**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


**Washington,
      D.C. 20549**








**FORM
      10-KSB**





**FOR
      ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTION 13 OR 15(D) OF
      THE**


**SECURITIES
      AND EXCHANGE ACT OF 1934**




**(Mark
      One)**


x
            **ANNUAL
                REPORT UNDER SECTION 13 OR 15(d) OF****THE
                SECURITIES EXCHANGE ACT OF
                1934**





**For
      the fiscal year ended December 31, 2006**




**OR**





**o**
            **TRANSITION
                REPORT UNDER TO SECTION 13 OR 15(d) OF****THE
                SECURITIES EXCHANGE ACT OF
                1934**





**For
      the transition period from__________** **to__________**





**Commission
      File No.** **333-62216**







**HEALTH
      DISCOVERY CORPORATION**


*(Name
      of small business issuer in its charter)*




**Texas**
            
            **74-3002154***(State
                or other jurisdiction of incorporation or
                organization)*
            
            *(I.R.S.
                Employer Identification No.)*




**5501
1⁄2
Abercorn
                Street, Savannah,
                GA**
            
            **31405***(Address
                of principal executive offices)*
            
            *(Zip
                Code)*




**(912)
      352-7488**


*(Registrant’s
      telephone number, including area code)*





**Securities
      Registered Pursuant to Section 12 (b) of the Exchange Act:**


**None**





**Securities
      Registered Pursuant to Section 12 (g) of the Act:**


**None**




Check
      whether the issuer: (1) filed all reports required to be filed by Section 13
      or
      15(d) of the Exchange Act during the past 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. Yes x No o




Check
      if
      there is no disclosure of delinquent filers in response to Item 405 of
      Regulation S-B contained in this form, and no disclosure will 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-KSB or any
      amendment to this Form 10-KSB. x




Indicate
      by check mark whether the registrant is a shell company (as defined in Rule
      12(b)-2 of the Exchange Act). o




State
      issuer’s revenues for its most recent fiscal year. $203,889




The
      aggregate market value of the voting common stock held by non-affiliates as
      of
      March 27, 2007 was approximately $8,895,135. There were 116,493,384 shares
      of
      common stock outstanding as of March 27, 2007.




Transitional
      Small Business Disclosure Format (Check one): Yes o, No x













**PART
      I**





**ITEM
      1. DESCRIPTION OF BUSINESS**





**Our
      History**




We
      were
      organized under the name Direct Wireless Communications, Inc., in April 2001
      by
      Direct Wireless Corporation, which licensed to us its technology for a wireless
      telephone. In October 2001, Direct Wireless Corporation, then our sole
      stockholder, pursuant to an effective registration statement under the
      Securities Act of 1933, distributed its entire holdings of our common stock
      as a
      stock dividend to its stockholders. As a result of the dividend, Direct Wireless
      Corporation ceased to own any of our equity securities. The negative events
      that
      occurred over the next several years in the communications industry made it
      difficult for us to fund the advancement of our communication platform. As
      a
      result, we made the decision to strategically change the overall direction
      of
      our intended business activities.




On
      August
      26, 2003, we acquired all of the assets of The Barnhill Group, LLC, which was
      owned by Stephen D. Barnhill, M.D. Dr.
      Barnhill is a physician trained in laboratory medicine and clinical pathology.
      He developed artificial intelligence and pattern recognition computational
      techniques used in medicine, genomics, proteomics, diagnostics and drug
      discovery. Following the acquisition, Dr. Barnhill became our Chief Executive
      Officer and Chairman of our Board of Directors. Also, immediately following
      our
      acquisition of the assets of The Barnhill Group, LLC and the change in strategic
      direction of the Company, our licensing rights to the telecommunications
      technology previously granted by Direct Wireless Corporation were terminated
      and
      all payments due to Direct Wireless Corporation were terminated.




Subsequently,
      we amended our charter to change our name to Health Discovery Corporation (“HDC”
or the “Company”). Direct Wireless Communications (DWCM) officially became
      Health Discovery Corporation on November 6, 2003, at which time the new trading
      symbol (HDVY) became effective.




On
      September 30, 2003, we acquired the assets of Fractal Genomics, LLC, a company
      with patented Fractal Genomics Modeling software, through the issuance of
      3,825,000 common shares of the Company. In addition to the shares of common
      stock of the Company issued for the acquisition of Fractal Genomics, LLC’s
      assets, the Company agreed to execute a note for $500,000 payable in $62,500
      quarterly installments to the seller beginning on January 1, 2004 with the
      final
      payment being made in October 2005. Fractal Genomics’ technology finds, links
      and models patterns of similarity hidden in large amounts of information, such
      as the clinical databases used for diagnostic and drug discovery. Fractal
      Genomics has applied its technology to protein and pathway discovery in leukemia
      and lung development, which could lead to the identification of novel proteins
      that could be used to develop diagnostic markers and drug targets. Our
      acquisition of Fractal Genomics’ assets was completed on December 30, 2003.




On
      July
      30, 2004, we began purchasing rights to a portfolio of 71 patents and pending
      patent applications, including patents on the use of Support Vector Machines,
      or
      SVMs, and other machine learning tools useful for diagnostic and drug discovery
      (the “SVM Portfolio”). On May 6, 2005, we acquired the remaining interest in the
      SVM Portfolio from a group of unrelated third parties.




Effective
      September 26, 2004, we were assigned a patent license agreement with Lucent
      Technologies GRL Corporation (“Lucent”). The patent license agreement was
      associated with the patents acquired July 30, 2004. We agreed to pay minimum
      royalty fees to Lucent, which increases as a percentage of revenue based on
      each
      licensed product that is sold, leased, or put into use by the Company. The
      license granted will continue for the entire unexpired term of Lucent’s patents.




2




**Our
      Company Overview**




HDC
      is a pattern recognition company that uses advanced mathematical techniques
      to
      analyze large amounts of data to uncover patterns that might otherwise be
      undetectable. The Company operates primarily in the emerging field of molecular
      diagnostics where such tools are critical to scientific discovery. The terms *artificial
      intelligence* and *machine
      learning* are sometimes used to describe pattern recognition tools.




HDC’s
      mission is to use its patents, intellectual prowess, and clinical partnerships
      principally to identify patterns that can advance the science of medicine,
      as
      well as to advance the effective use of our technology in other diverse business
      disciplines, including the high-tech, financial, and homeland security
      markets.




Our
      historical foundation lies in the molecular diagnostics field where we have
      made
      a number of important discoveries that may play a critical role in developing
      more personalized approaches to the diagnosis and treatment of certain diseases.
      However, our SVM assets in particular have broad applicability in many other
      fields. Intelligently applied, HDC’s pattern recognition technology can be a
      portal between enormous amounts of otherwise undecipherable data and truly
      meaningful discovery.




Our
      Company’s principal asset is its intellectual property which includes advanced
      mathematical algorithms called *Support
      Vector Machines* (SVM) and *Fractal
      Genomic Modeling* (FGM), as well as *biomarkers* that we discovered by applying our SVM and FGM techniques to complex genetic
      and
      proteomic data. Biomarkers are biological indicators or genetic expression
      signatures of certain disease states. Our
      intellectual property is protected by more than 50 patents that have been issued
      or are currently pending around the world.




Our
      business model has evolved over time to respond to business trends that
      intersect with our technological expertise and our capacity to professionally
      manage these opportunities. In the beginning, we sought only to use our SVMs
      internally in order to discover and license our biomarker signatures to various
      diagnostic and pharmaceutical companies. Today, our commercialization efforts
      include: utilization of our discoveries and knowledge to help develop biomarkers
      for use as companion diagnostics, surrogate biomarkers, and diagnostic and
      prognostic predictive tests; licensure of the SVM and FGM technologies directly
      to diagnostic and pharmaceutical companies; and, the formation of new ventures
      with domain experts in other fields where our pattern recognition technology
      holds commercial promise.




**Our
      Principal Market**




The
      principal healthcare market for our pattern recognition technology and biomarker
      discoveries is the growing field of molecular diagnostics. Borrowing from the
      two disciplines of genomics and proteomics, molecular diagnostics categorizes
      cancer and other diseases using technology such as mass spectrometry and gene
      chips. Genomics is the study of all the genes in a cell or organism, and
      proteomics is the study of all the proteins. Molecular diagnostics determines
      how these genes and proteins interact in patients by focusing on patterns -
      gene
      and protein patterns - in different types of healthy and diseased patient cells.
      Molecular diagnostics uncovers these genomic and proteomic changes and captures
      this information as expression patterns. Also called *molecular
      signatures* ,
      these expression patterns are improving clinicians’ ability to diagnose cancer
      earlier, predict which patients will respond to certain treatments, predict
      cancer recurrence risk, and select appropriate treatment for individual
      patients.




Molecular
      diagnostics can provide early, accurate screening and prediction of diseases
      in
      their asymptomatic stages, years before symptoms manifest or diseases actually
      begin. This allows intervention to begin at that early point, perhaps preventing
      the disease entirely. Early intervention will allow the healthcare system to
      encompass both reactive and preventive medicine, improving overall healthcare
      efficiency and possibly reducing systemic healthcare expenditures.




3




The
      molecular diagnostics industry is an increasingly powerful health care
      participant with tremendous potential. It is characterized by a very diverse,
      constantly changing technology base that continuously produces new opportunities
      and applications. Advances in PCR (polymerase chain reaction), multiplexing,
      sequencing and other technologies are propelling both new and old companies
      forward with novel capabilities. **** Similarly, a growing understanding of the molecular basis of cancer and other
      chronic diseases has awakened new realms of medicine to the possibilities of
      molecular diagnostic testing.




Clinicians
      have discovered that molecular diagnostics have many uses beyond just the
      creation of new screening and diagnostic tools. Expression patterns can also
      provide information for the design of new cancer treatments, monitor the
      treatment’s effectiveness as it is studied in a clinical trial, and even predict
      the patient’s response to a new treatment. In addition to its importance in
      addressing the many kinds of cancer, molecular diagnostics will likely become
      an
      important technology for detecting resistance to antibiotics, a major hazard
      in
      the hospital setting. In the future, molecular tests should be able to determine
      within two to three hours not only the nature of an infection but also any
      potential resistance.




Today,
      the molecular diagnostics market represents about $18 billion in revenue per
      year for both commercial and *home-brew* molecular diagnostic tests, and it is expected to reach more than $92 billion
      by
      2016 according to a recent study. Primary market drivers include the addition
      of
      new diagnostic tests in high-volume testing areas coupled with the introduction
      of new instrumentation that provide greater ease, speed, and quality in test
      performance. Now growing at an average annual rate of more than 40%, the
      potential for molecular diagnostics is particularly impressive in the U.S.
      which
      represents the largest market with the most favorable conditions for molecular
      diagnostics entry and marketing.




From
      a demographic standpoint, 12% of the U.S. population was 65 years old or older
      in 2000. By 2030, that segment is anticipated to grow to 20% of the population,
      burdening the healthcare system with increased numbers of cardiovascular,
      neurological, and other age-related diseases. Age-related conditions are
      expected to contribute to the health care market that will require greater
      product development and marketing of assays, including molecular
      tests.




Diagnostics
      addressing the pharmacogenetic testing segment (i.e. companion diagnostics
      and
      surrogate biomarkers) are expected to drive market growth in the years ahead.
      Pharmacogenetics broadly relates to the study of genetic variations and their
      application to drug discovery to provide personalized therapy. Currently the
      second largest market sector behind diagnostics for infectious diseases, the
      pharmacogenetic sector of the molecular diagnostics market is projected to
      increase from its current $3 plus billion in revenues to more than $60 billion
      of the overall forecasted market over the next ten years.




Our
      SVM technology offers pharmaceutical companies a key tool as they approach
      drug
      discovery in this new era of personalized medicine. Accordingly, our marketing
      efforts are focused on utilizing our technology in partnership with many of
      the
      world’s leading pharmaceutical and life-sciences companies. Our primary
      commercialization pathway for our technology and discoveries is to enter into
      both licensing agreements and joint development opportunities that feature
      up-front license fees, fee-for-service development revenue, milestone payments,
      and royalty streams. The pharmaceutical industry is characterized by costly
      R&D efforts to create new patent-protected products, fierce competition for
      products that are not so protected, and ongoing consolidation as major companies
      acquire smaller players to add new products to existing pipelines.




The
      use of HDC’s SVM technology and our discovered biomarkers may help
      pharmaceutical companies develop and evaluate new drugs and medical therapies
      in
      less time and at lower cost. According to the lobby group PhRMA, only 1 of
      every
      10,000 potential medicines investigated by America’s drug companies survives the
      research and development process and is approved for patient use by the U.S.
      Food and Drug Administration (FDA). On average, the drug developmental process
      can take up to 15 years in research and development, with costs approaching
      many
      hundreds of millions of dollars. This extended timeframe and enormous expense
      has led to an emphasis on the development of “blockbuster” drugs.




4


Within
      the drug discovery R&D process, biomarkers like ours can help pharmaceutical
      companies identify disease targets and pathways and validate mechanisms of
      drug
      action. They may also serve as pharmacodynamic indicators of drug activity, drug response, and drug toxicity in clinical
      development. Biomarkers may also be used to help avoid new drug failures in
      late
      stage trials, earlier detection of disease, and improved prognosis of
      therapeutic outcome.




We
      consistently work to influence the evolving relationship between diagnostics
      and
      monitoring patients for therapeutic outcome. With its February 2007 approval
      of *MammoPrint* ,
      Agendia’s multi-gene expression breast cancer prognosis test, the FDA signaled
      its acceptance of the field of molecular diagnostics and highlighted the growing
      importance of personalized medicine. In particular, the advent of molecular
      diagnostics has led to the promise of a completely new paradigm in the care
      of
      patients suffering from cancer and other diseases.




Using
      companion diagnostics in patient care can substantially improve patient outcomes
      and pave the way for personalized, targeted medicine by reducing both
      misdiagnoses and adverse reactions, and by eliminating unnecessary and expensive
      downstream tests. Today, patient dosage levels are based on age, sex, and
      weight, as determined by empirical studies. However, specific drug metabolism
      may be as individualized as one’s fingerprint. In the future, molecular
      diagnostics may be able to direct physicians to the right drugs for every
      patient, no matter what the illness.




This
      trend towards personalized medicine may lead to the reduction of overall
      healthcare expenditures. What is known as a *surrogate*  *molecular
      marker* may now be substituted for the lengthy process of comparing the effects of
      a
      prospective new drug versus a placebo on the ultimate outcome of a disease.
      As a
      result, a drug’s effectiveness against the disease process in question may be
      monitored more efficiently by evaluating the presence or absence of a specific
      biomarker, thereby avoiding failures late in the research and development
      process as well as the threat of recalls. One example of the successful
      application of biomarker data to therapeutic evaluation is the use of blood
      cholesterol levels to evaluate the effectiveness of cholesterol lowering drugs. *This
      approach has the potential for creating a revolutionary new paradigm in the
      conduct of clinical trials worldwide.*




Current
      diagnostic tools, such as blood marker-based immunoassays, imaging techniques,
      and biopsy analyses, provide valuable information and have played an important
      role in increasing survival rates of cancer patients. However, these tools
      have
      inherent limitations in accuracy (i.e. sensitivity and specificity) and remain
      quite expensive. There is a significant need for advanced diagnostic and
      prognostic tests that can provide meaningful information, screen for cancer,
      detect early recurrence, and monitor progression and therapeutic response in
      real time. HDC’s pattern recognition technology can play a critical role in the
      development of these tests because an advanced pattern recognition technique *is
      required* for this type of discovery. SVM technology is recognized as a superior pattern
      recognition tool available today as evidenced in hundreds of scientific papers
      worldwide.




Working
      with recognized diagnostic and pharmaceutical partners, our goal is to develop
      a
      product line of newly discovered biomarker signatures and pathways that can
      be
      found in human genes and genetic variations, as well as gene, protein and
      metabolite expression differences. In addition, we market our expertise in
      the
      design of clinical trials for companion diagnostics to substantiate the clinical
      validity and commercial utility of those biomarkers. We also market the potent
      combination of our intellectual property and intellectual prowess to our
      prospective collaborative partners. As inventors of the SVM technology, our
      world renowned mathematicians offer these companies the strongest possible
      development team for their drug discovery, diagnostic test, or other
      applications.




**Our
      Technologies and Discoveries**




HDC
      owns a patent portfolio of machine learning technology, including certain
      pioneer patents on SVM. We also have consulting arrangements with many of the
      physicians, clinical specialists and mathematicians responsible for developing
      and filing the pioneer neural network and SVM patents for the analysis of
      clinical data.




5


The
      Company’s SVM technology is commonly considered within the context of *artificial
      intelligence* .
      This is a branch of computer science concerned with giving computers the ability
      to perform functions normally associated with human intelligence, such as
      reasoning and optimization through experience. Machine learning is a type of
      artificial intelligence that enables the development of algorithms and
      techniques that allow computers to learn. Pattern recognition is machine
      learning with a wide spectrum of applications including medical diagnosis,
      bioinformatics, classifying DNA sequences, detecting credit card fraud, stock
      market analysis, object recognition in computer vision, and robot locomotion.




*SVM
      Overview*




SVMs
      are mathematical algorithms that allow computers to sift through large, complex
      datasets to identify patterns. SVM’s are widely acknowledged for their ability
      to discover hidden relationships in these complex datasets. With the ability
      to
      handle what is known as *infinite
      dimensional space* ,
      SVMs are broadly considered to be superior to neural networks and other
      mathematical techniques. SVM is a core machine learning technology with strong
      theoretical foundations and excellent empirical successes.




Since
      their introduction in 1992, SVMs marked the beginning of a new era in the *learning
      from examples* paradigm in artificial intelligence. Rooted in the Statistical Learning Theory
      developed by Professor Vladimir Vapnik, a member of HDC’s Scientific Advisory
      Board, SVMs quickly gained attention from the math and science communities
      due
      to a number of theoretical and computational merits. This development advanced
      a
      new framework for modeling learning algorithms. Within this framework, the
      fields of machine learning and statistics were merged introducing powerful
      algorithms designed to handle the difficulties of prior computational
      techniques.




The
      new generation of learning algorithms that were developed based on this theory
      have proved to be remarkably resistant to the problems imposed by noisy data
      and
      high dimensionality. They are computationally efficient, have an inherent
      modular design that simplifies their implementation and analysis and allows
      the
      insertion of domain knowledge, and, more importantly, they have theoretical
      guarantees about their generalization ability. SVMs have been validated in
      hundreds of independent academic publications and presentations. In recognition
      for his work, Professor Vapnik received the prestigious Alexander von Humboldt
      Prize from the German government honoring foreign scientists and scholars for
      lifetime achievement.




SVMs
      have become widely established as one of the leading approaches to pattern
      recognition and machine learning worldwide and are replacing neural networks
      in
      a variety of fields, including engineering, information retrieval and
      bioinformatics. This technology has been incorporated into product and research
      applications by many biomedical, pharmaceutical, software, computer and
      financial companies. Educational and research institutions throughout the world
      have successfully applied SVMs to a wide array of applications, including gene
      and protein expression analysis, medical image analysis, flow cytometry, and
      mass spectrometry.




*Recursive
      Feature Elimination - Support Vector Machine Overview*




Recursive
      Feature Elimination (RFE-SVM) is an application of SVM that was created by
      members of HDC’s science team to find discriminate relationships within clinical
      datasets, as well as within gene expression and proteomic datasets created
      from
      micro-arrays of tumor versus normal tissues. In general, SVMs identify patterns
      - for instance, a biomarker/genetic expression signature of a disease. The
      RFE-SVM utilizes this pattern recognition capability to identify and rank order
      the data points that contribute most to the desired results based on specificity
      or sensitivity. The Company believes that its two RFE-SVM patents are currently
      the only RFE patents issued in the world.




Using
      RFE-SVM, we have been able to access information in micro-array datasets that
      the most advanced bioinformatics techniques missed. In one micro-array
      experiment, RFE-SVMs were able to filter irrelevant tissue-specific genes from
      those related to the malignancy. RFE-SVM has also been used to determine gene
      expression patterns that correlate to the severity of a disease, not just its
      existence. It has been shown to improve both diagnosis and prognosis by
      providing physicians with an enhanced decision tool. HDC scientists believe
      that
      these analytic methods are effective for finding genes and proteins implicated
      in several cancers, as well as in assisting with the pharmacogenetic and
      toxicological profiling of patients. The RFE-SVM method is also capable of
      finding those specific genes and proteins that are unhindered by ever-increasing
      patent protection.




6


*Fractal
      Genomic Modeling Overview*




On
      September 30, 2003, we acquired the assets of Fractal Genomics, LLC, a company
      with patented Fractal Genomic Modeling (“FGM”) software. The fractal technology
      is used to find discriminate relationships within clinical datasets as well
      as
      within gene expression datasets created from micro-arrays of disease versus
      normal tissues.




The
      FGM data analysis technique has been shown to improve the mapping of genetic
      pathways involved in the diagnosis and prevention of certain diseases. HDC
      scientists feel that these analytic methods are effective for finding genes
      implicated in several cancers, HIV infection, lymphedema, Down’s syndrome, and a
      host of other diseases, as well as the pharmacogenetic profiling of
      patients.




FGM
      technology is designed to study complex networks. A complex network can be
      made
      up of genes inside a living organism, web pages on the Internet, stocks within
      a
      financial market, or any group of objects or processes that appear to be
      connected together in some intricate way. FGM uses a new approach toward
      modeling network behavior to rapidly generate diagrams and software simulations
      that facilitate prediction and analysis of whatever process is your particular
      object of study. Two important concepts behind FGM technology are the notions
      of
      scale-free networks and self-similarity.




The
      FGM process begins by creating a special mathematical surface (the FGM surface)
      where every point on the surface can be used to generate a network model with
      varying degrees of scale-free and fractal properties. Utilizing user-supplied
      data, models which best match the behavior of each node are selected and
      represented by a point on the FGM surface. These point-models are then linked,
      compared, and combined to generate diagrams that reflect the behavior of the
      entire network.




The
      end result of the modeling process is a diagram where circles represent nodes
      in
      the network and arrows represent directions of causality or “flow” through the
      network. FGM-derived diagrams expedite forecasting, analysis, and study of
      complex system behavior by clearly displaying all hubs, links, and flow in
      the
      network. These diagrams also serve as flow charts and schematics from which
      to
      build software simulations of the network. The FGM process can also be used
      to
      quickly search for networks and connections between processes and between
      objects that appear to be unrelated.




**Our
      Scientific Achievements**




HDC’s
      world renowned scientific team is uniquely experienced in the design, analysis
      and application of machine learning technology, having invented the concepts
      and
      many of the methodologies used to exploit domain knowledge. In addition, through
      pattern recognition, our science team has identified and patent-protected
      biomarkers as possible treatment advances for several diseases, including Benign
      Prostatic Hyperplasia (BPH), prostate cancer, leukemia, colon cancer, and
      AIDS.




*Benign
      Prostatic Hyperplasia*




*HDC
      has identified and patent-protected* a subset of genes that separates BPH from prostate cancer with a high degree
      of
      accuracy. This same set of genes also separated BPH from normal tissue patterns,
      indicating that BPH is a disease with molecular characteristics of its own.
      This
      discovery could be used to develop a new non-invasive diagnostic test for BPH,
      which does not currently exist, as well as a completely new type of therapy
      for
      patients with this disease.




BPH
      is a non-cancerous enlargement of the prostate gland that occurs as men age.
      The
      enlargement often leads to obstruction in the flow of urine through the urethra
      that passes through the prostate gland. BPH is a common condition, representing
      a global treatment market of almost $4 billion annually growing by 12% per
      year
      in fixed-rate US dollar terms. According to the National Institutes of Health
      (NIH), BPH affects more than 50% of men over age 60 and as many as 90% of men
      over the age of 70. While BPH does not cause prostate cancer, both may be found
      together.




7


*Prostate
      Cancer*




*HDC
      has identified and patent-protected* a genetic biomarker signature that identifies clinically significant high grade
      prostate cancer based on analysis of tissue samples. A logical next step will
      be
      to determine whether this same biomarker signature and the protein products
      of
      these genes exist in urine and other fluids that can be obtained non-invasively
      in order to develop non-tissue based diagnostics.




Prostate
        cancer is the second-leading cause of cancer death in men, after lung cancer.
        The National Cancer Institute (NCI) estimates that more than 218,000 new
        cases
        of prostate cancer will be diagnosed in the U.S. in 2007, with more than
        27,000
        deaths.




More
      than one million men a year undergo biopsies of the prostate gland after a
      cancer-screening test reveals moderately elevated levels of prostate specific
      antigen (PSA) in the blood. Typically, a biopsy specimen is then used to
      determine if the tissue is cancerous. If cancer is found, the Gleason scale
      is
      used to evaluate the patient’s prognosis. This scale ranges from 1 to 5, wherein
      a higher Gleason score is given to cancer that is more aggressive.




Only
      one in four such biopsies reveals evidence of cancer. Many experts now believe
      that most of the prostate biopsies performed each year are unnecessary.
      According to a group of urologists led by Stanford University’s Dr. Thomas
      Stamey MD, a member of HDC’s Scientific Advisory Board, the PSA test is now all
      but useless for predicting the risk of prostate cancer since it indicates
      nothing more than whether the prostate gland is enlarged, a common condition
      called benign prostatic hypertrophy which is associated with the normal aging
      process for men. The PSA can also be raised by benign prostatic hyperplasia,
      biopsy of the prostate, transurethral prostatectomy, acute urinary retention,
      acute prostatitis, and ejaculation.




