Cyanotech Corporation
                               1999 Annual Report


<PAGE>
<TABLE>
<CAPTION>
                            Selected Financial Data
                                                                                                               Years ended March 31,
------------------------------------------------------------------------------------------------------------------------------------
(in thousands, except per share data                              1999             1998            1997           1996          1995
====================================================================================================================================

RESULTS OF OPERATIONS
<S>                                                           <C>              <C>              <C>            <C>            <C>
Net sales                                                     $  6,738         $  7,627         $11,399        $ 8,081        $4,150
Gross profit                                                       973            3,137           6,809          4,563         1,875
Income (loss) from operations                                   (2,642)            (300)          3,751          2,571           718
Net income (loss)                                               (2,557)            (300)          4,159          2,509           769
Net income (loss) per common share
         Basic                                                $  (0.21)        $  (0.05)        $  0.31        $  0.22        $ 0.05
         Diluted                                              $  (0.21)        $  (0.05)        $  0.25        $  0.17        $ 0.05
Average shares outstanding
         Basic                                                  13,602           12,909          12,583          9,583         8,895
         Diluted                                                13,602           12,909          16,598         14,502         8,895

SELECTED BALANCE SHEET DATA
Cash and investment securities                                $    323         $  1,397         $ 6,729        $ 9,409        $  496
Total assets                                                    23,621           25,667          26,015         19,716         6,212
Long-term debt and
         capital lease obligations,
         excluding current maturities                               13              129             559            838
                                                                                                                                 184
Stockholders' equity                                          $ 20,707         $ 23,174         $23,335        $17,316        $5,104
</TABLE>

                                   CYANOTECH

Cyanotech  Corporation  produces  high-value  natural  products from microalgae.
Products  include   NatuRose(TM)  natural  astaxanthin  used  in  the  worldwide
aqua-culture and animal feed industry, which Cyanotech has agreed to manufacture
and  market in a joint  venture  with  Norsk  Hydro ASA  (www.hydro.com).  Other
products  are  Spirulina  Pacifica(TM),   a  nutrient-rich  dietary  supplement,
phycobiliproteins,  which are  fluorescent  pigments  used in the  immunological
diagnostics  market, and to be launched in fiscal 2000, natural  astaxanthin for
use as a human nutritional  supplement.  Under development are  microalgae-based
products  for  the  biopesticide  markets;  and a  patented  aldolase  catalytic
antibody  under license from The Scripps  Research  Institute.  Cyanotech is the
only  microalgae  company  in the world to have an ISO 9002  Registered  Quality
System. Additional information is available at www.cyanotech.com.
                                               -----------------
<PAGE>

                                                Cyanotech is the world leader in
                                              the production of natural products
                                                 from microalgae. Our leadership
                                             position has been strengthened as a
                                                 result of the agreement reached
                                                  with Norsk Hydro ASA, a multi-
                                              billion dollar enterprise based in
                                                    Oslo, Norway, to produce and
                                                      market NatuRose(R) natural
                                                       astaxanthin worldwide for
                                                            animal pigmentation.
                                                  We produce the world's highest
                                                  quality Spirulina products and
                                               are preparing to launch a natural
                                                astaxanthin product for use as a
                                                     powerful human antioxidant.
                                                        Cyanotech is focusing on
                                                enhancing quality and production
                                                efficiency and forming strategic
                                            relationships that enhance our sales
                                                  and distribution capabilities.

                                       1
<PAGE>

CHARTS

CYANOTECH PRODUCT PIPELINE
ENTERING THE YEAR 2000

Spirulina Pacifica(TM)
        1985
Health & Natural Foods


Phycobiliproteins
       1988
Immunological Diagnostics


Naturose(R)
Natural Astaxanthin
     1997/1999e
Aquaculture/human-nutrition


Aldolase Catalytic Antibody
        2000e
Industrial Enzymes


Mosquitocide
   2000e
Biopesticides


    PRODUCT
year introduced
    MARKETS



TO OUR STOCKHOLDERS

Our  agreement  with Norsk Hydro ASA in June 1999 to jointly  produce and market
NatuRose(R) natural astaxanthin overshadows the  unsatisfactory  results of the
Company for fiscal 1999 and portends a brighter  future for  Cyanotech.  We have
worked  steadily  for two years to bring  NatuRose  to the market  potential  we
believe, and tests show, that it deserves. These same two years were also deeply
disappointing  for Cyanotech after several years of profitable  growth.  Most of
the problems  resulted  from reduced  sales of Spirulina Pacifica(TM), while the
solution - hearty sales of the far more promising NatuRose - did not materialize
even though more than three dozen trials  around the world showed the product to
be  effective.  We are now  focusing on what we do best as a Company -- develop,
commercialize  and produce  unique,  high-value  products  from microalgae - and
enlist the support of others  through  corporate  partnering  alliances to drive
marketing and sales for key products.

NATUROSE  AGREEMENT
     We  reached  an  agreement  to  produce  and  market  NatuRose  for  animal
pigmentation with Norsk Hydro ASA (NYSE: NHY), a multi-billion dollar enterprise
based in Oslo, Norway. NatuRose natural astaxanthin is a red pigment used in the
aquaculture industry to impart color to the flesh of pen-raised fish and shrimp,
and for pigmentation in other animals,  such as poultry.  Worldwide annual sales
of  astaxanthin  are estimated at more than $150 million.  Norsk Hydro will fund
the  optimization of Cyanotech's  production  technology for  astaxanthin.  Upon
successful  completion of the optimization  program, the two companies intend to
enter into a joint  venture to be owned 51% by Norsk Hydro and 49% by  Cyanotech
to build and operate a NatuRose production facility in Kailua-Kona, Hawaii.

NORSK HYDRO
     Norsk  Hydro  (www.hydro.com)  is an  excellent  partner and should help us
achieve the  significant  worldwide  potential of NatuRose for  aquaculture  and
animal feed. An  industrial  enterprise  based on the use of natural  resources,
Norsk  Hydro is a  Fortune  500  company,  with  1998  revenue  of 97.5  billion
Norwegian  Krone  (approximately  US$12.7  billion).

HUMAN  ASTAXANTHIN
     The Norsk Hydro agreement does not affect Cyanotech's  position with regard
to the human  astaxanthin  product we announced in fiscal 1999, and for which we
retain full product and marketing rights worldwide.

     During the fourth  quarter of fiscal 1999,  we  announced  this new natural
astaxanthin  product,  a  powerful  antioxidant,  for  use  as a  human  dietary
supplement.  A growing body of scientific  literature indicates that astaxanthin
in

                                       2
<PAGE>
capsule form surpasses many of the antioxidant benefits of vitamin C, vitamin E,
beta-carotene  and  other  carotenoids  with  up to 550  times  the  antioxidant
activity of vitamin E and 10 times the antioxidant activity of beta-carotene. We
expect  to  receive  Food and Drug  Administration  (FDA)  approval  to sell the
product as a human dietary  supplement by late summer.  In  anticipation  of FDA
approval, we are negotiating with several domestic and foreign companies for its
sale and distribution.

NEW PRODUCT  DEVELOPMENT
     In the research and  development  area,  we continue to develop our unique,
bio-engineered   mosquitocide  product  and  the  aldolase  catalytic  antibody.
Transformation of the microalgae, Synechococcus, to express the Bti mosquitocide
toxin has proven more difficult than  originally  anticipated  and we now expect
preliminary  data on toxin  expression  levels later this year.  On the aldolase
catalytic antibody project,  the Company continues to work with researchers from
The Scripps Research Institute on expression of the catalytic antibody gene.

GOING FORWARD
     With NatuRose  finally moving ahead in a joint venture with what appears to
be  significant  potential,  we are  shifting  our  focus to the  promising  new
products now under  development and others under  consideration.  As a result of
the Company's  reduced  performance  for the fourth  quarter and fiscal year, we
downsized  Cyanotech's  operations  to keep  them in line with  current  revenue
levels,  reducing annual production and operating expenses by approximately $1.0
million.  We did not reduce our production  capabilities  nor disrupt  corporate
development  plans.  We also  implemented  an asset  management  program with an
aggressive  inventory reduction plan, scaling back Spirulina production to bring
inventory in line with current  sales  volume.  Our  continuing  challenge is to
maintain our focus on those  products with the best potential of success for the
benefit of our  stockholders.  We commend  the fine work of our  associates  and
thank our Board of Directors  and  stockholders  for their  support  during this
challenging period.

Gerald R. Cysewski, Ph.D.
Chairman, President and Chief Executive Officer
June 30, 1999

                                       3
<PAGE>
MANAGEMENT'S  DISCUSSION  AND  ANALYSIS  OF  FINANCIAL  CONDITION AND RESULTS OF
OPERATIONS

The Company's  consolidated  financial  statements have been prepared on a going
concern basis,  which assumes continuity of operations and realization of assets
and  liquidation of liabilities in the ordinary  course of business.  During the
years ended March 31, 1999 and 1998, the Company  incurred  losses of $2,557,000
and  $300,000,  respectively.  During  these two fiscal  years,  the Company has
experienced declining sales which can be attributed to increased competition for
sales of Spirulina  products in all of its major markets.  The most  significant
decline in sales revenue resulted from the loss of our largest customer,  a Hong
Kong-based  network marketing  company,  in fiscal 1998. The major effect of the
decrease  in sales has been a  significant  decrease  in  liquidity.  Due to the
significant decrease in sales and the decline in working capital the Company has
taken action to reduce  expenditures and obtain  additional  sources of external
financing while  concurrently  continuing to diversify its product offerings and
explore  opportunities  for expanding  the markets for its products.  Management
believes  that this  plan may  increase  revenues  and  return  the  Company  to
profitability.  Furthermore,  as described  in detail in  Liquidity  and Capital
Resources,  the Company is in technical  default on certain debt.  The Company's
continuation  as a going  concern is  dependent  upon its  ability  to  generate
sufficient  cash flow to meet its  obligations on a timely basis, to comply with
the  terms  of its  financing  agreement,  to  obtain  additional  financing  or
refinancing  as may be  required,  to  attain  profitability,  or a  combination
thereof. There can be no assurance that these efforts will be successful or that
the Company  will return to  generating  profit on either a quarterly  or annual
basis.

RESULTS OF OPERATIONS

     The following table sets forth certain consolidated statement of operations
data as a percentage of net sales for the periods indicated.
<TABLE>
<CAPTION>

     Years Ended March 31,                                                            1999                1998                1997
     ===============================================================================================================================
<S>                                                                                  <C>                 <C>                 <C>
     Net sales                                                                       100.0 %             100.0 %             100.0 %
     Cost of sales                                                                    85.6                58.9                40.3
     -------------------------------------------------------------------------------------------------------------------------------
     Gross Profit                                                                     14.4                41.1                59.7
     -------------------------------------------------------------------------------------------------------------------------------
     OPERATING EXPENSES:
          Research and development                                                    13.3                 8.8                 5.1
          General and administrative                                                  26.5                17.3                12.6
          Sales and marketing                                                         13.8                18.9                 9.1
     -------------------------------------------------------------------------------------------------------------------------------
                    Total operating expenses                                          53.6                45.0                26.8
     -------------------------------------------------------------------------------------------------------------------------------
                    Income (loss) from operations                                    (39.2)               (3.9)               32.9
     -------------------------------------------------------------------------------------------------------------------------------
     OTHER INCOME (EXPENSE):
          Interest income                                                              0.2                 2.6                 3.9
          Interest expense                                                            (2.6)               (0.4)               (0.4)
          Other income (expense), net                                                 (0.6)                0.1                 0.1
     -------------------------------------------------------------------------------------------------------------------------------
                    Total other income (expense)                                      (3.0)                2.3                 3.6
     -------------------------------------------------------------------------------------------------------------------------------
     Income (loss) before income taxes                                               (42.2)               (1.6)               36.5
     Income taxes                                                                      4.3                (2.3)                 --
     -------------------------------------------------------------------------------------------------------------------------------
                    Net income (loss)                                                (37.9)%              (3.9)%              36.5%
     ===============================================================================================================================
</TABLE>

FISCAL 1999 COMPARED TO FISCAL 1998

               Net Sales
     Net sales for the year ended March 31, 1999 were $6,738,000,  a decrease of
     11.7% from net sales of $7,627,000  for the year ended March 31, 1998.  The
     decrease in net sales during the year ended March 31, 1999 is primarily due
     to reduced  shipment  volume of bulk  Spirulina  products (2% less),  lower
     average  selling  prices  (11%  lower)  for bulk  Spirulina  products,  and
     decreased sales of packaged consumer products.

