UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C. 20549




FORM
10-K




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




For the
fiscal year ended December 31, 2009




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




For the
transition period from _____ to ______




Commission
file number 0001124608




RESPONSE
GENETICS, INC.


(Name of
Small Business Issuer in Its Charter)




Delaware
                
                2835
                
                11-3525548(State
      or Other Jurisdiction of
                  Incorporation
      or Organization)
                
                (Primary
      Standard Industrial
                  Classification
      Code Number)
                
                (I.R.S.
      Employer
                  Identification
      No.)




1640
Marengo St., 6th Floor


Los
Angeles, California 90033


(323)
224-3900


(Address
and Telephone Number of Principal Executive Offices)





Securities
registered under Section 12(b) of the Exchange Act:





Title
      of each class
                    
                    Name
      of each exchange on which registeredCommon
      Stock, par value 0.01 per share
                    
                    Nasdaq
      Capital
Market





Securities
registered under Section 12(g) of the Exchange
Act:   None.




Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act. YesoNox




Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Exchange Act.  YesoNox




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




Indicate
by check mark if the disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K (§229.405 of this chapter) is not contained herein, and will not
be contained, to the best of registrant’s knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendments to this Form 10-K. o




Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company.  See the definitions of “large accelerated filer,”
“accelerated filer” and “smaller reporting company” in Rule12b-2 of the Exchange
Act.


Large
      accelerated filer  o
                Accelerated
      filer  oNon-accelerated
      filer  o(Do not check if a
      smaller reporting Company)
                Small
      reporting company  x




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




The
aggregate market value of common stock held by non-affiliates of the registrant
was $6,628,244 as of June 30, 2009, the last business day of the registrant’s
most recently completed second fiscal quarter. Such aggregate market value was
computed by reference to the closing price of the common stock of $1.26 per
share as reported on the Nasdaq Capital Market on June 30, 2009. For purposes of
this calculation only, the registrant has defined affiliates as all directors
and executive officers as of June 30, 2009 and any stockholder whose ownership
exceeds 10% of the common stock outstanding as of June 30, 2009




The
number of shares of the registrant’s common stock outstanding as of
April 13, 2010 was 18,302,532.




DOCUMENTS
INCORPORATED BY REFERENCE




The
following documents (or parts thereof) are incorporated by reference into the
following parts of this Form 10-K: Certain portions of the Registrant’s
definitive Proxy Statement for the 2010 Annual Meeting of Stockholders are
incorporated by reference into Part III of this Annual Report on Form
10-K.












TABLE
OF CONTENTS




PagePart
      IItem
      1.  Business.
                      
                      3Item
      1B. Unresolved Staff Comments.
                      
                      20Item
      2.  Properties.
                      
                      20Item
      3.  Legal Proceedings.
                      
                      21Part
      IIItem
      4.  Market for Common Equity, Related Stockholder Matters and
      Issuer Purchases of Equity Securities.
                      
                      21Item
      5.  Selected Financial Data.
                      
                      22Item
      6.  Management’s Discussion and Analysis of Financial Condition
      and Results of Operations.
                      
                      23Item
      7.  Financial Statements and Supplementary Data.
                      
                      35Item
      8.  Changes in and Disagreements with Accountants on Accounting
      and Financial Disclosure.
                      
                      35Item
      8A(T).  Controls and Procedures.
                      
                      35Item
      8B.  Other Information.
                      
                      36Part
      IIIItem
      9.  Directors, Executive Officers, Promoters and Corporate
      Governance
                      
                      36Item
      10.  Executive Compensation
                      
                      36Item
      11  Security Ownership of Certain Beneficial Owners and
      Management and Related Stockholder Matters.
                      
                      36Item
      12.  Certain Relationships and Related Transactions, and
      Director Independence.
                      
                      37Item
      13.  Principal Accountant Fees and Services.
                      
                      37Part
      IVItem
      14.  Exhibits, Financial Statement Schedules.
                      
                      70




- 2
-


Item
1.  Business


Overview





Response
Genetics, Inc. was formed as a Delaware corporation in September 1999. We are a
life sciences company engaged in the research and development of innovative
clinical diagnostic tests for cancer based on our proprietary technologies. Our
mission is to provide personalized genetic information that will help guide
physicians and patients in choosing the treatment from which a given patient is
most likely to benefit.  We currently generate revenues primarily from
sales of our proprietary analytical pharmacogenomic testing services of clinical
trial specimens to the pharmaceutical industry.  We also provide
specialized laboratory services and launched our first diagnostic tests under
the brand name ResponseDXTM for non-small cell lung cancer and colon cancer in
2008.





Our
patented technologies enable us to reliably and consistently extract the nucleic
acids RNA and DNA from tumor specimens that are stored as formalin-fixed and
paraffin-embedded, or FFPE, specimens and thereby to analyze genetic information
contained in these tissues. This is significant because the majority of patients
diagnosed with cancer have a tumor biopsy sample stored in paraffin, while only
a small percentage of patients’ tumor specimens are frozen. Our technologies
also enable us to use the FFPE patient biopsies for the development of
diagnostic tests. To our knowledge, we are the first company to generate
clinically relevant information regarding the risks of recurrence of cancer or
chemotherapy response using approximately 30,000 genes available from microarray
profiling of FFPE specimens.





We file
our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports
on Form 8-K, amendments to those reports and other information with the
SEC.  Copies of these reports are also available through our website at
www.responsegenetics.com.  We also post copies of our press releases on our
corporate website.





Our
Approach





Clinical
studies have shown that not all cancer chemotherapy works effectively in every
patient, and that a number of patients receive therapy that has no benefit to
them and may potentially even be harmful.  Our goal is to provide
physicians and cancer patients with a means to make informed, individualized
treatment decisions based on genetic analysis of tumor tissues.





Response
DXTM





The
outcome of cancer chemotherapy is highly variable due to genetic differences
among patients. Some patients respond well with tumor shrinkage and increase in
life span. Other patients do not obtain benefit from the same therapy but may
still experience toxic side effects as well as delay in effective treatment and
psychological trauma.





At
present most chemotherapy regimens are administered without any pre-selection of
patients on the basis of their particular genetics. However recent development
of very sensitive molecular technologies has enabled researchers to identify and
measure genetic and biochemical factors in patients’ tissues that can predict
the probability of success or failure of many currently used anti-cancer agents.
In order to increase the chances of a better chemotherapy outcome for cancer
patients, we are developing genetic tests that will measure predictive factors
for tumor response in tumor tissue samples. We offer tests for non-small cell
lung cancer (NSCLC), colorectal cancer (CRC) and gastric and gastroesophageal
(GE) cancer patients’ tumor tissue specimens through our ResponseDX: Lung,
ResponseDX: Colon and ResponseDX: Gastric test suites. The test results may help
doctors and patients decide the course of treatment for patients.





Since
February 2008, our ResponseDX tests are commercially available through our
laboratory located in Los Angeles, California, which is certified under the
Clinical Laboratory Improvement Amendment of 1988 (CLIA).





Our
Technology





All of
our tests are based on the polymerase chain reaction (PCR), which is a
sensitive, precise and reliable technology that gives numerical values that are
not dependent on subjective interpretation by pathologists, as are
antibody-based tests.  We developed and extensively validated technology to
perform quantitative PCR analysis of gene expressions in formalin-fixed paraffin
embedded (FFPE) tumor tissues. We have used our technological expertise in many
projects for the pharmaceutical industry and for many collaborative scientific
studies.  The benefit of our capability for patients is that in many cases,
no tissue samples other than the pre-treatment diagnostic biopsy will be
required for the biomarker analysis.





We
developed ResponseDX in part by using our technology to extract genetic
information from FFPE tumor specimens.  Our technology provides gene
expression information for each patient’s tumor tissue specimen.  Our
mission is to help doctors and patients choose the most effective cancer
treatment options- the first time- based on a patient’s unique genetic code. We
assess NSCLC, CRC and gastric/GE patients’ tumor tissue specimens through our
ResponseDX: LungTM, ResponseDX: ColonTM and ResponseDX: GastricTM test
suites.  The test result may help doctors and patients decide the best
course of treatment for patients.





- 3
-




Except
for the historical information contained herein, this Annual Report on Form 10-K
contains or may contain, among other things, certain forward-looking statements,
within the meaning of the Private Securities Litigation Reform Act of 1995. Such
forward-looking statements involve significant risks and uncertainties. Such
statements may include, without limitation, statements with respect to the
Company's plans, objectives, projections, expectations and intentions, such as
the ability of the Company to analyze cancer samples, the potential for using
the results of this research to develop diagnostic tests for cancer, the
usefulness of genetic information to tailor treatment to patients, the ability
of the Company to make its ResponseDX: Lung, ResponseDX: Colon and ResponseDX:
Gastric tests available and other statements identified by words such as
"projects," "may," "could," "would," "should," "believes," "expects,"
"anticipates," "estimates," "intends," "plans" or similar
expressions.




These
statements are based upon the current beliefs and expectations of the Company's
management and are subject to significant risks and uncertainties, including
those detailed in this Annual Report on Form 10-K filed with the Securities and
Exchange Commission. Actual results, including, without limitation, actual sales
results, if any, or the application of funds, may differ from those set forth in
the forward-looking statements. These forward-looking statements involve certain
risks and uncertainties that are subject to change based on various factors
(many of which are beyond the Company's control).




- 4
-




Scientific
Background




The
nature of cancer




Cancer is
basically an uncontrolled growth of cells and expansion of tissues that can
invade and destroy the function of adjoining and even distant organs. In
contrast to infectious diseases which are entirely caused by outside agents such
as viruses and bacteria, cancer is a disease that arises from genetic breakdown
within our own cells. To be sure, this internal cellular malfunction can also be
triggered or promoted by external causes such as chemicals in tobacco smoke or
asbestos exposure or even viruses, but in many cases, cancer also seems to occur
spontaneously because of an inherent instability of the human genome. The
problem with cancer from a treatment point of view is that it is not one disease
but one of almost infinite variety. Due to the vast biochemical complexity of
human cells, there are numerous ways by which loss of control of cell growth can
occur, and this diversity of pathways leads to cancers with varying properties:
growth rate, invasiveness of adjoining tissues, the ability to develop a new
vascular system, metastatic potential, and responsiveness to various therapies.
Cancers arising in different organs (e.g., colon, breast or lung) and tissues
within these organs have distinct biological properties depending on the
triggering event and pathway of tumor development. For example, lung cancers
associated with smoking are different from those that develop in non-smokers and
cancers of the esophagus associated with excessive alcohol and smoking
consumption are different from those associated with chronic gastro-esophageal
acid reflux.




The
worldwide market for pharmacogenomics




Human
beings are about 99.9% identical in their genetic makeup, with the remaining
0.1% responsible for their unique individual characteristics. Analyzing these
naturally occurring genetic differences may enable scientists to understand the
variability that contributes to physiological traits, including cancer
susceptibilities and the progression of cancer. The variation in several genes
affects each individual’s risk of cancer development, the level of tumor
aggressiveness, the probability of metastasis, and the probability of survival.
Natural genetic variations also lead to differences in the way that drugs are
absorbed, metabolized and incorporated by the body, and thus affect the relative
efficacy of drugs in different individuals.




Understanding
genetic variations and discovering the correlations of the genes that are
associated with clinical outcomes constitutes the field of pharmacogenomics and
underlies the concept of personalized medicine. Pharmacogenomics promises to
help researchers produce better predictive and diagnostic molecular tests and
drugs which, in turn, will enable physicians to implement personalized medicine
by selecting treatments and drugs based on individual needs of each patient.
Personalized medicine may offer a number of key benefits, including earlier
interventions, more efficient drug development and more effective
therapies.




We
believe that the application of pharmacogenomics to cancer treatment represents
a significant opportunity, as new cancer cases are estimated to increase by 50%
and approach 15 million worldwide by the year 2020, according to a new World
Cancer Report by the World Health Organization.  According to this report,
lung cancer accounts for 1.2 million new cases worldwide annually; colorectal
cancer for 940,000; esophageal cancer for 410,000; pancreatic cancer for
216,000. Cancer of unknown primary affects about 5% of all cancer patients. We
focus our research efforts on developing diagnostic tests for each of these
common cancer types. The National Institutes of Health estimates overall costs
for cancer in 2005 at $210 billion, including $74.0 billion for direct medical
costs.




Benefits
of personalized medicine




Treatment
of the disease presents a major challenge because of the wide biological
variations among cancers. As such, there is no one standard therapy or approach
for treating the disease that can be recommended to cancer patients. Cancers
originating from various tissues or organ sites require specialized therapies;
but even cancers emanating from the same tissue type may call for different
treatment modalities because of varying degrees of disease
progression.




To help
choose among treatment options, physicians try to determine the extent to which
the cancer has spread to other parts of the body. Patients are assigned to
different stage categories ranging from I to IV depending on the degree of
invasion of the tumor into the adjacent tissues, the number of lymph nodes with
detectable cancer cells, and the presence of distant metastasis. In addition to
staging, tumors are also graded according to cell type. Cells that are well
differentiated closely resemble mature, specialized cells and indicate a good
prognosis (predicted survival time), whereas cells that are undifferentiated
represent a malignant population associated with poor prognosis.




Once the
prognosis for a patient is determined by taking into account the stage of the
tumor and the grade of malignancy of the cells, healthcare providers can
determine the appropriate treatment options available to a particular
patient.




Current
staging and grading methods, which are based largely on subjective
histopathologic examination (i.e., visual inspection by a pathologist) of
tissues or cells, often fall short and fail to adequately predict malignancy
aggressiveness. This suggests that the key to distinguishing the low-risk from
the high-risk patients must lie in understanding the genetic variations between
these groups at the molecular level. The study of how genes specify individual
characteristics is called “genomics.”




- 5
-




Until
recently, however, it was very difficult to characterize genetic differences at
the molecular level because the technology did not exist either for rapid
analysis of the genetic sequence or for precise measurement of various mRNA
molecules in biopsy tissues. This situation dramatically changed with the
invention of PCR and gene expression microarrays. Scientists have applied gene
expression profiling to identify markers of high risk of relapse for patients
with various types of cancer. Studies of breast, lung, lymphoma and other
cancers suggest that there are different sets of genes expressed in various
tumor tissues that are associated with specific clinical outcomes. Categorizing
these expressed sets of genes can offer a powerful complementary approach to
clinical or histopathological examination. We believe that this approach will
help researchers produce better predictive and diagnostic molecular tests and
drugs which in turn, will help physicians select treatments and drugs based on
individual needs of each patient.




Personalized
medicine offers a number of key benefits:




·Better diagnoses and
earlier interventions. Molecular analysis can help guide treatment
choices by determining precisely which variant of a disease a person has, or
whether he or she is susceptible to drug toxicities. For preventive medicine,
such analysis could improve the ability to identify which individuals are
predisposed to develop a particular condition and guide decisions about
interventions that might prevent it, delay its onset or reduce its
impact.




·More efficient drug
development. A better understanding of genetic variations in tumor tissue
could help scientists identify new disease subgroups and their associated
molecular pathways, and design drugs that target them. Molecular analysis could
also assist in the identification of patients better suited for inclusion in, or
exclusion from, late-stage clinical trials — potentially facilitating the
identification and approval of drugs that might otherwise be abandoned because
they appear to be ineffective in the larger patient population.




·More effective
therapies. Currently, physicians often have to use trial and error to
find the most effective medication for each patient. As we learn more about
which molecular variations best predict how a patient will react to a treatment,
and develop accurate and cost-effective tests, doctors will have more
information to guide their decisions about which medications are likely to work
best. In addition, testing could help predict the best dosing schedule or
combination of drugs for a particular patient.




Current
technologies to measure gene expression




Polymerase Chain Reaction
(PCR). The PCR is a technique that makes it possible to amplify a
specific DNA segment thousands or even millions of times, thereby making it
possible to achieve a quantitative measure of the amount of a particular mRNA
species in a tissue specimen. The PCR method is sensitive, accurate and precise
and is best suited for analysis of a limited number of genes in a large set of
specimens.




Gene expression microarrays.
Gene expression microarray technology is based on the principle of “capturing”
specific RNA sequences extracted from a patient sample by binding to
complementary sequences placed on a silicon wafer chip. The specific RNA
sequences are labeled with a dye that emits a stronger or weaker signal when
“captured” on the chip depending on whether the gene is expressed at a high or
low level. Since sequences from the majority of the human genome (approximately
30,000 genes) are placed on the chip, information about gene expression from all
of these genes becomes available to the researcher by this technology.
Microarrays are commonly used to simultaneously study large numbers of genes and
their regulation. The power of the microarray lies in its ability to measure the
expression of many thousands of genes simultaneously. The use of gene expression
microarrays from mRNAs has grown rapidly in academia, medicine and the
healthcare industry.




The
recent microarray- and RT-PCR-based studies showing that gene expression
profiles can predict eventual clinical outcomes (such as long or short survival)
for patients have generated great interest because they demonstrated the
potential of gene expression profiling in cancer prognosis. However, before
predictive gene profiles are adopted for individualized therapy, the findings of
these initial studies will require independent validation using larger sets of
clinical specimens and prospective trials of the markers in a large patient
population will be essential. This large number of specimens is readily
available from patient biopsies embedded in paraffin. Until recently, microarray
analysis of formalin fixed paraffin embedded, or FFPE tumor specimens was not
possible.




Significance
of our ability to isolate RNA from FFPE specimens compared to fresh-frozen
specimens.




The value
of the information gained through genetic analysis of tumor specimens suggests
that there will be a growing need for this kind of analysis of ever larger
numbers of tumor specimens. However, this need currently encounters a major
obstacle. RT-PCR technology and especially gene expression microarrays are best
done using a large quantity of nearly full-length RNA recovered from
fresh-frozen clinical specimens; yet fresh-frozen specimens are not generally
available except in a very limited number of cases in which collection of fresh
tissues is a specific part of a clinical trial. The majority of hospitals and
clinics lack the infrastructure to store and archive frozen tissues. Rather,
clinical specimens are usually available as formalin fixed paraffin embedded
specimens, or FFPE. Fixation and paraffin embedding allow staining and
visualization of tumor cells by pathologists, making FFPE more useful to
pathologists than fresh frozen tissue. Also, once embedded in paraffin, the
tissue remains stable indefinitely, thus allowing for easy storage. The end
result is that, unlike fresh-frozen tissues, large tissue banks of archival FFPE
with long-term follow-up are extensively available and easily
accessible.




- 6
-




Although
most clinical tissue specimens are paraffin-embedded, until recently RNA in FFPE
tissue specimens has not been considered useable for genetic profiling studies
because the isolation of RNA from FFPE with methods that have been published in
the past is unreliable and inconsistent in terms of RNA fragment size. Whereas
RNA isolated from fresh tissues is generally close to full-length, the fixation
process degrades the RNA in the tissue and the more extreme extraction
conditions degrade the RNA further into even shorter fragments. Short fragment
RNA from FFPE has not given consistently good results with currently available
gene expression microarray chips and is also more difficult to use in RT-PCR.
For these reasons, all important diagnostic biomarker studies to date involving
gene expression microarrays and most studies involving RT-PCR have used
fresh-frozen tissue specimens and thus many have been constrained to analyzing a
small number of specimens because of the limited availability of fresh-frozen
biopsy tissue. In contrast, almost all patients diagnosed with cancer have a
paraffin block stored at the hospital from which they were diagnosed. There are
approximately 1.4 million patients diagnosed with cancer per year in the United
States. We can access molecular information from paraffin blocks that have been
stored up to 10 years. Therefore, there are about 14 million specimens in
existence in the United States that we potentially could analyze.




Our
Technologies




We have
developed technologies for the extraction of RNA from FFPE tissues which enable
us to reliably recover RNA suitable for a variety of applications, such as gene
expression research, development of diagnostics, and microarray platforms. We
believe our technologies for the first time can provide access to molecular
information from the entire vast body of archival tissue specimens from past
clinical trials for which clinical outcomes and results are documented. In
addition, our technologies permit gene profiling analysis of current clinical
trials, most of which are still using the paraffin embedding technique for
tissue specimen storage.




RGI-1




Kathleen
Danenberg, our President, Chief Executive Officer and director, co-developed and
patented (U.S. Patent No. 6,248,535; Danenberg, et al., Method For
Isolation of RNA From Formalin-Fixed Paraffin-Embedded Tissue Specimens), an
extraction method (RGI-1) that allows reliable and consistent isolation of RNA
and DNA from FFPE suitable for use in RT-PCR analysis, while she was employed at
USC. Using RGI-1, successful RT-PCR quantitation of gene expressions is possible
from as little as a single 10-micron section of a paraffin block with over 90%
reliability and excellent reproducibility.  We validated our methodology,
which particularly addressed issues of recovery of RNA, accuracy, and precision.
RGI-1 allows for rapid extraction of RNA with little or no DNA contamination,
which makes it suitable for large-scale analysis. We have used RGI-1
successfully to quantify gene expressions in over 45,000 FFPE specimens received
by us from various pharmaceutical companies since 2001 as well as in our own
research projects. We and others have published over fifty papers and articles
based on data generated using RGI-1. The data below demonstrates that gene
expressions obtained by us from FFPE specimens using RGI-1 closely match those
isolated from fresh-frozen tissue.




RNA was
isolated from FFPE tissues by RGI-1 and from matched sets of fresh-frozen
tissues of the same tumor specimens. The expression of several genes was
quantitated by RT-PCR. This experiment shows that if RT-PCR analysis is done
within the guidelines and parameters established by RGI, very similar results
are obtained from FFPE specimens when compared to frozen specimens
data.




RGI-2




RNA
isolated by RGI-1 is fragmented by the heating process, but may be analyzed by
the PCR process. The PCR assay works by binding DNA primers, which are specific
sequences of DNA, at various sites on the gene and copying these sequences
through PCR. These sequences can be designed to bind closely together to
accommodate short fragments of RNA. However, the microarray technology works
best through binding of longer RNA sequences. A second technology developed by
us, RGI-2, is designed to maximize the isolation of longer fragments of RNA.
This technology does not replace RGI-1, since it is less rapid and may contain a
small amount of genomic DNA. Using this technology, the average length of RNA
fragments recovered from FFPE is substantially increased. The RNA preparations
obtained with RGI-2 produced similar results on gene expression microarrays as
RNA isolated from fresh-frozen tissues. Therefore, we believe that this new
technology, which we are in the process of patenting, enables profiling of gene
expression by microarray of archival FFPE specimens from clinical
studies.




The
technologies we have developed for extracting RNA from FFPE provide RNA which is
suitable for both RT-PCR and microarray analyses. These methods of RNA analysis
are characterized by a high degree of reliability and reproducibility, with a
success rate of over 90% if our guidelines are followed.




· Micro-dissection of
each specimen to separate tumor from non-tumor tissue. Most tumor biopsy specimens are
mixtures of normal and tumor tissue. A specimen may include only a small
percentage of tumor cells. The molecular biology of tumor and normal tissues may
be considerably different and mixing the two may yield false results for gene
expression profiling. To accurately measure gene expression and establish
expression profiles of various pathologic lesions, it is important to analyze
RNA from tumor cells. With the assistance of a pathologist, we can identify the
tumor cells and isolate them, either manually or with laser-capture
micro-dissection. Since we are able to work with FFPE we can more accurately
dissect out the tumor cells from the normal cells than would be possible with
frozen tissue because the resolution in FFPE is better than in frozen
tissue.




- 7
-




·Isolation of DNA from the same
specimen used to obtain RNA.Alterations in DNA sequence that are
inherited (polymorphisms) as well as acquired (mutations) are often associated
with disease susceptibilities, treatment response, and survival. DNA
polymorphisms and mutations may change the gene expression pattern of a cell in
specific ways. Characterization of gene expression profiles associated with
various DNA sequence alterations may lead to a better understanding of disease
mechanisms and may suggest new and better treatments. Our technique for
isolating DNA and RNA from the same specimen facilitates such studies because in
many cases the amount of available tissue may not be sufficient for separate
isolation of DNA and RNA. In addition, measuring gene expressions and DNA
sequence alteration in the same cells rather than in different areas of the
tissue specimen is likely to give more valid data.




We
believe these technologies may be used as a powerful tool to establish
diagnostic gene sets for predicting a patient’s likelihood of survival under a
particular treatment regimen. Such diagnostic tests will provide the opportunity
for choosing the best treatment prior to therapy and thus enable application of
personalized medicine based on each person’s unique genetics.





ResponseDX:
LungTM, ResponseDX: ColonTM, and ResponseDX: GastricTM





ResponseDX:
LungTM comprises six tests: ERCC1 expression, RRM1 expression, TS expression,
KRAS mutational analysis, EGFR amplification and EGFR mutational analysis and
ResponseDX: ColonTM comprises six tests: ERCC1 expression, KRAS mutational
analysis, TS expression, EGFR amplification, and BRAF mutational analysis.
ResponseDX: Gastric comprises three tests:  The Response DX test measures
the RNA expression of ERCC1, TS, and RRM1by RT-PCR from a patient's tumor
tissue. PCR analysis of DNA from the patient's sample is used to determine EGFR
amplification and BRAF, EGFR and KRAS mutational status.





Furthermore,
we have found that KRAS, BRAF and EGFR mutations can be analyzed in various
other tumor types.  Therefore, we are also offering these tests in other
tumor types.  For example, there are a number of pharmaceutical agents in
clinical trials targeting BRAF in melanoma.  Physicians are ordering our
tests to determine whether patients may benefit from a clinical trial of a new
agent.





We have
developed assays for single genes comprising the ResponseDX panels for use in
our CLIA lab.  Assay development of these tests was done through rigorous
validation procedures which determine the accuracy (sensitivity and specificity)
of each test. We believe our tests are among the most reliable that are
currently available on the market. Our experience in this area allows us to
continue to develop additional tests for these and other ResponseDX
panels.  In the near term we are developing tests for antthracycline
sensitivity in breast cancer and a test for EML 4-ALK fusion genes which are
important for sensitivity to targeted therapy in lung cancer. Similarly, in
bladder cancer, we are developing a test including ERCC1 and other genes
associated with sensitivity to platinum, vinblastin and epirubicin 
containing regimens.