The
      Stamey study noted that tumors encountered twenty years ago were generally
      so
      large they generated PSA levels high enough to provide a reasonably good measure
      of cancer severity. Now that screening is more commonplace in this country,
      many
      cancers are being caught earlier and are usually smaller - not generating enough
      PSA to be a good indicator of severity. Given the importance of determining
      severity, there remains an urgent need for serum markers that reflect the size
      and grade of this ubiquitous cancer. It is conceivable that developments flowing
      from HDC’s recent discoveries may ultimately displace Gleason score as an
      indicator of prostate cancer severity.




*Leukemia*




*HDC
      has identified and patent-protected* a set of leukemia genes that can separate ALL-T-cell leukemia from ALL-B-cell
      leukemia with a high degree of accuracy. The Company collaborated with the
      University of Texas M.D. Anderson Cancer Center to analyze a gene expression
      database to identify new biomarkers and pathways involved in
      leukemia.




Leukemia
      is a type of cancer that originates in the bone marrow. The accumulation of
      malignant cells interferes with the body’s production of healthy blood cells and
      makes the body unable to protect itself against infections. The National Cancer
      Institute (NCI) estimates that more than 44,000 new cases will be diagnosed
      in
      the U.S. in 2007, with almost 22,000 deaths.




*Colon
      Cancer*




*HDC
      has identified and patent-* *protected*
      colon cancer-specific biomarkers that can be used in the development of
      diagnostic assays for cancer detection, disease discrimination, and even a
      potential vaccine. The aim of this early biomarker discovery project was to
      define the gene expression patterns associated with colon cancer. Our RFE-SVM
      served as an effective tool for sifting through the noise of thousands of
      measurements to highlight only those genes that optimally contributed to the
      study focus.




8


In
      the United States, colorectal cancer is the third most common cancer in men
      and
      women. The National Cancer Institute (NCI) estimates that more than 112,000
      new
      cases of colon and rectal cancer will be diagnosed in the U.S. in 2007, with
      more than 50,000 deaths.




When
      colorectal cancer is detected early, survival rates are much higher. The
      survival rate at five years is 91% for patients who receive early treatment.
      When adjacent organs or lymph nodes are affected, the five-year survival rate
      drops to 66%. In cases where the cancer spreads to other organs, the survival
      rate drops to only 8%. Thus, it is essential that all patients undergo screening
      for the early detection of pre-cancerous conditions.




Most
      colon cancers can be detected early with routine colonoscopy, but only a small
      percentage of the at-risk population has this procedure. Fear of the procedure
      and its complications along with its high cost have limited the potential of
      colonoscopy to be used as an acceptable screening tool for colon
      cancer.




*AIDS*




*HDC
      has identified and patent-protected* an AIDS expression signature that can separate AIDS brain cells from non-AIDS
      brain cells with a high degree of accuracy.




This
      biomarker discovery was accomplished in conjunction with Dr. Paul Shapshak,
      Director of the Dementia/HIV Laboratory at the University of Miami Medical
      School, and a group of leading scientists using HDC’s proprietary FGM analysis
      technique. HDC sold the biomarker discovery to the University of Miami in
      November 2005.




HIV-related
      dementia occurs in 40 to 60 percent of all cases of HIV infection that are
      left
      untreated. Even when treated, dementia occurs in 10 percent of all cases of
      HIV
      infection, with the number continuing to rise as the virus becomes resistant
      to
      treatment. The dementia is related to inflammation in the brain caused by HIV
      infection, a problem whose underlying genetic causes are complex and largely
      unknown.




*Breast
      Cancer*




HDC
      is developing two breast cancer diagnostic technologies; one for detecting
      malignancy in mammograms ( *MammoSIGHT* )
      and another for identifying circulating tumor cells in the blood ( *MetastaSIGHT* ).
      The detection component of these technologies finds the areas of particular
      interest in the image and separates these objects from the background. The
      feature extraction component formulates numerical values relevant to the
      classification task from the segmented objects. HDC’s patented technology can be
      used within all diagnostic imaging radiology techniques, including PET scans,
      CT
      scans, and MRIs.




For
      women, breast cancer is the most common non-skin cancer and the second leading
      cause of cancer-related death in the United States. However, death rates from
      breast cancer have been declining since 1990, and these decreases are believed
      to be the result, in part, of earlier detection and improved treatment.
      Mammography remains the best method of early breast cancer detection. According
      to studies cited by the National Cancer Institute, 10 to 20 percent of breast
      cancers detected by a physical exam were missed by a film mammogram. For this
      reason, there have been extensive research efforts to improve mammography.




The
      FDA reports that there are about 33.5 million mammography procedures performed
      each year in the United States. Data from 2000-2002 show that about 70 percent
      of all mammograms that are performed annually are for screening purposes (to
      detect cancer as opposed to following cancer once it has been diagnosed). This
      translates to about 23.5 million screening procedures every year.




9


Studies
      have shown that among newly diagnosed breast cancer cases in which the patients
      have previous mammograms, 75% of the cases will have abnormality detectable
      in
      the old films. In fact, missed cancer reading in mammography is a major source
      of lawsuits in radiology. Detecting malignancy in mammograms can be very
      difficult. Individual mammograms are unique and there can be great variation
      within “normal” images. Unlike CT and MRI, mammograms are not cross-sectional
      images. Basically, a mammogram produces a two-dimensional picture of a
      three-dimensional object. The projection from 3D to 2D and the resulting
      overlaps on the images may interfere with the recognition of the distinguishing
      features. The features are often very subtle. The rules for differentiating
      the
      benign and malignant cases are vague and not easily formulated.




One
      way to reduce reading errors is to have two radiologists read the same
      mammograms independently. However, in most health care systems, it is not
      feasible to implement such a two-radiologist reading process. A
      computer-assisted detection (CAD) system serving as a second reader is therefore
      an attractive option and CAD is currently reimbursed by both insurance companies
      and Medicare.




One
      of the most recent advances in x-ray mammography is
      digital mammography. Digital (computerized) mammography is similar to standard
      mammography in that x-rays are used to produce detailed images of the breast.
      Digital mammography uses essentially the same mammography system as conventional
      mammography, but the system is equipped with a digital receptor and a computer
      instead of a film cassette. Several studies have demonstrated that digital
      mammography is at least as accurate as standard mammography.




For
      a
      woman getting either a traditional film mammogram or the digital version, the
      experience of the exam is the same: each breast is compressed by a machine
      between square plates, while a very low dose of radiation is
      passed through the tissue. The major difference comes in how the image is viewed
      and stored. Digital scans are stored in bits and bytes on a computer where,
      theoretically, they can be enhanced for contrast if necessary, or otherwise
      manipulated to improve the information provided.




Both
      digital and film mammography use X-rays to produce an image of the breast.
      In
      film mammography, which has been used for over 35 years, the image is created
      directly on a film. While standard film mammography is very good, it is less
      sensitive for women who have dense breasts. A major limitation of film
      mammography is the film itself. Once a film mammogram is obtained, it cannot
      be
      significantly altered; if the film is underexposed, for example, contrast is
      lost and cannot be regained.




Digital
      mammography takes an electronic image of the breast and stores it directly
      in a
      computer. Digital mammography uses less radiation than film mammography and
      allows for improvement in image storage and transmission because images can
      be
      stored and sent electronically. Radiologists can use software to help interpret
      digital mammograms.




In
      September 2006, digital mammograms received heightened attention when the
      National Cancer Institute released details of the Digital Mammographic Imaging
      Screening Trial (DMIST), a $26 million study of 49,528 women at 33 sites in
      the
      United States. DMIST showed that, for the entire population of women studied,
      digital and film mammography had very similar screening accuracy. However,
      the
      study concluded that the new digital technology was found to be better than
      film
      mammograms at detecting cancer among three groups of women: (1) those with
      very
      dense breasts, as determined by their doctors; (2) women under 50, whatever
      their breast density; and, (3) women of any age who were premenopausal or who
      had had at least one menstrual period within 12 months of the last mammogram.
      These results suggest that for women who fall into the three subgroups, digital
      mammography may be better at detecting breast cancer than traditional film
      mammography. Approximately 65% of the women in DMIST fit into one of the three
      subsets that showed a benefit with digital mammography. Today, approximately
      8%
      of breast imaging units provide digital mammography.




10




*MammoSIGHT*




HDC’s *MammoSIGHT* technology introduces the use of SVMs in detecting malignancy in mammograms.
      The
      SVM classifier produces an index discriminating between the benign and malignant
      cases. The individual components can be developed in parallel because of the
      modular structure. In developing the calcification segmentation component,
      a
      selected set of malignant, benign and normal cases representing a wide range
      of
      images was used to guide and test the design in order to produce a general,
      robust and accurate algorithm. At the same time, the SVM classifier was
      developed and tested with manually prepared input data. A set of 300 images
      (150
      benign and 150 malignant cases) was used in training the SVM. An independent
      set
      of 328 images was used for testing. High dimensional input features were used
      to
      ensure a sufficient capacity for automatically extracted features.




Clusters
      of micro calcifications are characterized by their relatively small sizes and
      high densities. The algorithm combines a recursive peak seeking technique with
      morphological operations to achieve a highly accurate calcification detection
      and segmentation.




*MetastaSIGHT*




Cancer
      cells have the ability to migrate from the organ of its origin to any distant
      organ throughout the body. This is known as metastasis, the hallmark of
      malignant cancers. During metastasis, cancerous cells break through barriers
      to
      travel through the body’s circulatory system to invade other organs. These cells
      form new cells in vital organs throughout the body, becoming secondary tumors
      that destroy normal cells by depriving them of nutrition.




Even
      with today’s best treatment when the cancer is forced into remission, metastasis
      will not necessarily leave the body. Metastasis cannot be eliminated by surgery.
      Often, malignant cells circulate in the blood  before
      detection by clinical examination. *MetastaSIGHT* uses an SVM-based approach to introduce new cellular imaging technology that
      identifies circulating tumor cells in the blood.




**Employees**




On
      December 31, 2006, we had 5 full time employees. We do not expect any
      significant change in the number of employees over the next 12 months. We
      consider our employee relations to be good, and we have no collective bargaining
      agreements with any employees.




**Website
      Address**




Our
      corporate website address is www.HealthDiscoveryCorp.com. To view our public
      filings from the home page, select the “Display SEC Filings” tab followed by
“SEC Filings.” This is a direct link to our filings with the Securities and
      Exchange Commission (“SEC”), including but not limited to our Annual Report of
      Form 10-KSB, quarterly reports on Form 10-QSB and current reports on Form 8-K,
      and any amendments to these reports. These reports are accessible soon after
      we
      file them with the SEC.




**Governmental
      Regulation**




Our
      business plan involves *First
      Phase Biomarker Discovery* in
      the
      field of molecular diagnostics. This early discovery process does not involve
      any governmental regulations or approvals. If we are successful in licensing
      our
      discoveries to other companies, FDA approvals may be required before the
      ultimate product may be sold to consumers. Companies licensing our discoveries
      or technologies will be responsible for all costs involved in such approvals.
      If
      we are not successful in licensing these discoveries and choose to take these
      discoveries to market ourselves, we may then be subject to applicable FDA
      regulations and would then bear the costs of such approvals.




We
      know
      of no governmental regulations that will affect the Company’s current operations
      or products.




11


**Intellectual
      Property** ****




In
      connection with the SVM Acquisition, we obtained rights to the intellectual
      property within the “SVM portfolio” that currently consists of twenty patents
      which were or have since issued as well as 35 other patent applications that
      are
      pending in the U.S. and elsewhere in the world. The issued patents and pending
      applications in the SVM portfolio to date, including new applications that
      we
      have filed since acquiring the original IP, HDC are:




**Patent/Application
                No.**
            
            **Title**
            
            **Expiration
                Date**U.S.
                Patent No. 6,128,608
            
            Enhancing
                Knowledge Discovery Using Multiple Support Vector Machines
            
            05/01/2019U.S.
                Patent No. 6,157,921
            
            Enhancing
                Knowledge Discovery Using Support Vector Machines in a Distributed
                Network
                Environment
            
            05/01/2019U.S.
                Patent No. 6,427,141
            
            Enhancing
                Knowledge Discovery Using Multiple Support Vector
                Machines.
            
            05/01/2019U.S.
                Patent No. 6,658,395
            
            Enhancing
                Knowledge Discovery from Multiple Data Sets Using Multiple Support
                Vector
                Machines.
            
            05/01/2019U.S.
                Patent No. 6,714,925
            
            System
                for Identifying Patterns in Biological Data Using a Distributed
                Network.
            
            05/01/2019U.S.
                Patent No. 6,760,715
            
            Enhancing
                Biological Knowledge Discovery Using Multiple Support Vector
                Machines.
            
            05/01/2019U.S.
                Patent No. 6,789,069
            
            Method
                of Identifying Patterns in Biological Systems and Method of
                Uses.
            
            05/01/2019U.S.
                Patent No. 6,882,990
            
            Method
                of Identifying Biological Patterns Using Multiple Data
                Sets.
            
            05/01/2019U.S.
                Patent No. 6,944,602
            
            Spectral
                Kernels for Learning Machines
            
            02/19/2023U.S.
                Patent No. 6,996,542
            
            Computer-Aided
                Image Analysis
            
            04/21/2021U.S.
                Patent No. 7,117,188
            
            Methods
                of Identifying Patterns in Biological Systems and Uses
                Thereof
            
            05/01/2019Australian
                Patent No. AU 764897
            
            Pre-processing
                and Post-processing for Enhancing Knowledge Discovery Using Support
                Vector
                Machines.
            
            05/01/2019South
                African Patent No. ZA 00/7122
            
            Pre-processing
                and Post-processing for Enhancing Knowledge Discovery Using Support
                Vector
                Machines.
            
            05/01/2019Australian
                Patent No. AU 780050
            
            Enhancing
                Knowledge Discovery from Multiple Data Sets Using Multiple Support
                Vector
                Machines.
            
            05/24/2020Chinese
                Patent No. ZL00808062.3
            
            Enhancing
                Knowledge Discovery from Multiple Data Sets Using Multiple Support
                Vector
                Machines.
            
            05/24/2020European
                Patent No. 1192595
            
            Enhancing
                Knowledge Discovery from Multiple Data Sets Using Multiple Support
                Vector
                Machines.
            
            05/24/2020German
                Patent No. DE60024452.0-08
            
            Enhancing
                Knowledge Discovery from Multiple Data Sets Using Multiple Support
                Vector
                Machines.
            
            05/24/2020Israeli
                Patent No. 146705
            
            Enhancing
                Knowledge Discovery from Multiple Data Sets Using Multiple Support
                Vector
                Machines
            
            05/24/2020Norwegian
                Patent No. 319,838
            
            Enhancing
                Knowledge Discovery from Multiple Data Sets Using Multiple Support
                Vector
                Machines.
            
            05/24/2020Australian
                Patent No. AU 779635
            
            Method
                of Identifying Patterns in Biological Systems and Method of
                Uses.
            
            10/27/2020




12




Canadian
                Application No. 2,330,878
            
            Pre-Processing
                and Post-Processing for Enhancing Knowledge Discovery Using Support
                Vector
                Machines
            
            05/01/2019European
                Publication No. 1082646
            
            Pre-Processing
                and Post-Processing for Enhancing Knowledge Discovery Using Support
                Vector
                Machines
            
            05/01/2019Hong
                Kong Application No. 011065063
            
            Pre-Processing
                and Post-Processing for Enhancing Knowledge Discovery Using Support
                Vector
                Machines
            
            05/01/2019Indian
                Application No. 2000/00580
            
            Pre-Processing
                and Post-Processing for Enhancing Knowledge Discovery Using Support
                Vector
                Machines
            
            05/01/2019Canadian
                Application No. 2,371,240
            
            Enhancing
                Knowledge Discovery from Multiple Data Sets Using Multiple Support
                Vector
                Machines
            
            05/24/2020Indian
                Application No. 2001/01329
            
            Enhancing
                Knowledge Discovery from Multiple Data Sets Using Multiple Support
                Vector
                Machines
            
            05/24/2020Japanese
                Application No. 2000-620577
            
            Enhancing
                Knowledge Discovery from Multiple Data Sets Using Multiple Support
                Vector
                Machines
            
            05/24/2020South
                Korean Application No. 7015064/2001
            
            Enhancing
                Knowledge Discovery from Data Sets Using Multiple Support Vector
                Machines
            
            05/24/2020Canadian
                Application No. 2,388,595
            
            Method
                of Identifying Patterns in Biological Systems and Method of
                Uses
            
            08/07/2020European
                Publication No. 1236173
            
            Method
                of Identifying Patterns in Biological Systems and Method of
                Uses
            
            08/07/2020Japanese
                Application No. 2001-534088
            
            Method
                of Identifying Patterns in Biological Systems and Methods of Uses
            
            08/07/2020U.S.
                Patent Publication No. 2005/0165556
            
            Colon
                Cancer-Specific Markers
            
            05/01/2019U.S.
                Application No. 11/274,931
            
            Biomarkers
                for Screening, Predicting, and Monitoring Prostate Disease
            
            05/01/2019PCT
                Application No. PCT/US2005/041442
            
            Biomarkers
                for Screening, Predicting, and Monitoring Prostate Disease
            
            11/14/2025Australian
                Application No. 2002253879
            
            Methods
                of Identifying Patterns in Biological Systems and Uses
                Thereof
            
            01/24/2022Canadian
                Application No. 2,435,254
            
            Methods
                of Identifying Patterns in Biological Systems and Uses
                Thereof
            
            01/24/2022European
                Publication No. 1459235
            
            Methods
                of Identifying Patterns in Biological Systems and Uses
                Thereof
            
            01/24/2022Japanese
                Application No. 2002-560076
            
            Methods
                of Identifying Patterns in Biological Systems and Uses
                Thereof
            
            01/24/2022U.S.
                Patent Publication No. 2006/0074821
            
            Spectral
                Kernels for Learning Machines
            
            02/19/2023European
                Publication No. 1384155
            
            Spectral
                Kernels for Learning Machines
            
            02/19/2023U.S.
                Patent Publication No. 2005/0071300
            
            Kernels
                and Methods for Selecting Kernels for Use in a Learning
                Machine
            
            05/07/2022European
                Publication No. 1393196:
            
            Kernels
                and Methods for Selecting Kernels for Use in a Learning
                Machine
            
            05/07/2022U.S.
                Application No. 11/349,542
            
            Computer-Aided
                Image Analysis
            
            05/01/2019




13




Australian
                Application No. 2002243783
            
            Computer
                Aided Image Analysis
            
            01/23/2022Canadian
                Application No. 2,435,290
            
            Computer
                Aided Image Analysis
            
            01/23/2022European
                Publication No. 1356421
            
            Computer
                Aided Image Analysis
            
            01/23/2022Japanese
                Application No. 2002-560082
            
            Computer
                Aided Image Analysis
            
            01/23/2022U.S.
                Patent Publication No. 2005/0216426
            
            Methods
                for Feature Selection in a Learning Machine
            
            08/07/2020U.S.
                Patent Publication No. 2005/0071140
            
            Model
                Selection for Cluster Data Analysis
            
            05/17/2022U.S.
                Application No. 10/481,068
            
            Data
                Mining Platform for Bioinformatics
            
            08/07/2020U.S.
                Patent Publication No. 2005/0228591
            
            Kernels
                and Kernel Methods for Spectral Data
            
            08/07/2020U.S.
                Patent Publication No. 2005/0131847
            
            Pre-Processed
                Feature Ranking for a Support Vector Machine
            
            08/07/2020European
                Publication No. 1449108
            
            Pre-Processed
                Feature Ranking for a Support Vector Machine
            
            11/07/2022U.S.
                Provisional Application No. 60/833,644
            
            Biomarkers
                for Screening, Predicting, and Monitoring Benign Prostate
                Hyperplasia
            
            N/AU.S.
                Provisional Application No. 60/888,070
            
            Biomarkers
                for Screening, Predicting, and Monitoring Prostate Disease
            
            N/A




HDC
      also
      owns intellectual property rights in U.S. and foreign patents and pending patent
      applications covering the FGM technology. The FGM portfolio includes 1 issued
      patent and 6 pending patent applications, which are:




**Patent/Application
                No.**
            
            **Title**
            
            **Expiration
                Date**U.S.
                Patent No. 6,920,451
            
            Method
                for the Manipulation, Storage, Modeling, Visualization and Quantification
                of Datasets.
            
            01/19/2021U.S.
                Patent Publication No. 2005/026199
            
            Method
                for Identifying Biomarkers Using Fractal Genomics
                Modeling.
            
            01/19/2021U.S.
                Patent Publication No.: 2005/0026199
            
            Method
                for Identifying Biomarkers Using Fractal Genomics
                Modeling.
            
            01/19/2021U.S.
                Patent Publication No.: 2005/0158735
            
            Method
                for Studying Cellular Chronomics and Causal Relationships of Genes
                Using
                Fractal Genomics Modeling.
            
            01/19/2021U.S.
                Patent Publication No.: 2005/0076190
            
            Method
                for the Manipulation, Storage, Modeling, Visualization and Quantification
                of Datasets.
            
            01/19/2021WIPO
                Publication No.
              WO
                2006/083330
            
            Method
                for the Manipulation, Storage, Modeling, Visualization and Quantification
                of Datasets.
            
            05/05/2007European
                Publication No.: 1252588
            
            Method
                for the Manipulation, Storage, Modeling, Visualization and Quantification
                of Datasets.
            
            01/19/2021





14





**Our
      Competition**




HDC’s
      main service/product is *First-Phase
      Biomarker Discovery* .
      While there are numerous companies that perform individual steps in this
      process, we know of no other company that performs all steps in *First-Phase
      Biomarker Discovery* .
      Competing companies in the biomarker discovery arena have made numerous
      promising discoveries but have failed to bring fully validated biomarkers to
      market. We feel that by performing and controlling all steps of this process,
      we
      can eliminate the problems these companies have had in validating their
      findings, and thus, produce fully validated, marketable biomarkers.




Our
      SVM and FGM technologies give us a distinct advantage over competing
      technologies. Neither classical statistical analysis nor neural networks (the
      two competing technologies) can handle the large amounts of inputs necessary
      to
      produce fully validated biomarkers.




**Research
      and Development**




Our
      past Research and Development costs have been minimal due to the unique
      relationships we have maintained with the members of our scientific team and
      their institutions. Our total R&D costs have consisted solely of the
      consultant fees paid to Dr. Stamey, Dr. Vapnik, and Dr. Guyon. These fees
      consisted of $70,734 in cash for 2006 and $404,421 in cash for
      2005.




**RISK
      FACTORS**




This
      document contains certain forward-looking statements within the meaning of
      the
      Private Securities Litigation Reform Act of 1995 including, without limitation,
      a ll
      statements, other than statements of historical facts, that address activities,
      events or developments that we expect or anticipate will or may occur in the
      future, including the successful implementation of our services, business
      strategies and measures to implement such strategies, competitive strengths,
      expansion and growth of our business and operations, references to future
      success and other such matters are forward-looking statements and are based
      on
      the beliefs of, assumptions made by and information currently available to
      our
      management. The words “expect,” “estimate,” “anticipate,” “believe,” “intend,”
“plan” and similar expressions and variations thereof are intended to identify
      forward-looking statements. Such forward-looking statements may involve
      uncertainties and other factors that may cause the actual results and
      performance of our company to be materially different from future results or
      performance expressed or implied by such statements.




The
      cautionary statements set forth in this “Risk Factors” section and elsewhere in
      this annual report identify important factors with respect to such
      forward-looking statements, including certain risks and uncertainties, which
      could cause actual results to differ materially from those expressed in or
      implied by such forward-looking statements. Among others, factors that could
      adversely affect actual results and performance include failure to successfully
      develop a profitable business, delays in identifying and enrolling customers,
      and the inability to retain a significant number of customers. All written
      or
      oral forward-looking statements attributable to us are expressly qualified
      in
      their entirety by the foregoing
      cautionary statement.




**Risks
      Related to Our Business**




*We
      are a developing business and a high-risk company.*




We
      are a high-risk company in a volatile industry. In
      September 2003, we completely changed the focus of our business from wireless
      telecommunications to biotechnology. Consequently, w e
      have no history on which to base an evaluation of our business and prospects.
      Thus, investors should recognize that an investment in our company is risky
      and
      highly speculative. We are a developing business, and our prospects must be
      considered in light of the risks, uncertainties, expenses and difficulties
      frequently encountered by companies in their early stages of development.
      Failure to implement and execute our business and marketing strategy
      successfully, to provide superior customer service, to respond to competitive
      developments and to integrate, retain and motivate qualified personnel could
      have a material adverse effect on our business, results of operations and
      financial condition. We must successfully overcome these and other business
      risks. If our efforts are unsuccessful or other unexpected events occur,
      purchasers of the common stock offered hereby could lose their entire
      investment.