               Gross Profit
     Gross  profit  represents  net  sales  less the cost of goods  sold,  which
     includes the cost of materials,  manufacturing overhead costs, direct labor
     expenses and depreciation and amortization. Gross profit decreased to 14.4%
     of net sales for the year ended March 31, 1999, from 41.1% of net sales for
     the year ended March 31, 1998. This decrease in gross profit from the prior
     year is primarily  attributable to an increase in  depreciation  expense of
     $391,000,  costs associated with producing  NatuRose at limited  production
     levels which were below optimal  manufacturing  efficiency,  lower per unit
     selling  prices of bulk  Spirulina,  estimated  product  potency  losses in
     NatuRose finished goods inventory and increased Spirulina  production costs
     incurred in re-starting previously idled Spirulina culture ponds.

               Operating Expenses
     Operating  expenses  for the  year  ended  March  31,  1999,  increased  to
     $3,615,000,  an increase of 5.2% from the $3,437,000, of operating expenses
     reported for the year ended March 31, 1998, primarily due to increased gen-

                                       4
<PAGE>
     eral and administrative,  and research and development expenses,  offset in
     part by reduced sales and marketing expenses.

          Research and  Development.  Expenditures  for research and development
     increased  32.2 % to  $895,000,  for the year ended  March 31,  1999,  from
     $677,000,  for the year ended March 31, 1998.  The increase  from the prior
     year is primarily the result of research and ongoing  development work done
     on the mosquitocide  project, the Aldolase Catalytic Antibody 38C2 project,
     additional  costs  related to new  product  development  and  higher  costs
     related to developing our BioDome CCS closed culture technology.

          General  and  Administrative.   General  and  administrative  expenses
     increased  35.7% to  $1,788,000,  for the year ended March 31,  1999,  from
     $1,318,000,  for the year ended March 31, 1998. The increase from the prior
     year is primarily due to increased legal fees related to the ongoing patent
     litigation with Aquasearch,  Inc. ("Aquasearch") and increased depreciation
     expense.

          Sales and Marketing. Sales and marketing  expenses  decreased 35.4% to
     $932,000, for the year ended March 31, 1999, from $1,442,000,  for the year
     ended March 31, 1998.  The decrease from the prior year is primarily due to
     reduced personnel, advertising and consulting service expenditures dictated
     by lower sales.

               Other Income  (Expense)
     Other  expense was $204,000 for the year ended March 31, 1999,  compared to
     other income of $175,000 for the year ended March 31, 1998, a difference of
     $379,000.  This  resulted  from a  decrease  in  interest  income  due to a
     decrease in investment  securities and an increase in interest  expense due
     to an increase in outstanding, interest-bearing debt.

               Income Taxes
     The income tax  benefit of  $289,000,  for the year ended  March 31,  1999,
     represents  the  estimated tax refund of Hawaii State income taxes from the
     carryback of net operating losses generated in fiscal 1999.

               Net Income (Loss)
     The Company  recorded a net loss of $2,557,000 for the year ended March 31,
     1999, compared to a net loss of $300,000 for the year ended March 31, 1998.
     This  increase in net loss was primarily  attributable  to reduced sales of
     bulk Spirulina powder and tablets, costs associated with producing NatuRose
     at  limited  production  levels  which  were  below  optimal  manufacturing
     efficiency,  higher operating  expenses,  increased interest expense due to
     higher debt, and decreased interest income.


FISCAL 1998 COMPARED TO FISCAL 1997

               Net Sales
     Net sales for the year ended March 31, 1998 were $7,627,000,  a decrease of
     33.1% from net sales of $11,399,000  for the year ended March 31, 1997. The
     decrease in net sales  during the year ended  March 31, 1998 was  primarily
     due to lower sales of Spirulina  packaged  consumer products to our largest
     customer,  a Hong Kong-based  network marketing company which purchased our
     packaged  consumer  products for sale under a private  label  through their
     marketing   organization,   primarily  in  mainland  China.  This  customer
     experienced  a delay in its annual  recertification  process by the Chinese
     government  and was  restricted  by  local  governmental  authorities  from
     hosting  any large  scale  distributor  meetings  from March  1997  through
     September 1997. These regulatory  factors adversely impacted our customer's
     ability to sell and,  consequently,  this  customer's need for our packaged
     consumer products was severely reduced.  For the year ended March 31, 1998,
     this customer  accounted for less than 5% of  Cyanotech's  net sales,  down
     from  approximately  34% and 29% of net sales in the years  ended March 31,
     1997 and  1996,  respectively.  Effective  October  1,  1998,  the  Chinese
     government  imposed  a  ban  on  all  network  market  organizations.  Also
     contributing  to the  decline  were lower  shipments  (11% lower) and lower
     average selling prices (2% lower) for bulk Spirulina powder.

               Gross Profit
     Gross  profit  decreased to 41.1% of net sales for the year ended March 31,
     1998,  from  59.7% of net sales for the year  ended  March 31,  1997.  This
     decrease in gross profit from the prior year is primarily attributable to a
     shift in the product mix to greater  sales of lower  priced bulk  Spirulina
     products  (78% of net  sales in  fiscal  1998,  up from 58% of net sales in
     fiscal  1997),   Spirulina  production   inefficiencies  due  to  decreased
     production  beginning December 1997 through February 1998 which resulted in
     additional  charges to Cost of Sales of approximately  $264,000 during that
     period, and lower average selling prices for bulk Spirulina.

               Operating Expenses
     Operating expenses for the year ended March 31, 1998 increased by $379,000,
     an increase of 12.4% over the prior year,  primarily  because of  increased
     expenditures for sales and marketing.

          Research and  Development. Expenditures  for research and  development
     increased  15.3 % to  $677,000,  for the year ended  March 31,  1998,  from
     $587,000,  for the year ended March 31, 1997.  The increase  from the prior
     year

                                       5
<PAGE>

     is primarily  the result of research and ongoing  development  work done on
     the  mosquitocide  project,  and on  optimizing  production  of the natural
     astaxanthin product.

          General  and  Administrative.  General  and  administrative   expenses
     decreased  8.3% to  $1,318,000,  for the year ended  March 31,  1998,  from
     $1,437,000,  for the year ended March 31, 1997. The decrease from the prior
     year is primarily  due to reduced  associate  incentive  bonuses  which are
     indexed to the Company's profitability,  partially offset by an increase in
     personnel costs.

          Sales and Marketing.  Sales and marketing  expenses increased 39.5% to
     $1,442,000,  for the year ended March 31, 1998,  from  $1,034,000,  for the
     year ended March 31, 1997.  The  increase  from the prior year is primarily
     due to higher  personnel costs,  and increased  domestic and  international
     marketing efforts associated with the introduction of the NatuRose product.

               Other Income (Expense)
     Other income  decreased by 57.1% to $175,000,  for the year ended March 31,
     1998,  from $408,000,  for the year ended March 31, 1997. The decrease from
     the prior year is primarily related to decreased earnings on lower balances
     of cash and investment securities.

               Income Taxes
     The provision  for income taxes was $175,000,  for the year ended March 31,
     1998.  This is due to an increase in the allowance for deferred tax assets,
     offset in part by current income tax benefits.

               Net Income  (Loss)
     For the year ended March 31,  1998 and for the first time since  1991,  the
     Company recorded a net loss. The fiscal 1998 net loss of $300,000, compares
     with net income of  $4,159,000,  for the year ended March 31, 1997. The net
     loss is primarily the result of lower sales of Spirulina  bulk and packaged
     consumer  products due to a reduction  in orders from a single  customer in
     China that had  previously  accounted  for a large  percentage  of sales in
     packaged consumer Spirulina Pacifica products, lower average selling prices
     for bulk Spirulina  products,  Spirulina  production  inefficiencies due to
     decreased  production  during  December  1997 through  February  1998 which
     resulted in additional  charge to Cost of Sales of  approximately  $264,000
     during the third and fourth quarters of 1998, and start-up costs associated
     with  commercialization  of NatuRose,  our natural astaxanthin  product.
          In February 1998, the Company  reduced its workforce by  approximately
     25% in order to better align  resources  with sales  levels.  The workforce
     reduction  was part of the  Company's  plans  to  enhance  its  competitive
     position  through   improvements  of  operational   productivity  and  cost
     reduction  -  specifically   more  efficient   utilization  of  assets  and
     employees.  Production operations, sales, and administrative functions were
     restructured and downsized by this action.

               Variability of Results
     Cyanotech  Corporation was formed in 1983 and did not become  profitable on
     an annual basis until  fiscal 1992 (the twelve month period ended  December
     31, 1992).  From fiscal 1992 through fiscal 1997, the Company had total net
     sales of $29,401,000 and total net income of $7,931,000. In fiscal 1998 and
     1999, the Company had net sales of $7,627,000,  and  $6,738,000,  and a net
     loss of $300,000, and $2,557,000,  respectively.  As of March 31, 1999, our
     accumulated deficit was $3,318,000.  There can be no assurance that we will
     return to generating  profits on either a quarterly or an annual basis.  We
     have experienced  significant  quarterly  fluctuations in operating results
     and  anticipate  that these  fluctuations  may continue in future  periods.
     Future  operating  results  may  fluctuate  as a result of changes in sales
     levels to our  largest  customers,  new product  introductions,  production
     difficulties,  weather patterns, the mix between sales of bulk products and
     packaged consumer products,  start-up costs associated with new facilities,
     expansion into new markets, sales promotions, competition, increased energy
     costs, the announcement or introduction of new products by our competitors,
     changes in our customer mix, overall trends in the market for our products,
     government  regulations  and other  factors  beyond  our  control.  While a
     significant  portion of our expense  levels are relatively  fixed,  and the
     timing  of  increases  in  expense  levels  is based  in large  part on our
     forecasts of future sales, if net sales are below expectations in any given
     period, the adverse impact on results of operations may be magnified by our
     inability to adjust  spending  quickly  enough to compensate  for the sales
     shortfall.  We may also  choose to reduce  prices or  increase  spending in
     response to market conditions,  which may have a material adverse effect on
     our results of operations. The Company's continuation as a going concern is
     dependent  upon its  ability to generate  sufficient  cash flow to meet its
     obligations  on a timely  basis,  to comply with the terms of its financing
     agreement,  to  obtain  additional  financing  or  refinancing  as  may  be
     required, to attain profitability,  of a combination thereof.  There can be
     no assurance that these efforts will be successful of that the Company will
     return to generating profit on either a quarterly or annual basis.

               New Accounting Pronouncements
          In June 1998, the Financial Accounting Standards Board ("FASB") issued
     Statement of Financial  Accounting  Standards ("SFAS") No. 133, "Accounting
     for  Derivative  Instruments  and Hedging  Activities,"  which  establishes
     accounting  and reporting  standards  for  derivative  instruments  and for
     hedging  activities.  SFAS No. 133 requires  that an entity  recognize  all
     derivatives  as either assets or  liabilities in the statement of financial
     position  and measure  those  instruments  at fair  value.  SFAS No. 133 is
     effective for all fiscal  quarters of fiscal years beginning after June 15,
     1999. The Company currently holds no derivative instruments, nor is it

                                       6
<PAGE>

     currently  participating in hedging activities.  Management does not expect
     adoption  of SFAS No.  133 will have a  material  effect  on the  Company's
     financial condition, results of operations or liquidity.
          In March 1998, the American  Institute of Certified Public Accountants
     ("AICPA")  Accounting  Standards  Executive  Committee  issued Statement of
     Position  ("SOP")  98-1,  "Accounting  for the Costs of  Computer  Software
     Developed or Obtained for Internal Use," which requires that certain costs,
     including  certain  payroll and  payroll-related  costs, be capitalized and
     amortized over the estimated useful life of the software. The provisions of
     SOP 98-1 are effective for fiscal years  beginning after December 15, 1998.
     The Company  adopted the  provisions of SOP 98-1  effective  April 1, 1999.
     Adoption  of SOP 98-1  did not  have a  material  effect  on the  Company's
     financial condition, results of operations or liquidity.
          In April 1998,  the AICPA  Accounting  Standards  Executive  Committee
     issued SOP 98-5,  "Reporting on the Costs of Start-up Activities." SOP 98-5
     requires that costs of start-up activities,  including  organization costs,
     be expensed as  incurred.  The  provisions  of SOP 98-5 are  effective  for
     fiscal years beginning  after December 15, 1998 and earlier  application is
     encouraged.  The Company adopted the provisions of SOP 98-5 effective April
     1,  1999.  Adoption  of SOP  98-5  did not have a  material  effect  on the
     Company's financial condition, results of operations or liquidity.


