**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**




WASHINGTON,
      D.C. 20549




**FORM
      10-Q**




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




For
      the
      quarterly period ended September 30, 2008




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




For
      the
      transition period from ____________ to ____________




Commission
      File No. 0-21537




**Pacific
      Biometrics, Inc.**


(Exact
      name of registrant as specified in its charter)





**Delaware**
            **93-1211114**(State
                or other jurisdiction of incorporation
              or
                organization)
            (I.R.S.
                Employer Identification No.)





**220
                West Harrison Street**
              **Seattle,
                Washington**
              (Address
                of principal executive offices)
            **98119**
              (Zip
                Code)





**(206)
      298-0068**


(Issuer’s
      telephone number, including area code)





Check
      whether the issuer: (1) filed all reports required to be filed by
      Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past
      12 months (or for such shorter period that the registrant was required to
      file for such reports), and (2) has been subject to such filing requirements
      for
      the past 90 days.


Yes
x No
o





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


Yes
o No
x





Indicate
      by check mark whether the registrant is a large accelerated filer, an
      accelerated filer, a non-accelerated filer, or a smaller reporting company.
      See
      the definitions of “large accelerated filer,” “accelerated filer” and “smaller
      reporting company” in Rule 12b-2 of the Exchange Act.





Large
                accelerated filer  o
            Accelerated
                filer oNon-accelerated
                filer o
            Smaller
                reporting company x





As
      of
      November 7, 2008, there were 18,920,147 shares of the registrant’s common stock,
      $0.01 par value per share, issued and outstanding.










**PACIFIC
      BIOMETRICS, INC.**





INDEX
      TO FORM 10-Q





**Page****PART
                I - FINANCIAL INFORMATION**ITEM
                1 - FINANCIAL STATEMENTSConsolidated
                Balance Sheets as of September 30, 2008 (unaudited) and June 30,
                2008
                (audited)
            
            4Consolidated
                Statements of Operations for the three months ended September 30,
                2008 and
                September 30, 2007 (unaudited)
            
            5Consolidated
                Statements of Cash Flows for the three months ended September 30,
                2008 and
                September 30, 2007 (unaudited)
            
            6Notes
                to Consolidated Financial Statements (unaudited)
            
            7ITEM
                2 – MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
                RESULTS OF OPERATIONS
            
            11ITEM
                4T - CONTROLS AND PROCEDURES
            
            18**PART
                II - OTHER INFORMATION**ITEM
                1A – RISK FACTORS
            
            18ITEM
                6 - EXHIBITS
            
            19


2


**EXPLANATORY
      NOTE**





Unless
      otherwise indicated or the context otherwise requires, all references in this
      Report to “we,” “us,” “our,” and the “Company” are to Pacific Biometrics, Inc.
      and our wholly-owned subsidiaries Pacific Biometrics, Inc., a Washington
      corporation, Pacific Biomarkers, Inc., PBI Technology, Inc., and BioQuant,
      Inc.





**CAUTIONARY
      NOTE REGARDING FORWARD LOOKING STATEMENTS**





This
      Quarterly Report on Form 10-Q contains a number of forward-looking statements,
      including statements about





·
            our
                estimates for future revenues and cost of revenues, including sources
                of
                revenue and anticipated revenue, including licenses of intellectual
                property, technology development and service
                contracts;


·
            our
                expectations regarding future expenses, including research and development
                and sales and marketing expenses;


·
            our
                estimates regarding the adequacy of our capital resources, working
                capital
                and cash flows, and our estimates as to how long these funds will
                be
                sufficient to fund our operations;


·
            our
                business development efforts and our expectations for future work
                orders
                for laboratory services and revenue
                generation;


·
            our
                intentions for the development of new services and products and the
                expansion of the market for our current services and products, and
                our
                expectations for our new clinical biomarker
                services;


·
            our
                goals for implementing aspects of our business plan and strategies;
                and


·
            our
                capital requirements, financing goals and plans, including raising
                of
                additional capital through future equity and debt
                financings.





The
      forward-looking statements in this Report reflect management’s current views and
      expectations with respect to our business, strategies, products, future results
      and events and financial performance. All statements other than statements
      of
      historical fact, including future results of operations or financial position,
      made in this Quarterly Report on Form 10-Q are forward looking. In
      particular, the words “expect,” “anticipate,” “estimate”, “desire”, “goal”, “
believe”, “may”, “will”, “should”, “intend”, “objective”, “seek”, “plan”,
“strive”, variations of such words, or similar expressions, or the negatives of
      these words, are intended to identify forward-looking statements, but are not
      the exclusive means of identifying such statements and their absence does not
      mean that the statement is not forward-looking. These forward-looking statements
      are subject to risks and uncertainties, including those discussed below. Our
      actual results, performance or achievements could differ materially from
      historical results as well as those expressed in, anticipated or implied by
      these forward-looking statements. We expressly disclaim any obligation or
      undertaking to release publicly any updates or revisions to any forward-looking
      statements contained in this Report to reflect any change in management’s
      expectations with regard thereto or any change in events, conditions or
      circumstances on which any such statement is based.





For
      a
      discussion of some of the factors that may affect our business, results and
      prospects, see “PART II, ITEM 1A – RISK FACTORS” below and the Risk Factors
      discussed in our Annual Report on Form 10-K for the fiscal year ended June
      30,
      2008. These risks and uncertainties include, but are not limited to, the
      concentration of business with large clients, the ability to develop new
      technology and introduce new products, competition, fluctuations in general
      economic conditions, the risk of bankruptcy, and changes in policies by
      regulatory agencies. Readers are urged to carefully review and consider the
      various disclosures made by us in this Report and in our other reports
      previously filed with the Securities and Exchange Commission, including our
      periodic reports on Forms 10-K, 10-Q and 8-K, and those described from time
      to
      time in our press releases and other communications, which attempt to advise
      interested parties of the risks and factors that may affect our business,
      prospects and results of operations.




3


**PACIFIC
      BIOMETRICS, INC.**


**CONSOLIDATED
      BALANCE SHEETS**





**September 30,**
            
            **June 30,****2008**
            
            **2008****(unaudited)**
            
            **(audited)****ASSETS**Current
                assets:Cash
                and cash equivalents
            
            $
            943,933
            
            $
            1,196,310Accounts
                receivable, net
            
            
            1,503,977
            
            
            2,146,080Other
                receivable, net
            
            
            -
            
            
            451,291Inventory
            
            
            278,272
            
            
            197,456Prepaid
                expenses and other assets
            
            
            159,725
            
            
            100,869Deferred
                financing cost on secured convertible note - current
                portion
            
            
            -
            
            
            18,447Total
                current assets
            
            
            2,885,907
            
            
            4,110,453Property
                and equipment, net
            
            
            874,420
            
            
            884,521Total
                assets
            
            $
            3,760,327
            
            $
            4,994,974**LIABILITIES
                AND STOCKHOLDERS' EQUITY**Current
                liabilities:Accounts
                payable
            