Sales,
Marketing and Client Services for ResponseDX tests




We offer
our ResponseDX test services nationwide through a specialized sales force
focused on serving the specific needs of customers in the area of
oncology.  Our sales force currently operates out of eleven states and
focuses on community based oncologists, hospitals and physician offices. 
Our sales force is compensated through a combination of salaries, commissions
based upon actual sales performance and bonuses, all at levels commensurate with
each individual’s qualifications, performance and responsibilities. Our test
services are also offered through the clinical laboratories service company
Neogenomics Laboratories, a company focused on genetic diagnostic tests. 
Our tests are also offered internationally through the clinical laboratories
company Genetic Technologies Ltd, a company focused on genetic testing and
reproductive services business.




We have
developed a set of clear and effective marketing materials to support our sales
efforts.  Our materials are targeted to the oncologists and physician
office staff. Our marketing materials provide a summary of our tests along with
practical information regarding how to order our tests.




We
compete largely on the basis of the quality of our tests, the convenience of
ordering our tests and the innovation of our services.




Our
Strategy




Our goal
is to provide cancer patients and their physicians with the means to make
informed, individualized treatment decisions based on genetic analysis of tumor
tissues. Using our two technologies for extraction of RNA from FFPE tissue, we
can analyze specific RNAs rapidly by PCR or the entire genome by using
microarray methods. Elements of our business strategy include:




Developing
diagnostic tests for assessing the risk of cancer recurrence, prediction of
chemotherapy response and tumor classification in cancer patients based on our
technologies.




· Develop a lung
cancer recurrence test.To
date, all studies involving microarray analysis could only be done using frozen
tissues. Since frozen tissues from clinical trials are available on a very
limited basis or often not available at all, this has severely limited the
development of diagnostic tests. In contrast, for the reasons discussed above,
nearly all patients diagnosed with cancer have a diagnostic tissue specimen
stored in a paraffinized state. Therefore, there is a vast number of patient
specimens available for the development of a diagnostic test using our
technology.




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We have
developed preliminary gene sets for predicting risk of recurrence in early stage
non-small cell lung cancer after surgery through analysis of 80 patient
specimens by microarray. This “product candidate” must be validated in a larger
set of patient specimens  in the research setting. Since lung cancer is
among the highest frequency cancers around the world, patient specimens are
available from many sites. We have chosen to prioritize development of a
diagnostic test to predict outcome for this cancer. Generally, Stage 1A and 1B
lung cancer is not treated with chemotherapy even though these patients have a
50% risk of recurrence within five years. The patient is considered in remission
unless and until the tumor recurs. At the time of recurrence chemotherapy is
administered. However, if there were a test for high risk of recurrence, then
the physician could treat the patient right away with chemotherapy rather than
waiting for the recurrence.




Our plan
is to use our proprietary technologies to analyze these archived patient
specimens and to correlate the data with clinical outcomes so that we can
develop diagnostic tests to predict likelihood of recurrence and responsiveness
to chemotherapy.




After
preliminary validation of the predictive gene set, a formal clinical trial will
be designed to prove the ability of the gene set to accurately predict outcome
in additional patients using reagents available from Affymetrix. Since RGI is
able to analyze archived FFPE tissue, the patients included in this trial will
have been treated years ago, but the outcome will be blinded to RGI by the
clinical investigators until the end of the trial. The number of specimens
required in this clinical trial will be determined by the accuracy in which the
preliminary gene set can predict the first series of specimens in the research
study. Based on the current predictability of our gene set, over 90% accuracy,
we estimate that the clinical trial will require an additional 100-200 early
stage lung cancer patients. Additional trials may then be launched at various
sites to continue to refine the accuracy of our assay.




The
analysis of the first two series of patient specimens is complete and
statistical analysis is being performed. Using these results, analysis of
additional retrospective clinical trials may be performed.  Our plan is to
develop a CLIA compliant laboratory developed test using the outcome of this
data.  This process will take approximately one to two years. 
 If compliance with additional regulatory agencies is required, it will add
approximately two to three additional years.




There are
a number of diagnostic test developers available to partner with us during the
clinical trial and test launch process. Roche, with whom we have a strategic
alliance, is one of these providers.




· Develop a lung
cancer chemotherapy response test.In addition to our tests for
recurrence for various forms of cancer, we also intend to develop a test to
determine responsiveness to chemotherapy treatment for lung cancer. Of the
169,000 newly diagnosed lung cancer patients in the United States, a majority
will receive chemotherapy as an initial treatment. Of those who receive
chemotherapy, greater than 90% are given the combination of
Paclitaxel/Carboplatin as their first chemotherapy. Paclitaxel/Carboplatin is
only effective in about 19% of the patients for whom it is prescribed. We intend
to develop a pharmacogenomic test to determine whether an individual patient
will be included in the 19% of NSCLC patients responding to
Paclitaxel/Carboplatin or whether the patient should consider a different
chemotherapy. Clinical trial specimens are available to us for development of
this test, however, there can be no assurance that we will be successful in
developing this test, or if developed, that such a test will be commercially
viable.




In June
2006, we presented at the American Society of Clinical Oncology (ASCO) meeting
the first study demonstrating the possibility of a predictive molecular test
derived by microarray analysis of patients’ FFPE tumor biopsies.




These
preliminary studies in lung cancer using our technologies for RNA extraction
from FFPE have produced gene expression profiles which describe the probability
of recurrence among patients with early stage lung cancer. Other expression
profiles have been generated predicting the risk of metastases. By applying our
technologies to early stage non-small cell lung cancer, we have:




·demonstrated the feasibility of creating a preliminary genomic risk
prediction model using FFPE tissue, and




·identified the differential pathways indicated by the unique gene
signatures between early stage patients surviving less or greater than two years
for both adenocarcinomas and squamous cell carcinomas, and demonstrated the
feasibility of generating differential pathways from FFPE
specimens.




We
believe that this study represents the first “biologically significant” result
using microarray analysis of FFPE specimens.




The
diagnostic test, when implemented, will involve extracting RNA from tumor
biopsies using our technologies and measuring a series of genes (a gene set)
either by microarray or RT-PCR that have been found to differentiate long and
short-term survivors. Levels of expression of these genes will provide
information regarding whether the patient is at a higher than normal risk of
recurrence. We are currently in the process of refining and validating the
predictive gene set for early stage lung cancer recurrence.




In
addition to our studies in lung cancer, we have developed similar preliminary
predictive gene sets for cancer recurrence after surgery for pancreatic, colon
and esophageal cancers. In each of these studies we analyzed patient specimens
from early stage cancers and developed predictive gene sets by microarray
analysis. We have analyzed an average of 40 specimens from each of these cancer
types but will require more research to validate these gene sets. We have
entered into an agreement with Duke University to obtain additional NSCLC
specimens.




·Develop a pancreatic
cancer recurrence test. Similarly to the test for recurrence in lung
cancer, we are in the research phase of developing a test for recurrence after
surgery for pancreatic cancer. We have analyzed a series of twenty specimens by
microarray from patients with pancreatic cancer who were at “high risk” and “low
risk” of rapid recurrence after surgery. The patients at “high risk” had a
median cancer-free survival of 150 days, where the patients at “low risk” had a
median cancer-free survival of 1225 days. Development of a diagnostic tests is
planned to determine the patients at “high risk” of rapid recurrence after
surgery, so that physicians may choose to treat these patients with aggressive
chemotherapy rather than an ineffective surgery at the time of diagnosis. We are
in the early research phase of development of this test and will need to analyze
more specimens before we test our initial gene set by validation. After the
initial validation, a large clinical trial of patients with known outcome to
surgery will be analyzed and the ability of our predictive gene set will be
tested for accuracy. Development of the diagnostic test will be similar to that
for the lung cancer test. We have entered into an agreement with University of
California San Francisco to obtain additional pancreatic cancer specimens and
have begun to analyze these specimens.




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·Develop
a colon cancer
risk of metastasis test. We have analyzed a series of primary tumors in
colon cancer and determined a preliminary gene set predictive of whether the
patient tumor has spread beyond the colon into other sites (metastasized). If a
colon cancer tumor has spread or invaded other organs or lymph nodes, the
treatment may include earlier, more aggressive chemotherapy and not surgery at
the time of diagnosis. It is not always possible for the physician to determine
whether a cancer has spread before surgery has taken place. Therefore, we are
developing a diagnostic test using microarray technology to predict whether the
patient’s tumor is contained in the colon before surgery.  We are in the
research phase of development of this test. We have analyzed sixty patient
specimens with metastatic and non-metastatic colon cancer and have developed a
preliminary gene set predictive of metastatic cancer. We will validate this gene
set in a larger group of specimens and proceed with development of the test in
the same manner as the lung test.





·Develop an esophageal
cancer risk of recurrence test. We have analyzed a series of esophageal
tumors from patients with long and short survival after esophageal surgery. A
preliminary gene set predictive of “high risk” patients was determined using the
first 46 patients analyzed. An additional set of specimens will be used to
validate this predictive gene set and development of the diagnostic test will be
similar to the lung test.





Develop an ovarian cancer
chemotherapy response test. We intend to develop a test to determine
responsiveness to chemotherapy treatment for ovarian cancer.  We have
analyzed a series of ovarian tumors and plan to further analyze additional
specimens to develop a gene set and development of the diagnostic test will be
similar to the lung test.





Develop a bladder cancer
chemotherapy response test. We intend to develop a test to determine
responsiveness to adjuvant chemotherapy treatment for advanced bladder cancer.
We have analyzed a series of bladder tumors from patients enrolled for adjuvant
therapy in the AUO-AB 05/95 phase III trial. In May 2009, at the ASCO
meeting, the results of this study, which investigated the
relationship between multidrug-resistance 1 (MDR1) gene expression and ERCC1
gene expression to outcome was announced.  This study provided the
foundation for development of a diagnostic test for improving chemotherapy of
bladder cancer.  We plan to further analyze additional specimens to develop
a gene set and development of the diagnostic test will be similar to the lung
test





·Develop
a cancers of
unknown primary test. About 5% of patients suffer from cancer without
knowing where the tumor originated. For example, the cancer may have invaded
both the colon and the lungs. Treatments for lung cancer are quite different
from treatments for colon cancer. Therefore, we are planning to develop a
diagnostic test using microarray methods for determination of the origin of the
cancer. We have collected patient specimens from a series of cancers that have
been diagnosed as tumors of unknown origin. These include gallbladder, pancreas,
gastric, kidney, breast, prostate cancer and others. We intend to analyze these
specimens using microarray methodology and develop a gene set that will identify
the origin of the tumor. We are in the early stages of planning our research
analysis of these specimens. Development of a diagnostic test will be similar to
the lung cancer test.




We will
validate these tests using clinical specimens available from our network of over
a dozen clinical investigators. As we proceed from the research phase to the
validation phase with respect to these tests, we will need to access additional
specimens from larger institutions. We have identified these institutions and
are in the process of negotiating the appropriate agreements with them. However,
there can be no assurance that we will be able to enter into agreements with
these institutions on terms favorable to us, or at all.




·Develop “in-house
tests.”We intend to develop our diagnostic tests as “in-house
tests.” Such in-house tests, which will be performed in our own CLIA-certified
laboratory, are also called “home brew” tests. Current examples of in-house
tests are those for estrogen receptor (ER) and progesterone receptor (PR) which
are given to virtually every breast cancer patient. The results of these tests
determine whether the patient should be prescribed a hormone antagonist such as
Tamoxifen and provide information about the aggressiveness of the tumor. None of
these tests is currently regulated by the FDA.




After
validation of the results and after obtaining any necessary regulatory approval,
we intend to develop, market and sell these tests or license them to a
diagnostic company, depending on the market potential of the particular test and
the regulatory climate. For instance, we are currently working with clinicians
who are members of the Cancer and Leukemia Group B (CALGB) research group, who
have indicated a commitment to provide us with the requisite number of FFPE of
early stage lung cancer, both for the discovery and validation phase and for the
prospective testing phase. We are in the process of negotiating the appropriate
agreements with them. However, there can be no assurance that we will be able to
enter into agreements with these clinicians on terms favorable to us, or at
all.




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Growth
Through Globalization of Our Service Business.




We
estimate based on our internal market research and experience to date that the
addressable market opportunity for our testing services business in the area of
analyzing tumor specimens in the course of clinical trials is between $400 and
$500 million worldwide.




Demand
within the pharmaceutical industry requires us to offer “integrated” service
throughout the world for analysis of their clinical trial specimens. It is
important to the pharmaceutical industry and the regulatory agencies that the
same analytical methods be used for each clinical trial sample around the world
so that the data can be easily compared and used for global drug development.
Also, export of clinical trial specimens to the United States is restricted from
some areas of the world such as China. Finally, the enrollment of patients in
clinical trials sometimes depends on analyzing the sample for a specific
biomarker within five days, which may not provide sufficient time for shipping
specimens to the United States.




The
pharmaceutical industry is moving a large percentage of their clinical trials to
Asia to access and treat patients that are chemotherapy-naïve (patients who have
not had previous chemotherapies), to carry out less expensive clinical trials
and to generate “on site” chemotherapy response data to be used in conjunction
with drug approval in these areas. The goal of our globalization plan is to
offer a worldwide analysis of patient specimens and generate consistent data
based on integrated common platforms and technology.




China. We offer our services
in China through a collaboration arrangement with an established biotech
company, Shanghai Biochip Company, Ltd. (“SBC”). This collaboration is
necessary, since the Chinese government does not allow shipment of patient
specimens outside of China for processing elsewhere. We believe that placement
of a laboratory in China is important because several of our pharmaceutical
clients have stated that they have clinical trial specimens stored in China that
they have not been able to analyze. Additionally, prospective clinical trials
are planned in China as part of an effort to get drugs approved in China. 
In the collaboration we provide the technology and training, and SBC provides
the space, equipment and the staff.




·Japan and Asia (except
China and India). We offer our services in Japan through a collaboration
arrangement with Hitachi Chemical Co., Ltd. (“Hitachi”), a leading diagnostics
manufacturer in Japan.  Under this arrangement, Hitachi processes specimens
collected throughout Asia, except China and India, and Australia using our
technology. Pharmaceutical clients have requested analysis of patient specimens
on site in Japan and surrounding countries for prospective clinical trials due
to the need to analyze the patient sample within five days of
surgery.




·Europe. We offered our
pharmacogenomic testing at a site in Edinburgh, Scotland, which was associated
with the University of Edinburgh and Edinburgh Royal Infirmary. We established a
subsidiary, Response Genetics, Ltd. in November 2006 through which we managed
the work at this site. As of March 2009, the laboratory in Edinburgh was
consolidated with the laboratory in Los Angeles due to the ability to ship
patient specimens to Los Angeles and to analyze these samples within five days
of surgery, thus no longer necessitating a laboratory on site in Europe. We
intend to offer our services in Europe with the actual analysis being occurring
in Los Angeles.




We
believe that growth in our pharmacogenomic testing services business will be
enhanced by our ability to process specimens in various locations throughout the
world. To our knowledge, we will be the only company offering this type of
service with consistent results at various sites around the world to the
industry.




Growth
Through Strategic Relationships.




·Collaboration with
Roche Molecular Systems, Inc.Once a predictive biomarker has been found
to be associated with response to a particular chemotherapeutic agent, a
pharmaceutical company client may wish to develop a companion in vitro
diagnostic (IVD) kit, to be available for testing the patient population
globally as their drug is approved. Such a test that determines patient
responsiveness to their drug could enhance the probability of approval of the
new agent with the Food and Drug Administration (FDA). In order to provide such
a test using higher quality reagents and with global distribution potential, we
have formed a collaboration with Roche. Once we have developed effective
research-grade reagents for a particular biomarker or series of biomarkers, the
pharmaceutical company may contract directly with Roche to generate reagents
compliant with FDA standards for development of IVD tests to replace our
research reagents for a particular biomarker or series of biomarkers. We will
use these high quality reagents comprising the pre-IVD test for positivity of a
particular biomarker or series of biomarkers as a requirement to enroll
a patient in prospective clinical trials. Data from these trials will be
submitted to the FDA for approval of an IVD kit for response simultaneously with
the approval of the New Drug Application. Since we are involved in the discovery
of the genes involved for response to a particular chemotherapy with the
pharmaceutical client, we enjoy royalty free and exclusive rights to analyze the
prospective trial specimens for these biomarkers. These include specimens
generated from the large phase II and phase III trials to be submitted to the
FDA, EMEA and other global regulatory agencies for approval of the drug. The
value of this relationship is that we provide for the pharmaceutical industry
testing services that produce research-grade assays for development of
biomarkers and determination of the appropriate target populations for their
therapy, and potentially enhance their opportunity for clinical trial success in
enriched patient populations. In this way individualized therapy will be
available to patients, and the speed to market of chemotherapy agents targeted
to a subset of the population that would not have met the criteria for approval
for the entire population will be increased.




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Developing
a Pharmacogenomic Test for Generic Drugs.




·Generic drug tests.The majority of patients that require chemotherapy are given drugs, such
as Tamoxifen, that are no longer under patent from the pharmaceutical company
that developed the drug. Once a company that seeks to produce and commercialize
a generic version of one of these drugs has obtained approval from the FDA, the
typically lower-priced generic drug may be used in place of the brand name drug.
Tests for generic drugs are not likely to be developed by the pharmaceutical
industry because they no longer have a commercial interest in those drugs,
therefore, they are appropriate targets for the development of associated
in-house tests. We intend to develop a pharmacogenomic test to determine whether
an individual patient will be included in the 19% of NSCLC patients responding
to Paclitaxel/Carboplatin or whether the physician and patient should consider a
different chemotherapy. Paclitaxel and Carboplatin are both sold as generic
drugs. We intend to develop pharmacogenomic tests to determine response to other
generic drugs, if the market potential of the test is similar to that for
Paclitaxel and Carboplatin. However, there can be no assurance that we will be
successful in developing these tests, or if developed, that such a test will be
commercially viable.




·Micro RNA
Analysis. Our technology for extraction of nucleic acids from FFPE
tissues delivers micro RNA as well as DNA and total RNA. We are developing a
service to analyze specific micro RNAs from FFPE specimens for the
pharmaceutical industry.




License
Agreement with the University of Southern California




In April
2000, as amended in June 2002 and April 2005, we entered into a license
agreement with USC, pursuant to which USC granted us a worldwide, exclusive
license with the right to sublicense, the patents for RGI-1 and related
technology, for use in human and veterinary diagnostic laboratory services, the
sale of clinical diagnostic products, and the sale of research products to the
research community. We are obligated under the agreement to use best efforts to
work toward the commercialization of the licensed technology. In consideration
for this license, we are obligated to pay royalties to USC, as a percentage of
net sales of products or services using the technology, and to meet a certain
minimum in royalty payments. Royalty expense for the years ended December 31,
2009 and 2008 was $227,956 and $79,052, respectively. USC retains the right
under the agreement to use the technology for research and educational
purposes.




Upon
authorization from us, USC has the obligation to undertake all responsibilities
for the filing, prosecution and maintenance of all patents covered under the
license; however, we have agreed to reimburse USC for all associated costs. If
we elect not to pursue a particular patent, the rights to that patent revert to
USC, if USC takes the necessary steps to prosecute and maintain the patent; if
USC does not undertake such actions, the exclusive license rights to the patent
remain with us. We bear full responsibility for enforcement of patent rights
against all claims of infringement by third parties and the right, but not the
obligation to bring action against any alleged infringement of the licensed
patents by third parties, bearing all costs. USC has the right to pursue any
offensive enforcement we chose not to pursue at its own expense and we may agree
with USC to pursue such action jointly, sharing all related costs.




This
agreement terminates on the first to occur of: (i) the date of the expiration of
the last to expire of the patents issued in any country, or (ii) if no patents
issue, the date on which any decision or determination to reject or deny
the last remaining patent application or claim becomes final. Either party may
terminate this agreement for uncured material breach or default upon written
notice to the other party. We may terminate the agreement for any reason, upon
written notice to USC. USC may terminate the agreement, upon written notice, in
the event that we transfer or assign our rights and obligations under the
agreement to a third party, in any manner contrary to the terms of the agreement
or in derogation of USC’s proprietary rights; and immediately if we fail to
obtain or maintain insurance coverage and for other specified causes. We are
obligated to indemnify USC against all liabilities to third parties, from claims
arising in connection with the agreement and our use, sale or other distribution
of services and products involving the licensed technology. We also are required
to maintain comprehensive general liability insurance, appropriately covering
the full scope and range of activities we pursue with the licensed
technology.




License
Agreement with Roche Molecular Systems, Inc.




In
November 2004, we entered into a license agreement with Roche, pursuant to which
we are collaborating with Roche to produce commercially viable assays related to
the validation of genetic markers for pharmaceutical companies. Specifically, we
have licensed the rights to Roche to use the pre-diagnostic assays we develop in
the course of using our RNA-extraction technologies to provide testing services
to pharmaceutical companies, to produce diagnostic kits that then can be sold
commercially to those pharmaceutical companies. Roche is required to pay us
royalties of a certain percentage of net sales of the diagnostic kits sold to
pharmaceutical companies.   For the years ended December 31, 2009 and
2008 there were no royalties received by us for this arrangement.




Roche
will own the rights to all improvements or modifications solely made by it to
the assays or to the technologies we use to develop those assays. Roche has
granted us a license to use the optimized assays that form the basis of the
diagnostic kits for research purposes. Each party has the exclusive right to
prosecute, maintain and defend against infringement, its own patents and
applications for patents using counsel of its choice at its
expense.




The
agreement will continue until the date on which each and every application for
patent and claim of our patent rights has expired, been disclaimed, been
cancelled, abandoned or terminated, or has been held invalid by a court of law.
Either party may terminated the agreement for material breach or for cause, as
defined in the agreement, upon prior written notice to the other party.
Following the two year anniversary of the effective date of the agreement,
either party may terminate the agreement by meeting certain notice obligations
and provided that the term will be extended to the point necessary to meet the
requirements of any third party pharmaceutical company collaboration transaction
then subject to completion.




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Patent
License Agreement with Roche Molecular Systems, Inc.




In
November 2004, we entered into an agreement with Roche pursuant to which we
obtained a royalty-bearing, non-exclusive, personal, non-transferable license to
use certain licensed technology, including specified nucleic acid amplification
processes, to perform certain polymerase chain reaction-based human in vitro
clinical laboratory services.




Roche
retains all proprietary rights to the licensed technologies and our
non-exclusive license is limited to the use of the technology as described
above. Under this agreement, neither party is obligated to defend any
proprietary rights against third parties for infringement.




In
consideration for this license, we are obligated to pay royalties to Roche, as a
certain percentage of revenues we receive from performing services using the
licensed technology. Royalty expense for the years ended December 31, 2009
and 2008 was $198,279 and $292,481, respectively.




This
agreement terminates on the date of expiration of the last to expire of the
patents included in the licensed technology. Roche may immediately terminate the
agreement upon written notice in the event of any material change in our
ownership or control, or in the event that we breach certain non-assignability
provisions of the agreement. Roche may also terminate the agreement upon prior
written notice in the event of any breach or default by us of a material term
under the agreement. The agreement will automatically terminate upon our entry
into bankruptcy or similar proceedings.




Services
Agreement with Taiho Pharmaceutical Co., Ltd.




In July
of 2001, we entered into an agreement with Taiho pursuant to which we will
provide Taiho with molecular-based tumor analyses for use in its business
development and marketing of pharmaceutical and diagnostic products for use
against cancer. Pursuant to the agreement, we appointed Taiho as the exclusive
purchaser in Japan of tests and testing services based upon RGI-1 using gene
expression through 2010 for: (i) any one or the combination of specified
molecular markers, (ii) the therapeutic use of specified compounds, or
(iii) the diagnosis or therapeutic treatment of specified precancerous and
cancerous diseases. We also granted Taiho the right to be a non-exclusive
purchaser in Japan of tests and testing services based upon RGI-1 using gene
expression, other than those for which Taiho has exclusivity, for: (i) any
one or combination of molecular markers, (ii) the therapeutic use of any
compound or biological product against cancer, or (iii) the diagnosis or
therapeutic treatment of precancerous and cancerous diseases.




We are
obligated to notify Taiho of new molecular markers, therapeutic compounds and
diseases for which RGI-1 may be useful and to offer Taiho the option of
including those within its exclusivity. Taiho must perform all testing services
pursuant to our instructions and we retain the right to process some or all of
the testing services for Taiho internally, or through any other designated and
licensed laboratory; provided that such other laboratory is under an appropriate
obligation of confidentiality with respect to this agreement.




In
consideration for the testing services provided, Taiho made a fixed amount
advanced payment to us and is obligated to pay regular testing fees, covering
the specific services performed on a monthly basis which was initially recorded
as deferred revenue and has subsequently been fully recognized. Taiho is
obligated to purchase a minimum amount of testing services from us during each
calendar quarter through 2010. Revenue recognized under this agreement for the
years ended December 31, 2009 and 2008 was $1,782,950, and $1,844,725,
respectively. We obtained a non-exclusive sublicense from the University of
Southern California for Taiho for distribution of the testing services in Japan.
We retain all intellectual property rights to our proprietary testing services
and materials, other than specimens provided by Taiho, and all related patent
applications provided that, however, Taiho retains all intellectual property
rights to the results of the testing services performed under the
agreement.




Taiho has
agreed to indemnify us against any damages claims brought by third parties based
on the distribution of the testing services; any claims related to false
advertising or unfair competition; and any regulatory challenges. We have agreed
to indemnify Taiho against claims of intellectual property infringement related
to the testing services. Both parties have agreed to indemnify one another
against any breaches of warranties or failures to perform obligations under the
agreement. We have agreed to maintain comprehensive general liability insurance
for the term of the agreement and for a specified period thereafter. Either
party has the right to terminate the agreement in the event of an uncured
material breach by the other party, upon written notice, or for cause, as
defined under the agreement. Since we do not hold a patent for RGI-1 in Japan,
we have agreed to negotiate to adjust Taiho’s fee obligations in the event that
a third party obtains a patent for similar testing services in Japan and offers
those services at a competitive rate. In the event that we cannot reach an
agreement Taiho has the right to terminate the agreement upon fulfilling certain
notice obligations. In addition, should Taiho terminate the agreement for cause,
Taiho retains the right to have Dr. Peter Danenberg and/or Kathleen Danenberg
provide the testing services in the same manner as we provide them under the
agreement. In January 2010, this agreement with Taiho was renewed for an
additional three years. According to the terms of the renewal, Taiho’s
appointment as an exclusive purchaser of tests and testing services in Japan
through 2010 and its minimum purchasing obligations were extended through
2010.