LIQUIDITY AND CAPITAL RESOURCES

     Our  working  capital  for the year  ended  March  31,  1999  decreased  by
     $1,679,000  to  $917,000.   Our  cash  and  cash  equivalents   decreased
     substantially  by $1,074,000 to $323,000,  primarily  because of cash flows
     used in  operations  and capital  expenditures  of $874,000  and  $588,000,
     respectively,  offset in part by cash  provided by financing  activities of
     $388,000.
          The primary  uses of cash flows in operating  activities  for the year
     ended  March  31,  1999,  was  the  net  loss  of  $2,557,000,   offset  by
     depreciation  and  amortization of $1,405,000.  This compares to cash flows
     provided by operating activities of $988,000 in 1998.
          Cash flows used for capital  expenditures for the year ended March 31,
     1999  decreased  $5,293,000 to $588,000.  Cash flows  provided by financing
     activities were $388,000 for the year ended March 31, 1999 compared to cash
     flows used in financing activities of $439,000 for the year ended March 31,
     1998.  The primary  sources of cash flows in financing  activities  for the
     year ended March 31, 1999 were borrowings under a short-term revolving line
     of credit of $994,000 and proceeds  from the issuance of long-term  debt of
     $750,000,  offset  in part  by  repayment  of a  $975,000  short-term  note
     payable,  payments  on capital  lease  obligations  and  long-term  debt of
     $278,000,  and debt issue costs of $103,000.
          On July  28,  1998,  we  entered  into a Loan and  Security  Agreement
     (Agreement)  with a lender which provides for up to $3 million in aggregate
     credit  facilities,  secured  by all the assets of the  Company.  The major
     components of the Agreement  include  working  capital loans on a revolving
     basis,  subject to the  availability  of eligible  accounts  receivable and
     inventory (as defined),  a sub-limit term loan of up to $750,000 (amortized
     in equal  payments  of $12,500  over  sixty  months),  secured by  eligible
     machinery  and  equipment,  and a  sub-limit  term loan of up to $2 million
     (amortized  over sixty  months and  subject to the  Company  achieving  and
     maintaining  specific levels of financial  performance) for the acquisition
     of new machinery and  equipment.  The Agreement has a maturity date of July
     31, 2001 with an optional  provision for automatic and  continuous  renewal
     for successive, additional terms of one year each. The interest rate on all
     borrowings under the Agreement is prime plus 2.5%,  adjusted  monthly,  (at
     March 31,  1999,  the prime  rate was  7.75%)  until the  Company  achieves
     certain financial  performance levels, at which time the interest rate will
     decrease to prime plus 1.25%. Interest is calculated on a base amount of $1
     million or the outstanding loan balance,  whichever is greater. The fee for
     renewing the Agreement  beyond the maturity date of July 31, 2001 is set at
     .5% of the aggregate  outstanding balance at the end of the initial term of
     the Agreement.  Proceeds from  borrowings  under the Agreement were used to
     repay a short-term note payable and fund working capital requirements.
          The Agreement contains certain restrictive  covenants,  which include,
     among other things,  the maintenance of minimum  consolidated net worth, as
     defined,   and  a  subjective   acceleration  clause  contingent  upon  the
     occurrence  of an event with a material  adverse  effect on the  Company as
     defined. Having been previously notified of the "going concern" explanatory
     paragraph  in the  independent  auditors'  report  on the  March  31,  1999
     consolidated  financial  statements,  on July 13, 1999, the lender declared
     the  Company  to be in  technical  default  on  the  Agreement  due  to the
     uncertainty  of the Company's  ability to continue as a going concern being
     considered a material adverse effect. In the notice of default,  the lender
     exercised its rights under the Agreement,  and effective July 13, 1999, has
     increased  the  applicable  interest  rate  on  all  borrowings  under  the
     Agreement  from  prime  plus 2.5% to prime  plus 5.5%  Although  it has not
     declared  its  intent to do so,  the  lender  reserved  its rights to other
     remedies,  among other things,  to cease further lending  transactions  and
     demand immediate  repayment of outstanding  borrowings under the Agreement.
     Consequently the Company has classified the aggregate  outstanding  balance
     on this Agreement of $1,644,000,  representing  outstanding working capital
     loans on a  revolving  basis of  $994,000  and an  equipment  term  loan of
     $650,000, as a current liability in the consolidated balance sheet at March
     31, 1999.
          At March 31, 1999, the remaining  availability under the Agreement was
     calculated by the lender to be $282,000.  The remaining availability amount
     excludes the component of the facility for the acquisition of new machinery
     and equipment as such component is contingent on the Company's  achievement
     of a  Debt Service Coverage ratio of at least 1.25:1 for the prior two full
     consecutive quarters on a combined basis. This component, if available, may
     increase the availability by an additional $1,074,000 up to the limit of $3
     million for the entire Agreement.
          As of March 31, 1999,  the Company had a commitment for a construction
     project on a 93 acre parcel which

                                       7
<PAGE>
     was  suspended  in  February  1998.  In June 1999 the  Company  reached  an
     agreement  with the  project  contractor  to resume  work on the  suspended
     construction  project on or before June 1, 2000.  The remaining  balance on
     the construction  contract is approximately $1.9 million.  In consideration
     for the extension of the termination and completion  dates of the contract,
     the  Company  will pay an  additional  $20,000 at the startup of work and a
     surcharge  of 1.5% on work not  completed  by  September  30,  1999,  and a
     surcharge of 4% on work not  completed by September  30, 2000. If work does
     not resume on or before June 1, 2000,  then the contract will be considered
     to have been  terminated by Cyanotech.  Assertion by the  contractor of its
     termination  rights could have a material  adverse  effect on the Company's
     financial  condition,  results of operations and/or liquidity.  As of March
     31, 1999, the credit facilities available to Cyanotech, as described above,
     unless supplemented by funds from other sources, would not be sufficient to
     finance this  construction  work. Total costs incurred as of March 31, 1999
     with respect to this expansion project approximate  $2,643,000.  Failure to
     comply with the  commitments on this project would have a material  adverse
     effect on the Company's financial condition, results of operations,  and/or
     liquidity.
          The  consolidated  financial  statements  at March 31,  1999 have been
     prepared on a going concern basis,  which assumes  continuity of operations
     and  realization  of assets and  liquidation of liabilities in the ordinary
     course of  business.  During the years ended  March 31, 1999 and 1998,  the
     Company  incurred  losses of  $2,557,000  and $300,000,  respectively.  The
     Company's  continuation as a going concern is dependent upon its ability to
     generate sufficient cash flow to meet its obligations on a timely basis, to
     comply  with the terms of its  financing  agreement,  to obtain  additional
     financing or refinancing as may be required, to attain profitability,  or a
     combination   thereof.
          During the fourth  quarter of fiscal 1999, and again in April 1999, we
     downsized  our  operations to bring them in line with current sales levels,
     with   anticipated   savings  in  production  and  operating   expenses  of
     approximately  $1  million  annually.  We have not,  however,  reduced  our
     production  capabilities or disrupted  corporate  development plans. We are
     implementing  an asset  management  program  with an  aggressive  inventory
     reduction plan,  scaling back Spirulina  production to approximately 50% of
     capacity in order to bring  Spirulina  inventory in line with current sales
     volume.  If Spirulina sales volume continues at the current rate, we expect
     to resume  producing at or near full capacity later in fiscal year 2000. As
     of March 1999, we had also reduced NatuRose production to about 15% of full
     capacity  until our NatuRose  inventory  levels are  reduced.  Based on our
     current sales forecast,  we expect to resume full production of NatuRose by
     mid-1999.
          In June 1999,  the Company  reached an agreement  with Norsk Hydro ASA
     ("Norsk Hydro") to produce and market NatuRose natural  astaxanthin.  Under
     the  agreement,  Norsk Hydro will  participate in the  optimization  of the
     Cyanotech production technology for astaxanthin. Upon successful completion
     of the optimization program, the two companies intend to enter into a joint
     venture  that will be owned 51% by Norsk  Hydro and 49% by  Cyanotech.  The
     intention of the joint venture is to build and operate a NatuRose  facility
     in Kailua-Kona, Hawaii. Norsk Hydro will have worldwide exclusive rights to
     distribute   the  NatuRose   product  into  the   aquaculture   and  animal
     pigmentation  and  nutrition  markets;   Cyanotech  will  retain  worldwide
     exclusive  rights  to  distribute  the  NatuRose  product  into  the  human
     nutrition  markets.  The Company's  assessment of the impairment of certain
     long-lived  assets as of March 31, 1999 is predicated  on the  consummation
     and  commercial  success of this joint  venture.  Failure to consummate the
     joint venture  arrangement  and/or  failure by the joint venture to achieve
     expected commercial results may result in the impairment of such long-lived
     assets.   The  Company  is  seeking  other  possible  sources  of  external
     financing, but unless it is successful there may be liquidity shortfalls in
     future  periods.  There  can be no  assurance  that  the  Company  will  be
     successful in obtaining  additional  financing or will have sufficient cash
     resources to support its continued operations.

               Year 2000 Compliance
     We have  completed  a  comprehensive  review  of our  computer  systems  to
     identify  the  systems  that could be affected by the "Year 2000" issue and
     have developed an  implementation  plan, to be completed  before the end of
     calendar 1999, to resolve the issue. We believe that, with modifications to
     existing software and converting to new software,  the Year 2000 issue will
     not pose  significant  operational  problems for our computer systems as so
     modified and converted. The costs of such modifications and conversions are
     not  expected  to  exceed  $10,000.  However,  if  such  modifications  and
     conversions are not completed in a timely manner, the Year 2000 problem may
     have a material adverse impact on our operations.
          The primary  risks to the  Company  are those of  business  continuity
     related to  reliance on third  parties.  We are  continuing  the review and
     evaluation  of  our  reliance  on  other  third  parties  (e.g.   utilities
     providers, distribution channels, major suppliers and vendors) to determine
     and  minimize the extent to which our  operations  may be dependent on such
     third parties to remedy the Year 2000 issues in their systems. In addition,
     contingency backup plans will be reviewed for each mission critical system,
     with the emphasis on operational and production  continuity.  The Company's
     business,  operating  results and financial  condition  could be materially
     adversely  affected,  at least for a time, by the failure of its systems or
     those of other parties to operate properly beyond 1999.

               Quantitative and Qualitative Disclosures About Market Risk
          We have not entered into any transactions  using derivative  financial
     instruments  or  derivative  commodity  instruments  and  believe  that our
     exposure to market risk associated with other financial  instruments is not
     material.