            $
            429,801
            
            $
            818,224Accrued
                liabilities
            
            
            323,401
            
            
            450,788Advances
                from customers
            
            
            765,204
            
            
            643,291Capital
                lease obligation - current portion
            
            
            36,078
            
            
            32,530Secured
                convertible note, net of unaccreted fair value assigned to conversion
                feature and warrants of $19,091 and $214,771, respectively
            
            
            180,909
            
            
            678,535Embedded
                derivative liability
            
            
            318,892
            
            
            642,470Freestanding
                derivative liability
            
            
            402,553
            
            
            411,545Other
                notes payable - current portion
            
            
            70,894
            
            
            102,467Total
                current liabilities
            
            
            2,527,732
            
            
            3,779,850Capital
                lease obligations - long - term portion
            
            
            105,161
            
            
            91,109Total
                liabilities
            
            
            2,632,893
            
            
            3,870,959Commitments
                and contingencies
            
            
            -
            
            
            -Stockholders'
                equity:Preferred
                stock, Series A convertible $0.01 par value, 5,000,000 shares authorized,
                0 shares issued and outstanding for 2009 and 2008
            
            
            -
            
            
            -Common
                stock, $0.01 par value, 30,000,000 shares authorized, 18,920,147
                and
                18,720,147 shares issued and outstanding, respectively
            
            
            362,803
            
            
            362,803Additional
                paid-in capital
            
            
            28,474,832
            
            
            28,465,676Accumulated
                deficit
            
            
            (27,710,201
            )
            
            (27,704,464
            )Total
                stockholders' equity
            
            
            1,127,434
            
            
            1,124,015Total
                liabilities and stockholders' equity
            
            $
            3,760,327
            
            $
            4,994,974





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


4


**PACIFIC
      BIOMETRICS, INC.**


**CONSOLIDATED
      STATEMENTS OF OPERATIONS**


**(unaudited)**





**Three Months Ended****September 30,****2008**
            
            **2007**Revenues
            
            $
            1,805,042
            
            $
            2,081,662Laboratory
                expenses and cost of sales
            
            
            1,103,369
            
            
            1,222,680Gross
                profit
            
            
            701,673
            
            
            858,982Operating
                expenses:Selling,
                general and administrative
            
            
            915,045
            
            
            914,435Operating
                loss
            
            
            (213,372
            )
            
            (55,453
            )Other
                income (expense):Interest
                expense
            
            
            (42,014
            )
            
            (76,534
            )Interest
                expense from accretion of conversion feature and warrants – secured
                convertible debt
            
            
            (69,044
            )
            
            (202,983
            )Gain
                on adjustment of embedded and freestanding derivatives to fair
                value
            
            
            332,570
            
            
            181,228Amortization
                of deferred financing costs - secured convertible debt
            
            
            (18,447
            )
            
            (26,793
            )Other
                income
            
            
            4,570
            
            
            31,970Total
                other income (expense)
            
            
            207,635
            
            
            (93,112
            )Net
                loss before tax expense
            
            
            (5,737
            )
            
            (148,565
            )Tax
                expense
            
            
            -
            
            
            -Net
                loss
            
            $
            (5,737
            )
            $
            (148,565
            )Net
                loss per share:
            
            $
            (0.00
            )
            $
            (0.01
            )Weighted
                average common shares outstanding, basic and diluted:
            
            
            18,920,147
            
            
            18,720,147





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


5





**PACIFIC
      BIOMETRICS, INC.**


**CONSOLIDATED
      STATEMENTS OF CASH FLOWS**


**(unaudited)**





**Three Months Ended****September 30,****2008**
            
            **2007**Cash
                flows from operating activities:Net
                loss
            
            $
            (5,737
            )
            $
            (148,565
            )Reconciliation
                of net loss to net cash provided by operating activities:Depreciation
                and amortization
            
            
            53,469
            
            
            73,619Accretion
                of fair value assigned to conversion feature and warrants
            
            
            69,044
            
            
            202,983Amortization
                of deferred financing costs on secured convertible note
            
            
            18,447
            
            
            26,793Gain
                from embedded and freestanding derivative liabilities relating to
                secured
                convertible note
            
            
            (332,570
            )
            
            (181,228
            )Warrant
                expense for equipment lease and financing
            
            
            2,956
            
            
            2,955Compensation
                expense from restricted shares and options
            
            
            6,201
            
            
            6,201Changes
                in assets and liabilities:Accounts
                receivable
            
            
            642,103
            
            
            364,028Other
                receivable
            
            
            451,291
            
            
            (107,000
            )Inventory
            
            
            (80,816
            )
            
            (1,471
            )Prepaid
                expenses and other assets
            
            
            (58,856
            )
            
            15,265Advances
                from customers
            
            
            121,913
            
            
            (80,874
            )Accounts
                payable
            
            
            (388,423
            )
            
            (49,264
            )Accrued
                liabilities
            
            
            (127,387
            )
            
            11,847Net
                cash provided by operating activities
            
            
            371,635
            
            
            135,288Cash
                flows from investing activities:Purchases
                of capital equipment
            
            
            (14,352
            )
            
            (10,883
            )Net
                cash used in investing activities
            
            
            (14,352
            )
            
            (10,883
            )Cash
                flows from financing activities:Payments
                on notes payable
            
            
            (598,244
            )
            
            (426,502
            )Payments
                on capital lease obligations
            
            
            (11,416
            )
            
            (17,936
            )Net
                cash used in financing activities
            
            
            (609,660
            )
            
            (444,438
            )Net
                decrease in cash and cash equivalents
            
            
            (252,377
            )
            
            (320,033
            )Cash
                and cash equivalents, beginning of period
            
            
            1,196,310
            
            
            4,219,926Cash
                and cash equivalents, end of period
            
            $
            943,933
            
            $
            3,899,893Supplemental
                Information:Cash
                paid during the period for interest
            
            $
            42,833
            
            $
            77,284Non-cash
                investing and financing activities:Capital
                expenditures funded by capital lease borrowings
            
            $
            29,016
            
            
            -





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


6





**PACIFIC
      BIOMETRICS, INC.**





**CONDENSED
      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)**





**1.**  **Organization
      and Basis of Presentation**





We
      provide specialty reference laboratory services to the pharmaceutical and
      diagnostics industries. Our company was incorporated in Delaware in May 1996.
      We
      conduct our business primarily through our wholly-owned subsidiary, Pacific
      Biometrics, Inc., a Washington corporation. Our three other wholly-owned
      subsidiaries are Pacific Biomarkers, Inc., a Washington corporation, PBI
      Technology, Inc., a Washington corporation, and BioQuant, Inc., a Michigan
      corporation. All material intercompany balances and transactions have been
      eliminated in the accompanying consolidated unaudited interim financial
      statements.





Unaudited
      interim financial statements include all adjustments such as normal recurring
      accruals that are, in the opinion of management, necessary for a fair statement
      of results of interim periods. Operating results for the three-month period
      ended September 30, 2008 are not necessarily indicative of the results that
      may
      be expected for any future period. The accompanying unaudited financial
      statements and related condensed notes should be read in conjunction with the
      audited financial statements and notes thereto, for our fiscal year ended June
      30, 2008, as previously reported in our annual report on Form 10-K.