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Services
Agreement with SmithKline Beecham Corporation (d.b.a. GlaxoSmithKline) (“GSK”)
and Amended and Restated Service Agreement with GSK




In
January 2006, we entered into an agreement with GSK, pursuant to which we
provide services in relation to profiling the expression of various genes from a
range of human cancers. Under the agreement, we will provide GSK with testing
services as described in individual protocols and GSK will pay us for such
services based on the pricing schedule established for each particular protocol.
GSK is obligated to make minimum annual payments to us under the agreement and
also was obligated to make a non-refundable upfront payment to us of $2,000,000,
which was initially recorded as deferred revenue, to be credited against work
undertaken pursuant to the agreement.  Revenue recognized under this
agreement for the year ended December 31, 2009 and December 31, 2008, was
$190,935 and $1,255,031 respectively.  GSK retains the rights to any
intellectual property resulting from our performance of the testing activities
contemplated under the agreement, and we have agreed to cooperate with and
assist GSK with taking any steps necessary for obtaining copyright protection
for such intellectual property. We retain all intellectual property rights to
our proprietary testing and gene production processes and all related
patents.





Both
parties have agreed to indemnify one another mutually against any liabilities to
third parties arising from a party’s negligence or failure to perform activities
contemplated under the agreement or as a result of any material breaches of the
agreement by a party, or an employee or affiliate of that party. The initial
term of the agreement extended until January 2009. In December 2008 we entered
into an Amended and Restated Master Service Agreement with GSK to extend the
agreement for two years. Subsequently, the parties have the option to extend the
agreement for one-year renewal periods upon their mutual written consent. GSK
has the right to terminate the amended and restated agreement or any particular
study to be performed under the agreement, with or without cause, upon prior
written notice to us. Either party may terminate the agreement upon written
notice, for uncured material breach or for cause, as defined under the
agreement. In addition, we will become a preferred provider to GSK and its
affiliates of genetic testing services on a fee-for-service basis and, in
anticipation of the services to be provided, GSK agreed to make a non-refundable
upfront payment of approximately $1,300,000 which was received on January 5,
2009. This payment was classified as deferred revenue and will be used
for future work undertaken in the period beginning on January 1, 2009 and
ending on December 31, 2010. The amount of deferred revenue for this
agreement at December 31, 2009 is $1,400,933 of which $1,294,768 related to the
Amended and Restated Master Service Agreement signed in December
2008.




Master
Laboratory Test Services Agreement with GlaxoSmithKline Biologicals (“GSK Bio”)
and Amended and Restated Service Agreement with GSKBio




In
December 2006, the Company entered into an agreement with GSK Bio pursuant to
which it will provide testing services, principally in relation to profiling the
expression of various genes from a range of human cancers. The Company will
conduct the testing services on tissue specimens provided by GSK Bio. The
agreement required that GSK Bio make an upfront payment of $2,620,000, which was
received by the Company in December 2006. The agreement further specifies that
GSK Bio will pay annual minimum payments in 2007, 2008 and 2009 and that the
upfront payment made in December 2006 will be credited against the annual
minimum payments in 2007 and 2008. The agreement also provides that any
differences between the annual minimum payments made in 2007, 2008 or 2009 and
the amounts due to the Company for testing services performed on specimens
submitted by GSK Bio during the three years ending December 31, 2009 be credited
towards services performed during the year ending December 31, 2010, the final
year of the agreement. The amounts received under this agreement were recorded
initially as deferred revenue. If the Company ceases to provide services under
the Amended and Restated Agreement for any reason, the Company shall remit to
GSK Bio payment of the then remaining balance of the existing credit within
sixty days of the date on which the Company ceased to provide services to GSK
Bio.




In
December 2007, the Company amended its agreement with GSK Bio
whereby GSK Bio would make the remaining minimum payments under the agreement in
one lump sum. This payment of approximately $2,722,000 was received in January
2008 and was initially accounted for as part of deferred revenue. The timing of
the recognition of these amounts is dependent upon when GSK submits the
specimens for testing.





On
September 7, 2009, the Company amended and restated its master service agreement
with GlaxoSmithKline Biologicals (“GSK Bio”), the vaccine division of
GlaxoSmithKline (the “Amended and Restated Agreement”).  Pursuant to the
Amended and Restated Agreement, the parties agreed that GSK Bio has accrued an
aggregate credit under the terms of the original agreement, representing the
balance of deferred revenue relating to this agreement at that date, which
amount shall be allocated towards services rendered to GSK Bio during the
remaining term of the agreement as described below. The amount of deferred
revenue related to GSK Bio at December 31, 2009 and 2008 is $2,588,896 and
$3,120,027, respectively.  The Company recognized $3,631,716 and $3,420,748
in revenue for the years ended December 31, 2008, and 2009,
respectively.




- 14
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For each
calendar quarter of 2009 and the first two quarters of 2010, €200,000 of the
existing credit shall apply to all services rendered to GSK Bio during such
calendar quarter.  Pursuant to the Amended and Restated Agreement, GSK Bio
may now extend the term of the agreement for an additional one-year period
through December 31, 2011.  In the event GSK Bio extends the term through
2011, the then remaining balance of the existing credit shall be divided into
six equal quarterly amounts and apply to all services rendered to GSK Bio in
each of the last two quarters of 2010 and the four calendar quarters of
2011.  If GSK Bio does not extend the term through 2011, the then remaining
balance of the existing credit will instead be divided into two equal quarterly
amounts and apply to all services rendered to GSK Bio in each of the last two
quarters of 2010.  In all cases, GSK Bio shall remit payment to the Company
for all services rendered to GSK Bio in any such calendar quarter that is in
excess of the applicable credit amount.  In the event the amount of
services rendered to GSK Bio in a calendar quarter does not exceed the
applicable credit amount, the existing credit for the following calendar quarter
shall be increased by such unused amount.  If the Company ceases to provide
services under the Amended and Restated Agreement for any reason, the Company
shall remit to GSK Bio payment of the then remaining balance of the existing
credit within sixty days of the date on which the Company ceased to provide
services to GSK Bio.





The
Amended and Restated Agreement further provides that the Company shall provide
additional services on a fee-for-service basis, upon GSK Bio’s written request,
relating to the bridging of assays/diagnostic tests to third parties that
develop, manufacture and sell the commercial diagnostic tests to be used with
certain of GSK Bio’s products.




Service
Provider Agreement with Affymetrix




We have
obtained from Affymetrix a non-exclusive, non-transferable, non-sublicensable
license to use its GeneChip® microarrays to provide our pharmacogenomic testing
services to our academic, biotech and other industrial clients. Under this
agreement, we work with Affymetrix pursuant to a formal service provider
arrangement. Prominent among the features of this arrangement is that each party
has the right to use the other party’s trademarks and logos in the course of
advertising and marketing their own products and services. However, such right
may be terminated at the option of either party if the other party’s use does
not meet the first party’s usage policy. Except as expressly agreed to,
Affymetrix retains all rights or licenses to any patents or other intellectual
property owned or licensable by it. This agreement also greatly expands our
right to market and sell the results of our pharmacogenomic testing using
Affymetrix’s proprietary probe arrays. We pay Affymetrix based on the number of
their probe arrays we use on a quarterly basis, pursuant to pricing schedules
broken down by the type of client to whom we are providing our services. In
addition, our clients also may purchase probe arrays directly from Affymetrix
and direct that Affymetrix ship those probe arrays to us, for dedicated use in
conducting pharmacogenomic testing services for such clients. During the years
ended December 31, 2008 and December 31, 2009, we paid $155,402 and $44,790,
respectively, to Affymetrix under this agreement.




We have
agreed to grant Affymetrix a non-exclusive, worldwide, fully sublicensable,
fully paid-up, royalty-free, irrevocable, perpetual license to all product
improvements that result from our use of the probe arrays. We have the right to
request that Affymetrix design and manufacture, under terms of strict
confidentiality, custom probe arrays or custom nucleic acid probe panels for
specific sets of nucleic acid target sequences. We agree to indemnify Affymetrix
for all liabilities to third-parties arising from or relating to such target
sequences or their use.




This
agreement has a term of one year, with the option for renewal for an additional
one-year term upon mutual agreement of the parties. Affymetrix has the right to
terminate the agreement for cause, upon 30 days written notice, (i) if it
receives two or more substantial client complaints in a one-year period
regarding the services we are providing to our clients, (ii) if it determines
that we have failed to maintain a high level of service, or (iii) if it
determines that we have failed to successfully meet the requirements of any
reasonable technical or scientific audits administered by
Affymetrix.




Agreement
with Shanghai BioChip




In March
2007, we entered into a collaboration agreement with Shanghai BioChip Company,
Ltd. (“SBC”) pursuant to which SBC will provide pharmacogenomic testing services
in China using our RGI-1 extraction technology. Under this agreement, we work
with SBC pursuant to a formal statement of work (“SOW”) arrangement. This
agreement greatly expands our ability to provide our services globally,
particularly in China. Specifically, this agreement allows us to collaborate
with some of our current clients in the pharmaceutical industry as we can now
process specimens collected during clinical trials that are based in China.
Additionally, this agreement allows us to offer our services to companies within
China.




Pursuant
to the agreement, we have granted SBC an exclusive license in China to provide
services in China using our proprietary RGI-1 RNA extraction technology. Subject
to consent from the University of Southern California, we will grant SBC an
exclusive sublicense to patents licensed from the University of Southern
California for distribution of testing services in China. In turn, SBC will
perform RNA extraction from FFPE tissue specimens exclusively for us during the
term of the agreement. SBC must perform all testing services pursuant to our
instructions and we retain the right to generate and report all final results.
All proposed contracts from SBC using our testing services must be explicitly
approved in writing by us. We have also retained the rights to any intellectual
property which result from the performance of this collaboration
agreement.




Outside
of certain shared costs, as specified in the agreement, we and SBC each are
individually and separately responsible for our own costs. Specifically, we are
responsible for costs related to royalty payments to third parties under
existing licensing agreements, license fees for our intellectual property and
the salary of the General Manager of the facility, costs associated with the
analysis of raw data from test results, costs associated with generating final
reports to customers, costs of responding to customer inquiries regarding the
results of analysis the data and the report of test results, and costs
associated with providing training and assistance with laboratory
setup.




- 15
-




SBC is
responsible for expenses related to the initial cost of laboratory equipment, as
well as the cost of any additional equipment necessary as a result of increases
in volume of business; maintenance or service fees and expenses for the existing
testing equipment; the cost of reagents; the cost of qualified laboratory space,
including any rent for such space; expenses and salaries associated with
laboratory personnel, including the Vice-General Manager and necessary FTE
personnel to perform collaboration services; the costs of responding to customer
inquiries regarding the performance of the testing, storage of the samples and
other record keeping; and the costs associated with training and commencement of
operations.





Our
agreement with SBC has an initial term of five years, with an automatic renewal
for an additional three-year term unless either party gives 90 days notice in
advance of the renewal date of its intent not to renew. We may terminate the
agreement on the occurrence of: (i) errors in SBC’s processing of samples that
exceeds levels in our other facilities; (ii) the inability to achieve laboratory
qualifications within 12 months; (iii) the failure to adequately address quality
concerns raised by two or more customers; and (iv) refusal by SBC to agree on a
reasonable request for a SOW. Either party may terminate this agreement for
uncured material breach, insolvency or bankruptcy, or substantial use of the
name of the other party without consent. For the years ended December 31, 2008
and 2009, no testing services were performed.




Agreement
with Hitachi Chemical Co., Ltd.





On July
26, 2007, we entered into a collaboration agreement with Hitachi Chemical Co.,
Ltd. (“Hitachi”), a leading diagnostics manufacturer in Japan (the “Hitachi
Agreement”). Under the terms of this agreement, Hitachi will begin using our
proprietary and patented techniques to extract genetic information from FFPE
tissue samples collected in Southeast Asia, Australia and New Zealand. As part
of this collaboration agreement, we will provide Hitachi with the technical
information and assistance necessary to perform the testing services. Hitachi
also plans to introduce us to potential new testing services customers in the
region to expand the testing of FFPE clinical samples in Asia. The Southeast
Asian countries covered under this agreement include Japan, North Korea, South
Korea, Taiwan, Mongolia, Pakistan, Bangladesh, Sri Lanka, Nepal, Singapore,
Malaysia, Indonesia, Brunei, Thailand, Myanmar, Laos, Cambodia, Vietnam and the
Philippines (the “Territory”).  For the year ended December 31, 2009, there
were no fees paid to us related to testing services from new
customers.





Our
agreement with Hitachi has an initial term of three years, expiring on March 31,
2010, with an automatic renewal for one year at the end of the original period
under the same terms and conditions. Pursuant to the agreement, Hitachi will
receive a percentage of the revenue, as provided in the agreement, collected
from our clients in the Territory, for its testing services
performed.





Hitachi
is responsible for expenses related to the cost of laboratory equipment and
modification to the laboratory facilities, as well as the cost of reagents. We
are responsible for costs related to additional laboratory equipment which shall
be provided to Hitachi according to a separate equipment lease
agreement.




Intellectual
Property




We rely
on a combination of patents, trade secret, copyright and trademark laws, license
agreements, nondisclosure and other contractual provisions and technical
measures to protect our intellectual property rights in our products, technology
and processes. We have proprietary rights in four areas.




First, we
exclusively license from USC the use of the RGI-1 extraction method, which has
been patented in the United States. Currently, this exclusive license includes
four United States patents related to this technology. We use this patented
method when processing specimens, particularly isolating RNA from FFPE tissue,
as part of our contractual obligations with various clients, including Taiho. We
also have proprietary rights in additional variations on the RGI-1 extraction
technology, for which patent applications are pending in the United States and
in select critical countries. We also use or intend to use these proprietary
methods when meeting our contractual obligations with various clients and when
developing diagnostic tests for cancer. We intend to protect these proprietary
technologies, including our RGI-2 extraction method, by continuing to file
patent applications in the United States and abroad.




Next, we
have identified and are in the process of identifying tumor response markers,
which provide an indication of an anti-cancer drug’s effectiveness or
ineffectiveness based upon the level of such determinant in a particular tumor.
We intend to protect these proprietary developments to the extent allowable
under current law. We have patented and have patent applications pending related
to certain tumor response markers in the United States and in select critical
countries. For example, we have patented methods of quantifying expression of
response markers from tumor tissue, which provide guidance in determining
appropriate chemotherapeutic regimens for patients that are candidates for
treatment with particular chemotherapies. Currently, we have eleven United
States patents that relate to certain tumor markers. Such markers include
thymidylate synthase (TS), dihydropyrimidine dehydrogenase (DPD), excision
repair gene CC1
(ERCC1), glutathione-s transferase pi (GST-π), epidermal growth factor receptor
(EGFR) and HER2/neu gene. We use some of these patented methods as part of our
contractual obligations with various clients. Additionally, wehave
licensed the use of our HER2/neu methods to Roche. We have also licensed
the use of certain markers and technology know-how to GSK.




- 16
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Additionally,
we have proprietary rights in our database, in which we have compiled the
results of our analysis of archived paraffin-embedded tissue specimens, clinical
trials, and recently received patient tissue specimens in establishing response
determinants for anti-cancer drugs, and in which we are continuing to compile
data. We have protected and will continue to protect this database as a trade
secret.




Finally,
we have proprietary rights and know-how in the factors which allow us to
standardize the quantitative gene expression levels used in our database, and
the computation of such values from the readings provided by the laboratory
equipment used in the analysis of the mRNA extracted from a patient’s tumor,
using our proprietary conversion factors.




We have
and will continue to pursue the registration of our trademarks in the United
States and internationally. Response Genetics, Danenberg Tumor Profile, Man in
Circle Design, and DTP are registered trademarks in the United States. We have
pursued additional marks by filing trademark applications in the United States
and abroad. We currently hold the domain names www.responsegenetics.com and
www.responsedx.com.




We intend
to broaden the scope of our intellectual property and consider our technologies
and proprietary know-how to be critical to our future success.




Regulation.




The
Clinical Laboratory Improvement Amendments of 1988, or CLIA, provide for the
regulation of clinical laboratories by the United States Department of Health
and Human Services (DHHS). This law requires the certification of clinical
laboratories that conduct tests on human subjects and imposes specific
conditions for certification. CLIA is intended to ensure the accuracy,
reliability and timeliness of patient test results performed in clinical
laboratories in the United States by mandating specific standards in the areas
of personnel qualification, administration participation in proficiency testing,
patient test management, quality control, quality assurance and inspections.
CLIA regulations also contain guidelines for the qualification,
responsibilities, training, working conditions and oversight of clinical
laboratory employees. In addition, specific standards are imposed for each type
of test that is performed in a laboratory. The categorization of commercially
marketed in vitro diagnostic tests under CLIA is the responsibility of the FDA.
The FDA will assign commercially marketed test systems into one of three CLIA
regulatory categories based on their potential risk to public health. Tests will
be designated as waived, of moderate complexity or of high complexity. CLIA and
the regulations promulgated thereunder are enforced through quality inspections
of test methods, equipment, instrumentation, materials and supplies on a
periodic basis.




CLIA
regulations are enforced through biennial surveys and inspections. Moreover,
CLIA inspectors may make random inspections of our laboratory. Since April 21,
2008, we have been CLIA certified and any loss of CLIA certification, change in
CLIA or CLIA regulations or in the interpretation thereof, could have a material
adverse effect on our business.




Other
Laboratory Regulations




CLIA does
not preempt more stringent state clinical laboratory laws. Since March 26, 2007,
we have been a licensed clinical laboratory in California. California laws
establish standards for day-to-day operation of our clinical laboratory,
including the training and skills required of personnel and quality control.
Moreover, several states require that we hold licenses to test specimens from
patients residing in those states. Accordingly, we are also licensed in Florida,
Pennsylvania, Maryland and Rhode Island. We have a license application pending
in New York. Other states in which we chose to operate may have similar
requirements or may adopt similar requirements in the future. Finally, we may be
subject to regulation in foreign jurisdictions if we seek to expand offering our
tests or distribution of our tests internationally.




If we
lose our California license, we would not be able to sell tests for prospective
clinical trials which would limit our revenues and harm our business. If we were
unable to obtain or lost necessary licenses in other states, we would not be
able to test specimens in those states.




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HIPAA
Compliance and Privacy Protection




The
Health Insurance Portability and Accountability Act of 1996 (HIPAA) established
comprehensive federal protection for the privacy and security of health
information. The HIPAA standards apply to three types of organizations, or
“Covered Entities:” health plans, health care clearing houses, and health care
providers who conduct certain health care transactions electronically (“Standard
Transactions”). Covered Entities must have in place administrative, physical and
technical safeguards to protect against the misuse of individually identifiable
health information. Additionally, some state laws impose privacy protections
more stringent than HIPAA’s and some states impose privacy obligations
specifically applicable to clinical laboratories.  Additionally, many
states have implemented data breach laws requiring additional security measures
for certain types of personal information and also public notification of the
theft, breach or other loss of personal information. There are also
international privacy laws, such as the European Data Directive and various
national laws implementing the Data Directive, that impose restrictions on the
access, use, and disclosure of health information and other types of
identifiable personal information. All of these laws may impact our business. As
of December 31, 2008, we became a Covered Entity subject to HIPAA privacy and
security standards because our testing services became reimbursable by insurance
payors and we began conducting Standard Transactions. We formed an active
program designed to address HIPAA regulatory compliance.  This program will
likely require periodic updating to comply with amendments to HIPAA. Regardless
of our own Covered Entity status, HIPPA presently applies to many of the
facilities and physicians with whom we do business and controls the ways in
which we may obtain tissue specimens and associated clinical information from
those facilities and physicians. We believe we have taken the steps required for
us to comply with applicable health information privacy and confidentiality
statutes and regulations under both federal and applicable state jurisdictions.
However, we may not be able to maintain compliance in all jurisdictions where we
do business. Our failure to comply with these privacy laws or significant
changes in the laws restricting our ability to obtain tissue specimens and
associated patient information could significantly impact our business and our
future business plans.




Food
and Drug Administration




The U.S.
Food and Drug Administration, or the FDA, regulates the sale or distribution in
interstate commerce, of medical devices, including in vitro diagnostic test
kits. The information that must be submitted to the FDA in order to obtain
clearance or approval to market a new medical device varies depending on how the
medical device is classified by the FDA. Medical devices are classified into one
of three classes on the basis of the controls deemed by the FDA to be necessary
to reasonably ensure their safety and effectiveness. Class I devices are subject
to general controls, including labeling, pre-market notification and adherence
to the FDA’s quality system regulation, which are device-specific good
manufacturing practices. Class II devices are subject to general controls and
special controls, including performance standards and post-market surveillance.
Class III devices are subject to most of the previously identified requirements
as well as to pre-market approval. Most in vitro diagnostic kits are regulated
as Class I or Class II devices. Entities that fail to comply with FDA
requirements can be liable for criminal or civil penalties, such as recalls,
detentions, orders to cease manufacturing and restrictions on labeling and
promotion.




The FDA
presently requires clearance or approval of diagnostic test kits that are sold
widely to labs, hospitals and doctors, considering them to be medical devices.
However, diagnostic tests that are developed and performed by a CLIA-certified
reference laboratory, known as “home-brew,” “in-house” or “laboratory-developed”
tests, have been generally considered clinical laboratory services. The FDA has
stated that it has the power to regulate laboratory-developed tests such as the
ones that we hope to develop. Nevertheless, it has exercised enforcement
discretion in not regulating most laboratory-developed tests performed by high
complexity CLIA certified laboratories.




On July
26, 2007, the FDA published a “Draft Guidance” describing the Agency’s current
thinking about potential regulation of  “In Vitro Diagnostic Multivariate
Index Assays (IVDMIA).” An IVDMIA is a type of “in-house” or “lab-developed”
test and is defined as a test system that employs data, derived in part from one
or more in vitro assays, and an algorithm that usually, but not necessarily,
runs on software, to generate a result that diagnoses a disease of condition or
is used in the cure, mitigation, treatment, or prevention of disease. The Draft
Guidance suggests that the FDA may seek to regulate such tests in the future.
IVDMIA tests may include diagnostic tests using multiple genes to determine
whether a patient has a high or low risk of recurrence or response to a
particular chemotherapy.




The
degree to which in-house tests are regulated by the FDA has also been the focus
of recent Congressional attention, and Congress is considering the introduction
of legislation that would all subject all such tests (not only IVDMIAs) to
premarket review or approval by the FDA.




The
diagnostic and chemotherapy response tests being developed by Response Genetics
include the use of gene sets involving multiple genes and algorithms to
determine whether a patient falls into a high or low risk for recurrence of
response to a particular chemotherapy. Response Genetics plans to continue
development of these tests as “in house” tests until the degree to which these
tests are to be regulated by the FDA becomes clearer. We will continue to
monitor both the FDA and Congress and we intend to comply with any new
requirements that may apply.




Good
Laboratory Practice (GLP)




We are
subject to various regulatory requirements designed to ensure the quality and
integrity of our non-clinical testing processes. Our standard operating
procedures are written in accordance with applicable regulations and guidelines
for operating in the United States. The industry standards for conducting
preclinical laboratory testing are embodied in Good Laboratory Practice
regulations, or GLP, regulations promulgated by the FDA. In the United States,
non-clinical studies intended for FDA submission must be conducted in accordance
with GLP; foreign governments may require our North American clients to comply
with certain regulatory requirements of other countries (in order to gain
approval within these countries), such as regulations promulgated by the
Japanese Ministry of Health, Labor and Welfare and Ministry of Agriculture,
Forestry and Fisheries, and in Europe, the Organisation for Economic
Co-operation and Development. GLP regulations specify requirements for
facilities, equipment, and professional staff and standardized procedures for
conducting studies, including procedures for recording and reporting data and
for managing study materials and records. We have established a required quality
assurance program that monitors ongoing compliance with GLP regulations by
auditing test data and reporting and conducting inspections of testing
procedures.




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Our
business is also subject to regulation under state and federal laws regarding
environmental protection and hazardous substances control, such as the Federal
Occupational Safety and Health Act, the Environmental Protection Act, and Toxic
Substances Control Act.  These regulations, among other things, require
work practice controls, protective clothing and equipment, training and other
measures designed to minimize exposure to chemicals and transmission of
pathogens.  We believe that we are in compliance with these and other
applicable laws and that the costs of our ongoing compliance will not have a
material adverse effect on our business.  However, statutes and regulations
applicable to our business may be adopted which impose substantial costs to
assure compliance or otherwise materially adversely affect our
operations.




Regulation
of Reimbursement and Coverage





Revenues
for clinical laboratory testing services come from a variety of sources and
depend significantly on the availability of third-party reimbursement, including
from Medicare and Medicaid programs, commercial insurers and managed care
organizations. We are a Medicare laboratory services provider and intend to
become a Medicaid laboratory services provider. We also receive reimbursement
from third-party payors for our testing services. However, as is the case with
health care services generally, the majority of payors pay
for our testing services at varying levels that may be
significantly lower or otherwise differ from our list prices. Obtaining
reimbursement from third-party payors is both time consuming and
expensive. Payment from third-payors may not be sufficient to allow us
to sell our services on a profitable and competitive basis.




In 2009,
we derived approximately 36% of our net sales of ResponseDX testing services
directly from the Medicare program and 3% in 2008. Therefore, compliance with
complex Medicare reimbursement rules is important to our operations. Once
Medicare has determined that it will cover a particular test, or that a test
will be provided as a benefit, payment is generally made under the Clinical
Laboratory Fee Schedule with amounts assigned to specific procedure
billing codes. Each Medicare carrier jurisdiction has a fee
schedule that establishes the price for each specific laboratory billing
code. This fee schedule is updated annually. As a Medicare-participating
laboratory based in California, we bill the Medicare program's California
contractors and will have to comply with this contractor's
coverage and payment policies. In recent years, both government and
private sector payers have made efforts to contain or reduce health care costs,
including reimbursement for clinical laboratory services.