                                       8
<PAGE>
<TABLE>
<CAPTION>
                          CONSOLIDATED BALANCE SHEETS

                                                                                                                    March 31,
          -------------------------------------------------------------------------------------------------------------------
          (in thousands, except share data)                                                                  1999        1998
          ===================================================================================================================
          ASSETS

Current assets:
<S>                                                                                                      <C>         <C>
          Cash and cash equivalents                                                                      $    323    $  1,397
          Accounts receivable, net of allowance for doubtful receivables of $12 in 1999
               and $10 in 1998                                                                              1,012       1,127
          Refundable income taxes                                                                             273         119
          Inventories                                                                                       2,105       2,229
          Prepaid expenses                                                                                    105          88
          -------------------------------------------------------------------------------------------------------------------
               Total current assets                                                                         3,818       4,960
          Equipment and leasehold improvements, net                                                        19,623      20,544
          Other assets                                                                                        180         163
          -------------------------------------------------------------------------------------------------------------------
               Total assets                                                                              $ 23,621    $ 25,667
          ===================================================================================================================

          LIABILITIES AND STOCKHOLDERS' EQUITY

Current liabilities:
          Current maturities of long-term debt                                                           $    700    $     50
          Short-term revolving line of credit                                                                 994          --
          Note payable                                                                                         --         975
          Current maturities of capital lease obligation                                                       67         129
          Accounts payable                                                                                    746         938
          Accrued expenses and other                                                                          394         272
          -------------------------------------------------------------------------------------------------------------------
               Total current liabilities                                                                    2,901       2,364
          Long-term debt, excluding current maturities                                                         13          62
          Obligation under capital lease, excluding current maturities                                         --          67
          -------------------------------------------------------------------------------------------------------------------
               Total liabilities                                                                            2,914       2,493
          -------------------------------------------------------------------------------------------------------------------

Stockholders' equity:
          Cumulative preferred stock, Series C, of $.001 par value (aggregate involuntary
            liquidation preference $2,975 ($5 per share), plus unpaid cumulative dividends)
            Authorized 5,000,000 shares;  issued and outstanding 595,031 in 1999 and 1998.                      1           1
          Common stock of $.005 par value, authorized 25,000,000 shares at March 31, 1999
            and 1998; issued and outstanding 13,603,572 shares at March 31, 1999 and
            13,599,572 shares at March 31, 1998                                                                68          68
          Additional paid-in capital                                                                       23,956      23,866
          Accumulated deficit                                                                              (3,318)       (761)
          -------------------------------------------------------------------------------------------------------------------
               Total stockholders' equity                                                                  20,707      23,174
          -------------------------------------------------------------------------------------------------------------------
          Commitments and contingencies
               Total liabilities and stockholders' equity                                                $ 23,621    $ 25,667
          ===================================================================================================================
</TABLE>

          See accompanying notes to consolidated financial statements.

                                       9
<PAGE>

<TABLE>
<CAPTION>
                     CONSOLIDATED STATEMENTS OF OPERATIONS

                                                                                                              Years ended March 31,
          -------------------------------------------------------------------------------------------------------------------------
          (in thousands, except per-share data)                                                  1999           1998           1997
          =========================================================================================================================
<S>                                                                                          <C>            <C>            <C>
          Net sales                                                                          $  6,738       $  7,627       $ 11,399
          Cost of sales                                                                         5,765          4,490          4,590
          -------------------------------------------------------------------------------------------------------------------------
               Gross profit                                                                       973          3,137          6,809
          -------------------------------------------------------------------------------------------------------------------------
OPERATING EXPENSES:
          Research and development                                                                895            677            587
          General and administrative                                                            1,788          1,318          1,437
          Sales and marketing                                                                     932          1,442          1,034
          -------------------------------------------------------------------------------------------------------------------------
               Total operating expenses                                                         3,615          3,437          3,058
          -------------------------------------------------------------------------------------------------------------------------
               Income (loss) from operations                                                   (2,642)          (300)         3,751
          -------------------------------------------------------------------------------------------------------------------------

OTHER INCOME (EXPENSE):
          Interest income                                                                          13            202            443
          Interest expense, net of interest costs capitalized of nil in 1999, $114 in 1998
            and $23 in 1997                                                                      (174)           (35)           (47)
          Other income (expense), net                                                             (43)             8             12
          -------------------------------------------------------------------------------------------------------------------------
               Total other income (expense)                                                      (204)           175            408
          -------------------------------------------------------------------------------------------------------------------------
               Income (loss) before income taxes                                               (2,846)          (125)         4,159
          Income taxes                                                                            289           (175)            --
          -------------------------------------------------------------------------------------------------------------------------
               Net income (loss)                                                               (2,557)          (300)         4,159
          Undeclared Preferred Stock dividends                                                   (238)          (289)          (294)
          -------------------------------------------------------------------------------------------------------------------------
               Net income (loss) available to Common stockholders                            $ (2,795)      $   (589)      $  3,865
          =========================================================================================================================
          Net income (loss) per common share
               Basic                                                                         $  (0.21)      $  (0.05)      $   0.31
          =========================================================================================================================
               Diluted                                                                       $  (0.21)      $  (0.05)      $   0.25
          =========================================================================================================================
          Weighted average number of common shares outstanding
               Basic                                                                           13,602          12,909        12,583
          =========================================================================================================================
               Diluted                                                                         13,602          12,909        16,598
          =========================================================================================================================
</TABLE>


          See accompanying notes to consolidated financial statements.

                                       10
<PAGE>
<TABLE>
<CAPTION>
                Consolidated Statements of Stockholders' Equity

                                                                                          Years ended March 31, 1999, 1998 and 1997
-----------------------------------------------------------------------------------------------------------------------------------

                                                    Preferred stock            Common stock                                   Total
                                                 ------------------------------------------- Additional                      Stock-
                                                                Par                      Par    paid-in     Accumulated    holders'
(in thousands, except share data)                 Shares      value          Shares    value    capital         deficit      equity
===================================================================================================================================
<S>                                              <C>        <C>          <C>           <C>       <C>          <C>          <C>
Balances at March 31, 1996                       734,977    $     1      11,755,650    $  59     $ 21,876     $ (4,620)    $ 17,316
Exercise of common stock warrants for cash            --         --         668,120        3          298           --          301
Exercise of stock options for cash                    --         --          57,912       --           49           --           49
Issuance of common stock options
  for other assets                                    --         --              --       --           80           --           80
Issuance of common stock to nonemployee
directors for services                                --         --           6,000       --           37           --           37
Common stock issued for cash,
net of costs of $51                                   --         --         225,000        1        1,392           --        1,393
Net income                                            --         --              --       --           --        4,159        4,159
-----------------------------------------------------------------------------------------------------------------------------------
Balances at March 31, 1997                       734,977          1      12,712,682       63       23,732         (461)      23,335
Exercise of common stock warrants for cash            --         --         107,880        1           43           --           44
Exercise of stock options for cash                    --         --          84,750        1          102           --          103
Common stock purchased and canceled                   --         --         (13,470)      --          (55)          --          (55)
Issuance of common stock to nonemployee
  directors for services                              --         --           8,000       --           47           --           47
Exchange of Series C preferred stock
  for common stock                              (139,946)        --         699,730        3           (3)          --           --
Net loss                                              --         --              --       --           --         (300)        (300)
-----------------------------------------------------------------------------------------------------------------------------------
Balances at March 31, 1998                       595,031          1      13,599,572       68       23,866         (761)      23,174
Issuance of stock options to consultant
  for services, at fair value                         --         --              --       --           84           --           84
Issuance of common stock to nonemployee
  directors for services                              --         --           4,000       --            6           --            6
Net loss                                              --         --              --       --           --       (2,557)      (2,557)
-----------------------------------------------------------------------------------------------------------------------------------
BALANCES AT MARCH 31, 1999                       595,031   $      1      13,603,572    $  68     $ 23,956     $ (3,318)    $ 20,707
===================================================================================================================================
</TABLE>
See accompanying notes to consolidated financial statements.

                                       11
<PAGE>
<TABLE>
<CAPTION>
                     Consolidated Statements of Cash Flows

                                                                                                            Years ended March 31,
          -----------------------------------------------------------------------------------------------------------------------
          (in thousands)                                                                      1999          1998            1997
          =======================================================================================================================
CASH FLOWS FROM OPERATING ACTIVITIES:
<S>                                                                                       <C>            <C>            <C>
          Net income (loss)                                                                $(2,557)      $  (300)       $  4,159
          Adjustments to reconcile net income (loss) to net cash provided by,
            (used in) operating activities:
               Deferred income taxes                                                            --           373            (373)
               Depreciation and amortization                                                 1,405           978             691
               Loss on disposal of assets                                                      104            --              --
               Decrease (increase) in accounts receivable, net                                 115         1,664          (1,503)
               Increase in refundable income taxes                                            (154)         (119)             --
               Decrease (increase) in inventories                                              124        (1,091)           (644)
               Decrease (increase) in prepaid expenses and other assets                          4            67             (62)
               Increase (decrease) in accounts payable                                        (192)         (570)            656
               Increase (decrease) in accrued expenses and other                               122           (61)           (101)
               Other                                                                           155            47              37
          -----------------------------------------------------------------------------------------------------------------------
            Net cash provided by (used in) operating activities                               (874)          988           2,860
          -----------------------------------------------------------------------------------------------------------------------

CASH FLOWS FROM INVESTING ACTIVITIES:
          Investment in equipment and leasehold improvements                                  (588)       (5,881)         (7,008)
          Purchases of investment securities                                                    --            --         (10,827)
          Proceeds from sales and maturities of investment securities                           --         3,954           6,873
          -----------------------------------------------------------------------------------------------------------------------
            Net cash used in investing activities                                             (588)       (1,927)        (10,962)
          -----------------------------------------------------------------------------------------------------------------------

CASH FLOWS FROM FINANCING ACTIVITIES:
          Proceeds from issuance of common stock and exercise of stock options
            and warrants, net of issuance costs                                                 --            92           1,743
          Proceeds from issuance of long-term debt                                             750            --              --
          Principal payments on long-term debt                                                (149)         (401)           (150)
          Debt issue costs                                                                    (103)           --              --
          Borrowings on short-term revolving line of credit, net                               994            --              --
          Principal payments on note payable                                                  (975)           --              --
          Principal payments on capital lease obligations                                     (129)         (130)           (125)
          -----------------------------------------------------------------------------------------------------------------------
            Net cash provided by (used in) financing activities                                388          (439)          1,468
          -----------------------------------------------------------------------------------------------------------------------
          Net decrease in cash and cash equivalents                                         (1,074)       (1,378)         (6,634)
          Cash and cash equivalents at beginning of year                                     1,397         2,775           9,409
          -----------------------------------------------------------------------------------------------------------------------
          Cash and cash equivalents at end of year                                         $   323       $ 1,397        $  2,775
          =======================================================================================================================

SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
          Cash paid during the year for interest, net of amounts capitalized               $   160       $    35        $     36
          =======================================================================================================================
          Cash paid during the year for income taxes                                       $    --       $    56        $    355
          =======================================================================================================================
          Non-cash investing and financing activities:
            Issuance of note payable for construction in progress                          $    --       $   975        $     --
          =======================================================================================================================
            Issuance of common stock and options for services and other assets             $    90       $    47        $    117
          =======================================================================================================================
</TABLE>

          See accompanying notes to consolidated financial statements.

                                       12
<PAGE>

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



          (all amounts in thousands, except share data)

NOTE 1    DESCRIPTION OF BUSINESS AND SUMMARY OF ACCOUNTING POLICIES

                    (a)   Description of Business
          Cyanotech  Corporation  (Company) develops and commercializes  natural
          products  from   microalgae.   The  Company  is  currently   producing
          microalgae  products  for  the  nutritional  supplement,   aquaculture
          feed/pigments  and  immunological  diagnostics  markets  and  is  also
          developing microalgae-based pro the biopesticide, chiral chemistry and
          food coloring  markets.
               Substantially   all  of  the   Company's   net  sales  have  been
          attributable  to  its  Spirulina  Pacifica(TM)   products.   Sales  of
          Spirulina  Pacifica  products  accounted for  approximately 91% of the
          Company's  net sales for the year ended  March 31,  1999,  95% for the
          year ended March 31, 1998 and 98% for the year ended March 31, 1997.

                    (b)  Principles of Consolidation
          The Company  consolidates  enterprises  in which it has a  controlling
          financial interest. The accompanying consolidated financial statements
          include the  accounts of  Cyanotech  Corporation  and its wholly owned
          subsidiaries,  Nutrex, Inc. and Cyanotech  International FSC, Inc. All
          significant   intercompany   balances  and   transactions   have  been
          eliminated in consolidation.
               Cyanotech International FSC, Inc., was formed on April 1, 1997 as
          a foreign sales  corporation under the Internal Revenue Code.

                    (c)  Cash and Cash Equivalents
          For purposes of the consolidated statements of cash flows, the Company
          considers all highly liquid debt securities purchased with original or
          remaining  maturities of three months or less to be cash  equivalents.

                    (d)  Inventories
          Inventories  are  stated  at the  lower  of cost  (which  approximates
          first-in, first-out) or market. Market is determined by net realizable
          value.