**2.** **Summary
          of Significant Accounting Policies**





*New
      Accounting Pronouncements*





In
      May
      2008, the FASB issued SFAS No. 163, “ *Accounting
      for Financial Guarantee Insurance Contracts - an interpretation of FASB
      Statement No. 60* ”
(“SFAS
      163”). SFAS 163 requires that an insurance enterprise recognize a claim
      liability prior to an event of default (insured event) when there is evidence
      that credit deterioration has occurred in an insured financial obligation.
      This
      Statement also clarifies how Statement 60 applies to financial guarantee
      insurance contracts, including the recognition and measurement to be used to
      account for premium revenue and claim liabilities. Those clarifications will
      increase comparability in financial reporting of financial guarantee insurance
      contracts by insurance enterprises. This Statement requires expanded disclosures
      about financial guarantee insurance contracts. The accounting and disclosure
      requirements of the Statement will improve the quality of information provided
      to users of financial statements. SFAS 163 will be effective for financial
      statements issued for fiscal years beginning after December 15, 2008. We do
      not
      expect the adoption of SFAS 163 will have a material impact on our financial
      condition or results of operation.





In
      May
      2008, the FASB also issued SFAS No. 162, “ *The
      Hierarchy of Generally Accepted Accounting Principles* ”
(“SFAS
      162”). This Statement identifies the sources of accounting principles and the
      framework for selecting the principles to be used in the preparation of
      financial statements of nongovernmental entities that are presented in
      conformity with generally accepted accounting principles (GAAP) in the United
      States (the GAAP hierarchy). SFAS 162 is effective 60 days following the SEC’s
      approval of the Public Company Accounting Oversight Board amendments to remove
      the GAAP hierarchy from the auditing standards. We do not expect the adoption
      of
      SFAS 162 will have a material impact on our financial condition or results
      of
      operation.





In
      March
      2008, the FASB released Statement of Financial Accounting Standards No. 161,
      “ *Disclosures
      about Derivative Instruments and Hedging Activities* ”
(“SFAS
      161”). SFAS 161 requires qualitative disclosures about objectives and strategies
      for using derivatives, quantitative disclosures about fair value amounts of
      gains and losses on derivative instruments and disclosures about
      credit-risk-related contingent features in derivative agreements. The
      application of SFAS 161 is required for fiscal years beginning after November
      15, 2008 and interim periods within those fiscal years. We are currently
      reviewing the implications of SFAS 161and its impact on the financial statements
      and the accompanying notes has not yet been determined.


7





*Principles
      of Consolidation*





These
      consolidated financial statements include our consolidated financial position,
      results of operations, and cash flows. All material intercompany balances and
      transactions have been eliminated in the accompanying consolidated financial
      statements.





*Cash
      and Cash Equivalents*





Cash
      and
      cash equivalents consist of highly liquid investments with an original maturity
      of three months or less when purchased.





*Accounts
      Receivable*





Trade
      accounts receivable are stated at amounts billed to and due from clients, net
      of
      an allowance for doubtful accounts. Credit is extended based on evaluation
      of a
      client’s financial condition, and collateral is not required. In determining the
      adequacy of the allowance, management identifies specific receivables for which
      collection is not certain and estimates the potentially uncollectible amount
      based on the most recently available information. We write off accounts
      receivable when they are determined to be uncollectible, and payments
      subsequently received on such receivables are credited to the allowance for
      doubtful accounts. At September 30, 2008, we deemed no additional accounts
      receivable uncollectible.





Other
      accounts receivable consist of non-trade receivables such as state business
      and
      occupation tax refunds, notes receivable and employee accounts receivable.
      These
      receivables are stated at amounts per invoice or agreement and due from other
      parties, net of an allowance for doubtful accounts. They are evaluated with
      the
      same methods as utilized for trade accounts receivable. ** At
      September 30, 2008, there were no other receivables.





*Inventory*





Inventory
      is stated the lower of cost or market. Cost is determined on a first in, first
      out (FIFO) basis. Our inventory consists of reagent chemicals used in our
      laboratory testing.





*Long
      –Lived Assets*





Property
      and equipment are recorded at cost. Depreciation is provided using the
      straight-line method over the useful lives of the related assets, which range
      from three to five years. Leasehold improvements are amortized over the shorter
      of the estimated useful life of the improvements or the remaining term of the
      lease. The cost and related accumulated depreciation of property or equipment
      sold or otherwise disposed of are removed from the accounts and the resulting
      gains or losses are included in the statement of operations.





In
      accordance with the Financial Accounting Standards Board’s Statements of
      Financial Accounting Standards Statement No. 144 – “ *Accounting
      for the Impairment or Disposal of Long-Lived Assets” (“SFAS
      144”),* all of
      our long-lived assets are reviewed for impairment whenever events or changes
      in
      circumstances indicate the carrying amount may not be recovered. If the sum
      of
      the expected future cash flows is less than the carrying amount of the asset,
      a
      loss is recognized.





*Client
      Advances*





We
      receive advances from certain clients to perform consulting, laboratory
      services, and clinical studies. We apply these advances as payments to invoices
      as work is completed until the amounts advanced are exhausted. Advances are
      also
      applied to invoices for setup and administrative fees, billed upon contract
      approval. These setup and administrative fees are deferred as unearned income
      when billed and amortized over the life of the project.


8





*Income
      Taxes*





We
      recognize deferred tax assets and liabilities based on differences between
      the
      financial reporting and tax bases of assets and liabilities using the enacted
      tax laws and rates that are expected to be in effect when the differences are
      expected to be recovered. We provide a valuation allowance for deferred tax
      assets due to the uncertainty of realization. We follow SFAS 109, as amended,
      to
      prepare our income tax reporting.





*Financial
      Instruments*





The
      carrying amounts of cash, cash equivalents, and accounts receivable approximate
      fair value due to the short-term maturities of these instruments. The carrying
      value of our secured convertible note is recorded net of the unamortized fair
      value assigned to the conversion feature and warrants, representing its
      estimated fair value. The carrying value of our other debt approximates their
      estimated fair values due to the rates of interest on the debt approximate
      current interest rates for similar obligations with like
      maturities.





*Financial
      Derivatives – Embedded Features*





Embedded
      conversion and other features embedded in convertible notes are accounted for
      in
      accordance with Statement of Financial Accounting Standard (“SFAS) No. 133
“ *Accounting
      for Derivative Instruments and Hedging Activities* ”
(“SFAS
      133”) and EITF 00-19 “ *Accounting
      for Derivative Financial Instruments Indexed to, and Potentially Settled in,
      a
      Company’s Own Stock* ”
(“EITF
      00-19”). SFAS 133 generally requires companies to bifurcate conversion features
      embedded in convertible notes from their host instruments and to account for
      them as freestanding derivative financial instruments in accordance with EITF
      00-19.





