGE>

assembly   exceeded  the  related   revenues  from  the  minimal  sales  of  the
ExtreSafe(R)   Lancet  Strip.   The  use  of  automated   production   equipment
substantially  reduces the cost to manufacture the ExtreSafe(R) Lancet Strip and
increases manufacturing capacity.

         In September 1997, the Company entered into the Alliance Agreement with
Alliance  Medical  which  provides for the Company to  manufacture  and Alliance
Medical to market and sell the  ExtreSafe(R)  Lancet Strip on an exclusive basis
in hospitals,  alternate site (e.g.,  homecare,  plasma centers and blood banks)
and consumer markets in the United States. Effective March 1, 1998, the Alliance
Agreement was converted to a  non-exclusive  agreement with no sales minimums so
that the  Company can pursue  additional  sources of  distribution.  There is no
assurance  that the Company  will realize  significant  sales under the Alliance
Agreement  or that the  Company  will  enter  into any other  arrangements  with
respect to the marketing and distribution of ExtreSafe(R) Lancet Strips.

         Other Products

         In May 1997, the Company  entered into the License  Agreement with BDIT
relating to a single  application  of the Company's  ExtreSafe(R)  safety needle
withdrawal technology. Pursuant to the terms of the License Agreement, BDIT made
payments of $1,750,000  and $250,000 to the Company in June and September  1997,
respectively,  and is required to make an additional  payment of $2,000,000 upon
the  earlier of the date of the first sales by BDIT of a product  utilizing  the
Technology  or April 5, 1998.  Of these total  payments,  $3,750,000  represents
advanced  royalties  for sales  occurring  before the year 2002 and the $250,000
represents  a product  development  fee.  BDIT is also  required  to pay ongoing
royalties to the Company based on sales of products utilizing the Technology. In
addition,  beginning in BDIT's fiscal year 2002, BDIT is required to pay minimum
royalties in order to maintain exclusive rights under the License Agreement.

         In December 1997,  the Company  entered into the J&J Agreement with J&J
to commercialize two applications of the ExtreSafe(R)  safety needle technology.
The J&J Agreement provides for monthly  development  payments by J&J, sharing of
field  related  patent  costs,  payments  for  initial  periods  of  low  volume
manufacturing, an ongoing royalty stream and a J&J investment in molds, assembly
equipment and other capital costs related to  commercialization of each product.
The J&J Agreement also provides for an ongoing joint cooperative program between
the Company and J&J which derives future funding  directly from sales of Company
created  products,  low volume  manufacturing  revenue  for the  Company  and an
ongoing royalty stream for additional safety products which are jointly approved
for  development.  In  connection  with the J&J  Agreement,  Johnson  &  Johnson
Development  Corporation  also purchased  $2,000,000 of Company  securities in a
private placement that closed in January 1998.

         The Company  currently intends to market and sell its other products in
the United States and selected  foreign  countries  through third  parties.  The
Company's plan for the sales and distribution of its products is to target major
segments of the respective markets for those products,  including major hospital
and  institutional  buying groups,  pharmaceutical  companies,  distributors and
wholesalers, and government and military agencies. The Company intends to market
and  distribute  its products  through one or more  companies  that have a major
presence  in these  major  segments.  The  Company  may  enter  into  contracts,
licensing  agreements  and joint  ventures with such third  parties  whereby the
Company  would  receive a  licensing  fee and/or  royalty  payment  based on the
licensee's revenues from licensed products.

         License and distribution  arrangements,  such as those discussed above,
create  certain  risks for the  Company,  including  (i)  reliance  for sales of
products  on  other  parties,  and  therefore  reliance  on the  other  parties'
marketing ability, marketing plans and credit-worthiness;  (ii) if the Company's
products are marketed under other parties' labels,  goodwill associated with use
of the  products may inure to the benefit of the other  parties  rather than the
Company;  (iii) the Company may have only  limited  protection  from  changes in
manufacturing  costs and raw materials costs; and (iv) if the Company is reliant
on other parties for all or  substantially  all of its sales, the Company may be
limited in its ability to negotiate with such other parties upon any renewals of
their agreements.  Further,  because such arrangements are generally expected to

                                       10
<PAGE>

provide the Company's  marketing  partners with certain  elements of exclusivity
with respect to the  products to be marketed by those  partners,  the  Company's
success will be highly dependent on the results obtained by its partners.

         The Company is not permitted to sell products based on its ExtreSafe(R)
medical  needle  withdrawal  technology  for commercial use in the United States
until  regulatory  approval  is  obtained.  The FDA  has  granted  one  "510(k)"
clearance  to market a  product  relating  to the  ExtreSafe(R)  medical  needle
withdrawal technology and the Company has filed a second 510(k) application with
the FDA relating to an additional application of the ExtreSafe(R) medical needle
withdrawal  technology.   The  Company  must  also  comply  with  the  laws  and
regulations  of the various  foreign  countries  in which the Company  sells its
products.  Certain  foreign  countries may only require that the Company  submit
evidence of the FDA's  pre-market  clearance of the relevant  products  prior to
selling those products in such countries.  However,  some foreign  countries may
require additional testing and approval. See "--Government Regulation."

Industry

         Market

         Health care is one of the largest industries in the world and continues
to grow. There is increasing  demand in the health care market for products that
are safer,  more efficient and  cost-effective.  The Company's  products  target
segments of this market.  While traditional,  non-safety  products in the market
segments  which the Company seeks to address  compete  primarily on the basis of
price,  the  Company  expects to compete  generally  on the basis of health care
worker  safety,  ease of use,  reduced  cost of  disposal,  patient  comfort and
compliance  with  OSHA  regulations,  but not on the  basis of  purchase  price.
However,  the  Company  intends to be  competitive  on price  with other  safety
devices. The Company believes that when all indirect costs (disposal of needles,
and testing,  treatment and workers compensation expense) related to needlestick
injuries are considered,  the Company's  products will compete  effectively both
with  "traditional"  products  and with the  safety  products  of the  Company's
competitors.

         Accidental Needlesticks

         Needles  for  hypodermic  syringes,  phlebotomy  sets  and  intravenous
catheters  are used for  injecting  drugs and other fluids into the body and for
drawing  blood and other fluids from the body.  Hypodermic  needles are used for
the injection of drugs,  phlebotomy  sets for the drawing of blood and catheters
for the infusion of drugs and nutrients. There is an increasing awareness of the
potential  danger of  infections  and  illnesses  that  result  from  accidental
needlesticks  and of the need for safer  needle  devices to reduce the number of
accidental needlesticks that occur.

         Infections  contracted  as a result of  accidental  needlesticks  are a
major concern to health care institutions,  health care workers,  sanitation and
environmental  services  workers and  certain  regulatory  agencies.  Accidental
needlesticks  may result in the spread of infectious  diseases such as hepatitis
B, HIV (which may lead to AIDS), diphtheria, gonorrhea, typhus, herpes, malaria,
rocky mountain spotted fever,  syphilis and  tuberculosis.  One study found that
during clinical training twenty-two percent of medical students had received one
or more  contaminated,  penetrating  sharps injuries.  It has also been reported
that fifty percent of ward nurses, seventy-one percent of ward doctors and fifty
percent of emergency  staff had received this type of injury during the previous
two years. Needlestick injury is a leading cause of exposure to life threatening
illnesses.

         Needlesticks  from  blood-filled  hollow-bore  needles  are the leading
cause of  occupationally  acquired  hepatitis B and it has been reported that as
many as forty percent of  healthcare  workers who sustain  needlestick  injuries
become infected with hepatitis B. Accidental needlesticks also expose healthcare
workers to the hepatitis C for which no cure exists. Hepatitis C infections will
lead to chronic infections and intermittent  viremia,  which in turn can lead to
cirrhosis or cancer of the liver.

                                       11
<PAGE>

         The  majority of health care  workers'  adverse  exposures to blood are
either product related (e.g., needlesticks) or  could be prevented by the use of
appropriate products.  The Company believes that pressure is increasing from the
government and private  sectors for the health care industry to develop  medical
devices  that will  provide a safer  working  environment  for  health  care and
related  workers and  patients.  The Company's  products  attempt to address the
demand for  medical  devices  that  reduce the risk of  accidental  exposure  to
blood-borne diseases.

         Disposal of Sharps

         There is extensive everyday use of sharps by doctors,  nurses and other
health care workers who are in danger of  accidental  exposure to  transmittable
blood-borne  diseases  such as AIDS and hepatitis B. The most  extensively  used
sharp is the medical needle.

         OSHA  mandates  the  use of  special  containers  for  sharps  disposal
purposes to reduce the  incidence  of  accidental  transmission  of  blood-borne
diseases.  OSHA  requires  that the  design of sharps  containers  meet  certain
minimum standards of safety. It also makes  recommendations  with respect to the
safe handling of needles.  Recapping and improper disposal of needles are causes
of  needlestick  injuries.  OSHA  regulations  prohibit  recapping  or purposely
bending  or  breaking  needles.  OSHA  recommends  that  after  use,  disposable
syringes,  needles  and other  sharp  items be placed in  closable,  disposable,
puncture-resistant  containers  that are leak  proof on the sides and bottom and
labeled according to OSHA guidelines.

Patents and Proprietary Rights

         The Company's policy is to seek patent protection for all developments,
inventions and  improvements  that are patentable and which have potential value
to  the  Company  and  to  protect  as  trade  secrets  other  confidential  and
proprietary   information.   The  Company  intends  to  vigorously   defend  its
intellectual property rights to the extent its resources permit.

         The  Company  owns six  United  States  patents  and has  other  patent
applications  pending (in the United  States and in other  countries)  which are
directly applicable to the Company's Safety Cradle(R) sharps container products.
The  Company  also  owns  three  United  States   patents  and  allowed   patent
applications  relating to its ExtreSafe(R) Lancet Strip, and seven United States
patents and allowed patent  applications  relating to its  ExtreSafe(R)  medical
needle  withdrawal  technology.  The Company has  additional  United  States and
international patent applications pending. None of the patents referred to above
expires before April 1, 2006.

         QIC owns three United States patents,  and has three Canadian  patents,
relating to its filmless digitized imaging  technology.  These patents expire in
May 2001,  September  2002 and September  2005. The Company has filed for QIC an
additional United States patent application  relating to the technology owned by
QIC.

         The future  success of the Company may depend upon the  strength of its
intellectual property. The Company believes that the scope of its patents/patent
applications  is  sufficiently  broad to prevent  competitors  from  introducing
devices of similar  novelty and design to compete with its current  products and
that such patents and patent  applications are or will be valid and enforceable.
There is no assurance, however, that if such patents are challenged, this belief
will prove correct. In addition,  patent applications filed in foreign countries
and patents granted in such countries are subject to laws,  rules and procedures
which  differ  from  those  in the  United  States.  Patent  protection  in such
countries may be different from patent protection  provided by U.S. laws and may
not  be  as  favorable  to  the  Company.  The  Company  plans  to  timely  file
international  patents in all  countries in which the Company is seeking  market
share.

         The Company is not aware of any patent  infringement claims against it.
Litigation  to enforce  patents  issued to the Company,  to protect  proprietary
information  owned by the  Company,  or to defend the  Company  against  alleged
infringement  by the Company of the rights of others may occur.  Such litigation

                                       12
<PAGE>

would be costly,  could  divert  resources  of the  Company  from other  planned
activities, and could have a material adverse effect on the Company's results of
operations and financial condition.

Manufacturing

         The  Company  has  designed,  paid for the  construction  of,  and owns
various molds and machinery  used to  manufacture  its Safety  Cradle(R)  sharps
containers.  The Company  contracts for the manufacture of its Safety  Cradle(R)
sharps  containers  with an  unaffiliated  manufacturing  company.  In the past,
polypropylene  resin,  the major plastic  material used in the Company's  Safety
Cradle(R)  sharps  containers,  has been in short supply for limited  periods of
time.  While  alternative   manufacturers   exist,   changes  in  the  Company's
manufacturer  or an  unforeseen  shortage in the supply of  polypropylene  could
disrupt  production  schedules,  increase the price of polypropylene,  and could
materially and adversely affect the Company.

         The  Company's  automated  equipment  that is used to  manufacture  the
ExtreSafe(R)  Lancet Strip is currently being operated by the manufacturer.  The
Company intends to transfer this automated equipment to another manufacturer for
use by such other  manufacturer.  The  Company's  other  products are in various
stages of development  and are not currently being  manufactured.  The materials
used to produce the  Company's  products are  generally  widely  available.  The
Company does not anticipate difficulty in obtaining such materials.  At present,
there are a number  of  manufacturers  that  could  produce  lancet  and  needle
retraction  products and a number of suppliers  could supply the necessary parts
and materials.

Competition

         The health  care  products  market is highly  competitive.  Many of the
Company's  competitors  have longer  operating  histories and are  substantially
larger, better financed and better situated in the market than the Company.

         The  leading  suppliers  in the  sharps  container  market  are  Baxter
International,  Inc., Becton Dickinson and Company,  Devon Industries,  Inc. and
Sage Products,  Inc.  There are also numerous  smaller  suppliers.  A variety of
sharps  disposal  products have been introduced  into the  marketplace.  Some of
these disposal  containers  accommodate only the needle while others accommodate
the needle, syringe and limited surgical instruments. The majority of the sharps
containers on the market,  however,  allow contaminated  instruments to fall out
when the container is inverted. Many of these other products are unstable if not
supported by wall supports or other apparatus. The Company believes its products
are more stable,  safer and more effective than competitively priced products on
the market. In addition,  to the best of the Company's  knowledge,  there are no
sharps  disposable  transporters  or  recycler/transporter  type products on the
market today.

         The leading  suppliers in the lancet  market are Becton  Dickinson  and
Company,  Surgicutt,  Inc.,  Miles,  Inc.,  Diagnostic  Corporation,  Boehringer
Mannheim,  Inc. and  Sherwood  Medical  Company,  Inc.  There are also  numerous
smaller suppliers.  To the best of the Company's knowledge,  there are no safety
lancets on the market  today that operate in a manner  similar to the  Company's
ExtreSafe(R)  Lancet Strip (i.e.,  lances skin with a rotary spring driven blade
that drives the blade outward to lance and inward for retraction).

         The leading  suppliers  of standard  needles are Becton  Dickinson  and
Company, Sherwood Medical Company, Inc. and Terumo Medical Corporation of Japan.
The Company is aware of no products on the market today that are  comparable  to
its ExtreSafe(R) needle withdrawal devices (i.e., products that are transversely
activated to automatically  extract a contaminated  needle and which immediately
retract the needle into a safe housing).  Applications  for the Company's needle
retraction  technologies may also be found in phlebotomy  devices,  percutaneous
catheter insertion devices, syringes, and other medical needle devices.

                                       13
<PAGE>

         While traditional, non-safety products in the market segments which the
Company seeks to address  compete  primarily on the basis of price,  the Company
expects to  compete  on the basis of health  care  worker  safety,  ease of use,
reduced cost of disposal,  patient comfort and compliance with OSHA regulations,
but not on the basis of price except with respect to comparable safety products.
However, the Company believes that when all indirect costs (disposal of needles,
testing,  treatment  and workers'  compensation  expense)  related to accidental
needlestick injuries are considered,  the Company's products compete effectively
both with  "traditional"  products and with the safety products of the Company's
competitors.

Research and Development/Acquisition of Technology

         The  Company  has  devoted a  substantial  portion  of its  efforts  to
acquiring  and  designing  and  developing  health care  products.  Research and
development  costs were  $1,191,857,  $1,264,186 and $804,639 for 1997, 1996 and
1995,  respectively.   The  Company  plans  to  attempt  to  acquire  additional
technologies that it determines support its business strategy. In addition,  the
Company plans to continue  research and development on its current  products and
with respect to possible new products.  There is no assurance that the Company's
research and development activities will prove effective.

Government Regulation

         The Company and its  products  are  regulated  by the FDA,  pursuant to
various  statutes,  including the FD&C Act, as amended and  supplemented  by the
Medical Device  Amendments of 1976 (the "1976  Amendments") and the Safe Medical
Devices Act of 1990. Pursuant to the 1976 Amendments, the FDA classifies medical
devices  intended for use with humans into three classes,  Class I, Class II and
Class III. The controls applied to the different  classifications  are those the
FDA believes are necessary to provide reasonable assurance that a device is safe
and  effective.  Many  Class  I  devices  have  been  exempted  from  pre-market
notification requirements by the FDA. These products can be adequately regulated
by the same types of controls  the FDA has used on devices  since the passage of
the FD&C Act in 1938. These "general  controls"  include  provisions  related to
labeling,  producer registration,  defect notification,  records and reports and
good manufacturing  practices.  The good manufacturing  practice  regulation has
been  recently  replaced  by a  more  comprehensive  Quality  System  Regulation
("QSR").  QSRs include  implementation  of quality assurance  programs,  written
manufacturing  specifications and processing  procedures,  written  distribution
procedures  and record keeping  requirements.  Class II devices are products for
which the  general  controls  of Class I devices  are deemed not  sufficient  to
assure the  safety and  effectiveness  of the  device and thus  require  special
controls.  Special controls for Class II devices include performance  standards,
post-market  surveillance,  patient  registries  and the use of FDA  guidelines.
Standards  may  include  both  design and  performance  requirements.  Class III
devices have the most restrictive  controls and require  pre-market  approval by
the  FDA.   Generally,   Class  III  devices  are  limited  to  life-sustaining,
life-supporting or implantable  devices.  The FDA has further  established three
tiers or levels of  scientific  review - Tier 1, Tier 2, and Tier 3 within  each
class.  Submissions for Tier 1 devices receive limited review while  submissions
for Tier 2 and 3 devices receive more comprehensive reviews.

         Section  510(k)  of the  FD&C Act  requires  individuals  or  companies
manufacturing medical devices intended for use with humans to file a notice with
the FDA at  least  90 days  before  introducing  a  product  not  exempted  from
notification   requirements   into  the  marketplace.   The  notice  (a  "510(k)
Notification")  must state the class in which the device is  classified  and the
actions taken to comply with performance  standards or pre-market approval which
may be needed if the device is a Class II or Class III device, respectively.  If
a company states the device is unclassified,  it must explain the basis for that
determination.

         In some cases  obtaining  pre-market  approval can take several  years.
Product clearance pursuant to a 510(k) Notification can be obtained in much less
time. In general,  clearance of a 510(k)  Notification for a Class II device may
be obtained if the Company can establish  that the new device is  "substantially
equivalent" to another device of that Class already on the market. This requires
the new device to have the same  intended  use as a legally  marketed  predicate
device and have the same technological  characteristics as the predicate device.

                                       14
<PAGE>

If the technological  characteristics are different, the new device can still be
found to be "substantially equivalent" if information submitted by the applicant
(including clinical data if requested) supports a finding that the new device is
as safe and effective as a legally  marketed device and does not raise questions
of safety or efficacy that are different from the predicate device.

         The Company has  received a 510(k)  Notification  from the FDA that its
Sharp-Trap(R) sharps containers are substantially equivalent to legally marketed
predicate devices.  The Company's Safety Cradle(R) sharps containers are subject
to the general controls of the FD&C Act and the additional  controls  applicable
to Class II devices.  The Company has  received a clearance  on a second  510(k)
Notification  for its sharps  containers which includes all areas of use for the
Safety Cradle(R) sharps  container.  The Company has received FDA clearance on a
510(k) notification on a phlebotomy device.

         OSHA also  requires,  in part,  that  sharps  containers  be  closable,
disposable,  puncture-resistant,   leak  proof  on  the  sides  and  bottom  and
appropriately  labeled.  The Company's Safety Cradle(R) sharps containers are in
compliance with present OSHA regulations.  Future regulations,  however,  may be
imposed which could have a material adverse effect on the Company.

         The Company's ExtreSafe(R) Lancet Strip is a Class I Tier I device. The
ExtreSafe(R) Lancet Strip is exempt from pre-market  notification  requirements.
The Company must adhere to QSR  regulations,  however,  in  connection  with its
manufacture of the ExtreSafe(R) Lancet Strip.

         The Company's  follow-on  products  (i.e.,  other products based on its
ExtreSafe(R)  medical needle withdrawal  technology,  intravenous flow gauge and
blood collection  device) are still in the development stage. In March 1995, the
FDA issued a draft guidance document on 510(k) Notifications for medical devices
with sharps injury prevention  features, a category that would cover most of the
Company's  ExtreSafe(R)  technology products.  The draft guidance  provisionally
placed this  category of  products  into Class II Tier 3 for  purposes of 510(k)
review,   meaning  that  such  products  will  be  subject  to  the  FDA's  most
comprehensive  and rigorous review for 510(k) products.  The draft guidance also
states that in most cases, FDA will accept, in support of a 510(k) Notification,
data  from  tests  involving  simulated  use of such a product  by  health  care
professionals,  although in some cases the agency might require actual  clinical
data.

         The Company  expects its other follow-on  products  (i.e.,  intravenous
flow gauge and blood  collection  device) to be categorized as Class II devices.
The  Company  also  expects  that  these  follow-on  products  will not  require
pre-market  approval  applications but will be eligible for marketing  clearance
through  the  510(k)   Notification   procedure  based  upon  their  substantial
equivalence to previously marketed devices.

         Although  the  510(k)  Notification  clearance  process  is  ordinarily
simpler and faster than the pre-market approval application  process,  there can
be no assurance  that the Company will obtain 510(k)  Notification  clearance to
market its products, that the Company's products will be classified as set forth
above, or that, in order to obtain 510(k)  Notification  clearance,  the Company
will  not  be  required  to  submit  additional  data  or  meet  additional  FDA
requirements  which could  substantially  delay  sales and add to the  Company's
expenses.  Moreover,  any 510(k)  Notification  clearance,  if obtained,  may be
subject to conditions on the marketing or  manufacturing of the related products
which could impede the Company's ability to market or manufacture such products.