                    (e)  Equipment and Leasehold  Improvements
          Owned  equipment  and  leasehold  improvements  are  stated  at  cost.
          Equipment  under  capital  lease is stated at the lower of the present
          value of minimum lease  payments or fair value of the equipment at the
          inception of the lease.  Depreciation  and  amortization  are provided
          using the  straight-line  method over the  estimated  useful lives for
          equipment and  furniture and fixtures,  the shorter of the lease terms
          or estimated  useful lives for  leasehold  improvements  and the lease
          terms or estimated  useful lives for equipment  under capital lease as
          follows:

          Equipment                                                3 to 10 years
          Leasehold improvements                                  10 to 27 years
          Furniture and fixtures                                         7 years
          Equipment under capital lease                                 10 years

          Amortization   of  equipment   under  capital  lease  is  included  in
          depreciation and amortization expense in the accompanying consolidated
          financial statements.

                                       13
<PAGE>

                    (f)   Earnings Per Share
          Following is a  reconciliation  of the numerators and  denominators of
          the Basic and Diluted net income (loss) per Common Share  computations
          for the periods presented (in thousands except share data):
<TABLE>
<CAPTION>

          Years ended March 31,                                                       1999                1998                 1997
          =========================================================================================================================
          BASIC EARNINGS (LOSS) PER SHARE
<S>                                                                             <C>                 <C>                 <C>
          Net income (loss)                                                     $   (2,557)         $     (300)         $     4,159
          Requirement for Preferred Stock dividends                                   (238)               (289)                (294)
          -------------------------------------------------------------------------------------------------------------------------
          Net income (loss) available to Common stockholders                    $   (2,795)         $     (589)         $     3,865
          =========================================================================================================================
          Weighted average Common Shares outstanding                            13,602,000          12,909,000           12,583,000
          =========================================================================================================================
          Net income (loss) per Common Share                                    $    (0.21)         $    (0.05)         $      0.31
          =========================================================================================================================
          DILUTED EARNINGS (LOSS) PER SHARE
          Net income (loss) available to Common stockholders                    $   (2,795)         $     (589)         $     3,865
          Requirement for Preferred Stock dividends                                     --                  --                  294
          -------------------------------------------------------------------------------------------------------------------------
          Net income (loss) available to Common stockholders, as adjusted       $   (2,795)         $     (589)         $     4,159
          =========================================================================================================================
          Weighted average Common Shares outstanding                            13,602,000          12,909,000           12,583,000
          Effect of dilutive securities
               Stock options and warrants                                               --                  --              340,000
               Convertible preferred stock                                              --                  --            3,675,000
          -------------------------------------------------------------------------------------------------------------------------
          Weighted average Common Shares outstanding, as adjusted               13,602,000          12,909,000           16,598,000
          =========================================================================================================================
          Net income (loss) per Common share                                    $    (0.21)         $    (0.05)         $      0.25
          =========================================================================================================================
</TABLE>
          For the years ended March 31, 1999 and 1998,  warrants  and options to
          purchase Common Stock shares of the Company and convertible  preferred
          stock  were  outstanding,  but were not  included  in the 1999 or 1998
          computation of Diluted net loss per common share because the inclusion
          of these securities would have had an  antidilutive  effect on the net
          loss per common share.  As of March 31, 1999,  warrants and options to
          acquire  600,375  shares of the  Company's  common stock and preferred
          stock  convertible into 2,975,155 shares of the Company's common stock
          were  outstanding.  As of March 31,  1998,  warrants  and  options  to
          acquire  431,725  shares of the  Company's  common stock and preferred
          stock  convertible into 2,975,155 shares of the Company's common stock
          were   outstanding.

                    (g)  Research  and   Development
          Research and development costs are expensed as incurred.  Research and
          development  costs amounted to $895,  $677, and $587 in 1999, 1998 and
          1997  respectively.

                    (h)  Income Taxes
          Income taxes are accounted  for under the asset and liability  method.
          Deferred tax assets and  liabilities are recognized for the future tax
          consequences   attributable  to  differences   between  the  financial
          statement  carrying  amounts of existing  assets and  liabilities  and
          their tax  bases  and  operating  loss and tax  credit  carryforwards.
          Deferred tax assets and  liabilities are measured using enacted income
          tax rates applicable to the period in which the deferred tax assets or
          liabilities  are expected to be  recovered  or settled.  The effect on
          deferred  tax  assets  and  liabilities  of a charge  in tax  rates is
          recognized in income in the period that includes the enactment date.

                    (i)  Stock Option Plan
          The Company  applies the  intrinsic  value-based  method of accounting
          prescribed by  Accounting  Principles  Board  ("APB")  Opinion No. 25,
          Accounting for Stock Issued to Employees, and related interpretations,
          in accounting for its fixed plan stock options issued to employees and
          nonemployee directors. As such, compensation expense would be recorded
          on  the  date  of  grant  only  if the  current  market  price  of the
          underlying  stock exceeded the exercise price. The Company applies the
          fair  value-based  method of  accounting  prescribed  by  Statement of
          Financial   Accounting  Standards  ("SFAS")  No  123,  Accounting  for
          Stock-Based  Compensation,  in  accounting  for its fixed  plan  stock
          options  issued  to  outside  third  parties  other  than  nonemployee
          directors.   As  such,   expenses   representing  the  fair  value  of
          stock-based  awards  on the  date of  grant  are  recognized  over the
          vesting period.

                                       14
<PAGE>

                    (j)  Impairment of  Long-Lived  Assets and Long-Lived Assets
                         to Be Disposed  Of
          The Company  accounts for  long-lived  assets in  accordance  with the
          provisions  of  SFAS  No.  121,   Accounting  for  the  Impairment  of
          Long-Lived  Assets and for  Long-Lived  Assets to Be Disposed Of. SFAS
          No. 121  requires  that  long-lived  assets and  certain  identifiable
          intangibles be reviewed for impairment  whenever  events or changes in
          circumstances indicate that the carrying amount of an asset may not be
          recoverable.  Recoverability of assets to be held and used is measured
          by a comparison of the carrying  amount of an asset to future net cash
          flows  expected  to be  generated  by the  asset.  If such  assets are
          considered to be impaired, the impairment to be recognized is measured
          as the amount the carrying amount of the assets exceeds the fair value
          of the assets.  Assets to be disposed of are  reported at the lower of
          the carrying amount or fair value costs to sell.

                    (k)  Segment Information
          As the Company's  operations  are solely  related to  microalgae-based
          products,  management  considers  its  operations  to be one  industry
          segment.

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

                    (m)  New  Accounting  Pronouncements
          In  June 1997,  the  Financial  Accounting  Standards  Board  ("FASB")
          issued Statement of Financial  Accounting  Standards ("SFAS") No. 130,
          Reporting  Comprehensive  Income, which establishes  standards for the
          reporting and display of comprehensive  income and its components in a
          full set of  general-purpose  financial  statements.  SFAS No.  130 is
          effective for fiscal years beginning after December 15, 1997. SFAS No.
          130  requires  reclassification  of financial  statements  for earlier
          periods  provided for  comparative  purposes.  The Company adopted the
          provisions of SF No. 130 effective April 1, 1998. Adoption of SFAS No.
          130 did not have a material effect on the Company's reported financial
          information.
               In June 1997,  the FASB also  issued  SFAS No.  131,  Disclosures
          about  Segments  of  an  Enterprise  and  Related  Information,  which
          establishes  standards  for  public  business  enterprises  to  report
          information  about operating  segments in annual financial  statements
          and requires that those enterprises report selected  information about
          operating   segments   in   interim   financial   reports   issued  to
          shareholders.  SFAS No. 131 is effective  for fiscal  years  beginning
          after  December  15,  1997.  SFAS  No.  131  requires  restatement  of
          comparative  information  presented for earlier  periods.  The Company
          adopted  the  provisions  of SFAS No.  131  effective  April 1,  1998.
          Adoption  of SFAS  No.  131  did not  have a  material  effect  on the
          Company's reported financial information.
               In June  1998,  the FASB  issued  SFAS No.  133,  Accounting  for
          Derivative  Instruments  and  Hedging  Activities,  which  establishes
          accounting and reporting standards for derivative  instruments and for
          hedging activities. SFAS No. 133 requires that an entity recognize all
          derivatives  as  either  assets or  liabilities  in the  statement  of
          financial  position and measure those  instruments at fair value. SFAS
          No. 133 is effective for all fiscal quarters of fiscal years beginning
          after  June 15,  1999.  The  Company  currently  holds  no  derivative
          instruments,  nor is it currently participating in hedging activities.
          Management  does  not  expect  adoption  of SFAS No.  133 will  have a
          material  effect on the  Company's  financial  condition,  results  of
          operations or liquidity.
               In March,  1998,  the  American  Institute  of  Certified  Public
          Accountants  ("AICPA") Accounting Standards Executive Committee issued
          Statement  of  Position  ("SOP")  98-1,  Accounting  for the  Costs of
          Computer  Software  Developed  or Obtained  for  Internal  Use,  which
          requires   that  certain   costs,   including   certain   payroll  and
          payroll-related costs, be capitalized and amortized over the estimated
          useful life of the software.  The provisions of SOP 98-1 are effective
          for fiscal  years  beginning  after  December  15,  1998.  The Company
          adopted the provisions of SOP 98-1 effective  April 1, 1999.  Adoption
          of SOP 98-1 did not have a material effect on the Company's  financial
          condition, results of operations or liquidity.
               In April 1998, the AICPA Accounting Standards Executive Committee
          issued SOP 98-5,  Reporting on the Costs of Start-up  Activities.  SOP
          98-5   requires   that  costs  of   start-up   activities,   including
          organization  costs,  be expensed as incurred.  The  provisions of SOP
          98-5 are effective for fiscal years  beginning after December 15, 1998
          and  earlier  application  is  encouraged.  The  Company  adopted  the
          provisions of SOP 98-5 effective  April 1, 1999.  Adoption of SOP 98-5
          did not have a material effect on the Company's  financial  condition,
          results of operations or liquidity.

                    (n)  Reclassifications
          Certain  reclassifications  have  been  made  to the  March  31,  1998
          consolidated  financial  statements to confirm to the  classifications
          used in the March 31, 1999  consolidated  financial  statements.  Such
          reclassifications  had no effect on  previously  reported  results  of
          operations.

                                       15
<PAGE>

NOTE 2    INVENTORIES

          Inventories consists of the following as of March 31, 1999 and 1998:
<TABLE>
<CAPTION>

                                                            1999           1998
          =====================================================================
<S>                                                    <C>            <C>
          Raw materials                                $      63      $     103
          Work in process                                    287            362
          Finished goods                                   1,555          1,524
          Supplies                                           200            240
          ---------------------------------------------------------------------
                                                       $   2,105      $   2,229
          =====================================================================
</TABLE>

NOTE 3    EQUIPMENT AND LEASEHOLD IMPROVEMENTS, NET

          Equipment and leasehold  improvements  consists of the following as of
          March 31, 1999 and 1998:
<TABLE>
<CAPTION>
                                                                                1999           1998
          =========================================================================================
<S>                                                                        <C>            <C>
          Equipment                                                        $   8,421      $   7,791
          Leasehold improvements                                              13,779         13,285
          Furniture and fixtures                                                  83             94
          Equipment under capital lease                                          388            569
          -----------------------------------------------------------------------------------------
                                                                              22,671         21,739
          Less accumulated depreciation and amortization                      (6,107)        (4,707)
          Construction in-progress                                             3,059          3,512
          -----------------------------------------------------------------------------------------
               Equipment and leasehold improvements, net                   $  19,623      $  20,544
          =========================================================================================
</TABLE>

          Construction  in-progress includes a construction project on a 93 acre
          parcel which was suspended in February 1998. In June 1999, the Company
          reached an agreement with the project contractor to resume work on the
          suspended  construction  project  on  or  before  June  1,  2000.  The
          remaining balance on the construction  contract is approximately  $1.9
          million.  In  consideration  for the extension of the  termination and
          completion  dates of the contract,  the Company will pay an additional
          $20 at the  startup  of work  and a  surcharge  of  1.5%  on work  not
          completed  by September  30,  1999,  and a surcharge of 4% on work not
          completed  by  September  30,  2000.  If work does not  resume  on, or
          before,  June 1, 2000,  then the contract  will be  considered to have
          been  terminated  by  Cyanotech.  Assertion by the  contractor  of its
          termination  rights  could  have  a  material  adverse  effect  on the
          Company's financial condition, results of operations and/or liquidity.
          As of March 31, 1999,  the credit  facilities  available to Cyanotech,
          unless  supplemented  by  funds  from  other  sources,  would  not  be
          sufficient to finance this construction  work. Total costs incurred as
          of March 31, 1999 with respect to this expansion  project  approximate
          $2,643.  Failure to comply with the  commitments on this project would
          have a material adverse effect on the Company's  financial  condition,
          results of operations, and/or liquidity.