15


*We
      expect to incur future losses, and we may never achieve or sustain
      profitability.*




We
      expect
      to continue to incur net losses and have negative cash flows in the future
      due
      in part to high research and development expenses, including enhancements to
      our
      technologies and investments in new technologies. We cannot assure you that
      we
      will ever achieve profitability. Even if we do achieve profitability, we may
      not
      be able to sustain or increase profitability.




*Our
      business is difficult to evaluate because we have a limited history of
      operations.*




Since
      reorganizing in 2003, our focus and our business model have been continually
      evolving. Accordingly, we have a history of operations in which there is
      insufficient information to identify any historical pattern. Even if we could
      discern such a pattern, the rapidly evolving nature of the biotechnology and
      pharmaceutical industries would make it very difficult to identify any
      meaningful information in such short a history. Therefore, it is also difficult
      to make any projections about the future of our operations. This difficulty
      may
      result in our shares trading below their value.




*We
      will have n* *egative* *operating income and may never become profitable.*




Our
      operating expenses are expected to exceed our income for the next six to nine
      months and thus our capital will be decreased to pay these operating expenses.
      If we ever become profitable, of which there is no assurance that we can, from
      time to time our operating expenses could exceed our income and thus our capital
      will be decreased to pay these operating expenses.




*We
      may need additional financing.*




Additional
      proceeds may be required to finance our activities. We
      cannot
      assure prospective investors that we will not need to raise additional capital
      or that we would be able to raise sufficient additional capital on favorable
      terms, if at all. No
      binding arrangements have been made to secure such financing, and there can
      be
      no assurance that such additional financing will be available when required
      on
      terms acceptable to us. If
      we
      fail to raise sufficient funds, we may have to cease operations, which would
      materially harm our business and financial results. If we raise additional
      capital by issuing equity securities, our stockholders may experience dilution.
      If we raise additional funds through collaboration and licensing arrangements,
      we may be required to relinquish some rights to our technologies or product
      candidates, or grant licenses on terms that are not favorable to us.




*Our
      operating results are unpredictable and may fluctuate significantly from period
      to period, which may cause our stock price to decline and result in losses
      to
      investors.*




Our
      operating results may vary from period to period due to numerous factors, many
      of which are outside our control, including the number, timing and acceptance
      of
      our services. Factors that may cause our results to vary by period include:






§
            changes
                in the demand for our products and
                services;




§
            the
                nature, pricing and timing of products and services provided to our
                collaborators;




§
            acquisition,
                licensing and other costs related to the expansion of our operations,
                including operating losses of acquired businesses;




§
            reduced
                capital investment for extended
                periods;




§
            losses
                and expenses related to our investments in joint ventures and
                businesses;




16




§
            regulatory
                developments or changes in public perceptions relating to the use
                of
                genetic information and the diagnosis and treatment of disease based
                on
                genetic information;




§
            changes
                in intellectual property laws that affect our rights in genetic
                information that we sell; and




§
            payments
                of milestones, license fees or research payments under the terms
                of our
                increasing number of external
                alliances.




Research
      and development costs associated with our technologies and services, as well
      as
      personnel costs, marketing programs and overhead, account for a substantial
      portion of our operating expenses. These expenses cannot be adjusted quickly
      in
      the short term. If revenues of the business decline or do not grow as
      anticipated, we may not be able to reduce our operating expenses accordingly.
      Failure to achieve anticipated levels of revenue could therefore significantly
      harm our operating results for a particular period.




*We
      may fail to meet our debt obligations.*




If
      our cash flow and capital resources are insufficient to fund our debt
      obligations incurred in connection with recent acquisitions, we may be forced
      to
      sell assets, seek additional equity or debt capital or restructure our debt.
      In
      addition, any failure to make scheduled payment of interest and principal on
      our
      outstanding notes or any other indebtedness could result in our creditors
      exercising remedies on the notes and taking some or all of our assets or could
      otherwise harm our ability to incur additional indebtedness on acceptable terms.
      We cannot assure you that our cash flow and capital resources will be sufficient
      for payment of interest and principal on our debt in the future, including
      payments on any outstanding notes, or that any alternative methods would be
      successful or would permit us to meet our debt obligations.




*Our
      stock price has been, and is likely to continue to be, highly
      volatile* .




Our
      stock
      price has, since September 1, 2003, traded as high as $0.60 and as low as $0.06.
      Our stock price could fluctuate significantly due to a number of factors beyond
      our control, including:




§
            variations
                in our actual or anticipated operating results;




§
            sales
                of substantial amounts of our
                stock;




§
            announcements
                about us or about our competitors, including technological innovation
                or
                new products or services;




§
            litigation
                and other developments related to our patents or other proprietary
                rights
                or those of our competitors;




§
            conditions
                in the life sciences, pharmaceuticals or genomics industries;
                and




§
            governmental
                regulation and legislation.




In
      addition, the stock market in general, and the market for life sciences and
      technology companies in particular, have experienced extreme price and volume
      fluctuations recently. These fluctuations often have been unrelated or
      disproportionate to the operating performance of these companies. These broad
      market and industry factors may decrease the market price of our common stock,
      regardless of our actual operating performance.




In
      the
      past, companies that have experienced volatility in the market prices of their
      stock have been the objects of securities class action litigation. If we became
      the object of securities class action litigation, it could result in substantial
      costs and a diversion of management’s attention and resources, which could
      affect our profitability.




17


*Our
      approach of incorporating ideas and methods from mathematics, computer science
      and physics into the disciplines of biology, organic chemistry and medicine
      is
      novel and may not be accepted by our potential customers or
      collaborators.*




We
      intend to create a fully integrated biomarker discovery company to provide
      pharmaceutical and diagnostic companies worldwide with new, clinically relevant
      and economically significant biomarkers. We
      are a
      drug and diagnostic discovery company, which incorporates ideas and methods
      from
      mathematics, computer science and physics into the disciplines of biology,
      organic chemistry and medicine. Our objective is to significantly increase
      the
      probability of success of drug discovery and diagnostic development. Our
      approach and the products and technologies derived from our approach are novel. Our
      potential customers and
      collaborators may be reluctant to accept our new, unproven technologies, and our customers
      may
      prefer to use traditional services. In addition, our approach may
      prove
      to be ineffective or not as effective as other methods. Our products and
      technologies may prove to be ineffective if, for instance, they fail to account
      for the complexity of the life processes that we are now attempting to model.
      If
      our customers or collaborators do not accept our products or technologies and/or
      if our technologies prove to be ineffective our business may fail or we may
      never become profitable.




*Even
      if our computational technologies are effective as research tools, our customers
      or we may be unable to develop or commercialize new drugs, therapies or other
      products based on them.*




Even
      if
      our computational technologies perform their intended functions as research
      tools, our customers may be unable to use the discoveries resulting from them
      to
      produce new drugs, therapies, diagnostic products or other life science
      products. Despite recent scientific advances in the life sciences and our
      improved understanding of biology, the roles of genes and proteins and their
      involvement in diseases and in other life processes is not well understood.
      Only
      a few therapeutic products based on the study of and discoveries relating to
      genes or proteins have been developed and commercialized. If our customers
      are
      unable to use our discoveries to make new drugs or other life science products,
      our business may fail or we may never become profitable.




*Our
      acquired SVM Portfolio utilizes technology covered by an earlier-issued
      patent, and if we lose the rights to use that patent, our ability to exploit
      certain aspects of our SVM technology will be impaired.*




Our
      acquired SVM Portfolio utilizes technology covered by the original hyperplane
      patent (Pat. No. 5,649,068) invented by members of our Scientific Advisory
      Board
      and owned by Lucent Technologies, Inc. - GRL Corp. (“Lucent”). We have
      obtained an assignment of a pre-existing patent license from Lucent.
      If Lucent were to terminate the license, it is possible that we would not
      be able to use portions of the Support Vector Machine technology.




*The
      industries in which we are active are evolving rapidly, and we may be unable
      to
      keep pace with changes in technology.*




The
      pharmaceutical and biotechnology industries are characterized by rapid
      technological change. This is especially true of the data-intensive areas of
      such technologies. Our future success will largely depend on maintaining a
      competitive position in the field of drug, therapeutics and diagnostic products
      discovery. If we fail to keep pace with changes in technology, our business
      will
      be materially harmed. Rapid technological development may result in our products
      or technologies becoming obsolete. This may occur even before we recover the
      expenses that we incurred in connection with developing those products and
      technologies. Products or services offered by us could become obsolete due
      to
      the development of less expensive or more effective drug or diagnostics
      discovery technologies. We may not be able to make the necessary enhancements
      to
      our technologies to compete successfully with newly emerging technologies.




18


*We
      face intense competition and if we are unable to compete successfully we may
      never achieve profitability.*




The
      markets for our products and services are very competitive, and we expect our
      competition to increase in the future. Although
      we have not identified one company that provides the full suite of services
      that
      we do, w e
      compete
      with entities in the U.S. and elsewhere that provide products and services
      for
      the analysis of genomic information and information relating to the study of
      proteins (proteomic information) or that commercializes novel genes and
      proteins. These include genomics, pharmaceutical and biotechnology companies,
      academic and research institutions and government and other publicly funded
      agencies. We may not be able to successfully compete with current and future
      competitors. Many of our competitors have substantially greater capital
      resources, research and development staffs, facilities, manufacturing and
      marketing experience, distribution channels and human resources than we do.
      This
      may allow these competitors to discover or to develop products in advance of
      us
      or of our customers.




Some
      of
      our competitors, especially academic and research institutions and government
      and other publicly funded agencies, may provide for free services or data
      similar to the services and data that we provide for a fee. Moreover, our
      competitors may obtain patent and other intellectual property protection that
      would limit our rights or our customers’ and partners’ ability to use or
      commercialize our discoveries, products and services. If we are unable to
      compete successfully against existing or potential competitors, we may never
      achieve profitability.




*Our
      management may be unable to address our potential growth.*




We
      anticipate that once operations commence, a period of significant expansion
      will
      be required to address potential growth in our customer base and market
      opportunities. This expansion will place a significant strain on our management,
      operational and financial resources. To manage the expected growth of our
      operations, we will be required to improve existing and implement new
      operational systems, procedures and controls, and to expand, train and manage
      our employee base. There can be no assurance that our current and planned
      personnel, systems, procedures and controls will be adequate to support our
      future operations, that management will be able to hire, train, retain, motivate
      and manage the required personnel or that we will be able to identify, manage
      and exploit existing and potential strategic relationships and market
      opportunities. Our failure to manage growth effectively could have a material
      adverse effect on our business, results of operations and financial
      condition.




*If
      our business does not keep up with rapid technological change or continue to
      introduce new products, we may be unable to maintain market share or recover
      investments in our technologies.*




Technologies
      in the biomarker industry have undergone, and are expected to continue to
      undergo, rapid and significant change. We may not be able to keep pace with
      the
      rapid rate of change and introduce new products that will adequately meet the
      requirements of the marketplace or achieve market acceptance. If we fail to
      introduce new and innovative products, we could lose market share to our
      competitors and experience a reduction in our growth rate and damage to our
      reputation and business.




The
      future success of our business will depend in large part on our ability to
      maintain a competitive position with respect to these technologies. We believe
      that successful new product introductions provide a significant competitive
      advantage because customers make an investment of time in selecting and learning
      to use a new product, and are reluctant to switch to a competing product after
      making their initial selection. However, our business or others may make rapid
      technological developments, which could result in our technologies, products
      or
      services becoming obsolete before we are able to recover the expenses incurred
      to develop them.




*If
      our business cannot enter into strategic alliances or licensing agreements,
      we
      may be unable to develop and commercialize our technologies into new products
      and services or continue to commercialize existing products or
      services.*




We
      may be unable to maintain or expand existing strategic alliances or establish
      additional alliances or licensing arrangements necessary to continue to develop
      and commercialize products, and any of those arrangements may not be on terms
      favorable to the business. In addition, current or any future arrangements
      may
      be unsuccessful. If we are unable to obtain or maintain any third party license
      required to sell or develop our products or product enhancements, we may choose
      to obtain substitute technology either through licensing from another third
      party or by developing the necessary technology ourselves. Any substitute
      technology may be of lower quality or may involve increased cost, either of
      which could adversely affect our ability to provide our products competitively
      and harm our business.




19


We
      also depend on collaborators for the development and manufacture of complex
      instrument systems and chemicals and other materials that are used in laboratory
      experiments. We cannot control the amount and timing of resources our
      collaborators devote to our products. We may not be able to enter into or
      satisfactorily retain these research, development and manufacturing
      collaborations and licensing agreements, which could reduce our growth and
      harm
      our competitive position.




*We
      may not be able to find business partners to develop and commercialize product
      candidates deriving from our discovery activities.*




Our
      strategy for the development and commercialization of diagnostic markers and
      therapeutic proteins depends on the formation of collaborations or licensing
      relationships with third parties that have complementary capabilities in
      relevant fields. Potential third parties include pharmaceutical and
      biotechnology companies, diagnostic companies, academic institutions and other
      entities. We cannot assure you that we will be able to form these collaborations
      or license our discoveries or that these collaborations and licenses will be
      successful.




*Our
      dependence on licensing and other collaboration agreements with third parties
      subjects us to a number of risks.*




We
      may
      not be able to enter into licensing or other collaboration agreements on terms
      favorable to us. Collaborators may typically be afforded significant discretion
      in electing whether to pursue any of the planned activities. In most cases,
      our
      collaborators or licensees will have responsibility for formulating and
      implementing key strategic or operational plans. Decisions by our collaborators
      or licensees on these key plans, which may include development, clinical,
      regulatory, marketing (including pricing), inventory management and other
      issues, may prevent successful commercialization of the product or otherwise
      affect our profitability.




In
      addition, we may not be able to control the amount and timing of resources
      our
      collaborators devote to the product candidates, and collaborators may not
      perform their obligations as expected. Additionally, business combinations
      or
      changes in a collaborator’s or a licensee’s business strategy may negatively
      affect its willingness or ability to complete its obligations under the
      arrangement with us. Furthermore, our rights in any intellectual property or
      products that may result from our collaborations may depend on additional
      investment of money that we may not be able or willing to make.




Potential
      or future collaborators may also pursue alternative technologies, including
      those of our competitors. Disputes may arise with respect to the ownership
      of
      rights to any technology or product developed with any future collaborator.
      Lengthy negotiations with potential collaborators or disagreements between
      us
      and our collaborators may lead to delays or termination in the research,
      development or commercialization of product candidates or result in
      time-consuming and expensive litigation or arbitration. If our collaborators
      pursue alternative technologies or fail to develop or commercialize successfully
      any product candidate to which they have obtained rights from us, our business,
      financial condition and results of operations may be significantly harmed.




*If
      we
      are unable to hire or retain key personnel or sufficient qualified employees,
      we
      may be unable to successfully operate our business.*




Our
      business is highly dependent upon the continued services of our Chief
      Executive Officer, Board of Directors, and Scientific Advisory Board .
      While
      members of our senior management are parties to employment or consulting
      agreements and non-competition and non-disclosure agreements, we cannot assure
      you that these key personnel and others will not leave us or compete with us,
      which could materially harm our financial results and our ability to compete. The
      loss, incapacity or unavailability for any reason of any of these individuals
      could have a material adverse effect upon our business, as well as our
      relationships with our potential customers. We
      do not
      carry key person life insurance on any member of our senior management.
      Furthermore, competition for highly qualified personnel in our industry and
      geographic locations is intense. Our business would be seriously harmed if
      we
      were unable to retain our key employees, or to attract, integrate or retain
      other highly qualified personnel in the future.




20


*We
      may not be able to employ and retain experienced scientists, mathematicians
      and
      management.*




Technologies
      in our industry have undergone, and are expected to continue to undergo, rapid
      and significant change. A highly skilled staff is integral to developing,
      marketing and supporting new products that will meet or exceed the expectations
      of the marketplace and achieve market acceptance. Without experienced staff,
      our
      business may be unable to maintain or grow market share, which could result
      in
      lower than expected revenues and earnings.




*We
      may acquire or make strategic investments in other businesses and technologies
      in the future, and these could prove difficult to integrate, disrupt our
      business, dilute stockholder value and adversely affect our operating
      results.*




If
      opportunities arise, we may consider making acquisitions of businesses,
      technologies, services or products. Acquisitions
      may involve significant cash expenditures, debt incurrence, additional operating
      losses and expenses that may have a material adverse effect on the operating
      results of our business. Moreover,
      even if we acquire complementary businesses or technologies, we may be unable
      to
      successfully integrate any additional personnel, operations or acquired
      technologies into our business. Difficulties in integrating an acquired business
      could disrupt our business, distract our management and employees and increase
      our expenses. Future
      acquisitions could expose us to unforeseen liabilities and result in significant
      charges relating to intangible assets. Sizable acquisitions may also divert
      senior management from focusing on our existing business plan. Finally,
      if we make acquisitions using convertible debt or equity securities, existing
      stockholders may be diluted, which could affect the market price of our
      stock.




*If
      our access to tissue samples or to genomic data or other information is
      restricted, or if this data is faulty, our business may suffer.*




To
      continue to build our technologies and related products and services, we need
      access to third parties’ scientific and other data and information. We also need
      access to normal and diseased human and other tissue samples and biological
      materials. We may not be able to obtain or maintain such access on commercially
      acceptable terms. Some of our suppliers could become our competitors and
      discontinue selling supplies to us. Information and data from these suppliers
      could contain errors or defects that could corrupt our databases or the results
      of our analysis of the information and data. In addition, government regulation
      in the United States and other countries could result in restricted access
      to,
      or use of, human and other tissue samples. Although currently we do not face
      significant problems in obtaining access to tissues, if we lose access to
      sufficient numbers or sources of tissue samples, or if tighter restrictions
      are
      imposed on our use of the information generated from tissue samples, our
      business may suffer.




*The
      sales cycle for some of our products and services is lengthy. We expend
      substantial funds and management effort with no assurance of successfully
      selling our products or services.*




Our
      ability to obtain customers for our platforms, tools and services depends in
      large upon the perception that our technologies can help accelerate their
      efforts in drug and diagnostics discovery. Our ability to obtain customers
      for
      our therapeutic or diagnostic product candidates significantly depends on our
      ability to validate and prove that each such product candidate is suitable
      for
      our claimed therapeutic or diagnostic purposes. Our ability to obtain customers
      will also depend on our ability to successfully negotiate terms and conditions
      for such arrangements. The sales cycle for our therapeutic and diagnostic
      product candidates is typically lengthy and may take more than 12 months.




21


*An
      inability to protect our proprietary data, technology or products may harm
      our
      competitive position.*




If
      we do
      not adequately protect the intellectual property underlying our products and
      services, competitors may be able to develop and market the same or similar
      products and services. This would erode our competitive advantage. In addition,
      the laws of some countries do not protect or enable the enforcement of
      intellectual property to the same extent as the laws of the United
      States.




We
      use
      contractual obligations to protect a significant portion of our confidential
      and
      proprietary information and know-how. This includes a substantial portion of
      the
      knowledge base from which we develop a large portion of our proprietary products
      and services. However, these measures may not provide adequate protection for
      our trade secrets or other proprietary information and know-how. Customers,
      employees, scientific advisors, collaborators or consultants may still disclose
      our proprietary information in violation of their agreements with us, and we
      may
      not be able to meaningfully protect our trade secrets against this
      disclosure.




In
      addition, we have applied for patents covering some aspects of some of our
      technologies and predicted genes and proteins we have discovered using these
      technologies. We plan to continue to apply for patents covering parts of our
      technologies and discoveries as we deem appropriate, but cannot assure you
      that
      we will be able to obtain any patents. The patent positions of biotechnology
      companies are generally uncertain and involve complex legal and factual
      questions. Legislative changes and/or changes in the examination guidelines
      of
      governmental patents offices may negatively affect our ability to obtain patent
      protection for certain aspects of our intellectual property, especially with
      respect to genetic discoveries.




*Our
      success depends in large part on our ability to patent our discoveries.*




Our
      success depends, in large part, on our ability to obtain patents on biomarkers
      and pathways that we have discovered and are attempting to commercialize. We
      face intense competition from other biotechnology and pharmaceutical companies.
      These include customers who use our products and technologies and are pursuing
      patent protection for discoveries, which may be similar or identical to our
      discoveries. We cannot assure you that other parties have not sought patent
      protection relating to the biomarkers and pathways that we discovered or may
      discover in the future. Our patent applications may conflict with prior
      applications of third parties or with prior publications. They may not result
      in
      issued patents and, even if issued, our patents could be invalidated or may
      not
      be sufficiently broad to provide us with any competitive advantages. U.S. and
      other patent applications ordinarily remain confidential for 18 months from
      the
      date of filing. As a result, patent applications that we file which we believe
      are novel at the time of filing, may be determined at a later stage to be
      inconsistent with earlier applications. Any of these events could materially
      harm our business or financial results.




*Litigation
      or other proceedings or third party claims of intellectual property infringement
      could prevent us, or our customers or collaborators, from using our discoveries
      or require us to spend time and money to modify our operations.*




If
      we
      infringe patents or proprietary rights of third parties, or breach licenses
      that
      we have entered into with regard to our technologies and products, we could
      experience serious harm. If litigation is commenced against us for intellectual
      property rights infringement, we may incur significant costs in litigating,
      whether or not we prevail in such litigation. These costs would also include
      diversion of management and technical personnel to defend us against third
      parties or to enforce our patents (once issued) or other rights against others.
      In addition, parties making claims against us may be able to obtain injunctive
      or other equitable relief that could prevent us from being able to further
      develop or commercialize. This could also result in the award of substantial
      damages against us. In the event of a successful claim of infringement against
      us, we may be required to pay damages and obtain one or more licenses from
      third
      parties. If we are not able to obtain these licenses at a reasonable cost,
      if at
      all, we could encounter delays in product introductions while we attempt to
      develop alternative methods or products. Defense of any lawsuit or failure
      to
      obtain any of these licenses could prevent us from commercializing available
      products.




22


*The
      technology that we use to develop our products, and the technology that we
      incorporate in our products, may be subject to claims that they infringe the
      patents or proprietary rights of others. The risk of this occurring will tend
      to
      increase as the genomics, biotechnology and software industries expand, more
      patents are issued and other companies engage in other genomic-related
      businesses.*




As
      is
      typical in the genomics, biotechnology and software industries, we will probably
      receive in the future notices from third parties alleging patent infringement.
      We believe that we are not infringing the patent rights of any third parties.
      No
      third party has filed a patent lawsuit against us. We may, however, be involved
      in future lawsuits alleging patent infringement or other intellectual property
      rights violations. In addition, litigation may be necessary to:




§
            assert
                claims of infringement;




§
            enforce
                our patents as they are granted;




§
            protect
                our trade secrets or know-how; or




§
            determine
                the enforceability, scope and validity of the proprietary rights
                of
                others.




We
      may be
      unsuccessful in defending or pursuing these lawsuits. Regardless of the outcome,
      litigation can be very costly and can divert management’s efforts. An adverse
      determination may subject us to significant liabilities or require us to seek
      licenses to other parties’ patents or proprietary rights. We may also be
      restricted or prevented from licensing or selling our products and services.
      Further, we may not be able to obtain any necessary licenses on acceptable
      terms, if at all.




*The
      scope of patents we receive may not provide us with adequate protection of
      our
      intellectual property, which would harm our competitive position.*




Any
      issued patents that cover our proprietary technologies may not provide us with
      substantial protection or be commercially beneficial to the business. The
      issuance of a patent is not conclusive as to its validity or its enforceability.
      Federal courts may invalidate these patents or find them unenforceable.
      Competitors may also be able to design around our patents. If we are unable
      to
      protect our patented technologies, we may not be able to commercialize our
      technologies, products or services and our competitors could commercialize
      our
      technologies.




Our
      business also relies on a combination of trade secrets, copyrights and
      trademarks, non-disclosure agreements and other contractual provisions and
      technical measures to protect our intellectual property rights. While we
      generally require employees, collaborators, consultants and other third parties
      to enter into confidentiality agreements where appropriate, it is not always
      possible to enforce these arrangements.




Monitoring
      the unauthorized use of our technology is difficult, and the steps we have
      taken
      may not prevent unauthorized use of our technology. The disclosure or
      misappropriation of our intellectual property for any of the above reasons
      could
      harm our ability to protect our rights and our competitive position.




*We
      may become involved in disputes regarding our patents and other intellectual
      property rights, which could result in the forfeiture of these rights, expose
      the business to significant liability and divert management’s
      focus.*




In
      order to protect or enforce our patent rights, our business may need to initiate
      patent litigation against third parties. In addition, we may be sued by third
      parties alleging that we are infringing their intellectual property rights.
      These lawsuits are expensive, take significant time and divert management’s
      focus from other business concerns. These lawsuits could result in the
      invalidation or limitation of the scope of our patents, forfeiture of the rights
      associated with these patents or an injunction preventing Health Discovery
      from
      selling any allegedly infringing product. In addition, we may not prevail or
      a
      court may find damages or award other remedies in favor of the opposing party
      in
      any of these suits. During the course of these suits, there may be public
      announcements of the results of hearings, motions and other interim proceedings
      or developments in the litigation. Securities analysts or investors may perceive
      these announcements to be negative, which could cause the market price of our
      common stock to decline.