         In addition to the requirements  described above, the FD&C Act requires
that all medical device  manufacturers  and  distributors  register with the FDA
annually  and provide the FDA with a list of those  medical  devices  which they
distribute  commercially.  The FD&C Act also requires that all  manufacturers of
medical devices comply with labeling  requirements  and  manufacture  devices in
accordance with QSRs. QSRs require that companies manufacture their products and
maintain their documents in a prescribed  manner with respect to  manufacturing,
testing,  and quality  control.  The FDA's Medical Device  Reporting  regulation
requires  that  companies  provide  information  to the FDA on death or  serious
injuries alleged to have been associated with the use of their products, as well

                                       15
<PAGE>

as  product  malfunctions  that would  likely  cause or  contribute  to death or
serious injury if the malfunction  were to recur.  The FDA further requires that
certain  medical  devices not cleared  with the FDA for  marketing in the United
States have FDA approval before they are exported.  The Company is registered as
a  manufacturer  with the FDA. To date, no incidents  have occurred with Company
products that have  necessitated  submission  of a Medical  Device Report to the
FDA.

         The FDA inspects medical device manufacturers and distributors, and has
broad  authority  to order  recalls of medical  devices,  to seize  noncomplying
medical devices,  to enjoin and/or impose civil penalties on  manufacturers  and
distributors   marketing   non-complying  medical  devices,  and  to  criminally
prosecute  violators.  Noncompliance  with FDA regulations could have a material
adverse effect on the Company.

         In addition to the laws and  regulations  enforced by the FDA and OSHA,
the Company is subject to government  regulations  applicable to all businesses,
including,  among others, regulations related to occupational health and safety,
workers' benefits and environmental protection.

         Distribution  and sales of the  Company's  products in countries  other
than the United States is subject to regulations in those  countries.  There can
be no assurance that the Company will be able to obtain the approvals  necessary
to market its products outside the United States.

Seasonality of Business

         Sales of the Company's  products  generally are not subject to seasonal
variations.

Backlog

         There is no  material  backlog  of  unfilled  orders  of the  Company's
products.

Employees

         As of March 18, 1998, the Company  employed  sixteen people,  including
seven research and development  employees,  three sales and marketing employees,
five accounting and administrative employees and one quality assurance employee.
The Company expects to add employees,  principally in the areas of marketing and
research and  development.  The planned increase in personnel is based primarily
on expected  increases in production and sales. The Company's  employees are not
represented by any labor union,  and the Company believes its relations with its
employees are good.

Item 2. Properties.

         The Company's principal offices are located at 655 East  Medical Drive,
Bountiful,  Utah,  under  terms of a lease  with an  unaffiliated  lessor  which
expires in June 1998, with an annual rent of  approximately  $72,000.  The lease
covers  approximately  5,200  square  feet of space  which is too  small for the
Company's  needs.  The  Company has  received  notice that the lease will not be
renewed.  The Company also leases  approximately 1,000 square feet of additional
office space in Bountifil,  Utah on a  month-to-month  basis at a rate of $1,800
annually.

         With the  expiration  of the lease  relating to the  Company's  primary
office facilities,  the Company has located and anticipates entering into a five
year lease for 14,344  square  feet of office  space at an annual  lease rate of
approximately  $230,000  for the  first  year of the  lease  which  rate will be
increase at a rate of four  percent  per year during the lease term.  Management
has determined  that an increase in the total space expected to be leased by the
Company is necessary  to  accommodate  the expected  growth of the Company,  its
employees  and  activities.  These  increases  are dictated by  requirements  of
existing and  anticipated  agreements  which require  expanded  development  and
related efforts,  including low volume manufacturing.  The Company believes that
the increase in space will be adequate to meet the needs of current and expected
growth for the forseeable future.

                                       16
<PAGE>

         The Company also owns production  molds for the Safety Cradle(R) sharps
containers  and   ExtreSafe(R) Lancet  Strip  and  related  automated   assembly
equipment.  At present the molds and automated  assembly equipment are not being
fully utilized.  The Company anticipates,  however,  that it will be required to
purchase additional molds for various products that are under development.


Item 3. Legal Proceedings.

         In April 1997, the Company entered into an agreement with Leerink Swann
& Company  ("Leerink"),  whereby Leerink agreed to assist the Company in raising
funds in a  private  placement  of equity  securities.  Sufficient  funding  was
deposited into escrow to hold an initial closing, but the closing did not occur.
Leerink alleges that the Company refused to close on the placement.  The Company
alleges that the closing did not occur because Leerink, as a condition precedent
to closing,  made certain  pre-closing demands that went far beyond the terms of
the agreement and which demands Company management believes were not in the best
interests of the Company or its stockholders. In August 1997, Leerink filed suit
in the United States District Court for the District of  Massachusetts  alleging
breach of contract and  violation  of M.G.L.  c.93A,  ss.11.  Leerink is seeking
compensatory  damages exceeding  $230,000,  113,251 warrants to purchase 113,251
shares of the Company's Common Stock,  treble damages and reasonable  attorneys'
fees and costs.

         In October 1997,  the Company filed a counterclaim  alleging  breach of
contract and violation of M.G.L.  c.93A, ss.11. The Company is seeking in excess
of $60,000 in money damages,  treble  damages,  reasonable  attorneys'  fees and
costs.

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

         The Company  held its annual  meeting of  stockholders  on December 10,
1997, at which meeting  certain members of the Company's Board of Directors (the
"Board") were elected.  The Company's  Board is divided into three classes.  One
class of  directors  is elected at each  annual  meeting of  stockholders  for a
three-year  term.  Each year a  different  class of  directors  is  elected on a
rotating  basis.  The terms of Gale H. Thorne and Bradley C. Robinson  expire in
2000,  the term of Robert  R.  Walker  expires  in 1999 and the term of David A.
Robinson expires in 1998.

         Gale H.  Thorne and  Bradley C.  Robinson,  both of whom are  currently
directors of the Company,  were nominated by the Board for election to the class
whose terms expire at the 2000 annual  meeting.  The  stockholders  then elected
Gale H. Thorne by a vote of  4,741,997  for and 22,000  withheld  authority  and
elected  Bradley C.  Robinson  by a vote of  4,741,997  for and 22,000  withheld
authority.


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                                       17
<PAGE>

                                     PART II


Item 5.  Market for Registrant's Common Equity and Related Stockholder Matters.


Dividend Policy

         To date,  the Company has not paid  dividends on its common stock.  The
payment of  dividends,  if any,  in the future is within the  discretion  of the
Board and will depend upon the Company's earnings,  its capital requirements and
financial condition,  and other relevant factors.  See "Management's  Discussion
and Analysis of Financial  Condition and Operating  Results." The Board does not
intend to declare any dividends in the foreseeable  future,  but instead intends
to retain all earnings, if any, for use in the Company's operations.

Share Price History

         The  Company's  common  stock (the  "Common  Stock") has been quoted on
Nasdaq  Small-Cap Market since October 1995 under the trading symbol "SHPI." The
following  table sets forth the high and low bid information of the Common Stock
for the periods indicated.  On March 18, 1998, the reported high ask and low bid
prices  of  the  Common   Stock  were   $2.75  and   $2.6875.   Note  that  such
over-the-counter  market quotations reflect inter-dealer prices,  without retail
mark-up,  mark-down  or  commission  and  the  quotations  may  not  necessarily
represent actual transactions in the Common Stock.

       Quarter Ended                            High              Low

       1996
       March 31.........................        $11.50           $7.375
       June 30..........................        $11.75            $4.25
       September 30.....................        $4.625           $2.375
       December 31......................       $3.5625            $2.50

       1997
       March 31.........................       $3.5625            $2.75
       June 30..........................       $3.3675            $2.00
       September 30.....................       $2.3125            $2.00
       December 31......................       $2.1875            $1.00

       1998
       March 31 (through March 18)......        $3.125          $2.6875

Holders of Record

         At March 18,  1998,  there were 344 holders of record of the  Company's
Common Stock. The number of holders of record was calculated by reference to the
Company's stock transfer agent's books.

Issuance of Securities

         In  January  1998,  the  Company  completed  a private  placement  (the
"January  Private  Placement")  wherein it raised gross  proceeds of  $5,220,000
through  an  offering  of units to  accredited  investors  for $2 per unit.  The
securities  were issued  under Rule 506 of  Regulation D and Section 4(2) of the
Securities Act of 1933, as amended (the "Securities  Act").  Each unit consisted

                                       18
<PAGE>

of one share of Common Stock and one Series D Warrant.  Pursuant to requirements
of the January Private Placement,  the Company provided accredited  investors in
the  Company's  March  private   placement  with  opportunity  to  exchange  the
securities  purchased in the March  placement for a number of units the investor
could have purchased in the January  Private  Placement had the investment  been
made under the January Private  Placement terms rather than the March terms. See
"Management's  Discussion  and  Analysis of Financial  Condition  and Results of
Operations--Liquidity and Capital Resources." In February 1998, all of the March
accredited  investors  elected to convert to the January Private Placement terms
in reliance on the  registration  exemption  found in Sections 3(9), 4(2) of the
Securities Act and Rule 506 of Regulation D. As a result of the conversion,  all
outstanding  Series C Warrants  were  canceled  and the Company  issued  256,598
additional shares of Common Stock and 769,787 additional Series D Warrants.  The
Company  did not use an  underwriter  in  connection  with the  January  Private
Placement.

         Pursuant to the requirements of the January Private Placement, Dr. Gale
H. Thorne, a director and  vice-president  of the Company,  released the Company
from certain  royalty  obligations  and the Company issued to Dr. Thorne and his
assigns  warrants to purchase 750,000 of the Company's common stock. The Company
also issued  25,000  shares of Common  Stock and 25,000  Series D Warrants to an
unaffiliated financial advisor in connection with the January Private Placement.
The  securities  referenced  in this  paragraph  were  issued  under Rule 506 of
Regulation D and Section 4(2) of the Securities Act.


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                                       19
<PAGE>
<TABLE>
<CAPTION>

Item 6. Selected Financial Data.

         The following  data have been derived from the  Company's  consolidated
financial  statements.  The  information  set  forth  below  is not  necessarily
indicative of the results of future operations and should be read in conjunction
with the consolidated financial statements and related notes appearing elsewhere
in this Form 10-K:

                                                                      Period Ended
                                   -----------------------------------------------------------------------------------
                                                                                                           Nov. 19,
                                        Dec. 31,        Dec. 31,         Dec. 31,         Dec. 31,           1993
                                          1997            1996             1995             1994         (inception)
                                                                                                         to Dec. 31,
                                                                                                             1997
                                       ------------    ------------     ------------    -------------    -------------
Statement of Operations Data:

<S>                                 <C>              <C>              <C>             <C>              <C>
Net product sales................   $      182,363   $      74,563    $     447,844   $       33,256   $      738,026
Development fees.................          250,000          --               --               --              250,000
                                       ------------    ------------     ------------    -------------    -------------

         Total revenues..........          432,363          74,563          447,844           33,256          988,026

Cost of product sales............          141,857          70,257          294,171           21,669          527,954
                                       ------------    ------------     ------------    -------------    -------------

         Gross profit............          290,506           4,306          153,673           11,587          460,072
                                       ------------    ------------     ------------    -------------    -------------
Operating Expenses:

    Selling, general and
      administrative.............        3,311,222       2,901,434        2,133,021          620,022        8,969,149
     Research and development....        1,191,857       1,264,186          804,639          290,950        3,551,632
     Write-off of operating                 92,557          72,363          255,072            --             419,992
       assets....................
                                       ------------    ------------     ------------    -------------    -------------

         Total operating expenses        4,595,636       4,237,983        3,192,732          910,972       12,940,773
                                       ------------    ------------     ------------    -------------    -------------

         Operating loss..........       (4,305,130)     (4,233,677)      (3,039,059)        (899,385)     (12,480,701)

Net other income (expense).......           31,127         140,289          119,570           (7,563)         283,423
                                       ------------    ------------     ------------    -------------    -------------

         Net loss................       (4,274,003)     (4,093,388)      (2,919,489)        (906,948)     (12,197,278)

Dividends on preference stock....           --              --              (11,389)         (16,780)         (28,169)
                                       ------------    ------------     ------------    -------------    -------------

Net loss attributable to common
  stockholders...................     $ (4,274,003)   $ (4,093,388)    $ (2,930,878)   $    (923,728)    $(12,225,447)
                                       ============    ============     ============    =============    =============

Net loss per common share (basic
   and diluted) (1)..............     $       (.47)   $       (.48)    $       (.69)   $        (.75)
                                       ============    ============     ============    =============

Weighted average common shares
     outstanding (1).............        9,170,541       8,589,952        4,269,131        1,224,074
                                         =========       =========        =========        =========
Balance Sheet Data (at period
  end):
Working capital (deficit)........     $    609,962    $     30,754      $ 4,194,568     $   (287,723)
Total assets.....................        3,285,413       1,848,839        5,950,728          656,865
Long-term debt, less current
  maturities.....................            --              --               --             458,333
Total stockholders' equity
  (deficit)......................          540,248       1,513,217        5,369,805         (355,878)
</TABLE>


(1)  Net loss per common share is based on the weighted average number of common
     shares outstanding.  Stock options and warrants, and preferred shares prior
     to conversion,  are not included in the calculation  because this inclusion
     would be anti-dilutive and reduce the net loss per common share.

                                       20
<PAGE>

Item 7. Management's  Discussion and Analysis of Financial Condition and Results
of Operations.

         The  following  discussion  and  analysis  provides  information  which
management  believes is  relevant  to an  assessment  and  understanding  of the
Company's  consolidated  results of  operations  and  financial  condition.  The
discussion  should  be read  in  conjunction  with  the  consolidated  financial
statements and notes thereto.  Wherever in this discussion the term "Company" is
used, it should be understood to refer to SHPI and SHP, on a consolidated basis,
except  where  the  context  clearly  indicates  to the  contrary.  Prior to the
Acquisition, SHPI had no operations.

Overview

         From its inception, the Company has incurred losses from operations. As
of  December  31,  1997,  the  Company  had   cumulative  net  losses   totaling
$12,225,447.  To date,  the  Company's  principal  focus  has  been the  design,
development,  testing, and evaluation of its Safety Cradle(R) sharps containers,
ExtreSafe(R) Lancet Strip,  ExtreSafe(R)  medical needle withdrawal  technology,
intravenous flow gauge,  blood collection  device,  and other products,  and the
design and  development  of its molds and production  processes  relating to its
Safety Cradle(R) sharps containers and ExtreSafe(R) Lancet Strip.

Financial Position

         The Company had $1,441,556 in cash and cash  equivalents as of December
31, 1997.  This  represented  an increase of $1,188,862  from December 31, 1996.
Working  capital as of December 31, 1997, also increased to $609,962 as compared
to $30,754 at December 31, 1996. These increases were largely due to the Company
raising  $3,039,570 in funding from the private placement of Company  securities
and receiving  $1,750,000 in prepaid  royalties and $250,000 in development fees
during 1997.

Years Ended December 31, 1997, 1996 and 1995

         During  the year  ended  December  31,  1997,  the  Company  had  total
operating  revenues  of  $432,363,  compared  with total  operating  revenues of
$74,563  and  $447,844  for  the  years  ended   December  31,  1996  and  1995,
respectively.  Total  operating  revenues  were  comprised of product  sales and
development  fees.  During 1997,  BDIT paid the Company  $250,000 in development
fees for services  provided in 1997.  There was no revenue from similar  sources
during the prior years.

         During the year ended  December 31,  1997,  the Company had net product
sales of $182,363,  compared  with net product sales of $74,563 and $447,844 for
the years ended December 31, 1996 and 1995,  respectively.  Substantially all of
the sales during these periods related to the Company's  sharps  containers.  As
discussed below, the Company will look to several other sources for future sales
revenues.

         The  Company  employs a limited  number  of sales  people  and seeks to
market and sell its products through third party distributors  and/or licensees.
Consistent  with this strategy,  substantially  all of the $447,844 sales during
1995 were  generated  by sales  through or to third party  distributors.  During
1996, the Company began negotiating for the distribution of the Safety Cradle(R)
sharps  containers by BDSDS.  During such  negotiations,  which began during the
first  quarter  of 1996 and ended in August of 1996 when the BDSDS  Distribution
Agreement  was  signed,  the  Company  agreed  not to enter  into any  exclusive
marketing  or  distribution  agreements.  Sales  under  the  BDSDS  Distribution
Agreement did not begin until 1997. The restrictions  imposed by the negotiation
and execution of the BDSDS Distribution  Agreement and certain improvements that
were made to the Safety Cradle(R)  sharps  containers that were completed during
the first  quarter of 1996 had a  substantial  negative  impact on the Company's
1996 sales of Safety Cradle(R) sharps containers.

                                       21
<PAGE>


         BDSDS began selling the Safety  Cradle(R)  sharps  containers under the
BDSDS Distribution Agreement in the first quarter of 1997. During 1997, however,
BDSDS did not order the minimum  required  amount of product  under the terms of
the BDSDS Distribution  Agreement and, therefore,  BDSDS' exclusive distribution
rights became nonexclusive.  In addition, the Company gave notice of termination
of the BDSDS  Distribution  Agreement,  as it is authorized to do in the case of
BDSDS' failure to purchase the minimum  amount of product  required by the BDSDS
Distribution   Agreement.   The  parties   subsequently  agreed  to  extend  the
termination date and exclusivity  provision of the BDSDS Distribution  Agreement
until May 26, 1998.

         The Distribution  Agreement provides that products may be sold, at BD's
option,  either under the Company's name or under BD's label. The products will,
however,  be imprinted with the Company's  name. The sales price of the products
to  BD  under  the   Distribution   Agreement  can  be  adjusted  under  certain
circumstances  for changes in raw material  costs during the initial term of the
Distribution  Agreement.  The Company is not required to distribute  any future,
unrelated products through BD.

         Company  management is disappointed  with sales of the Safety Cradle(R)
sharps containers under the BDSDS  Distribution  Agreement and hopes to increase
sales in 1998 by  negotiating a more  favorable  agreement  with BDSDS or one or
more other  distributors  and/or licensees with the proper focus and strategy to
accelerate  sales of the Company's  sharps  containers  into the home healthcare
market.  BDSDS and the  Company  are  presently  negotiating  the terms of a new
distribution  agreement.  There  is no  assurance,  however,  that  a  favorable
distribution and/or license agreement will be negotiated between the Company and
BDSDS or any other party or that sales will improve.

         In May 1997, the Company entered into the License Agreement relating to
a single  application  of the Company's  ExtreSafe(R)  safety needle  withdrawal
technology.  Pursuant to the terms of the License Agreement,  BDIT made payments
of  $1,750,000  and  $250,000  to  the  Company  in  June  and  September  1997,
respectively,  and is required to make an additional  payment of $2,000,000 upon
the  earlier of the date of the first sales by BDIT of a product  utilizing  the
Technology  or April 5, 1998.  Of these total  payments,  $3,750,000  represents
advanced  royalties  for sales  occurring  before the year 2002 and the $250,000
represents  a product  development  fee.  BDIT is also  required  to pay ongoing
royalties to the Company based on sales of products utilizing the Technology. In
addition,  beginning in BDIT's fiscal year 2002, BDIT is required to pay minimum
royalties in order to maintain  exclusive  rights  under the License  Agreement.
Sales are  expected to begin under the License  Agreement  in the second half of
1998.

         The ExtreSafe(R) Lancet Strip has previously been assembled manually by
the  Company  with some  automated  assembly  beginning  in November  1997.  The
automated production equipment is not yet in full operation. The costs of manual
assembly   exceeded  the  related   revenues  from  the  minimal  sales  of  the
ExtreSafe(R)   Lancet  Strip.   The  use  of  automated   production   equipment
substantially  reduces the cost to manufacture the ExtreSafe(R) Lancet Strip and
increases manufacturing capacity.

         In September 1997, the Company entered into the Alliance Agreement with
Alliance  Medical  which  provides for the Company to  manufacture  and Alliance
Medical to market and sell the  ExtreSafe(R)  Lancet Strip on an exclusive basis
in hospitals,  alternate site (e.g.,  homecare,  plasma centers and blood banks)
and consumer markets in the United States. Effective March 1, 1998, the Alliance
Agreement was converted to a  non-exclusive  agreement with no sales minimums so
that the  Company can pursue  additional  sources of  distribution.  There is no
assurance  that the Company  will realize  significant  sales under the Alliance
Agreement  or that the  Company  will  enter  into any other  arrangements  with
respect to the marketing and distribution of ExtreSafe(R) Lancet Strips.

         In December 1997,  the Company  entered into the J&J Agreement with J&J
to commercialize  two applications of the ExtreSafe(R)  safety needle technology
(the  "J&J  Products").  The J&J  Agreement  provides  for  monthly  development
payments by J&J,  sharing of field related  patent  costs,  payments for initial
periods  of low  volume  manufacturing,  an  ongoing  royalty  stream  and a J&J
investment  in molds,  assembly  equipment  and other  capital  costs related to
commercialization  of each  product.  The J&J  Agreement  also  provides  for an
ongoing  joint  cooperative  program  between the Company and J&J which  derives

                                       22
<PAGE>

future funding  directly from sales of Company  created  products,  payments for
initial  periods of low volume  manufacturing  and an ongoing royalty stream for
additional  safety  products  which are jointly  approved  for  development.  In
connection  with the J&J Agreement,  Johnson & Johnson  Development  Corporation
also  purchased  $2,000,000 of Company  securities in a private  placement  that
closed in January 1998. In addition, beginning in the later of J&J's fiscal year
2000 or twelve months  following FDA approval for sale of the J&J Products,  J&J
is required to pay minimum royalties.  Sales are expected to begin under the J&J
Agreement in the first half of 1999.

         License and distribution  arrangements,  such as those discussed above,
create  certain  risks for the  Company,  including  (i)  reliance  for sales of
products  on  other  parties,  and  therefore  reliance  on the  other  parties'
marketing ability, marketing plans and credit-worthiness;  (ii) if the Company's
products are marketed under other parties' labels,  goodwill associated with use
of the  products may inure to the benefit of the other  parties  rather than the
Company;  (iii) the Company may have only  limited  protection  from  changes in
manufacturing  costs and raw materials costs; and (iv) if the Company is reliant
on other parties for all or  substantially  all of its sales, the Company may be
limited in its ability to negotiate with such other parties upon any renewals of
their agreements.  Further,  because such arrangements are generally expected to
provide the Company's  marketing  partners with certain  elements of exclusivity
with respect to the  products to be marketed by those  partners,  the  Company's
success will be highly dependent on the results obtained by its partners.