NOTE 4    LINE OF CREDIT, LONG-TERM DEBT AND NOTE PAYABLE

                    Line of Credit
          On July  28,  1998,  the  Company  entered  into a Loan  and  Security
          Agreement  (Agreement)  with  a  lender  which  provides  for up to $3
          million in aggregate credit  facilities,  secured by all the assets of
          the Company.  The major  components of the Agreement  include  working
          capital  loans on a revolving  basis  subject to the  availability  of
          eligible accounts  receivable and inventory (as defined),  a sub-limit
          term loan of up to $750  (amortized  in equal  payments  of $12.5 over
          sixty  months),  secured by eligible  machinery and  equipment,  and a
          sub-limit term loan of up to $2 million  (amortized  over sixty months
          and subject to the Company  achieving and maintaining  specific levels
          of financial  performance)  for the  acquisition  of new machinery and
          equipment.  The Agreement has a maturity date of July 31, 2001 with an
          optional   provision  for  automatic   and   continuous   renewal  for
          successive,  additional  terms of one year each.  The interest rate on
          all  borrowings  under the  Agreement  is prime  plus  2.5%,  adjusted
          monthly,  (at March 31,  1999,  the prime  rate was  7.75%)  until the
          Company achieves certain financial  performance  levels, at which time
          the  interest  rate will  decrease  to prime plus  1.25%.  Interest is
          calculated on a

                                       16
<PAGE>

          base amount of $1 million or the outstanding  loan balance,  whichever
          is greater.  The fee for  renewing the  Agreement  beyond the maturity
          date  of July  31,  2001  is set at .5% of the  aggregate  outstanding
          balance at the end of the initial term of the Agreement. Proceeds from
          borrowings  under the Agreement  were used to repay a short-term  note
          payable and fund working capital requirements.
               The  Agreement  contains  certain  restrictive  covenants,  which
          include,  among other things, the maintenance of minimum  consolidated
          net worth, as defined, and a subjective acceleration clause contingent
          upon the occurrence of an event with a material  adverse effect on the
          Company as  defined.  Having  been  previously  notified of the "going
          concern" explanatory  paragraph in the independent auditors' report on
          the March 31,  1999  consolidated  financial  statements,  on July 13,
          1999,  the lender  declared the Company to be in technical  default on
          the  Agreement  due to the  uncertainty  of the  Company's  ability to
          continue  as a going  concern  being  considered  a  material  adverse
          effect.  In the notice of  default,  the lender  exercised  its rights
          under the  Agreement,  and effective  July 13, 1999, has increased the
          applicable  interest rate on all  borrowings  under the Agreement from
          prime plus 2.5% to prime plus 5.5%  Although it has not  declared  its
          intent to do so, the  lender  reserved  its rights to other  remedies,
          among other things,  to cease further lending  transactions and demand
          immediate  repayment of  outstanding  borrowings  under the Agreement.
          Consequently  the Company has  classified  the  aggregate  outstanding
          balance on this  Agreement  of  $1,644,000,  representing  outstanding
          working  capital  loans  on a  revolving  basis  of  $994,000  and  an
          equipment  term  loan  of  $650,000,  as a  current  liability  in the
          consolidated  balance sheet at March 31, 1999.
               At March 31, 1999, the remaining availability under the Agreement
          was   calculated   by  the  lender  to  be  $282,000.   The  remaining
          availability  amount  excludes  the  component of the facility for the
          acquisition  of new  machinery  and  equipment  as such  component  is
          contingent on the  Company's  achievement  of a Debt Service  Coverage
          ratio of at least 1.25:1 for the prior two full  consecutive  quarters
          on a combined basis.  This component,  if available,  may increase the
          availability by an additional $1,074,000 up to the limit of $3 million
          for the entire Agreement.

                    Long-Term  Debt

          Long-term  debt  consists  of the  following  as of March 31, 1999 and
          1998:
<TABLE>
<CAPTION>
                                                                                                                 1999          1998
          =========================================================================================================================
<S>                                                                                                             <C>           <C>
          Note payable at the London Interbank Offered Rate (LIBOR) plus 2%, adjusted quarterly;
             principal payments of $12.5, due quarterly, plus interest, through April 1, 2000                   $  63         $ 112
          Note payable at the prime rate plus 2.5% per annum, adjusted monthly;
             principal payments of $12.5, due monthly, plus interest; balance due July 31, 2001,
             classified as current as described above                                                             650            --
          -------------------------------------------------------------------------------------------------------------------------
               Total long-term debt                                                                               713           112
          Less current maturities of long-term debt                                                              (700)          (50)
          -------------------------------------------------------------------------------------------------------------------------
               Long-term debt, excluding current maturities                                                     $  13         $  62
          =========================================================================================================================
</TABLE>

          In 1995,  the  Company  executed  a $250 note,  payable  in  principal
          installments  of  $12.5  each  quarter  through  April 1,  2000,  plus
          interest, with principal and interest payments satisfied by delivering
          to the lender an equivalent  market value amount of salable product or
          cash (at the lender' option). The note payable bears interest at LIBOR
          plus 2%,  adjusted  quarterly,  and is secured  by certain  production
          equipment. For the quarter ended March 31, 1999, interest on this note
          was calculated at 7.1%.
               The aggregate  maturities  of long-term  debt for each of the two
          years  subsequent  to  March 31,  1999  are $700 and $13 for the years
          ending March 31, 2000 and 2001, respectively.

                    Note Payable
          In March  1998,  the  Company  reached an  agreement  with its general
          contractor  to  convert  certain  trade  accounts  payable  to a  note
          payable.  Under the  terms of the  agreement,  $975 of trade  accounts
          payable to the contractor  for work completed on an expansion  project
          was  converted to a note  payable due December 31, 1998.  Terms of the
          note called for a principal  and interest  payment of $150 on April 1,
          1998,  monthly  principal and interest payments of $100 beginning June
          1, 1998,  with the balance due on December 31, 1998.  The note payable
          bore  interest at prime  plus 2%, beginning  January 1, 1998,  and was
          secured by all of the assets of the Company.  This note was satisfied,
          in its entirety,  in August 1998 with proceeds from  borrowings  under
          the line of credit.


NOTE 5    LEASES

          The Company leases certain equipment under a capital lease expiring in
          2000, and leases facilities, equipment and land under operating leases
          expiring  between 2003 and 2025. At March 31, 1999, the net book value
          of equipment under the capital lease amounted to $215.

                                       17
<PAGE>

               Future  minimum lease  payments  under  non-cancelable  operating
          leases, and the present value of future minimum capital lease payments
          as of March 31, 1999 are as follows:
<TABLE>
<CAPTION>

          Year ending March 31:                                               Capital lease    Operating leases
          =====================================================================================================
<S>       <C>                                                                   <C>                 <C>
          2000                                                                  $        68         $       250
          2001                                                                           --                 250
          2002                                                                           --                 250
          2003                                                                           --                 250
          2004                                                                           --                 224
          Thereafter, through 2025                                                       --               3,481
          -----------------------------------------------------------------------------------------------------
               Total minimum lease payments                                              68         $     4,705
                                                                                                    ===========
          Less amount representing interest (at 9%)                                      (1)
          ---------------------------------------------------------------------------------
               Present value of net minimum capital lease payments                       67
          Less current maturities of capital lease obligation                            67
          ---------------------------------------------------------------------------------
               Obligation under capital lease, excluding current maturities     $        --
          =================================================================================
</TABLE>
          Total rent expense under operating  leases amounted to $350, $211, and
          $138 for the years ended March 31, 1999, 1998, and 1997, respectively.
               The land  leases  provide  for  contingent  rentals  in excess of
          minimum  rental  commitments  based on a percentage  of the  Company's
          sales. Contingent rentals for the years ended March 31, 1999, 1998 and
          1997 were not significant.
               The State of Hawaii has  agreed to allow the  Company to lease an
          additional  93 acre  parcel on a year to year  basis,  until such time
          that the Company  determines  the need for a longer  lease  term.  The
          current  lease  agreement is effective  through  December 31, 1999. In
          January 1999, the Company negotiated a deferral of lease rent with the
          State of Hawaii on the 93 acre parcel. The term of the deferral is for
          one  year  effective  January  1999.  Under  the  deferral  agreement,
          one-half  of the monthly  fixed fee, or $5 per month,  may be deferred
          until  December  31,  1999.  Interest  on all  deferred  rent is being
          charged to the Company at an annual rate of 5%. The  deferred  portion
          of rent for this parcel and  interest  related to this  agreement  are
          being expensed each period for financial statement purposes.


NOTE 6    SERIES C PREFERRED STOCK

          Series C preferred stock is convertible  into common stock at the rate
          of one  share of  preferred  stock for five  shares  of  common  stock
          through February 23, 2000, after which date the conversion  feature is
          no longer applicable. Series C preferred stock has voting rights equal
          to the number of shares of common  stock into which it is  convertible
          and has a preference in liquidation over all other series of preferred
          stock of $5 per  share  plus any  accumulated  but  unpaid  dividends.
          Holders of Series C  preferred  stock are  entitled  to 8%  cumulative
          annual dividends at the rate of $.40 per share;  cumulative  dividends
          in arrears as of March 31, 1999 amount to $ 2,326 ($3.91 share).  Upon
          conversion  of  Series C  preferred  stock,  cumulative  dividends  in
          arrears  on  converted  shares  are no longer  payable.  The amount of
          cumulative  dividends foregone due to conversion during the year ended
          March 31, 1999 was nil ($457 in 1998 and nil in 1997).  The consent of
          Series C preferred  stockholders  is required to modify their  present
          rights or sell all or substantially all of the Company's assets.

NOTE 7    STOCK OPTIONS AND WARRANTs

                    Stock Options
          In August 1995, the stockholders of the Company approved the Company's
          1995 Stock Option Plan (the "1995 Plan"), reserving a total of 400,000
          shares of common stock for issuance under the Plan. In September 1997,
          the  stockholders  approved  an  amendment  to  the  1995  Plan  which
          increased  the number of shares  reserved for issuance  under the Plan
          from  400,000 to 800,000.  The 1995 Plan  provides for the issuance of
          both  incentive and  non-qualified  stock  options.  Options are to be
          granted  at or above the fair  market  value of the  Company's  common
          stock at the date of grant and  generally  become  exercisable  over a
          five-year period.
               The Company  also has a  Non-employee  Director  Stock Option and
          Stock Grant Plan,  which was  approved  by  stockholders  in 1994 (the
          "1994 Plan").  Under the 1994 Plan,  and upon election to the Board of
          Directors,  non-

                                       18
<PAGE>

          employee  directors  are granted a ten-year  option to purchase  3,000
          shares of Company's  common stock at its fair market value on the date
          of  grant.  In  addition,  on the  date  of  each  Annual  Meeting  of
          Stockholders  in each  year  that the  1994  Plan is in  effect,  each
          non-employee  director  continuing  in  office  will be  automatically
          granted,  without  payment,  2,000  shares  of  common  stock  that is
          non-transferable for six months following the date of grant. Grants of
          4,000, 8,000 and 6,000 shares of common stock were made under the 1994
          Plan in  September  1998  and  1997 and  1996,  respectively.  Expense
          recognized as a result of these stock grants  amounted to $6, $47, and
          $37 for the years ended March 31, 1999,  1998 and 1997,  respectively.
               At March 31, 1999, there were 302,600 additional shares available
          for grant under the 1995 Plan and 53,000  additional  shares available
          under the 1994  Plan.  The per share  weighted-average  fair  value of
          stock options granted during 1999, 1998 and 1997 was $2.53, $4.72, and
          $6.02,  respectively,  on the  date of  grant  using  a Black  Scholes
          option-pricing model with the following weighted-average  assumptions:
          1999 -- expected  dividend  yield of 0%,  risk-free  interest  rate of
          5.6%,  expected  volatility of 98%, and an expected life of 5.7 years;
          1998 -- expected  dividend  yield of 0%,  risk-free  interest  rate of
          6.6%,  expected  volatility of 99%, and an expected life of 4.5 years;
          1997 -- expected  dividend  yield of 0%,  risk-free  interest  rate of
          6.6%, expected volatility of 130%, and an expected life of 4.1 years.
               The  Company  applies  the  provisions  of APB  Opinion No. 25 in
          accounting for employee stock-based compensation and, accordingly,  no
          compensation  cost has been  recognized for its employee stock options
          in the accompanying  financial statements.  Had the Company determined
          compensation  cost based on the estimated fair value at the grant date
          for its employee  stock  options under SFAS No. 123, the Company's net
          income (loss)  available to common  stockholders and net income (loss)
          per Common share would have been as reflected in the pro forma amounts
          below:
<TABLE>
<CAPTION>