23


Many
      of our services will be based on complex, rapidly developing technologies.
      Although we will try to identify all relevant third party patents, these
      products could be developed by the business without knowledge of published
      or
      unpublished patent applications that cover some aspect of these technologies.
      The biomarker industry has experienced intensive enforcement of intellectual
      property rights by litigation and licensing. If we are found to be infringing
      the intellectual property of others, we could be required to stop the infringing
      activity, or we may be required to design around or license the intellectual
      property in question. If we are unable to obtain a required license on
      acceptable terms, or are unable to design around any third party patent, we
      may
      be unable to sell some of our services, which c ould
      result in reduced revenue.




**Risks
      Related to Our** **Industry**




*There
      are many risks of failure in the development of drugs, therapies, diagnostic
      products and other life science products. These risks are inherent to the
      development and commercialization of these types of products.*




Risks
      of
      failure are inseparable from the process of developing and commercializing
      drugs, therapies, diagnostic products and other life science products. These
      risks include the possibility that any of these products will:




§
            be
                found to be toxic or ineffective;




§
            fail
                to receive necessary regulatory
                approvals;




§
            be
                difficult or impossible to manufacture on a large scale;




§
            be
                uneconomical to market;




§
            fail
                to be developed prior to the successful marketing of similar products
                by
                competitors; or




§
            be
                impossible to market because they infringe on the proprietary rights
                of
                third parties or compete with superior products marketed by third
                parties.




We
      are
      dependent on our customers’ commercialization of our discoveries. Any of these
      risks could materially harm our business and financial results.




*The
      trend towards consolidation in the pharmaceutical and biotechnology industries
      may adversely affect us.*




The
      trend
      towards consolidation in the pharmaceutical and biotechnology industries may
      negatively affect us in several ways. These consolidations usually involve
      larger companies acquiring smaller companies, which results in the remaining
      companies having greater financial resources and technological capabilities,
      thus strengthening competition in the industry. In addition, continued
      consolidation may result in fewer customers for our products and services.




*We
      may be subject to product liability claims if products derived from our products
      or services harm people.*




We
      may be
      held liable if any product that is made with the use, or incorporation of,
      any
      of our technologies or data causes harm or is found otherwise unsuitable. These
      risks are inherent in the development of genomics, functional genomics and
      pharmaceutical products. If we are sued for any harm or injury caused by
      products derived from our services or products, our liability could exceed
      our
      total assets. In addition, such claims could cause us to incur substantial
      costs
      and subject us to negative publicity even if we prevail in our defense of such
      claims.




24


*Our
      business and the products developed by our collaborators and licensees may
      be
      subject to governmental regulation.*




Any
      new
      therapy or diagnostic product that may be developed by our collaborators or
      by
      our licensees will have to undergo a lengthy and expensive regulatory review
      process in the United States and other countries before it can be marketed.
      It
      may be several years, or longer, before any therapy or diagnostic product that
      is developed by using our technologies, will be sold or will provide us with
      any
      revenues. This may delay or prevent us from becoming profitable. Changes in
      policies of regulatory bodies in the United States and in other countries could
      increase the delay for each new therapy and diagnostic product. Even if
      regulatory approval is obtained, a product on the market and its manufacturer
      are subject to continuing review. Discovery of previously unknown problems
      with
      a product may result in withdrawal of the product from the market.




Although
      we intend to become involved in the clinical phases in the future, we still
      expect to rely mainly on collaborators or licensees of our discovery activities
      to file regulatory approval applications and generally direct the regulatory
      review process. We cannot be certain whether they will be able to obtain
      marketing clearance for any product that may be developed on a timely basis,
      if
      at all. If they fail to obtain required governmental clearances, it will prevent
      them from marketing therapeutic or diagnostic products until clearance can
      be
      obtained, if at all. This will in turn reduce our chances of receiving various
      forms of payments, including those relating to sales of marketed therapeutic
      or
      diagnostic products by them.




*The
      law applicable to us may change in a manner that negatively affects our
      prospects.*




We
      must comply with various legal requirements, including requirements imposed
      by
      federal and state securities and tax laws. Should any of those laws change
      over
      the term of our existence, the legal requirements to which we may be subject
      could differ materially from current requirements, which could increase the
      cost
      of doing business or preclude us from undertaking certain parts of our business
      plan, would result in adverse consequences.




*If
      ethical and other concerns surrounding the use of genetic information become
      widespread, there may be less demand for our products and services.*




Genetic
      testing has raised ethical issues regarding confidentiality and the appropriate
      uses of the resulting information. For these reasons, governmental authorities
      may call for limits on or regulation of the use of genetic testing or prohibit
      testing for genetic predisposition to various conditions, particularly for
      those
      that have no known cure. Any of these scenarios could reduce the potential
      markets for our technologies in the field of predictive drug response, which
      could materially harm our business and financial results.




**ITEM
      2.**  **DESCRIPTION
      OF PROPERTY**




We
      do not
      own any real property. We lease 1,554 square feet of office space in Savannah,
      Georgia, on a month-to-month basis for a cost of $1,036 per month. Our principal
      executive office is located at 5501 1⁄2 Abercorn Street, Savannah, Georgia 31405,
      and our telephone number is (912) 352-7488. Our principal executive office
      is
      well maintained and suitable for the business conducted in it.




**ITEM
      3. LEGAL PROCEEDINGS**




On
      May
      25, 2004, we filed suit in the District Court of McLennan County, Texas, against
      Bill G. Williams, Shirley K. Williams, W. Steven Walker, Jerry W. Petermann
      and
      a company controlled by Mr. Williams. In this action we allege that an aggregate
      of 700,000 shares of our common stock (4,900,000 after a 7-1 stock split) issued
      to Mr. Williams, Mr. Walker, Mr. Braswell and Mr. Petermann were not issued
      in
      compliance with Texas law and we sought to restrain the defendants and persons
      acting on their behalf or in concert with them from selling any shares of our
      stock. We also requested that the Court declare we were permitted to cancel
      the
      shares issued to the defendants and award monetary damages, attorney’s fees and
      costs of the action.




25


In
      June
      2004, Jerry W. Petermann agreed to return to the Company 1,000,000 shares of
      the
      Company stock, which were cancelled upon return to the Company. In addition,
      in
      June 2004, Robert S. Braswell IV agreed to return to the Company 2,100,000
      shares of the company stock, all of which were cancelled upon return to the
      Company. Cancellation of the returned stock certificates was considered full
      and
      final settlement of the claims brought against Mr. Petermann and Mr. Braswell
      in
      this lawsuit.




In
      July
      2004, W. Steven Walker Esq., former general counsel, an officer and director
      of
      the Company, agreed to settle with the Company and return 366,036 shares of
      our
      common stock, which were all of the shares then owned by him, and he will no
      longer be a party to the suit. At this time, only the shares originally issued
      to Mr. Williams are subject to the suit, and the Company believes he controls
      approximately 1.6 million shares of our common stock.




After
      several rulings at the District Court, on August 25, 2004 the Court of Appeals
      for the Tenth District of the State of Texas granted our appeal and entered
      an
      order, remanding the case to the original trial judge with instructions to
      issue
      a temporary injunction to preserve the status quo. The injunction will remain
      until a judgment in the case becomes final or the court otherwise instructs.
      The
      injunction requires the remaining defendants, their agents, employees,
      affiliates, any person or entity they control, and any person acting in concert
      with them to (i) stop and refrain from selling or otherwise disposing of any
      share of our common stock; and (ii) deposit into the registry of the District
      Court all shares of our common stock they now own or hold. Costs of the appeal
      were assessed against the Respondents. The defendants have asserted several
      counter claims against the Company, including a derivative action, and have
      brought third-party claims against several current officers of the
      Company.




On
      June
      26, 2006, we originally filed suit in the United States District Court for
      the
      Eastern District of Texas against Ciphergen Biosystems, Inc. (“Ciphergen”),
      alleging claims for infringment of three patents related to support vector
      machine technology and seeking monetary and injunctive relief. Ciphergen denied
      infringement, challenged the validity of the patents, and alleged counterclaims
      against us. We deny liability to Ciphergen under the alleged counterclaims.
      Pursuant to a motion filed by Ciphergen, the litigation has been transferred
      to
      the United States District Court for the Northern District of
      California.





On
      June
      26, 2006, we also filed suit in the United States District Court for the Eastern
      District of Texas against Equbits LLC (“Equbits”), alleging claims for
      infringement of three of our patents related to Support Vector Machine
      technology and seeking monetary and injunctive relief. On November 27, 2006,
      the
      court entered a Consent Final Judgment permanently enjoining Equbits from
      making, using, selling, renting, leasing, or offering to sell in the United
      States, or from importing into the United States, any product that utilizes
      support vector machine technology, with certain limited exceptions related
      to
      technical support for previously sold products to two third
      parties.





**ITEM
      4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.**




No
      matter
      was submitted during the fourth quarter of the fiscal year ended December 31,
      2006 to a vote of shareholders of Health Discovery Corporation, through the
      solicitation of proxies or otherwise.




26




**PART
      II**




**ITEM
      5. MARKET FOR COMMON EQUITY, RELATED STOCKHOLDER MATTERS, AND SMALL BUSINESS
      ISSUER PURCHASES OF EQUITY SECURITIES.**




Our
      common stock is traded on the OTC Bulletin Board under the symbol HDVY. The
      range of closing prices for our common stock, as reported on Bloomberg.com
      during each quarter of the last two fiscal years was as follows. These
      quotations reflect inter-dealer prices, without retail mark-up, mark-down or
      commission and may not represent actual transactions.




**High**
              
              **Low**First
                  Quarter 2005
              $0.40
              
              $0.20Second
                  Quarter 2005
              $0.41
              
              $0.21Third
                  Quarter 2005
              $0.25
              
              $0.20Fourth
                  Quarter 2005
              $0.24
              
              $0.07First
                  Quarter 2006
              $0.15
              
              $0.10Second
                  Quarter 2006
              $0.12
              
              $0.06Third
                  Quarter 2006
              $0.13
              
              $0.07Fourth
                  Quarter 2006
              $0.17
              
              $0.08




At
      December 31, 2006, there were approximately 386 holders of record of our common
      stock.




We
      have
      not paid any cash dividends since inception, and we do not anticipate paying
      any
      in the foreseeable future. We intend to retain future earnings, if any, to
      support the development and growth or our business. Payment of future dividends,
      if any, will be at the discretion of our board of directors and will depend
      upon
      our earnings, our financial condition, and opportunities for growth and
      expansion.




**Number
                  of securities to be issued upon exercise of outstanding options,
                  warrants
                  and rights (a)**
              
              **Weighted-average
                  exercise price of outstanding options, warrants and rights
                  (b)**
              
              **Number
                  of securities remaining available for future issuance under equity
                  compensation plans (excluding securities reflected in column (a))
                  (c)**Equity
                  compensation plans approved by security holders
              
              
              0
              
              
              0
              
              
              0Equity
                  compensation plans not approved by security holders
              
              
              72,296,250
              
              $
              0.228
              
              
              0Total
              
              
              72,296,250
              
              $
              0.228
              
              
              0




27




**Private
      Placements**




On
      July 31, 2004, we completed the private sale of 15,235,000 shares of restricted
      common stock to individual accredited investors at an offering price of $0.10
      per share for a total of $1,523,500. Under the terms of the sale, the Company
      issued 15,235,000 restricted common shares. In addition, each purchaser of
      common shares  was
      granted a warrant to acquire an equal number of restricted common shares at
      a
      fixed price of $0.35 per share, exercisable until February 2007. This could
      result in the issuance of up to 15,235,000 additional restricted common shares
      upon exercise. The Company entered into purchase agreements with each of the
      investors, the form of which is attached as Exhibit 10.6. Neither the shares
      sold pursuant to the private placement nor the shares issuable upon the exercise
      of the warrants will be registered under either federal or state securities
      laws
      and must be held for at least one year from the time they are issued. The
      securities issued in the private placement were not registered under the
      Securities Act of 1933, as amended, and until they are registered the securities
      may not be offered or sold in the United States absent registration or the
      availability of an applicable exemption from registration. The shares and the
      warrants, the form of which is attached as Exhibit 10.7, were offered and sold
      in reliance upon exemptions from registration pursuant to Section 4(2) under
      the
      Securities Act of 1933, as amended, and Regulation D promulgated thereunder.
      Based on the information provided by each of the investors, all investors
      qualify as accredited investors (as defined by Rule 501 under the Securities
      Act
      of 1933, as amended).




On
      March 9, 2005, we completed the private sale of 30,703,125 shares of restricted
      common stock to certain institutional investors and individual accredited
      investors at an offering price of $0.16 per share for a total of $4,912,500.
      For
      every share of common stock purchased, each investor received warrants to
      purchase one share of the Company’s common stock at $0.24 per share, exercisable
      until December 31, 2008. This could result in the issuance of up to 30,703,125
      additional restricted common shares upon exercise. We entered into purchase
      agreements with each of the investors, the form of which is attached as Exhibit
      10.8. Under each agreement, the Company agreed to use its best efforts to file
      a
      registration statement to register the shares of common stock and the shares
      underlying the warrants issued and sold to the investors by May 9, 2005, and
      to
      use its best efforts to cause the registration statement to be declared
      effective July 6, 2005. Shares
      totaling 540,000 were issued in 2005 under the penalty provisions of the
      agreement. The securities issued in the private placement were not registered
      under the Securities Act of 1933, as amended, and until they were registered
      the
      securities could not be offered or sold in the United States absent registration
      or the availability of an applicable exemption from registration. The
      shares and the warrants, the form of which is attached as Exhibit 10.9, were
      offered and sold in reliance upon exemptions from registration pursuant to
      Section 4(2) under the Securities Act of 1933, as amended, and Regulation D
      promulgated thereunder. Based on the information provided by each of the
      investors, all investors qualify as accredited investors (as defined  by
      Rule 501 under the Securities Act of 1933, as amended). On March 10, 2005,
      we
      filed registration statement No. 333-124750 for 18,609,375 shares of restricted
      common stock and the equivalent number of warrants.




On
      December 14, 2005, the Company filed registration statement 333-124750 wherein
      31,622,749 shares of stock and 32,638,436 warrants were registered with the
      Securities and Exchange Commission.




We
      paid a cash fee of approximately $356,250, agreed to issue warrants to acquire
      1,303,121 shares of common stock and agreed to issue 50,132 shares of common
      stock to placement agents for assisting us in these two private
      sales.




**Additional
      Issuance of Securities**




Two
      members of the Company’s Scientific Advisory Board, Drs. Vapnik and Stamey, were
      each issued our common stock, no par value, equal to $10,000 per month beginning
      in August 2004 and ending in the second quarter of 2006. For 2005, Drs. Vapnik
      and Stamey were each contractually entitled to stock grants equivalent to
      $140,000. Drs. Vapnik and Stamey forfeited 1,580,532 shares
      in December 2005, and any shares issued pursuant to their agreements were
      rescinded. No further shares have been issued in connection with these
      agreements. In
      2004, the Company issued 422,372 shares for services, including members of
      the
      Company’s Scientific Advisory Board. In 2005, the Company issued 2,039,453
      shares to consultants and members of the Scientific Advisory Board, 308,133
      shares in settlement of liabilities, 3,585,741 shares to noteholders who
      exchanged their notes for stock and 540,000 shares in accordance with the
      penalty provisions of the stock purchase agreement as amended February 25,
      2005.
      In December 2005, two consultants who had previously received shares for work
      performed rescinded 1,580,532 shares.





28


During
      the first quarter of 2006, Mr. David Cooper was issued 600,000 shares of the
      Company’s common stock in exchange for exercising his options, which had an
      exercise price of $0.01. On March 31, 2006, Mr. William F. Quirk, Jr. purchased
      1,000,000 shares of the Company’s common stock with accompanying warrants to
      acquire an equal number of shares. The purchase price for the common shares
      was
      $.10 per share, and the exercise price of the warrants is $0.15 per
      share.




During
      the second quarter of 2006, the Company issued 500,000 warrants to two members
      of its Scientific Advisory Board. These warrants vest over a one-year period
      and
      have an exercise price of $0.11. The Company also issued 200,000 warrants to
      a
      service provider in exchange for professional services. These warrants vest
      over
      a two-year period and have an exercise price of $0.10. During
      the second quarter of 2006, the Company issued 200,000 shares of stock for
      warrants exercised at $0.01 each. Proceeds of $2,000 were recorded in capital
      stock.




During
      the third quarter of 2006, the Company issued 10,000,000 warrants to purchase
      an
      equal number of shares of the Company’s common stock to Mr. Quirk in connection
      with the loan Mr. Quirk made to the Company. These warrants vest over a period
      of nine months and have an exercise price of $0.16 per share. During the third
      quarter of 2006, the Company also issued 300,000 warrants to purchase an equal
      number of shares of the Company’s common stock in exchange for legal services
      provided to the Company. These warrants vest immediately and have an exercise
      price of $0.10 per share.




In
      addition, during the third quarter of 2006, the Company issued 500,000 warrants
      to purchase an equal number of shares of the Company’s common stock to a member
      of the Company’s Scientific Advisory Board for providing advisory services to
      the Company beyond which was expected in his capacity as a Scientific Advisory
      Board member. These warrants vest immediately and have an exercise price of
      $0.10 per share.




During
      the third quarter of 2006, the Company issued 230,000 shares of stock for
      warrants exercised at $0.08 each. Proceeds of $18,400 were recorded in capital
      stock.




All
      of
      these issuances of equity securities in 2006 were made in reliance upon
      exemptions from registration pursuant to Section 4(2) under the Securities
      Act
      of 1933, as amended.




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




**Corporate
      Overview**




Our
      Company is a pattern recognition company that uses advanced mathematical
      techniques to analyze large amounts of data to uncover patterns that might
      otherwise be undetectable. Our Company operates primarily in the emerging field
      of molecular diagnostics where such tools are critical to scientific discovery.
      Our primary business consists of licensing our intellectual property and working
      with prospective customers on the development of varied products that utilize
      pattern recognition tools. We also endeavor to develop our own product line
      of
      newly discovered biomarkers and pathways that include
      human genes and genetic variations, as well as gene, protein, and metabolite
      expression differences. In drug discovery, biomarkers can help elicit disease
      targets and pathways and validate mechanisms of drug action. They may also
      be pharmacodynamic indicators of drug activity, response and toxicity for use in clinical
      development.




We
      intend
      to provide pharmaceutical and diagnostic companies with all aspects of first
      phase diagnostic and drug discovery, from expert assessment of the clinical
      dilemma through proper selection and procurement of high quality specimens.
      We
      will then apply our proprietary analytical evaluation methods and
      state-of-the-art computational analysis to derive relevant and accurate clinical
      data, producing accurate biomarker and pathway discoveries, resulting in patent
      protection of our biomarker discoveries for future development.




29


Our
      business is based on the belief that in order to discover the most clinically
      relevant biomarkers, the computational component must begin at the inception
      of
      the clinical dilemma to be solved. This process includes several critical levels
      of decision-making - all of which are part of our business strategy. We intend
      to produce more relevant and predictable biomarkers for drug discovery so that
      new and better medicines and diagnostic markers can be developed for patients
      worldwide. With the completion of the acquisition of the SVM portfolio of
      patents we plan to begin to license the use of this technology.




**Year
      Ended December 31, 2006 Compared with Year Ended December 31,
      2005**




**Revenue**




For
      the
      year ended December 31, 2006, revenue was $203,889 compared with $224,000 in
      revenue for the year ended December 31, 2005. Revenue is recognized for
      licensing and development fees over the period earned. As of December 31, 2006,
      the Company had received cash of $101,111 which was not recognized as revenue
      and is reported as deferred revenue. No such amount was recorded as of December
      31, 2005.




**Cost
      of Sales and Gross Margin**




Cost
      of
      sales for 2006 was $ 28,671. Cost of
      sales includes all direct costs associated with the acquisition and development
      of patents and processes sold. All direct costs, primarily professional fees
      associated with licensing negotiations, are also included in cost of sales.
      Cost
      of sales was $33,536 in 2005.




**Operating
      and Other Expenses**




Amortization
      expense was $262,719 for the twelve months ended December 31, 2006 compared
      with
      $251,097 for the comparable period in 2005. This increase was due to
      amortization being charged throughout all of 2006 for intangibles acquired
      during 2005.




Professional
      and consulting fees totaled $1,123,498 for 2006 compared with $1,567,500 for
      2005. These fees, related to legal, accounting and scientific activities, were
      reduced by 28.3% in 2006 because of continued efforts to control costs related
      to regulatory filing activity, patent protection efforts, and general corporate
      legal and accounting work along with benefits achieved in restructuring accounts
      payable.




Compensation
      of $770,000 for the twelve months ended December 31, 2006 was lower than the
      $822,261 reported for the comparable period of 2005. Compensation year to date
      benefited from implementation of a salary reduction plan in the third quarter
      of
      2006. However, this benefit was offset by increased expense for compensation
      of
      $279,896 for warrants and options charged as a result of the implementation
      of
      SFAS 123(R) effective January 1, 2006.




Other
      general and administrative expenses decreased from $656,214 in 2005 to $542,710
      in 2006. This decrease was largely due to expense reduction efforts throughout
      the entire 2006 period.




**Loss
      from Operations**




The
      loss
      from operations for the twelve months ended December 31, 2006 was $2,523,709
      compared to $3,106,608 for the prior year. The decreased loss was due to the
      factors enumerated above.




**Other
      Income and Expense**




Interest
      income was $21,008 for the twelve months ended December 31, 2006 compared to
      $2,998 in 2005. Increased interest income was due to the higher average cash
      available to invest throughout 2006.




30


A
      gain on
      the restructuring of accounts payable of $97,864 was recorded in 2006 to reflect
      common stock warrants issued in payment of liabilities. No such amount was
      recorded in the comparable 2005 period.




Interest
      expense was $190,922 in 2006 compared with $55,406 in 2005. This increase was
      due to the higher interest rate associated with the renegotiated promissory
      notes, and interest related to the promissory note executed in the third quarter
      of 2006.




**Net
      Loss**




The
      net
      loss for the twelve months ended December 31, 2006 was $2,595,759 compared
      to
      $3,159,016 for the twelve months ended December 31, 2005. The reduced loss
      was
      due to the smaller loss from operations offset by increased net other expense,
      as previously discussed.





Net
      loss
      per share was $0.02 and $0.03 for the twelve months ended December 31, 2006
      and
      2005, respectively. The smaller net loss per share in 2006 compared to 2005
      was
      due to the smaller net loss and the increased average number of shares
      outstanding in 2006.





**Liquidity
      and Capital Resources**





At
      December 31, 2006, the Company had $674,366 in available cash. Cash used by
      operating activities was $1,135,134. This was due primarily to the net loss
      of
      $2,595,759; however, net non-cash charges and adjustments of $1,460,625
      favorably impacted the computation of the net cash used. Cash used by investment
      activities was $9,287 due to the acquisition of assets. Net cash provided by
      financing activities was $1,099,620 due to the cash received from the promissory
      note, sale of common stock, and the exercise of stock options and warrants
      offset by the repayment of debt totaling $26,780.




The
      following table summarizes the due dates of our contractual obligations. The
      Company has no long term lease agreements in effect as of December 31,
      2006.




Total
            
            Less
                than
              1
                Year
            
            1-3
              YearsAccounts
                Payable Deferred
            
            $
            170,966
            
            $
            170,966
            
            $
            —Deferred
                Compensation
            
            
            30,000
            
            
            30,000
            
            
            —Accrued
                Interest
            
            
            140,875
            
            
            —
            
            
            140,875Convertible
                Notes Payable
            
            
            665,643
            
            
            —
            
            
            665,643Term
                Debt
            
            
            321,911
            
            
            —
            
            
            321,911Promissory
                Note
            
            
            1,000,000
            
            
            —
            
            
            1,000,000Total
            
            $
            2,329,395
            
            $
            200,966
            
            $
            2,128,429




On
      September 1, 2006 the Company issued a promissory note in the amount of
      $1,000,000 to one of our directors. The annual interest rate is 5%, and the
      entire amount including accrued interest is due 2 years from the date of
      execution. The note may be repaid at any time prior to the due date with no
      penalty or additional fees. The Company intends to use the proceeds to fund
      general working capital requirements.




The
      Company also issued 10,000,000 common stock warrants with an exercise price
      of
      $0.16 in connection with the promissory note. The warrants fully vest over
      ten
      months if the promissory note remains unpaid during that period. The estimated
      value of these warrants of $554,000 was
      recorded as additional paid in capital and debt discount and will be accreted
      as
      interest expense over the term of the promissory note.




On
      September 1, 2006, the Company and an officer of the Company and an employee
      of
      the Company entered into amendments to each of the employment agreements whereby
      both will waive receipt of compensation aggregating $143,200 deferred pursuant
      to such amended employment agreements in exchange for a one-time payment of
      $6,000 and $1,460, respectively. The Company will also reimburse the officer
      and
      the employee for any adverse tax consequences associated therewith. As
      a
      result, the Company recorded a reduction in compensation expense during the
      quarter of $143,200. The amount had previously been accrued as compensation
      to
      the officers with deferred payment terms. Prior to the renegotiation, the
      officers were receiving a portion of their salary in cash and deferring the
      remainder to be paid at a later date but agreed to forfeit
      $143,200 in their deferred salary for a one-time payment of $7,460.
      Additionally, the officers received an increase of 25% of their current salary
      amount paid in cash beginning in November 2006.