         Research and  development  expenses were  $1,191,857 for the year ended
December 31, 1997,  compared  with  $1,264,186  and $804,639 for the years ended
December 31, 1996 and 1995,  respectively.  The  Company's  efforts  during 1997
focused on  completing  final  development  of the  ExtreSafe(R)  Lancet  Strip,
development  relating to several  products  utilizing the  ExtreSafe(R)  medical
needle  withdrawal  technology and  development  work on the filmless  digitized
imaging  technology  (which was  performed  by QIC,  but which was funded by the
Company).  The Company's efforts in 1996 focused on making certain  improvements
to the Safety  Cradle(R)  sharps  container  products  that were required by the
BDSDS  Distribution  Agreement and otherwise,  development  of the  ExtreSafe(R)
Lancet Strip,  ExtreSafe(R)  medical needle withdrawal  technology,  intravenous
flow gauge and blood collection device. The Company's efforts in 1995 focused on
refining  the  design  and  molds  for its  Safety  Cradle(R)  sharps  container
products,  and upon the design and development of its ExtreSafe(R) Lancet Strip,
ExtreSafe(R)  medical needle withdrawal  technology,  intravenous flow gauge and
blood collection device.

         During the year ended December 31, 1997, the Company received  $250,000
in  development  fees for services  provided in 1997.  There was no revenue from
similar sources during the prior years. It is anticipated  that Company revenues
from  development  fees  will  increase  during  1998  as a  result  of the  J&J
Agreement.

         Research and development expenses during 1995 through 1997 were limited
because  of  funding   constraints.   Funding  constraints  also  set  back  the
anticipated  dates on which the Company's  products  under  development  will be
brought to market.  It is anticipated  that if the Company has adequate  funding
during 1998,  research and development  expenses will increase over 1997 levels.
Reductions in R&D  expenditures are not anticipated  unless funding  constraints
require  the Company to make such  reductions.  Reductions  in R&D  expenditures
would comprise  primarily  reductions in R&D staff.  Such staff reductions could
have a  material  adverse  effect on  product  development  and on the  Company.
Management does not intend to downsize.

         Selling,  general and  administrative  expenses were $3,311,222 for the
year ended  December 31, 1997,  compared to $2,901,434  and  $2,133,021  for the
years  ended  December  31,  1996  and  1995,  respectively.  The  increases  in
expenditures  between  the 1997  and 1996  periods  resulted  primarily  from an
increased  number of  employees,  amounts paid to financial  advisors and public
relations firms and legal and accounting  fees. The increased costs between 1996
and 1995 resulted  mainly from increases in the following  expenditures.  First,
selling and  consulting  costs  increased  as a result of  increased  efforts to
market and sell the Safety Cradle(R) sharps container products. Second, salaries
and benefits  increased as a result of hiring  additional  product  development,
sales and  marketing  personnel to support  sales and  commercialization  of the
Company's  products as well as pay  increases  made to certain of the  Company's
employees. Third, consulting, legal and accounting fees increased as a result of

                                       23
<PAGE>

the  Company's  entrance  into the financial  markets,  the  increased  level of
operational  sophistication  and of the Company's  reporting  obligations  under
applicable securities laws. Finally, travel and entertainment costs increased as
a result of expenses  associated with  financing,  manufacturing,  selling,  and
marketing activities.

         Net other  income was $31,127  for the year ended  December  31,  1997,
compared  with net other  income of $140,289  and  $119,570  for the years ended
December 31, 1996 and 1995,  respectively.  The  difference  in net other income
between said periods relates mainly to interest earned on funds on deposit.  Net
interest  income varies in direct  proportion to the amount of funds on deposit.
The Company  anticipates  that net interest  income  during 1998 will be greater
than net interest  income  during 1997 because the amount of funds on deposit is
expected to increase.

Liquidity and Capital Resources

         To date,  the Company has financed its operations  principally  through
private  placements of equity  securities,  proceeds from the exercise of common
stock options,  and advanced  royalties and a development fee received under the
License  Agreement.  The Company  generated  $12,312,726  and  $3,088,534 in net
proceeds through  financing  activities from inception through December 31, 1997
and in 1997, respectively.  The Company used net cash in operating activities of
$1,389,016 during the year ended December 31, 1997. As of December 31, 1997, the
Company's liabilities totaled $2,745,165,  which included $1,750,000 in deferred
royalty  revenues  relating  to the License  Agreement.  The Company had working
capital as of December 31, 1997 of $609,962.

         The Company's  working capital and other capital  requirements  for the
foreseeable future will vary based upon a number of factors, including the costs
to complete  development and bring the  ExtreSafe(R)  medical needle  withdrawal
technology,  intravenous flow gauge,  blood collection device and other products
to commercial viability,  and the level of sales of and marketing for the Safety
Cradle(R) sharps containers and ExtreSafe(R) Lancet Strip. At December 31, 1997,
the  Company  had  committed  to spend  approximately  $200,000  during  1998 on
automated assembly  equipment.  The Company believes that existing funds, the $2
million payment from BDIT under the License Agreement, development fees from J&J
under the J&J Agreement,  license fees and funds  generated from sales,  will be
sufficient to support the Company's  operations and planned capital expenditures
through 1998. See "--Years Ended December 31, 1997,  1996 and 1995." The Company
may,  however,  raise  additional  funds through a subsequent  public or private
offering if, in the opinion of management,  the Company is in need of additional
funding. There is no assurance that any such offering will be completed or that,
if completed, the terms of such offering will be favorable to the Company.

         At March  18,  1998,  the  Company  had  3,110,875  Series A  Warrants,
1,290,375  Series B Warrants,  3,579,787  Series D Warrants  and  800,000  other
warrants (the "SHPI  Warrants")  outstanding  which are exercisable for the same
number of shares of Common  Stock of the  Company at $3.00 per share in the case
of Series A  Warrants  and  $2.00  per  share in the case of Series B  Warrants,
Series D Warrants and SHPI Warrants.  In the event that the closing price of the
Common Stock for any ten consecutive  trading days exceeds $6.00 per share,  and
subject to the  availability  of a current  prospectus  covering the  underlying
stock,  the  Company  may  redeem the  Warrants.  The Series A, B and D Warrants
expire on the  earlier  of (a) two  years  from the date of  effectiveness  of a
registration  statement  under the Act covering the sale of the shares of Common
Stock underlying such warrants,  which period shall be extended  day-for-day for
any time that a prospectus meeting the requirements of the Act is not available,
or (b) the redemption  date if such warrants are redeemed  (subject to the right
of the  holder  to  exercise  the  warrants  within  20 days of  notice  of such
redemption).  The SHPI Warrants expire on December 31, 2002. The exercise of all
the Warrants would result in an equity  infusion to the Company of  $20,672,949.
The Company  presently  intends to redeem the warrants when and if the necessary
conditions  are met. The Series A and B Warrants  were issued in July and August
1995, and a registration  statement  covering the resale of the shares of Common
Stock  underlying the Series A and B Warrants became effective on July 19, 1996.
The Series D Warrants  were issued in December  1997,  January 1998 and February
1998. A registration statement covering the resale of the shares of Common Stock

                                       24
<PAGE>

underlying the Series D Warrants and SHPI Warrants has not been filed. As of the
date hereof,  no warrants have been exercised and there can be no assurance that
any warrants will ever be exercised.

         On September 1, 1995, the Company adopted a non-qualified  stock option
plan  ("NQSOP")  which,  as amended,  authorizes the Company to grant options to
purchase up to  1,500,000  shares of Common  Stock.  All NQSOP  options  must be
granted at exercise prices at least equal to the fair market value of the Common
Stock on the date of grant.  As of March 18, 1998, the Company had granted stock
options to  purchase  1,460,500  shares of Common  Stock  under the  NQSOP.  The
exercise of all the stock  options  issued  under the NQSOP  would  result in an
equity infusion to the Company of $3,120,119.

         In  addition  to the  options  outstanding  under the NQSOP,  there are
18,000  options  outstanding  that were issued under SHP's  non-qualified  stock
option plan (the "SHP NQSOP").  These options became  obligations of the Company
pursuant to the terms of the  Acquisition.  The exercise of these stock  options
will result in an equity infusion to the Company of $7,020.

         In 1995, the Company entered into an agreement with a former  Director;
the President  and a Vice  President of the Company,  whereby these  individuals
have the  opportunity  to receive up to an  aggregate  of  2,000,000  additional
shares of common stock.  These individuals have the right to divide the earn-out
shares among  themselves  or their  assigns,  if earned,  based on  performance,
contributions  to the Company  and/or  other  factors  relating to the  business
success of the Company.  Any issuance of earn-out shares would be based upon the
level of pre-tax  consolidated  net  income,  adjusted  to exclude  any  expense
arising from the obligation to issue or the issuance of the earn-out  shares and
any income or expense  associated with  non-recurring or extraordinary  items as
determined  in  accordance  with  generally   accepted   accounting   principles
("Adjusted  PTNI").  At the date the earn-out shares agreement was adopted,  the
value of the  Common  Stock was $2.00 per  share.  At  December  31,  1997,  the
Company's common stock closed at $1.63.

         The earn-out  shares have not vested.  No dividends will be paid on the
earn-out  shares  unless and until they vest.  The earn-out  shares will vest as
follows.  If  Adjusted  PTNI for 1998  equals  or  exceeds  $1,500,000,  then an
aggregate of 350,000  earn-out  shares will be issued,  but only one issuance of
350,000  earn-out shares will be made based on the $1,500,000  level of Adjusted
PTNI.

         If Adjusted PTNI for 1998 equals or exceeds $5,000,000, then there will
be issued that aggregate number of earn-out shares calculated by subtracting the
number of earn-out shares previously issued or issuable (if any) from 1,100,000,
provided  that only one  issuance of  earn-out  shares will be made based on the
$5,000,000 level of Adjusted PTNI.

         If Adjusted PTNI for 1998 equals or exceeds $8,000,000, then there will
be issued that aggregate number of earn-out shares calculated by subtracting the
number of earn-out shares previously issued or issuable (if any) from 2,000,000,
provided  that in no event will an  aggregate  of more than  2,000,000  earn-out
shares be issued. In addition,  upon purchase, take over or change in control of
the Company in a hostile or friendly transaction in 1998, all of earn-out shares
shall become vested.

         The Company expects that the issuance of earn-out shares will be deemed
to be the payment of  compensation to the recipients and will result in a charge
to the earnings of the Company in the year the earn-out shares are earned, in an
amount  equal to the fair market value of the  earn-out  shares.  This charge to
earnings could have a substantial negative impact on the earnings of the Company
in the year in which the compensation  expense is recognized.  As a result,  the
Board is  working  with a  compensation  consulting  firm to  discuss  equitable
modifications  to the earn-out program to address this matter and expect to make
changes with respect thereto.

                                       25
<PAGE>

         On March 31, 1997, the Company completed a private placement wherein it
raised gross  proceeds of $1,539,570  through an offering of units to accredited
investors for $45 per unit. Each unit consisted of 15 shares of Common Stock and
five Series C Warrants.

         In January 1998, the Company  completed the January  Private  Placement
wherein it raised gross  proceeds of $5,220,000  through an offering of units to
accredited investors for $2 per unit. Each unit consisted of one share of Common
Stock and one Series D Warrant.  Pursuant to requirements of the January Private
Placement,  the Company provided each March private placement  investor with the
opportunity  to exchange the securities  purchased in the March  placement for a
number of units  the  investor  could  have  purchased  in the  January  Private
Placement had the investment been made under the January Private Placement terms
rather  than the March  terms.  In  February  1998,  all of the March  investors
elected to convert to the January  Private  Placement  terms. As a result of the
conversion,  all  outstanding  Series C Warrants  were  canceled and the Company
issued 256,598 additional shares of Common Stock and 769,787 additional Series D
Warrants.  Pursuant to the  requirements of the January Private  Placement,  Dr.
Gale H. Thorne released the Company from certain future royalty  obligations and
the Company  issued to Dr.  Thorne and his assigns  750,000 SHPI  Warrants.  The
Company also issued  25,000  shares of Common Stock and 25,000 Series D Warrants
to a  unaffiliated  financial  advisor in  connection  with the January  Private
Placement.

         At present,  SHP and Zerbec are equal  owners of QIC, but Zerbec has an
option to acquire  two-thirds of SHP's  current fifty percent (50%)  interest in
QIC for one dollar because certain funding  objectives were not met. The parties
are in the process of  negotiating an arrangement so that the Zerbec Option will
be  eliminated or its exercise will be subject to  substantial  restriction.  No
assurance  can be  given,  however,  that  an  agreement  will be  reached  that
eliminates or materially  restricts the exercise of the Zerbec Option or that if
such  agreement  is reached  that it will be on terms that are  favorable to the
Company.  The Company  estimates  that between  $3,000,000 and $6,000,000 in new
funding will be required by QIC for it to achieve its objectives.

Inflation

         The Company does not expect the impact of inflation on operations to be
significant.

Year 2000

         Management  is in  the  process  of  determining  whether  all  of  the
Company's accounting and operational systems are year 2000 compliant. Management
does not expect the costs associated with any required conversions of systems to
ensure year 2000 compliance to be in excess of $20,000.

Forward-Looking Statements

         When used in this Form 10-K, in filings by the Company with the SEC, in
the Company's press releases or other public or stockholder  communications,  or
in oral statements made with the approval of an authorized  executive officer of
the Company,  the words or phrases "would be," "will allow," "intends to," "will
likely   result,"  "are  expected  to,"  "will   continue,"  "is   anticipated,"
"estimate,"   "project,"  or  similar   expressions  are  intended  to  identify
"forward-looking  statements"  within  the  meaning  of the  Private  Securities
Litigation Reform Act of 1995.

         The  Company  cautions  readers  not to  place  undue  reliance  on any
forward-looking  statements,  which speak only as of the date made, are based on
certain  assumptions and expectations  which may or may not be valid or actually
occur,  and which  involve  various risks and  uncertainties,  including but not
limited to risk of  product  demand,  market  acceptance,  economic  conditions,
competitive   products  and  pricing,   difficulties  in  product   development,
commercialization,  and  technology,  changes in the regulation of safety health
care products,  and other risks.  Furthermore,  manufacturing  delays may result
from  additional  mold redesigns or delays may result from the failure to timely
obtain FDA  approval  to sell  future  products.  In  addition,  sales and other
revenues may not commence as anticipated due to delays or otherwise. If and when
product sales commence, sales may not reach the levels anticipated. As a result,
the Company's  actual  results for future periods could differ  materially  from
those anticipated or projected.

         Unless  otherwise  required by  applicable  law,  the Company  does not
undertake,   and   specifically   disclaims  any   obligation,   to  update  any
forward-looking statements to reflect occurrences,  developments,  unanticipated
events or circumstances after the date of such statement.

                                       26
<PAGE>

Other Factors

         The  Company  is  subject to  certain  other  risk  factors  due to its
development  stage  status,  the industry in which it competes and the nature of
its operations. These risk factors include the following.

         History  of  Losses/Profitability  Uncertain.  The  Company  is in  the
development  stage and has reported losses each year since 1993. At December 31,
1997, it had an accumulated  deficit of $12,225,447.  The Company's products are
in various stages of production,  pre-production,  development and research. The
Company has made only  limited  sales of its sharps  container  products and the
ExtreSafe(R)  Lancet Strips, the only products it was selling as of December 31,
1997.  Sales  of  the  Company's  Safety  Cradle(R)  sharps  container  products
commenced in March 1997 pursuant to the BDSDS  Distribution  Agreement.  Limited
commercial  sales  of the  ExtreSafe(R)  Lancet  Strip,  which  the  Company  is
producing  manually  until  automated  production  equipment was put in place in
November  1997,  also  commenced in March 1997.  There is no assurance  that the
Company's  products  will be  commercially  viable and no assurance can be given
that  the  Company  will  become  profitable.  In  addition,  prospects  for the
Company's profitability will be affected by expenses,  operational  difficulties
and other  factors  frequently  encountered  in the  development  of a  business
enterprise in a competitive environment, many of which factors may be unforeseen
and beyond the Company's control.

         Need for Additional  Funds. Due to the development  stage status of the
Company and the uncertainty of future profits,  the Report of Independent Public
Accountants  relating  to  the  Company's  1997  audited  financial  statements,
attached  hereto,   contains  a  "going  concern"  explanatory  paragraph.   See
Consolidated  Financial  Statements and related Notes. The Company believes that
its existing funds, the $2 million payment from BDIT under the License Agreement
to be received in April 1998,  license fees and funds  generated from sales will
be  sufficient  to  support  the  Company's   operations  and  planned   capital
expenditures  through  December 31, 1998. The Company's  future need for capital
will  depend on a number of  factors,  including  the rate at which  demand  for
products  expands,  the level of sales and marketing  activities  for the Safety
Cradle(R) sharps container and ExtreSafe(R) Lancet Strip products, and the level
of expenditures  needed to develop and  commercialize  the ExtreSafe(R)  medical
needle withdrawal technology,  intravenous flow gauge, blood collection devices,
and the Imaging Technology. Moreover, the Company's business plans may change or
unforeseen events may occur which affect the amount of additional funds required
by the Company.  If additional funds are not obtained if and when required,  the
lack thereof could have a material adverse effect on the Company. Further, there
is no assurance  that the terms on which any funds  obtained by the Company will
be favorable to stockholders of the Company at that time.

         Manufacturing  Strategy/Dependence on Single Manufacturers. The Company
intends to subcontract the manufacture of certain of its products. This strategy
could result in various problems that could have a materially  adverse effect on
the Company. Further, the Company may not be able to arrange for the manufacture
of its products  through other  companies  which could delay sales and result in
increased expenses if the Company establishes its own manufacturing  capability.
This could have a material  adverse effect on the Company.  The Company's Safety
Cradle(R) sharps containers and ExtreSafe(R)  Lancet Strip are its only products
currently  available  for sale.  The  Safety  Cradle(R)  sharps  containers  are
produced by a single  manufacturer.  The Company has made  arrangements  for the
manufacture  of the  ExtreSafe(R)  Lancet  Strip  to be  performed  by a  single
manufacturer.  If  one of the  Company's  manufacturers  fails  to  perform  its
obligations in a timely and satisfactory  manner, or if there is a change in the
Company's manufacturers, it could have a material adverse effect on the Company.
There can be no assurance  that the Company would be successful in replacing its
current  manufacturers on terms favorable to the Company.  Also, there can be no
assurance   that  the  Company  will  be   successful   in  finding   additional
manufacturers to manufacture future products on favorable terms.

         Negative Pricing Pressures on the Company's Safety Products. Prices for
the  Company's  safety  products may be higher than for  competing  conventional
products which are not designed to provide the safety protection afforded by the
Company's  products.   The  Company's  prices,   however,  are  expected  to  be
competitive with those of competing safety  products.  Continuing  pressure from
third-party  payors to  reduce  costs in the  health  care  industry  as well as
increasing  competition  from safety  products  made by other  companies,  could

                                       27
<PAGE>

adversely  affect the Company's  selling  prices.  Reductions in selling  prices
could  adversely  affect  operating   margins  if  the  Company  cannot  achieve
corresponding reductions in manufacturing costs.

         Rapidly  Changing  Technology.  The  Company  is in  various  stages of
production, pre-production,  development and research with respect to its Safety
Cradle(R) sharps containers,  ExtreSafe(R)  Lancet Strip,  ExtreSafe(R)  medical
needle retraction technology,  intravenous flow gauge, blood collection devices,
filmless digitized imaging technology and other products.  There is no assurance
that  development  of superior  products by competitors or changes in technology
will not eliminate  the need for the Company's  products.  The  introduction  of
competing  products  using  different  technology  could  adversely  affect  the
Company's attempts to develop and market its products.

         Potential  Lack  of  Market  Acceptance.  The  use  of  safety  medical
products,  including the Company's  products,  is relatively  new. The Company's
products may not be accepted by the market and their  acceptance  will depend in
large part on (i) the  Company's  ability  (directly  or through  its  marketing
partners) to demonstrate  the  operational  advantages,  safety,  efficacy,  and
cost-effectiveness  of its products in comparison  with  competing  products and
(ii) its ability to  distribute  its products  through  major  medical  products
companies.  There can be no assurance  that the Company's  products will achieve
market  acceptance  or that  major  medical  products  companies  will  sell the
Company's products.

         Dependence  on Continued  Research and  Development.  The  ExtreSafe(R)
medical needle withdrawal technology,  intravenous flow gauge, phlebotomy device
and Imaging  Technology are still in various stages of development.  The Company
is also exploring additional applications for all of its products. The continued
development of its products and development of additional  applications  and new
products is important to the long-term  success of the Company.  There can be no
assurance that such applications or products will be developed or, if developed,
that they will be successful.

         Dependence on Patents and  Proprietary  Rights.  The  Company's  future
success depends in part on its ability to protect its intellectual  property and
maintain the  proprietary  nature of its  technology  through a  combination  of
patents and other intellectual property arrangements.  There can be no assurance
that the  protection  provided by patents,  if issued,  will be broad  enough to
prevent  competitors from introducing  similar products or that such patents, if
challenged,   will  be  upheld  by  the  courts  of  any  jurisdiction.   Patent
infringement  litigation,  either to enforce the Company's patents or defend the
Company from  infringement  suits,  would be expensive and, if it occurs,  could
divert Company  resources  from other planned uses. Any adverse  outcome in such
litigation  could  have  a  material  adverse  effect  on  the  Company.  Patent
applications  filed in  foreign  countries  and  patents in such  countries  are
subject to laws and  procedures  that  differ  from those in the United  States.
Patent  protection  in such  countries may be different  from patent  protection
under U.S.  laws and may not be as favorable  to the  Company.  The Company also
attempts   to  protect   its   proprietary   information   through  the  use  of
confidentiality  agreements and by limiting access to its facilities.  There can
be  no  assurance  that  the  Company's  program  of  patents,   confidentiality
agreements and restricted access to its facilities will be sufficient to protect
the Company's proprietary technology.