Our
      convertible notes host conversion features and other features that are deemed
      to
      be embedded derivatives financial instruments or beneficial conversion features
      based on the commitment date fair value of the underlying common stock. These
      notes meet the definition of derivative financial instruments and have, where
      applicable, been bifurcated from host instruments and are carried at fair value.
      We record the value allocated to warrants issued with the convertible notes,
      measured at fair value and recognized by allocating a portion of the proceeds
      to
      derivative liabilities with an offset to discount on the convertible note.
      The
      recorded discount is accreted as interest expense using the effective interest
      method over the life of the debt.





*Common
      Stock Purchase Warrants and Other Derivative Financial
      Instruments*





We
      generally do not use derivative financial instruments to hedge exposures to
      cash
      flow or market risks. We account for the issuance of common stock purchase
      warrants issued and other free standing derivative financial instruments in
      accordance with the provisions of EITF 00-19. Based on the provisions of EITF
      00-19, we classify as equity any contracts that (i) require physical settlement
      or net-share settlement or (ii) give us a choice of net-cash settlement or
      settlement in its own shares (physical settlement or net-share settlement).
      We
      classify as assets or liabilities any contracts that (i) require net-cash
      settlement (including a requirement to net cash settle the contract if an event
      occurs and if that event is outside our control) (ii) give the counterparty
      a
      choice of net-cash settlement or settlement in shares (physical settlement
      or
      net-share settlement).





*Deferred
      Debt Issue Cost*





The
      costs
      relating to obtaining and securing debt financing are capitalized and expensed
      over the term of the debt instrument. In the event of settlement in part or
      whole of such debt in advance of the maturity date, an expense is recognized
      for
      the remaining unamortized deferred debt issue cost.





For
      the
      quarter ended September 30, 2008 and the quarter ended September 30, 2007,
      the
      estimated fair value of our deferred debt issue cost was zero and $98,825,
      respectively.


9





*Stock-Based
      Compensation*





Effective
      January 1, 2006, we adopted the provisions of SFAS No. 123(R), “ *Share-Based
      Payment”,* using
      the
      modified prospective transition method. SFAS No. 123(R) requires companies
      to
      estimate the fair value of equity-based payment awards on the date of grant
      using an option-priced model. The value of the portion of the award that is
      ultimately expected to vest is recognized as an expense over the requisite
      service periods in our consolidated income statements.





We
      did
      not grant any equity-based payment awards under our incentive compensation
      plans
      during the three-month periods ended September 30, 2008 and September 30, 2007.





*Revenue
      Recognition*





We
      recognize revenue in the period when the related services are performed and
      collectibility is reasonably assured. Currently, we derive substantially all
      of
      our revenues from laboratory services. Service contracts generally take the
      form
      of fixed-price contracts. Under fixed-price contracts, revenue is recognized
      as
      services are performed, with performance generally assessed using output
      measures, such as units-of-work performed to date as compared to the total
      units-of-work contracted. Changes in the scope of work generally result in
      a
      renegotiation of contract pricing terms and/or a contract amendment.
      Renegotiated amounts are not included in net revenues until earned, and
      realization is assured. Advance payments on service contracts are treated as
      a
      deposit and applied to periodic billing during the contract period. Setup and
      administrative fees are billed upon contract approval. Revenues from setup
      and
      administrative fees are amortized over the life of the contract. Historically,
      costs are not deferred in anticipation of work on contracts after they are
      awarded, but instead are expensed as incurred. All out-of-pocket costs are
      included in expenses.





*Net
      Loss Per Share*





Basic
      loss per share is based upon the weighted average number of outstanding common
      shares. Diluted loss per share is computed on the basis of the weighted average
      number of common shares outstanding plus the effect of outstanding stock options
      and warrants using the “treasury stock” method. All per share calculations
      exclude treasury shares.





The
      net
      loss per common share for the quarters ended September 30, 2008 and 2007 is
      based on the weighted average number of shares of common stock outstanding
      during the periods. Potentially dilutive securities include 1,441,870 options
      and 4,149,677 warrants; however, such securities have not been included in
      the
      calculation of the net loss per common share as their effect would be
      antidilutive.





The
      following table is a reconciliation of the numerator (net loss) and the
      denominator (number of shares) used in the basic and diluted EPS calculations
      and sets forth potential shares of common stock that are not included in the
      diluted net loss per share calculation as the effect is
      antidilutive:





Quarter
                Ended September 30,2008
            
            2007Numerator
                - basic and diluted net loss
            
            $
            (5,737
            )
            $
            (148,565
            )Denominator
                - basic or diluted weighted average common shares
                outstanding
            
            
            18,920,147
            
            
            18,720,147Net
                loss per share - basic and diluted
            
            $
            (0.00
            )
            $
            (0.01
            )




10




Comprehensive Income




We
      have
      adopted Statement of Financial Accounting Standards No. 130, “ *Reporting
      Comprehensive Income* ,”
which
      establishes standards for reporting comprehensive income and its components
      in
      the financial statements. Comprehensive income consists of net income and other
      gains and losses affecting stockholders’ equity that, under generally accepted
      accounting principles, are excluded from net income. For the quarters ended
      September 30, 2008 and 2007, our comprehensive loss equaled our net loss.
      Accordingly, a statement of comprehensive loss is not presented.





*Use
      of Estimates*





In
      preparing financial statements in conformity with U.S. GAAP, management is
      required to make estimates and assumptions that affect the reported amounts
      of
      assets and liabilities, the disclosure of contingent assets and liabilities
      at
      the date of the financial statements, and the reported amounts of revenues
      and
      expenses during the reporting period. Actual results could differ from those
      estimates.





**3.
      Concentration of Credit Risk**





Our
      largest client in the quarter ended September 30, 2008 accounted for
      approximately 25% of our total revenues, while our largest client in the quarter
      ended September 30, 2007 accounted for approximately 26% of our total revenues.
      As of September 30, 2008 and 2007, approximately 43% of our accounts receivable
      balance was from the two largest clients at that time. These were different
      clients in each fiscal period. Component clients included in the largest client
      calculation may vary from period to period.





Our
      clients are primarily pharmaceutical companies, many of which are on the list
      of
      Fortune 1000 companies. For our revenue calculations, we aggregate revenues
      we
      receive from several divisions within a pharmaceutical company client as a
      single client. Forty two percent of our revenue was derived from Fortune 1000
      clients for the quarter ended September 30, 2008, compared to 12% of revenue
      derived from Fortune 1000 clients for the quarter ended September 30, 2007.
      We
      believe that our exposure to concentration of credit risk is very low
      considering the financial strength of our clients.





We
      maintain cash in three insured commercial accounts and one uninsured investment
      account at major financial institutions. Although the financial institutions
      are
      considered creditworthy and have not experienced any losses on client deposits,
      our cash balance exceeded Federal Deposit Insurance Corporation (FDIC) limits
      by $693,933 at September 30, 2008 and by $3,699,893 at September 30,
      2007. FDIC limits were increased from $100,000 per insured account to $250,000
      per insured account effective October 10, 2008. Our cash balance would
      exceed the new limits by $443,925, if we calculated the difference
      between our cash balance and FDIC limit as of October 10, 2008.