Manufacturing




We
currently intend to rely on contract manufacturers or collaborative partners to
produce materials necessary for our research and development efforts and to
produce our diagnostic tests. We plan to continue to rely on these manufacturers
and collaboration partners to manufacture these materials if any of our
diagnostic tests is approved for marketing by the FDA or any foreign regulatory
authority.  We do not have manufacturing experience.  We may not be
able to identify or enter into satisfactory agreements with collaborative
partners.




Information
Technology




We have
implemented an internally developed database system that is used to perform
tracking, evaluation, and reporting of laboratory specimens as they are
analyzed. The database system is maintained using application software
consisting of a multi-tier MS SQL Server application using Thin Crystal reports
for data reporting. Analysis results are imported from TaqMan® PCR instruments.
The application platform consists of a Windows 2000 server on the back end, with
Windows XP Professional workstations as clients operating within the corporate
Local Area Network (“LAN”). We also make use of commercial software applications
that allow biostatistical analysis of data generated from chip array studies.
These systems will be used in the facilities developed overseas by us to ensure
that results from sample processing are consistent from location to
location.




We employ
a LAN configured as a switched Ethernet network over the TCP/IP protocol
supporting the responsegenetics.com domain. This LAN hosts the basic business
functions for us including office applications, electronic mail, general
ledger/accounting software, internet connectivity etc.




Specimen
storage equipment consists of lockable cabinets that are catalogued for the
storage of paraffin-embedded specimens for our clients. Our database provides
locator information in order to retrieve these archived specimens as needed. In
addition, we maintain freezers to store frozen tissue specimens. These freezers
are monitored via computerized probes on a continuous basis to ensure that
temperatures are maintained at levels necessary to keep these specimens frozen.
Should temperatures in any of the freezers move out of range due to mechanical
failure an emergency alert is sent to us for response. These freezers are also
supported by a freestanding emergency backup generator that will engage in the
event of a general power outage to in order to maintain freezer temperatures at
necessary levels. As we expand globally, similar storage systems will be
developed at our facilities as necessary to safeguard tissue
specimens.




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Competition




We
provide services in a segment of the healthcare industry that is highly
fragmented and extremely competitive. Any failure to respond to technological
advances and emerging industry standards could impair our ability to attract and
retain clients. This industry is characterized by rapid technological change.
Our actual and potential competitors in the United States and abroad may include
major pharmaceutical, biotechnology, genomic and diagnostic companies such as
Genomic Health, Inc., Genzyme Corpand Clinical Data, Inc., large clinical
laboratories, universities and other research institutions. Many of our
potential competitors have considerably greater financial, technical, marketing,
research and other resources than we do, which may allow these competitors to
discover important information and technology before we do. It is anticipated
that competition will continue to increase due to such factors as the perceived
potential for commercial applications of biotechnology and the continued
availability of investment capital and government funding for cancer-related
research. Our competitors may succeed in developing diagnostic products that
circumvent our technologies or product candidates. Also, our competitors may
succeed in developing technologies or products that are more effective than
those that will be developed by us or that would render our technology or
product candidates less competitive or obsolete.




In
addition, we are developing our services and product candidates to impact
certain methods for treating cancer. If those methods change, it is likely that
the demand for our services and product candidates would significantly decline
or cease altogether. The development of new or superior competing technologies
or products, or a change in the methodology of treating cancer, could affect our
competitive position and harm our business. Moreover, these competitors may
offer broader product lines and have greater name recognition than us and may
offer discounts as a competitive tactic.




Additionally,
several development-stage companies are currently making or developing product
candidates that compete with or will compete with our potential products.
Competitors may succeed in developing, obtaining approval from the FDA or
marketing technologies or products that are more effective or commercially
attractive than our potential products or that render our technologies and
current or potential products obsolete. Competitors may also develop proprietary
positions that may prevent us from commercializing product
candidates.




Employees





As of
December 31, 2009, we had 56 full-time and part-time employees. We employ
50 full-time and 6 part-time employees. Our wholly-owned subsidiary, Response
Genetics, Ltd. employed 10 full time employees; however, in connection with the
reduction of workforce pursuant to which the Company closed its United Kingdom
testing facility to consolidate services at its CLIA-certified laboratory
facilities in Los Angeles, we made all of these employees redundant in February
2009.  Our employees are not represented by any collective bargaining
organizations and we consider our relations with our employees to be
good.




Reports
to Security Holders




We are a
Delaware corporation with our principal executive offices located at 1640
Marengo Street, 6th Floor,
Los Angeles, CA 90033. Our telephone number is (323) 224-3900 and our web site
address iswww.responsegenetics.com . We make available free of charge through the
Investor Relations section of our web site our quarterly reports on Form 10-Q,
our Annual Report on Form 10-K, and all amendments to those reports as soon as
reasonably practicable after such material is electronically file with or
furnished to the Securities and Exchange Commission.




Item
1B. Unresolved Staff Comments.




None.




Item
2.  Properties.




Our
corporate headquarters are located at 1640 Marengo St., Los Angeles, California,
90033. We sub-lease a total of 15,103 square feet of space, adjacent to the
University of Southern California, where research and development and
administrative functions are performed. Our current lease expires on March 31,
2011. We believe that our facility is sufficient for our U.S. operations in the
near term. We also sub-lease 180 square feet of space at 103 South Carroll
Street, Suite 2b, Frederick, Maryland 21701, where administrative functions are
performed. Our current lease expires on August 31, 2010.




Our
subsidiary, Response Genetics Ltd., maintained its headquarters at Chancellor’s
Building, Royal Infirmary of Edinburgh, 49 Little France Crescent, Edinburgh
Scotland EH16 5JB. We leased 490 square meters of space (approximately 5,275
square feet of space), where our administrative functions and laboratory
functions were performed. We terminated this lease on April 30,
2009.




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Item
3. Legal Proceedings.




The
Company is, from time to time, involved in legal proceedings, regulatory
actions, claims and litigation arising in the ordinary course of business. These
matters are not expected to have a material adverse effect upon the Company’s
financial statements.


Part
II




Item
4.  Market for Common Equity, Related Stockholder Matters and Issuer
Purchases of Equity Securities.




Our
Common Stock is traded on the NASDAQ Capital Market under the symbol "RGDX" and
has been trading since our initial public offering on June 4, 2007. The
following table sets forth the range of high and low sales prices of our Common
Stock, based on the closing price of our Common Stock on a given day, in each
quarter since our Common Stock began trading.


2009First
                      
                      
                      Second
                      
                      
                      Third
                      
                      
                      FourthQuarter
                      
                      
                      Quarter
                      
                      
                      Quarter
                      
                      
                      QuarterStock
      price - High
                      
                      $
                      1.55
                      
                      
                      $
                      1.37
                      
                      
                      $
                      2.18
                      
                      
                      $
                      1.95Stock
      price - Low
                      
                      $
                      0.85
                      
                      
                      $
                      1.02
                      
                      
                      $
                      1.20
                      
                      
                      $
                      1.10
 
 2008First
                      
                      
                      Second
                      
                      
                      Third
                      
                      
                      FourthQuarter
                      
                      
                      Quarter
                      
                      
                      Quarter
                      
                      
                      QuarterStock
      price - High
                      
                      $
                      5.05
                      
                      
                      $
                      3.85
                      
                      
                      $
                      3.40
                      
                      
                      $
                      3.33Stock
      price - Low
                      
                      $
                      3.50
                      
                      
                      $
                      3.11
                      
                      
                      $
                      2.63
                      
                      
                      $
                      1.18
  Stockholders





As of
March 31, 2010, there were approximately 43 stockholders of record of the
18,302,532 outstanding shares of Common Stock.





Dividends





The
Company has not paid dividends to its stockholders since its inception and does
not plan to pay cash dividends in the foreseeable future. The Company currently
intends to retain earnings, if any, to finance the growth of the
Company.





Recent
sales of Unregistered Securities





On
February 27, 2009, we entered into a Purchase Agreement with certain affiliates
of Special Situations Funds for the private placement of 2,000,000 newly-issued
shares of the Company's common stock at a per share price of $1.00. The closing
of the sale of the shares occurred on Monday, March 2, 2009 and we received the
funds on the same date.





In
connection with the Special Situations Funds Private Placement, we also entered
into a Registration Rights Agreement, dated February 27, 2009, (the
"Registration Rights Agreement") pursuant to which the Company filed a
registration statement with the Securities and Exchange Commission ("SEC") to
register the 2,000,000 shares for resale, which registration statement became
effective on June 30, 2009.




On July
22, 2009, we entered into a Purchase Agreement with certain funds of Lansdowne
Partners Limited for the private placement of 3,057,907 newly-issued shares of
the Company's common stock at a per share price of $1.30. The closing of the
sale of the shares occurred on July 23, 2009. The aggregate offering price of
the shares was approximately $4 million.  In connection with the
acquisition of the shares, the Purchasers were granted certain preemptive rights
permitting them to maintain their percentage ownership interests in connection
with future issuances of the Company’s capital stock, subject to various
exceptions and limitations. We received the funds on July 23, 2009.





In
connection with the Lansdowne Private Placement, we also entered into a
Registration Rights Agreement, dated July 22, 2009, with the Purchasers (the
"Registration Rights Agreement") pursuant to which the Company filed a
registration statement with the SEC to register the 3,057,907 shares for resale,
which registration statement became effective on November 3, 2009.  The
Company also granted certain "piggyback" registration rights to Lansdowne which
are triggered if the Company proposes to file a registration statement for its
own account or the account of one or more shareholders until the earlier of the
sale of all of the shares or the shares become eligible for sale under Rule
144(b)(1) without restriction.




- 21
-




On March
5, 2010, we entered into a Purchase Agreement with certain affiliates of and
funds managed by Lansdowne Partners Limited Partnership, Greenway Capital
Partners and Paragon Associates for the private placement of 3,005,349
newly-issued shares of our common stock at a per share price of $1.31.  The
closing of the sale of the shares occurred on Friday, March 5, 2010.  In
connection with the acquisition of the shares, the Purchasers were granted
certain preemptive rights permitting them to maintain their percentage ownership
interests in connection with future issuances of our capital stock, subject to
various exceptions and limitations.  Lansdowne participated in the Private
Placement by electing to exercise the preemptive rights granted to it pursuant
to the Purchase Agreement by and between the Company and Lansdowne, dated July
22, 2009.




In
connection with the Private Placement, we also entered into a Registration
Rights Agreement, dated March 5, 2010, with the Purchasers (the “Registration
Rights Agreement”) pursuant to which it has agreed to file, within 45 days of
the closing of the Private Placement, a registration statement with the SEC to
register the shares for resale, which registration statement is required to
become effective within 120 days following the closing.  We also granted
certain "piggyback" registration rights to the Purchasers which are triggered if
we propose to file a registration statement for its own account or the account
of one or more shareholders until the earlier of the sale of all of the shares
or the shares become eligible for sale under Rule 144(b)(1) without
restriction.





Purchases
of Equity Securities




The
Company made no purchases of its equity securities in the period covered by this
annual report.




Item
5. Selected Financial Data.




The following selected consolidated statement of
operations data for the years ended December 31, 2009 and 2008 and the balance
sheet data at December 31, 2009 and 2008 have been derived from our audited
consolidated financial statements, which are included elsewhere in this
report.  Historical results are not necessarily indicated of the results of
operations for future periods.  The following data is qualified in its
entirety and should be read in conjunction with the rest of the information
contained in this section and our consolidated financial statements and related
notes included elsewhere in this report.




Consolidated
Statement of Operations Data:




Year
      ended
                              
                              
                              Year
      endedDecember 31,2008
                              
                              
                              December 31,2009Revenue
                              
                              $
                              7,124,771
                              
                              
                              $
                              9,066,683Operating
      expenses:Cost
      of revenue
                              
                              $
                              3,965,888
                              
                              
                              $
                              5,720,825Selling
      and marketing
                              
                              $
                              878,706
                              
                              
                              $
                              3,621,030General
      and administrative
                              
                              
                              6,679,992
                              
                              
                              $
                              6,085,628U.K.
      expenses
                              
                              $
                              3,371,513
                              
                              
                              $
                              752,901Research
      and development
                              
                              $
                              2,088,832
                              
                              
                              $
                              2,293,303Operating
      loss
                              
                              $
                              (9,860,160
                              )
                              
                              $
                              (9,407,004
                              )Net
      loss
                              
                              $
                              (9,485,538
                              )
                              
                              $
                              (9,341,055
                              )Net
      loss per common share:Basic
      and diluted
                              
                              $
                              (0.93
                              )
                              
                              $
                              (0.70
                              )Weighted
      average common shares outstanding:Basic
      and diluted
                              
                              
                              10,239,276
                              
                              
                              
                              13,276,095




- 22
-




Consolidated
Balance Sheet data:





December 31,2008
                            
                            
                            December
      31,2009Consolidated
      Balance Sheet Data:Cash
      and cash equivalents
                            
                            $
                            9,545,000
                            
                            
                            $
                            7,058,365Total
      assets
                            
                            $
                            13,548,053
                            
                            
                            $
                            10,792,974Common
      stock classified outside of stockholders’ equity
                            
                            $
                            —
                            
                            
                            $
                            3,975,279Total
      stockholders’ equity
                            
                            $
                            6,870,871
                            
                            
                            $
                            649,220




Item
6 Management’s Discussion and Analysis of Financial Condition and results of
Operations.





Special Note Regarding Forward
Looking Statements





Certain
statements in this report constitute “forward-looking statements.” These
forward-looking statements involve known or unknown risks, uncertainties and
other factors that may cause the actual results, performance, or achievements of
Response Genetics, Inc. to be materially different from any future results,
performance or achievements expressed or implied by the forward-looking
statements. Specifically, the actions of competitors and customers and our
ability to execute our business plan, and our ability to increase revenues is
dependent upon our ability to continue to expand our current business and to
expand into new markets, general economic conditions, and other factors. You can
identify forward-looking statements by terminology such as “may,” “will,”
“should,” “expects,” “intends,” “plans,” “anticipates,” “believes,” “estimates,”
“predicts,” “potential,” “continues,” or the negative of these terms or other
comparable terminology. Although we believe that the expectations reflected in
the forward-looking statements are reasonable, we cannot guarantee future
results, levels of activity, performance or achievements. We undertake no
obligations to publicly update or review any forward-looking statements, whether
as a result of new information, future developments or otherwise.




The
following discussion of our financial condition and results of operation should
be read in conjunction with our audited financial statements and related notes
to the financial statements included elsewhere in this annual report on Form
10-K for the years ended December 31, 2009 and 2008. This discussion contains
forward-looking statements that relate to future events or our future financial
performance. These statements involve known and unknown risks, uncertainties and
other factors that may cause our actual results, levels of activity, performance
or achievements to be materially different from any future results, levels of
activity, performance or achievements expressed or implied by these forward
looking statements.




Overview




Response
Genetics, Inc. (the “Company”) was incorporated in the state of Delaware on
September 23, 1999 as Bio Type, Inc. for the purpose of providing unique
molecular profiling services of tumor tissue that has been formalin-fixed and
embedded in paraffin wax. In August 2000, we changed our name to Response
Genetics, Inc.   In November 2006, we established Response Genetics Ltd.,
a wholly owned subsidiary in Edinburgh, Scotland. On February 9, 2009 we
implemented a reduction of workforce pursuant to which we closed our
subsidiary in Edinburgh. See "liquidity and capital resources" for additional
information.




Clinical
studies have shown that not all cancer chemotherapy works effectively in every
patient, and that a number of patients receive therapy that has no benefit to
them and may potentially even be harmful. Our goal is to provide cancer patients
and their physicians with a means to make informed, individualized treatment
decisions based on genetic analysis of tumor tissues. Our pharmacogenomic
analysis of clinical trial specimens for the pharmaceutical industry may provide
data that will lead to a better understanding of the molecular basis for
response to specific drugs and, therefore lead to individualized treatment. We
are focusing our efforts in the following areas:




·
            Continued
      commercialization of our ResponseDX TM
tests;





·
            Developing
      additional diagnostic tests for assessing the risk of cancer recurrence,
      prediction of chemotherapy response and tumor classification in cancer
      patients; and





·
            Expanding
      our pharmacogenomic testing services business into and creating a
      standardized and integrated testing platform in the major markets of the
      healthcare industry, including outside of the United
    States.




- 23
-




Our
patented technologies enable us to reliably and consistently extract the nucleic
acids RNA and DNA from tumor specimens that are stored as formalin-fixed and
paraffin-embedded, specimens and thereby to analyze genetic information
contained in these tissues. This is significant because the majority of patients
diagnosed with cancer have a tumor biopsy sample stored in paraffin, while only
a small percentage of patients’ tumor specimens are frozen. Our technologies
also enable us to use the FFPE patient biopsies for the development of
diagnostic tests. To our knowledge, we were the first company to generate
clinically relevant information regarding the risks of recurrence of cancer or
chemotherapy response using approximately 30,000 genes available from microarray
profiling of FFPE specimens.





- 24
-




ResponseDXTM




The
outcome of cancer chemotherapy is highly variable due to genetic differences
among patients. Some patients respond well with tumor shrinkage and increase in
life span. Other patients do not obtain benefit from the same therapy but may
still experience toxic side effects as well as delay in effective treatment and
psychological trauma.





At
present most chemotherapy regimens are administered without any pre-selection of
patients on the basis of their particular genetics. However recent development
of very sensitive molecular technologies has enabled researchers to identify and
measure genetic and biochemical factors in patients’ tissues that may predict
the probability of success or failure of many currently used anti-cancer agents.
In order to increase the chances of a better chemotherapy outcome for cancer
patients, we are developing genetic tests that will measure predictive factors
for tumor response in tumor tissue samples. We have begun offering tests for
non-small cell lung cancer (NSCLC) (ResponseDX: LungTM), 
colorectal cancer (CRC) (ResponseDX: ColonTM) and gastric and gastroesophageal
(GE) cancer  (ResponseDX: GastricTM) patients’ tumor tissue through our
laboratory located in Los Angeles, California, which is certified under the
Clinical Laboratory Improvement Amendments of 1988 (CLIA), and we anticipate
offering additional tests for ovarian and pancreatic cancer in the future. These
tests are proprietary based tests which serve to help oncologists make optional
therapeutic decisions for cancer patients. The results from our tests may help
oncologists choose among chemotherapy regimens to treat their cancer patients.
On September 29, 2008, we announced an exclusive agreement with NeoGenomics
Laboratories (OTCBB: NGNM) whereby NeoGenomics will offer our proprietary
ResponseDx:Colon and ResponseDx: Lung tests nationwide. Under the terms of the
agreement NeoGenomics will be the national exclusive clinical reference
laboratory authorized to offer our proprietary tests through NeoGenomics
national sales force and our sales team. Currently, our recently formed sales
team has been expanded to 11 sales people located in the West Coast, Midwest,
and East Coast areas of the United States.





- 25
-




Diagnostic
Tests for Other Cancers




In
addition to ResponseDX: Lung, ResponseDX: Colon, and ResponseDX: Gastric,
we are developing and intend to commercialize tests for
other types of cancer that identify genetic profiles of tumors that are
more aggressive and recur rapidly after surgery. We also are identifying genetic
profiles of tumors that are more or less responsive to a particular
chemotherapy. Following the development of tests to predict the risk of
recurrence after surgery, we intend to develop tests to determine the most
active chemotherapy regimen for the individual patient at risk. Once developed
and after obtaining any necessary regulatory approvals, we intend to leverage
our relationships in the healthcare industry to market, sell or license these
tests as a means for physicians to determine the courses of cancer
treatment.




Expansion
of our pharmacogenomic testing services business




We have
started the expansion of our pharmacogenomic testing services business into
major markets of the healthcare industry outside of the United States. We have a
service laboratory in Japan and in China, through collaboration with some of our
current clients in the pharmaceutical industry. The pharmaceutical industry is
in need of standardized integrated worldwide analysis of clinical trial
specimens. It is important to the pharmaceutical industry and the regulatory
agencies that the same analytical methods are used for each clinical trial
sample around the world so that the data can be easily compared and used for
global drug development. Also, export of clinical trial specimens to the United
States is restricted from some areas of the world, such as China. Our goal is to
offer an analysis of patient specimens and generate consistent data based on
integrated common platforms and technology into the major markets of the
healthcare industry including outside of the United States.




There are
no assurances that we will be able to continue making our current ResponseDX
tests available, or make additional ResponseDX tests available; will be able to
develop and commercialize tests of other types of cancer; or will be able to
expand our pharmacogenomic testing service business.




We
anticipate that, over the next 12 months, a substantial portion of our capital
resources and efforts will be focused on research and development to expand
our series of diagnostic tests for cancer patients, to establish a laboratory
overseas in collaboration with certain of our current pharmaceutical clients,
sales and marketing activities related to our ResponseDX diagnostic tests, and
for other general corporate purposes.





Research
and development expenses represented 12% of our total operating expenses for the
years ended December 31, 2009 and December 31, 2008, respectively. Major
components of the $2,293,303 in research and development expenses for the year
ended December 31, 2009 included supplies and reagents for our research
activities, personnel costs, occupancy costs, equipment warranties and service,
patent fees, insurance, business consulting and sample procurement
costs.




- 26
-




Critical
Accounting Policies and Significant Judgments and Estimates




This
discussion and analysis of our financial condition and results of operations is
based on our consolidated financial statements, which have been prepared in
accordance with U.S. generally accepted accounting principles. The preparation
of these financial statements requires management to make estimates and
judgments that affect the reported amounts of assets, liabilities and expenses
and the disclosure of contingent assets and liabilities at the date of the
financial statements, as well as revenues and expenses during the reporting
periods. We evaluate our estimates and judgments on an ongoing basis. We base
our estimates on historical experience and on various other factors we believe
are reasonable under the circumstances, the results of which form the basis for
making judgments about the carrying value of assets and liabilities that are not
readily apparent from other sources. Actual results could therefore differ
materially from those estimates under different assumptions or conditions. We
believe the following critical accounting policies reflect our more significant
estimates and assumptions used in the preparation of our financial
statements.




Revenue
Recognition




Revenues
are derived from services provided to pharmaceutical companies and from revenues
generated from our ResponseDX tests. Revenue is recognized in accordance with
ASC 605-10-S99 Revenue Recognition, which requires that four basic criteria must
be met before revenue can be recognized: (1) persuasive evidence that an
arrangement exists; (2) delivery has occurred and title and the risks and
rewards of ownership have been transferred to the client or services have been
rendered.  We record revenues when our tests have confirmed results which
is evidence that the services have been performed; (3) the price is fixed or
determinable; and (4) collectability is reasonably assured.




Revenues
from pharmaceutical company contracts are recorded on an accrual basis as the
contractual obligations are completed and as a set of assays is processed
through our laboratory under a specified contractual protocol. Certain contracts
have minimum assay requirements that, if not met, result in payments that are
due upon the completion of the designated period. In these cases, revenues are
recognized when the end of the specified contract period is
reached.




On
occasion, we may enter into a contract that requires the client to provide an
advance payment for specimens that will be processed at a later date. In these
cases, we record this advance as deferred revenue and recognize the revenue as
the specimens are processed or at the end of the contract period, as
appropriate.




We
recognize a portion of product revenue from our ResponseDX tests invoiced to
Medicare on an accrual basis and to third-party payors, including private
payors, on a cash basis. We have received our Medicare provider number which
allows us to invoice and collect from Medicare. Our invoicing to Medicare is
primarily based on amounts allowed by Medicare for the service provided as
defined by Common Procedural Terminology (CPT) codes. We recognize revenue from
third party and private payors currently on a cash basis until a collection
history can be determined. Until we are reasonably assured about a pattern of
collections we will continue to record revenues from third party payors of
ResponseDX on a cash basis.




We are
subject to potentially significant variations in the timing of revenue
recognized from period to period due to a variety of factors including: (1) the
timing of when specimens are submitted to us for testing; and (2) the specific
terms, such as minimum assay requirements in any given period, advance payment
requirements, and terms of agreements, as set forth in each contract we have
with significant clients.





License
Fees




We have
licensed technology for the extraction of RNA and DNA from FFPE tumor specimens
from USC in exchange for royalty fees on revenue generated by use of this
technology. These royalties are calculated as a fixed percentage of revenue that
we generate from use of the technology licensed from USC. Total license fees
expensed in cost of revenue under the royalty agreement to USC were $79,052 and
$227,956 for the years  ended December 31, 2008 and December 31, 2009,
respectively, We also maintain a non-exclusive license to use Roche’s polymerase
chain reaction (PCR), homogenous PCR, and reverse transcription PCR processes.
We pay Roche a fixed percentage royalty fee for revenue that we generate through
use of this technology. Royalties expensed in cost of revenue under this
agreement totaled $292,481 and $198,279 or the years ended December 31, 2008 and
December 31, 2009, respectively.





We are
subject to potentially significant variations in royalties recorded in any
period. While the amount paid is based on a fixed percentage from revenues of
specific tests pursuant to terms set forth in the agreements with USC and
Roche, the amount due is calculated based on the revenue we recognize using the
respective licensed technology. As discussed above, this revenue can vary from
period to period as it is dependent on the timing of the specimens submitted by
our clients for testing.




- 27
-




Accounts
Receivable




We
invoice our pharmaceutical clients as specimens are processed and any other
contractual obligations are met. Our contracts with pharmaceutical clients
typically require payment within 45 days of the date of invoice. We maintain
allowances for doubtful accounts for estimated losses resulting from the
inability of our clients to make required payments. We specifically analyze
accounts receivable and historical bad debts, client credit, current economic
trends and changes in client payment trends when evaluating the adequacy of the
allowance for doubtful accounts. Account balances are charged-off against the
allowance when it is probable the receivable will not be recovered. To date, our
clients have primarily been large pharmaceutical companies. As a result, bad
debts to date have been minimal and there is no allowance for doubtful accounts
at either December 31, 2008 or 2009.




We bill
Medicare and third-party payors for ResponseDX upon completion of the required
testing services. As such, we take assignment of benefits and the risk of
collection with Medicare and third-party payors. As we continue to generate
revenues from ResponseDX, we will monitor the collection history from third
party payors. Until we are reasonably assured about a pattern of collections, we
will continue to record revenues from third party payors of ResponseDX on a cash
basis.