         Ability to Manage Expanding Operations. The Company intends to pursue a
strategy of rapid growth although there can be no assurance that any growth will
be achieved.  The Company plans to significantly expand its product lines and to
devote substantial  resources to support  operations,  research and development,
marketing  and  administrative  functions.  There can be no  assurance  that the
Company  will  obtain  sufficient  manufacturing  capacity on  favorable  terms,
arrange for the marketing and  distribution of its products,  attract  qualified
personnel or effectively  manage  expanded  operations.  The failure to properly
manage growth could have a material adverse effect on the Company.

         Competition/Potential Inability to Compete. The Company is engaged in a
highly  competitive  business  and will  compete  directly  with firms that have
longer operating  histories,  more experience,  substantially  greater financial
resources, greater size, more substantial research and development and marketing
organizations, established distribution channels and that are better situated in
the market than the Company. The Company's competitors and potential competitors
include  Baxter  International,   Inc.,  Becton  Dickinson  and  Company,  Devon
Industries,  Inc. Sage Products, Inc., Surgicutt,  Inc., Miles, Inc., Diagnostic
Corporation,  Boehringer  Mannheim,  Inc.,  Sherwood Medical  Company,  Inc. and

                                       28
<PAGE>

Terumo Medical  Corporation.  See "Business - Competition." Such competitors may
use their  economic  strength to  influence  the market to continue to buy their
existing products. The Company does not have an established customer base and is
likely to encounter a high degree of  competition in developing a customer base.
One or more of these  competitors  could use their  resources  to improve  their
current  products or develop new products that may compete more effectively with
the Company's  products.  New  competitors  may emerge and may develop  products
which  compete with the Company's  products.  No assurance can be given that the
Company will be successful in competing in this industry.

         Product Liability. The sale of medical devices entails an inherent risk
of liability in the event of product  failure or claim of harm caused by product
operation.  There can be no  assurance  that the Company  will not be subject to
such claims, that any claim will be successfully  defended or, if the Company is
found  liable,  that the claim  will not  exceed  the  limits  of the  Company's
insurance.  The  Company's  current  insurance  coverage  is in the amount of $1
million per occurrence  and $2 million in aggregate.  There is no assurance that
the Company will maintain product liability insurance on acceptable terms in the
future or that such insurance will be available.
Product liability claims could have a material adverse effect on the Company.

         Uncertainty  in the Health Care  Industry.  The health care industry is
subject to changing  political,  economic  and  regulatory  influences  that may
affect the  procurement  practices  and  operations  of health care  facilities.
During the past  several  years,  the health care  industry  has been subject to
increased government regulation of reimbursement rates and capital expenditures.
Among other things,  third-party  payors are increasingly  attempting to contain
health care costs by limiting both coverage and reimbursement  levels for health
care  products and  procedures.  Because  prices of the  Company's  products may
exceed  the  price of  conventional  products,  the  cost  control  policies  of
third-party payors,  including government agencies,  may adversely affect use of
the Company's  products.  The Company  believes that the costs  associated  with
accidental  needlesticks,  however,  exceed  the  procurement  costs  of  safety
products such as those of the Company.

         There are numerous  proposals to reform the U.S. health care system and
the health  care  systems of various  states.  Many of these  proposals  seek to
increase  government  involvement  in health care,  lower  reimbursement  rates,
contain costs and otherwise  change the operating  environment for the Company's
prospective  customers.  Health care providers may react to these  proposals and
the   uncertainty   surrounding   such  proposals  by  curtailing  or  deferring
investments in new technology and new products,  including those of the Company.
The Company  cannot  predict what impact,  if any, such proposals or health care
reforms  might  have  on  the  Company's  financial  condition  and  results  of
operations.

         Management/Dependence  on  Key  Personnel/Board.  The  success  of  the
Company  depends upon the skills,  experience  and efforts of its management and
other key  personnel.  Should the services of one or more members of its present
management  or other key  personnel  become  unavailable  to the Company for any
reason,  the business of the Company  could be adversely  affected.  There is no
assurance that the Company will be able to retain existing  employees or attract
new  employees of the caliber  needed to achieve the Company's  objectives.  The
Company has noncompetition agreements in place with its key personnel. The Board
currently consists of five members, four of whom are employed by the Company.

         Market  Volatility.  Market prices of securities of medical  technology
companies  are  highly  volatile  from time to time.  The  trading  price of the
Company's  securities  may be  significantly  affected  by  factors  such as the
announcement  of new  product or  technical  innovations  by the  Company or its
competitors, proposed changes in the regulatory environment, or by other factors
that may or may not relate directly to the Company. Sales of substantial amounts
of Common Stock  (including  stock which may be issued upon exercise of warrants
or stock options),  or the perception that such sales may occur, could adversely
affect the trading price of the Common Stock.

         No Assurance of Dividends.  The Company has never paid dividends on its
Common  Stock.  The payment of  dividends,  if any,  on the Common  Stock in the
future is at the  discretion  of the Board and will  depend  upon the  Company's
earnings, if any, capital  requirements,  financial condition and other relevant
factors.  The Board does not intend to declare any dividends on the Common Stock
in the foreseeable future.

                                       29
<PAGE>

         Limitations  on  Director  Liability.   The  Company's  Certificate  of
Incorporation  provides,  as permitted by Delaware  law,  that a director of the
Company shall not be personally  liable to the Company or its  stockholders  for
monetary  damages  for any action or failure to take any  action,  with  certain
exceptions.  These  provisions  may discourage  stockholders  from bringing suit
against  a  director  for  breach  of duty  and may  reduce  the  likelihood  of
derivative litigation brought by stockholders on behalf of the Company against a
director.   In  addition,   the  Company  has  agreed  and  its  Certificate  of
Incorporation and Bylaws provide, for mandatory indemnification of directors and
officers to the fullest extent permitted by Delaware law and it has entered into
contracts with its directors and officers providing for such indemnification.

         Anti-Takeover  Provisions of Certificate and Bylaws. The Certificate of
Incorporation  of the Company  provides for the division of the Board into three
classes  substantially  equal in number.  At each annual meeting of stockholders
one class of  directors is to be elected for a three-year  term.  Amendments  to
this  provision  must be approved by a  two-thirds  vote of all the  outstanding
stock  entitled to vote; the number of directors may be changed by a majority of
the entire Board or by a two-thirds  vote of the  outstanding  stock entitled to
vote.  Meetings  of  stockholders  may be called  only by the  Board,  the Chief
Executive  Officer or the President of the Company,  and stockholder  action may
not be taken by written  consent.  These provisions could have the effect of (i)
discouraging  attempts at  non-negotiated  takeovers  of the  Company  which may
provide  for  stockholders  to receive a premium  price for their  stock or (ii)
delaying  or   preventing  a  change  of  control  of  the  Company  which  some
stockholders may believe is in their interest.

         Effect  of  the  Issuance  of  Preferred  Stock.  The  Company  has  an
authorized  class of  preferred  stock,  shares of which may be issued  with the
approval  of its  Board on such  terms  and with such  rights,  preferences  and
designations  as the Board  may  determine.  Issuance  of  additional  series of
preferred  stock,  depending  upon  the  rights,  preferences  and  designations
thereof,  may have the effect of delaying,  deterring or  preventing a change in
control of the Company. In addition,  certain "anti-takeover"  provisions of the
Delaware General  Corporation Law, among other things,  may restrict the ability
of stockholders to effect a merger or business  combination or obtain control of
the  Company  and  may  be  considered  disadvantageous  by  some  stockholders.
Management  of the  Company  presently  does not  intend to issue any  shares of
preferred  stock.  Preferred stock may,  however,  be issued at some future date
which  stock  might  have  substantially  more  than one vote per share or other
provisions designed to deter a change in control of the Company. The issuance of
such  stock to a  limited  group  of  management  stockholders  may vest in such
persons absolute voting control of the Company,  including,  among other things,
the ability to elect all of the directors,  control certain matters submitted to
a vote of  stockholders  and  prevent  any change in  management  despite  their
performance.  Also,  preferred  stock may have the  right to vote  upon  certain
matters as a separate class.

         Current  Litigation.  In  April  1997,  the  Company  entered  into  an
agreement with Leerink Swann & Company  ("Leerink"),  whereby  Leerink agreed to
assist the Company in raising funds in a private placement of equity securities.
Sufficient funding was deposited into escrow to hold an initial closing, but the
closing did not occur.  Leerink alleges that the Company refused to close on the
placement.  The Company alleges that the closing did not occur because  Leerink,
as a condition precedent to closing,  made certain pre-closing demands that went
far beyond  the terms of the  agreement  and which  demands  Company  management
believes were not in the best interests of the Company or its  stockholders.  In
August 1997,  Leerink  filed suit in the United  States  District  Court for the
District of  Massachusetts  alleging  breach of contract and violation of M.G.L.
c.93A,  ss.11.  Leerink  is seeking  compensatory  damages  exceeding  $230,000,
113,251  warrants to purchase  113,251  shares of the  Company's  Common  Stock,
treble damages and reasonable  attorneys'  fees and costs.  In October 1997, the
Company filed a counterclaim alleging breach of contract and violation of M.G.L.
c.93A,  ss.11.  The  Company is  seeking in excess of $60,000 in money  damages,
treble damages, reasonable attorneys' fees and costs.

         The Company  believes that Leerink's  claims are without merit and that
the Company will ultimately  prevail.  The litigation is in the early stages, is
subject to all of the risks and  uncertainties  of  litigation  and the  outcome
cannot  presently be  predicted.  Specifically,  there is no assurance  that the
Company will be  successful in this lawsuit or that the lawsuit will be resolved
on acceptable  terms, and the Company may incur  significant  costs in asserting
its claims and defenses.

                                       30
<PAGE>

         Joint  Venture  Risks.  On the date  hereof,  SHP and  Zerbec are equal
owners of QIC, but Zerbec has an option to acquire  two-thirds  of SHP's current
fifty  percent  (50%)  interest in QIC for one dollar  because  certain  funding
objectives  were not met.  The  parties  are in the  process of  negotiating  an
arrangement so that the Zerbec Option will be eliminated or its exercise will be
subject to substantial restriction.  No assurance can be given, however, that an
agreement will be reached that  eliminates or materially  restricts the exercise
of the Zerbec  Option or that if such  agreement  is reached  that it will be on
terms that are  favorable to the  Company.  The Company  estimates  that between
$3,000,000  and  $6,000,000  in new  funding  will be  required by QIC for it to
achieve its  objectives.  There is no assurance  that  additional  funds will be
available for QIC to achieve its objectives, or that such funding, if available,
will be on terms that are favorable to QIC.

Item 8. Financial Statements and Supplementary Data

         See index to financial  statements  and financial  statement  schedules
included herein as Item 14.

Item  9.  Changes  in and  Disagreements  with  Accountants  on  Accounting  and
Financial Disclosure.

         None.


                                    PART III


Item 10. Directors and Executive Officers of the Registrant.

         Set forth below is certain information concerning each of the directors
and executive officers of the Company as of March 18, 1998.

                                                                     With the
         Name             Age           Position                  Company Since

David A. Robinson (1)     54     President, Chairman of the Board,     1993
                                 Chief Executive Officer and
                                 Director

Bradley C. Robinson (1)   28     Vice President - Business             1993
                                 Development and Director

Dr. Gale H. Thorne (1)    65     Vice President - Product              1994
                                 Development and Director

Charles D. Roe            47     Vice President - Finance and          1997
                                 Investor Relations, Chief
                                 Financial Officer, Secretary
                                 and Treasurer

Robert R. Walker          68     Director                              1994
---------------

(1) Member of Executive Committee.

         David A.  Robinson.  Mr.  Robinson is the  President,  Chief  Executive
Officer and  Chairman of the Board of the  Company.  He has been a director  and
officer of the Company since November 1993. From November 1992 to November 1993,
Mr. Robinson was President of EPC Products,  Inc., a distribution  company based
in  Bountiful,  Utah.  From 1981 to 1992,  Mr.  Robinson was  President of Royce
Photo/Graphics  Supply,  Inc., a distributor  of  photographic  and graphic arts
equipment and supplies based in Glendale,  California. He holds a Masters degree

                                       31
<PAGE>

in Business  Administration  and a Masters degree in Management Science from the
University  of  Southern  California.  Mr.  Robinson  is an uncle of  Bradley C.
Robinson, Vice President - Business Development and a director of the Company.

         Bradley C.  Robinson.  Mr.  Robinson  is the Vice  President - Business
Development  of the  Company.  He has been a director and officer of the Company
since November 1993.  From November 1992 to November 1993, Mr. Robinson was Vice
President of EPC  Products,  Inc., a  distribution  company  based in Bountiful,
Utah. Mr. Robinson is a nephew of David A. Robinson,  President, Chief Executive
Officer, Chairman of the Board and a director of the Company.

         Dr.  Gale H.  Thorne.  Dr.  Thorne  is the  Vice  President  -  Product
Development, for the Company. He has been a director since January 1995, and has
held his present position as Vice President - Product Development, since October
1994.  From 1993 to 1994,  Dr.  Thorne was a Vice  President -  Engineering,  of
Eneco,  Inc.,  a Salt Lake City,  Utah  corporation  engaged in the  business of
developing cold-fusion products.  During Dr. Thorne's tenure at Eneco, Inc., the
company was engaged primarily in the business of prosecuting patent applications
relating  to the  cold-fusion  technology.  From 1989 to 1993,  Dr.  Thorne  was
employed as a patent  consultant  and patent agent with Foster & Foster,  a Salt
Lake City  intellectual  property law firm. Dr. Thorne holds twenty-six  patents
and has  published  numerous  technical  publications.  He has been a  technical
consultant and a member of the Board of the Small Business Innovation Program of
the State of Utah.  Dr.  Thorne  manages all the patent and product  development
work for the Company.  He holds a Ph.D.  in  Biophysics  from the  University of
Utah. He is a past  president of Thorne,  Smith,  Astill,  Inc., an  engineering
director for Becton,  Dickinson and Company Immunochemistry  Division and a vice
president and division manager for Varian and Diasonics Ultrasound.

         Charles D. Roe. Mr. Roe is the Chief Financial Officer,  Vice President
- Finance and Investor Relations,  Secretary and Treasurer.  He was appointed to
his position as Chief Financial Officer and  Vice-President in November 1997 and
has been with the Company  since  October  1997.  Mr. Roe is a certified  public
accountant licensed in the State of Utah and has principally been engaged in the
practice  of public  accounting  since  1976,  including  four years with Arthur
Andersen  LLP.  Mr.  Roe's  public  accounting  emphasis has been related to the
performance  of audit  services  to private  and public  enterprises  along with
management and other general business and income tax related services. From June
1995 through  October 1997, Mr. Roe worked in association  with Jones,  Jensen &
Co., a  certified  public  accounting  firm  which is a member of the  McGladrey
Network of accounting firms, specializing in audits of public companies. Mr. Roe
was employed by Wellshire  Services,  Inc. from June 1993 to June 1995 providing
various  services to numerous public and private  companies in the United States
and Europe.  From 1987 to October 1997,  Mr. Roe has owned and operated a public
accounting  practice  focusing on financial  audits,  individual  and  corporate
income tax consultation and preparation and other advisory services. Since 1987,
Mr. Roe has  served on the board of  directors  and as  secretary  of  Covington
Capital  Corporation,  a  privately  owned  financing  business.  From June 1995
through November 1996, Mr. Roe was employed by the company providing  management
services to various companies financed by Covington Capital Corporation. Mr. Roe
graduated  from the  University  of Utah  with a  bachelors  of arts  degree  in
accounting.

         Robert R. Walker.  Mr. Walker is a director of the Company.  Mr. Walker
has been a  director  since  March  1994.  He is  currently  self-employed  as a
consultant in the health care industry primarily in the area of start-up medical
device  companies.  From 1976 to 1992, Mr. Walker was employed by IHC Affiliated
Services  Division of Intermountain  Health Care, a regional  hospital  company,
from which he retired as  President  of IHC  Affiliated  Services.  He is also a
former  Chairman  of the Board of  AmeriNet,  Inc.,  which is a  national  group
purchasing organization for hospitals,  clinics,  detox/drug centers, emergency,
nursing  homes,  private  laboratories,   psychiatric  centers,   rehabilitation
facilities,  surgical centers and institutions such as schools and prisons.  Mr.
Walker  is a  member  of the  American  Hospital  Association  and the  Hospital
Financial  Management  Association.  He holds a Bachelor  of  Science  degree in
Business Administration.

         Executive officers of the Company are elected by the Board on an annual
basis and serve at the discretion of the Board.

                                       32
<PAGE>

Section 16(a) Beneficial Ownership Reporting Compliance

         Section  16(a) of the  Securities  Exchange  Act of 1934  requires  the
Company's  executive  officer,  directors and persons who  beneficially own more
than 10% of the Company's  Common Stock to file initial reports of ownership and
reports of changes in ownership  with the  Securities  and  Exchange  Commission
("SEC").  Such  persons are required by SEC  regulations  to furnish the Company
with copies of all Section 16(a) forms filed by such persons.

         Based  solely on the  Company's  review of such forms  furnished to the
Company and representations from certain reporting persons, the Company believes
that all filing  requirements  applicable to the Company's  executive  officers,
directors and more than 10% stockholders were complied with during 1997.

 Item 11. Executive Compensation.


         The tables below set forth certain information concerning  compensation
paid by the  Company  to its Chief  Executive  Officer  and all other  executive
officers with annual compensation in excess of $100,000 (determined for the year
ended December 31, 1997) (the "Named  Executive  Officers").  The tables include
information related to stock options granted to the Named Executive Officers.

         Summary  Compensation  Table.  The  following  table  provides  certain
information  regarding  compensation  paid by the Company to the Named Executive
Officers.
<TABLE>
<CAPTION>
                                            SUMMARY COMPENSATION TABLE

                                           Annual Compensation                Long-Term Compensation Awards
                                                                            Restricted  Stock                     All Other
       Name and                 Salary      Bonus          Other Annual     Stock       Options/    LTIP        Compensation
   Principal Position     Year    ($)(1)      ($)(2)    Compensation($)(3)  Awards ($)    SAR(#)    Payouts($)     ($)(4)
   ------------------     ----    ------      ------    ------------------  ----------    ------    ----------     ------
<S>                       <C>    <C>          <C>           <C>            <C>         <C>            <C>          <C>
David A. Robinson,        1995   193,590      25,000           ---          666,666(5)  300,000(6)     ---          1,192
President, CEO, Chairman  1996   240,000       ---            8,000            ---         ---         ---          2,777
of the Board and          1997   240,000       ---            4,750            ---         ---         ---          4,150
Director

Bradley C. Robinson, VP,  1995   148,590      25,000           ---          666,666(5)  300,000(7)     ---            374
Business Development and  1996   160,000       ---            5,333            ---         ---         ---            898
Director                  1997   160,000       ---            4,750            ---         ---         ---          1,952

Dr. Gale H. Throne, VP    1995   128,333      25,000           ---             ---       57,000(7)     ---            ---
Product Development and   1996   150,000       ---            4,640            ---       40,000(7)     ---             72
Director                  1997   150,000       ---            4,750            ---         ---         ---            429
---------------
</TABLE>

(1)  All amounts paid as salary were paid pursuant to the Company's  obligations
     under  employment  contracts with the above  individuals.  These employment
     contracts  have been amended from time to time during the periods set forth
     above. The annual salaries of the Named Executive Officers, as set forth in
     their  employment  contracts,  are  $240,000  for Mr.  David  A.  Robinson,
     $160,000 for Mr. Bradley C. Robinson and $150,000 for Dr.
     Gale H. Thorne.
(2)  The  cash  bonuses  were  awarded  by the  Company  in  recognition  of the
     recipients' contributions toward completion of the Acquisition.
(3)  These amounts represent payments by the  Company into its 401(k) retirement
     plan for the benefit of the Named Executive Officer.
(4)  These  amounts  represent  the  amounts  paid by the  Company for term life
     insurance  on the  lives of the  Named  Executive  Officer  with  insurance
     proceeds  payable  to the  beneficiary  designated  by the Named  Executive
     Officer. These insurance policies have no cash surrender values.

                                       33
<PAGE>

(5)  These are earn-out shares.
(6)  Options issued  pursuant to the  NQSOP; options  to purchase  87,500 shares
     were exercised on January 10, 1997.
(7)  Options issued pursuant to the NQSOP.
<TABLE>
<CAPTION>
                                AGGREGATE OPTION EXERCISES IN LAST FISCAL YEAR AND
                                           FISCAL YEAR END OPTION VALUES

                                                                  Number of Securities          Value of Unexercised
                                                                 Underlying Unexercised             In-the-Money
                                                                 Options/SARs at Fiscal        Options/SARs at Fiscal
                                  Shares                               Year-End                     Year-End($)
                               Acquired On         Value             (Exercisable/                  (Exercisable/
               Name            Exercise (#)    Realized ($)          Unexercisable)               Unexercisable)(1)
               ----            ------------    ------------     ------------------------          -----------------
<S>                                <C>           <C>                  <C>                        <C>
       David A. Robinson           87,500        $92,969(2)           212,500(3)/0                       ---

       Bradley C. Robinson          ---              ---              300,000(3)/0                       ---

       Dr. Gale H. Thorne           ---              ---              115,000(4)/0                    $22,230/---
---------------
</TABLE>

(1) The closing  price of the Company's  Common Stock on December 31, 1997,  was
    $1.625 per share.
(2) Options exercisable for 87,500 shares of the Company's Common Stock at $2.00
    per share  were exercised  on January 10,  1997, on which  date the  closing
    price of the Common Stock was $3.0625 per share.
(3) Options  exercisable at $2.00 per share.
(4) Represents 18,000 options currently exercisable at an exercise price of $.39
    per share; 57,000  options  currently  exercisable  at $2.00 per share;  and
    40,000  options  currently exercisable at $2.625 per share. Does not include
    SHPI Warrants to purchase 200,000 shares of Common Stock that were issued to
    Dr.  Thorne  in  January  1998.  See  "Certain  Relationships   and  Related
    Transactions."

Compensation of Directors

         No cash fees or other consideration was paid to non-employee  directors
of the Company by the Company for service on the Board during 1997. During 1994,
the  non-employee  members  of the Board  received  shares  of  Common  Stock as
compensation  for  serving on the Board of SHP.  In 1995 and 1996,  the  Company
granted to  non-employee  directors  under the NQSOP  stock  options to purchase
shares of Common  Stock.  The  Company  has made no other  agreements  regarding
compensation  of non-employee  directors.  Directors of the Company who are also
officers of the Company receive no additional  compensation for their service as
directors.  All directors are entitled to reimbursement for reasonable  expenses
incurred in the performance of their duties as Board members.