**ITEM
      2.**  **MANAGEMENT’S
      DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.**





*Investors
      should read the following discussion and analysis in conjunction with our
      consolidated financial statements and related notes in this Form 10-Q and our
      audited financial statements and related notes for the year ended June 30,
      2008,
      included in our Annual Report on Form 10-K.*





**Overview**





We
      provide specialty central laboratory services to support pharmaceutical and
      laboratory diagnostic manufacturers in the conduct of human clinical research,
      for use in their drug and diagnostic product development efforts. Our clients
      include a number of the world’s largest multi-national pharmaceutical,
      biotechnology and diagnostic companies. Our well-recognized specialty areas
      include cardiovascular disease (dyslipidemia, atherosclerosis, and coronary
      heart disease), diabetes (and obesity), and bone and joint diseases
      (osteoporosis as well as osteo and rheumatoid arthritis). Coupled with our
      specialty testing, we also have central laboratory capability and provide
      full-service central laboratory support for multi-center clinical trials,
      including routine safety lab tests (general chemistry, hematology, and
      urinalysis). We also provide clinical biomarker services for novel biomarkers,
      as well as custom assay services, to our pharmaceutical and biotech
      clients.  Our
      company is a Delaware corporation, incorporated in May 1996, and we conduct
      our
      operations primarily through our wholly-owned subsidiary, Pacific Biometrics,
      Inc., a Washington corporation.


11





**Critical
      Accounting Policies and Estimates**





There
      have been no material changes to our critical accounting policies and estimates
      since the end of our 2008 fiscal year. For detailed information on our critical
      accounting policies and estimates, see our financial statements and notes
      thereto included in this Report and our Annual Report on Form 10-K **** for
      the
      fiscal year ended June 30, 2008.





The
      discussion and analysis of our financial condition and results of operations
      is
      based upon our consolidated financial statements, which have been prepared
      in
      accordance with U.S. GAAP. The preparation of these financial statements
      requires us to make estimates and judgments that affect the reported amounts
      of
      assets, liabilities, revenue and expenses, and related disclosure of contingent
      assets and liabilities. On an on-going basis, we evaluate our estimates
      including, among others, those affecting revenue, the allowance for doubtful
      accounts, and the useful lives of tangible and intangible assets. The discussion
      below is intended as a brief discussion of some of the judgments and
      uncertainties that can impact the application of these policies and the specific
      dollar amounts reported on our financial statements. We base our estimates
      on
      historical experience and on various other assumptions that we believe to be
      reasonable under the circumstances, the results of which form our basis for
      making judgments about the carrying values of assets and liabilities that are
      not readily apparent from other sources. Actual results may differ from these
      estimates under different assumptions or conditions, or if management made
      different judgments or utilized different estimates. Many of our estimates
      or
      judgments are based on anticipated future events or performance, and as such
      are
      forward-looking in nature, and are subject to many risks and uncertainties,
      including those discussed below and elsewhere in this Report. We do not
      undertake any obligation to update or revise this discussion to reflect any
      future events or circumstances.





We
      have
      identified below some of our accounting policies that we consider critical
      to
      our business operations and the understanding of our results of operations.
      This
      is neither a complete list of all of our accounting policies, nor does it
      include all the details surrounding the accounting policies we have identified.
      There are other accounting policies that are significant to our company. For
      a
      more detailed discussion on the application of these and our other accounting
      policies, see “Note 2 to the Consolidated Financial Statements” included in this
      Report and “Note 2 to Consolidated Financial Statements” included in our Annual
      Report on Form 10-K for the fiscal year ended June 30, 2008.





**Revenue
      Recognition**





Under
      fixed-price contracts, we recognize revenue as services are performed, with
      performance generally assessed using output measures, such as units-of-work
      performed to date compared to the total units-of-work contracted. Our client
      contracts may be delayed or cancelled at anytime. Uncertainty surrounding
      continuation of existing revenues during any period is high. We believe that
      recognizing revenue as services are performed is the most appropriate method
      for
      our business as it directly reflects services performed in the laboratory.
      We
      would expect material differences in reporting of our revenues to occur if
      we
      changed our assumptions for revenue recognition from services performed to
      other
      methods such as percent complete or completed contract methods. While both
      other
      methods are allowed under GAAP, they would introduce more variables and
      estimates into our revenue recognition process. The percent complete method
      introduces estimated costs early in the process that may drive revenues higher
      in early periods, and in the event that the study is terminated early,
      previously recognized revenue would be reversed, net of a cancellation fee,
      if
      applicable. The completed contract method may recognize revenues in future
      contract periods, such as the first quarter after a fiscal year close and
      subsequent to completion of the services rendered.





**Financial
      Derivatives – Conversion, Other Features and Warrants**





With
      respect to our convertible notes, embedded conversion and other features that
      meet the definition of derivative financial instruments have, where applicable,
      been bifurcated from host instruments (See Note 2. Summary of significant
      accounting policies) and are carried at fair value. We record the value
      allocated to warrants issued with the convertible notes, measured at fair value
      and recognized by allocating a portion of the proceeds to derivative liabilities
      with an offset to discount on the convertible notes. The recorded discount
      is
      accreted as interest expense using the effective interest method over the
      remaining life of the debt.


12





**Stock-Based
      Compensation Expense**





Effective
      January 1, 2006, we adopted the provisions of SFAS No. 123(R), “ *Share-Based
      Payment”,* using
      the
      modified prospective transition method. This requires companies to estimate
      the
      fair value of equity-based payment awards on the date of grant using an
      option-priced model. The value of the portion of the award that is ultimately
      expected to vest is recognized as an expense over the requisite service periods
      in our consolidated income statements. Determining the fair value of
      equity-based awards at the grant date requires judgment. In addition, judgment
      is also required in estimating the amount of equity-based awards that are
      expected to be forfeited. If actual results differ significantly from these
      estimates, equity-based compensation expense and our results of operations
      could
      be materially impacted. No equity-based awards were granted for the periods
      ended September 30, 2008 and 2007.





**Results
      of Operations for Three Months Ended September 30, 2008 and
      2007**





**Revenue:**





**Three months Ended****September 30,***Dollars in thousands, rounded to**nearest thousand*
            
            2008
            
            2007
            
            $ change
            
            % change**Revenue**
            
            $
            1,805
            
            $
            2,082
            
            $
            (277
            )
            
            (13
            )%





Our
      revenue is primarily generated from clinical pharmaceutical trials testing
      and
      diagnostic services. In addition, beginning in fiscal 2008 we also recognized
      initial revenue from our clinical biomarker services. Revenue decreased
      approximately 13% to $1,805,000 from $2,082,000 between the comparable quarters
      ended September 31, 2008 and 2007. Typically our revenue fluctuations are
      primarily explained by the timing between our work on testing and open work
      orders, and prior work orders having been completed or terminated. We had a
      large study in the quarter ended September 30, 2007 executed on a short timeline
      that improved that quarter's revenue. We did not have a comparable study in
      the
      quarter ended September 30, 2008.