                                                                                  1999              1998            1997
          ===============================================================================================================
<S>                                               <C>            <C>         <C>               <C>            <C>
          Net income (loss) available
              to Common stockholders              As reported                $   (2,795)       $     (589)    $     3,865
                                                  Pro forma                  $   (3,282)       $   (1,041)    $     3,444
          Net income (loss) per Common share      As reported    Basic       $    (0.21)       $    (0.05)    $      0.31
                                                                 Diluted     $    (0.21)       $    (0.05)    $      0.25
                                                  Pro forma      Basic       $    (0.24)       $    (0.08)    $      0.27
                                                                 Diluted     $    (0.24)       $    (0.08)    $      0.23
</TABLE>

          Pro forma net income (loss)  available to Common  stockholders and net
          income  (loss) per  common  share  information  reflect  only  options
          granted  since  1996.  Therefore,   the  full  impact  of  calculating
          compensation  cost  for  stock  options  under  SFAS  No.  123  is not
          reflected  in the pro  forma net  income  (loss)  available  to common
          stockholders and net income (loss) per common share amounts  presented
          above because compensation cost is reflected over the options' vesting
          period of 5 years, and compensation  cost for options granted prior to
          April 1, 1995 is not considered.
               Stock option activity during the periods indicated is as follows:
<TABLE>
<CAPTION>

                                                                      Weighted-
                                           Number of                    average
                                              shares             exercise price
          =====================================================================
<S>             <C>                          <C>                      <C>
          Balance at March 31, 1996          419,700                  $    2.24
               Granted                       166,000                       7.30
               Exercised                     (57,912)                       .85
               Forfeited                    (107,400)                      1.31
          ---------------------------------------------------------------------
          Balance at March 31, 1997          420,388                       4.42
               Granted                       125,000                       6.31
               Exercised                     (84,750)                      1.21
               Forfeited                     (53,913)                      5.87
          ---------------------------------------------------------------------
          Balance at March 31, 1998          406,725                       5.48
               Granted                       213,600                       3.22
               Expired                       (20,000)                      6.63
               Forfeited                     (24,950)                      4.81
          ---------------------------------------------------------------------
          Balance at March 31, 1999          575,375                  $    4.63
          =====================================================================
</TABLE>

                                       19
<PAGE>

          The  following  table  summarizes   information  about  stock  options
          outstanding at March 31, 1999:
<TABLE>
<CAPTION>

                                        Options Outstanding                                                Options Exercisable
          --------------------------------------------------------------------------------------------------------------------------
               Range of      Number outstanding   Weighted-avg. remaining       Weighted-avg.   Number exercisable     Weighted-avg.
          exercise prices           at 3/31/99           contractual life      exercise price           at 3/31/99    exercise price
          ==========================================================================================================================
<S>                                <C>                 <C>                  <C>                  <C>                 <C>
          $.94 to $1.63                  76,175                 1.1 years            $   1.01               70,175          $   0.96
          $3.13 to $3.75                197,300                 4.8 years            $   3.28                   --          $     --
          $5.13 to $7.63                301,900                 2.3 years            $   6.42              151,000          $   6.24
          --------------------------------------------------------------------------------------------------------------------------
          $.94 to $7.63                 575,375                 3.0 years            $   4.63              221,175          $   4.56
          ==========================================================================================================================
</TABLE>
                    Warrants
          At March 31,  1999,  the Company has warrants  outstanding  to acquire
          25,000 shares of the Company's common stock. The warrants were granted
          in consideration for services  provided by a third party,  exercisable
          at $1.00 per share, and expire in September, 1999. Warrants to acquire
          107,880,  and 668,120 shares of common stock were exercised at average
          prices of $.41 and $.45 in 1998 and 1997, respectively.

NOTE 8    MAJOR CUSTOMERS AND EXPORT SALES

          Sales to major  customers for the years ended March 31, 1999, 1998 and
          1997 are summarized as follows (percent of product sales):

                                         1999           1998            1997
          ==================================================================
          Customer A                       *%             *%             34%
          Customer B                      11%             *%              *%
          -------------------------------------------------------------=----
                                          11%             *%             34%
          ==================================================================
          *Less than 10% of product sales.

          Net  product  sales by  geographic  area for the years ended March 31,
          1999, 1998 and 1997 are summarized as follows:
<TABLE>
<CAPTION>

                                                                        1999                    1998                      1997
          =======================================================================================================================
<S>                                                               <C>        <C>          <C>        <C>           <C>         <C>
          United States                                           $4,075     60%          $4,297     56%           $ 4,303     38%
          Canada/South America                                       426      6%             404      5%               851      8%
          The Netherlands                                            717     11%             496      7%               499      4%
          Europe, excluding the Netherlands                          498      7%             788     10%               793      7%
          China                                                       50      1%             358      5%             3,905     34%
          Asia/Pacific, excluding China                              972     15%           1,284     17%             1,048      9%
          -----------------------------------------------------------------------------------------------------------------------
                                                                  $6,738    100%          $7,627    100%           $11,399    100%
          =======================================================================================================================
</TABLE>
          Foreign product sales transactions are consummated in U.S. dollars.

                                       20
<PAGE>

NOTE 9    INCOME TAXES

          The components of income tax expense  (benefit) are as follows for the
          years ended March 31, 1999, 1998 and 1997:
<TABLE>
<CAPTION>

                                               1999          1998          1997
          =====================================================================
<S>                                           <C>           <C>           <C>
          Current
               Federal                        $  --         $ (13)        $ 138
               State                           (289)         (185)          235
          ---------------------------------------------------------------------
                                               (289)         (198)          373
          ---------------------------------------------------------------------
          Deferred
               Federal                           --           314          (352)
               State                             --            59           (21)
          ---------------------------------------------------------------------
                                                 --           373          (373)
          ---------------------------------------------------------------------
                                              $(289)        $ 175         $  --
          =====================================================================
</TABLE>

          A reconciliation of the amount of income taxes computed at the federal
          statutory  rate  of 34%  to  the  amount  reflected  in the  Company's
          consolidated  statements of  operations  for the years ended March 31,
          1999, 1998 and 1997 follows:
<TABLE>
<CAPTION>
                                                                                               1999           1998             1997
          ==========================================================================================================================
<S>                                                                                           <C>            <C>            <C>
          Amount at the federal statutory income tax rate                                     $(968)         $ (43)         $ 1,414
          State income taxes, net of federal income tax effect                                 (191)           (83)             141
          Benefit of operating loss carryforwards                                                --             --           (1,328)
          Change in the beginning-of-the-year balance of the valuation allowance
             for deferred tax assets                                                            889            270             (213)
          Other                                                                                 (19)            31              (14)
          --------------------------------------------------------------------------------------------------------------------------
                                                                                              $(289)         $ 175          $    --
          ==========================================================================================================================
</TABLE>
          The significant  components of deferred  income tax expense  (benefit)
          for the years ended March 31, 1999, 1998 and 1997 are as follows:
<TABLE>
<CAPTION>

                                                                                                 1999            1998          1997
          ==========================================================================================================================
<S>       <C>                                                                                    <C>           <C>           <C>
          Deferred tax expense (benefit), exclusive of the change in beginning-of-the-year
             valuation  allowance  balance                                                       $ (889)       $   103       $ (160)
          Increase (decrease) in beginning-of-the-year balance of the valuation allowance
             for deferred tax assets                                                                889            270         (213)
          --------------------------------------------------------------------------------------------------------------------------
                                                                                                 $   --        $   373       $ (373)
          ==========================================================================================================================
</TABLE>
          The tax effects of temporary  differences  related to various  assets,
          liabilities  and  carryforwards  that give rise to deferred tax assets
          and  deferred  tax  liabilities  as of March 31,  1999 and 1998 are as
          follows:
<TABLE>
<CAPTION>
                                                                                                                 1999          1998
          ==========================================================================================================================
          Deferred tax assets:
<S>                                                                                                           <C>           <C>
              Net  operating  loss  carryforwards                                                             $ 2,020       $   441
              Tax  credit  carryforwards                                                                          252           255
              Other                                                                                               200           156
          --------------------------------------------------------------------------------------------------------------------------
               Gross deferred tax assets                                                                        2,472           852
          Less valuation  allowance                                                                            (1,293)         (404)
          --------------------------------------------------------------------------------------------------------------------------
                 Net deferred tax assets                                                                        1,179           448
          Deferred tax liability  --  equipment and leasehold improvements, principally due to
             differences in depreciation and amortization                                                     (1,179)         (448)
          --------------------------------------------------------------------------------------------------------------------------
                 Net deferred tax asset                                                                       $    --       $    --
          ==========================================================================================================================
</TABLE>

                                       21
<PAGE>

          The  valuation  allowance for deferred tax assets as of April 1, 1998,
          1997 and 1996 was $404, $134, and $1,675, respectively.  The valuation
          allowance  increased by $889 and $270 during the years ended March 31,
          1999 and 1998,  respectively,  and decreased by $1,541 during the year
          ended March 31, 1997. In assessing the  realizability  of deferred tax
          assets,  management  considers whether it is more likely than not that
          some  portion or all of the  deferred tax assets will not be realized.
          The ultimate  realization of deferred tax assets is dependent upon the
          generation of future  taxable income during the periods in which those
          temporary  differences  become  deductible.  Management  considers the
          scheduled  reversal  of deferred  tax  liabilities,  projected  future
          taxable income, and tax planning strategies in making this assessment.
               Based upon the level of historical taxable income and projections
          for future  taxable  income over the periods in which the net deferred
          tax assets are deductible,  management believes it is more likely than
          not  the  Company  will  realize  the  benefits  of  these  deductible
          differences,  net of the  existing  valuation  allowance  at March 31,
          1999.  The amount of the  deferred  tax assets considered  realizable,
          however,  could be  reduced  in the near term if  estimates  of future
          taxable income during the  carryforward  period are reduced.
               At March 31,  1999,  the Company has tax net  operating  tax loss
          carryforwards and tax credit carryforwards  available to offset future
          federal income taxes as follows:
<TABLE>
<CAPTION>
                                                                                             Research and
                                        Net operating              Investment             experimentation
          Expires March 31,                    losses             tax credits                 tax credits
          ===============================================================================================
<S>       <C>                             <C>                     <C>                          <C>
          2000                            $        --             $        --                  $       14
          2001                                     --                      14                          15
          2002                                     --                      --                          22
          2003                                     --                      --                          15
          2004                                     --                      --                          52
          2005                                     --                      --                           5
          2006                                    400                      --                          --
          2011                                     --                      --                          23
          2012                                     44                      --                           9
          2013                                  1,601                      --                          --
          2019                                  3,558                      --                          --
          -----------------------------------------------------------------------------------------------
                                         $      5,603            $         14                 $       155
          ===============================================================================================
</TABLE>
          In addition,  at March 31, 1999, the Company has  alternative  minimum
          tax credit  carryforwards of approximately  $83 which are available to
          reduce future federal regular income taxes over an indefinite  period.
               At  March  31,  1999,  the  Company  has tax net  operating  loss
          carryforwards  of $1,098,  which expire  March 31, 2019,  available to
          offset future Hawaii state taxable income.
               Investment  tax credits  will be  recorded as a reduction  of the
          provision for federal income taxes in the year realized.

NOTE 10   FAIR VALUE OF FINANCIAL INSTRUMENTS

          SFAS  Statement  No. 107,  "Disclosures  about Fair Value of Financial
          Instruments,"  defines the fair value of a financial instrument as the
          amount  at which  the  instrument  could  be  exchanged  in a  current
          transaction  between  willing  parties.
               The following  methods and assumptions  were used to estimate the
          fair value of each class of financial instruments as of March 31, 1999
          and 1998:

                    Cash and Cash Equivalents
          The carrying amounts  approximate fair value because of the short-term
          nature of these instruments.