31


On
      September 1, 2006, the Company and certain holders of promissory notes
      previously issued by the Company entered into amendments to extend deferral
      of
      all remaining payments due under the notes until September 1, 2008. The notes
      were issued by the Company in July 2004 as consideration for the purchase of
      interests in the support vector machine patent portfolio. As of September 1,
      2006, the notes had aggregate remaining principal of approximately $321,911
      due
      in October 2007, with accrued interest of approximately $38,000. The deferred
      amounts will continue to accrue interest at a rate of 18%, which will be paid
      in
      shares of the Company’s common stock valued at $0.24 per share.




The
      Company, in an effort to preserve cash, to enable the Company to continue its
      operations, and as a condition to the loan from the director, negotiated a
      restructuring of certain of its accounts payable with selected vendors,
      primarily its legal and professional vendors. Two vendors reduced their
      outstanding balances by $37,190, or 50%, in settlement of the full liability
      for
      a cash payment of $37,190. This settlement was recorded as a gain on
      restructuring. Several other vendors agreed to extend the payment terms and
      defer collection on outstanding amounts for an indefinite period of time. The
      Company currently expects to pay such amounts in six to eight months upon
      increases in revenues and or additional equity or debt financing, although
      none
      of those events is certain. The total amount of accounts payable deferred was
      $170,966. The Company also issued 300,000 warrants to these vendors with an
      exercise price of $0.10 per share. The fair value of these warrants on the
      grant
      date was $16,872 and was recorded as an expense in connection with the
      restructuring. The amount was charged to expense in the quarter as the warrants
      vested immediately. The deferred payments to the vendors has not been discounted
      as the date of payment is not certain.




The
      Company has relied primarily on equity funding plus debt financing for liquidity
      during its developmental phase that ended in 2004. The Company produced sales,
      licensing, and developmental revenue in 2005 and 2006 and must continue to
      do so
      in order to generate sufficient cash to continue operations. The Company’s plan
      to have sufficient cash to support operations is comprised of generating revenue
      through licensing its significant patent portfolio, providing services related
      to those patents, and obtaining additional equity or debt financing. The Company
      has been and continues to be in meaningful discussions with a variety of
      parties, which if successful, will result in significant revenue. The Company
      has implemented a cash conservation plan that includes salary deferrals and
      reductions, reduction in consulting payments, negotiated settlements with
      creditors whereby the Company substituted equity instruments for amounts owed,
      and a heightened scrutiny of all potential expenditures.




Should
      it
      prove necessary, the Company may also consider such alternatives as raising
      additional equity through private placements and/or debt offerings. Although
      this raises doubt with respect to our ability to operate as a going concern,
      the
      Company believes that it has sufficient capability to operate through the next
      twelve months.




**Critical
      Accounting Policies, Estimates and Assumptions**




We
      consider our accounting policies related to revenue recognition, impairment
      of
      intangible assets and stock based compensation to be critical accounting
      policies. A number of significant estimates, assumptions, and judgments are
      inherent in our determination of when to recognize revenue, how to evaluate
      our
      intangible assets, and stock-based compensation expense. These estimates,
      assumptions and judgments include deciding whether the elements required to
      recognize revenue from a particular arrangement are present, estimating the
      fair
      value of an intangible asset, which represents the future undiscounted cash
      flows to be derived from the intangible asset, and estimating the useful life
      and volatility of stock awards granted. We base our estimates and judgments
      on
      historical experience and on various other assumptions that we believe to be
      reasonable under the circumstances. Actual results could differ materially
      from
      these estimates.




32




*Valuation
      of intangible and other long-lived assets.*




We
      assess the carrying value of intangible and other long-lived assets at least
      annually, which requires us to make assumptions and judgments regarding the
      future cash flows of these assets. The assets are considered to be impaired
      if
      we determine that the carrying value may not be recoverable based upon our
      assessment of the following events or changes in circumstances such
      as:




§
                the
                    asset’s ability to continue to generate income from operations and
                    positive cash flow in future
                    periods;




§
                loss
                    of legal ownership or title to the
                    asset;




§
                significant
                    changes in our strategic business objectives and utilization
                    of the
                    asset(s); and




§
                the
                    impact of significant negative industry or economic
                    trends.




If
      the assets are considered to be impaired, the impairment we recognize is the
      amount by which the carrying value of the assets exceeds the fair value of
      the
      assets. In addition, we base the useful lives and related amortization or
      depreciation expense on our estimate of the period that the assets will generate
      revenues or otherwise be used by us. We also periodically review the lives
      assigned to our intangible assets to ensure that our initial estimates do not
      exceed any revised estimated periods from which we expect to realize cash flows
      from the technologies. If a change were to occur in any of the above-mentioned
      factors or estimates, the likelihood of a material change in our reported
      results would increase.




*Revenue
      Recognition*




We
      recognize revenue principally from license and royalty fees for intellectual
      property and from development agreements with research partners. Each element
      of
      revenue recognition requires a certain amount of judgment to determine if the
      following criteria have been met: i) persuasive evidence of an arrangement
      exists; ii) delivery has occurred or services have been rendered; iii) the
      seller’s price to the buyer is fixed or determinable; iv) collectibility is
      reasonably assured, and v) both title and the risks and rewards of ownership
      are
      transferred to the buyer. We are required to make more significant estimates
      involving our recognition of revenue from license and royalty fees. Our license
      and royalty fees revenue estimates depend upon on our interpretation of the
      specific terms of each individual arrangement and our judgment to determine
      if
      the arrangement has more than one deliverable and how each of these deliverables
      should be measured and allocated to revenue. In addition, we have to make
      significant estimates about the useful life of the technology transferred to
      determine when the risk and rewards of ownership have transferred to the buyer
      to decide the period of time to recognize revenue. In certain circumstances
      we
      are required to make judgments about the reliability of third party sales
      information and recognition of royalty revenue before actual cash payments
      for
      these royalties have been received.




*Share-Based
      Compensation*




Share-based
      compensation expense is significant to our financial position and results of
      operations, even though no cash is used for such expense. In determining the
      period expense associated with unvested options, we estimate the fair value
      of
      each option at the date of grant. We believe it is important for investors
      to be
      aware of the high degree of subjectivity involved when using option pricing
      models to estimate share-based compensation under SFAS No. 123R. The
      determination of the fair value of share-based payment awards on the date of
      grant using an option-pricing model is affected by our stock price as well
      as
      assumptions regarding a number of complex and subjective variables. These
      variables include, but are not limited to, our valuation methodology, the
      expected term, expected stock price volatility over the term of the awards,
      the
      risk-free interest rate, expected dividends and pre-vesting forfeitures. If
      any
      one of these factors changes and we employ different assumptions in the
      application of SFAS No. 123R in future periods, the compensation expense
      that we record under SFAS No. 123R will differ significantly from what we
      have recorded in the current period.




33




For
      share-based awards issued during the year ended December 31, 2006, we
      estimated the expected term by considering various factors including the vesting
      period of options granted, employees’ historical exercise and post-employment
      termination behavior, however due to the limited history of our Company, such
      data is limited.  We estimated the expected life will be substantially
      longer than the vesting period given the sart-up nature of our operations and
      accordingly have used the contractual life as the expected term. Our estimated
      volatility was derived using our historical stock price volatility. We have
      never declared or paid any cash dividends on our common stock and currently
      do
      not anticipate paying such cash dividends. The risk-free interest rate is based
      upon U.S. Treasury securities with remaining terms similar to the expected
      term
      of the share-based awards.




**Off-Balance
      Sheet Arrangements**




We
      have
      no off-balance sheet arrangements that provide financing, liquidity, market
      or
      credit risk support or involve leasing, hedging or research and development
      services for our business or other similar arrangements that may expose us
      to
      liability that is not expressly reflected in the financial
      statements.




**ITEM
      7. FINANCIAL STATEMENTS.**




Financial
      statements appear beginning on page F1 of this Report.




**ITEM
      8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
      DISCLOSURE.**




On
      September 21, 2006, Porter Keadle Moore LLP, Health Discovery Corporation’s
      principal accountant, resigned. The Company engaged Hancock Askew LLP (“Hancock
      Askew”) on September 21, 2006 as its new principal accountant to audit the
      Company’s financial statements.





Porter
      Keadle Moore’s report on the financial statements of the Company as of and for
      the fiscal years ended December 31, 2005 and 2004 contained an unqualified
      opinion, except the opinion included an explanatory paragraph referring to
      the
      Company’s ability to continue as a going concern. During the fiscal years ended
      December 31, 2005 and 2004 and through September 20, 2006, there were no
      disagreements with Porter Keadle Moore LLP on any matter of accounting
      principles or practices, financial statement disclosures, or auditing scope
      or
      procedure, which disagreements, if not resolved to the satisfaction of Porter
      Keadle Moore LLP would have caused it to make reference thereto in, or in
      connection with, its reports on financial statements for the periods covered
      by
      its audit.





During
      the fiscal years ended December 31, 2005 and 2004 and through September 21,
      2006, the Company did not consult Hancock Askew with respect to the application
      of accounting principles to a specified transaction, either contemplated or
      proposed, or the type of audit opinion that might be rendered on the Company’s
      consolidated financial statements, or any other matters or reportable events
      as
      set forth in Items 304(a)(2)(i) and (ii) of Regulation S-B.





We
      have
      had no disagreements with our former certifying accountants on any matter of
      accounting principles or practices, financial statement disclosure, or auditing
      scope or procedure.




**ITEM
      8A. DISCLOSURE CONTROLS AND PROCEDURES.**




As
      of the end of the period covered by this report (the “Evaluation Date”), we
      carried out an evaluation, under the supervision and with the participation
      of
      our management, including our Chief Executive Officer and President and our
      Principal Financial Officer, of the effectiveness of the design and operation
      of
      our disclosure controls and procedures pursuant to Rule 13a-15 under the
      Securities Exchange Act of 1934, as amended (the “Exchange Act”). Based upon
      this evaluation, our Chief Executive Officer and our Principal Financial Officer
      concluded that, as of the Evaluation Date, our disclosure controls and
      procedures were effective under Rule 13a-15.




34




Because
      of the inherent limitations in all control systems, no evaluation of controls
      can provide absolute assurance that the Company’s disclosure controls and
      procedures will detect or uncover every situation involving the failure of
      persons within the company to disclose material information otherwise required
      to be set forth in the Company’s periodic reports.




The
      Company’s management is also responsible for establishing and maintaining
      adequate internal control over financial reporting to provide reasonable
      assurance regarding the reliability of financial reporting and the preparation
      of financial statements for external purposes in accordance with generally
      accepted accounting principles. As of the Evaluation Date, no changes in the
      Company’s internal control over financial reporting occurred, that have
      materially affected, or are reasonably likely to materially affect, the
      Company’s internal control over financial reporting.




**PART
      III**




**ITEM
      9. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.**




Our
      executive officers, directors and significant employees are:




**Name**
              
              **Age**
              
              **Position**Stephen
                  D. Barnhill, M.D.
              
              48
              
              Chief
                  Executive Officer and Chairman of the BoardDaniel
                  R. Furth
              
              43
              
              Principal
                  Financial Officer, Executive Vice PresidentRobert
                  S. Braswell IV
              
              51
              
              Senior
                  Vice PresidentHong
                  Zhang, Ph.D.
              
              45
              
              Senior
                  Vice PresidentWilliam
                  F. Quirk, Jr.
              
              64
              
              DirectorWilliam
                  M. Goldstein
              
              71
              
              Director




***Stephen
      D. Barnhill, M.D.,*** ** is
      currently our Chief Executive Officer and Chairman of the Board. He has been
      a
      member of the Board of Directors since November 2003. He is a physician trained
      in laboratory medicine and clinical pathology. He has developed and used
      artificial intelligence, pattern-recognition, and computational techniques
      in
      Medicine, Genomics, Proteomics, Diagnostics and Drug Discovery.




Dr.
      Barnhill is or has been a Fellow of the American College of Physician Inventors,
      the American College of International Physicians, the American Medical
      Association, the American College of Physician Executives, the American
      Association of Artificial Intelligence, the American College of Managed Care
      Medicine, the Association of Clinical Scientists, the American Society of
      Contemporary Medicine and Surgery, the American Society of Law, Medicine and
      Ethics, the Southern Medical **** Society,
      the American Federation for Clinical Research, and the National Federation
      of
      Catholic Physicians.




Dr.
      Barnhill founded the Barnhill Clinical Laboratories in 1988 and served as
      Chairman, CEO, President and Medical Director. This laboratory was later
      acquired by Corning-Metpath in 1989 and after the acquisition he served as
      Medical Director of this clinical laboratory until 1992. This clinical
      laboratory, now owned by Quest Diagnostics, continues to be the largest and
      busiest clinical laboratory in the Savannah, Georgia area.




35


In
      1992,
      Dr. Barnhill founded National Medical Specialty Laboratories and served as
      Chairman, CEO, President, and Medical Director. This research laboratory was
      founded to utilize pattern-recognition mathematics and artificial intelligence
      techniques in cancer diagnosis. Dr. Barnhill is an inventor on the very first
      patents issued by the United States Patent and Trademark Office for the use
      of
      neural networks in medicine. This company was acquired by Horus Therapeutics,
      a
      New York based pharmaceutical company. Dr. Barnhill served as Executive
      Vice-President and Chairman of the Scientific Advisory Board for Horus
      Therapeutics until 1998. Johnson & Johnson later acquired the Horus patents
      invented by Dr. Barnhill.




In
      1999, Dr. Barnhill founded and served as Chairman, President and CEO of Barnhill
      BioInformatics, Inc. Barnhill BioInformatics, Inc. later became Barnhill
      Genomics, Inc. and BioWulf Technologies, LLC and raised over $13.5 million
      in
      private placement funding. The primary focus of these companies was to utilize
      the next generation of artificial intelligence and pattern-recognition
      techniques, known as support vector machines, to identify genes that cause
      cancer. Dr. Barnhill is the sole inventor on the very first patents issued
      by
      the United States Patent and Trademark Office for the use of support vector
      machines in medicine. From the summer of 2000 until he organized The Barnhill
      Group L.L.C. in the summer of 2003, Dr. Barnhill was not engaged in any
      professional activities as the result of a non-compete agreement signed by
      Dr.
      Barnhill when he left the employment of Barnhill Genomics, Inc.




***Daniel
      R. Furth*** **** is
      our
      Principal Financial Officer, Executive Vice President, Secretary and Treasurer.
      Mr. Furth is an experienced executive with a proven track record in diverse
      industries for both private and public corporations. Since October 2000, he
      served as a corporate communications consultant for several private clients.
      During that same period, he also served as a managing member and equity partner
      of Purple Shamrock LLC, a privately held investment group. From 1994 to 2000,
      he
      served as Senior Director of Marketing & Communications for Quality
      Distribution, Inc., North America’s largest bulk transportation services
      company, where he managed corporate communications, marketing communications,
      investor relations, and public affairs. During that time, he was chief of staff
      to QD’s Chairman/CEO and played an instrumental role in the QD’s initial public
      offering in 1994 and its subsequent leveraged buyout in 1998. From 1986 to
      1994,
      Mr. Furth held varied executive positions in both the public and private sectors
      including particular experience with early stage ventures. He earned his BA
      degree in government from Georgetown University in Washington, DC.




***Robert
      S. Braswell IV*** is our
      Senior Vice President. Mr. Braswell served as our President from April 2001
      until the acquisition of The Barnhill Group LLC, when he assumed his current
      position. As President, he guided the creation of Direct Wireless Communications
      Inc. (DWCI) and oversaw all administrative functions for both DWCI and Direct
      Wireless Corporation (DWC). Mr. Braswell served as President of DWC since
      December 1999 and a member of its Board of Directors since January 1999. Prior
      to holding these positions, Mr. Braswell was an independent businessman engaged
      in business evaluations, real estate development, and home construction while
      running a working ranch operation. His administrative experience comes from
      18
      years experience in the common carrier freight business, working for Central
      Freight Lines, Inc. from 1974-1992. Mr. Braswell graduated from the University
      of Houston in 1983 with a Bachelor of Business Administration in Organizational
      Behavior Management.




***Hong
      Zhang, Ph.D.*** is
      our ****** Senior
      Vice President, Computational Medicine. As visiting faculty at Johns Hopkins
      University, Dr. Zhang lectured at the Center for Biomarker Discovery on
      Bioinformatics: Peak Detection Methods for Mass Spectral Data. Currently a
      Yamacraw Associate Professor at Armstrong Atlantic University, Dr. Zhang was
      the
      Vice President and CIO for a neural network and computer assisted medical
      diagnostic systems company that employs neural network and
      mathematical/statistical preprocessing techniques. In this position, Dr. Zhang
      was involved in digital image processing and pattern recognition for medical
      image processing as well as software design and programming for support vector
      machine applications. Dr. Zhang was a professor in the Department of
      Mathematical Sciences at Purdue University from 1989 to 1996. He has held
      numerous academic positions, including Adjunct Associate Professor, Associate
      Professor with Tenure, and Assistant Professor. He was a visiting Associate
      Professor in 1995 in the Department of Biometry at the Medical University of
      South Carolina.




36


Throughout
      his academic career, Dr. Zhang has consulted on many software and analytical
      development projects for Union Switch and Signal, Inc., General Electric
      Company, and the Department of Pharmacology at the University of Pittsburgh.
      Dr.
      Zhang has published numerous articles on the use of neural networks in the
      detection of cancers. He has been published in more than twenty medical and
      technical journals. Dr. Zhang received a Ph.D., Mathematics at the University
      of
      Pittsburgh, 1989, M.A., Mathematics, University of Pittsburgh, 1986, M.S.E.E.,
      Electrical Engineering, University of Pittsburgh, 1984, B.S., Computer Science,
      Fudan University, 1982. Dr. Zhang’s numerous awards and honors include: National
      Cancer Institute SBIR Grant, 1999, 2000; Purdue Research Foundation Summer
      Faculty Grant, 1993; IPFW Summer Research Grant, 1992; Andrew Mellon Fellowship,
      1986-1987; Andrew Mellon Fellowship, 1985-1986; First Place, Fudan University
      Mathematics Competition, 1979.




***William
      F. Quirk, Jr.*** is
      a
      member of the Board of Directors and has been a director since October 25,
      2005.
      Mr. Quirk is the first outside director to join our board, succeeding Dr. David
      Cooper, the Company’s former president and chief medical officer who recently
      resigned his positions to pursue other interests. Mr. Quirk is a private
      investor who purchased a significant equity stake in the company in its
      successful private placement in July 2005. Prior
      to his retirement in 1996, he held a variety of senior executive positions
      in
      finance and management including: Fidelity Management & Research in the
      mutual fund industry; the investment banking firm Peterson, Diehl, Quirk &
Company; leveraged buyout firm Kelso & Company; and auto parts supplier
      Inline Brake Manufacturing. Mr. Quirk earned his B.S. from the U.S. Naval
      Academy and an MBA from the Harvard Business School.




***William
      M. Goldstein*** is
      a member of the Board of Directors and has been a director since January 28,
      2006. Mr. Goldstein is currently a partner with Philadelphia-based Drinker Biddle & Reath LLP. He succeeded Robert Braswell
      IV, who resigned his Board seat, but remains a senior executive with the
      Company. ** Since
      1982, Mr. Goldstein has been a senior partner with Drinker Biddle & Reath
      LLP and has served the firm as a managing partner, chairman of the firm’s
      managing partners, and the chair of the Tax Practice Group. In the mid-70’s, Mr.
      Goldstein served as Deputy Assistant Secretary for Tax Policy at the U.S.
      Treasury Department where he worked directly with Secretary William E. Simon
      in
      determining the Treasury’s position on various tax and economic issues. He was
      also a finalist candidate for Commissioner of the Internal Revenue Service.
      Mr.
      Goldstein earned his A.B. from Princeton University and his J.D. from Harvard
      Law School.




The
      directors named above will serve until the next annual meeting of our
      stockholders. Absent an employment agreement, officers hold their positions
      at
      the pleasure of the Board of Directors.




**Audit
      Committee**




We
      do not
      have a separately designated standing audit committee. The entire board of
      directors is acting as our audit committee, and no individual on our Board
      of
      Directors possesses all of the attributes of an “audit committee
      expert.” **** In
      forming our Board of Directors, we sought out individuals **** who
      would
      be able to guide our operations based on their business experience, **** both
      past
      and present, or their education. Responsibility for our operations
      is **** centralized
      within management, which is comprised of five people.




The
      Board
      of Directors does not have a policy with regard to the consideration of
      candidates to the Board recommended by stockholders. The Board has made no
      determination as to whether or not such a policy should be adopted. The Board
      of
      Directors will consider candidates recommended by stockholders. To be considered
      for nomination by the Board of Directors at the next annual meeting of stockholders,
      Chairman of the Board must receive stockholder recommendations at least 120
      calendar days before the anniversary date of the Company’s proxy statement for
      the previous year’s annual meeting. To recommend a candidate, a stockholder
      should send the candidate’s name, age, credentials (including principal
      occupation and employment), contact information and the candidate’s consent to
      be considered to the Chairman of the Board in care of the Company at its
      principal executive office address. The stockholder should also provide the
      stockholder’s contact information, describe the stockholder’s relationship with
      the candidate, and include a statement as to the number of Common Shares owned
      by the stockholder and the length of time such Common Shares have been owned.




37


**Code
      of Ethics**




The
      Company has adopted a Code of Ethics applicable to its Chief Executive Officer
      and Executive Vice President. This Code of Ethics is posted on our website
      at
      www.HealthDiscoveryCorp.com. These codes are also available without charge
      upon
      request directed to Investor Relations, Health Discovery Corporation, 5501
1⁄2
Abercorn Street, Savannah, GA 31405. The Company intends to disclose amendments
      or waivers of the Code of Ethics required to be disclosed by posting such
      information on its website.




**ITEM
      10. EXECUTIVE COMPENSATION.**




Summary
      Compensation Table




The
      following table sets forth various elements of compensation for our Named
      Executive Officers for each of the last three calendar years:




**Name
                  and Principal Position**
              
              Year
              
              Salary
                  ($)
              
              Option
                  Awards ($)
              
              All
                  Other Compensation
                ($)
              
              TotalStephen
                  D. Barnhill, M.D.
              
              
              2006
              
              $
              125,000
              
              
              __
              
              $
              6,000
              
              $
              131,000Chief
                  Executive Officer
              
              
              2005
              
              $
              300,000
              
              
              __
              
              
              __
              
              $
              300,000Daniel
                  R. Furth
              
              
              2006
              
              $
              71,000
              
              
              __
              
              $
              5,069
              (1)
              $
              76,069Executive
                  Vice President
              
              
              2005
              
              $
              22,500
              
              $
              278,027
              
              
              __
              
              $
              300,527


(1)
                health
                    insurance premiums




Outstanding
      Equity Awards at Fiscal Year-end




**Option
                  Awards****Name**
              
              **Number
                  of Securities**
                **Underlying**
                **Unexercised**
                **Options
                  (#)**
                **Exercisable**
              
              **Number
                  of Securities**
                **Underlying**
                **Unexercised**
                **Options
                  (#)**
                **Unexercisable**
              
              **Option**
                **Exercise**
                **Price**
              
              **Option**
                **Expiration**
                **Date**Daniel
                  R. Furth
              
              
              500,000
              
              
              1,000,000
              
              $0.10
              
              
              December
                  5, 2015




38




**Director
      Compensation**





Outside
      directors are paid $1.00 each year.


**Name**
                  **Fees
                      Earned**
                    **or**
                    **Paid
                      in Cash**
                    **($)**
                  **Total**
                    **($)**Stephen
                      D. Barnhill, M.D.
                  $0.00
                  $0.00William
                      F. Quirk, Jr.
                  $1.00
                  $1.00William
                      M. Goldstein
                  $1.00
                  $1.00




**Employment
      Agreements**




We
      entered into a five-year employment agreement with Dr. Stephen Barnhill on
      September 15, 2003, regarding Dr. Barnhill’s employment as President and Medical
      Director. The agreement will automatically renew for successive one-year terms
      unless either party gives notice to the other party of its intent not to renew
      within a thirty-day period prior to the end of the then current term. Under
      the
      terms of the agreement, Dr. Barnhill receives an initial base salary of $25,000
      per month. Dr. Barnhill is eligible to be reimbursed monthly for reasonable
      and
      necessary business expenses, to participate in an Incentive Stock Option Plan
      (as defined in the agreement) and for other benefits maintained by us. Dr.
      Barnhill will be entitled to 10 paid vacation days during the calendar year.
      Dr.
      Barnhill’s employment may be terminated without prior written notice for cause,
      in which case we will make a lump sum payment equal to the sum of (i) accrued
      unpaid wages, (ii) unreimbursed expenses properly incurred prior to the date
      of
      termination and (iii) the value of all accrued unpaid vacation pay, less any
      amounts he owes to us. If Dr. Barnhill terminates the Barnhill Agreement, then
      he will receive the same benefits as if he was terminated for cause. If Dr.
      Barnhill terminates the Barnhill Agreement, other than for cause, then we will
      give two (2) weeks notice of termination, or in our sole discretion, two (2)
      weeks wages in lieu of notice. The agreement also generally provides that Dr.
      Barnhill will keep confidential information confidential and that he will not
      compete with us in our business nor solicit our customers or employees for
      a
      period of 12 months following termination of employment. Effective December
      30,
      2005, we entered into an amendment to the employment agreement with Dr.
      Barnhill, under which Dr. Barnhill agreed to defer 60% of his gross annual
      pay
      until January 1, 2008, representing total deferred payments of $360,000. The
      agreement with Dr. Barnhill was further amended on September 1, 2006, whereby
      Dr. Barnhill’s salary was changed to $10,000 per month, and he agreed to waive
      the receipt of his deferred compensation for a one-time payment of $6,000 plus
      the reimbursement for any negative tax consequences related to the
      amendment.