We
      work
      directly with pharmaceutical and biotech companies as well as other large
      clinical laboratories that refer (“Referral Laboratory Partners”) specialty
      laboratory testing to us. We experience significant uncertainty regarding
      existing revenues and estimates of future revenues, during any period. Studies
      that we bid on are uncertain until we have a signed contract. Once work on
      a
      study commences, it may be cancelled by the sponsor at some time during the
      testing phase. Accordingly, our revenues may be significantly affected by the
      success or failure of the testing phase, and factors that are not within our
      control. Moreover, drug development activities by pharmaceutical companies
      in
      the lipid / cholesterol market in general, representing a major portion of
      our
      revenues, remain unclear. In addition, several factors may adversely affect
      our
      future revenues, including a large number of pharmaceutical companies’ cost
      reduction announcements and continuing consolidation in the pharmaceutical
      market.





During
      the quarter ended September 30, 2008, revenue generated from clinical trials
      testing services, Referral Laboratory Partners and diagnostic services accounted
      for approximately 60%, 39% and 1%, respectively, of our total revenue. In
      contrast, during the quarter ended September 30, 2007, revenue generated from
      clinical trials testing services, Referral Laboratory Partners and diagnostic
      services accounted for approximately 68%, 31% and 1%, respectively, of our
      total
      revenue.


13





**Laboratory
      Expense and Cost of Goods Sold:**





**Three months Ended****September 30,***Dollars in thousands, rounded to nearest*
              *thousand*
            
            2008
            
            2007
            
            $ change
            
            % change**Laboratory
                Expenses and Cost of Goods Sold**
            
            $
            1,103
            
            $
            1,223
            
            $
            (120
            )
            
            (10
            )%**Percentage
                of Revenue**
            
            
            61
            %
            
            59
            %





Laboratory
      expense and cost of goods sold consist primarily of salaries and related
      benefits to employees performing analysis of clinical trial samples and the
      cost
      of reagents and supplies for analysis of **** clinical
      trial **** samples,
      and secondarily, of payments to subcontractors for laboratory services and
      other
      expenses such as rent, insurance, business and occupation taxes.





Laboratory
      and cost of goods sold expense items are highly variable due to the mix of
      services provided in any given period, overall volume of tests performed, new
      and highly complex assays utilized and subcontracted laboratory services.





The
      following tables illustrate changes in Laboratory Expenses and Cost of Goods
      Sold in fixed and variable expense categories:





**Three
                months Ended****September
                30,***Dollars in thousands, rounded to nearest*
              *thousand*
            
            2008
            
            % of
              revenue
            
            2007
            
            % of
              revenue
            
            $ change
            
            % change**Fixed
                Cost Detail**Rent,
                Utilities, Certain Taxes
            
            **$**
            **127**
            
            
            **7**
            **%**
            **$**
            **136**
            
            
            **7**
            **%**
            **$**
            **(9**
            **)**
            
            **(6**
            **)%****Variable
                Cost Detail**Wages,
                Taxes, Benefits
            
            
            507
            
            
            28
            %
            
            465
            
            
            22
            %
            
            42
            
            
            9Reagent
                Chemicals
            
            
            355
            
            
            20
            %
            
            412
            
            
            20
            %
            
            (57
            )
            
            (14
            )Other
                Variable Costs
            
            
            114
            
            
            6
            %
            
            210
            
            
            10
            %
            
            (96
            )
            
            (46
            )Total
            
            
            **976**
            
            
            **54**
            **%**
            
            **1,087**
            
            
            **52**
            **%**
            
            **(111**
            **)**
            
            **(10**
            **)****Total
                Cost of Goods Sold**
            
            **$**
            **1,103**
            
            
            **61**
            **%**
            **$**
            **1,223**
            
            
            **59**
            **%**
            **$**
            **(120**
            **)**
            
            **(10**
            **)%**








For
      the
      comparable quarters ended September 30, 2008 and 2007, laboratory expenses
      and
      cost of goods sold decreased by approximately $120,000, or 10%, to $1,103,000,
      down from $1,223,000, respectively, and as a percentage of revenue, increased
      to
      approximately 61%, up from approximately 59%. The decreases in laboratory
      expenses and cost of goods sold were due to decreases in reagents and other
      variable costs.





Salaries
      and related benefits increased 9% to approximately $507,000 from $465,000 for
      the quarters ended September 30, 2008 and 2007, due primarily to an increase
      in
      laboratory staff by 1.5 FTE to perform many new and more complex assays than
      were performed in the comparable fiscal period last year. We did not pay any
      bonuses in the quarters ended September 30, 2008 and 2007.





The
      other
      primary component of laboratory expense is the cost of laboratory reagents
      and
      supplies for analysis of clinical trial samples.  Reagent chemicals that we
      use in our laboratory testing typically cost on average 20% of revenue for
      any
      given period, but may vary considerably depending on the type of lab testing
      we
      are asked to perform, and constitute a significant expense item for our
      business, second only to payroll expense in its significance. During the
      comparable quarters ended September 30, 2008 and 2007, respectively, laboratory
      reagents and supplies decreased by 14% to approximately $355,000 from $412,000
      following a decrease in the tests performed. These reagent and supply costs
      are
      highly variable depending on the type of tests performed.


14




Other
      variable costs decreased 46% for the comparable quarters, to $114,000 from
      $210,000. The decrease was primarily due to decreases in outside service costs
      for outsourced testing.  These costs are highly variable to the type of
      testing performed in the laboratory during any period.





Fixed
      Costs for the quarter ended September 30, 2008 decreased 6% compared to the
      quarter ended September 30, 2007, to approximately $127,000 from $136,000.
      This
      decrease was mainly due to decrease in laboratory depreciation and laboratory
      seminar and training expenses.





**Selling,
      General and Administrative Expense:**




**Three months Ended****September 30,***Dollars in thousands, rounded to*
              *nearest thousand*
            
            2008
            
            2007
            
            $ change
            
            % change**Selling,
                General and Administrative Expense**
            
            $
            915
            
            $
            914
            
            $
            1
            
            
            7
            %**Percentage
                of Revenue**
            
            
            51
            %
            
            44
            %





Our
      selling, general and administrative expense consists primarily of compensation
      for our executive officers, board members and other selling, general and
      administrative personnel (including those in business development, laboratory
      administration, and our science and technology department), as well as
      share-based compensation, business development expenses, and legal and
      accounting fees.





For
      the
      comparable quarters ended September 30, 2008 and 2007, respectively, selling,
      general and administrative expense showed an insignificant increase of $1,000,
      less than 1%. As a percentage of revenue, selling, general and administrative
      expense was 51% and 44%, respectively, for the quarters ended September 30,
      2008
      and 2007. For the quarter ended September 30, 2008 we had increases in salaries
      and benefits of our science and technology department (as a result of
      re-categorizing one of our laboratory technologists to our Science and
      Technology team), consulting expense in our science and technology department
      and payroll processing fees for a human resources software tool. These increases
      were offset by decreases in bonuses, public company expense and business
      development salaries primarily due to the resignation of our Chief Medical
      Officer. The overall decrease of public company expense was due to adjustment
      of
      fair value of broker warrants related to our debt financing arrangement with
      Laurus.





We
      did
      not grant any equity-based payment awards under our incentive compensation
      plans
      during the quarters ended September 30, 2008 and 2007, and there was no change
      to our share based compensation expense for the comparable periods.