Employment and Indemnity Agreements

         The Company has entered  into  employment  agreements  with each of Mr.
David A. Robinson, Mr. Bradley C. Robinson and Dr. Gale H. Thorne (collectively,
the "Senior Executives").  These employment agreements,  which have been amended
from time to time,  provide that (i) Mr. David A.  Robinson  receive a salary of
$240,000  per year,  Mr.  Bradley C.  Robinson  receive a salary of $160,000 per
year,  and Dr. Gale H. Thorne  receive a salary of $150,000  per year;  (ii) the
Senior Executives'  employment agreements are for terms of three years, expiring
on November 3, 2000;  (iii) the Senior  Executives  are entitled to a reasonable
car  allowance;  (iv) if the  employment of a Senior  Executive is terminated by
reason  of  disability  or other  than for  cause,  the  salary  of such  Senior
Executive  will  continue  for the full term of the  agreement;  (v) if a Senior
Executive is terminated for cause, the salary of such Senior Executive ceases as
of the date of termination;  (vi) the Company will provide each Senior Executive

                                       34
<PAGE>

with up to  $1,000,000  of term life  insurance  while the Senior  Executive  is
employed  by the  Company;  and  (vii)  the  Senior  Executives  shall  keep all
proprietary  information  relating to the  business of the Company  confidential
both  during  and  after the term of the  agreements.  With one  exception,  the
Company  does not have  employment  agreements  with any of its other  executive
officers or key employees.

         The Company has  entered  into  indemnity  agreements  (the  "Indemnity
Agreements") with each of its executive officers and directors pursuant to which
the Company has agreed to indemnify  the  officers and  directors to the fullest
extent  permitted by law for any event or  occurrence  related to the service of
the  indemnitee  as an officer or director of the Company that takes place prior
to or after the execution of the Indemnity  Agreement.  The Indemnity Agreements
obligate the Company to reimburse or advance expenses relating to any proceeding
arising out of an  indemnifiable  event.  Under the  Indemnity  Agreements,  the
officers  and  directors  of the Company are  presumed to have met the  relevant
standards of conduct  required by Delaware law for  indemnification.  Should the
Indemnity  Agreements  be held to be  unenforceable,  indemnification  of  these
officers and  directors  may be provided by the Company in certain  cases at its
discretion.

401(k) Retirement Plan

         Effective in 1996, the Company adopted a 401(k) retirement plan whereby
the Company  contributes  five percent of payroll  compensation  to the plan and
matches  employee  contributions  to the plan on a dollar for dollar basis up to
the maximum  contribution  allowed by  applicable  tax law. The Named  Executive
Officers have invested all of the funds in their 401(k) accounts in common stock
of the Company.

Indemnification for Securities Act Liabilities

         Delaware  law  authorizes,  and  the  Company's  Bylaws  and  Indemnity
Agreements provide for,  indemnification of the Company's directors and officers
against  claims,  liabilities,  amounts  paid in  settlement  and  expenses in a
variety of circumstances.  Indemnification for liabilities arising under the Act
may be permitted for directors,  officers and controlling persons of the Company
pursuant to the  foregoing or otherwise.  However,  the Company has been advised
that,  in  the  opinion  of  the  Securities  and  Exchange   Commission,   such
indemnification  is  against  public  policy  as  expressed  in the  Act and is,
therefore, unenforceable.

Stock Options and Warrants

         During 1994, the Board of SHP approved the SHP NQSOP.  Options  granted
under the SHP NQSOP were required to have exercise prices not less than the fair
market value of the underlying stock at the date of grant as determined by SHP's
Board of Directors.  The number of shares,  terms and exercise period of options
granted under the SHP NQSOP were  determined by the SHP Board of Directors on an
option-by-option basis. On the date of the Acquisition, all options issued under
the  SHP  NQSOP  became  obligations  of the  Company  and  the  SHP  NQSOP  was
terminated.  As of March 18,  1997,  options to acquire an  aggregate  of 18,000
shares of Common  Stock  were  outstanding  in  connection  with the SHP  NQSOP.
Options issued under the SHP NQSOP expire in 1999.

         On  September 1, 1995,  the Company  adopted the NQSOP and has reserved
1,500,000 shares of Common Stock for the possible  exercise of options under the
plan.  The exercise  price of options  granted  under the NQSOP must be not less
than  the fair  market  value  of the  underlying  stock at the date of grant as
determined by the Board.  Options granted under the NQSOP expire five years from
the date of grant.  As of March 18,  1998,  options to acquire an  aggregate  of
1,463,500 shares of Common Stock at exercise prices ranging from $2.00 to $2.625
per share had been granted and are presently  outstanding (not including options
granted under the SHP NQSOP).

Possible Delisting of Securities from Nasdaq System.

         The Company's  common stock is currently traded on the Nasdaq Small-Cap
Market  System.  In order to continue to qualify its stock for  quotation on the
Nasdaq Small-Cap Market under recently adopted rules, a company must have, among

                                       35
<PAGE>

other things, $2 million in net tangible assets, a market  capitalization of $35
million or annual net income of $500,000. The Company is also required to have a
minimum of two independent directors and an audit committee, a majority of which
are  independent  directors,  and a minimum bid price of at least $1.  Except as
described  below, the Company believes it is currently in compliance with Nasdaq
Small-Cap  Market listing  requirements.  There is no assurance that the Company
will continue to qualify for listing.

         The Company currently does not meet the Nasdaq Small-Cap Market listing
requirements  because it has only one independent  director and does not have an
audit  committee.  The Company  intends to bring itself into compliance with the
listing requirements by bringing on an additional  independent director and then
forming  an  audit  committee,  a  majority  of the  members  of  which  will be
independent directors. The Company is currently working with Nasdaq to develop a
time frame within which the Company must bring itself into  compliance with such
listing requirements. If the Company is not able to bring itself into compliance
within such timeframe, it could be delisted. In the event of delisting, trading,
if any, in the  Company's  securities  would be expected to be  conducted in the
over-the-counter  market in what is commonly referred to as the "pink sheets" or
the  "Electronic  Bulletin  Board." As a result,  an  investor  may find it more
difficult to dispose of, or to obtain accurate quotations as to the price of the
Company's securities.  The loss of continued price quotations as provided by the
Nasdaq  System  could also cause a decline in the price of the Common  Stock,  a
loss of news  coverage of the Company and  difficulty  in  obtaining  subsequent
financing.

Compensation Committee Interlocks and Insider Participation

         No  executive  officers  of  the  Company  serve  on  the  Compensation
Committee (or in a like capacity) for the Company or any other entity.

Item 12. Security Ownership of Certain Beneficial Owners and Management.

         The following table sets forth certain  information with respect to the
beneficial  ownership  of the common  stock of the Company as of March 18, 1998,
for: (i) each person who is known by the Company to beneficially own more than 5
percent of the  Company's  common stock,  (ii) each of the Company's  directors,
(iii) each of the Company's Named Executive  Officers (defined below),  and (iv)
all  directors  and  executive  officers as a group.  As of March 18, 1997,  the
Company had 12,271,440 shares of common stock outstanding.

                           Shares
  Name and Address      Beneficially   Percentage of
of Beneficial Owner(1)    Owned(2)       Total(2)         Position


David A. Robinson(3)       641,925          5%         President, CEO, Chairman
                                                       of the Board and Director

Bradley C. Robinson(4)     639,541          5%         Vice President - Business
                                                       Development and Director

Dr. Gale H. Thorne(5)      381,655          3%         Vice President - Product
                                                       Development and Director

Robert R. Walker(6)        113,000          1%         Director


Executive Officers and   1,776,121         14%
Directors as a Group
(five persons)

                                       36
<PAGE>


John T. Clarke(7)          647,121          5%
Thatchetts Camp Road
Gerrards Cross
Buckinghamshire, England

Capital Growth             938,040          7%
International, LLC(8)
11601 Wilshire Boulevard,
Suite 500
Los Angeles, CA 90025

Johnson & Johnson        1,000,000          8%
Development Corporation(9)
One Johnson & Johnson
Plaza, New Brunswick, NJ
08933

Asdale Ltd(10)             750,000          6%
44 Lowndes Street
London, England
--------------

(1)  Except where otherwise  indicated, the  address of the beneficial  owner is
     deemed to be the same address as the Company.
(2)  Beneficial  ownership  is  determined  in  accordance  with SEC  rules  and
     generally  includes holding voting and investment power with respect to the
     securities. Shares of Common Stock subject to options or warrants currently
     exercisable,  or  exercisable  within 60 days, are deemed  outstanding  for
     computing the percentage of the total number of shares  beneficially  owned
     by the designated  person, but are not deemed outstanding for computing the
     percentage for any other person.
(3)  Includes 417,719 shares and stock options to purchase 212,500 shares.  Also
     includes 11,706 shares  purchased  through the Company's  401(k) plan. Does
     not include the earn-out shares. See "--Long-Term  Incentives and Executive
     Compensation."
(4)  Includes 330,219 shares and stock options to purchase 300,000 shares.  Also
     includes 9,322 shares purchased through the Company's 401(k) plan. Does not
     include the earn-out  shares.  See  "--Long-Term  Incentives  and Executive
     Compensation."
(5)  Includes 18,000  shares, stock options to  purchase 115,000 shares,  Series
     A Warrants to purchase 15,000 shares and SHPI Warrants to purchase  200,000
     shares.   Also  includes  25,000  shares  that  Dr.  Thorne  is  deemed  to
     beneficially  own through a trust and 8,655  shares  purchased  through the
     Company's   401(k)   plan.   See   "Certain   Relationships   and   Related
     Transactions."
(6)  Includes  stock  options to  purchase 50,000 shares.  Also includes  63,000
     shares that Mr. Walker is deemed to beneficially own through a trust.
(7)  Includes  163,000  shares,  stock  options to purchase  300,000  shares and
     Series A Warrants to purchase 3,000 shares.  Also includes  123,465 shares,
     Series A Warrants  to  purchase  18,000  shares  and  Series B Warrants  to
     purchase  21,841  shares owned by his spouse;  and 18,000 shares owned by a
     minor  child,  all of which he is  deemed  to  beneficially  own.  Does not
     include  the  earn-out  shares.  See  Long-Term  Incentives  and  Executive
     Compensation.
(8)  Includes  Series B Warrants to purchase 918,040 shares and stock options to
     purchase  20,000  shares.
(9)  Includes 1,000,000  shares. Does not include  1,000,000  Series D  Warrants
     that are not exercisable until October 1, 1998.
(10) Includes 750,000 shares.  Does not include 750,000  Series D  Warrants that
     are not exercisable until October 1, 1998.

         The Company is not aware of any  arrangements,  the  operation of which
may, at a subsequent date, result in a change in control of the Company.

                                       37
<PAGE>

Item 13. Certain Relationships and Related Transactions.

         Dr. Gale H. Thorne, a director and officer of the Company, was entitled
to a  royalty  of two and  one-half  percent  on the  Company's  gross  revenues
received from the sale of products  utilizing the  ExtreSafe(R)  medical  needle
withdrawal,  blood  collection  device and intravenous  flow gauge  technologies
(collectively, the "Thorne Products"). These royalties were agreed to in 1994 in
exchange for Dr.  Thorne's  assignment to the Company of  intellectual  property
rights he owned prior to his involvement  with the Company,  which  intellectual
property  rights  relate to the Thorne  Products.  In addition,  the Company was
required under the agreement to pay Dr. Thorne minimum  royalty  payments of not
less than $435,000  over a six year period  beginning in 1998.  Minimum  royalty
payments in 1998 and 1999 totaled in the aggregate  $195,000.  As a condition of
the January Private  Placement,  in January 1998 Dr. Thorne released the Company
from all royalty  obligations  relating to Thorne  Products in exchange  for the
issuance of 750,000 SHPI Warrants to Dr. Thorne and his assigns.

         The law firm of Blackburn & Stoll,  LC provides  legal  services to the
Company.  Eric L. Robinson,  a member of that firm, is the brother of Bradley C.
Robinson.

         In January  1997,  David A.  Robinson,  a director  and  officer of the
Company  exercised  options to purchase  87,500 shares of the  Company's  common
stock in order to provide needed working  capital for the Company.  Mr. Robinson
obtained the funds to exercise the options by margining  shares of the Company's
stock that he owned and all of the proceeds from the margin  transaction went to
the Company.  In August 1997,  his margin was called and Mr.  Robinson  borrowed
$182,577 from the Company to pay the margin call. In December 1997, Mr. Robinson
repaid in full the  $182,577  principal  amount plus  interest  thereon at eight
percent per annum.

         In December  1997, the Company  entered into a development  and license
agreement with Johnson & Johnson Medical, Inc. to commercialize two applications
of the ExtreSafe(R)  safety needle  technology.  The J&J Agreement  provides for
monthly  development  payments by J&J,  sharing of field  related  patent costs,
payments for initial  periods of low volume  manufacturing,  an ongoing  royalty
stream and a J&J investment in molds, assembly equipment and other capital costs
related to  commercialization  of each product.  The J&J Agreement also provides
for an ongoing  joint  cooperative  program  between  the  Company and J&J which
derives  future funding  directly from sales of Company  created  products,  low
volume  manufacturing  revenue for the Company and an ongoing royalty stream for
additional  safety  products  which are jointly  approved  for  development.  In
connection  with the J&J Agreement,  Johnson & Johnson  Development  Corporation
purchased $2,000,000 of Company securities in a private placement that closed in
January 1998.

                                     PART IV

Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.

         (a)      The following documents are filed as part of this report:

                  (1) Financial Statements

                  Listed on page F-1.

                  (2) Financial Statement Schedules

                  None required.

         (b)      Reports on Form 8-K

                                       38
<PAGE>

                  One report on Form 8-K,  dated December 22, 1997, was filed on
                  February 10, 1998, reporting the J&J Agreement.

     (c)  Exhibits

                  Listed on page 41 hereof.




                  [REMAINDER OF PAGE INTENTIONALLY LEFT BLANK]


                                       39
<PAGE>

                                   SIGNATURES

         Pursuant to the  requirements  of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.

                                            SPECIALIZED HEALTH PRODUCTS
                                            INTERNATIONAL, INC.
                                            (Registrant)


Date: March 30, 1998                        By  /s/ David A. Robinson
      -------------------                      ----------------------
                                            David A. Robinson
                                            President, Chief Executive Officer
                                            and Director


         Pursuant to the  requirements  of the  Securities  and  Exchange Act of
1934,  this report has been signed below by the  following  persons on behalf of
the registrant and in the capacities and on the dates indicated.

       Signature           Title                                      Date


/s/ David A. Robinson      President, Chief Executive Officer     March 30, 1998
----------------------     and Director (Principal Executive
David A. Robinson          Officer


/s/ Bradley C. Robinson    Director and Vice President            March 30, 1998
-----------------------
Bradley C. Robinson


/s/ Charles D. Roe         Vice President, Chief Financial        March 30, 1998
-----------------------    Officer, Secretary and Treasurer
Charles D. Roe             (Principal Financial and Accounting
                           Officer)


/s/ Gale H. Thorne         Director and Vice President            March 30, 1998
-----------------------
Gale H. Thorne

/s/ Robert R. Walker       Director                               March 30, 1998
-----------------------
Robert R. Walker

                                       40
<PAGE>

                                  EXHIBIT INDEX

EXHIBIT NO.                           DESCRIPTION OF EXHIBIT

  3(i).1               Restated  Certificate  of  Incorporation  of the Company.
                       (Incorporated  by  reference  to  Exhibit  3(i).1  of the
                       Company's  current  report  on Form 8-K,  dated  July 28,
                       1995)

  3(i).2               Certificate of Amendment of Certificate of  Incorporation
                       of the  Company.  (Incorporated  by  reference to Exhibit
                       3(i).2 of the  Company's  Form 10-K,  dated  December 31,
                       1996).

  3(i).3               Articles of Incorporation of Specialized Health Products,
                       Inc. ("SHP") (Incorporated by reference to Exhibit 3(i).2
                       of the Company's Form 10-K, dated December 31, 1995)

  3(i).4               Articles of Amendment of SHP  (Incorporated  by reference
                       to  Exhibit  3(i).3 of the  Company's  Form  10-K,  dated
                       December 31, 1995)

  3(ii).1              Second Amended and Restated Bylaws of the Company.

  3(ii).2              Bylaws  of SHP  (Incorporated  by  reference  to  Exhibit
                       3(ii).2 of the Company's  Form 10-K,  dated  December 31,
                       1995)

  4.1                  Form of  Series  A Warrant  Certificate  (Incorporated by
                       reference to  Exhibit 4.1 of the  Company's Annual Report
                       on Form 10-K, dated December 31, 1995).

  4.2                  Form of  Series B  Warrant Certificate  (Incorporated  by
                       reference to Exhibit  4.1 of the Company's Annual  Report
                       on Form 10-K, dated December 31, 1995).

  4.3                  Form of Series D Warrant Certificate

  4.4                  Form of SHPI Warrant Certificate

  10.1                 Form of  Employment  Agreement  with  Executive  Officers
                       (Incorporated  by  reference   to  Exhibit  10.3  of  the
                       Company's Form 10-K, dated December 31, 1995)

  10.2                 Form of Indemnity  Agreement with Executive  Officers and
                       Directors  (Incorporated  by reference to Exhibit 10.4 of
                       the Company's Form 10-K, dated December 31, 1995)

  10.3                 Form  of  Confidentiality   Agreement   (Incorporated  by
                       reference to  Exhibit 10.5 of the  Company's  Form  10-K,
                       dated December 31, 1995)

  10.4                 Joint  Venture  Agreement  between SHP and Zerbec,  Inc.,
                       dated  October 30, 1995  (Incorporated  by  reference  to
                       Exhibit 10.6 of the Company's  Form 10-K,  dated December
                       31, 1995)

  10.5                 Distribution Agreement between SHP  and Becton, Dickinson
                       and Company (Incorporated by reference to Exhibit 10.1 of
                       the Company's  Current Report  on Form 8-K,  dated August
                       26, 1996)

  10.6                 License Agreement  between SHP and Becton,  Dickinson and
                       Company (Incorporated by reference to Exhibit 10.1 of the
                       Company's Current Report on Form 8-K, dated June 4, 1997)

  10.7                 Distribution  and  License   Agreement  between  SHP  and
                       Johnson  and  Johnson  Medical,  Inc.  (Incorporated   by
                       reference to Exhibit 10.1 of the Company's Current Report
                       on Form 8-K, dated December 22, 1997)

  21.1                 Schedule of  subsidiaries  (Incorporated by  reference to
                       Exhibit 21.1 of the Company's Annual Report on Form 10-K,
                       dated December 31, 1995).

  23.1                 Consent  of  Arthur  Andersen  LLP,   Independent  Public
                       Accountants

                                       41
<PAGE>

EXHIBIT NO.                           DESCRIPTION OF EXHIBIT

  23.2                 Consent of KPMG Peat  Marwick LLP, Independent  Certified
                       Public Accountants

  27.1                 Financial Data Schedule


                                       42
<PAGE>

         SPECIALIZED HEALTH PRODUCTS INTERNATIONAL, INC. AND SUBSIDIARY
                      (A Company in the Development Stage)


                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

                                                                          Page

Report of Independent Public Accountants - Arthur Andersen LLP.............F-2

Independent Auditors' Report - KPMG Peat Marwick LLP.......................F-3

Consolidated Balance Sheets as of December 31, 1997 and 1996...............F-4

Consolidated Statements of Operations for the Years Ended
  December 31, 1997, 1996 and 1995 and for the Period
  from Inception to December 31, 1997......................................F-5

Consolidated  Statements of  Stockholders'  Equity (Deficit) for
  the Years Ended December 31, 1997, 1996 and 1995 and
  for the Period from Inception to December 31, 1997.......................F-6

Consolidated  Statements  of Cash Flows for the Years Ended
  December  31, 1997, 1996 and 1995 and for the Period
  from Inception to December 31, 1997......................................F-9

Notes to Consolidated Financial Statements.................................F-11

                                       F-1
<PAGE>

                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS


To Specialized Health Products International, Inc.:

We have audited the  accompanying  consolidated  balance  sheets of  Specialized
Health Products  International,  Inc. (a Delaware corporation in the development
stage)  and  subsidiary  as of  December  31,  1997 and  1996,  and the  related
consolidated  statements of operations,  stockholders' equity (deficit) and cash
flows for the  years  then  ended  and the  related  statements  of  operations,
stockholders'  equity  (deficit)  and cash flows for the period  from  inception
(November 19, 1993) to December 31, 1997.  These  financial  statements  are the
responsibility of the Company's management.  Our responsibility is to express an
opinion on these financial  statements based on our audits. We did not audit the
consolidated financial statements of Specialized Health Products  International,
Inc. and  subsidiary  for the period from  inception to December 31, 1995.  Such
statements are included in the cumulative  inception to December 31, 1997 totals
of the statements of operations,  stockholders'  equity (deficit) and cash flows
and  reflect  total  revenues  and  net  loss  of 49  percent  and  31  percent,
respectively, of the related cumulative totals. Those statements were audited by
other auditors whose reports have been furnished to us and our opinion,  insofar
as it relates to amounts for cumulative totals, is based solely upon the reports
of the other auditors.

We  conducted  our  audits  in  accordance  with  generally   accepted  auditing
standards.  Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement.  An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements.  An audit also includes
assessing the  accounting  principles  used and  significant  estimates  made by
management,  as well as evaluating the overall financial statement presentation.
We  believe  that our  audits  and the  reports  of  other  auditors  provide  a
reasonable basis for our opinion.

In our  opinion,  based on our audits and the  reports  of other  auditors,  the
financial statements referred to above present fairly, in all material respects,
the   consolidated   financial   position   of   Specialized   Health   Products
International,  Inc. and  subsidiary  as of December 31, 1997 and 1996,  and the
results of their  operations and their cash flows for the years then ended,  and
for the period from inception to December 31, 1997, in conformity with generally
accepted accounting principles.