                    Short-Term Revolving Line of Credit
          The  carrying  value  of  the  short-term  revolving  line  of  credit
          approximates  fair value because the  instruments  reprice  monthly at
          market  rates.

                    Note Payable
          The carrying value of the note payable approximates fair value because
          the instruments reprice quarterly at market rates.

                    Long-Term Debt
          The carrying  amounts  approximate  fair value because the instruments
          reprice  monthly or quarterly at market rates.

                                       22
<PAGE>

NOTE 11   PROFIT SHARING PLAN

          The Company  sponsors a 401(k) profit  sharing plan for all associates
          not covered  under a separate  management  incentive  plan.  Under the
          401(k) profit sharing plan, 5% of pre-tax  profits are allocated based
          on gross wages to  non-management  associates  on a  quarterly  basis.
          Fifty percent of each associate's  profit sharing bonus is distributed
          in cash on an after-tax  basis,  with the remainder  deposited in each
          associate's  401(k) account on a pre-tax basis with a six year vesting
          schedule,  based on years of service with the Company.  All associates
          may make voluntary  pre-tax  contributions  to their 401(k)  accounts.
          Compensation expense relative to this plan was nil for the years ended
          March 31, 1999 and 1998, and $219 for the year ended March 31, 1997.

NOTE 12   COMMITMENTS AND  CONTINGENCIES

          On July 13, 1998, the Company filed a complaint (Case No.  CV98-00600)
          in United States  District Court for the District of Hawaii  ("Court")
          against Aquasearch, Inc. ("Aquasearch"), seeking declaratory judgement
          of patent noninfringement, patent invalidity, and non-misappropriation
          of trade secrets relating to closed culture production of astaxanthin.
          The  complaint  was filed in  response  to  assertions  by  Aquasearch
          regarding its alleged  intellectual  property  rights.  Aquasearch has
          answered  the  complaint  and filed  counter  claims  alleging  patent
          infringement,  trade secret  misappropriation,  unfair competition and
          breach of contract.  The Court has granted Cyanotech's motion to amend
          its complaint against Aquasearch to add claims of  misappropriation of
          trade secrets regarding open pond technology,  unfair  competition and
          breach  of  contract.   The  Company  is  pursuing   this   litigation
          vigorously. In the opinion of management,  the ultimate disposition of
          this matter will not have a material  adverse  effect on the Company's
          consolidated  financial position,  results of operations or liquidity.
               As  of  March  31,  1999,  the  Company  had a  commitment  for a
          suspended construction project on a 93 acre parcel (see Note 3).

NOTE 13   FINANCIAL  CONDITION AND LIQUIDITY AND SUBSEQUENT EVENTS

          The  consolidated  financial  statements  at March 31,  1999 have been
          prepared  on a  going  concern  basis,  which  assumes  continuity  of
          operations and realization of assets and liquidation of liabilities in
          the ordinary course of business. During the years ended March 31, 1999
          and  1998,   the   Company   incurred   losses  of  $2,557  and  $300,
          respectively.   During  these  two  fiscal  years,   the  Company  has
          experienced   declining  sales  which   management   believes  can  be
          attributed to increased competition for sales of Spirulina products in
          all of its major  markets.  The major  effect of the decrease in sales
          has been a significant  decrease in liquidity.  Due to the significant
          decrease in sales and the decline in working capital,  the Company has
          taken action to reduce  expenditures and obtain additional  sources of
          external  financing  while  concurrently  continuing  to diversify its
          product offerings and explore  opportunities for expanding the markets
          for its  products.  Management  believes  that this plan may  increase
          revenues and return the Company to profitability. As discussed in Note
          4 the Company is in technical default on certain debt.  The  Company's
          continuation  as a going  concern  is  dependent  upon its  ability to
          generate  sufficient  cash  flow to meet its  obligations  on a timely
          basis, to comply with the terms of its financing agreement,  to obtain
          additional  financing or  refinancing  as may be  required,  to attain
          profitability,  or a combination thereof. The Company is seeking other
          possible  sources of external  financing,  but unless it is successful
          there may be liquidity  shortfalls in future periods.  There can be no
          assurance that the Company will be successful in obtaining  additional
          financing  or will have  sufficient  cash  resources  to  support  its
          continued   operations.   The  accompanying   consolidated   financial
          statements do not include any  adjustments  that might result from the
          outcome of this uncertainty.
               In June,  1999, the Company reached an agreement with Norsk Hydro
          ASA   ("Norsk   Hydro")  to  produce  and  market   NatuRose   natural
          astaxanthin.  Under the agreement, Norsk Hydro will participate in the
          optimization of the Cyanotech  production  technology for astaxanthin.
          Upon  successful  completion  of the  optimization  program,  the  two
          companies  intend to enter into a joint venture that will be owned 51%
          by Norsk  Hydro  and 49% by  Cyanotech.  The  intention  of the  joint
          venture is to build and operate a NatuRose  facility  in  Kailua-Kona,
          Hawaii. Norsk Hydro will have worldwide exclusive rights to distribute
          the NatuRose product into the aquaculture and animal  pigmentation and
          nutrition markets; Cyanotech will retain worldwide exclusive rights to
          distribute the NatuRose product into the human nutrition markets.  The
          Company's assessment of the impairment of certain long-lived assets as
          of March 31, 1999 is predicated  on the  consummation  and  commercial
          success of this joint venture. Failure to consummate the joint venture
          arrangement  and/or  failure by the joint venture to achieve  expected
          commercial  results may result in the  impairment  of such  long-lived
          assets.

                                       23
<PAGE>
                          INDEPENDENT AUDITORS' REPORT

The Board of Directors Cyanotech Corporation:

          We have  audited  the  accompanying  consolidated  balance  sheets  of
          Cyanotech  Corporation and subsidiaries as of March 31, 1999 and 1998,
          and the related consolidated  statements of operations,  stockholders'
          equity and cash flows for each of the years in the  three-year  period
          ended March 31, 1999. These consolidated  financial statements are the
          responsibility of the Company's  management.  Our responsibility is to
          express an opinion on these consolidated financial statements based on
          our audits.

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

          In our opinion,  the  consolidated  financial  statements  referred to
          above present fairly, in all material respects, the financial position
          of Cyanotech  Corporation  and  subsidiaries  as of March 31, 1999 and
          1998,  and the  results of their  operations  and their cash flows for
          each of the years in the  three-year  period  ended  March 31, 1999 in
          conformity with generally accepted accounting principles.

          The accompanying  consolidated financial statements have been prepared
          assuming  that  the  Company  will  continue  as a going  concern.  As
          discussed in note 13 to the  consolidated  financial  statements,  the
          Company has suffered  recurring losses from operations and has limited
          sources of additional liquidity that raise substantial doubt about its
          ability to continue as a going concern.  Management's  plans in regard
          to these  matters  are also  described  in note 13.  The  consolidated
          financial  statements do not include any adjustments that might result
          from the outcome of this uncertainty.


          KPMG LLP

          Honolulu, Hawaii
          May 14, 1999, except as to the second paragraph of note 3,
          the second paragraph of note 4 and the second paragraph
          of note 13, which are as of July 13, 1999
<TABLE>
<CAPTION>
                       Selected Quarterly Financial Data

                                                              First          Second           Third          Fourth           Total
          ($ in thousands, except share data)               Quarter         Quarter         Quarter         Quarter            Year
          =========================================================================================================================
<S>       <C>                                               <C>             <C>             <C>
          1999
          Net sales                                         $ 1,763         $ 1,525         $ 1,675         $ 1,775         $ 6,738
          Gross profit                                          179             401             122             271             973
          Net loss                                             (631)           (442)           (719)           (765)         (2,557)
          Net loss per common share
               Basic                                          (0.05)          (0.04)          (0.06)          (0.06)          (0.21)
               Diluted                                        (0.05)          (0.04)          (0.06)          (0.06)          (0.21)

          1998
          Net sales                                         $ 1,774         $ 2,053         $ 1,564         $ 2,236         $ 7,627
          Gross profit                                          872             885             542             838           3,137
          Net income (loss)                                     125             (54)           (286)            (85)           (300)
          Net income (loss) per common share
               Basic                                           0.00           (0.01)          (0.03)          (0.01)          (0.05)
               Diluted                                         0.00           (0.01)          (0.03)          (0.01)          (0.05)
</TABLE>

                                       24
<PAGE>

OFFICERS

Gerald R. Cysewski, Ph.D
President, Chief Executive Officer
and Chairman of the Board

Glenn D. Jensen
Vice President - Operations

Larry L. Line
Vice President -
Sales and Marketing
President, Nutrex, Inc.

Kelly J. Moorhead
Vice President -
Product Development

Ronald P. Scott
Executive Vice President -
Finance & Administration
Treasurer and Secretary



BOARD OF DIRECTORS

Gerald R. Cysewski, Ph.D
Eric H. Reichl 1,2
Ronald P. Scott
John T. Waldron  1,2
Paul C. Yuen, Ph.D 1,2

1 Member of the Audit Committee
2 Member of the Compensation and
  Stock Option Committee
<PAGE>


CORPORATE INFORMATION

Corporate Headquarters
Cyanotech Corporation
73-4460 Queen Kaahumanu Hwy.
Suite 102
Keahole Point
Kailua-Kona, HI 96740
Tel (808) 326-1353
Fax (808) 329-3597

Wholly-Owned Subsidiaries
Nutrex, Inc.
Cyanotech International FSC, Inc.

Transfer Agent and Registrar
ChaseMellon Shareholder Services, L.L.C.
Shareholder Relations
85 Challenger Road
Ridgefield Park, NJ 07660
(800) 522-6645

Independent Accountants
KPMG LLP
Honolulu, HI 96812-4150

Legal Counsel
Goodsill Anderson Quinn & Stifel
Honolulu, HI 96801-3196

Form 10-K
A copy of Cyanotech's annual report to the Securities and Exchange Commission on
Form 10-K is  available  without  charge upon  written  request  to:
          Secretary,
          Cyanotech  Corporation
          73-4460 Queen Kaahumanu Hwy.
          Suite 102
          Kailua-Kona, HI 96740

Notice of Annual Meeting
The 1999 annual  meeting of  stockholders  will be held on Thursday,  August 26,
1999, at 2:00 p.m. at
King  Kamehameha's  Kona Beach Hotel
75-5660  Palani Road
Kailua-Kona, Hawaii 96740

Additional  Information:
As a service to our stockholders and  prospective
investors,  copies of Cyanotech news releases and
financial statements issued in the last 12 months
are available 24 hours a day, seven days  a  week
on the Internet's  World Wide Web at http://
www.cyanotech.com
<PAGE>

Market for Common Equity
and Related Stockholder Matters
Cyanotech's  Common  Stock is traded on the  Nasdaq  National  Market  under the
symbol "CYAN." The following table sets forth the high and low selling prices as
reported by the Nasdaq Stock Market for the periods indicated.

Three Months Ended                       High               Low
===============================================================
1999
March 31, 1999                        $  1.25           $  0.88
December 31, 1998                     $  1.75           $  0.91
September 30, 1998                    $  3.69           $  1.50
June 30, 1998                         $  4.44           $  3.13

1998
March 31, 1998                        $  4.06           $  2.50
December 31, 1997                     $  5.75           $  2.44
September 30, 1997                    $  6.38           $  4.25
June 30, 1997                         $  7.13           $  4.75

Cyanotech  has never  declared or paid cash  dividends on its Common  Stock.  We
currently  intend to retain all of our  earnings  for use in the business and do
not anticipate  paying any cash dividends on Series C Preferred  Stock or Common
Stock in the foreseeable  future.
     The approximate  number of record holders of outstanding Common Stock as of
June 28, 1999 was 1,410.

Forward-Looking   Information
Certain statements herein set forth  management's  intentions,  plans,  beliefs,
expectations  or  predictions of the future based on current facts and analyses.
Actual  results  may differ  materially  due to a variety  of factors  including
reduced  product  demand,  price  competition,  government  action,  and weather
conditions.  Additional  information  on factors that may affect the Company and
cause  actual  results  to  differ  from  current  expectations  can be found in
Cyanotech's filings with the SEC.