While we
have not had credit losses in the past, we cannot guarantee that we will
continue to experience the same credit loss rates that we have in the past.
Measurement of such losses requires consideration of historical loss experience,
including the need to adjust for current conditions, and judgments about the
probable effects of relevant observable data, including present economic
conditions such as delinquency rates and financial health of specific customers.
We consider all available information in our assessments of the adequacy of the
reserves for uncollectible accounts.





Income
Taxes




We
estimate our tax liability through calculations we perform for the determination
of our current tax liability, together with assessing temporary differences
resulting from the different treatment of items for tax and accounting purposes.
These differences result in deferred tax assets and liabilities, which are
recorded in our balance sheets. Our management then assesses the likelihood that
deferred tax assets will be recovered in future periods through future operating
results. To the extent that we cannot conclude that it is more likely than not
that the benefit of such assets will be realized, we establish a valuation
allowance to adjust the net carrying value of such assets. The carrying value of
our net deferred tax assets assumes that we will be able to generate sufficient
future taxable income, based on management’s estimates and assumptions. These
estimates and assumptions take into consideration future taxable income and
ongoing feasible tax strategies in determining recoverability of such assets.
Our valuation allowance is subject to significant change based on management’s
estimates of future profitability and the ultimate realization of the deferred
tax assets. The Company has established a full valuation allowance against
its net deferred tax assets due to the uncertainty surrounding the realization
of such assets.




Results
of Operations




Years
Ended December 31, 2009 and December 31, 2008




Revenue.  Revenues were
$9,066,683 for the year ended December 31, 2009, as compared to $7,124,771 for
the year ended December 31, 2008, an increase of $1,941,912, or 27%. This
increase was attributable to an increase of $3,042,466 in net revenue associated
with our new ResponseDX assays processed by our laboratory primarily as a result
of the increase of our sales force from 3 sales people to a total of 15. This
increase was partially offset by a $1,158,262 decrease in revenues from
pharmaceutical clients. The decrease in our pharmaceutical client revenue was
generated primarily due to a delay in receipt of samples to be tested from our
pharmaceutical clients which we expect to receive later in 2010. For the year
ended December 31, 2009, three of our clients, GSK, GSK Bio and Taiho, accounted
for approximately 60% of our revenue, as compared to approximately 95% of our
revenue for the year ended December 31, 2008.




Cost of Revenues.  Cost
of revenues for the year ended December 31, 2009 were $5,720,825 as compared to
$3,965,888 for the year ended December 31, 2008, an increase of $1,754,937 or
44%. This increase resulted from a $200,768 increase in the costs of reagents
and laboratory supplies, a $332,078 increase in personnel costs primarily
related to an increase in ResponseDX testing, an $1,096,429 increase in costs
associated with processing our assays in Japan through our relationship with
Hitachi which began processing tests during the third quarter of 2008 and an
increase in royalty and license fees of $54,702.




- 28
-




Research and Development
Expenses.  Research and development expenses were $2,293,303 for the
year ended December 31, 2009, as compared to $2,088,832 for the same period in
2008, an increase of $204,471 or 10%. This increase resulted primarily from
an increase in laboratory supplies, reagents and microarray costs of $59,213 and
an increase in personnel related costs of $125,014. We expect research and
development expenses to increase as we work to develop additional aspects of our
technology and to study diagnostic indicators for various forms of
cancer.




General and Administrative
Expenses.  General and administrative expenses totaled $6,085,628
for the year ended December 31, 2009, as compared to $6,679,992 for the year
ended December 31, 2008, a decrease of $594,634 or 9%. This decrease primarily
resulted from decreased stock-based compensation expense of $374,763 and a
decrease in legal fees and insurance of $77,773.  We expect general and
administrative expenses to increase as a result of the need to hire additional
administrative personnel and due to higher legal, accounting, compliance and
related expenses to support our growth for ResponseDX.




Sales and Marketing
Expenses:.   For year ended December 31, 2009 our sales and
marketing expenses totaled $3,621,030 compared to $878,706 for 2008 for the year
ended December 31, 2008, an increase of $2,742,296 or 312%.  The increase
primarily resulted in increased sales and marketing activities for ResponseDX
which included a increase in personnel costs of $1,652,496, an increase in
marketing costs of $689,221 and an increase in billing service costs of $119,474
related to the increase in ResponseDX revenue.  We expect that sales and
marketing costs will continue to increase as we expand our sales and marketing
activities in order to gain clinical acceptance of our ResponseDX
assays.





United Kingdom (U.K). Operating Expenses.In December, 2008, we made the decision to increase the operational
efficiency of the Company by consolidating our U.K. operations with our US
operations.  We implemented a reduction of workforce as part of a strategic
plan to increase operational efficiency in conjunction with the
consolidation of our services at our Los Angeles facilities and it
will not affect our genetic testing services or current partnership
agreements. As such, management concluded that the closure of the U.K.
operations did not constitute a discontinued operation.  As a result of
the  reduction of workforce management performed a recoverability test
of the long-lived assets located at the United Kingdom testing facility. Based
on the recoverability analysis performed, during the year ended December 31,
2008, the Company recorded a non-cash charge for the impairment of long-lived
assets of $893,826 to write down the carrying value of the long-lived assets to
their estimated fair value of $0 as of December 31, 2008, which is included in
the U.K. expenses of $3,371,513.





On
February 9, 2009, management implemented the reduction of workforce
pursuant to which the Company closed its UK testing facility to consolidate
services at its CLIA-certified laboratory facilities in Los Angeles.  Our
lease for our UK testing facility expired on April 1, 2009. We
extended the lease, pursuant to its terms, for an additional month, in order to
facilitate the winding down of our operations in the UK.  The
reduction of workforce was substantially completed on March 31, 2009. The
operating costs related to our U.K. laboratory, were $752,901 for the year ended
December 31, 2009 which includes redundancy costs of $295,799 incurred in
connection with the reduction of workforce.





Interest Income. 
Interest income was $22,265 for the year ended December 31, 2009, compared with
$374,659 for the same period in 2008. This $352,394 decrease was due to
lower average cash balances and lower rates of interest during the year
ending December 31, 2009.




Income Taxes. As of December
31, 2009 and December 31, 2008, a full valuation allowance has been recorded for
the net deferred tax assets since we do not believe the recoverability of the
net deferred income tax assets in the near future is more likely than
not.





Liquidity
and Capital Resources




We
incurred net losses of $9,341,055 and $9,485,538 during the year ended December
31, 2009 and 2008, respectively. Since our inception in September 1999, we have
incurred cumulative losses and as of December 31, 2009, we had an accumulated
deficit of $39,146,784. We have not yet achieved profitability and anticipate
that we will likely incur additional losses.  We cannot provide assurance
as to when will achieve profitability. We expect that our cash and cash
equivalents will be used to fund our selling and marketing activities
primarily related to our ResponseDX tests, research and development, and
general corporate purposes. As a result, we will need to generate
significant revenues to achieve profitability.  Management plans to
effectively manage cash flows in 2010 and expects that cash on the balance sheet
plus cash financing completed in March 2010 will be sufficient to meet current
obligations. Nevertheless, until we can generate and maintain sufficient
revenues to finance our cash requirements, which we may never do, we expect to
finance additional cash needs primarily through public or private equity
offerings, strategic collaborations, and other financing opportunities as they
may arise.  We do not know whether additional funding will be available on
acceptable terms, if at all.  If we are not able to secure additional
funding when needed, we may have to delay, reduce the scope of or eliminate
selling and marketing activities or research and development
programs.




- 29
-




In
addition, we expect to use our capital to fund research and development and to
make capital expenditures to keep pace with the expansion of our research and
development programs and to scale up our commercial operations. The amount and
timing of actual expenditures may vary significantly depending upon a number of
factors, such as the progress of our product development, regulatory
requirements, commercialization efforts, and the amount of cash used by
operations. We expect that we will continue to generate revenue through our
pharmacogenomic testing services and through ResponseDX testing services
business provided to pharmaceutical clients and to the users of our ResponseDX
testing services which partially include oncologists, hospitals, and cancer care
centers.  These revenues are not guaranteed and are not expected to
substantially offset the costs associated with our expansion
efforts.




Following
is a summary of recent events and the expected impact these events may or have
had on our liquidity and future realization of revenues.




Contract
amendments





On
December 26, 2008, we amended and restated our master service agreement with
GlaxoSmith Kline, Ltd. ("GSK"), a leading pharmaceutical manufacturer (the "GSK
Agreement"). Pursuant to the amendment, the term of the GSK Agreement has been
extended for a two-year period, with the option for the parties to extend the
GSK Agreement for additional one-year periods, upon their mutual written
agreement. In addition, we will become a preferred provider to GSK and its
affiliates of genetic testing services on a fee-for-service basis and, in
anticipation of the services to be provided, GSK agreed to make a non-refundable
upfront payment of approximately $1,300,000 which was received on January 5,
2009. This payment was classified as deferred revenue and will be used
for future work undertaken in the period beginning on January 1, 2009 and
ending on December 31, 2010.  The amount of deferred revenue for this
agreement at December 31, 2009 is $1,400,933.




On
September 7, 2009, the Company amended and restated its master service agreement
with GlaxoSmithKline Biologicals (“GSK Bio”), the vaccine division of
GlaxoSmithKline (the “Amended and Restated Agreement”).  Pursuant to the
Amended and Restated Agreement, the parties agreed that GSK Bio has accrued an
aggregate credit under the terms of the original agreement, representing the
balance of deferred revenue relating to this agreement at that date, which
amount shall be allocated towards services rendered to GSK Bio during the
remaining term of the agreement as described below.





For each
calendar quarter of 2009 and the first two quarters of 2010, €200,000 of the
existing credit shall apply to all services rendered to GSK Bio during such
calendar quarter.  Pursuant to the Amended and Restated Agreement, GSK Bio
may now extend the term of the agreement for an additional one-year period
through December 31, 2011.  In the event GSK Bio extends the term through
2011, the then remaining balance of the existing credit shall be divided into
six equal quarterly amounts and apply to all services rendered to GSK Bio in
each of the last two quarters of 2010 and the four calendar quarters of
2011.  If GSK Bio does not extend the term through 2011, the then remaining
balance of the existing credit will instead be divided into two equal quarterly
amounts and apply to all services rendered to GSK Bio in each of the last two
quarters of 2010.  In all cases, GSK Bio shall remit payment to the Company
for all services rendered to GSK Bio in any such calendar quarter that is in
excess of the applicable credit amount.  In the event the amount of
services rendered to GSK Bio in a calendar quarter does not exceed the
applicable credit amount, the existing credit for the following calendar quarter
shall be increased by such unused amount. The aggregate credit is included
as part of deferred revenue.





The
Amended and Restated Agreement further provides that the Company shall provide
additional services on a fee-for-service basis, upon GSK Bio’s written request,
relating to the bridging of assays/diagnostic tests to third parties that
develop, manufacture and sell the commercial diagnostic tests to be used with
certain of GSK Bio’s products. The amount of deferred revenue for this agreement
at December 31, 2009 is $2,588,896.





In
January 2010, we amended our agreement with Taiho and the agreement was renewed
for an additional three years. According to the terms of the renewal,
Taiho’s appointment as an exclusive purchaser in Japan of tests and testing
services and its minimum purchasing obligations were extended through
2010.




- 30
-




Private
placements





On
February 27, 2009, we entered into a Purchase Agreement with certain affiliates
of Special Situations Funds for the private placement of 2,000,000 newly-issued
shares of the Company's common stock at a per share price of $1.00. The closing
of the sale of the Shares occurred on Monday, March 2, 2009 and we received the
funds on the same date.





In
connection with the Special Situations Funds Private Placement, we also entered
into a Registration Rights Agreement, dated February 27, 2009, with the
Purchasers (the "Registration Rights Agreement") pursuant to which the Company
filed a registration statement with the Securities and Exchange Commission
("SEC") to register the 2,000,000 shares for resale, which registration
statement became effective on June 30, 2009.




On July
22, 2009, we entered into a Purchase Agreement with certain funds of Lansdowne
Partners Limited for the private placement of 3,057,907 newly-issued shares of
the Company's common stock at a per share price of $1.30. The closing of the
sale of the Shares occurred on July 23, 2009. The aggregate offering price of
the shares was approximately $4 million.  In connection with the
acquisition of the Shares, the Purchasers were granted certain preemptive rights
permitting them to maintain their percentage ownership interests in connection
with future issuances of the Company’s capital stock, subject to various
exceptions and limitations. We received the funds on July 23, 2009.




Under the
Company’s Articles of Incorporation, the Company has one class of common stock
and its holders have no preemptive, subscription, redemption or conversion
rights.  As more fully described in Note 15, the Company sold shares
of its common stock during 2009 in two private placements, the Special
Situations Private Placement and the Lansdowne Private Placement.  In
connection with these private placements, the Company entered into registration
rights agreements with the purchasers of the common shares.




Pursuant
to the Lansdowne Registration Rights Agreement which is dated July 22, 2009, the
Company filed a registration statement with the SEC to register the 3,057,907
shares sold to Lansdowne for resale, which became effective on November 3, 2009
and which registration statement is currently effective.




Under the
Lansdowne Registration Rights Agreement, the Company was required to have the
registration statement declared effective within 120 days after the private
placement closed.  In addition, the Company is obligated to use
commercially reasonable efforts (i) to cause the registration statement
described above to remain continuously effective and (ii) to maintain the
listing of the Company’s common stock on Nasdaq or other exchanges, as defined,
for a period that that will terminate on the earlier of July 22, 2012 or the
date on which Lansdowne has sold all of its shares of common
stock.  The Company is also required to file with the SEC in a timely
manner all reports and other documents required of the Company under the 1934
Act. In the event the Company fails to satisfy its obligations under the
Lansdowne Registration Rights Agreement, the Company would be in breach of said
agreement, in which event Lansdowne would be entitled to pursue all rights and
remedies at law or equity including an injunction or other equitable
relief.  The Lansdowne Registration Rights Agreement does not provide
an explicitly stated or defined penalty due upon a breach.  Because
(i) the potential penalty for any breach of the Lansdowne Registration Rights
Agreement is not explicitly stated or defined, which prohibits the Company from
applying the guidance of ASC 825-20-15, Registration Payment
Arrangements and (ii) complying will all filing requirements under the
1934 Act as described above is not solely within the Company’s control, the
Company is required to present Lansdowne’s investment of $3,975,279 in the
Company’s common stock as common stock outside of stockholders’ equity in the
accompanying consolidated balance sheet under ASC 480-10-S99-3, Classification and Measurement of
Redeemable Securities..




On March
5, 2010, we entered into a Purchase Agreement with certain affiliates of and
funds managed by
Lansdowne Partners Limited Partnership, Greenway Capital Partners and Paragon
Associatesfor the private placement of 3,005,349 newly-issued shares of
our common stock at a per share price of $1.31.  The closing of the sale of
the shares occurred onFriday,March 5, 2010.  In
connection with the acquisition of the shares, the Purchasers were granted
certain preemptive rights permitting them to maintain their percentage ownership
interests in connection with future issuances of our capital stock, subject to
various exceptions and limitations.  Lansdowne participated in the Private
Placement by electing to exercise the preemptive rights granted to it pursuant
to the Purchase Agreement by and between the Company and Lansdowne, dated July
22, 2009. Net proceeds received from this financing were approximately
$4,000,000.




In
connection with the Private Placement, we also entered into a Registration
Rights Agreement, dated March 5, 2010, with the Purchasers (the “Registration
Rights Agreement”) pursuant to which it has agreed to file, within 45 days of
the closing of the Private Placement, a registration statement with the SEC to
register the shares for resale, which registration statement is required to
become effective within 120 days following the closing.  We also granted
certain "piggyback" registration rights to the Purchasers which are triggered if
we propose to file a registration statement for its own account or the account
of one or more shareholders until the earlier of the sale of all of the shares
or the shares become eligible for sale under Rule 144(b)(1) without
restriction.




Under the
Registration Rights Agreements with the Purchasers, the Company is obligated to
use commercially reasonable efforts to (i) cause the registration statements
described above to remain continuously effective and (ii) to maintain the
listing of Company’s common stock on Nasdaq or other exchanges, as defined, for
a period that will terminate on the earlier of March 5, 2013 or the date on
which the Purchases have sold all shares of common stock.  The Company
is also required to file with the SEC in a timely manner all reports and other
documents required of the Company required of the Company under the 1934
Act.  In the event the Company fails to satisfy its obligations under
the registration rights agreements, the Company would be in breach of said
agreements, in which event, the Purchases would be entitled to pursue all rights
and remedies at law or equity including an injunction or other equitable relief.
These registration rights agreements do not provide an explicitly stated or
defined penalty due upon a breach.  Because (i) the potential penalty
for any breach of these Registration Rights Agreement is not explicitly stated
or defined, which prohibits the Company from applying the guidance of ASC
825-20-15, Registration
Payment Arrangements and (ii) complying with all filing requirements
under the 1934 Act as described above is not solely within the Company’s
control, the Company will be required to present the investment of approximately
$4,000,000 in the Company’s common stock as common stock outside of
stockholders’ equity in its future filings.




- 31
-




Comparison
of years ended December 31, 2009 and 2008




As of
December 31, 2009, we had $7,058,365 in cash and cash equivalents, working
capital of $4,706,058 and an accumulated deficit of $39,146,784.




Cash
flows provided by operating activities




During
the years ended December 31, 2009 and 2008, the Company used $8,414,406 and
$6,790,588, respectively, in cash flows from operating activities.  The
primary reasons for using more cash in operating activities in 2009 was due to a
combination of an increase in net loss, a decrease in receivables, increase
in accounts payable, an increase in accrued payroll and related
liabilities, and a decrease in deferred revenue.




The decrease
in accounts receivable, of $136,553, related mainly to an amendment to the
contract with GSK during the fourth quarter of 2008 whereby GSK agreed to make a
non-refundable upfront payment of approximately $1,300,000 which was received on
January 5, 2009 and included in accounts receivable and deferred revenue as of
December 31, 2008.  This payment may be credited against future work
undertaken in the period beginning January 1, 2009 and ending on December 31,
2010.





The
decrease in deferred revenue related to a decrease in advance
billings to our customers, along with recognition of revenue
associated with the deferred revenue totaling $928,116.




The
increase in accounts payable and accrued expenses primarily resulted from
increased sales and marketing and business development activities related to the
growth of ResponseDX.




The
change in accrued payroll and related liabilities is primarily due to an
increased number of employees at December 31, 2009.




Cash
flows used in investing activities




Net cash
used in investing activities was $175,686 and $577,328 for the years ended
December 31, 2009 and 2008, respectively. This decrease was attributable to the
reduced need for capital equipment purchases in our laboratories.




Cash
flows used in financing activities




Cash
flows from financing activities for the year ended December 31, 2009
provided net cash of $6,061,901 related to the sale of common stock.  There
were no financing activities undertaken in the year ended December 31,
2008.





Off-Balance
Sheet Arrangements




We do not
have any off-balance sheet arrangements.




- 32
-




Recent
Accounting Pronouncements





In
April 2009, the Company adopted a new accounting standard included in FASB
Accounting Standards Codification (“ASC”) 820,Fair Value Measurements and
Disclosures,  (formerly the Financial Accounting Standards Board
(“FASB”) issued Staff Position Statement of Financial Accounting Standards
(“SFAS”) No. 107-1 and Accounting Principles Board (“APB”) Opinion No.
28-1,Interim
Disclosures about Fair Value of Financial Instruments  ). ASC 820
requires disclosure about fair value of financial instruments in interim
financial statements as well as in annual financial statements. The new standard
requires those disclosures in all interim financial statements.  The
provisions of the new standard was effective for interim reporting period ended
June 30, 2009 and the application of the provisions of the standard did not
affect our results of operations or financial condition.





In May
2009, the FASB issued new guidance for subsequent events.  The new
guidance, which is part of ASC 855,Subsequent Events, 
(formerly SFAS No. 165,Subsequent Events ) is intended to establish standards of accounting for
and disclosure of events that occur after the balance sheet date but before
financial statements are issued. The adoption of ASC 855 resulted in additional
quarterly disclosures beginning in the second quarter of 2009 but did not affect
our results of operations or financial condition.





In June
2009, the FASB issued FASB Accounting Standards Update (“ASU”) 2009-01 “Topic
105 – Generally Accepted Accounting Principles Amendments Based on the Statement
of Financial Accounting Standards No. 168 - The FASB Accounting Standards
Codification and the Hierarchy of Generally Accepted Accounting Principles.” ASU
2009-01 establishes the FASB Accounting Standards Codification as the single
source of authoritative nongovernmental U.S. generally accepted accounting
principles. The Company adopted ASU 2009-01 during the year ended December 31,
2009, and its application did not affect our results of operations or financial
condition.





- 33
-




In
June 2009, the FASB issued ASU No. 2009-02, “Omnibus Update —
Amendments to Various Topics for Technical Corrections” (ASU 2009-02). The FASB
issued ASU 2009-02 in order to make technical corrections to the Codification.
The Company adopted ASU 2009-02 during the year ended December 31, 2009, and its
application did not affect our results of operations or financial
condition.





In
August 2009, the FASB issued ASU No. 2009-03, “SEC Update — Amendments
to Various Topics Containing SEC Staff Accounting Bulletins” (ASU 2009-03). The
Codification includes certain SEC and SEC staff guidance in order to increase
usefulness of the Codification for public companies. The SEC guidance is
presented in separate sections and is limited to material on the basic financial
statements. ASU 2009-03 includes technical corrections to various topics
containing SEC Staff Accounting Bulletins to update cross-references to
Codification text. The Company adopted ASU 2009-03 during the year ended
December 31, 2009, and its application did not affect our results of operations
or financial condition.





In
August 2009, the FASB issued ASU No. 2009-05, “Fair Value Measurements
and Disclosures (Topic 820) — Measuring Liabilities at Fair Value” (ASU
2009-05). This ASU amends Subtopic 820-10, Fair Value Measurements and
Disclosures-Overall, for the fair value measurement of liabilities, and provides
clarification regarding required valuations techniques for circumstances in
which a quoted price in an active market for the identical liability is not
available. The Company adopted ASU 2009-05 during the year ended December 31,
2009, and its application did not affect our results of operations or financial
condition.





In
September 2009, the FASB issued ASU No. 2009-07, “Accounting for
Various Topics — Technical Corrections to SEC Paragraphs” (ASU 2009-07). This
ASU represents technical corrections to various topics containing SEC guidance
based on external comments received. The Company adopted ASU 2009-07 during the
year ended December 31, 2009, and its application did not affect our results of
operations or financial condition.





In
December 2009, the FASB issued ASU 2009-16, Transfers and Servicing (Topic 860)
— Accounting for Transfers of Financial Assets (“ASU 2009-16”). ASU 2009-16
formally codifies SFAS 166, Accounting for Transfers of Financial Assets. ASU
2009-16 eliminates the concept of a qualifying special-purpose entity (“SPE”)
and removes the scope exception for a qualifying SPE from ASC 810,
Consolidations. As a result, previously unconsolidated qualifying SPEs must be
re-evaluated for consolidation by the sponsor or transferor. In addition, this
accounting update amends the accounting guidance related to transfers of
financial assets in order to address practice issues that have been highlighted
by the events of the recent economic decline. ASU 2009-16 is effective as of the
beginning of the annual reporting period that begins after November 15, 2009.
The recognition and measurement provisions will be applied to transfers that
occur on or after the effective date and all qualifying SPEs that exist on and
after the effective date must be evaluated for consolidation.  The adoption
of this guidance is not expected to have a material effect on our results of
operations or financial position.




In
December 2009, the FASB issued ASU 2009-17, Consolidations (Topic 810) —
Improvements to Financial Reporting by Enterprises Involved with Variable
Interest Entities (“ASU 2009-17”). ASU 2009-17 codifies SFAS 167, Amendments to
FASB Interpretation No. 46(R), and amends the consolidation guidance related to
a variable interest entity (“VIE”). Primarily, the current quantitative analysis
used under ASC 810, Consolidations, will be eliminated and replaced with a
qualitative approach that is focused on identifying the variable interest that
has the power to direct the activities that most significantly impact the
performance of the VIE and absorb losses or receive returns that could
potentially be significant to the VIE. In addition, this new accounting standard
will require an ongoing reassessment of the primary beneficiary of the VIE,
rather than reassessing the primary beneficiary only upon the occurrence of
certain pre-defined events. ASU 2009-17 will be effective as of the beginning of
the annual reporting period that begins after November 15, 2009, and requires
the reconsideration of all VIEs for consolidation in which an entity has a
variable interest upon the effective date of these amendments. The adoption of
this guidance is not expected to have a material effect on our results of
operations or financial position.





In
January 2010, the FASB issued ASU No. 2010-06, Fair Value Measurements and
Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements
(“ASU 2010-06”). ASU 2010-06 requires new disclosures and clarifies existing
disclosure requirements about fair value measurement as set forth in
Codification Subtopic 820-10. ASU 2010-06 amends Codification Subtopic 820-10 to
now require that (1) a reporting entity must disclose separately the amounts of
significant transfers in and out of Level 1 and Level 2 fair value measurements
and describe the reasons for the transfers; (2) in the reconciliation for fair
value measurements using significant unobservable inputs, a reporting entity
should present separately information about purchases, sales, issuances, and
settlements and (3) a reporting entity should provide disclosures about the
valuation techniques and inputs used to measure fair value for both recurring
and nonrecurring fair value measurements. ASU 2010-06 is effective for interim
and annual reporting periods beginning after December 15, 2009, except for the
disclosures about purchases, sales, issuances, and settlements in the roll
forward of activity in Level 3 fair value measurements. Those disclosures are
effective for fiscal years beginning after December 15, 2010, and for interim
periods within those fiscal years. The adoption of this guidance is not expected
to have a material effect on our results of operations or financial
position.




- 34
-




In
February 2010, Financial Accounting Standards Board ("FASB") issued Accounting
Standards Update ("ASU") 2010-09, Subsequent Events (Topic 855) Amendments to
Certain Recognition and Disclosure Requirements, which amends disclosure
requirements within Subtopic 855-10. An entity that is an SEC filer is not
required to disclose the date through which subsequent events have been
evaluated. This change alleviates potential conflicts between Subtopic 855-10
and the SEC's requirements.  ASU 2010-09 is effective upon issuance. The
adoption of ASU 2010-09 did not have a material impact on our consolidated
financial statements.