We
      entered into an employment agreement with Mr. Daniel R. Furth effective November
      18, 2005 regarding Mr. Furth’s employment as Executive Vice President. The term
      of the employment is for three years, with compensation of $60,000, which is
      to
      be reviewed after the first year for potential increase. Effective as of
      September 1, 2006, Mr. Furth’s annual salary was increased to $84,000. Mr. Furth
      will also receive options to acquire 1,500,000 shares of our common stock.
      Mr.
      Furth is eligible to be reimbursed monthly for reasonable and necessary business
      expenses and for other benefits maintained by us. If the Company terminates
      the
      employment agreement for cause or if the agreement is terminated by Mr. Furth
      without cause, Mr. Furth will be entitled to receive his salary only through
      the
      date such termination is effective. If Mr. Furth terminates the employment
      agreement for cause or, if the employment agreement is terminated without cause,
      he will be entitled to receive his salary for a period of three months from
      the
      date such termination is effective. The agreement also generally provides that
      Mr. Furth will keep confidential information confidential and that he will
      not
      compete with us in our business nor solicit our customers or employees for
      a
      period of 12 months following termination of employment.




39


We
      entered into an employment agreement with Mr. Robert Braswell IV effective
      as of
      January 1, 2006 regarding Mr. Braswell’s employment as Senior Vice President.
      Pursuant to his employment agreement, Mr. Braswell will be employed as Senior
      Vice President for a term of three years at an annual salary of $70,000, fifty
      percent of which will be deferred until January 1, 2008. In addition, we awarded
      Mr. Braswell options to acquire 1,500,000 shares of our common stock at an
      exercise price of $0.11 (which was the closing price of the common stock on
      the
      preceding day) that vested upon issuance, and options to acquire 500,000 shares
      of our common stock at an exercise price of $0.11, which vest semi-annually
      over
      the next two years. Mr. Braswell’s compensation and all other rights under Mr.
      Braswell’s employment agreement will terminate (a) upon the death of Mr.
      Braswell, (b) upon the disability of Mr. Braswell, (c) for cause, or (d) without
      cause upon ninety days prior notice from either us or Mr. Braswell. If we or
      Mr.
      Braswell terminates his agreement for cause, Mr. Braswell will be entitled
      to
      receive his salary for a period of three months from the date such termination
      is effective, and all outstanding options to acquire shares of our common stock
      shall vest immediately. If the employment agreement is terminated as a result
      of
      Mr. Braswell’s disability, we will pay Mr. Braswell’s salary through the date on
      which such termination is effective and all outstanding options to acquire
      shares of our common stock shall vest immediately. If the employment agreement
      is terminated because of Mr. Braswell’s death, Mr. Braswell’s estate will be
      entitled to receive his salary though the date on which such termination is
      effective. If the employment agreement is terminated by us without cause, Mr.
      Braswell will be entitled to receive, in a lump sum payment within 15 days
      of
      termination, his salary for the entire remaining term of the employment
      agreement. In addition, all outstanding options to acquire shares of our common
      stock shall vest immediately, and Mr. Braswell will be awarded options to
      purchase additional 300,000 shares of our common stock with an exercise price
      of
      $0.11, fully vested. If the employment agreement is terminated by Mr. Braswell
      without cause, Mr. Braswell will be entitled to receive his salary only through
      the date of such termination is effective, and all outstanding options to
      acquire shares of our common stock shall vest immediately. On September 1,
      2006,
      we and Mr. Braswell entered into an amendment of Mr. Braswell’s employment
      agreement. Pursuant to the amendment, Mr. Braswell agreed to a decrease in
      his
      annual salary to $35,000 and to waive all deferred compensation for a one-time
      payment of $1,460.




We
      entered into an employment agreement with Dr. David Cooper on November 1, 2003
      regarding Dr. Cooper’s employment as President and Chief Medical Officer. The
      employment commenced at signing and terminated on October 24, 2005, when Dr.
      Cooper resigned. As compensation for his employment, Dr. Cooper was issued
      non-qualified stock options to acquire 3,000,000 shares of our common stock,
      of
      which options to acquired 600,000 shares of our common stock vested immediately
      while options to acquire the remaining 2,400,000 shares vested over time or
      upon
      certain accomplishments of Dr. Cooper. At the time of Dr. Cooper’s resignation,
      options to acquire 400,000 shares had vested and the remaining options
      terminated. Upon termination of his employment, Dr. Cooper agreed to observe
      all
      post-employment covenants set forth in his agreement. Dr. Cooper’s agreement
      also generally provided that he will not compete with us in our business nor
      solicit our customers or employees for a period of one year following
      termination of his employment.




**Scientific
      Advisory Board**




The
      Company continues to perform under an oral agreement with three members of
      its
      Scientific Advisory Board wherein they are entitled to receive 100,000 shares
      each of the Company’s common stock upon satisfactory completion of one year of
      service. The arrangement with the Scientific Advisory Board members can be
      terminated at any time by either party.




40




**ITEM
      11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
      STOCKHOLDER MATTERS** .




The
      following table sets forth information concerning the beneficial ownership
      of
      our common stock as of March 27, 2007 by (i) each of our directors, (ii) each
      of
      our executive officers, (iii) each person who is known to us to be the
      beneficial owner of more than five percent of our common stock, and (iv) all
      of
      our executive officers and directors as a group. At March 27, 2007, there were
      116,493,384 shares outstanding.




41




**Title
                  of Class**
              
              **Name
                  and Address of Beneficial Owner**
              
              **Amount
                  and**
                **Nature
                  of**
                **Beneficial
                  Owner**
              
              **Percent
                  of**
                **Class****(1)**Common
                  Stock
              
              Dr.
                  Stephen D. Barnhill
                Chairman
                  of the Board, Chief Executive Officer
                and
                  Chief Medical Officer, Director
                5501
                  1⁄2 Abercorn Street
                Savannah,
                  GA 31405
              
              27,380,722(2)
              
              20.38%Common
                  Stock
              
              Daniel
                  R. Furth
                Executive
                  Vice President
                5501
                  1⁄2 Abercorn Street
                Savannah,
                  GA 31405
              
              750,000(3)
              
              0.56%Common
                  Stock
              
              William
                  Quirk
                Director
                5501
                  1⁄2 Abercorn Street
                Savannah,
                  GA 31405
              
              21,778,335(4)
              
              16.21%Common
                  Stock
              
              William
                  Goldstein
                Director
                One
                  Logan Square
                18th
                  and Cherry Streets
                Philadelphia,
                  PA 19103-6996
              
              1,333,335(5)
              
              0.99%Common
                  Stock
              
              All
                  executive officers and directors as a group
                (four
                  persons)
              
              51,242,392
              
              40.58%







(1)
            The
                percentage of our common stock beneficially owned was calculated
                based on
                116,493,384 shares of common stock issued and outstanding as of March
                27,
                2007, plus 17,879,170 warrants and options exercisable by the executive
                officers and directors group. The percentage assumes the exercise
                by the
                stockholder or group named in each row of all options or warrants
                for the
                purchase of our common stock held by such stockholder or group and
                exercisable within 60 days as of March 29,
                2006.




(2)
            These
                shares are held by Barnhill Group LLC, which is wholly owned by Dr.
                Barnhill.




(3)
            Consists
                of vested options.




(4)
            Includes
                16,108,335 vested warrants.




(5)
            Includes
                1,020,835 vested warrants.




42




**ITEM
      12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.**




On
      May 6, 2005, we acquired the remaining 7% of the SVM Patent Portfolio from
      unaffiliated third parties for an aggregate cash payment of approximately
      $270,863, the issuance of the promissory notes totaling $37,872 and convertible
      notes totaling $147,401, which were converted by the holders immediately upon
      issuance in exchange for 867,065 shares of our common stock. Approximately
      $175,000 of the purchase price was used by the sellers to repay an outstanding
      obligation of a limited liability company of which our chief executive officer
      was a member.




We
      currently sub-lease our principle executive office space from a company owned
      by
      the wife of Dr. Stephen D. Barnhill. Our rent on this 1,554 sq. ft. office
      is
      $1,036.00 per month and is rented on a month-to-month basis.




On
      September 1, 2006, we issued a note (the “Promissory Note”) to William F. Quirk,
      Jr., a director of the Company, for $1,000,000. The Promissory Note contains
      a
      5% annual interest rate and is due on September 1, 2008. The proceeds of the
      Promissory Note will be used for general working capital purposes. The
      Promissory Note is completely repayable by the Company at any time without
      any
      related fees or penalties. In connection with the issuance of the Promissory
      Note, Mr. Quirk was granted warrants to purchase 10,000,000 shares of Company
      common stock at $0.16 per share. The warrants vest over the next ten months
      based on the length of time the Promissory Note is outstanding, as
      follows:




**Total
                  Vested**
              
              **Number
                  of Days to Vest**1
                  Million
              
              Immediately2
                  Million
              
              46
                  days3
                  Million
              
              91
                  days4
                  Million
              
              121
                  days5
                  Million
              
              151
                  days6
                  Million
              
              181
                  days7
                  Million
              
              211
                  days8
                  Million
              
              241
                  days9
                  Million
              
              271
                  days10
                  Million
              
              300
                  days




43




**ITEM
      13. EXHIBITS.**




The
      following exhibits are attached hereto or incorporated by reference herein
      (numbered to correspond to Item 601(a) of Regulation S-B, as promulgated by
      the
      Securities and Exchange Commission) and are filed as part of this Form
      10-KSB:




3.1
              Articles
                  of Incorporation. Registrant incorporates by reference Exhibit
                  3.1 to
                  Registration Statement on Form SB-2, filed June 4, 2001.
  3.1(a)
              Articles
                  of Amendment to Articles of Incorporation. Registrant incorporates
                  by
                  reference Exhibit 2.2 to Form10-QSB, filed November 14, 2001.
  3.1(b)
              Articles
                  of Amendment to Articles of Incorporation changing Registrant name
                  from
                  Direct Wireless Communications, Inc., to Health Discovery Corporation.
                  Registrant incorporates by reference Exhibit 3.1 (b) to form 10-KSB,
                  filed
                  March 3, 2004.
  3.2
              By-Laws.
                  Registrant incorporates by reference Exhibit 3.2 to Registration
                  Statement
                  on Form SB-2, filed June 4, 2001.
  4.1
              Copy
                  of Specimen Certificate for shares of common stock. Registrant
                  incorporates by reference Exhibit 4.1 to Registration Statement
                  on Form
                  SB-2, filed June 4, 2001.
  4.1(b)
                Copy
                    of Specimen Certificate for shares of common stock. Registrant
                    incorporates by reference Exhibit 4.1 (b) to Form 10-KSB, filed
                    March 30,
                    2004.
  4.2
              Excerpt
                  from By-Laws. Registrant incorporates by reference Exhibit 4.2
                  to
                  Registration Statement on Form SB-2, filed June 4, 2001.
  4.2(A)
              Corrected
                  Article 3.02 of By-Laws. Registrant incorporates by reference Exhibit
                  4.2(A) to Amendment No. 2 to Registration Statement on Form SB-2,
                  filed
                  August 15, 2001.
  4.3(a)
              Non
                  Qualified Stock Option Agreements dated October 30, 2003 between
                  Registrant and David Cooper. Registrant incorporates by reference
                  Exhibit
                  4.3(a) to form 10-KSB, filed March 30,
                  2004.
  10.1
              Asset
                  Purchase Agreement between Registrant dated September 15, 2003
                  and
                  Barnhill Group LLC. Registrant incorporates by reference Exhibit
                  10.2 to
                  Form 10-KSB, filed March 30, 2004.
  10.2
              Asset
                  Purchase Agreement between Registrant dated December 30, 2003 and
                  Fractal
                  Genomics LLC. Registrant incorporates by reference Exhibit 10.3
                  to Form
                  10-KSB, filed March 30, 2004.
  10.3
              Employment
                  Agreement with Stephen Barnhill. Registrant incorporates by reference
                  Exhibit 10.3 to Form 10-KSB, filed April 19, 2005.
                  *
  10.3(a)
              Amendment
                  to Employment Agreement with Stephen Barnhill. Registrant incorporates
                  by
                  reference Exhibit 99.3 to Form 8-K, filed September 1,
                  2006.
  10.4
              Employment
                  Agreement with David Cooper. Registrant incorporates by reference
                  Exhibit
                  10.4 to Form 10-KSB, filed April 19, 2005. *
  10.5
              Form
                  of Asset Purchase Agreement between the Registrant and the Sellers
                  of the
                  SVM Portfolio and related assets. Registrant incorporates by reference
                  Exhibit 10.5 to Form 10-KSB, filed March 30,
                  2004.
  44
  10.6
                Form
                    of Securities Purchase Agreement. Registrant incorporates by
                    reference
                    Exhibit 10.6 to Form 10-KSB, filed April 19,
                    2005.
  10.7
                Form
                    of Warrant. Registrant incorporates by reference Exhibit 10.7
                    to Form
                    10-KSB, filed April 19, 2005.
  10.8
                Form
                    of Securities Purchase Agreement. Registrant incorporates by
                    reference
                    Exhibit 10.8 to Form 10-KSB, filed April 19,
                    2005.
  10.9
                Form
                    of Warrant. Registrant incorporates by reference Exhibit 10.9
                    to Form
                    10-KSB, filed April 19, 2005.
  10.10
                Form
                    of Amendment to Securities Purchase Agreement. Registrant incorporates
                    by
                    referenceExhibit 10.10 to Form SB-2/A, filed December 14,
                    2005.
 10.11
              Employment
                  Agreement with Daniel R. Furth, dated as of December 5, 2005. Registrant
                  incorporates by reference Exhibit 10.11 to Form SB-2/A, filed December
                  14,
                  2005.
  10.12
              Employment
                  Agreement with Robert S. Braswell IV, dated as of January 1, 2006.
                  Registrant incorporates by reference Exhibit 99.1 to Form 8-K,
                  filed
                  February 2, 2006.
  10.13
              Form
                  of Amendment to Promissory Note. Registrant incorporates by reference
                  Exhibit 99.1 to Form 8-K, filed January 3,
                  2006.
  10.14
              Form
                  of Second Amendment to Promissory Note. Registrant incorporates
                  by
                  reference Exhibit 99.4 to Form 8-K, filed September 5,
                  2006.
  10.15
              Promissory
                  Note issued by Registrant on September 1, 2006 in favor of William
                  F.
                  Quirk, Jr. Registrant incorporates by reference Exhibit 99.1 to
                  Form 8-K,
                  filed September 5, 2006.
  10.16
              Warrant
                  Agreement by and between Registrant and William F. Quirk, Jr.,
                  dated as of
                  September 1, 2006. Registrant incorporates by reference Exhibit
                  99.2 to
                  Form 8-K, filed September 5, 2006.
  16.1
              Letter
                  from Porter Keadle Moore LLP regarding change in certifying accountant.
                  Registrant incorporates by reference3 Exhibit 16.1 to Form 8-K,
                  filed
                  September 27, 2006.
  31.1
                Rule
                    13a-14(a)/15(d)-14(a) Certifications of Chief Executive
                    Officer.
  31.2
                Rule
                    13a-14(a)/15(d)-14(a) Certifications of Principal Financial
                    Officer.
  32.1
                Section
                    1350 Certification of Chief Executive
                    Officer.
  32.2
                Section
                    1350 Certification of Principal Financial
                    Officer.
  45




**ITEM
      14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.**




The
      Company changed its independent auditors from Porter Keadle Moore LLP to Hancock
      Askew & Co., LLP during 2006. The following table sets forth the fees billed
      by Hancock Askew & Co. LLP for 2006, along with fees billed by Porter Keadle
      Moore LLP in 2005 and 2006.




2006
            
            2005Audit
                Fees
            
            $
            56,347
            
            $
            103,737Audit-Related
                Fees
            
            
            —
            
            
            —Tax
                Fees
            
            
            —
            
            
            —Sub-Total
            
            $
            56,347
            
            $
            103,737All
                Other Fees
            
            
            —
            
            
            —Total
                Fees
            
            $
            56,347
            
            $
            103,737




**Audit
      Fees.** This category includes aggregate fees billed for professional services rendered
      by for the audit of the Company’s annual financial statements for the year ended
      December 31, 2006 and 2005, review for the annual report on Form 10-KSB and
      for
      the limited reviews of quarterly condensed financial statements (Forms 10-QSB)
      included in periodic reports filed with the SEC during 2006 and 2005, including
      out of pocket expenses. Porter Keadle Moore LLP billed $17,690 for 2006. Hancock
      Askew & Co. LLP has billed $38,657 for 2006.




**Audit-Related
      Fees.** This category includes fees billed for professional services associated with
      consultation concerning financial accounting and reporting standards. No such
      fees were billed in 2005 or 2006.




**Tax
      Fees.** This category includes the aggregate fees billed or to be billed for tax
      services for the years ended December 31, 2005 and 2006. No such fees were
      billed in 2005 or 2006.




**All
      Other Fees.** This category includes the aggregate fees billed for all other services,
      exclusive of the fees disclosed above, rendered to the Company. No such services
      were provided.




The
      services provided by the independent auditors were pre-approved by the Board
      of
      Directors of the company to the extent required under applicable law. The Board
      of Directors of the company requires pre-approval of all audit and allowable
      non-audit services.




46




SIGNATURES




In
      accordance with Section 13 or 15(d) of the Exchange Act, the registrant caused
      this report to be signed on its behalf by the undersigned, thereunto duly
      authorized.


HEALTH
              DISCOVERY
              CORPORATIONBy:
            /s/ Stephen
              D. Barnhill, M.D., Chief Executive OfficerDate:
            March 30, 2007




In
      accordance with the Exchange Act, this report has been signed below by the
      following persons on behalf of the registrant and in the capacities and on
      the
      dates indicated.




**Name**
              
              **Title**
              
              **Date**/s/
                  Stephen D. Barnhill M.D.
                
                Stephen
                  D. Barnhill M.D.
              
              Chief
                  Executive Officer, Chairman
              
              March
                  30, 2007/s/
                  Daniel R. Furth
                
                Daniel
                  R. Furth
              
              Principal
                  Financial Officer
                Executive
                  Vice President
              
              March
                  30, 2007/s/
                  William F. Quirk, Jr.
                
                William
                  F. Quirk, Jr.
              
              Director
              
              March
                  30, 2007/s/
                  William M. Goldstein
                
                William
                  M. Goldstein
              
              Director
              
              March
                  30, 2007




47
   Hancock
        Askew & Co LLP
 100
        Riverview Drive
 Savannah,
        GA 31404
 
 Report
        of Independent Registered Public Accounting Firm
  Board
        of Directors
 Health
        Discovery Corporation
 Savannah,
        Georgia
  We
        have audited the accompanying balance sheet of Health Discovery Corporation
        as
        of December 31, 2006 and the related statements of operations, changes in
        stockholders’ deficit, and cash flows for the year ended December 31, 2006.
 These financial statements are the responsibility of the management of
        Health Discovery Corporation.  Our responsibility is to express an opinion
        on these financial statements based on our audit. The consolidated financial
        statements as of December 31, 2005 and for the year then ended were audited
        by
        other auditors whose report dated March 30, 2006 included an explanatory
        paragraph regarding substantial doubt about the Company’s ability to continue as
        a going concern.
 
 We
        conducted our audit in accordance with the standards of the Public Company
        Accounting Oversight Board (United States).  Those standards require that
        we plan and perform the audits to obtain reasonable assurance about whether
        the
        financial statements are free of material misstatement.  The Company is not
        required to have, nor were we engaged to perform, an audit of its internal
        control over financial reporting.  Our audit included consideration of
        internal control over financial reporting as a basis for designing audit
        procedures that are appropriate in the circumstances, but not for the purpose
        of
        expressing an opinion on the effectiveness of the Company’s internal control
        over financial reporting.  Accordingly, we expressed no such opinion.
 An audit also includes examining, on a test basis, evidence supporting the
        amounts and disclosures in the financial statements, assessing the accounting
        principles used and significant estimates made by management as well as
        evaluating the overall financial statement presentation.  We believe that
        our audit provides a reasonable basis for our opinion.
 
 In
        our opinion, the financial statements referred to above present fairly, in
        all
        material respects, the financial position of Health Discovery Corporation
        as of
        December 31, 2006 and the results of its operations and its cash flows for
        the
        year ended December 31, 2006 in conformity with accounting principles generally
        accepted in the United States of America.
 
 As
        discussed in Note 1 to Financial Statements and in accordance with guidance
        provided in Statement of Financial Accounting Standards No. 123R,
        Share-Based Payment, in fiscal 2006 Health Discovery Corporation changed
        its
        method of accounting for stock-based compensation.
 
 The
        accompanying financial statements have been prepared assuming that the Company
        will continue as a going concern.  As discussed in Note L, the Company has
        had limited revenue since inception, has incurred recurring losses from
        operations, and has had to extend the maturity of debt instruments.  These
        factors, among others, 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 L.  The financial statements do not include any
        adjustments that might result from the outcome of this uncertainty.
 
 /s/
        Hancock Askew & Co., LLP
 
 Savannah,
        Georgia
 March
        20, 2007
 
 F-1
  
  Porter
        Keadle Moore, LLP
  Report
        of Independent Registered Public Accounting Firm
  To
        the Board of Directors and Stockholders
 Health
        Discovery Corporation
  We
        have audited the accompanying balance sheet of Health Discovery Corporation
        as
        of December 31, 2005, and the related statements of operations, changes in
        stockholders’ equity, and the cash flows for the year then ended. 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 audit.
  We
        conducted our audit in accordance with the standards of the Public Company
        Accounting Oversight Board (United States). 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 audit provides a
        reasonable basis for our opinion.
  In
        our opinion, the 2005 financial statements referred to above present fairly,
        in
        all material respects, the financial position of the Company as of December
        31,
        2005 and the results of its operations and its cash flows for the year then
        ended in conformity with accounting principles generally accepted in the
        United
        States of America.
  The
        accompanying financial statements have been prepared assuming the Company
        will
        continue as a going concern. The Company has suffered recurring losses from
        operations and negative working capital that raise substantial doubt about
        its
        ability to continue as a going concern. Management’s plans in regard to these
        matters are described in Note L. The financial statements do not include
        any
        adjustments relating to the recoverability of reported asset amounts or the
        amount of liabilities that might result from the outcome of this uncertainty.
  /s/
        Porter Keadle
        Moore, LLP
  Atlanta,
        Georgia
 March
        30,
        2006
  F-2
  **HEALTH
          DISCOVERY CORPORATION**
  **Balance
          Sheets**
  **December
          31, 2006 and 2005**
 Assets**2006**
                  
                  **2005**Current
                      AssetsCash
                  
                  $
                  674,366
                  
                  
                  719,167Accounts
                      Receivable
                  
                  
                  20,000
                  
                  
                  —Prepaid
                      Expense and Other Current Assets
                  
                  
                  55,188
                  
                  
                  17,708Total
                      Current Assets
                  
                  
                  749,554
                  
                  
                  736,875Equipment,
                      Less Accumulated Depreciation of $14,257 and $6,660
                  
                  
                  14,743
                  
                  
                  13,053Other
                      AssetsPatents,
                      Less Accumulated Amortization of $680,255 and $417,535
                  
                  
                  3,305,540
                  
                  
                  3,568,259Total
                      Assets
                  
                  $
                  4,069,837
                  
                  
                  4,318,187Liabilities
                      and Stockholders’ EquityCurrent
                      LiabilitiesAccounts
                      Payable - Trade
                  
                  $
                  237,928
                  
                  
                  267,972Accrued
                      Liabilities
                  
                  
                  150,520
                  
                  
                  63,319Deferred
                      Revenue
                  
                  
                  101,111
                  
                  
                  —Current
                      Portion of Long-Term Debt
                  
                  
                  —
                  
                  
                  26,780Total
                      Current Liabilities
                  
                  
                  489,559
                  
                  
                  358,071Accrued
                      Interest Payable
                  
                  
                  140,875
                  
                  
                  —Convertible
                      Notes Payable
                  
                  
                  665,643
                  
                  
                  665,643Long-Term
                      Debt, Less Current Portion
                  
                  
                  321,911
                  
                  
                  321,911Notes
                      Payable, net of unamortized discount of $461,667
                  
                  
                  538,333
                  
                  
                  —Total
                      Liabilities
                  
                  
                  2,156,321
                  
                  
                  1,345,625Commitments
                      and ContingenciesStockholders’
                      EquityCommon
                      Stock, No Par Value, 200,000,000 Shares AuthorizedIssued
                      and Outstanding 116,393,384 and 114,363,384 Shares,
                      Respectively
                  
                  
                  11,059,674
                  
                  
                  9,522,961Accumulated
                      Deficit
                  
                  
                  (9,146,158
                  )
                  
                  (6,550,399
                  )Total
                      Stockholders’ Equity
                  
                  
                  1,913,516
                  
                  
                  2,972,562Total
                      Liabilities and Stockholders’ Equity
                  
                  $
                  4,069,837
                  
                  
                  4,318,187
 
 See
        accompanying notes to financial statements.
  F-3
 **HEALTH
          DISCOVERY CORPORATION**
  **Statements
          of Operations**
  For
          the
          Years Ended December 31, 2006 and 2005
  2006
                
                2005RevenuesLicensing
                    and Development
                
                $
                203,889
                
                
                135,000Patent
                    Sales
                
                
                —
                
                
                89,000Total
                    Revenues
                
                
                203,889
                
                
                224,000Cost
                    of SalesLicensing
                    and Development
                
                
                28,671
                
                
                30,573Patent
                    Sales
                
                
                —
                
                
                2,963Total
                    Cost of Sales
                
                
                28,671
                
                
                33,536Gross
                    Profit
                
                
                175,218
                
                
                190,464Expenses:Amortization
                
                
                262,719
                
                
                251,097Professional
                    and Consulting Fees
                
                
                1,123,498
                
                
                1,567,500Compensation
                
                
                770,000
                
                
                822,261Other
                    General and Administrative Expenses
                
                
                542,710
                
                
                656,214Total
                    Expenses
                
                
                2,698,927
                
                
                3,297,072Net
                    Loss from Operations
                
                
                (2,523,709
                )
                
                (3,106,608
                )Other
                    Income (Expense):Interest
                    Income
                
                
                21,008
                
                
                2,998Gains
                    on Restructuring of Accounts Payable
                
                
                97,864
                
                
                —Interest
                    Expense
                
                
                (190,922
                )
                
                (55,406
                )Total
                    Other Income (Expense)
                
                
                (72,050
                )
                
                (52,408
                )Net
                    Loss
                
                $
                (2,595,759
                )
                
                (3,159,016
                )Weighted
                    Average Outstanding Shares
                
                
                115,895,692
                
                
                103,566,777Loss
                    Per Share
                
                $
                (.02
                )
                
                (.03
                )
 
 See
        accompanying notes to financial statements.
 