**Other
      Income/Expense:**





**Three months Ended****September 30,***Dollars in thousands, rounded to nearest*
              *thousand*
            
            2008
            
            2007
            
            $ change
            
            % change**Other
                Income/(Expense)**
            
            $
            208
            
            $
            93
            
            $
            301
            
            
            323
            %**Percentage
                of Revenue**
            
            
            12
            %
            
            4
            %





15


We
      had
      other income of approximately $208,000 for the quarter ended September 30,
      2008,
      compared to other expense of approximately $93,000 for the quarter ended
      September 30, 2007. These improvements in our other income/(expense) are
      primarily attributable to our convertible notes payable to Laurus Master Fund
      Ltd. – reflecting a decrease in interest expense paid, a decrease in
      amortization of deferred financial costs, and adjustments to the value of the
      embedded derivative.





During
      the comparable quarters ended September 30, 2008 and 2007, we continued to
      make
      monthly payments of principal and accrued interest on our notes payable to
      Laurus. On July 28, 2008, we paid in full the remaining principal balance of
      the
      2004 Note and the 2004 Note was cancelled. The outstanding principal balance
      on
      the 2005 Note was $200,000 as of September 30, 2008. The reduction in the
      principal balances of the Laurus notes decreased accrued interest, and our
      interest expense decreased 45% to $42,000 for the quarter ended September 30,
      2008, down from $77,000 for the quarter ended September 30, 2007. The gain
      on
      adjustment of embedded and freestanding derivatives to fair value was
      approximately $333,000 for the quarter ended September 30, 2008 compared to
      $181,000 for the quarter ended September 30, 2007. The main component of the
      increase in gain on adjustment of embedded and freestanding derivatives,
      approximately $314,000, was a reduction in the derivative liability (conversion
      feature) balance related to 2004 Note (paid off in July 2008). Another component
      of other expense in the quarter ended September 30, 2008 was approximately
      $69,000 of non-cash interest expense that represented the accretion of the
      intrinsic value of the conversion feature and warrants, compared to $203,000
      of
      such non-cash interest expense recorded in the quarter ended September 30,
      2007.





We
      had
      approximately $5,000 of other income for the quarter ended September 30, 2008
      compared to $32,000 of other income recorded for the quarter ended September
      30,
      2007. This category included our income from investments and warrant expense
      for
      equipment lease and financing. The reduction in other income is due to reduced
      earnings from investments.





We
      also
      recognized approximately $18,000 of expense associated with amortization of
      approximately $293,500 in fees and expenses related to the 2004 Note and
      approximately $168,000 in fees and expenses related to the 2005 Note. As of
      September 30, 2008, the unamortized balance was zero. We recorded approximately
      $27,000 of this expense for the quarter ended September 30, 2007.





**Net
      Loss:**





**Three months Ended****September 30,***Dollars in thousands, rounded to*
              *nearest thousand*
            
            2008
            
            2007
            
            $ change
            
            % change**Net
                Loss**
            
            $
            (6
            )
            $
            (149
            )
            $
            143
            
            
            96
            %**Percentage
                of Revenue**
            
            
            (0
            )%
            
            (7
            )%




We
      had a
      net loss of approximately $(6,000) for the quarter ended September 30, 2008
      compared to a net loss of approximately $(149,000) for the quarter ended
      September 30, 2007. This improvement in net loss was primarily attributable
      to
      the improvement in our other income as described above of $301,000, which helped
      offset our increased operating loss of $(213,000). In contrast, for the quarter
      ended September 30, 2007, our net loss reflected an operating loss of $(55,000),
      plus other expense of $(93,000).





**Liquidity
      and Capital Resources:**





We
      had a
      decrease in revenues and a net operating loss for quarter ended September 30,
      2008. We have continued to experience significant volatility in our revenues
      over the past several years. We may experience significant losses and our cash
      and working capital position will be adversely impacted if our revenues continue
      to decrease in future periods. Our operations historically have been funded
      through revenues generated from operations and from debt and equity
      financings.


16


As
      of
      September 30, 2008, our cash and cash equivalents were approximately $944,000,
      compared to approximately $1,196,000 at June 30, 2008. The decrease in our
      cash
      and cash equivalents primarily reflects our monthly payments on principal and
      accrued interest on our secured Laurus convertible debt and our final balloon
      payment of approximately $417,000 in July 2008 upon payoff of the 2004 Note.
      Our
      collections of accounts receivable improved during the quarter. In addition,
      payments on our accrued liabilities, increases in inventory and prepaid expenses
      contributed to the overall decrease in cash and cash equivalents.





At
      September 30, 2008 we had approximately $1,504,000 in accounts receivable,
      compared to $2,146,000 as of June 30, 2008, reflecting timing of revenues billed
      and collected. We had no other accounts receivable, compared to approximately
      $451,000 as of June 30, 2008. This decrease in other accounts receivable
      resulted from Washington state tax refund received August 5,
      2008.





Total
      liabilities recorded on our balance sheet as of September 30, 2008 were
      approximately $2,633,000 compared to approximately $3,871,000 as of June 30,
      2008. This significant decrease in liabilities was the result of a large
      decrease in our overall balance of secured Laurus convertible debt due to the
      effect of the 2004 Note that was paid off, as well as decreases in our other
      notes payable. As required by U.S. generally accepted accounting principles,
      the
      liability we recorded as of September 30, 2008 for the 2004 and 2005 Notes
      reflected a discount from the face value of the secured Laurus convertible
      notes
      by approximately $69,000, related to the valuation of the conversion features
      and the warrants. Those conversion features and warrants are bifurcated from
      the
      convertible notes and reported as derivative liabilities. During the quarter
      ended September 30, 2008, we paid approximately $150,000 of the principal amount
      due on the 2005 note, reducing the principal balance outstanding to
      approximately $200,000 as of September 30, 2008. We paid off the entire
      principal balance of 2004 Note in July 2008 that required cash payments of
      approximately $417,000. If the discount to face value of the Notes is
      disregarded, our total liabilities would be approximately $2,652,000 as of
      September 30, 2008 and $3,959,000 as of June 30, 2008. We expect to have
      sufficient cash generated from operations and cash reserves to make all the
      required payments on 2005 note until it is paid off in January 2009.





Our
      working capital increased to approximately $358,000 at September 30, 2008,
      compared to working capital of approximately $331,000 at June 30, 2008. Changes
      providing positive impact included increases in inventory, prepaid expenses
      and
      decreases in secured convertible debt, accounts payable, accrued liabilities,
      derivative liability related to the 2004 and 2005 notes, and other notes
      payable. Changes providing negative impact included decreases in accounts
      receivable and other receivable and increases in advances from customers and
      capital leases obligations.





Net
      cash
      from operations was approximately $372,000 for the quarter ended September
      30,
      2008, compared to approximately $135,000 for the quarter ended September 30,
      2007. Significant components in net cash provided by operations for the first
      quarter of fiscal 2009 included increases in cash received from accounts
      receivable, other receivables and customer advances, which greatly exceeded
      increases in cash paid on accounts payable and accrued liabilities. In addition,
      net cash from operations includes certain significant non-cash effects from
      the
      calculations of accretion of fair value related to the 2004 and 2005 Notes
      and
      gain from adjustment of the compound embedded derivative liability relating
      to
      our secured convertible notes.