Item
7.  Financial Statements and Supplementary Data.





Our
consolidated financial statements and related notes are included in this annual
report beginning on page 39.





Item
8.  Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure





None.





Item
8(A)(T).  Controls and Procedures.





Evaluation
of Disclosure Controls and Procedures





Our
management is responsible for establishing and maintaining adequate internal
control over financial reporting for the Company. Under the supervision, and
with the participation of our management, including the Principal Executive
Officer and Principal Financial Officer, we have evaluated the effectiveness of
our disclosure controls and procedures pursuant to Exchange Act Rules 13a-15 and
15d-15 as of the end of the period covered by this report. Based on that
evaluation, our Principal Executive Officer and Principal Financial Officer have
concluded that these disclosure controls and procedures were effective such that
the material information required to be filed in this report is recorded,
processed, summarized and reported within the required time periods specified in
the SEC rules and forms. This conclusion was based on the fact that the business
operations to date have been limited and our Principal Executive Officer and
Principal Financial Officer have had complete access to all records and
financial information and have availed themselves of such access to ensure full
disclosure.





It should
be noted that any system of controls and procedures, no matter how well designed
and operated, can provide only reasonable, not absolute, assurance that the
objectives of the control system are met. As a result, there can be no assurance
that a control system will succeed in preventing all possible instances of error
and fraud. Our disclosure controls and procedures are designed to provide
reasonable assurance of achieving their objectives, and the conclusions of our
Principal Executive Officer and the Principal Financial Officer are made at the
“reasonable assurance” level.





Management’s
Annual Report on Internal Control over Financial Reporting




Management
is responsible for establishing and maintaining adequate internal control over
financial reporting as defined in Rules 13a-15(f) and 15d-15(f) promulgated
under the Exchange Act. Our internal control system was designed to provide
reasonable assurance to our management and board of directors regarding the
preparation and fair presentation of published financial
statements.




All
internal control systems, no matter how well designed, have inherent
limitations. Therefore, even those systems determined to be effective can only
provide reasonable assurance with respect to financial statement preparation and
presentation.




Management
assessed the effectiveness of our internal control over financial reporting as
of December 31, 2009. In making this assessment, it used the criteria set forth
by the Committee of Sponsoring Organizations of the Treadway Commission (COSO)
in Internal Control—Integrated Framework. Based on its assessment, management
believes that, as of December 31, 2009, our internal control over financial
reporting was effective based on those criteria.




This Annual Report on Form 10-K does
not include an attestation report of our independent registered public
accounting firm regarding internal control over financial reporting.
Management’s report was not subject to attestation by our independent registered
public accounting firm pursuant to temporary rules of the SEC that permit us to
provide only management’s report in this Annual Report on Form 10-K.




- 35
-




Changes
in Internal Control over Financial Reporting





There
were no changes in our internal control over financial reporting during the
quarter ended December 31, 2009 that have materially affected, or are reasonably
likely to materially affect, our internal controls over financial
reporting.





Item
8B.  Other Information.





None.





Part
III




Certain
information required by Part III is omitted from this Annual Reporton Form 10-K since we intend
to file our definitive proxy statement for our 2010 annual meeting of
stockholders, pursuant to Regulation 14A of the Securities Exchange Act, not
later than 120 days after the end of the fiscal year covered by this Annual
Report on Form 10-K, and certain information to be included in the proxy
statement is incorporated herein by
reference.




Item
9.  Directors, Executive Officers, Promoters, Control Persons and Corporate
Governance; Compliance With Section 16(a) of the Exchange Act.




The
information required by this item concerning the Company’s executive officers
and directors, the code of ethics and corporate governance matters is
incorporated herein by reference to the section entitled ”Management”, “Proposal
One-Election of Directors,” “Board of Directors - Principles of Corporate
Governance,” and “Director Independence, Board Meetings and Committee” in our
Proxy Statement.





The
information required by this item regarding delinquent filers pursuant to Item
405 of Regulation S-K is incorporated herein by reference to the section
entitled “Section 16(a) Beneficial Ownership Reporting Compliance” in our Proxy
Statement.




Code
of Ethics




Our Code
of Ethics that applies to all of our employees and directors, including our
principal executive officer and our principal financial officer is available on
the investor relations page of our website at www.responsegenetics.com. The
Board has not adopted a code of ethics that pertains specifically to the Board
of Directors.




Item 10  Executive
Compensation.




The
information required by this item concerning executive compensation is
incorporated herein by reference to the sections entitled “Compensation of
Directors” and “Executive Compensation” in our Proxy Statement.




Item
11.  Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters.




The
information required by this item pursuant to Item 403 of Regulation S-K is
incorporated by reference to the sections entitled “Security Ownership of
Certain Beneficial Owners and Management” in our Proxy Statement. The
information required by Item 201(d) of Regulation S-K is set forth
below.




Equity
Compensation Plan Information




The table
below sets forth certain information as of March 31, 2010 about the Company’s
Common Stock that may be issued upon the exercise of options and rights under
all of our existing equity compensation plans (shares in
thousands):




- 36
-




Securities
Authorized For Issuance Under Equity Compensation Plans





Plan
      Category
                          
                          Number of securities to beissued upon exercise ofoutstanding options, warrantsand rights
                            (a)
                          
                          
                          Weighted-average exerciseprice of outstanding options,warrants and rights
                            (b)
                          
                          
                          Number of securities remainingavailable for future issuanceunder equity compensationplans (excluding securitiesreflected in column (a))
                            (c)Equity compensation
      plans approved by security holders
                          
                          
                          2,056,490
                          
                          
                          $
                          5.12
                          
                          
                          
                          409,510Equity
      compensation plans not approved by security holders
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —Total
                          
                          
                          2,056,490
                          
                          
                          $
                          5.12
                          
                          
                          
                          409,510




Item
12.  Certain Relationships and Related Transactions, and Director
Independence.




The
information required by this item concerning related party transactions pursuant
to Item 404 of Regulation S-K is incorporated herein by reference to the section
entitled “Related Transactions” in our Proxy Statement.




The
information required by this item concerning director independent pursuant to
Item 407(a) of Regulation S-K is incorporated herein by reference to the section
entitled “Director Independence, Board Meetings and Committees” in our Proxy
Statement.





Item
13.  Principal Accountant Fees and Services.





Information
required by Item 13 will be set forth in our Definitive Proxy Statement for our
2010 Annual Meeting of Shareholders, which is expected to be filed pursuant to
Regulation 14A with the Securities and Exchange Commission within 120 days after
the close of the Company’s fiscal year end.  Such information is
incorporated herein by reference.




- 37
-




FINANCIAL
STATEMENTS




INDEX




PageReport
      of Independent Registered Public Accounting Firm
                                      
                                      39Report
      of Independent Registered Public Accounting Firm
                                      
                                      40Consolidated
      Balance Sheets as of December 31, 2008 and 2009
                                      
                                      41Consolidated
      Statements of Operations and Comprehensive Loss for the Years Ended
      December 31, 2008 and 2009
                                      
                                      42Consolidated
      Statements of Cash Flows for the Years Ended December 31, 2008 and
      2009
                                      
                                      43Consolidated
      Statements of Stockholders’ Equity and Comprehensive Loss for the Years
      Ended December 31, 2008 and 2009
                                      
                                      44Notes
      to Consolidated Financial Statements
                                      
                                      45
      -
69




- 38
-


Report
of Independent Registered Public Accounting Firm





To the
Board of Directors and Stockholders


Response
Genetics, Inc.


Los
Angeles, California





We have
audited the accompanying consolidated balance sheet of Response Genetics, Inc.
and subsidiary as of December 31, 2009 and the related consolidated statements
of operations and comprehensive loss, stockholders’ equity and comprehensive
loss, and cash flows for the year then ended. These financial statements are the
responsibility of the Company’s management.  Our responsibility is to
express an opinion on these financial statements based on our
audit.




We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States).  Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. The Company is not
required to have, nor were we engaged to perform, an audit of its internal
control over financial reporting.  Our audit included consideration of
internal control over financial reporting as a basis for designing audit
procedures that are appropriate in the circumstances, but not for the purpose of
expressing an opinion on the effectiveness of the Company’s internal control
over financial reporting. Accordingly, we express no such opinion.  An
audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall presentation of the financial statements. We believe that our audit
provides 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 Response Genetics, Inc. and
subsidiary at December 31, 2009, and the results of their operations
and their cash flows for the year ended December 31, 2009, in conformity
with accounting principles generally accepted in the United States of
America.





/s/ BDO
Seidman, LLP





Los
Angeles, California


April 13,
2010




- 39
-




Report
of Independent Registered Public Accounting Firm





To the
Board of Directors and Stockholders


Response
Genetics, Inc.





We have
audited the consolidated balance sheet of Response Genetics, Inc. and subsidiary
(the “Company”) as of December 31, 2008, and the related consolidated statements
of operations and comprehensive loss, stockholders' equity and comprehensive
loss and cash flows for the year then ended.  These financial statements
are the responsibility of the Company's management.  Our responsibility is
to express an opinion on these financial statements based on our
audit.





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





In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of the Company as of December
31, 2008, and the results of their operations and their cash flows for the year
then ended, in conformity with U.S. generally accepted accounting
principles.





/s/
SingerLewak LLP





Los
Angeles, California


March 31,
2009




- 40
-




RESPONSE
GENETICS, INC.




CONSOLIDATED
BALANCE SHEETS





As of December 31,2008
                            
                            
                            2009ASSETSCurrent
      assetsCash
      and cash equivalents
                            
                            $
                            9,545,000
                            
                            
                            $
                            7,058,365Accounts
      receivable, net
                            
                            
                            2,119,496
                            
                            
                            
                            1,982,951Prepaid
      expenses and other current assets
                            
                            
                            399,612
                            
                            
                            
                            418,289Total
      current assets
                            
                            
                            12,064,108
                            
                            
                            
                            9,459,605Property
      and equipment, net
                            
                            
                            1,414,842
                            
                            
                            
                            1,253,714Other
      assets
                            
                            
                            69,103
                            
                            
                            
                            79,655Total
      assets
                            
                            $
                            13,548,053
                            
                            
                            $
                            10,792,974LIABILITIES,
      COMMON STOCK CLASSIFIED OUTSIDE OF STOCKHOLDERS’ EQUITY AND STOCKHOLDERS’
      EQUITYCurrent
      liabilitiesAccounts
      payable
                            
                            $
                            545,971
                            
                            
                            $
                            729,100Accrued
      expenses
                            
                            
                            513,868
                            
                            
                            
                            503,612Accrued
      royalties
                            
                            
                            526,712
                            
                            
                            
                            455,995Accrued
      payroll and related liabilities
                            
                            
                            154,185
                            
                            
                            
                            468,774Deferred
      revenue
                            
                            
                            2,580,498
                            
                            
                            
                            2,596,066Total
      current liabilities
                            
                            
                            4,321,234
                            
                            
                            
                            4,753,547Deferred
      revenue, net of current portion
                            
                            
                            2,355,948
                            
                            
                            
                            1,414,928Total
      liabilities
                            
                            
                            6,677,182
                            
                            
                            
                            6,168,475Commitments
      and contingencies (Note 6)Common
      stock classified outside of stockholders’ equity
                            
                            
                            —
                            
                            
                            
                            3,975,279Stockholders’
      equityCommon
      stock, $0.01 par value; 50,000,000 shares authorized; 10,239,276 and
      15,297,183 shares issued and outstanding at December 31, 2008 and December
      31, 2009, respectively
                            
                            
                            102,393
                            
                            
                            
                            152,972Additional
      paid-in capital
                            
                            
                            36,805,932
                            
                            
                            
                            39,858,986Accumulated
      deficit
                            
                            
                            (29,805,729
                            )
                            
                            
                            (39,146,784
                            )Accumulated
      other comprehensive loss
                            
                            
                            (231,725
                            )
                            
                            
                            (185,375
                            )Total
      stockholders’ equity
                            
                            
                            6,870,871
                            
                            
                            
                            649,220Total
      liabilities, common stock classified outside of stockholders’ equity and
      stockholders’ equity
                            
                            $
                            13,548,053
                            
                            
                            $
                            10,792,974




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




- 41
-




RESPONSE
GENETICS, INC.




CONSOLIDATED
STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS





Year
      Ended December 31,2008
                                
                                
                                2009Net
      revenue
                                
                                $
                                7,124,771
                                
                                
                                $
                                9,066,683Operating
      expenses:Cost
      of revenue
                                
                                
                                3,965,888
                                
                                
                                
                                5,720,825Selling
      and marketing
                                
                                
                                878,706
                                
                                
                                
                                3,621,030General
      and administrative
                                
                                
                                6,679,992
                                
                                
                                
                                6,085,628U.K. expenses
                                
                                
                                3,371,513
                                
                                
                                
                                752,901Research
      and development
                                
                                
                                2,088,832
                                
                                
                                
                                2,293,303Total
      operating expenses
                                
                                
                                16,984,931
                                
                                
                                
                                18,473,687Operating
      loss
                                
                                
                                (9,860,160
                                )
                                
                                
                                (9,407,004
                                )Other
      income (expense):Interest
      expense
                                
                                
                                (3,875
                                )
                                
                                
                                (10,822
                                )Interest
      income
                                
                                
                                374,659
                                
                                
                                
                                22,265Other
                                
                                
                                (8,911
                                )
                                
                                
                                49,718Loss
      before income tax benefit
                                
                                
                                (9,498,287
                                )
                                
                                
                                (9,345,843
                                )Income
      tax benefit
                                
                                
                                (12,749
                                )
                                
                                
                                (4,788
                                )Net
      loss
                                
                                $
                                (9,485,538
                                )
                                
                                $
                                (9,341,055
                                )Unrealized
      gain (loss) on foreign currency translation
                                
                                
                                (198,729
                                )
                                
                                
                                46,350Total
      comprehensive loss
                                
                                $
                                (9,684,267
                                )
                                
                                $
                                (9,294,705
                                )Net
      loss per share — basic and diluted
                                
                                $
                                (0.93
                                )
                                
                                $
                                (0.70
                                )Weighted-average
      common shares — basic and diluted
                                
                                
                                10,239,276
                                
                                
                                
                                13,276,095




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




- 42
-





RESPONSE GENETICS, INC.




CONSOLIDATED
STATEMENTS OF CASH FLOWS





Year Ended
                                    December 31,2008
                                  
                                  
                                  2009Cash
      flows from operating activities:Net
      loss
                                  
                                  $
                                  (9,485,538
                                  )
                                  
                                  $
                                  (9,341,055
                                  )Adjustments
      to reconcile net loss to net cash used in operating
      activities:Depreciation
      and amortization
                                  
                                  
                                  784,721
                                  
                                  
                                  
                                  385,429U.K.
      impairment of property and equipment
                                  
                                  
                                  893,826
                                  
                                  
                                  
                                  —Share-based
      compensation
                                  
                                  
                                  1,449,363
                                  
                                  
                                  
                                  986,432Loss
      (gain) on sale of property and equipment
                                  
                                  
                                  8,911
                                  
                                  
                                  
                                  (48,615
                                  )Changes
      in operating assets and liabilities:Accounts
      receivable
                                  
                                  
                                  791,261
                                  
                                  
                                  
                                  136,553Prepaid
      expenses and other current assets
                                  
                                  
                                  90,843
                                  
                                  
                                  
                                  (21,647
                                  )Accounts
      payable
                                  
                                  
                                  317,416
                                  
                                  
                                  
                                  182,125Accrued
      expenses
                                  
                                  
                                  213,989
                                  
                                  
                                  
                                  (12,048
                                  )Accrued
      royalties
                                  
                                  
                                  262,161
                                  
                                  
                                  
                                  (70,717
                                  )Accrued
      payroll and related liabilities
                                  
                                  
                                  (366,392
                                  )
                                  
                                  
                                  314,589Deferred
      revenue
                                  
                                  
                                  (1,751,148
                                  )
                                  
                                  
                                  (925,452
                                  )Net
      cash used in operating activities
                                  
                                  
                                  (6,790,587
                                  )
                                  
                                  
                                  (8,414,406
                                  )Cash
      flows from investing activities:Purchase
      of property and equipment
                                  
                                  
                                  (577,328
                                  )
                                  
                                  
                                  (224,301
                                  )Proceeds
      from sale of property and equipment
                                  
                                  
                                  —
                                  
                                  
                                  
                                  48,615Net
      cash used in investing activities
                                  
                                  
                                  (577,328
                                  )
                                  
                                  
                                  (175,686
                                  )Cash
      flows from financing activities:Proceeds
      from issuance of common stock
                                  
                                  
                                  —
                                  
                                  
                                  
                                  5,975,279Capital
      contribution
                                  
                                  
                                  —
                                  
                                  
                                  
                                  86,622Net
      cash provided by financing activities
                                  
                                  
                                  —
                                  
                                  
                                  
                                  6,061,901Effect
      of foreign exchange rates on cash and cash equivalents
                                  
                                  
                                  (111,294
                                  )
                                  
                                  
                                  41,556Net
      decrease in cash and cash equivalents
                                  
                                  
                                  (7,479,209
                                  )
                                  
                                  
                                  (2,486,635
                                  )Cash
      and cash equivalents:Beginning
      of the year
                                  
                                  
                                  17,024,209
                                  
                                  
                                  
                                  9,545,000End
      of the year
                                  
                                  $
                                  9,545,000
                                  
                                  
                                  $
                                  7,058,365Cash
      paid during the period for:Income
      taxes
                                  
                                  $
                                  39,485
                                  
                                  
                                  $
                                  —Interest
                                  
                                  $
                                  3,027
                                  
                                  
                                  $
                                  10,822





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




- 43
-




RESPONSE
GENETICS, INC.




Consolidated
Statement of Stockholders’ Equity and Comprehensive Loss




Common StockNumber of
                      Shares
                    
                    
                    Amount
                    
                    
                    Additional
                      Paid-in
                      Capital
                    
                    
                    Accumulated
                      Deficit
                    
                    
                    Accumulated
                      Other
                      Comprehensive
                      Loss
                    
                    
                    Total
                      Stockholders'
                      EquityBalances
      at December 31, 2007
                    
                    
                    10,239,276
                    
                    
                    $
                    102,393
                    
                    
                    $
                    35,356,569
                    
                    
                    $
                    (20,320,191
                    )
                    
                    $
                    (32,996
                    )
                    
                    $
                    15,105,775Share-based
      compensation expense
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    1,449,363
                    
                    
                    
                    —
                    
                    
                    
                    
                    
                    
                    
                    1,449,363Unrealized
      loss on foreign currency translation
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    (198,729
                    )
                    
                    
                    (198,729
                    )Net
      loss
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    (9,485,538
                    )
                    
                    
                    —
                    
                    
                    
                    (9,485,538
                    )Total
      comprehensive loss
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    (9,684,267
                    )Balances
      at December 31, 2008
                    
                    
                    10,239,276
                    
                    
                    $
                    102,393
                    
                    
                    $
                    36,805,932
                    
                    
                    $
                    (29,805,729
                    )
                    
                    $
                    (231,725
                    )
                    
                    $
                    6,870,871Issuance
      of common stock
                    
                    
                    5,057,907
                    
                    
                    
                    20,000
                    
                    
                    
                    1,980,000
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    2,000,000Capital
      contribution
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    86,622
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    86,622Share-based
      compensation expense
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    986,432
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    986,432Unrealized
      gain on foreign currency translation
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    46,350
                    
                    
                    
                    46,350Net
      loss
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    (9,341,055
                    )
                    
                    
                    —
                    
                    
                    
                    (9,341,055
                    )Total
      comprehensive loss
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    (9,294,705
                    )Balances
      at December 31, 2009
                    
                    
                    15,297,183
                    
                    
                    $
                    122,393
                    
                    
                    $
                    39,858,986
                    
                    
                    $
                    (39,146,784
                    )
                    
                    $
                    (185,375
                    )
                    
                    $
                    649,220




- 44
-




RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




1.
Organization, Operations and Basis of Accounting




Response
Genetics, Inc. (the “Company”) was incorporated in the state of Delaware on
September 23, 1999 as Bio Type, Inc. for the purpose of providing unique
molecular profiling services of tumor tissue that has been formalin-fixed and
embedded in paraffin wax. In August 2000, the Company changed its name to
Response Genetics, Inc.  In November 2006, the Company established Response
Genetics Ltd., a wholly owned subsidiary in Edinburgh, Scotland.  On
February 9, 2009 we implemented a reduction of workforce pursuant to which we
have closed our subsidiary in Edinburgh. See Note 14 “U.K.
OPERATIONS”.





The
Company is a life science company engaged in the research, development,
marketing and sale of pharmacogenomic tests for use in the treatment of cancer.
Pharmacogenomics is the science of how an individual’s genetic makeup relates to
drug response. Tests based on pharmacogenomics facilitate the prediction of a
response to drug therapy or survival following surgery based on an individual’s
genetic makeup. In order to generate pharmacogenomic information from patient
specimens for these tests, the Company developed and patented enabling methods
for maximizing the extraction and analysis of nucleic acids and, therefore,
accessing the genetic information available from each patient sample. The
Company’s platforms include analysis of single biomarkers using the polymerase
chain reaction method as well as global gene interrogation using microarray
methods from paraffin or frozen tissue specimens. The Company primarily derives
its revenue by providing pharmacogenomic testing services to pharmaceutical
companies in the United States, Asia and Europe and from the sale of the
Company’s ResponseDX diagnostic testing products.





The
Company’s goal is to provide cancer patients and their physicians with a means
to make informed, individualized treatment decisions based on genetic analysis
of tumor tissues. The Company’s pharmacogenomic analysis of clinical trial
specimens for the pharmaceutical industry may provide data that will lead to a
better understanding of the molecular basis for response to specific drugs and,
therefore lead to individualized treatment.





In
June 2009, the Financial Accounting Standards Board (“FASB”) issued
Statement of Financial Accounting Standards (“SFAS”) No. 168,The FASB Accounting
Standards Codification and the Hierarchy of Generally Accepted Accounting
Principles  (the “Codification”). This standard replaces SFAS No.
162,The Hierarchy of
Generally Accepted Accounting Principles , and establishes only two
levels of U.S. generally accepted accounting principles (“GAAP”), authoritative
and nonauthoritative. The FASB Accounting Standards Codification (“ASC”) will
become the source of authoritative, nongovernmental GAAP, except for rules and
interpretive releases of the SEC, which are sources of authoritative GAAP for
SEC registrants. All other nongrandfathered, non-SEC accounting literature not
included in the Codification will become nonauthoritative. This standard is
effective for financial statements for interim or annual reporting periods
ending after September 15, 2009. The adoption of the Codification changed
the Company’s references to GAAP accounting standards but did not impact the
Company’s results of operations, financial position or liquidity.




2.
Summary of Significant Accounting Policies




Basis
of Consolidation




The
consolidated financial statements include the accounts of Response Genetics,
Inc. and its wholly owned subsidiary, Response Genetics, Ltd., a Scottish
corporation, which was incorporated in November 2006 (See Note 14). All
significant intercompany transactions and balances have been eliminated in
consolidation.




Immaterial
Restatement of Equity Presentation
  Under the
Company’s Articles of Incorporation, the Company has one class of common stock
and its holders have no preemptive, subscription, redemption or conversion
rights.  As more fully described in Note 15, the Company sold shares
of its common stock during 2009 in two private placements, the Special
Situations Private Placement and the Lansdowne Private Placement.  In
connection with these private placements, the Company entered into registration
rights agreements with the purchasers of the common shares.
  Pursuant
to the Lansdowne Registration Rights Agreement which is dated July 22, 2009, the
Company filed a registration statement with the SEC to register the 3,057,907
shares sold to Lansdowne for resale, which became effective on November 3, 2009
and which registration statement is currently effective.
  Under the
Lansdowne Registration Rights Agreement, the Company was required to have the
registration statement declared effective within 120 days after the private
placement closed.  In addition, the Company is obligated to use
commercially reasonable efforts (i) to cause the registration statement
described above to remain continuously effective and (ii) to maintain the
listing of the Company’s common stock on Nasdaq or other exchanges, as defined,
for a period that that will terminate on the earlier of July 22, 2012 or the
date on which Lansdowne has sold all of its shares of common
stock.  The Company is also required to file with the SEC in a timely
manner all reports and other documents required of the Company under the 1934
Act. In the event the Company fails to satisfy its obligations under the
Lansdowne Registration Rights Agreement, the Company would be in breach of said
agreement, in which event Lansdowne would be entitled to pursue all rights and
remedies at law or equity including an injunction or other equitable
relief.  The Lansdowne Registration Rights Agreement does not provide
an explicitly stated or defined penalty due upon a breach.  Because
(i) the potential penalty for any breach of the Lansdowne Registration Rights
Agreement is not explicitly stated or defined, which prohibits the Company from
applying the guidance of ASC 825-20-15, Registration Payment
Arrangements and (ii) complying will all filing requirements under the
1934 Act as described above is not solely within the Company’s control, the
Company is required to present Lansdowne’s investment of $3,975,279 in the
Company’s common stock as common stock outside of stockholders’ equity in the
accompanying consolidated balance sheet under ASC 480-10-S99-3, Classification and Measurement of
Redeemable Securities.