 F-4
 **HEALTH
          DISCOVERY CORPORATION**
  **Statements
          of Changes in Stockholders’ Equity**
 
 For
          the
          Year Ended December 31, 2006 and 2005
 Common
                    StockIssued
                    and Outstanding
                
                Paid
                    for but Not IssuedShares
                
                Amount
                
                Shares
                
                Amount
                
                Accumulated
                    Deficit
                
                **Total**
                      **Stockholders’**
                      **Equity**Balance
                    - January 1, 2005
                
                
                78,767,464
                
                $
                3,788,442
                
                
                5,434,375
                
                $
                695,761
                
                $
                (3,391,383
                )
                $
                1,092,820Stock
                    Issued for Cash
                
                
                25,268,750
                
                
                3,842,375
                
                
                —
                
                
                —
                
                
                —
                
                
                3,842,375Issuance
                    of Shares Previously Paid-for but not Issued
                
                
                5,434,375
                
                
                695,761
                
                
                (5,434,375
                )
                
                (695,761
                )
                
                —
                
                
                —Stock
                    Issued for Services
                
                
                2,039,453
                
                
                381,876
                
                
                —
                
                
                —
                
                
                —
                
                
                381,876Stock
                    Issued in Settlement of Liability
                
                
                308,133
                
                
                78,746
                
                
                —
                
                
                —
                
                
                —
                
                
                78,746Shares
                    Issued for Debt Conversion
                
                
                3,585,741
                
                
                609,576
                
                
                —
                
                
                —
                
                
                —
                
                
                609,576Stock
                    Compensation Expense for Compensatory Options and Warrants
                
                
                —
                
                
                426,185
                
                
                —
                
                
                —
                
                
                —
                
                
                426,185Shares
                    Issued for Delinquency Penalty
                
                
                540,000
                
                
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                —Cancellation
                    of Common Stock
                
                
                (1,580,532
                )
                
                (300,000
                )
                
                —
                
                
                —
                
                
                —
                
                
                (300,000
                )Net
                    Loss
                
                
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                (3,159,016
                )
                
                (3,159,016
                )Balance
                    - December 31, 2005
                
                
                114,363,384
                
                $
                9,522,961
                
                
                —
                
                $
                —
                
                $
                (6,550,399
                )
                $
                2,972,562Stock
                    Issued for Cash
                
                
                1,000,000
                
                
                100,000
                
                
                
                
                
                
                
                
                
                
                
                100,000Stock
                    Issued upon Exercise of Options and Warrants
                
                
                1,030,000
                
                
                26,400
                
                
                
                
                
                
                
                
                —
                
                
                26,400Warrants
                    Issued in Connection with Debt Agreement
                
                
                —
                
                
                554,000
                
                
                
                
                
                
                
                
                —
                
                
                554,000Warrants
                    Issued for Settlement of Liability
                
                
                —
                
                
                72,326
                
                
                —
                
                
                —
                
                
                —
                
                
                72,326Warrants
                    Issued for Services
                
                
                —
                
                
                504,091
                
                
                —
                
                
                —
                
                
                —
                
                
                504,091Stock
                    Compensation Expense for Compensatory Options and Warrants
                
                
                —
                
                
                279,896
                
                
                —
                
                
                —
                
                
                —
                
                
                279,896Net
                    Loss
                
                
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                (2,595,759
                )
                
                (2,595,759
                )Balance
                    - December 31, 2006
                
                
                116,393,384
                
                $
                11,059,674
                
                
                —
                
                $
                —
                
                $
                (9,146,158
                )
                $
                1,913,516
  See
        accompanying notes to financial statements.
  F-5
 **HEALTH
          DISCOVERY CORPORATION**
  **Statements
          of Cash Flows**
  For
          the
          Years Ended December 31, 2006 and 2005
 **2006**
                  
                  **2005**Cash
                      Flows From Operating Activities:Net
                      Loss
                  
                  $
                  (2,595,759
                  )
                  $
                  (3,159,016
                  )Adjustments
                      to Reconcile Net Loss to Net CashUsed
                      by Operating Activities:Non-cash
                      Compensation
                  
                  
                  279,896
                  
                  
                  426,185Cancellation
                      of Common Stock Compensation
                  
                  
                  —
                  
                  
                  (300,000
                  )Accretion
                      of Debt Discount
                  
                  
                  92,333
                  
                  
                  —Increase
                      in Accounts Receivable
                  
                  
                  (20,000
                  )
                  
                  —Services
                      Exchanged for Common Stock or Warrants
                  
                  
                  504,091
                  
                  
                  381,876Increase
                      in Deferred Revenue
                  
                  
                  101,111
                  
                  
                  —Gain
                      on Restructuring Accounts Payable
                  
                  
                  (97,864
                  )
                  
                  —Depreciation
                      and Amortization
                  
                  
                  270,316
                  
                  
                  256,038Increase
                      in Prepaid Expense
                  
                  
                  (37,480
                  )
                  
                  (17,708
                  )Increase
                      in Accounts Payable - Trade
                  
                  
                  140,145
                  
                  
                  33,287Increase
                      in Accrued Liabilities
                  
                  
                  228,077
                  
                  
                  (41,732
                  )Net
                      Cash Used by Operating Activities
                  
                  
                  (1,135,134
                  )
                  
                  (2,421,070
                  )Cash
                      Flows From Investing Activities:Purchase
                      of Equipment
                  
                  
                  (9,287
                  )
                  
                  (11,623
                  )Amounts
                      Paid to Acquire Patents
                  
                  
                  —
                  
                  
                  (293,744
                  )Net
                      Cash Used by Investing Activities
                  
                  
                  (9,287
                  )
                  
                  (305,367
                  )Cash
                      Flows From Financing Activities:Repayments
                      of Notes Payable
                  
                  
                  (26,780
                  )
                  
                  (560,248
                  )Proceeds
                      from Sales of Common Stock, Net
                  
                  
                  126,400
                  
                  
                  3,842,375Proceeds
                      from Borrowing
                  
                  
                  1,000,000
                  
                  
                  —Net
                      Cash Provided by Financing Activities
                  
                  
                  1,099,620
                  
                  
                  3,282,127Net
                      Increase (Decrease) in Cash
                  
                  
                  (44,801
                  )
                  
                  555,690Cash,
                      at Beginning of Period
                  
                  
                  719,167
                  
                  
                  163,477Cash,
                      at End of Period
                  
                  $
                  674,366
                  
                  $
                  719,167Non-Cash
                      Investing and Financing Transactions:Debt
                      Discount in exchange for Warrants
                  
                  $
                  554,000
                  
                  $
                  0Patents
                      Purchased Using Debt
                  
                  $
                  —
                  
                  $
                  185,273Stock
                      Issued in Exchange for Convertible Notes
                  
                  $
                  —
                  
                  $
                  609,576Issuance
                      of Shares Previously Paid For
                  
                  $
                  —
                  
                  $
                  695,761Stock
                      Issued in Settlement of Liability
                  
                  $
                  —
                  
                  $
                  78,746Supplemental
                      Disclosures of cash Flow Information:Cash
                      Paid for Interest
                  
                  $
                  3,242
                  
                  $
                  20,024
  See
          accompanying notes to financial statements.
  F-6
 **HEALTH
          DISCOVERY CORPORATION**
 **Notes
          to Financial Statements**
 
 **Note
          A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**
 
 **NATURE
          OF OPERATIONS**
 
 Health
          Discovery Corporation (the “Company”) is a biotechnology-oriented company that
          has acquired patents and has patent pending applications for certain machine
          learning tools used for diagnostic and drug discovery. The Company licenses
          the
          use of its patented protected technology or may develop specific learning
          tools
          to sell to third parties.
 
 **USE
          OF ESTIMATES**
 
 The
          preparation of financial statements in conformity with accounting principles
          generally accepted in the United States of America requires management
          to make
          estimates and assumptions that affect the reported amounts of assets and
          liabilities, disclosure of contingent assets and liabilities at the date
          of the
          financial statements and the reported amounts of revenues and expenses
          during
          the period. Accordingly, actual results could differ from those estimates.
          Significant estimates that are particularly suspectible to change in the
          near-term include the valuation of non-cash consideration for services
          and the
          recoverability of the patents.
 
 **RECLASSIFICATIONS**
 
 Certain
          amounts from 2005 have been reclassified to conform to the presentation
          used in
          2006.
 
 **REVENUE
          RECOGNITION**
 
 Revenue
          is generated through the sale or license of patented technology and processes
          and from services provided through development agreements. These arrangements
          are controlled by contracts that dictate responsibilities and payment terms.
          The
          Company recognizes revenues as they are earned over the duration of a license
          agreement or upon the sale of any owned patent once all contractual obligations
          have been fulfilled. Revenue is earned under development agreements in
          the
          period the services are performed. Deferred revenue represents the unearned
          portion of payments received in advance for licensing agreements. The Company
          had unearned revenue of $101,111 as of December 31, 2006 and expects to
          recognize $40,000 of that in 2007 and $61,111 thereafter.
 
 **COST
          OF SALES**
 
 Cost
          of
          sales includes the acquisition cost less accumulated amortization of patents
          sold, plus internal development costs and fees directly associated with
          sales
          contracts.
 
 Cost
          of
          sales for licensing and development revenue includes fees directly asssociated
          with the contracts and salary expense allocated to cost of sales based
          upon the
          amount of estimated time worked on the licensing or development
          contract.
  **PROPERTY
          AND EQUIPMENT**
  Property
          and equipment, which consists of office furniture and computer equipment
          and
          leasehold improvements, are stated at cost. Depreciation is calculated
          using the
          straight-line method over the estimated useful lives of the assets, which
          range
          from 3 to 10 years. Leasehold improvements are amortized using the
          straight-line method over the estimated useful lives of the assets or the
          term
          of the lease, whichever is shorter.
  **PATENTS**
 
 Patents
          are amortized over their remaining legal lives, that range from 15 to 20
          years,
          from the date they are acquired or approved. Legal costs directly associated
          with the patent acquisitions and the application process for new patents
          are
          capitalized when incurred and are being amortized over the remaining legal
          life
          of the related patent. If the applied for patents are abandoned or are
          not
          issued, the Company will expense the capitalized costs to date in the period
          of
          abandonment.
 
 The
          carrying value of patents is reviewed for impairment whenever events or
          changes
          in circumstances indicate that the carrying amount may not be recoverable.
          As of
          December 31, 2006, the Company does not believe there has been any impairment
          of
          its intangible assets.
  F-7
  **HEALTH
        DISCOVERY CORPORATION**
 
 **Notes
        to Financial Statements, continued**
 
 **Note
        A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES,
        continued**
  **INCOME
        TAXES**
 
 The
        Company accounts for income taxes using the asset and liability method. Deferred
        tax assets and liabilities are recognized for future tax benefits and expenses
        or consequences attributable to temporary differences between the financial
        statement carrying amounts of existing assets and liabilities and their
        respective tax bases. Deferred tax assets and liabilities are measured using
        enacted tax rates expected to apply to taxable income for the years in which
        those temporary differences are expected to be recovered or
        settled.
 
 In
        the
        event the future tax consequences of differences between the financial reporting
        bases and tax bases of the Company’s assets and liabilities result in deferred
        tax assets, an evaluation of the probability of being able to realize the
        future
        benefits indicated by such assets is made. A valuation allowance is provided
        for
        the portion of the deferred tax asset when it is more likely than not that
        some
        portion or all of the deferred tax asset will not be realized. In assessing
        the
        realizabilty of the deferred tax assets, management considers the scheduled
        reversals of deferred tax liabilities, projected future taxable income and
        tax
        planning strategies.
 
 **STOCK-BASED
        COMPENSATION**
 
 Effective
        January 1, 2006, we adopted the provisions of Statement of Financial Accounting
        Standards (“SFAS”) No. 123(R), *Share-Based
        Payment* (“SFAS No. 123(R)”) using the modified prospective transition method provided
        for under the standard. Under the Standard, stock-based compensation cost
        is
        measured at grant date, based on the fair value of the award, and is recognized
        as expense over the employee’s requisite service period. We had previously
        applied Accounting Principles Board (“APB”) Opinion No. 25, *Accounting
        for Stock Issued to Employees* ,
        and related interpretations and provided the required pro forma disclosures
        of
        SFAS No. 123.
 
 The
        following table illustrates the effect on net loss and loss per share if
        the
        Company had applied the fair value recognition provisions of SFAS No. 123, *Accounting
        for Stock-Based Compensation* ,
        to stock-based compensation for periods presented prior to the Company’s
        adoption of Statement 123(R):
 
 
 2005Net
                  loss as reported
              
              $
              (3,159,016
              )Deduct:
                  Stock-based expense determined under fair value based method for
                  employee
                  stock options
              
              
              (7,723
              )Proforma
                  Net Loss
              
              $
              (3,166,739
              )Loss
                  Per Share:Basic
                  –
                  As
                  Reported
              
              $
              (.03
              )Basic –
                  Proforma
              
              $
              (.03
              )
 
 Stock-based
        compensation expense included in the 2006 net loss consisted of $783,987
        in
        compensatory warrants, options, and stock for professional consulting services,
        and compensation. Stock-based expense included in the net loss for 2005
        consisted of $508,061 for the issuance of common stock, warrants, and
        options.
  F-8
  **HEALTH
        DISCOVERY CORPORATION**
 
 **Notes
        to Financial Statements, continued**
 
 **Note
        A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES,
        continued**
 
 DETERMINING
        FAIR VALUE UNDER SFAS 123R:
  *Valuation
        and Amortization Method* –
        The Company estimates the fair value of stock options and warrants granted
        using
        the Black-Scholes option-pricing formula and a single option award approach.
        This fair value is then amortized on a straight-line basis over the requisite
        service periods of the awards, which is generally the vesting
        period.
  *Expected
        Term* –
        The expected term of the award represents the period that the Company’s
        stock-based awards are expected to be outstanding and was determined based
        on
        historical experience, giving consideration to the contractual terms of the
        stock-based awards, vesting schedules and expectations of future employee
        behavior. Given the lack of historical data and start-up nature of the company’s
        operations, the expected term is estimated as the contractual term.
  *Expected
        Volatility*– Volatility
        is a measure of the amounts by which a financial variable such as stock price
        has fluctuated (historical volatility) or is expected to fluctuate (expected
        volatility) during a period. The Company uses the historical volatility to
        estimate expected volatility.
  *Risk-Free
        Interest Rate* –
        The Company bases the risk-free interest rate used in the Black-Scholes
        valuation method on the implied yield currently available on U.S. Treasury
        zero-coupon issues with a remaining term equivalent to the expected term
        of a
        stock award.
  *Estimated
        Forfeitures* –
        When estimating forfeitures, the Company considers voluntary termination
        behavior as well as analysis of actual option forfeitures.
  *Estimated
        Dividend yield*– The
        Company has not paid any dividends and has no current plans to do so therefore
        dividend rate is assumed to be zero.
  The
        adoption of SFAS 123R also requires additional accounting related to income
        taxes. Due to the full valuation allowance provided on its net deferred tax
        assets, the Company has not recorded any tax benefit attributable to stock-based
        compensation expense.
  **FAIR
        VALUE OF FINANCIAL INSTRUMENTS**
 
 The
        Company’s financial instruments consist of cash, accounts payable, accrued
        expenses and long-term debt. Pursuant to SFAS No. 107, *Disclosures
        about Fair Value of Financial Instruments* ,
        the
        Company is required to estimate the fair value of all financial instruments
        at
        the balance sheet date. The Company considers the carrying values of its
        financial instruments in the financial statements to approximate their fair
        value due to the short term nature of such items.
 
 **NET
        LOSS PER SHARE**
 
 Basic
        Earnings Per Share (“EPS”) includes no dilution and is computed by dividing
        income or loss available to common shareholders by the weighted average number
        of common shares outstanding for the period. Diluted EPS reflects the potential
        dilution of securities that could share in the earnings or losses of the
        entity.
        Due to the net loss in all periods presented, the calculation of diluted
        per
        share amounts would cause an anti-dilutive result and therefore is not
        presented. Potentially dilutive shares at December 31, 2006 and 2005 include
        the
        following:
 
 2006
              
              2005Stock
                  options
              
              
              3,500,000
              
              
              2,500,000Warrants
              
              
              68,796,250
              
              
              50,931,250Convertible
                  notes
              
              
              3,915,547
              
              
              3,915,54776,211,797
              
              
              57,346,797
  F-9
  **HEALTH
        DISCOVERY CORPORATION**
 
 **Notes
        to Financial Statements, continued**
 
 **Note
        A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES,
        continued**
  **CONCENTRATIONS
        OF CREDIT RISK**
  The
        Company maintains its cash balances at financial institutions that are insured
        by the Federal Deposit Insurance Corporation (“FDIC”) up to $100,000. From
        time-to-time, the Company’s cash balances exceed the amount insured by the FDIC.
        Management believes the risk of loss of cash balances in excess of the insured
        limit to be low.
  **RECENT
        ACCOUNTING PRONOUNCEMENTS**
  In
        December 2004, the FASB issued SFAS No. 153, *Exchanges
        of Non-Monetary Assets* ,
        an
        amendment of APB Opinion 29, *Accounting
        for Non-Monetary Transactions* .
        The
        amendments made by SFAS No. 153 are based on the principle that exchanges
        of
        non-monetary assets should be measured based on the fair value of the assets
        exchanged. Further, the amendments eliminate the narrow exception for
        non-monetary exchanges of similar productive assets and replaces it with
        a
        broader exception for exchanges of non-monetary assets that do not have
“commercial substance.” The Company adopted this statement on January 1, 2006.
        The adoption of the statement did not have a material impact on the Company’s
        financial statements.
  In
        May 2005, the FASB issued SFAS No. 154, *Accounting
        Changes and Error Corrections* (“SFAS 154”), which changes the requirements in the accounting for and reporting
        of a change in accounting principle. We were required to adopt the provisions
        of
        SFAS 154 effective January 1, 2006. We will follow the provisions of this
        statement in the event of any future accounting changes.
 
 In
        June
        2006, the FASB issued Interpretation No. 48 (FIN 48), *Accounting
        for Uncertainty in Income Taxes* ,
        an
        interpretation of FASB Statement No. 109. This interpretation is effective
        for
        fiscal years beginning after December 15, 2006. This Interpretation clarifies
        the accounting for uncertainty in income taxes recognized in an enterprise’s
        financial statements in accordance with FASB No. 109, *Accounting
        for Income Taxes* .
        This
        Interpretation prescribes a recognition threshold and measurement attribute
        for
        the financial statement recognition and measurement of a tax position taken
        or
        expected to be taken in a tax return. This Interpretation also provides guidance
        on derecognition, classification, interest and penalties, accounting in interim
        periods, disclosure, and transition. FIN 48 is not expected to have a material
        impact on the Company’s financial statements.
 
 In
        September 2006, FASB issued SFAS No. 157, *Fair
        Value Measurements* .
        This
        statement is effective for financial statements issued for fiscal years
        beginning after November 15, 2007, and interim periods within those fiscal
        years. This Statement defines fair value, establishes a framework for measuring
        fair value in generally accepted accounting principles (GAAP), and expands
        disclosures about fair value measurements. This Statement applies under other
        accounting pronouncements that require or permit fair value measurements.
        Accordingly, this Statement does not require any new fair value measurements.
        However, for some entities, the application of this Statement will change
        current practice. This Statement is not expected to have a material impact
        on
        the Company’s financial statements.
 
 **Note
        B - RELATED PARTY TRANSACTIONS**
  Payments
        to the Company’s Chief Executive Officer of $91,875 were made in 2005 related to
        the purchase of patents from Barnhill, LLC and Fractal Genomics,
        LLC.
  The
        Company leases the location used as the principle executive office from a
        company owned by the wife of the Company’s Chief Executive Officer. The term of
        the principle executive office lease is month-to-month and the rent expense
        associated with this lease is $1,036 per month. Rent expense under this lease
        arrangement amounted to approximately $12,432 and $11,000 in 2006 and 2005,
        respectively.
  **Note
        C - PATENTS**
  The
        Company has acquired a group of patents related to biotechnology and certain
        machine learning tools used for diagnostic and drug discovery. Additionally,
        legal costs associated with patent acquisitions and the application process
        are
        also capitalized as patent costs. The Company has recorded $3,305,540 and
        $3,568,259 in patents and patent related costs, net of accumulated amortization,
        at December 31, 2006 and 2005.
 
 F-10
  **HEALTH
        DISCOVERY CORPORATION**
 
 **Notes
        to Financial Statements, continued**
 
 **Note
        C - PATENTS, continued**
 
 Amortization
        charged to operations for the years ended December 31, 2006 and 2005 was
        $262,719 and $251,097, respectively. The weighted average amortization period
        for patents is 14 years. Estimated amortization expense for the next five
        years
        is $262,575 per year.
 
 **Note
        D - ACQUISITIONS**
 
 On
        August
        26, 2003, the Company acquired the assets of Barnhill Group, LLC, which
        consisted of patents and related rights, through the issuance of 29,825,564
        common shares of the Company (then known as Direct Wireless Communications,
        Inc.). The purchase of Barnhill Group, LLC’s assets was recorded at $596,511,
        which was the market value of the shares issued at the date of
        acquisition.
 
 On
        September 30, 2003, the Company acquired the patents, patent rights, and
        all
        pending intellectual property of Fractal Genomics, LLC through the issuance
        of
        3,825,000 common shares of the Company (then known as Direct Wireless
        Communications, Inc.). The purchase of Fractal Genomics, LLC’s assets was
        recorded at $767,750, which was the market value of the shares issued at
        the
        date of acquisition plus the amount of the note.
 
 On
        July
        30, 2004, the Company acquired certain
        rights to patents and patents pending applications for certain machine learning
        tools used for diagnostic and drug discovery. The
        rights to these assets were purchased from unrelated third parties for a
        combination of non-interest bearing notes payable and interest bearing notes
        payable that were convertible to common stock. Under the non-interest bearing
        note payable, an initial cash payment of $175,394 was paid to the sellers
        on
        December 30, 2004 and four additional payments of $175,394 were made four
        months
        from the date of the initial payment and every fourth month thereafter until
        $876,970 had been paid. The Company has imputed interest on the non-interest
        bearing note payments using a rate of 3.16 %. The sellers received interest
        bearing notes convertible to common stock amounting to $1,127,818 that bear
        interest at 3.16% and were convertible into 6,634,221 shares of common stock
        (at
        $0.17 per share) until maturity on July 28, 2009. The agreements place certain
        limitations on the selling of the common stock shares during certain periods
        after conversion. The purchase of these patents and patents pending applications
        was recorded at $1,975,477, which was the estimated present value of the
        notes
        issued at the date of acquisition. During 2005, convertible notes totaling
        $462,175 were converted by holders in exchange for 2,718,676 shares of common
        stock.
 
 On
        May 6,
        2005 the Company acquired the remaining interest in a portfolio of patents
        from
        a group of unrelated third parties. The cost of this remaining interest
        consisted of a cash payment of $270,863, the issuance of promissory notes
        totaling $37,872, and convertible notes totaling $147,401. The convertible
        notes
        were converted by the holders immediately upon issuance in exchange for 867,065
        shares of common stock.
 
 The
        entire purchase price of each of these acquisitions was assigned to the acquired
        patents since no other net assets were acquired and the patents were the
        sole
        interest of the Company.
 