The accompanying  consolidated  financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 1 to the
consolidated financial statements,  the Company has experienced recurring losses
from operations of $4,305,130, $4,233,677 and $3,039,059 and negative cash flows
from operating  activities of $1,389,016,  $3,558,778 and $2,605,616  during the
years ended December 31, 1997, 1996 and 1995,  respectively.  As of December 31,
1997, the Company had an accumulated deficit of $12,225,447. These matters raise
substantial  doubt about the Company's  ability to continue as a going  concern.
Management's  plans in regard to these matters are also described in Note 1. The
accompanying  consolidated  financial  statements do not include any adjustments
relating to the  recoverability  and classification of asset carrying amounts or
the amount and  classification  of  liabilities  that  might  result  should the
Company be unable to continue as a going concern.


ARTHUR ANDERSEN LLP


Salt Lake City, Utah
  February 2, 1998

                                       F-2
<PAGE>

                          Independent Auditors' Report



The Board or Directors and Stockholders
Specialized Health Products International, Inc.:

We  have  audited  the  accompanying   consolidated  statements  of  operations,
stockholders'  equity (deficit),  and cash flows of Specialized  Health Products
International,  Inc. and subsidiary,  (a company in the development  stage), for
the year ended December 31, 1995 and for the period from November 19, 1993 (date
of inception) to December 31, 1995. These consolidated  financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated financial statements based on our audits.

We  conducted  our  audits  in  accordance  with  generally   accepted  auditing
standards.  Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement.  An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements.  An audit also includes
assessing the  accounting  principles  used and  significant  estimates  made by
management,  as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated  financial statements referred to above present
fairly,  in all material  respects,  the results of operations and cash flows of
Specialized  Health  Products  International,  Inc. and  subsidiary for the year
ended  December  31,  1995 and for the period  from  November  19, 1993 (date of
inception)  to  December  31,  1995,  in  conformity  with  generally   accepted
accounting principles.


                                                     KPMG Peat Marwick LLP


Salt Lake City, Utah
February 2, 1996

                                       F-3
<PAGE>
<TABLE>
<CAPTION>
                            SPECIALIZED HEALTH PRODUCTS INTERNATIONAL, INC. AND SUBSIDIARY
                                         (A Company in the Development Stage)

                                              CONSOLIDATED BALANCE SHEETS


                                                          ASSETS

                                                                                                 December 31,
                                                                                           1997               1996
                                                                                           ----               ----
CURRENT ASSETS:
<S>                                                                                    <C>                <C>
   Cash                                                                                $ 1,441,556        $   252,694
   Accounts receivable                                                                      34,328              1,159
   Inventories                                                                              72,352             15,710
   Prepaid expenses and other                                                               56,891             96,813
                                                                                       -----------        -----------

     Total current assets                                                                1,605,127            366,376
                                                                                       -----------        -----------

PROPERTY AND EQUIPMENT, at cost:
   Manufacturing molds                                                                     812,994            481,553
   Office furnishings and fixtures                                                         352,925            272,220
   Assembly and manufacturing equipment                                                     46,138             33,727
   Construction-in-progress                                                                546,372            564,502
                                                                                       -----------        -----------
                                                                                         1,758,429          1,352,002
   Less accumulated depreciation                                                          (308,000)          (165,025)
                                                                                       -----------        -----------
     Net property and equipment                                                          1,450,429          1,186,977
                                                                                       -----------        -----------

OTHER ASSETS, net                                                                          229,857            295,486
                                                                                       -----------        -----------
                                                                                       $ 3,285,413        $ 1,848,839
                                                                                       ===========        ===========


                                        LIABILITIES AND STOCKHOLDERS' EQUITY

CURRENT LIABILITIES:
   Accounts payable                                                                    $   469,948        $   100,686
   Accrued liabilities                                                                     398,022            161,784
   Amounts due to related parties                                                          127,195             73,152
                                                                                       -----------        -----------
     Total current liabilities                                                             995,165            335,622
                                                                                       -----------        -----------

DEFERRED ROYALTY REVENUES                                                                1,750,000                -
                                                                                       -----------        -----------

COMMITMENTS AND CONTINGENCIES (Notes 1,3,4, 5 and 7)

STOCKHOLDERS' EQUITY:
   Preferred stock, $.001 par value; 5,000,000 shares authorized, no shares
     outstanding                                                                                 -                -
   Common stock, $.02 par value; 50,000,000 shares authorized, 10,129,842 and
     8,656,653 shares  outstanding, respectively
                                                                                           202,597            173,133
   Common stock subscriptions receivable                                                  (209,200)          (209,200)
   Additional paid-in capital                                                           12,113,346          9,540,928
   Series C warrants to purchase common stock                                              310,994                  -
   Series D warrants to purchase common stock                                              388,158                  -
   Deferred consulting expense                                                             (40,200)           (40,200)
   Deficit accumulated during the development stage                                    (12,225,447)        (7,951,444)
                                                                                       -----------        -----------
     Total stockholders' equity                                                            540,248          1,513,217
                                                                                       -----------        -----------
                                                                                       $ 3,285,413        $ 1,848,839
                                                                                       ===========        ===========
</TABLE>

           The accompanying notes to consolidated financial statements
           are an integral part of these consolidated balance sheets.

                                       F-4
<PAGE>
<TABLE>
<CAPTION>

                            SPECIALIZED HEALTH PRODUCTS INTERNATIONAL, INC. AND SUBSIDIARY
                                         (A Company in the Development Stage)

                                        CONSOLIDATED STATEMENTS OF OPERATIONS



                                                                                                            Period from
                                                                                                            Inception to
                                                     Year Ended December 31,                                December 31,
                                                    1997                 1996                1995           1997 (Note 1)
                                                 -----------         -----------         -----------        -------------
REVENUES:
<S>                                           <C>                 <C>                 <C>                <C>
   Net product sales                          $      182,363      $       74,563      $      447,844     $       738,026
   Development fees                                  250,000                 -                   -               250,000
                                                 -----------         -----------         -----------        ------------
                                                     432,363              74,563             447,844             988,026

COST OF PRODUCT SALES                                141,857              70,257             294,171             527,954
                                                 -----------         -----------         -----------        ------------
      Gross profit                                   290,506               4,306             153,673             460,072
                                                 -----------         -----------         -----------        ------------

OPERATING EXPENSES:
   Selling, general and administrative
                                                   3,311,222           2,901,434           2,133,021           8,969,149
   Research and development                        1,191,857           1,264,186             804,639           3,551,632
   Write-off of operating assets                      92,557              72,363             255,072             419,992
                                                 -----------         -----------         -----------        ------------
      Total operating expenses                     4,595,636           4,237,983           3,192,732          12,940,773
                                                 -----------         -----------         -----------        ------------

LOSS FROM OPERATIONS                              (4,305,130)         (4,233,677)         (3,039,059)        (12,480,701)
                                                 -----------         -----------         -----------        ------------

OTHER INCOME (EXPENSE):
   Interest income                                    18,236             108,701             135,428             262,602
   Interest expense                                        -                 -               (15,858)            (23,658)
   Other, net                                         12,891              31,588                 -                44,479
                                                 -----------         -----------         -----------        ------------

     Net other income                                 31,127             140,289             119,570             283,423
                                                 -----------         -----------         -----------        ------------

NET LOSS                                          (4,274,003)         (4,093,388)         (2,919,489)        (12,197,278)

LESS PREFERENCE STOCK DIVIDENDS                          -                   -               (11,389)            (28,169)
                                                 -----------         -----------         -----------        ------------

NET LOSS APPLICABLE TO COMMON SHARES             $(4,274,003)        $(4,093,388)        $(2,930,878)       $(12,225,447)
                                                 ===========         ===========         ===========        ============

BASIC AND DILUTED NET LOSS PER COMMON SHARE      $      (.47)        $      (.48)        $      (.69)
                                                 ===========         ===========         ===========

WEIGHTED AVERAGE COMMON SHARES OUTSTANDING         9,170,541           8,589,952           4,269,131
                                                 ===========         ===========         ===========
</TABLE>
           The accompanying notes to consolidated financial statements
           are an integral part of these consolidated balance sheets.

                                       F-5
<PAGE>
<TABLE>
<CAPTION>
                                                                                                                         Page 1 of 3
         SPECIALIZED HEALTH PRODUCTS INTERNATIONAL, INC. AND SUBSIDIARY
                      (A Company in the Development Stage)

            CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)


                                                                                                                            Deficit
                                                                                                                            Accumu-
                                                                                                                            lated
                                                                                                                            During
                                                                         Common                                   Deferred  the
                                                                       Stock Sub-   Additional                    Consul-   Develop-
                            Preferred Stock         Common Stock       scriptions   Paid-in   Series C  Series D  ting      ment
                          Shares     Amount     Shares       Amount    Receivable   Capital   Warrants  Warrants  Expense   Stage
                          ------     ------     ------       ------    ----------   -------   --------  --------  -------   -----
<S>                       <C>    <C>           <C>          <C>       <C>          <C>       <C>       <C>       <C>      <C>
Issuance of common
  stock for cash
  at inception               -   $      -      1,170,000    $  1,300  $      -     $    -    $     -   $    -    $   -    $     -

Net loss                     -          -            -           -           -          -          -        -        -       (3,450)
                       --------- ----------    ---------    --------  ----------   --------   -------   -------  -------  ---------

BALANCE as of
  December 31, 1993          -          -      1,170,000       1,300         -          -          -        -        -       (3,450)

Issuance of
  preferred stock
  for cash             1,440,000    560,000          -           -           -          -          -        -        -          -

Issuance of common
  stock for
  services and
  stock
  subscriptions
  receivable                 -          -        193,500     208,500    (198,500)       -          -        -        -          -

Unpaid dividends on
  preference stock           -          -            -           -           -          -          -        -        -      (16,780)

Net loss                     -          -            -           -           -          -          -        -        -     (906,948)
                       --------- ----------    ---------    --------  ----------   --------   -------   -------  -------  ---------

BALANCE as of
  December 31, 1994    1,440,000    560,000    1,363,500     209,800    (198,500)       -          -        -        -     (927,178)

Issuance of
  preferred stock
  for cash               362,403    604,001          -           -           -          -          -        -        -          -

Issuance of
  common stock for
  stock
  subscriptions
  receivable                 -      $   -         70,000     $  1,400  $(140,000)   $138,600    $  -    $   -    $   -      $   -
</TABLE>
           The accompanying notes to consolidated financial statements
           are an integral part of these consolidated balance sheets.

                                       F-6
<PAGE>
<TABLE>
<CAPTION>
                                                                                                                         Page 2 of 3

         SPECIALIZED HEALTH PRODUCTS INTERNATIONAL, INC. AND SUBSIDIARY
                      (A Company in the Development Stage)

            CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)

                                                                                                                            Deficit
                                                                                                                            Accumu-
                                                                                                                            lated
                                                                                                                            During
                                                                         Common                                   Deferred  the
                                                                       Stock Sub-   Additional                    Consul-   Develop-
                            Preferred Stock         Common Stock       scriptions   Paid-in   Series C  Series D  ting      ment
                          Shares     Amount     Shares       Amount    Receivable   Capital   Warrants  Warrants  Expense   Stage
                          ------     ------     ------       ------    ----------   -------   --------  --------  -------   -----
<S>                       <C>    <C>           <C>          <C>       <C>          <C>       <C>       <C>       <C>      <C>
Reduction in stock
   subscriptions
   receivable (cash and
   services)                  -    $      -           -     $     -    $  288,500   $     -     $  -    $  -      $  -   $     -

Unpaid dividends on
   preference stock           -           -           -           -           -           -        -       -         -      (11,389)

Exchange of debt
  for common stock            -           -       396,500     386,000         -        99,000      -       -         -          -

Issuance of
  common shares
  to stockholders
  under antidilution
  provisions                  -           -        90,000     180,000         -      (180,000)     -       -         -          -

Business combination   (1,802,403) (1,164,001)  2,102,403    (696,752)        -     1,860,753      -       -         -          -

Issuance of
  common stock for
  cash, net of
  expenses                    -           -     4,256,250      85,125         -     7,193,935      -       -         -          -

Exercise of
  stock options for
  common stock
  subscriptions
  receivable                  -           -       288,000       5,760    (209,500)    203,740      -       -         -          -

Net loss                      -           -           -            -          -           -        -       -         -   (2,919,489)
                         ----------    ------- ----------     --------  ---------    -------     -----    ----     ----------------

BALANCE as of
  December 31, 1995           -      $    -     8,566,653     $171,333  $(259,500) $9,316,028   $  -     $ -       $ -  $(3,858,056)
</TABLE>
           The accompanying notes to consolidated financial statements
           are an integral part of these consolidated balance sheets.

                                       F-7
<PAGE>
<TABLE>
<CAPTION>
                                                                                                                         Page 3 of 3
         SPECIALIZED HEALTH PRODUCTS INTERNATIONAL, INC. AND SUBSIDIARY
                      (A Company in the Development Stage)

            CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)

                                                                                                                           Deficit
                                                                                                                           Accumu-
                                                                                                                           lated
                                                                                                                           During
                                                                     Common                                   Deferred     the
                                                                    Stock Sub-   Additional                    Consul-     Develop-
                          Preferred Stock         Common Stock      scriptions   Paid-in   Series C  Series D  ting        ment
                         Shares     Amount     Shares     Amount    Receivable   Capital   Warrants  Warrants  Expense     Stage
                         ------     ------     ------     ------    ----------   -------   --------  --------  -------     -----
<S>                       <C>      <C>       <C>        <C>       <C>          <C>       <C>       <C>        <C>        <C>
Cash received for
  stock
  subscriptions
  receivable                 -     $ -           -       $  -   $   50,300    $     -    $    -    $    -       $  -      $     -

Exercise of common
  stock options              -       -        45,000        900        -         16,650       -         -          -            -

Exercise of common
  stock warrants             -       -        45,000        900        -         74,250       -         -          -            -

Grant of stock options
   for consulting
   services                  -       -           -          -          -        134,000       -         -      (40,200)         -

Net loss                     -       -           -          -          -            -         -         -          -     (4,093,388)
                           -----    ---    ---------   --------  ---------     --------   --------  --------  --------  -----------

BALANCE as of
  December 31, 1996          -       -     8,656,653    173,133   (209,200)   9,540,928       -         -      (40,200) (7,951,444)

Exercise of common stock
   options                   -       -       110,000      2,200        -        181,575       -         -         -            -

Issuance of common
   stock and common
   stock warrants for
   cash, net of
   expenses (see
  Note 7)                    -       -     1,263,189     25,264        -      2,180,343   310,994   388,158      -             -

Issuance of common stock
   for services              -       -       100,000      2,000        -        210,500       -         -        -             -

Net loss                     -       -           -          -          -            -         -         -        -      (4,274,003)
                           -----    ---     --------   --------   --------  -----------  --------  --------  -------  -------------

BALANCE as of December
   31, 1997                  -     $ -    10,129,842   $202,597  $(209,200) $12,113,346  $310,994  $388,158 $(40,200) $(12,225,447)
                           =====   ====   ==========   ========  =========  ===========  ========  ======== ========  ============
</TABLE>
           The accompanying notes to consolidated financial statements
           are an integral part of these consolidated balance sheets.

                                       F-8
<PAGE>
<TABLE>
<CAPTION>
                                                                                                                         Page 1 of 2

         SPECIALIZED HEALTH PRODUCTS INTERNATIONAL, INC. AND SUBSIDIARY
                      (A Company in the Development Stage)

                      CONSOLIDATED STATEMENTS OF CASH FLOWS

                           Increase (Decrease) in Cash


                                                                                                              Period from
                                                                                                              Inception to
                                                                     Year Ended December 31,                   December 31,
                                                              1997             1996             1995           1997 (Note 1)
                                                          -----------      -----------       ----------        -------------
CASH FLOWS FROM OPERATING ACTIVITIES:
<S>                                                       <C>                 <C>             <C>              <C>
    Net loss                                              $ (4,274,003)       $(4,093,388)    $(2,919,489)     $(12,197,278)
    Adjustments to reconcile net loss to net cash
      used in operating activities:
        Depreciation and amortization                          220,276            203,523          74,542           527,658
        Common stock issued for services                       212,500                  -           8,500            18,500
        Noncash consulting expense                             147,000             93,800             -             453,300
        Loss on disposition of assets                           92,557             72,363         256,363           421,283
        Changes in operating assets and liabilities:
             Accounts receivable                               (33,169)           349,559        (346,247)          (34,328)
             Inventories                                       (56,642)               612         (16,322)          (72,352)
             Prepaid expenses and other                         39,922            (62,796)        (28,581)          (56,891)
             Amounts due from related parties                        -            122,850        (122,850)                -
             Accounts payable                                  369,262            (33,763)         49,794           477,748
             Accrued liabilities                                89,238           (284,690)        438,674           243,222
             Amounts due to related parties                     54,043             73,152             -             127,195
             Deferred royalty revenues                       1,750,000                -               -           1,750,000
                                                          ------------        -----------     -----------      ------------

              Net cash used in operating activities
                                                            (1,389,016)        (3,558,778)     (2,605,616)       (8,341,943)
                                                          ------------        -----------     -----------      ------------

CASH FLOWS FROM INVESTING ACTIVITIES:
    Purchase of property and equipment                        (510,656)          (580,468)       (794,434)       (2,173,081)
    Purchase of patents and technology                             -               (2,644)        (64,750)         (356,146)
                                                          ------------        -----------     -----------      ------------

              Net cash used in investing activities
                                                          $   (510,656)       $  (583,112)    $  (859,184)     $ (2,529,227)
                                                          ------------        -----------     -----------      ------------
</TABLE>
           The accompanying notes to consolidated financial statements
           are an integral part of these consolidated balance sheets.

                                       F-9
<PAGE>
<TABLE>
<CAPTION>
                                                                                                                         Page 2 of 2
         SPECIALIZED HEALTH PRODUCTS INTERNATIONAL, INC. AND SUBSIDIARY
                      (A Company in the Development Stage)

                      CONSOLIDATED STATEMENTS OF CASH FLOWS

                           Increase (Decrease) in Cash


                                                                                                              Period from
                                                                                                              Inception to
                                                                    Year Ended December 31,                   December 31,
                                                              1997             1996             1995           1997 (Note 1)
                                                          -----------      -----------       ----------        -------------

CASH FLOWS FROM FINANCING ACTIVITIES:
<S>                                                         <C>               <C>              <C>              <C>
   Proceeds from issuance of common stock                   $2,389,382        $    92,700      $7,279,060       $ 9,762,442
   Proceeds from issuance of common stock warrants
                                                               699,152                -                -            699,152
   Proceeds from stock subscriptions                               -               50,300         280,000           330,300
   Proceeds from issuance of preferred stock                       -                  -           604,001         1,164,001
   Proceeds from issuance of redeemable preference
     stock                                                         -                  -               -             240,000
   Payments on redeemable preference stock and
     dividends                                                     -                  -          (268,169)         (268,169)
   Net (repayments) borrowings on stockholder loans
                                                                   -                  -          (167,833)          385,000
   Bank overdraft                                                  -                  -           (10,675)              -
                                                            ----------        -----------      ----------       ---------

              Net cash provided by financing
                activities                                   3,088,534            143,000       7,716,384        12,312,726
                                                            ----------        -----------      ----------       -----------

NET INCREASE (DECREASE) IN CASH                              1,188,862         (3,998,890)      4,251,584         1,441,556

CASH AT BEGINNING OF THE PERIOD                                252,694          4,251,584             -                 -
                                                            ----------        -----------      ----------       ---------

CASH AT END OF THE PERIOD                                   $1,441,556        $   252,694      $4,251,584       $ 1,441,556
                                                            ==========        ===========      ==========       ===========
</TABLE>

SUPPLEMENTAL CASH FLOW INFORMATION:

   During the year ended  December 31, 1995 and for the period from inception to
     December 31, 1997,  the Company made cash  payments for interest of $15,858
     and $23,658, respectively.

SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING AND
   FINANCING ACTIVITIES:

   During the year ended  December 31, 1995 and for the period from inception to
     December 31, 1997, the Company recorded in-kind dividends on the redeemable
     preferred stock of $11,389 and $28,169, respectively.

   During the year ended  December 31, 1995 and for the period from inception to
     December  31,  1997,  the Company  issued  common  stock for  subscriptions
     receivable of $349,500 and $548,000, respectively.

   During the year ended  December 31, 1995 and for the period from inception to
     December 31, 1997,  the Company  converted  certain  stockholder  loans and
     amounts due to stockholders to common stock totaling $485,000 and $485,000,
     respectively.

           The accompanying notes to consolidated financial statements
           are an integral part of these consolidated balance sheets.

                                      F-10
<PAGE>

         SPECIALIZED HEALTH PRODUCTS INTERNATIONAL, INC. AND SUBSIDIARY
                      (A Company in the Development Stage)

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


(1)    NATURE OF OPERATIONS AND BUSINESS COMBINATION

Nature of Operations

Specialized  Health Products  International,  Inc. ("SHPI") and its wholly owned
subsidiary,   Specialized  Health  Products,  Inc.  ("SHP")  (collectively,  the
"Company")  is a  development  stage  company  which  is  primarily  engaged  in
developing cost-effective,  disposable, proprietary healthcare products designed
to limit or prevent the risk of  accidental  needle  sticks  which may cause the
spread of blood-borne diseases such as HIV/AIDS and hepatitis B, and secondarily
develops  other  products  for use in the  healthcare  industry.  The  Company's
activities since inception have focused on research and development of products,
obtaining  financing,  recruiting personnel and identifying and contracting with
manufacturers  and  distributors.  The Company has a portfolio  of  proprietary,
safety   healthcare   products  that  are  in  various   stages  of  production,
pre-production, development and research. The Company principally intends to use
third parties to manufacture, market and distribute its products worldwide.

Development Stage Presentation

The Company is in the  development  stage and from its  inception  has  incurred
losses from operations. During the years ended December 31, 1997, 1996 and 1995,
the Company  experienced  losses from  operations of $4,305,130,  $4,233,677 and
$3,039,059,  respectively,  and negative cash flows from operating activities of
$1,389,016,  $3,558,778 and $2,605,616,  respectively.  As of December 31, 1997,
the Company had an  accumulated  deficit of  $12,225,447.  These  matters  raise
substantial  doubt about the Company's  ability to continue as a going  concern.
The Company's  continued  existence is dependent upon several factors  including
the Company's success in raising  sufficient  funding,  bringing its products to
commercialization,  reducing  costs and entering into  favorable  contracts with
third-party manufacturers and distributors.