As
of December 31, 2009, we evaluated the requirements of ASC 425-20 Registration Payment Arrangementsand ASC 480-10 Distinguishing Liabilities and Equity (“ASC 480-10”) (formerly
EITF Topic No. D-98, Classification and Measurement of Redeemable Securities
(“Topic D-98”)), with respect to the presentation within the equity
section of the Company’s balance sheet for the 3,057,907 shares of the Company’s
common stock sold in the Lansdowne Private Placement.  Although these
securities had been classified within “Stockholders’ Equity” in previously
issued unaudited condensed financial statements as of September 30, 2009, the
Company subsequently concluded that such shares should be classified outside of
stockholders’ equity as described in the preceding paragraph.  This
reclassification of $3,975,279 effects only the presentation of the Company’s
consolidated balance sheet and has no impact on consolidated net loss, net loss
per shares or cash flows for any period previously
presented.  Although the Company believes that the effects of this
reclassification are not material to the Company’s previously issued unaudited
condensed consolidated financial statements as of September 30, 2009, we have
restated the affected balances as of September 30, 2009 to conform to the
Company’s application of ASC 480-10 in its 2009 annual consolidated financial
statements.  The
table below summarizes the effects of this immaterial adjustment on our
previously issued September 30, 2009 unaudited condensed consolidated balance
sheet:
  As
      of September 30, 2009As
      Reported
                  
                  
                  Adjustment
                  
                  
                  As
      AdjustedCommon
      Stock classified outside of stockholders’ equity
                  
                  $
                  —
                  
                  
                  $
                  3,975,279
                  
                  
                  $
                  3,975,279Stockholders’
      equityCommon
      Stock, 0.01 par value; 50,000,000 shares authorized; 10,239,276
      and15,297,183
      shares issued and outstanding at December 31, 2008 and
      September30,  2009
      respectively
                  
                  
                  152,972
                  
                  
                  
                  (30,579
                  )
                  
                  
                  122,393Additional
      paid-in capital
                  
                  
                  43,542,320
                  
                  
                  
                  3,944,700
                  
                  
                  
                  39,597,620Accumulated
      deficit
                  
                  
                  (37,423,960
                  )
                  
                  
                  —
                  
                  
                  
                  (37,423,960
                  )Accumulated
      other comprehensive loss
                  
                  
                  (196,017
                  )
                  
                  
                  —
                  
                  
                  
                  (196,017
                  )Total
      stockholders’ equity
                  
                  $
                  6,075,315
                  
                  
                  $
                  (3,975,279
                  )
                  
                  $
                  2,100,036




Cash
and Cash Equivalents




The
Company considers all highly liquid investments with a maturity at date of
purchase of three months or less to be cash equivalents. The carrying value of
cash equivalents approximates fair value due to the short-term nature and
liquidity of these instruments. The Company’s cash equivalents are comprised of
cash on hand, deposits in banks and money market investments.




Accounts
Receivable




Clinical Accounts
Receivable


The
Company invoices its clients as specimens are processed and any other
contractual obligations are met. The Company’s contracts with clients typically
require payment within 45 days of the date of invoice. The Company maintains
allowances for doubtful accounts for estimated losses resulting from the
inability of its clients to make required payments. The Company specifically
analyzes accounts receivable and historical bad debts, client credit, current
economic trends and changes in client payment trends when evaluating the
adequacy of the allowance for doubtful accounts. Account balances are
charged-off against the allowance when it is probable the receivable will not be
recovered. To date, the Company’s clients have primarily been large
pharmaceutical companies. As a result, bad debts to date have been minimal.
There were no allowances for doubtful accounts recorded at December 31, 2008 and
2009.




- 45
-




RESPONSE
GENETICS, INC.





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





2.
Summary of Significant Accounting Policies  - (continued)





Accounts
Receivable – (continued)





ResponseDX
Accounts Receivable





ResponseDX
accounts receivable related to Medicare billings is recorded at established
billing rates less an estimated billing adjustment, based on reporting models
utilizing historical cash collection percentages and updated for current
effective reimbursement factors. Management performs ongoing evaluations of
account receivable balances based on management’s evaluation of historical
experience and current industry trends. Management believes that no allowance
for doubtful accounts is currently needed. Although the Company expects to
collect amounts due, actual collections may differ materially from estimated
amounts.





ResponseDX
accounts receivable as of December 31, 2009, consisted of the
following:





December
                                31, 2008
                              
                              
                              December
                                31, 2009Gross
      ResponseDX Medicare receivable
                              $
                              329,357
                              
                              
                              $
                              4,139,471Less
      contractual allowances
                              
                              (217,692
                              )
                              
                              
                              (3,372,671
                              )Net
      ResponseDX Medicare accounts receivable
                              $
                              111,665
                              
                              
                              $
                              766,799





Currently,
we recognize ResponseDX revenue from third party and private payors on a cash
basis until a collection history can be determined. Until we are reasonably
assured about a pattern of collections, we will continue to record revenues from
third party payors of ResponseDX on a cash basis.





Property
and Equipment





Property
and equipment are carried at cost less accumulated depreciation and
amortization. Depreciation and amortization are calculated using the double
declining balance method over the estimated useful lives of the assets. The
Company has determined the estimated useful lives of its property and equipment,
as follows:





Laboratory
      equipment
                
                5
      to 7 yearsFurniture
      and Equipment
                
                5
      to 7 yearsLeasehold
      Improvements
                
                Shorter
      of the useful life or the lease term (5 to 7
  years)





Maintenance
and repairs are charged to expense as incurred. The cost and accumulated
depreciation of assets sold or otherwise disposed of are removed from the
related accounts and the resulting gain or loss is reflected in the statements
of operations. During the years ended December 31, 2008 and 2009, the Company
has capitalized costs related to database software development (see Note 3). The
Company has not yet placed this database into service and accordingly has not
depreciated these software development costs. The Company intends to place those
database software costs into service and amortize those costs beginning January
2010 in accordance with ASC 350-40,Internal-Use
Software , (formerly SOP 98-1) and the amortization period will be three
years using the straight line method.


- 46
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RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





2.
Summary of Significant Accounting Policies  - (continued)




Revenue
Recognition




Revenues
are derived from pharmacogenomic testing services provided to pharmaceutical
companies and are recognized on a contract specific basis pursuant to the terms
of the related agreements. Revenue is recognized in accordance with SEC Staff
Accounting Bulletin No. 104, Revenue Recognition, which
requires that four basic criteria must be met before revenue can be recognized:
(1) persuasive evidence of an arrangement exists; (2) delivery has occurred and
title and the risks and rewards of ownership have been transferred to the client
or services have been rendered; (3) the price is fixed or determinable; and (4)
collectibility is reasonably assured.




Revenues
are recorded on an accrual basis as the contractual obligations are completed
and as a set of assays is processed through the Company’s laboratory under a
specified contractual protocol. Certain contracts have minimum assay
requirements that, if not met, result in payments that are due upon the
completion of the designated period. In these cases, revenues are recognized
when the end of the specified contract period is reached.




On
occasion, the Company may enter into a contract that requires the client to
provide an advance payment for specimens that will be processed at a later date.
In these cases, the Company records this advance as deferred revenue and
recognizes the revenue as the specimens are processed or at the end of the
contract period, as appropriate.





The
Company recognizes a portion of product revenue from our ResponseDX tests
invoiced to Medicare on an accrual basis and to third-party payors, including
private payors on a cash basis. The Company has received its Medicare provider
number which allows it to invoice and collect from Medicare. Invoicing to
Medicare is primarily based on amounts allowed by Medicare for the service
provided as defined by Common Procedural Terminology (CPT) codes. ResponseDX
revenues related to Medicare billings are recorded at established billing
rates net of  an estimated billing adjustment, based on reporting
models utilizing historical cash collection percentages and updated for current
effective reimbursement factors. The Company recognizes revenue from third party
and private payors currently on a cash basis until a collection history can be
determined. Until a pattern of collections is reasonably assured, the Company
will continue to record revenues from third party payors of ResponseDx on a cash
basis.




Cost
of Revenue




Cost of
revenue represents the cost of materials, direct labor, costs associated with
processing tissue specimens including pathological review, staining,
microdissection, paraffin extraction, reverse transcription polymerase chain
reaction, or (“RT-PCR”) and quality control analyses, license fees and delivery
charges necessary to render an individualized test result. Costs associated with
performing tests are recorded as the tests are processed.




License
Fees




The
Company has licensed technology for the extraction of mRNA from formalin-fixed,
paraffin-embedded tumor specimens from the University of Southern California
(“USC”). Under the terms of the license agreement, the Company is required to
pay royalties to USC based on the revenue generated by use of this technology.
The Company maintains a non-exclusive license to use the polymerase chain
reaction (“PCR”), homogenous PCR, and reverse transcription PCR processes of
Roche Molecular Systems, Inc. (“Roche”). The Company pays Roche Molecular
Systems a royalty fee based on revenue that the Company generates through use of
this technology. The Company accrues for such royalties at the time revenue is
recognized. Such royalties are included in cost of revenues in the accompanying
statements of operations.




Research
and Development




The
Company expenses costs associated with research and development activities as
incurred. Research and development costs are allocated on a pro rata basis using
the number of research-only specimens that are processed by the Company versus
specimens that are processed and paid for by various third parties via contract.
Research and development costs include employee costs (salaries, payroll taxes,
benefits, and travel), equipment depreciation and warranties and maintenance,
laboratory supplies, primers and probes, reagents, patent costs and occupancy
costs.


- 47
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RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




2.
Summary of Significant Accounting Policies  - (continued)




Income
Taxes




Deferred
tax assets and liabilities are determined based on differences between the
financial reporting and tax basis of assets and liabilities and are measured
using the enacted tax rates and laws that will be in effect when the differences
are expected to reverse. Valuation allowances are established when necessary to
reduce deferred tax assets to the amount expected to be realized.




ASC
740,Income Taxes,
clarifies the accounting for uncertainty in income taxes recognized in financial
statements and requires the impact of a tax position to be recognized in the
financial statements if that position is more likely than not of being sustained
by the taxing authority. As of December 31, 2008 and 2009, the Company does not
have a liability for unrecognized tax benefits. The Company recognizes
interest and penalties associated with tax matters as part of the income tax
provision and includes accrued interest and penalties with the related tax
liability in the balance sheet.





Stock-Based
Compensation




The
Company accounts for stock-based compensation in accordance with ASC
718,Stock Compensation
(formerly SFAS 123(R),Share- Based
Payment ). Stock-based compensation expense for all stock-based
compensation awards granted is based on the grant-date fair value estimated in
accordance with the provisions of ASC 718.  The Company recognizes
these compensation costs on a straight-line basis over the requisite service
period of the award, which is generally the option vesting term of three to four
years.  In March 2005, the Securities and Exchange Commission (the
“SEC”) issued Staff Accounting Bulletin No. 107 (“SAB 107”) regarding the SEC’s
interpretation of ASC 718 and the valuation of share-based payments for public
companies. The Company has applied the provisions of SAB No. 107 in its adoption
of ASC 718.





The
Company accounts for equity instruments issued to non-employees in accordance
with ASC 505,Equity, (formerly
EITF 96-18). Under ASC 505, stock option awards issued to non-employees are
measured at fair value using the Black-Scholes option-pricing model and
recognized pursuant to a performance model.




Management
Estimates




The
preparation of financial statements in conformity with U.S.
GAAP 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 from those estimates.




Long-lived
Assets




Long-lived
assets are reviewed for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable. The
Company evaluates potential impairment by comparing the carrying amount of the
asset with the estimated undiscounted future cash flows associated with the use
of the asset and its eventual disposition. Should the review indicate that the
asset is not recoverable, the Company’s carrying value of the asset would be
reduced to its estimated fair value, which is measured by future discounted cash
flows.


- 48
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RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




2.
Summary of Significant Accounting Policies  - (continued)




Foreign
Currency Translation




The
financial position and results of operations of the Company’s foreign operations
are determined using local currency as the functional currency. Assets and
liabilities of these operations are translated at the exchange rate in effect at
each period-end. Statement of operations amounts are translated at the average
rate of exchange prevailing during the period. Translation adjustments arising
from the use of differing exchange rates from period to period are included in
accumulated other comprehensive loss in stockholders’ equity. The Company
accounts for deferred revenue related to a specific contract as a nonmonetary
obligation using historical exchange rates.




Comprehensive
Income (Loss)




Comprehensive
income (loss) encompasses the change in equity from transactions and other
events and circumstances from non-owner sources and the Company’s net loss. The
components of comprehensive loss and accumulated other comprehensive loss
comprise net loss and foreign currency translation adjustments for the years
ended December 31, 2008 and 2009.




Fair
Value of Financial Instruments




Cash and
cash equivalents are stated at cost, which approximates fair market value. 
Cash equivalents consist of money market accounts, with fair values estimated
based on quoted market prices. For additional information see Note
17.




Sales
and marketing costs
 
 The
Company markets its services through its advertising activities in trade
publications and on line. Advertising costs are included in selling, general and
administrative expenses on the income statement and are expensed as incurred.
Advertising costs for the years ended December 31, 2009 and 2008 were $393,049
and $109,694, respectively.




Reclassifications





Prior
year amounts in the consolidated financial statements have been reclassified to
conform with the current year presentation. Reclassified amounts had no impact
on the Company’s net losses.


- 49
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RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




2.
Summary of Significant Accounting Policies  - (continued)




Concentration
of Credit Risk Clients and Limited Suppliers




Cash and
cash equivalents consist of financial instruments that potentially subject the
Company to concentrations of credit risk to the extent recorded on the balance
sheets. The Company maintains cash in United States financial institutions
within the insurance limits of the Federal Deposit Insurance Corporation as of
December 31, 2009. In addition, the Company has invested its excess cash in
money market instruments which are not insured under the Federal Deposit
Insurance Corporation but are insured under the Securities Industry Protection
Corporation. The Company had approximately $6,240,000 of cash in money market
instruments and has not incurred any losses on these cash balances as of
December 31, 2009.  At December 31, 2009, approximately $254,000 of
cash was held outside of the United States and is uninsured.




Revenue sources that
account for greater than 10 percent of revenue are provided below.




YearEnded December 31,2008
                                
                                
                                2009Revenue
                                
                                
                                Percent of
                                  Total
                                  Revenue
                                
                                
                                Revenue
                                
                                
                                Percent of
                                  Total
                                  RevenueTaiho
      Pharmaceutical
                                
                                $
                                1,844,725
                                
                                
                                
                                26
                                %
                                
                                $
                                1,782,950
                                
                                
                                
                                20
                                %GlaxoSmithKline
                                
                                $
                                1,255,031
                                
                                
                                
                                18
                                %
                                
                                $
                                *
                                
                                
                                
                                *GlaxoSmithKline
      Biologicals
                                
                                $
                                3,631,716
                                
                                
                                
                                51
                                %
                                
                                $
                                3,420,748
                                
                                
                                
                                38
                                %


*Less
than 10%





Clients
that account for greater than 10 percent of accounts receivable are provided
below.




As ofDecember 31,2008
                          
                          
                          2009Receivable
                            Balance
                          
                          
                          Percent of
                            Total
                            Receivables
                          
                          
                          Receivable
                            Balance
                          
                          
                          Percent of
                            Total
                            ReceivablesTaiho
      Pharmaceutical
                          
                          $
                          388,275
                          
                          
                          
                          18
                          %
                          
                          $
                          263,725
                          
                          
                          
                          13
                          %GlaxoSmithKline
      Biologicals
                          
                          $
                          1,294,768
                          
                          
                          
                          61
                          %
                          
                          $
                          771,618
                          
                          
                          
                          39
                          %Hitachi
      Chemical
                          
                          $
                          265,415
                          
                          
                          
                          12
                          %
                          
                          $
                          *
                          
                          
                          
                          *


*Less
than 10%





Many of
the supplies and reagents used in the Company’s testing process are procured by
a limited number of suppliers. Any supply interruption or an increase in demand
beyond the suppliers’ capabilities could have an adverse impact on the Company’s
business. Management believes it can identify alternative sources, if necessary,
but it is possible such sources may not be identified in sufficient time to
avoid an adverse impact on its business. Refer also to Note 7 for further
discussion regarding these supply agreements. The Company purchases certain
laboratory supplies and reagents primarily from three suppliers. Purchases
from these companies accounted for approximately 81% and 83% of the Company’s
reagent purchases for the years ended December 31, 2008 and 2009,
respectively.


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RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




2.
Summary of Significant Accounting Policies  - (continued)




Recent
Accounting Pronouncements




In
April 2009, the Company adopted a new accounting standard included in FASB
Accounting Standards Codification (“ASC”) 820,Fair Value Measurements and
Disclosures,  (formerly the Financial Accounting Standards
Board (“FASB”) issued Staff Position Statement of Financial Accounting Standards
(“SFAS”) No. 107-1 and Accounting Principles Board (“APB”) Opinion No.
28-1,Interim
Disclosures about Fair Value of Financial Instruments  ). ASC
820 requires disclosure about fair value of financial instruments in interim
financial statements as well as in annual financial statements. The new standard
requires those disclosures in all interim financial statements.  The
provisions of the new standard was effective for interim reporting period ended
June 30, 2009 and the application of the provisions of the standard did not
affect our results of operations or financial condition.





In May
2009, the FASB issued new guidance for subsequent events.  The new
guidance, which is part of ASC 855,Subsequent
Events,  (formerly SFAS No. 165,Subsequent Events
) is intended to establish standards of accounting for and disclosure of events
that occur after the balance sheet date but before financial statements are
issued. The adoption of ASC 855 resulted in additional quarterly disclosures
beginning in the second quarter of 2009 but did not affect our results of
operations or financial condition.





In June
2009, the FASB issued FASB Accounting Standards Update (“ASU”) 2009-01 “Topic
105 – Generally Accepted Accounting Principles Amendments Based on the Statement
of Financial Accounting Standards No. 168 - The FASB Accounting Standards
Codification and the Hierarchy of Generally Accepted Accounting Principles.” ASU
2009-01 establishes the FASB Accounting Standards Codification as the single
source of authoritative nongovernmental U.S. generally accepted accounting
principles. The Company adopted ASU 2009-01 during the year ended December 31,
2009, and its application did not affect our results of operations or financial
condition.


- 51
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RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




2.
Summary of Significant Accounting Policies  - (continued)




Recent
Accounting Pronouncements – (continued)





In
June 2009, the FASB issued ASU No. 2009-02, “Omnibus Update —
Amendments to Various Topics for Technical Corrections” (ASU 2009-02). The FASB
issued ASU 2009-02 in order to make technical corrections to the Codification.
The Company adopted ASU 2009-02 during the year ended December 31, 2009, and its
application did not affect our results of operations or financial
condition.





In
August 2009, the FASB issued ASU No. 2009-03, “SEC Update — Amendments
to Various Topics Containing SEC Staff Accounting Bulletins” (ASU 2009-03). The
Codification includes certain SEC and SEC staff guidance in order to increase
usefulness of the Codification for public companies. The SEC guidance is
presented in separate sections and is limited to material on the basic financial
statements. ASU 2009-03 includes technical corrections to various topics
containing SEC Staff Accounting Bulletins to update cross-references to
Codification text. The Company adopted ASU 2009-03 during the year ended
December 31, 2009, and its application did not affect our results of operations
or financial condition.





In
August 2009, the FASB issued ASU No. 2009-05, “Fair Value Measurements
and Disclosures (Topic 820) — Measuring Liabilities at Fair Value” (ASU
2009-05). This ASU amends Subtopic 820-10, Fair Value Measurements and
Disclosures-Overall, for the fair value measurement of liabilities, and provides
clarification regarding required valuations techniques for circumstances in
which a quoted price in an active market for the identical liability is not
available. The Company adopted ASU 2009-05 during the year ended December 31,
2009, and its application did not affect our results of operations or financial
condition.





In
September 2009, the FASB issued ASU No. 2009-07, “Accounting for
Various Topics — Technical Corrections to SEC Paragraphs” (ASU 2009-07). This
ASU represents technical corrections to various topics containing SEC guidance
based on external comments received. The Company adopted ASU 2009-07 during the
year ended December 31, 2009, and its application did not affect our results of
operations or financial condition.





In
December 2009, the FASB issued ASU 2009-16, Transfers and Servicing (Topic 860)
— Accounting for Transfers of Financial Assets (“ASU 2009-16”). ASU 2009-16
formally codifies SFAS 166, Accounting for Transfers of Financial Assets. ASU
2009-16 eliminates the concept of a qualifying special-purpose entity (“SPE”)
and removes the scope exception for a qualifying SPE from ASC 810,
Consolidations. As a result, previously unconsolidated qualifying SPEs must be
re-evaluated for consolidation by the sponsor or transferor. In addition, this
accounting update amends the accounting guidance related to transfers of
financial assets in order to address practice issues that have been highlighted
by the events of the recent economic decline. ASU 2009-16 is effective as of the
beginning of the annual reporting period that begins after November 15, 2009.
The recognition and measurement provisions will be applied to transfers that
occur on or after the effective date and all qualifying SPEs that exist on and
after the effective date must be evaluated for consolidation.  The
adoption of this guidance is not expected to have a material effect on our
results of operations or financial position.


- 52
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RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




2.
Summary of Significant Accounting Policies  - (continued)




Recent
Accounting Pronouncements – (continued)





In
December 2009, the FASB issued ASU 2009-17, Consolidations (Topic 810) —
Improvements to Financial Reporting by Enterprises Involved with Variable
Interest Entities (“ASU 2009-17”). ASU 2009-17 codifies SFAS 167, Amendments to
FASB Interpretation No. 46(R), and amends the consolidation guidance related to
a variable interest entity (“VIE”). Primarily, the current quantitative analysis
used under ASC 810, Consolidations, will be eliminated and replaced with a
qualitative approach that is focused on identifying the variable interest that
has the power to direct the activities that most significantly impact the
performance of the VIE and absorb losses or receive returns that could
potentially be significant to the VIE. In addition, this new accounting standard
will require an ongoing reassessment of the primary beneficiary of the VIE,
rather than reassessing the primary beneficiary only upon the occurrence of
certain pre-defined events. ASU 2009-17 will be effective as of the beginning of
the annual reporting period that begins after November 15, 2009, and requires
the reconsideration of all VIEs for consolidation in which an entity has a
variable interest upon the effective date of these amendments. The adoption of
this guidance is not expected to have a material effect on our results of
operations or financial position.





In
January 2010, the FASB issued ASU No. 2010-06, Fair Value Measurements and
Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements
(“ASU 2010-06”). ASU 2010-06 requires new disclosures and clarifies existing
disclosure requirements about fair value measurement as set forth in
Codification Subtopic 820-10. ASU 2010-06 amends Codification Subtopic 820-10 to
now require that (1) a reporting entity must disclose separately the amounts of
significant transfers in and out of Level 1 and Level 2 fair value measurements
and describe the reasons for the transfers; (2) in the reconciliation for fair
value measurements using significant unobservable inputs, a reporting entity
should present separately information about purchases, sales, issuances, and
settlements and (3) a reporting entity should provide disclosures about the
valuation techniques and inputs used to measure fair value for both recurring
and nonrecurring fair value measurements. ASU 2010-06 is effective for interim
and annual reporting periods beginning after December 15, 2009, except for the
disclosures about purchases, sales, issuances, and settlements in the roll
forward of activity in Level 3 fair value measurements. Those disclosures are
effective for fiscal years beginning after December 15, 2010, and for interim
periods within those fiscal years. The adoption of this guidance is not expected
to have a material effect on our results of operations or financial
position.





In
February 2010, Financial Accounting Standards Board ("FASB") issued Accounting
Standards Update ("ASU") 2010-09, Subsequent Events (Topic 855) Amendments to
Certain Recognition and Disclosure Requirements, which amends disclosure
requirements within Subtopic 855-10. An entity that is an SEC filer is not
required to disclose the date through which subsequent events have been
evaluated. This change alleviates potential conflicts between Subtopic 855-10
and the SEC's requirements.  ASU 2010-09 is effective upon issuance.
The adoption of ASU 2010-09 did not have a material impact on our consolidated
financial statements.


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-





RESPONSE
GENETICS, INC.





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





3.
Property and Equipment




Property
and equipment consists of the following:




December 31,2008
                                
                                
                                2009Laboratory
      equipment
                                
                                $
                                2,328,888
                                
                                
                                $
                                2,321,628Furniture
      and equipment
                                
                                
                                113,643
                                
                                
                                
                                549,271Leasehold
      improvements
                                
                                
                                364,902
                                
                                
                                
                                188,509Software
      development
                                
                                
                                403,325
                                
                                
                                
                                371,872Total
                                
                                
                                3,210,758
                                
                                
                                
                                3,
      431,280Less:
      Accumulated depreciation and amortization
                                
                                
                                (1,795,916
                                )
                                
                                
                                (2,177,566
                                )Total
      property and equipment, net
                                
                                $
                                1,414,842
                                
                                
                                $
                                1,253,714




Depreciation
expense, included in cost of revenue, general and administrative expenses, and
research and development expenses for the years ended December 31, 2008 and 2009
was $784,721 and 385,429, respectively.




As a
result of the reduction of workforce management implemented on February 9, 2009,
management performed a recoverability test of the long-lived assets located at
the United Kingdom testing facility in accordance with ASC 360,Property, Plant and
Equipment, (formerly SFAS No. 144).  Based on the
recoverability analysis performed, the Company recorded a non-cash charge for
the impairment of long-lived assets of $0.9 million as of December 31, 2008 to
write down the carrying value of the long-lived assets to their estimated fair
value of $0.




4.
Prepaid Expenses and Other Current Assets




Prepaid
expenses and other current assets consists of the following:




December31,2008
                          
                          
                          2009Prepaid
      insurance
                          
                          $
                          146,084
                          
                          
                          $
                          100,213Prepaid
      maintenance contracts
                          
                          
                          98,513
                          
                          
                          
                          162,695Other
                          
                          
                          155,015
                          
                          
                          
                          155,381$
                          399,612
                          
                          
                          $
                          418,289


- 54
-




RESPONSE GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




5.
Loss Per Share




The
Company calculates net loss per share in accordance with ASC 260,Earnings Per Share,
(formerly SFAS No. 128). Under the provisions of ASC 260, basic net loss per
share is computed by dividing the net loss for the period by the weighted
average number of shares of common stock outstanding for the period. Diluted net
loss per share is computed by dividing the net loss by the weighted average
number of shares of common stock and dilutive common stock equivalents then
outstanding. Common stock equivalents consist of shares of common stock issuable
uponthe exercise of
stock options and warrants.




The
following table sets forth the computation for basic and diluted loss per
share:




Year Ended December 31,2008
                                  
                                  
                                  2009Numerator:Net
      loss
                                  
                                  $
                                  (9,485,538
                                  )
                                  
                                  $
                                  (9,341,055
                                  )Numerator
      for basic and diluted loss  per share
                                  
                                  
                                  (9,485,538
                                  )
                                  
                                  
                                  (9,341,055
                                  )Denominator:Denominator
      for basic and diluted loss per share — weighted-average
      common shares
                                  
                                  
                                  10,239,276
                                  
                                  
                                  
                                  13,276,095Basic
      and diluted loss per share
                                  
                                  $
                                  (0.93
                                  )
                                  
                                  $
                                  (0.70
                                  )





Outstanding
stock options and warrants to purchase 1,686,490 shares and 2,056,490 shares for
the years ended December 31, 2008, and 2009, respectively, of which 100,000
warrants are included in these amounts for 2008 and 2009, were excluded from the
calculation of diluted loss per share as their effect would have been
antidilutive.