 No
        acquisitions occurred in 2006.
 
 During
        2005, fees totaling $22,881 were capitalized as part of the cost of the patents
        acquired. No fees were capitalized in 2006.
 
 **Note
        E - LICENSE FEES EXPENSE-LICENSE AGREEMENT**
 
 Effective
        September 26, 2004, the Company was assigned a patent license agreement with
        Lucent Technologies GRL Corporation (“Lucent”). The patent license agreement was
        associated with the patents acquired July 30, 2004. The Company agreed to
        pay
        royalty fees to Lucent in the amount of the greater of an annual fee of $10,000
        or at the rate of five percent (5%) on each licensed product which is sold,
        leased, or put into use by the Company, until cumulative royalties equal
        $40,000
        and at the rate of one percent (1%) subsequently. The license granted will
        continue for the entire unexpired term of Lucent’s patents. During 2006 and 2005
        each, the Company paid approximately $10,000 in royalty fees to Lucent.
  F-11
  **HEALTH
        DISCOVERY CORPORATION**
 
 **Notes
        to Financial Statements, continued**
  **Note
        F - INCOME TAXES**
 
 The
        Company’s effective tax rate differs from the federal and state statutory rates
        due to the valuation allowance recorded for the deferred tax asset due. An
        allowance has been provided for by the Company which reduced the tax benefits
        accrued by the Company for its net operating losses and other deferred tax
        attributes to zero, as management cannot determine when, or if, the tax benefits
        derived from these operating losses and other deferred tax attributes will
        materialize. At December 31, 2006, the Company had net operating loss carry
        forwards totaling approximately $7,167,742 that will expire in various years
        beginning in 2021. The net operating loss carryforwards are the Company’s
        primary deferred tax attribute.
 
 **Note
        G - NOTES PAYABLE AND CONVERTIBLE NOTES PAYABLE**
  Notes
          payable consist of the following:
 **2006**
                
                **2005**Term
                    promissory notes payable to individuals and institutions. Principal
                    and
                    interest at 18% is payable in common stock on September 1,
                    2008.
                
                $
                321,911
                
                $
                348,691Note
                    payable to shareholder/director net of $461,667 unamortized discount
                    due
                    September 1, 2008 with interest payable at 5% due at
                    maturity.
                
                $
                538,333
                
                
                —$
                860,244
                
                $
                348,691Less
                    current maturities
                
                
                —
                
                
                (26,780
                )$
                860,244
                
                $
                321,911
  Convertible
        notes outstanding at December 31, 2006 and 2005 totaled $665,643 both years.
        The
        notes mature on July 28, 2009, and may be converted at the election of the
        noteholders until that time into shares of the Company’s common stock at $0.17
        per share. A total of 3,915,547 shares may be issued upon the conversion
        of the
        notes. In addition, the noteholders are further limited to not sell more
        than
        10% of such holder’s shares in any calendar quarter after the minimum holding
        period has expired. The convertible notes accrue interest at a rate of
        3.16%.
 
 In
        2005,
        convertible notes totaling $609,576 were converted by the debt holders in
        exchange for 3,585,741 shares of common stock.
 
 On
        December 28, 2005, certain holders of term promissory notes totaling $321,911
        agreed to defer the balance due in 2006 until October 31, 2007. The deferred
        portion of the term notes accrues interest at a rate of 18%, payable with
        issuance of the Company’s common stock. On September 1, 2006, the Company and
        these holders of promissory notes entered into second amendments to extend
        deferment of all remaining payments due under the notes until September 1,
        2008,
        all other terms remained in place. As of December 31, 2006, the notes had
        aggregate remaining principal of $321,911, with accrued interest of
        approximately $59,393. The deferred amounts will continue to accrue interest
        at
        a stated rate of 18%, which will be paid in shares of the Company’s common stock
        valued at $0.24 per share at maturity.
 
 On
        September 1, 2006, the Company obtained a $1,000,000 loan from a director.
        The
        loan bears interest at 5%, all interest and principal is due at maturity
        on
        September 1, 2008. The Company also issued 10,000,000 warrants to this director
        with an exercise price of $0.16 in connection with the promissory note dated
        September 1, 2006. The warrants vest over ten months if the note remains
        unpaid
        during that period. The warrants were assigned a value of $554,000 and recorded
        as additional paid-in capital. A discount of the loan was recorded in the
        amount
        of $554,000 and is being accreted through interest expense over the 2-year
        loan
        period. The vesting period of these warrants may cease if certain conditions
        related to new financing are met.
 
 All
        of
        the Company’s debt is collateralized by specific patents in the Company’s patent
        portfolio.
  F-12
  **HEALTH
        DISCOVERY CORPORATION**
 
 **Notes
        to Financial Statements, continued**
 
 **Note
        H - COMMITMENTS**
 
 The
        Company entered into an employment agreement with its Chief Executive Officer
        on
        September 15, 2003. The employment agreement will automatically renew for
        successive one-year terms unless either party gives notice to the other party
        of
        its intent not to renew within a thirty-day period prior to the end of the
        current term. The employment agreement provides for a base salary and other
        perquisites commensurate with his employment. On December 30, 2005, the Company
        and the Company’s Chief Executive Officer agreed to amend the employment
        agreement to defer a portion of his salary until January 1, 2008.  The
        Company’s
        Chief Executive Officer agreed to waive the receipt of this deferred
        compensation pursuant to an amendment dated September 1, 2006.
 
 The
        Company entered into an employment agreement with its Executive Vice President.
        The employment agreement is for a term of three years beginning November
        14,
        2005. The employment agreement provides for a base salary, issuance of stock
        options and other perquisites commensurate with his employment.
 
 The
        Company has also entered into agreements with members of its Scientific Advisory
        Board wherein they are entitled to receive 100,000 shares each annually of
        the
        Company’s common stock upon satisfactory completion of one year of service. The
        Company is accruing an expense for the anticipated issuance over the service
        period. At December 31, 2006, the Company has recorded $52,500 of consultant
        expense for anticipated issuances of the shares.
 
 **Note
        I - STOCK OPTIONS**
 
 The
        Company approved 8,000,000 shares of common stock to be reserved solely for
        issuance and delivery upon the exercise of option grants. At December 31,
        2006
        and 2005, options to purchase shares of common stock outstanding were as
        follows:
  **2006**
                
                **Grant
                    Date**
                
                **Number
                    of**
                  **Shares**
                
                **Exercise
                    Price**
                
                **Vesting**January
                    2006
                
                1,500,000
                
                $0.11
                
                ImmediateJanuary
                    2006
                
                500,000
                
                $0.11
                
                125,000
                    shares every six monthsDecember
                    2005
                
                1,500,000
                
                $0.10
                
                250,000
                    shares every six months**2005**
                
                **Grant
                    Date**
                
                **Number
                    of**
                  **Shares**
                
                **Exercise****Price**
                
                **Vesting**October
                    2003
                
                600,000
                
                $0.01
                
                October
                    2003October
                    2003
                
                400,000
                
                $0.10
                
                November
                    2004December
                    2005
                
                1,500,000
                
                $0.10
                
                250,000
                    shares every six months
  The
          2006
          options were awarded to an employee and expire January 2016. The 2005 options
          were awarded to an employee and expire in December 2015.
 
 The
          following schedule summarizes stock option activity for 2006 and
          2005:
  **2006**
                
                **2005**Option
                  Shares
                
                Weighted
                    Avg.
                  Exercise
                    Price
                
                Option
                  Shares
                
                Weighted
                    Avg.
                  Exercise
                    PriceOutstanding,
                    Beginning of Year
                
                
                2,500,000
                
                $
                0.08
                
                
                3,000,000
                
                $
                0.08Granted,
                    During the Year
                
                
                2,000,000
                
                
                0.11
                
                
                1,500,000
                
                
                0.10Exercised
                    During the Year
                
                
                (600,000
                )
                
                0.01
                
                
                —
                
                
                —Forfeited,
                    During the Year
                
                
                (400,000
                )
                
                0.10
                
                
                (2,000,000
                )
                
                0.10Outstanding,
                    End of the Year
                
                
                3,500,000
                
                $
                0.11
                
                
                2,500,000
                
                $
                0.08
  F-13
  **HEALTH
        DISCOVERY CORPORATION**
 
 **Notes
        to Financial Statements, continued**
 
 **Note
        I - STOCK OPTIONS, continued**
 
 There
        were 2,125,000 and 1,000,000 options exercisable at December 31, 2006 and
        2005,
        respectively. The weighted average exercise prices of those options are $0.11
        and $0.05 at December 31, 2006 and 2005, respectively. The weighted remaining
        life of all exercisable and non-vested options at December 31, 2006 is 9
        years.
 
 As
        of December 31, 2006, there was approximately $822,441 of unrecognized cost
        related to stock option and warrant grants. The cost is to be recognized
        over
        the remaining vesting periods that average approximately 3.25 years. The
        aggregate intrinsic value of options exercised during 2006 was $60,000. The
        aggregate intrinsic value of options outstanding and exercisable as of December
        31, 2006 was $148,235 and $90,000 respectively.
 
 The
        Company granted 2,000,000 options during the first quarter of 2006. The fair
        value of each option granted in 2006 was $0.11 and was estimated on the date
        of
        grant using the Black-Scholes pricing model with the following assumptions:
        dividend yield at 0%, risk-free interest rate of 5.00%, an expected life
        of 10
        years, and volatility of 133%. No other options were granted in
        2006.
 
 The
        Company granted 1,500,000 options during 2005. The fair value of each option
        granted in 2005 was $0.19 and was estimated on the date of grant using the
        Black-Scholes pricing model with the following assumptions: dividend yield
        at
        0%, risk-free interest rate of 4.57%, an expected life of 10 years, and
        volatility of 128%.
  **Note
        J - WARRANTS**
  Information
        about warrants outstanding at December 31, 2006 and 2005 is summarized
        below:
 **December
          31, 2006**
 **Exercise
                    Prices**
                
                **Number**
                  **Outstanding**
                
                **Weighted-**
                  **Average**
                  **Remaining**
                  **Contractual
                    Life**
                  **(years)**
                
                **Number**
                  **Exercisable**
                
                **Weighted-Average**
                  **Remaining**
                  **Contractual
                    Life**
                  **(years)
                    of**
                  **Exercisable**
                  **Warrants**$0.01
                
                1,000,000
                
                1
                
                1,000,000
                
                1$0.10
                
                1,365,000
                
                2
                
                1,215,000
                
                2$0.11
                
                1,000,000
                
                1
                
                800,000
                
                1$0.12
                
                150,000
                
                2
                
                150,000
                
                2$0.13
                
                5,500,000
                
                3
                
                3,500,000
                
                3$0.15
                
                1,000,000
                
                2
                
                1,000,000
                
                2$0.16
                
                10,000,000
                
                2
                
                4,000,000
                
                2$0.20
                
                500,000
                
                1
                
                500,000
                
                1$0.22
                
                500,000
                
                2
                
                500,000
                
                2$0.24
                
                32,546,250
                
                2
                
                32,546,250
                
                2$0.35
                
                15,235,000
                
                .2
                
                15,235,000
                
                .2**TOTAL**
                
                **68,796,250**
                
                
                
                **60,446,250**
  F-14
  **HEALTH
        DISCOVERY CORPORATION**
 
 **Notes
        to Financial Statements, continued**
  **Note
        J - WARRANTS, continued**
 **December
          31, 2005**
 **Exercise
                    Prices**
                
                **Number**
                  **Outstanding**
                
                **Weighted-**
                  **Average**
                  **Remaining**
                  **Contractual
                    Life**
                  **(years)**
                
                **Number**
                  **Exercisable**
                
                **Weighted-Average**
                  **Remaining**
                  **Contractual
                    Life**
                  **(years)
                    of**
                  **Exercisable**
                  **Warrants**$0.01
                
                1,400,000
                
                2
                
                800,000
                
                1$0.08
                
                600,000
                
                1
                
                600,000
                
                1$0.12
                
                150,000
                
                3
                
                150,000
                
                3$0.20
                
                500,000
                
                2
                
                500,000
                
                2$0.22
                
                500,000
                
                3
                
                500,000
                
                3$0.24
                
                32,546,250
                
                3
                
                32,546,250
                
                3$0.35
                
                15,235,000
                
                1
                
                15,235,000
                
                1**TOTAL**
                
                **50,931,250**
                
                
                
                **50,331,250**
  During
        2005, the Company issued 1,300,000 warrants to consultants and others for
        services with an exercise price of $0.01 per share. A total of $254,584 was
        recorded as consulting expense related to these warrants. The warrants vest
        after satisfactory completion of one year of service. The expense is being
        recorded over the service period.
 
 In
        addition, during 2005 the Company issued 1,000,000 warrants to consultants
        for
        services rendered on behalf of the Company at an exercise price of $0.20
        per
        share for 500,000 warrants and $0.22 per share for the remaining 500,000.
        A
        total of $164,560 was recorded as consulting expense related to these warrants.
        The warrants vested immediately upon issuance.
 
 In
        December 2005, the Company issued 150,000 warrants to a director with an
        exercise price of $0.12 per share. The Company recorded $12,291 as consulting
        expense related to these warrants.
 
 During
        January 2006, the Company issued 3,400,000 warrants to consultants and other
        service providers with a weighted-average exercise price of $0.12 per share.
        A
        total of $290,000 was charged to expense for Compensatory Warrants. The warrants
        became exercisable upon issuance.
  The
        Company also issued 3,000,000 warrants to two directors in January 2006 with
        an
        exercise price of $0.13 per share. The grant date fair value of these warrants
        was $355,500. The warrants vest at a rate of 500,000 warrants (250,000 warrants
        for each director) after satisfactory completion of each 6 months of service
        until 3 years of service has been completed. The expense is being recorded
        over
        the service period.
  In
        January 2006, the Company issued 1,000,000 warrants to a director with an
        exercise price of $0.15 per share in connection with a common stock sale.
        The
        Company has ascribed no value to the warrants associated with the common
        stock
        sale described in Note K.
  During
        the second quarter of 2006, the Company issued 500,000 warrants to two members
        of its Scientific Advisory Board. The grant date fair value of these warrants
        was $35,000. These warrants vest over a one-year period and have an exercise
        price of $0.11. The Company also issued 200,000 warrants to a service provider
        in exchange for professional services. The grant date fair value of these
        warrants was $14,000. These warrants vest over a two-year period and have
        an
        exercise price of $0.10. The estimated value of all of these warrants is
        being
        charged as expense over the respective vesting periods.
  On
        September 1, 2006, the Company issued 10,000,000 warrants with an exercise
        price
        of $0.16 to a director in connection with a $1,000,000 promissory note. The
        warrants expire September 1, 2008. The fair value of these warrants was recorded
        as additional paid-in capital and a debt discount that is being amortized
        as
        interest expense over the term of the debt.
  F-15
  **HEALTH
        DISCOVERY CORPORATION**
 
 **Notes
        to Financial Statements, continued**
  **Note
        J - WARRANTS, continued**
  During
        the third quarter of 2006, the Company issued 300,000 warrants to service
        providers. The grant date fair value of these warrants was $16,872. These
        warrants vested immediately and have an exercise price of $0.10. The Company
        also issued 500,000 warrants to a member of the Scientific Advisory Board
        for
        providing advisory services to the Company beyond which was expected in his
        capacity as a Scientific Advisory Board member. The grant date fair value
        of
        these warrants was $15,115. These warrants vested immediately and have an
        exercise price of $0.10. In the fourth quarter of 2006 no warrants were issued
        and 570,000 warrants expired unexercised.
  **Note
        K - STOCKHOLDERS’ EQUITY**
  ***Private
        Placement - Round 1***
  From
        February through July 2004, the Company offered for sale shares of restricted
        stock to accredited investors through a private offering. The price of the
        restricted stock was $.10 per share. A total of 15,235,000 restricted common
        shares were issued to accredited investors for $1,499,900, net of issuance
        cost
        of $23,600. The issuance cost consisted of $22,400 in cash and 3,429 in common
        shares valued at $1,200, paid to consultants for assistance in selling the
        Company’s common stock. The value of Company’s stock was based on a contractual
        agreement of $.35 per share. In addition, each purchaser of shares of common
        stock was granted a warrant to acquire an equal number of restricted common
        shares at a fixed price of $0.35 per share until February 2007. No portion
        of
        the proceeds was assigned to the value of the warrants because the exercise
        price of the warrant exceeded the market value of the underlying common stock
        on
        the date of purchase.
  ***Private
        Placement - Round 2***
  From
        November 2004 through March 2005, the Company offered for sale shares of
        restricted stock to accredited investors through a private offering. The
        price
        of the restricted stock was $.16 per share. In addition, each purchaser of
        shares of common stock was granted a warrant to acquire an equal number of
        restricted common shares at a fixed price of $0.24 per share until December
        2008. No portion of the proceeds was assigned to the value of the warrants
        because the exercise price of the warrant exceeded the market value of the
        underlying common stock on the date of purchase. As of December 31, 2004,
        a
        total of 5,434,375 restricted common shares were sold to accredited investors
        for $695,761, net of issuance costs of $173,739. The issuance cost consisted
        of
        $128,950 in cash, 218,746 warrants, each entitling the holder to buy one
        share
        of the Company’s common stock for $0.24 valued at $32,812 and 34,277 shares of
        common stock valued at $11,977 which was paid or accrued to consultants for
        assistance in selling the Company’s common stock. As of December 31, 2004, the
        common shares and related warrants had not been issued to the purchasers
        and
        were recorded as common shares purchased and not issued on the Company’s balance
        sheet. As of December 31, 2005, all shares previously paid for and not issued
        had been issued. The
        value
        of Company stock was derived based on a contractual arrangement of $.35 per
        share. The values of the warrants were calculated using the Black-Scholes
        option-pricing model.
  On
        March
        10, 2005, the Company finalized a sale of shares of restricted common stock
        to
        accredited investors through a private offering. The price of the restricted
        stock was $.16 per share. In addition, each purchaser of the shares of common
        stock received a warrant to acquire an equal number of common shares at a
        fixed
        price of $0.24 per share until December 2008. No portion of the proceeds
        was
        assigned to the value of the warrants because the exercise price of the warrant
        exceeded the market value of the underlying common stock on the date of
        purchase. A total of 13,018,750 restricted common shares were sold to accredited
        investors for $1,799,493, net of issuance costs of $283,507. The issuance
        cost
        consisted of $157,000 in cash, 806,250 warrants, each entitling the holder
        to
        buy one share of the Company’s common stock for $0.24 valued at $120,938, and
        15,855 shares of common stock valued at $5,569 which was paid or accrued
        to
        consultants for assistance in selling the Company’s common stock. The value of
        Company stock was derived based on a contractual arrangement of $.35 per
        share.
        The values of the warrants were calculated using the Black-Scholes
        option-pricing model.
  During
        2005, the Company extended its fundraising efforts through the sale of common
        stock to accredited investors through a private placement. The price of the
        restricted stock was $.16 per share. In addition, each purchaser of stock
        shares
        was granted a warrant to acquire an equal number of restricted common shares
        at
        a fixed price of $0.24 per share until December 2008. No portion of the proceeds
        was assigned to the value of the warrants because the exercise price of the
        warrant exceeded the market value of the underlying common stock on the date
        of
        purchase. A total
        of 12,250,000 restricted common shares were sold to accredited investors
        for
        $1,847,981, net of issuance costs of $112,019. The issuance cost consisted
        of
        $70,300 in cash, 278,125 warrants, each entitling the holder to buy one share
        of
        common stock for $0.24 valued at $41,719.
  F-16
  **HEALTH
        DISCOVERY CORPORATION**
 
 **Notes
        to Financial Statements, continued**
 
 **Note
        K - STOCKHOLDERS’ EQUITY, continued**
  Under
        the
        Round 2 Private Placements, the Company agreed to use its best efforts to
        file a
        registration statement to register the shares of common stock and the shares
        underlying the warrants issued and sold to the investors by May 9, 2005,
        and to
        use its best efforts to cause the registration statement to be declared
        effective within 120 days of March 10, 2005. As a result of provisions in
        certain of the Round 2 Private Placement documents, on August 7 and September
        6,
        2005, 68,125 shares of the Company’s common stock and 68,125 warrants to
        purchase the Company’s common stock were issued to certain shareholders who
        acquired in the aggregate 6,812,500 shares in Round 2 Private Placement for
        each
        date as a result of the registration statement not becoming effective by
        such
        date. The additional number of shares and warrants was based upon one percent
        of
        the number of shares and warrants purchased by such participants for each
        30-day
        period beginning on the 121 st day
        until the registration statement was declared effective. Beginning September
        7,
        2005, the number of shares and warrants to be issued increased from one percent
        to two percent for each 30-day period until the registration statement was
        declared effective. On October 6, 2005, November 9, 2005, and December 9,
        2005,
        an additional 136,250, 136,250, and 131,250 in penalty shares and warrants
        were
        issued. The
        registration statement was declared effective on December 20, 2005. In
        addition, certain shareholders who purchased 6,812,500 shares of the Company’s
        common stock have anti-dilution rights until the registration statement has
        been
        effective for 365 days. If
        the Company sells shares of the Company’s common stock at a price less than
        $0.16 per share or issues warrants to purchase the Company’s common stock at an
        exercise price less than $0.24 per share, certain shareholders will receive
        an
        amount of shares or warrants at no cost so that those shareholders have no
        diluted effect from the sales of common stock or warrant issuances.
  ***Shares
        Issued in 2006***
  During
        the first quarter of 2006, the Company issued 600,000 shares of its common
        stock
        upon the exercise of stock options. Proceeds from the exercise totaled
        $6,000.
 
 In
        addition, the Company sold 1,000,000 shares of its common stock to one of
        its
        directors for $100,000. The shares were sold for $0.10 per share which was
        the
        closing price of the stock on the date of the sale. As part of the purchase,
        the
        director also received warrants to purchase an additional 1,000,000 shares
        of
        the Company’s common stock at a fixed price of $0.15 per share until December
        2008. No portion of the proceeds was assigned to the value of the warrants
        because the exercise price of the warrants exceeded the market value of the
        underlying common stock on the date of purchase.
 
 During
        the second quarter of 2006, 200,000 warrants were exercised at $0.01 each.
        The
        Company issued 200,000 shares of stock and recorded the proceeds of $2,000
        in
        common stock.
  During
        the third quarter of 2006, the Company issued 230,000 shares of stock for
        warrants exercised at $0.08 each. Proceeds of $18,400 were recorded in capital
        stock.
  ***Shares
        Issued in Exchange for Services***
  During
        2005, the Company issued 2,039,453 common stock shares to consultants for
        services and 308,133 shares to settle accrued liabilities for services totaling
        $78,746. The shares were granted at the fair market value of the services
        provided as determined by the consultants. Total net consultant expense of
        $381,876 was recorded for the issuances in 2005. No shares of stock were
        issued
        to consultants in exchange for services in 2006.
  ***Stock
        Cancellation***
 
 In
        2005,
        consultants who had previously been issued shares of stock in return for
        services provided rescinded 1,580,532 of these shares. The Company recorded
        a
        $300,000 credit to consulting expense as a result of this action.
  F-17
  **HEALTH
        DISCOVERY CORPORATION**
 
 **Notes
        to Financial Statements, continued**
 
 **Note
        K- STOCKHOLDERS’ EQUITY, continued**
 
 As
        discussed in Note 1 to Financial Statements and in accordance with guidance
        provided in Statement of Financial Accounting Standards No. 123R,
        Share-Based Payment, in fiscal 2006 Health Discovery Corporation changed
        its
        method of accounting for stock-based compensation.
  **Note
        L - GOING CONCERN**
 
 The
        accompanying financial statements have been prepared in conformity with
        principles of accounting applicable to a going concern, which contemplates
        the
        realization of assets and the liquidation of liabilities in the normal course
        of
        business. Limited revenue has been derived since inception, and the Company
        has
        not yet generated sufficient working capital to support its operations. The
        Company’s ability to continue as a going concern is dependent, among other
        things, on its ability to reduce certain costs and obtain new contracts to
        eventually attain a profitable level of operations.
 
 The
        Company initiated licensing the technology underlying several of its patents
        and
        providing supporting services related to the application of such technology
        that
        is resulting in ongoing revenue. In addition, management has successfully
        negotiated agreements with its debt holders, which resulted in the deferral
        of
        cash payments on debt until September 2008. In late 2005, management instituted
        a cost reduction program whereby the salaries of company employees, including
        certain members of senior management, have been reduced or deferred. Based
        on
        these developments, management believes revenue generation will continue,
        additional licensing agreements will be obtained in the near-term, and
        non-revenue generating costs will be controlled.
 
 **Note
        M - SUBSEQUENT EVENT**
 
 On
        February 1, 2007, Health Discovery Corporation (the “Company”) issued in the
        aggregate 15,235,000 warrants to purchase common stock of the Company (the
        “Warrants”) to certain institutional investors and individual accredited
        investors. The Warrants vest immediately and have an exercise price of $.35
        per
        share. The Warrants expire on November 1, 2007. On February 1, 2007, an equal
        number of warrants issued to the same institutional and individual investors
        and
        with substantially similar terms expired. The aggregate value of these warrants
        is approximately $33,755 and they will be recorded as expense on the issue
        date.
  F-18