Our
      investing activities used approximately $14,000 for the quarter ended September
      30, 2008 for the acquisition of capital equipment related to our laboratory.
      Cash used in financing activities was approximately $610,000 consisting
      primarily of approximately $83,000 in payments on our 2004 Note and $150,000
      in
      payments on our 2005 Note with Laurus, $334,000 in payments on Laurus 2004
      Note
      payoff, as well as $43,000 in payments on another note payable and capital
      lease
      obligations.





Although
      we have experienced a decline in our cash and working capital position from
      operations during the first quarter of fiscal 2009, we believe that our current
      cash, current assets and any cash flows from operations will be sufficient
      to
      fund operations through fiscal 2009. Importantly, the outstanding principal
      balance on our convertible notes payable to Laurus was approximately $200,000
      at
      September 30, 2008, which we expect to pay in full by January 31, 2009. We
      are
      considering new debt financing for fiscal 2009; however, the terms of that
      debt
      are unknown at this time.





In
      fiscal
      2009 we will continue to actively pursue business development and marketing
      activities to broaden our client and revenue base, and we anticipate making
      additional investments from time to time in our technology infrastructure,
      operations and other areas of our business. These efforts will use significant
      amounts of time, effort and funding. Our efforts to improve our operations
      and
      increase revenue may not be successful **.**


17





Any
      decreases in future revenue would adversely affect our financial condition,
      and
      we may need to seek additional capital before fiscal 2010. We may not be able
      to
      raise sufficient financing, whether debt or equity. We are exploring options
      for
      creating a line of credit or other general borrowing facility. We currently
      do
      not have available to us a bank line of credit or other general borrowing
      facility. We have no additional amounts available to us under our Franklin
      Funding credit facility, and we do not have any other credit facility in place.
      In addition, until the Laurus notes are paid in full, based on the terms of
      the
      Laurus debt financings, raising additional capital may be difficult or highly
      dilutive to existing stockholders.





We
      are
      also continuing to explore other strategic alternatives, which may include
      a
      merger, asset sale, joint venture or other similar transaction or forming a
      joint venture with one or more strategic partners to provide additional capital
      resources to fund operations.





**Off-Balance
      Sheet Arrangements**





We
      have
      no off-balance sheet financing arrangements.





**ITEM
      4T.**  **CONTROLS
      AND PROCEDURES**





We
      maintain disclosure controls and procedures designed to ensure that information
      required to be disclosed in our reports filed or submitted under the Securities
      Exchange Act of 1934 is (a) recorded, processed, summarized and reported within
      the time periods specified in the Securities and Exchange Commission’s rules and
      forms and (b) accumulated and communicated to management, including our
      Chief Executive Officer and Vice President of Finance and Controller, or persons
      performing similar functions, as appropriate to allow timely decisions regarding
      required disclosure. A control system, no matter how well conceived and
      operated, can provide only reasonable, not absolute, assurance that the
      objectives of the control system are met. Because of the inherent limitations
      in
      all control systems, no evaluation of controls can provide absolute assurance
      that all control issues if any, within a company have been
      detected.





As
      of the
      end of the period covered by this Report on Form 10-Q, we carried out an
      evaluation of the effectiveness of the design and operation of our disclosure
      controls and procedures pursuant to Exchange Act Rule 13a-15. This evaluation
      was carried out under the supervision and with the participation of management,
      including our Chief Executive Officer and Vice President of Finance and
      Controller. Based upon that evaluation, our Chief Executive Officer and Vice
      President of Finance and Controller concluded that our disclosure controls
      and
      procedures are effective at September 30, 2008.





During
      the quarterly period covered by this report, there were no changes in our
      internal controls or in other factors that have materially affected, or are
      reasonably likely to materially affect our internal controls over financial
      reporting.





**PART
      II – OTHER INFORMATION**





**ITEM
      1A.**  **RISK
      FACTORS**





Readers
      are encouraged to review in detail the Risk Factors discussed in our Annual
      Report on Form 10-K for our fiscal year ended June 30, 2008. Our operating
      results and financial condition will fluctuate due to a number of factors,
      including, but not limited to, the following factors:





·
            Our
                business development and marketing efforts and our ability to enter
                into,
                build and maintain relationships with new clients, and obtain additional
                projects from existing clients;


·
            The
                timing and number of clinical trials by clients, the number of samples
                submitted to us for testing, and the amount of revenues generated
                from
                these tests;


·
            Our
                ability to participate in and win bids from RFPs (requests for proposals)
                for clinical tests;


18





·
            Decreases
                in work submitted to us from our clients, including any delays in
                undertaking clinical studies or submitting samples for testing services,
                early termination or reductions in work orders or clinical studies,
                decreases in the volume or timing of new work orders or a shift in
                clinical trials to emerging geographies outside of the United States;


·
            We
                generally do not have long-term contracts with clients for our services;
                any project we undertake may generally be terminated at any time
                by the
                client on short notice;


·
            Our
                ability to manage our cash flow, including managing or reducing our
                expenses;


·
            Capital
                expenditure requirements, including for research and development
                efforts,
                upgrading or replacing laboratory equipment and making investments
                in
                information technology;


·
            Our
                ability to effectively raise additional capital through equity or
                debt
                financing such as establishinig a bank line of credit to provide
                working
                capital to support growth plans;
                and


·
            In
                the current market condition, raising capital has been, and may continue
                to be difficult, and we may not receive sufficient funding. Any future
                financing that we seek may not be available in amounts or at times
                when
                needed, or, even if it is available, may not be on terms acceptable
                to
                us.





Many
      of
      the above factors are outside of our control, and all of the above factors
      are
      difficult for us to forecast. These factors can adversely affect our business
      and operating results materially for one quarter or a series of
      quarters.





**ITEM
      6**   **EXHIBITS**





10.1
            Office
                Lease Agreement dated August 14, 2008, between Pacific Northwest
                Research
                Institute and the Company.31.1
            Certification
                of Ronald R. Helm, Chief Executive Officer31.2
            Certification
                of John P. Jensen, Vice President of Finance and
                Controller32.1
            Certification
                of Ronald R. Helm, Chief Executive Officer and John P. Jensen, Vice
                President of Finance and Controller, of Pacific Biometrics, Inc.,
                pursuant
                to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the
                Sarbanes-Oxley Act of 2002.


**SIGNATURES**





Pursuant
      to the requirements of the Securities Exchange Act of 1934, the registrant
      has
      duly caused this report to be signed on its behalf by the undersigned, thereunto
      duly authorized.





Dated:
      November 13, 2008


/s/
                  Ronald R. HelmRonald
                  R. HelmChief
                  Executive Officer(principal
                  executive officer)/s/
                  John P. JensenJohn
                  P. JensenVice
                  President of Finance and Controller(principal
                  financial and accounting officer)


19