As  discussed  in Note 12, on January 20,  1998,  the  Company  closed a private
placement  offering  wherein the Company  raised net  proceeds of  approximately
$4,948,500,  of  which  approximately  $3,583,300  was  received  subsequent  to
December  31,  1997.  The Company  believes  that the funds  generated  from the
private placement offering,  funds from potential product sales, and funds to be
generated from development fees and prepaid royalty  arrangements  (see Note 4),
will be  sufficient  to support the Company's  operations  through  December 31,
1998.

The Company's  operating  plan includes the  possibility  of raising  additional
funds through  issuing  common stock upon the potential  exercise of outstanding
warrants  and/or through public or private  offerings of securities in order for
commercialization  of its products under  development to not be further delayed.
Management  has  negotiated  agreements  with  third  parties  to  assist in the
development,  financing,  manufacturing  and  distribution of its products under
development or near commercialization.  In addition,  management believes it has
the  ability  to  further  reduce  certain  operating  costs.  Nonetheless,  the
Company's inability to obtain additional  funding,  as required,  could severely
impair its business  operations and there can be no assurance that the Company's
operating plan will be successful.

The  Company is subject to certain  other risk  factors  due to its  development
stage  status,  the  industry  in  which  it  competes  and  the  nature  of its
operations.  Many of these  factors may be  unforeseen  and beyond the Company's
control. These risk factors include:

a)   The Company has experienced  limited sales of its Safety  Cradle(R)  sharps
     container  and  ExtreSafe(R)  Lancet Strip  products,  the  Company's  only
     commercialized  products. There is no assurance that other products will be
     commercially  viable and no  assurance  can be given that the Company  will
     have sufficient sales or a sufficient  customer base to become  profitable.

                                      F-11
<PAGE>

     The  business  prospects  of the  Company  will be  affected  by  expenses,
     operational  issues  and  uncertainties   frequently   encountered  in  the
     development of a business enterprise in a competitive environment.

b)   The Company's need for capital during the next year or more will vary based
     upon a number of factors,  including  the rate at which demand for products
     expands,  the  level of  sales  and  marketing  activities  for the  Safety
     Cradle(R) sharps  container and ExtreSafe(R)  Lancet Strip products and the
     level  of  effort  needed  to  develop  and  commercialize  other  products
     utilizing the Company's  ExtreSafe(R) medical needle withdrawal technology.
     If additional funds are not successfully raised, the lack of liquidity will
     likely have a material adverse effect on the Company.

c)   The Company's Safety  Cradle(R)  sharps  container and ExtreSafe(R)  Lancet
     Strip  products are each produced by a single  manufacturer.  If one of the
     Company's  manufacturers  fails to perform its  obligations in a timely and
     satisfactory manner or if there is a change in the Company's manufacturers,
     it could have a material  adverse  effect on the  Company.  There can be no
     assurance  that the Company  would be  successful  in replacing its current
     manufacturers on terms favorable to the Company.  Likewise, there can be no
     assurance  that  the  Company  will be  successful  in  finding  additional
     manufacturers to manufacture its products on favorable terms should product
     demand  increase.  The  Company,  however,  owns the  molds  and  automated
     equipment which can be moved to different manufacturers.

d)   The Company is dependent on one  distributor  for the  distribution  of its
     Safety  Cradle(R)  sharps  container  products and one for its ExtreSafe(R)
     Lancet Strip,  and  anticipates  that it will be dependent on third parties
     for the distribution of follow-on products.

e)   The Company uses  polypropylene  and other resins in the manufacture of its
     products.  Prices are subject to fluctuations  caused in part by changes in
     supply and  demand.  Significant  increases  in the prices of these  resins
     could have a material  adverse  effect on the Company's  ability to produce
     cost effective products.

f)   The Company operates in a very competitive market and there is no assurance
     that development of superior  competing  products and changes in technology
     will not eliminate the need for the Company's products. The introduction of
     competing products could adversely affect the Company's attempts to develop
     and market its products successfully.

g)   The Company's  safety  medical  products may not be accepted by the market.
     Market acceptance of the Company's  products will depend in large part upon
     the Company's  ability to demonstrate the operational  advantages,  safety,
     efficacy,  and  cost-effectiveness  of its  products  compared to competing
     products and its ability to distribute through major medical distributors.

h)   The Company's  future success depends in part on its ability to protect its
     intellectual property and maintain the proprietary nature of its technology
     through  a  combination   of  patents  and  other   intellectual   property
     arrangements.  Currently,  the Company  owns six Safety  Cradle(R)  related
     patents,  two patents associated with its ExtreSafe(R) Lancet Strip and six
     patents which protect its ExtreSafe(R) needle withdrawal technology.  There
     can be no assurance that the  protection  provided by patents will be broad
     enough to prevent  competitors  from  introducing  similar products or that
     such  patents,  if  challenged,  will  be  upheld  by  the  courts  of  any
     jurisdiction.

i)   The sale of medical  devices  entails an inherent  risk of liability in the
     event of  product  failure or claim of harm  caused by  product  operation.
     There can be no  assurance  that the  Company  will not be  subject to such
     claims, that any claims will be successfully  defended or if the Company is
     found  liable,  that the claim will not exceed the limits of the  Company's
     insurance.  The Company currently  maintains  product liability  insurance;
     however,  there is no  assurance  that the Company will be able to maintain
     adequate product liability insurance with acceptable terms in the future.

                                      F-12
<PAGE>

j)   Regulation is a significant  factor in the development and marketing of the
     Company's products and in the Company's ongoing  manufacturing and research
     and development activities.  The Company and its products are regulated, in
     part, by the Federal Food,  Drug, and Cosmetic Act which is administered by
     the United  States Food and Drug  Administration.  The process of obtaining
     required   regulatory   clearances   or  approvals   for  products  can  be
     time-consuming and expensive.

k)   The Company is highly  dependent  upon the efforts and abilities of certain
     of its senior  management  personnel.  The loss of any of these individuals
     could have a material adverse effect on the Company, its operations and its
     prospects.

Business Combination

SHP was  organized  November 19, 1993,  with a commercial  objective to develop,
manufacture,  and market safe,  easy-to-use and cost-effective  products for the
health care industry.  SHP entered into a business combination in July 1995 with
Russco,  Inc.  ("Russco")  wherein it became a wholly owned subsidiary of Russco
and Russco's name was changed to Specialized Health Products International, Inc.
Russco  was  organized  in  February  1986  as a  public  company  to  evaluate,
structure,  and complete a merger with, or  acquisition  of, any privately  held
business  seeking to obtain the perceived  advantages of being a publicly  owned
company.  Russco had no significant operations and minimal capital with which to
conduct its business.

At the  closing of the  business  combination,  the  300,000  shares of Russco's
common stock  previously  outstanding  (as  adjusted for a reverse  stock split)
remained  outstanding as common stock of the Company and Russco issued 3,602,403
shares of its common stock for all of the issued and outstanding shares of SHP's
common stock and  preferred  stock.  The business  combination  was treated as a
reverse merger for accounting  purposes.  SHP was determined to be the acquiring
company even though  Russco  issued its common shares to acquire SHP because the
stockholders of SHP received the significant  majority of the outstanding common
stock of the Company.  In addition,  management of SHP became the  management of
the Company. Because Russco had limited operations, the business combination was
accounted  for as a purchase  transaction  with the net assets of Russco  (which
were  insignificant)  being  recorded at their fair value at the date of closing
and  operating  results of Russco  prior to the business  combination  not being
included with the historical operating results of SHP.

Contemporaneously  with the  business  combination,  SHP  engaged  in a  private
placement of securities  wherein  4,376,250 shares of the Company's common stock
were  issued for  consideration  of  approximately  $7,519,100,  net of offering
costs, as more fully discussed in Note 7.


(2)  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Principles of Consolidation

The accompanying  consolidated financial statements include the accounts of SHPI
and its wholly owned  subsidiary,  SHP. All material  intercompany  balances and
transactions have been eliminated in consolidation.

Pervasiveness of Estimates

The preparation of financial  statements in conformity  with generally  accepted
accounting principles requires management to make estimates and assumptions that
effect  the  reported  amounts  of assets  and  liabilities  and  disclosure  of
contingent  assets and  liabilities at the date of the financial  statements and
the  reported  amounts of revenues  and expenses  during the  reporting  period.
Actual results could differ from those estimates.

Cash

Cash is  comprised  of  checking  and money  market  accounts  at a bank.  As of
December 31, 1997 and 1996, the Company had demand  deposits at a bank in excess
of  the  $100,000  limit  for  insurance  by  the  Federal   Deposit   Insurance
Corporation.

                                      F-13
<PAGE>

Inventories

Inventories are stated at the lower of cost or market value.  Cost is determined
using the first-in, first-out method.

Inventory consisted of the following at December 31, 1997 and 1996:

                                          1997             1996
                                        -------          -------

         Raw materials                  $19,973          $   -
         Work in process                  4,555           15,710
         Finished goods                  47,824              -
                                        -------          -------

                                        $72,352          $15,710
                                        =======          =======

Property and Equipment

Property and equipment are stated at cost and consist primarily of manufacturing
molds and equipment, office furniture and fixtures and construction-in-progress.
Manufacturing molds and equipment are depreciated using the straight-line method
over seven years or the  units-of-production  method,  whichever is greater. All
other  property and equipment are  depreciated  using the  straight-line  method
based on the estimated useful lives of the related assets which is five years.

Maintenance  and  repairs  are  charged  to  expense  as  incurred  and costs of
improvements and betterments are capitalized. Upon disposal or sale, the related
asset costs and  accumulated  depreciation  are removed  from the  accounts  and
resulting gains or losses are reflected in current operations.

Costs  incurred  in  connection  with  the   fabrication  and   construction  of
manufacturing  molds and equipment are capitalized as  construction-in-progress.
No depreciation is recognized on these assets until they are placed in service.

Other Assets

Other assets consist primarily of purchased  technology rights and patents,  and
related patent costs such as outside legal fees. These costs are being amortized
on a  straight-line  basis over seven years.  Accumulated  amortization  totaled
approximately $221,000 and $155,400 at December 31, 1997 and 1996, respectively.
Management  evaluates  the  recoverability  of these costs on a periodic  basis,
based on sales of the product  related to the  technology,  existing or expected
sales contracts, revenue trends and projected cash flows.

Long-Lived Assets

The Company  accounts for  impairment  of long-lived  assets in accordance  with
Statement of Financial  Accounting Standards No. 121, "Accounting for Impairment
of  Long-Lived  Assets and for  Long-Lived  Assets to be Disposed Of" ("SFAS No.
121").  SFAS No. 121 requires that long-lived  assets be reviewed for impairment
when events or changes in circumstances indicate that the book value of an asset
may not be  recoverable.  The Company  evaluates,  at each  balance  sheet date,
whether  events  and   circumstances   have  occurred  that  indicate   possible
impairment.  In  accordance  with SFAS No. 121,  the Company uses an estimate of
future  undiscounted net cash flows of the related asset over the remaining life
in measuring  whether the assets are  recoverable.  As of December 31, 1997, the
Company does not consider any of its long-lived assets to be impaired.

Revenue Recognition

Sales are recognized when product is shipped to the customer,  development  fees
are recognized in the period related services are performed and deferred royalty
revenues are recognized as revenues as sales of the related products are made.

Research and Development Costs

Research and development costs are expensed as incurred.

                                      F-14
<PAGE>

Income Taxes

The Company recognizes a liability or asset for the deferred tax consequences of
temporary  differences between the tax basis of assets and liabilities and their
reported  amounts in the consolidated  financial  statements that will result in
taxable or deductible  amounts in future years when the reported  amounts of the
assets and liabilities are recovered or settled.

Fair Value of Financial Instruments

The book value of the Company's financial  instruments  approximates fair value.
The  estimated  fair  values  have  been  determined  using  appropriate  market
information and valuation methodologies.

Recent Accounting Pronouncements

In June 1997,  the Financial  Accounting  Standards  Board issued  Statements of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income," ("SFAS
No. 130") and No. 131,  "Disclosures about Segments of an Enterprise and Related
Information"  ("SFAS No. 131")  effective  for financial  statements  issued for
periods   beginning   after  December  15,  1997.   SFAS  No.  130  requires  an
"all-inclusive" approach which specifies that all revenues,  expenses, gains and
losses  recognized during the period be reported in income regardless of whether
they are  considered  to be results of  operations  of the period.  SFAS No. 131
establishes new standards for public companies to report information about their
operating segments, products and services, geographic areas and major customers.
The Company will  present its  financial  statements  in  accordance  with these
pronouncements in 1998.

Basic and Diluted Net Loss Per Common Share

In  accordance  with  Statement  of  Financial  Accounting  Standards  No.  128,
"Earnings  per Share," as a result of the Company  incurring  net losses for all
periods presented, both basic and diluted net loss per common share are based on
the  weighted  average  number  of common  shares  outstanding.  Stock  options,
warrants  and  preferred  shares  prior to  conversion  are not  included in the
calculation of diluted net loss per common share because their  inclusion  would
be antidilutive, thereby reducing the net loss per common share.

Reclassifications

Certain  reclassifications  have  been  made in the  prior  years'  consolidated
financial statements to conform to the current year presentation.


(3)      INVESTMENT

In October  1995,  the  Company  entered  into a Joint  Venture  Agreement  (the
"Agreement") with Zerbec, Inc. ("Zerbec"), a Texas corporation.  Under the terms
of the Agreement, the Company and Zerbec formed Quantum Imaging Corporation (the
"Venture" or "QIC"), a Utah corporation, to develop, manufacture, distribute and
market products and technologies using a patented solid state filmless digitized
imaging system.  For a 50 percent  interest in the Venture  (before  dilution by
potential  financing  investors),  the Company was  obligated to pay the Venture
$15,000  a month,  which in turn was paid to  Zerbec  to  perform  research  and
development on the Venture's behalf through March 31, 1997. The Company was also
obligated  to pay the general and  administrative  expenses of the Venture up to
$15,000 per month  through  March 31, 1997.  Subsequent  to March 31, 1997,  the
Company  continued  to pay  certain  research  and  development  and general and
administrative expenses of the Venture. The Company contributed total capital to
the  Venture  of  approximately  $237,300  and  $435,200  during  1997 and 1996,
respectively,  all of which the Company  expensed  and the Venture  used to fund
research  and  development  and to cover  administrative  expenses.  The Company
accounts for the Venture using the equity method.  Assets and liabilities of the
Venture were insignificant as of December 31, 1997 and 1996.

At present,  the Company and Zerbec are equal  owners of QIC,  but Zerbec has an
option to acquire  two-thirds of the Company's current fifty percent interest in
QIC for one dollar (the "Zerbec Option") because certain funding objectives were

                                      F-15
<PAGE>

not met. The parties are in the process of  negotiating  an  arrangement so that
the  Zerbec  Option  will be  eliminated  or its  exercise  will be  subject  to
substantial  restriction.  No assurance can be given, however, that an agreement
will be reached that  eliminates  or  materially  restricts  the exercise of the
Zerbec Option or that if such agreement is reached that it will be on terms that
are favorable to the Company.  The Company estimates that between $3,000,000 and
$6,000,000  in new  funding  will  be  required  by QIC  for it to  achieve  its
objectives.


(4)      SIGNIFICANT DISTRIBUTION AND LICENSE AGREEMENTS

Becton, Dickinson and Company Distribution and License Agreements

In August 1996,  the Company  entered into an exclusive  distribution  agreement
with Becton Dickinson and Company Sharps Disposal Systems ("BDSDS")  relating to
the Company's Safety Cradle(R) sharps container products.  The agreement granted
BDSDS an exclusive worldwide right to market and distribute the Company's sharps
containers products for an initial term of three years. The first sales pursuant
to the agreement occurred in the first quarter of 1997;  however, as a result of
BDSDS's  failure  to  meet  minimum  purchase  requirements  set  forth  in  the
agreement,  the Company  notified BDSDS of its intent to terminate the agreement
during 1997. In November  1997,  the agreement was amended  whereby the term was
extended to May 1998,  upon which date the  agreement  will again be  terminated
unless  otherwise  agreed  in  writing.  Sales of the  Safety  Cradle(R)  sharps
containers through December 31, 1997 have been minimal.

In May 1997, the Company entered into an exclusive license agreement with Becton
Dickinson and Company Infusion Therapy  Division  ("BDIT")  relating to a single
application of the Company's  ExtreSafe(R)  safety needle withdrawal  technology
(the "Technology"). Pursuant to the terms of the agreement, BDIT paid $1,750,000
to the Company in June 1997,  $250,000 in September 1997 and is required to make
an additional  payment of  $2,000,000  upon the earlier of the date of the first
sales by BDIT of a product  utilizing the  Technology or April 5, 1998. Of these
total payments,  $3,750,000 represents prepaid royalties and $250,000 represents
a  one-time  product  development  fee.  BDIT is also  required  to pay  ongoing
royalties to the Company based on sales of products utilizing the Technology. In
addition,  beginning in BDIT's fiscal year 2002, BDIT is required to pay minimum
royalties in order to maintain exclusive rights under the agreement.

Alliance Medical Distribution Agreement

The  Company  entered  into  a  distribution  agreement  with  New  Alliance  of
Independent  Medical  Distributors,   Inc.,  dba  Alliance  Medical,   effective
September 9, 1997.  The agreement  provided for the Company to  manufacture  and
Alliance  Medical  to  market  and  sell  the  ExtreSafe(R)  Lancet  Strip on an
exclusive basis in hospitals, alternate sites and consumer markets in the United
States.  The initial  term of the  agreement is for a period of three years with
annual  renewal terms  thereafter.  Effective  March 1, 1998,  the agreement was
converted  to a  non-exclusive  agreement  with no  sales  minimums  so that the
Company can pursue  additional  sources of  distribution.  There is no assurance
that the Company will realize  significant sales under the agreement or that the
Company will enter into any other arrangements with respect to the marketing and
distribution of ExtreSafe(R)  Lancet Strips.  Manual production and sales of the
ExtreSafe(R)  Lancet  Strip  began in the first  quarter  of 1997 and  automated
production is projected to commence in 1998.  Sales of the  ExtreSafe(R)  Lancet
Strips through December 31, 1997 have been minimal.

Johnson & Johnson Medical, Inc. Development and License Agreement

On December 22, 1997, the Company  entered into an agreement  (the  "Development
and  License  Agreement")  with  Johnson  & Johnson  Medical,  Inc.  ("J&J")  to
commercialize  two  applications  of the  Company's  ExtreSafe(R)  Safety needle
technology  in  one  restricted  field-of-application  of  the  technology.  The
Development and License Agreement provides for monthly  development  payments by
J&J, sharing of field related patent costs,  payments for initial periods of low
volume  manufacturing,  an ongoing royalty stream and a J&J investment in molds,
assembly equipment and other capital costs related to  commercialization of each
product.

                                      F-16
<PAGE>

The  Development  and  License  Agreement  also  provides  for an ongoing  joint
cooperative  program  between J&J and the Company which derives  future  funding
directly  from  sales of Company  created  products,  low  volume  manufacturing
revenue for the  Company and an ongoing  royalty  stream for  additional  safety
products which are jointly approved for development.


(5)      COMMITMENTS AND CONTINGENCIES

Lease Obligations

The Company leases office space,  equipment,  and vehicles  under  noncancelable
operating leases.  The following  summarizes future minimum lease payments under
operating leases at December 31, 1997:

                 Year Ending December 31,

                               1998          $64,400
                               1999           16,000
                                             -------

                                             $80,400
                                             =======

Rental  expense for the years ended  December  31,  1997,  1996 and 1995 totaled
approximately $80,300, $72,000 and $67,100, respectively.

Royalty Agreements

In connection with acquiring  technology rights and patents, the Company entered
into various royalty agreements. Generally, the agreements call for royalties to
be paid based on various  percentages  of  revenues  generated  from the related
technologies or patents.

In order to maintain  certain  licenses,  the Company is obligated to pay future
minimum  royalties,  which royalties may be used to satisfy  percentage  royalty
requirements.  The following summarizes future minimum royalties at December 31,
1997:

                      Year Ending December 31,

                                1998                 $ 45,000
                                1999                   25,000
                                2000                   25,000
                                2001                   25,000
                                2002                   25,000
                                                     --------

                                                     $145,000
                                                     ========

As the Company has not generated any revenue from licensed technology rights and
patents at December 31, 1997, no royalties have been accrued or paid.

Subsequent  to December  31,  1997,  the Company  issued  750,000  common  stock
warrants  with an  exercise  price of $2.00 to a  director  and  officer  of the
Company and his  assigns in  consideration  of the  Company's  release  from its
obligations under certain royalty  agreements (see Notes 11 and 12).  Therefore,
those  royalty  obligations  are not  included in the future  minimum  royalties
above.

Employment Agreements

The  Company  has  entered  into  employment  agreements  with  three of its key
executives. The agreements are each for a term of three years and provide for an
annual aggregate base salary of $550,000 to be reviewed annually by the Board of
Directors and adjusted as deemed  appropriate.  Upon  termination  of employment
without cause,  salary and certain benefits will continue to be paid through the
expiration of the applicable agreement. The agreements have customary provisions
for other benefits and include noncompetition clauses.

                                      F-17
<PAGE>

Litigation

In April 1997,  the Company  entered  into an  agreement  with  Leerink  Swann &
Company  ("Leerink"),  whereby  Leerink  agreed to assist the Company in raising
funds in a  private  placement  of equity  securities.  Sufficient  funding  was
deposited into escrow to hold an initial closing, but the closing did not occur.
Leerink alleges that the Company refused to close on the placement.  The Company
alleges that the closing did not occur because Leerink, as a condition precedent
to closing,  made certain  pre-closing demands that went far beyond the terms of
the agreement and which demands Company management believes were not in the best
interest of the Company or its stockholders.  In August 1997, Leerink filed suit
in the United States District Court for the District of  Massachusetts  alleging
breach of  contract.  Leerink is seeking  money  damages,  warrants  to purchase
shares of the Company's common stock, attorneys' fees and costs. Thereafter, the
Company filed a counterclaim  also alleging  breach of contract.  The Company is
seeking money  damages,  attorneys'  fees and costs.  The Company  believes that
Leerink's claims are without merit and that the Company will ultimately prevail.
The  litigation  is in the  early  stages,  is  subject  to all of the risks and
uncertainties of litigation and thus there is no assurance that the Company will
be successful in this lawsuit or that the lawsuit will be resolved on acceptable
terms, and the Company may incur  significant  costs in asserting its claims and
defenses.  As of December 31, 1997,  management,  after  consultation with legal
counsel,  believes that the potential liability to the Company under such action
will not  materially  affect the Company's  consolidated  financial  position or
results of operations.

(6)      STOCK OPTIONS

During 1994, the Board of Directors of SHP approved a nonqualified  stock option
plan (the "SHP Option Plan") for its  officers,  directors  and  employees,  and
authorized 396,000 shares of common stock for issuance.  During 1994, options to
acquire  396,000 common shares were granted at prices ranging from $.39 to $1.11
per share.  The exercise  prices of the options were equivalent to the estimated
fair  market  value of the  underlying  stock as  determined  by SHP's  Board of
Directors  at the dates of grant.  No options were  exercised  or lapsed  during
1994.  On the date of the business  combination,  as discussed in Note 1, all of
the options issued under the SHP Option Plan became  outstanding  obligations of
the  Company.  On  September  1, 1995,  options to acquire  288,000  shares were
exercised,  primarily by directors  and officers of the Company,  from which the
Company  received  $209,500 in non-interest  bearing common stock  subscriptions
receivable.  All common  stock  subscriptions  receivable  are due upon  demand.
During 1996,  options to acquire  45,000 shares were exercised at $.39 per share
and  22,500  options  were  canceled.   The  remaining   40,500  options  became
exercisable during 1997, of which 22,500 were exercised at $.39 per share. As of
December 31, 1997, 18,000 options are exercisable at $.39 per share.

Effective  September 1, 1995,  the  Company's  Board of  Directors  approved the
adoption of the  Specialized  Health Products  International,  Inc. Stock Option
Plan (the "Option  Plan").  The Option Plan is a nonqualified  stock option plan
and is administered by the Board of Directors.  The Option Plan provides for the
issuance of 1,500,000 shares of common stock to officers,  directors,  other key
employees and consultants  which number may be adjusted from time to time by the
Board of Directors.  The options will be granted at not less than 100 percent of
the fair market value of the underlying  common stock on the date of grant.  The
options are  exercisable  for the period as defined by the Board of Directors at
the date granted;  however,  no stock option will be exercisable  more than five
years from the date of grant.

As permitted by Statement of Financial  Accounting  Standards No. 123 ("SFAS No.
123"),  the  Company  applies  APB  Opinion  No. 25 ("APB No.  25") and  related
interpretations   in  accounting   for  certain   aspects  of  its   stock-based
compensation  plans.  Accordingly,  no compensation cost has been recognized for
stock options granted to officers,  directors and other key employees as options
were granted at the intrinsic fair market value.

The Company  recognized  $147,000,  $93,800 and $0 of consulting  expense during
1997,  1996 and 1995,  respectively,  related to certain  options  and  warrants
granted to nonemployee consultants in accordance with SFAS No. 123.

                                      F-18
<PAGE>

Had compensation  cost been determined based on the fair value at the grant date
for awards under its plans  consistent  with the method  prescribed  by SFAS No.
123,  the  Company's  net loss and basic and diluted  net loss per common  share
would have been increased to the pro forma amounts presented below:

                                            1997            1996       1995
                                         ----------      ---------- -------

Net loss:                   As reported  $(4,274,003)  $(4,093,388) $(2,930,878)
                            Pro forma     (4,445,885)   (4,130,140)  (3,841,677)

Basic and diluted net loss
  per common share:         As reported     (.47)          (.48)       (.69)
                            Pro forma       (.48)          (.48)       (.90)

Because the SFAS No. 123 method of  accounting  has not been  applied to options
granted prior to January 1, 1995, the resulting pro forma  compensation cost may
not be representative of that to be expected in future years.

A summary of the status of the Company's plans as of December 31, 1997, 1996 and
1995, and changes during the years ended on those dates is presented below:

<TABLE>
<CAPTION>

                                          1997                                  1996                            1995
                                  ----------------------               ----------------------            ------------
                                                Wtd. Avg.                        Wtd. Avg.                       Wtd. Avg.
                                                Exercise                         Exercise                         Exercise
                                   Shares         Prices             Shares        Prices           Shares         Prices
                                   ------         ------             ------        ------           ------         ------
<S>                             <C>             <C>             <C>              <C>            <C>               <C>
Outstanding at beginning
  of year
                                  1,531,500       $2.10           1,279,810        $1.95             396,000        $ .67
Granted                              60,000        2.16             319,190         2.63           1,171,810         2.00
Exercised                          (110,000)        .88             (45,000)         .39            (288,000)         .73
Forfeited                               -                           (22,500)         .39                 -
                                 ----------                      ----------                       --------
Outstanding at
  end of year                     1,481,500        2.11           1,531,500         2.10           1,279,810         1.95
                                 ==========                      ==========                       ==========

Exercisable at
  end of year                     1,217,405        2.06           1,187,000         2.04           1,117,000         2.00
                                 ==========                      ==========                       ==========

Weighted average
  fair value of
  options granted               $     1.00                       $     1.24                       $      .82
                                ==========                       ==========                       ==========
<CAPTION>

The following table summarizes  information about the stock options  outstanding
at December 31, 1997:

                                    Options Outstanding                                Options Exercisable
                                 Number           Wtd. Avg.                           Number
           Range of            Outstanding        Remaining        Wtd. Avg.        Exercisable         Wtd. Avg.
           Exercise            at December       Contractual       Exercise         at December         Exercise
           Prices               31, 1997            Life            Price           31, 1997             Price
        -------------          -----------       -----------       ---------        -----------         -------

        <S>                          <C>         <C>                 <C>                  <C>               <C>
        $    .39                     18,000      1.57 years          $   -                18,000            $ .01
            2.00                  1,084,310      2.67                 1.46             1,056,905             1.74
            2.06                     50,000      4.79                  .07                   -                 -
            2.63                    329,190      3.78                  .58               142,500              .31
                                  ---------                          -----             ---------            -----
        $.39 to 2.63              1,481,500      2.97 years          $2.11             1,217,405            $2.06
                                  =========                          =====             =========            =====
</TABLE>


The fair value of each option  granted is  estimated  on the date of grant using
the  Black-Scholes  option  pricing  model with the  following  weighted-average
assumptions used for grants in 1997, 1996 and 1995:  risk-free  interest rate of
6.0 percent,  5.95 percent and 5.95 percent,  respectively;  expected lives of 3
years, 2.3 years and 2.3 years,  respectively;  expected dividend yields of zero
percent in all years; expected volatility of 68 percent in all years.

                                      F-19
<PAGE>

(7)      COMMON AND PREFERRED STOCK

In connection with the business combination discussed in Note 1, SHP completed a
9 for 1 forward stock split of both its common and preferred  stock.  The number
of  common  and  preferred  shares  and  per  share  amounts  presented  in  the
accompanying consolidated financial statements have been restated for the effect
of this split.  Each common and preferred  share of SHP was  converted  into one
common share of the Company.  In addition,  the Company  issued 90,000 shares of
common stock to non-affiliated  stockholders existing at the time of the private
placement under antidilutive provisions.

The Company  completed a private  placement of securities in July 1995,  wherein
860.25  units  were sold at  $10,000  per unit for total  consideration,  net of
expenses, of $7,519,060. This consideration was comprised of $7,279,060 of cash,
$100,000 of debt  converted  to common  stock,  and common  stock  subscriptions
receivable  of $140,000.  Each unit  consisted of 5,000 shares of the  Company's
common  stock and Series A warrants to purchase an  aggregate of 3,000 shares of
common  stock  at  $3.50  per  share.   The  private   placement  was  completed
contemporaneously with the business combination. Through this private placement,
the Company  sold an aggregate of  4,301,250  shares of the  Company's  $.02 par
value  common  stock and Series A warrants to purchase an aggregate of 2,580,750
shares of the Company's common stock at a price of $3.00 per share,  exercisable
for a period  of two  years  from the date of  effectiveness  of a  registration
statement  covering the issuance of the shares of common  stock  underlying  the
Series A warrants.

For services  provided in connection  with the private  placement of securities,
the  underwriter  received a commission  of $860,251 in cash,  75,000  shares of
common stock,  Series A warrants to purchase  530,125 shares of common stock for
$3.00 per share,  and Series B warrants to purchase  1,290,375  shares of common
stock for $2.00 per share.  The warrants  expire on the earlier of (a) two years
from the effective date of a registration statement covering the issuance of the
shares of common stock  underlying  such warrants which two year period shall be
extended  day-for-day  for  any  time  that  a  registration  statement  is  not
available,  or (b) the date specified in a notice of redemption from the Company
in the event that the closing price of the common stock for any ten  consecutive
trading days  preceding  such notice  exceeds $6.00 per share and subject to the
availability of a current prospectus covering the underlying shares. The Company
may redeem all or a portion of the  warrants,  in each case at $.001 per warrant
upon at least 20 days prior written notice to the warrant holders.  The warrants
may only be redeemed if a current  prospectus  is available  with respect to the
issuance of shares of common stock upon the exercise thereof.

During 1995, the Company issued warrants to a  nonaffiliated  stockholder of the
Company  to  purchase  45,000  shares of common  stock at $1.67 per  share.  The
warrants  were  exercised in full during  1996.  There were no other Series A or
Series B warrants exercised during 1997 or 1996.

On March 31, 1997, the Company closed a private  placement  offering wherein the
Company raised  $1,539,570,  net of expenses,  through offering Units to certain
accredited  investors at $45 per Unit.  Each Unit  consisted of 15 shares of the
Company's  common  stock and Series C warrants  to  purchase  five shares of the
Company's  common  stock at a price of $3.00 per share.  The  Company  allocated
$1,228,576  of the total net proceeds to the common stock issued and $310,994 to
the Series C warrants issued.

On January 20, 1998, the Company completed a private placement offering in which
it  sold  2,610,000  units  at  $2.00  per  unit  for  total   consideration  of
approximately  $4,948,500,  net of expenses.  Each unit consists of one share of
the  Company's  $.02 par value common stock and one Series D warrant to purchase
one share of common  stock at a price of $2.00.  As of December  31,  1997,  net
proceeds of approximately  $1,365,200 had been received,  of which approximately
$977,000  was  allocated  to the  750,000  shares of  common  stock  issued  and
approximately  $388,200 was allocated to the Series D warrants  issued (see Note
12).

The  Series C and Series D warrants  are  exercisable  for a period of two years
from the effective date of a registration  statement  covering the resale of the
shares of common  stock  underlying  the Series C and  Series D warrants  by the
holder,  which  period  shall  be  extended  day-for-day  for  any  time  that a
prospectus  meeting  the  requirements  of the  Securities  Act of  1933  is not

                                      F-20
<PAGE>

available.  The Company may accelerate the expiration of the Series C and Series
D warrants in the event that the average  market price of the  Company's  common
stock exceeds $6.00 per share for ten consecutive trading days. In the event the
Company  accelerates  the expiration of the Series C and Series D warrants,  the
holders of the Series C and Series D warrants would be permitted to exercise the
Series  C and  Series D  warrants  during  a  period  of not  less  than 20 days
following notice of such event.

During  1997,  the  Company  issued  100,000  shares  of its  common  stock to a
nonaffiliated  stockholder  of the Company  for  consulting  and other  services
provided.  The Company recorded consulting expense of $212,500,  which was equal
to the fair market value of the stock on the date of issue.

In 1995,  the Company  entered into an  agreement  with a former  Director;  the
President and a Vice President of the Company,  whereby these  individuals  have
the opportunity to receive up to an aggregate of 2,000,000  additional shares of
common stock.  These  individuals  have the right to divide the earn-out  shares
among   themselves  or  their  assigns,   if  earned,   based  on   performance,
contributions  to the Company  and/or  other  factors  relating to the  business
success of the Company.  Any issuance of earn-out shares would be based upon the
level of pre-tax  consolidated  net  income,  adjusted  to exclude  any  expense
arising from the obligation to issue or the issuance of the earn-out  shares and
any income or expense  associated with  non-recurring or extraordinary  items as
determined  in  accordance  with  generally   accepted   accounting   principles
("Adjusted  PTNI").  At the date the earn-out shares agreement was adopted,  the
value of the  Common  Stock was $2.00 per  share.  At  December  31,  1997,  the
Company's common stock closed at $1.63.

The earn-out  shares have not vested.  No dividends will be paid on the earn-out
shares unless and until they vest. The earn-out shares will vest as follows.  If
Adjusted  PTNI for 1998  equals or  exceeds  $1,500,000,  then an  aggregate  of
350,000  earn-out  shares  will be  issued,  but only one  issuance  of  350,000
earn-out shares will be made based on the $1,500,000 level of Adjusted PTNI.

If  Adjusted  PTNI for 1998  equals or  exceeds  $5,000,000,  then there will be
issued that aggregate  number of earn-out  shares  calculated by subtracting the
number of earn-out shares previously issued or issuable (if any) from 1,100,000,
provided that only one issuance of the earn-out shares will be made based on the
$5,000,000 level of Adjusted PTNI.

If  Adjusted  PTNI for 1998  equals or  exceeds  $8,000,000,  then there will be
issued that aggregate  number of earn-out  shares  calculated by subtracting the
number of earn-out shares previously issued or issuable (if any) from 2,000,000,
provided  that in no event will an  aggregate  of more than  2,000,000  earn-out
shares be issued. In addition, upon purchase, take over or change the in control
of the Company in a hostile or friendly transaction in 1998, all of the earn-out
shares shall become vested.

The Company  expects  that the  issuance of such shares will be deemed to be the
payment of  compensation  to the recipients and will result in an expense to the
Company in the year or years the shares are  earned,  in an amount  equal to the
fair market value of the shares. This expense could have a substantial  negative
impact  on the  earnings  of the  Company  in the year or  years  in  which  the
compensation expense is recognized.

                                      F-21
<PAGE>

(8)      REDEEMABLE PREFERENCE STOCK

Prior  to the  business  combination,  SHP  had  authorized  250,000  shares  of
redeemable  preference  stock  with a par  value of $1.50  per  share,  of which
160,000 shares were issued and outstanding at December 31, 1994. Each redeemable
preference share was entitled to a cumulative annual dividend of nine percent of
the par value from the date of original  issue.  Dividends were payable when and
as declared by the Board of  Directors.  The  preference  stock was redeemed and
related dividends were paid in cash at the time of the business combination.


(9)      INCOME TAXES

The Company  recognized no income tax expense in 1997, 1996 and 1995, due to net
operating losses. The Company did not record the expected tax benefit related to
the net operating losses and other deferred tax assets as these assets are being
offset  by a  valuation  allowance.  Significant  components  of  the  Company's
deferred  income tax assets and deferred  income tax  liabilities as of December
31, 1997 and 1996, are comprised of the following:

                                                     1997             1996
                                                 -----------      --------
Deferred income tax assets:
   Net operating loss carryforwards               $ 4,299,506     $2,803,220
   Accrued vacation                                    48,870         33,649
   Patent costs                                        44,120         30,983
   Other                                               35,064          8,257
                                                  -----------     ----------
       Total gross deferred income tax assets       4,427,560      2,876,109
   Less valuation allowance                        (4,249,264)    (2,794,882)
                                                  -----------     ----------
       Net deferred income tax assets                 178,296         81,227

Deferred income tax liability -
  Property and equipment                             (178,296)       (81,227)
                                                  -----------     ----------

       Net deferred income tax liability          $       -       $      -
                                                  ===========     ==========

The net change in the total valuation allowance for the years ended December 31,
1997 and 1996, was an increase of $1,454,382 and $1,345,758, respectively.

At  December  31,  1997,  the  Company  had  total tax net  operating  losses of
$11,526,826  that can be carried  forward to reduce federal income taxes. If not
utilized,  the tax net operating loss carryforwards  begin to expire in 2009. As
defined in Section 382 of the Internal Revenue Code, the Company has undergone a
greater than 50 percent ownership change.  Consequently, a certain amount of the
Company's  tax net  operating  loss  carryforwards  available  to offset  future
taxable  income  in  any  one  year  may  be  limited.  The  maximum  amount  of
carryforwards  available  in a  given  year is  limited  to the  product  of the
Company's  value on the  date of  ownership  change  and the  federal  long-term
tax-exempt rate, plus any limited carryforwards not utilized in prior years.


(10)      EMPLOYEE BENEFIT PLAN

Effective  January 1, 1996, the Company adopted the Specialized  Health Products
401(k) Plan (the  "Plan").  Employees  who are 21 years of age are  eligible for
participation  in the Plan and may elect to make  contributions to the Plan. The
Company  matches 100  percent of such  contributions  up to five  percent of the
individual  participant's  compensation.  The Company's combined contribution to
the Plan was approximately  $52,100 and $37,100 for the years ended December 31,
1997 and 1996, respectively.


(11)     RELATED-PARTY TRANSACTIONS

During 1997 and 1996, the Company  advanced  approximately  $7,600 and $121,800,
respectively,  to a former director and stockholder of the Company. The advances
are due on demand and are non-interest bearing. In addition, the Company paid to
an  entity,  owned  in  part by  this  same  former  director  and  stockholder,

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<PAGE>

approximately  $100,300 and $203,100  (including  reimbursement of costs) during
1997 and 1996,  respectively,  for consulting and professional services rendered
on behalf of the Company.  As of December 31, 1997 and 1996, the net amount owed
by the Company under these  arrangements was approximately  $81,100 and $73,200,
respectively.

The Company had entered  into  certain  license  agreements  with a director and
officer of the  Company  as a result of the  acquisition  of certain  technology
rights and patents. Under the terms of the agreements, the Company was obligated
to pay  minimum  royalty  payments  totaling  $435,000  over the next six years.
Subsequent  to December  31,  1997,  the Company  issued  750,000  common  stock
warrants with an exercise price of $2.00 as consideration for a release from its
obligations under these royalty agreements (see Notes 5 and 12).

During  1997,  the Company made a loan of  approximately  $182,500 to one of its
directors  and  officers.  The loan bore interest at 8 percent and was repaid in
full prior to year end.

In December  1997,  the Company  borrowed  $45,000 from one of its directors and
officers to assist in the cash flow needs of the Company. The loan bore interest
at 10 percent and was repaid in full in January 1998.

In January 1998,  1,000,000  shares of the Company's $.02 par value common stock
and  1,000,000  Series D common stock  warrants were issued to Johnson & Johnson
Development  Corporation  ("Johnson & Johnson") in conjunction  with the private
placement  offering closed on January 20, 1998. Such stock ownership  represents
an 8.3 percent ownership of the Company by Johnson & Johnson.


(12)     SUBSEQUENT EVENTS

On January 15, 1998,  the Company  issued  750,000  common  stock  warrants to a
director  and officer of the Company  and his  assigns in  consideration  of the
Company's  release from its obligations  under certain  royalty  agreements (see
Notes 5 and 11). Each warrant is redeemable  for one share of the Company's $.02
par value common stock at a price of $2.00 per share. The warrants are currently
exercisable and expire on December 31, 2002.

On January 20, 1998, the Company completed a private placement offering in which
it  sold  2,610,000  units  at  $2.00  per  unit  for  total   consideration  of
approximately $4,948,500,  net of expenses. In connection with the J&J Agreement
discussed  in  Note 4,  Johnson  &  Johnson  Development  Corporation  purchased
$2,000,000 of Company  securities as part of this private  placement.  Each unit
consists  of one  share of the  Company's  $.02 par value  common  stock and one
Series D warrant to purchase one share of common  stock at a price of $2.00.  Of
the total net proceeds,  approximately $1,365,200 was received prior to December
31, 1997 and  approximately  $3,583,300 was received  subsequent to December 31,
1997. The Company  allocated  approximately  $1,350,800 of the total proceeds to
the Series D warrants based on their  relative fair values.  Of the total units,
750,000 were sold prior to December 31, 1997 and 1,860,000 were sold  subsequent
to December 31, 1997. The Series D warrants are  exercisable for a period of two
years from the effective date of a registration statement covering the resale of
the shares of common stock underlying the Series D warrants by the holder, which
period shall be extended  day-for-day for any time that a prospectus meeting the
requirements  of the Securities  Act of 1933 is not  available.  The Company may
accelerate the expiration of the Series D warrants in the event that the average
market  price of the  Company's  common  stock  exceeds  $6.00 per share for ten
consecutive trading days. In the event the Company accelerates the expiration of
the Series D warrants,  the holders of the Series D warrants  would be permitted
to  exercise  the  warrants  during a period of not less than 20 days  following
notice of such event.

Pursuant  to  requirements  of the  private  placement  offering  that closed on
January 20, 1998,  the Company  provided  accredited  investors in the Company's
March 1997 private  placement  with the  opportunity  to exchange the securities
purchased in the March  placement for a number of units the investor  could have
purchased  in the  January  placement  had the  investment  been made  under the
January  private  placement terms rather than the March terms. In February 1998,
all of the March accredited  investors elected to convert to the January private
placement terms in reliance on the registration exemption found in Sections 3(9)

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<PAGE>

and 4(2) of the  Securities Act and Rule 506 of Regulation D. As a result of the
conversion,  all  outstanding  Series C warrants  were  canceled and the Company
issued 256,598 additional shares of common stock and 769,787 additional Series D
warrants.

On January 26, 1998,  the Company  issued 175,000 Series D common stock warrants
to a  nonaffiliated  individual  in exchange for  consulting  services  rendered
during  1997.  The fair  market  value of each  warrant  was  valued at $.84 and
accordingly,  the  Company  recorded  consulting  expense  of  $147,000  in  the
accompanying statement of operations for the year ended December 31, 1997.

In March  1998,  the Company  issued  25,000  shares of common  stock and 25,000
Series D warrants to an  unaffiliated  financial  advisor in connection with the
January private placement offering.  Such shares and options were offset against
the gross private placement proceeds as offering costs.

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