- 55
-




RESPONSE GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




6.
Commitments and Contingencies




Operating
Leases





The
Company leases office and laboratory space under a noncancelable operating lease
that expires on March 31, 2011. The lease contains two two-year options to
extend the term of the lease and contains annual scheduled rate increases tied
to the Consumer Price Index for the Los Angeles/Long Beach California
metropolitan area. In March 2007, the Company entered into a noncancelable
operating lease, which expired in March 2009, for office and laboratory space in
Scotland. As a result of the reduction in workforce implemented by the Company
on February 9, 2009, the Company extended its lease in Scotland for one
additional month. For additional information see Note 14 U.K. Operations.
The Company also leases space at 103 South Carroll Street, Suite 2b, Fredrick,
Maryland 21701, for administrative purposes. This lease expires on August 31,
2010.  Rent expense, included in cost of revenue, general and
administrative, and research and development, was $617, 441 and $413,243 for the
years ended December 31, 2008 and 2009, respectively.





Future
minimum lease payments by year and in the aggregate, under the Company’s
noncancelable operating leases, consist of the following at December 31,
2009:




Year
      Ending December 31,2010
                  
                  $
                  459,1262011
                  
                  
                  113,242Thereafter
                  
                  
                  —Total
                  
                  $
                  572,368




Guarantees





The
Company enters into indemnification provisions under its agreements with other
counterparties in its ordinary course of business, typically with business
partners, clients and landlords. Under these provisions, the Company generally
indemnifies and holds harmless the indemnified party for losses suffered or
incurred by the indemnified party as a result of the Company's activities. These
indemnification provisions generally survive termination of the underlying
agreement. The Company reviews its exposure under these agreements no less than
annually, or more frequently when events indicate. The Company believes the
estimated fair value of these agreements is minimal as historically, no payments
have been made by the Company under these indemnification obligations.
Accordingly, the Company has no liabilities recorded for these agreements as of
December 31, 2009.





Legal
Matters





The
Company is, from time to time, involved in legal proceedings, regulatory
actions, claims and litigation arising in the ordinary course of business. These
matters are not expected to have a material adverse effect upon the Company’s
financial statements.





Employment
Agreements




The
Company has employment contracts with several individuals, which provide for
annual base salaries and potential bonuses. These contracts contain certain
change of control, termination and severance clauses that require the Company to
make payments to certain of these employees if certain events occur as defined
in their respective contracts. Below are summaries of these
agreements.




The
Danenberg Employment Agreement




We
entered into an employment agreement with Ms. Danenberg on December 11, 2000.
This previous agreement was superceded by a new employment agreement, which we
entered into as of October 26, 2006, as amended on December 14, 2006 and on May
29, 2007, for the position of President and Chief Executive Officer. The
agreement has an initial term of three years, with automatic one-year renewal
terms thereafter. Ms. Danenberg is to receive an initial base salary of
$350,000 per year, subject to annual adjustments at the discretion of the Board.
Ms. Danenberg also is eligible to earn a minimum of 40% of her base salary
as an annual bonus based upon our meeting certain performance targets and her
meeting personal objectives as determined by our board of
directors.




In the
event that Ms. Danenberg’s employment is terminated without cause or for
good reason, as defined under the agreement, we are obligated to pay her
severance equivalent to the greater of (a) one full year of base pay and
benefits; or (b) the base pay and benefits for the remaining term of the
employment agreement. In addition, within forty-five days of her termination, we
are obligated to pay her the pro rata portion of the bonus earned as of her
termination date. In addition the portion of Ms. Danenberg’s options that
are vested as of the date of her termination shall be exercisable for one year
from the date of her termination. In the event the employment agreement is
terminated because of Ms. Danenberg’s death, or because of a disability as
defined in the employment agreement, Ms. Danenberg or her estate will be
entitled to receive her base pay and pro rata bonus earned as of the date of
death or disability, and we will provide benefits coverage for a period of 12
months following the date of such death or disability to Ms. Danenberg or
her heirs as the case may be.




- 56
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RESPONSE GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




6.
Commitments and Contingencies – (continued)





The
Danenberg Employment Agreement – (continued)





In the
event a change in control occurs during Ms. Danenberg’s employment, she has
agreed not to resign her employment voluntarily for a period of six months
following the effective date of the change in control. If she is terminated
within such six-month period without cause or she resigns for good reason, in
addition to any other benefits to which she is entitled and provided she
executes a release of claims, Ms. Danenberg will be entitled to a lump sum
payment equivalent to a month of base pay at her then current annual rate for
each month during such six-month period for which she has yet to complete
service to us at the time of such termination, within forty-five days following
such termination. The employment agreement also places certain confidentiality,
assignment of inventions and non-solicitation obligations on
Ms. Danenberg.




The
Stankovich Employment Agreement




We have
entered into an Employment Agreement with Thomas Stankovich, dated as of October
25, 2006, as amended on May 29, 2007 for the position of Vice President and
Chief Financial Officer. He commenced employment on November 27, 2006. The
agreement has an initial term of three years with automatic one-year renewal
terms thereafter. The agreement provides for Mr. Stankovich to receive an
initial base salary of $220,000 per year. Mr. Stankovich also is eligible
to earn an annual bonus based upon our meeting certain performance targets and
his meeting personal objectives as agreed upon with the CEO and approved by our
board of directors.




In the
event that Mr. Stankovich’s employment is terminated without cause or he
resigns for good reason as defined under the agreement, during the first year of
his employment, we are obligated to pay him severance equal to six months salary
at his base salary rate at the time of termination. In the event of
Mr. Stankovich’s termination without cause, the portion of the his options
that are vested as of the date of his termination shall be exercisable for one
year from the date of his termination. The employment agreement also places
certain confidentiality, assignment of inventions and non-solicitation
obligations on Mr. Stankovich.







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RESPONSE GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





6.
Commitments and Contingencies – (continued)





The
McNairn Employment Agreement




We have
entered into an Employment Agreement with Denise McNairn, dated as of February
20, 2007, as amended on May 29, 2007 for the position of Vice President and
General Counsel. The agreement has an initial term of three years with automatic
one-year renewal terms thereafter. The agreement provides for Ms. McNairn to
receive an initial base salary of $225,000 per year. Ms. McNairn also is
eligible to earn an annual bonus of up to 35% of her base salary based upon our
meeting certain performance targets and her meeting personal objectives as
agreed upon with the CEO and approved by our board of directors. Ms. McNairn is
eligible to participate in our employee benefit plans.




In the
event that Ms. McNairn’s employment is terminated without cause or she resigns
for good reason, as defined under the agreement, during the first year of her
employment we are obligated to pay her severance equal to six months salary at
her base salary rate at the time of termination. In the event of Ms. McNairn’s
termination without cause, the portion of her options that are vested as of the
date of her termination shall be exercisable for one year from the date of her
termination. The employment agreement also places certain confidentiality,
assignment of inventions and non-solicitation obligations on Ms.
McNairn.





Defined
Contribution Plan




The
Company maintains a defined contribution plan covering substantially all of its
employees meeting minimum age and service requirements. Participation in the
plan is optional.  The Company provides a maximum of 3% matching
contribution based on employee contributions up to 6%. The Company’s matching
contribution amount for the years ended December 31, 2008 and 2009 was $40,400
and 54,270, respectively.


- 58
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RESPONSE GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





7.
License and Collaborative Agreements




License
Agreement with the University of Southern California (“USC”)




In April
2000, as amended in June 2002 and April 2005, the Company entered into a license
agreement with USC. Under this agreement, USC granted the Company a worldwide,
exclusive license with the right to sublicense, the patents for RGI-1 and
related technology, for use in human and veterinary diagnostic laboratory
services, the sale of clinical diagnostic products, and the sale of research
products to the research community. USC retains the right under the agreement to
use the technology for research and educational purposes.




In
consideration for this license, the Company agreed to pay to USC royalties based
on a percentage of the revenues generated by the use of RGI-1 and related
technology.  Royalty expense relating to this agreement amounted to
$79,052 and $227,958 for the years ended December 31, 2008, and 2009,
respectively.  Such expense is included in cost of
revenue in the accompanying statements of operations.





License
Agreement with Roche Molecular Systems (“Roche”)




In July
2001, the Company entered into a diagnostic services agreement with Roche to
provide the Company with access to Roche’s patented PCR technology. In November
2004, this agreement was replaced by a non-exclusive license to use Roche’s PCR,
homogenous PCR, and reverse transcription PCR processes. In consideration for
these rights, the Company is obligated to pay royalties to Roche, based on a
percentage of net sales of products or services that make use of the PCR
technology.  Royalty expense relating to this agreement amounted to
$292,481 and $198,279 for the years ended December 31, 2008, and 2009,
respectively.  Such expense is included in cost of revenue in the
accompanying statements of operations.




In
November 2004, the Company entered into an agreement with Roche, pursuant to
which the Company is collaborating with Roche to produce commercially viable
assays used in the validation of genetic markers for pharmaceutical companies.
Specifically, the Company has licensed the rights to Roche to use the
pre-diagnostic assays the Company develops in the course of using its
RNA-extraction technologies to provide testing services to pharmaceutical
companies and to produce diagnostic kits that then can be sold commercially to
those pharmaceutical companies. Roche is required to pay the Company royalties
of a certain percentage of net sales of such diagnostic kits sold to
pharmaceutical companies. Through December 31, 2009, Roche has not been required
to pay any royalties to the Company pursuant to this agreement.




Services
Agreement with Taiho Pharmaceutical Co., Ltd. (“Taiho”)




In July
of 2001, the Company entered into an agreement with Taiho pursuant to which it
will provide Taiho with RGI-1 generated molecular-based tumor analyses for use
in guiding chemotherapy treatment for cancer patients and for use in its
business developing and marketing pharmaceutical and diagnostic products for use
against cancer. Pursuant to the agreement, the Company appointed Taiho as the
exclusive purchaser in Japan of tests and testing services based upon the RGI-1
using gene expression for (i) any one or the combination of specified molecular
markers, (ii) the therapeutic use of specified compounds, or (iii) the diagnosis
or therapeutic treatment of specified precancerous and cancerous diseases. The
Company also granted Taiho the right to be a non-exclusive purchaser in Japan of
tests and testing services based upon the RGI-1 using gene expression, other
than those for which Taiho has exclusivity, for, (i) any one or combination of
molecular markers, (ii) the therapeutic use of any compound or biological
product against cancer, or (iii) the diagnosis or therapeutic treatment of
precancerous and cancerous diseases.




In
consideration for the testing services provided, Taiho paid an upfront payment
at the commencement of the agreement and is obligated to pay regular testing
fees, covering the specific services performed on a monthly basis In January
2010, we amended our agreement with Taiho and the agreement was renewed for an
additional three years. According to the terms of the renewal, Taiho’s
appointment as an exclusive purchaser in Japan of tests and testing services
through January 1, 2013 and its minimum purchasing obligations were extended
through 2010.




Taiho is
obligated to purchase a minimum amount of testing services from the Company each
calendar quarter. Revenue recognized under this agreement was $1,844,725 and
$1,782,950 for the years ended December 31, 2008, and 2009,
respectively.


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RESPONSE GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




7.
License and Collaborative Agreements  - (continued)




Services
Agreement with SmithKline Beecham Corporation (d.b.a. GlaxoSmithKline or
“GSK”)




In
January 2006, the Company entered into an agreement with GSK, a leading
pharmaceutical manufacturer, pursuant to which the Company provides services in
connection with profiling the expression of various genes from a range of human
cancers. Under the agreement, the Company will provide GSK with testing services
as described in individual protocols and GSK will pay the Company for such
services based on the pricing schedule established for each particular protocol.
GSK is obligated to make minimum annual payments to the Company under the
agreement and also was obligated to make a non-refundable upfront payment to the
Company, to be credited against work undertaken pursuant to the agreement. In
January 2006, the Company received an upfront payment of $2,000,000 which
was initially recorded as deferred revenue. The timing of the recognition of
these amounts is dependent upon when GSK submits the specimens for testing. The
Company recognized $1,255,031 and $190,935 for the years ended December 31,
2008, and 2009, respectively.





In
December 2008, the Company amended and restated our master service agreement
with GSK. Pursuant to the amendment, the term of the GSK Agreement has been
extended for a two-year period, with the option for the parties to extend the
GSK Agreement for additional one-year periods, upon their mutual written
agreement. In addition, we will become a preferred provider to GSK and its
affiliates of genetic testing services on a fee-for-service basis and, in
anticipation of the services to be provided, GSK agreed to make a non-refundable
upfront payment of approximately $1,300,000 which was received on January 5,
2009 and included as part of deferred revenue and accounts receivable as of
December 31, 2008.  The amount of deferred revenue for this agreement
at December 31, 2009 is $1,400,933 of which $1,294,768 related to the
Amended and Restated Master Service Agreement signed in December
2008.




Master
Laboratory Test Services Agreement with GlaxoSmithKline Biologicals (“GSK
Bio”)




In
December 2006, the Company entered into an agreement with GSK Bio, the vaccine
division of GSK (see above), pursuant to which it will provide testing services,
principally in relation to profiling the expression of various genes from a
range of human cancers. The Company will conduct the testing services on tissue
specimens provided by GSK Bio. The agreement required that GSK Bio make an
upfront payment of €2,000,000 (approximately $2,620,000), which was received by
the Company in December 2006. The agreement further specifies that GSK Bio will
pay annual minimum payments in 2007, 2008 and 2009 and that the upfront payment
made in December 2006 will be credited against the annual minimum payments in
2007 and 2008. The agreement also provided that any differences between the
annual minimum payments made in 2007, 2008 or 2009 and the amounts due to the
Company for testing services performed on specimens submitted by GSK Bio during
the three years ended December 31, 2009 be credited towards services performed
during the year ending December 31, 2010, the final year of the agreement. If
the Company ceases to provide services under the agreement or any reason, the
Company shall remit to GSK Bio payment of the then remaining balance of the
existing credit within sixty days of the date on which the Company ceased to
provide services to GSK Bio.




In
December 2007, the Company amended its agreement with GSK Bio
whereby GSK Bio would make the remaining minimum payments under the agreement in
one lump sum. This payment of approximately $2,722,000 was received in January
2008.





On
September 7, 2009, the Company amended and restated its master service agreement
with GSK Bio (the “Amended and Restated Agreement”).  Pursuant to the
Amended and Restated Agreement, the parties agreed that GSK Bio has accrued an
aggregate credit under the terms, representing the balance of deferred
revenue relating to this agreement at that date of the original agreement,
representing the balance of deferred revenue relating to this agreement at that
date, which amount shall be allocated towards services rendered to GSK Bio
during the remaining term of the agreement as described below.





For each
calendar quarter of 2009 and the first two quarters of 2010, €200,000 of the
existing credit shall apply to all services rendered to GSK Bio during such
calendar quarter.  Pursuant to the Amended and Restated Agreement, GSK
Bio may now extend the term of the agreement for an additional one-year period
through December 31, 2011.  In the event GSK Bio extends the term
through 2011, the then remaining balance of the existing credit shall be divided
into six equal quarterly amounts and apply to all services rendered to GSK Bio
in each of the last two quarters of 2010 and the four calendar quarters of
2011.  If GSK Bio does not extend the term through 2011, the then
remaining balance of the existing credit will instead be divided into two equal
quarterly amounts and apply to all services rendered to GSK Bio in each of the
last two quarters of 2010.  In all cases, GSK Bio shall remit payment
to the Company for all services rendered to GSK Bio in any such calendar quarter
that is in excess of the applicable credit amount.  In the event the
amount of services rendered to GSK Bio in a calendar quarter does not exceed the
applicable credit amount, the existing credit for the following calendar quarter
shall be increased by such unused amount.


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RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




7.
License and Collaborative Agreements  - (continued)





Master
Laboratory Test Services Agreement with GlaxoSmithKline Biologicals (“GSK Bio”)
- (continued)





The
Amended and Restated Agreement further provides that the Company shall provide
additional services on a fee-for-service basis, upon GSK Bio’s written request,
relating to the bridging of assays/diagnostic tests to third parties that
develop, manufacture and sell the commercial diagnostic tests to be used with
certain of GSK Bio’s products. The amount of deferred revenue for this agreement
at December 31, 2009 and 2008 is $2,588,896 and $3,729,492,
respectively.  The timing of the recognition of these amounts is
dependent upon when GSK submits the specimens for testing. The Company
recognized revenue of $3,631,716 and $3,420,748 relating to the GSK agreement
for the years ended December 31, 2008, and 2009, respectively.




Collaboration
Agreement with Shanghai BioChip Company, Ltd. (“SBC”)




On March
5, 2007, the Company entered into a collaboration agreement with SBC pursuant to
which SBC will provide exclusive pharmacogenomic testing services to the
Company’s clients in China.




Pursuant
to the agreement, the Company has granted SBC an exclusive license in China to
provide services in China using the Company’s proprietary RNA extraction
technologies. Subject to consent from USC, the Company will grant SBC an
exclusive sublicense to patents licensed from USC for distribution of testing
services in China. In turn, SBC will perform RNA extraction from FFPE tissue
specimens exclusively for the Company during the term of the
agreement.




This
agreement has an initial term of five years, with an automatic renewal for an
additional three-year term unless either party gives 90 days notice in advance
of the renewal date of its intent not to renew. Pursuant to the agreement, SBC
will receive a percentage of the gross margin, as defined in the agreement,
collected from the Company’s clients in China as compensation for its testing
services performed. For the years ended December 31, 2008 and 2009, no testing
services were performed.




Commission
Agreement with Hitachi Chemical Co., Ltd.




On July
26, 2007, the Company entered into a collaboration agreement with Hitachi
Chemical Co., Ltd. (“Hitachi”), a leading diagnostics manufacturer in Japan (the
“Hitachi Agreement”). Under the terms of this agreement, Hitachi will begin
using the Company's proprietary and patented techniques to extract genetic
information from formalin-fixed paraffin-embedded (“FFPE”) tissue samples
collected in Southeast Asia, Australia and New Zealand. As part of this
collaboration agreement, the Company will provide Hitachi with the technical
information and assistance necessary to perform the testing services. Hitachi
also plans to introduce the Company to potential new testing services customers
in the region to expand the testing of FFPE clinical samples in Asia. The
Southeast Asian countries covered under this agreement include Japan, North
Korea, South Korea, Taiwan, Mongolia, Pakistan, Bangladesh, Sri Lanka, Nepal,
Singapore, Malaysia, Indonesia, Brunei, Thailand, Myanmar, Laos, Cambodia,
Vietnam and the Philippines (the “Territory”).




This
Agreement has an initial term expiring on March 31, 2010, with an automatic
renewal for one year at the end of the original period under the same terms and
conditions. Pursuant to the agreement, Hitachi will receive a percentage of the
revenue, as provided in the agreement, collected from the Company's clients in
the Territory, for its testing services performed which totaled $273,374 and
$1,369,794 for the years ended December 31, 2008 and 2009,
respectively.




Hitachi
is responsible for expenses related to the cost of laboratory equipment and
modification to the laboratory facilities, as well as the cost of reagents. The
Company has provided to Hitachi required laboratory equipment which Hitachi has
agreed to pay the Company and is included as part of accounts receivable
totaling $248,799at
December 31, 2008.  This amount was paid during April
2009.


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RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




8.
Stock Option Plan




In March
2000, the Company adopted a Stock Option Plan (the “2000 Plan”) as approved by
its board of directors. Under the 2000 Plan, the Company may grant options to
acquire up to 1,600,000 shares of common stock. In connection with the adoption
of the 2006 Employee, Director and Consultant Stock Plan, as further discussed
below, the Company will grant no additional options under its 2000 Plan under
which options to purchase 190,000 shares remained outstanding as of December 31,
2009. Although no more options may be granted under the 2000 Plan, the terms of
the 2000 Plan continue to apply to all outstanding options. The Company also
granted options to purchase 16,000 shares of common stock to two consultants
which were granted under separate agreements outside of the 2000
Plan.




On
October 26, 2006, the Board of Directors of the Company approved, and on May 1,
2007, reapproved, the adoption of the 2006 Employee, Director and Consultant
Stock Plan (the “2006 Stock Plan”). The stockholders approved the 2006 Stock
Plan on June 1, 2007. Under this plan, the Company may grant up to a maximum of
2,160,000 options to purchase the Company’s common stock. As of December 31,
2009, there were 409,510 options available to grant under the 2006 Stock
Plan.




Employee
options vest according to the terms of the specific grant and expire 10 years
from the date of grant. Non-employee option grants to date vest typically over a
2 to 3 year period. The Company had 1,956,490 options outstanding at a weighted
average exercise price of $5.12 at December 31, 2009. There were 878,413
nonvested stock options with a weighted average grant date fair value of $1.94
outstanding at December 31, 2009.




The
Company estimated share-based compensation expense for the years ended December
31, 2008 and 2009 using the Black-Scholes model with the following weighted
average assumptions:




2008
                                        
                                        
                                        
                                        2009Risk
      free interest rate
                                        
                                        3.54
      - 5.03
                                        %
                                        
                                        
                                        3.01
                                        %Expected
      dividend yield
                                        
                                        —
                                        
                                        
                                        
                                        —Expected
      volatility
                                        
                                        77.4
                                        %
                                        
                                        
                                        67.0
                                        %Expected
      term (in years)
                                        
                                        7
                                        
                                        
                                        
                                        6Forfeiture
      rate
                                        
                                        5.0
                                        %
                                        
                                        
                                        2.2
                                        %




The
following table summarizes the stock option activity for the year ended December
31, 2009:




Number of
                              Shares
                            
                            
                            Weighted
                              Average
                              Exercise
                              Price
                            
                            
                            Remaining
                              Contractual
                              Life (Years)
                            
                            
                            Aggregate
                              Intrinsic
                              ValueOutstanding,
      December 31, 2008
                            
                            
                            1,586,490
                            
                            
                            $
                            6.24
                            
                            
                            
                            7.98Granted
                            
                            
                            477,000
                            
                            
                            $
                            1.35Exercised
                            
                            
                            —
                            
                            
                            $
                            —Forfeited
                            
                            
                            (107,000
                            )
                            
                            $
                            5.03Outstanding,
      , December 31, 2009
                            
                            
                            1,956,490
                            
                            
                            $
                            5.12
                            
                            
                            
                            7.52
                            
                            
                            $
                            —Exercisable,
      December 31, 2009
                            
                            
                            1,078,077
                            
                            
                            $
                            6.44
                            
                            
                            
                            6.61
                            
                            
                            $
                            —





The
exercise price for all the options granted though December 31, 2009 is below the
stock price as of December 31, 2009; accordingly, the aggregate intrinsic value
is $0 at December 31, 2009.





The
weighted-average grant-date fair value of options granted during the years ended
December 31, 2008 and 2009 was $2.15 and $0.84, respectively.  There
were no options exercised during the years ended December 31, 2008 and 2009,
respectively.





As of
December 31, 2009, there was $1.7 million of total unrecognized compensation
cost related to nonvested share-based compensation arrangements granted under
the Plan.  That cost is expected to be recognized over a
weighted-average period of 2.12 years.


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RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




8.
Stock Option Plan – continued





Information
about stock-based compensation included in the results of operations for the
years ended December 31, 2008 and 2009 is as follows:




Year Ended December 31,2008
                          
                          
                          2009Cost
      of revenue
                          
                          $
                          297,123
                          
                          
                          $
                          240,125General
      and administrative
                          
                          
                          1,050,466
                          
                          
                          
                          675,703Research
      and development
                          
                          
                          101,774
                          
                          
                          
                          70,604Totals
                          
                          $
                          1,449,363
                          
                          
                          $
                          986,432


9.
Common Stock Warrants





The
Company issues warrants to purchase common shares of the Company either as
compensation for services, or as additional incentive for investors who may
purchase common stock. The value of warrants issued for compensation is
accounted for as a non-cash expense to the Company at the fair value of the
warrants issued.




In June
2007, in conjunction with the initial public offering, the Company issued
100,000 warrants to purchase 100,000 shares of its common stock at an exercise
price of $7.70, for proceeds of $100, to the underwriters as part of the initial
public offering.




There
were no warrants granted during the years ended December 31, 2008 and
2009.





The
following table summarizes all common stock warrant activity during the year
ended December 31, 2009:




Number of
                            Shares
                          
                          
                          Weighted
                            Average
                            Price
                          
                          
                          Remaining
                            Contractual
                            Life (years)Outstanding,
      December 31, 2008
                          
                          
                          100,000
                          
                          
                          $
                          7.70
                          
                          
                          
                          3.50Outstanding,
      December 31, 2009
                          
                          
                          100,000
                          
                          
                          $
                          7.70
                          
                          
                          
                          2.50Exercisable,
      December 31, 2009
                          
                          
                          100,000
                          
                          
                          $
                          7.70
                          
                          
                          
                          2.50


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RESPONSE GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




10.
Income Taxes




The
components of the income tax (benefit) provision for the years ended December
31, 2008 and 2009 were as follows:




2008
                            
                            
                            2009CurrentFederal
                            
                            $
                            (14,000
                            )
                            
                            $
                            —Foreign
                            
                            
                            —
                            
                            
                            
                            —State
                            
                            
                            1,251
                            
                            
                            
                            (4,788
                            )(12,749
                            )
                            
                            
                            (4,788
                            )DeferredFederal
                            
                            
                            —
                            
                            
                            
                            —Foreign
                            
                            
                            —
                            
                            
                            
                            —State
                            
                            
                            —
                            
                            
                            
                            ——
                            
                            
                            
                            —Income
      tax benefit
                            
                            $
                            (12,749
                            )
                            
                            $
                            (4,788
                            )




For
financial statement purposes, loss before income taxes for the years ended
December 31, 2008 and 2009 includes the following components:




2008
                                                    
                                                    2009Domestic
                                                    
                                                    $
                                                    (6,152,507
                                                    )
                                                    
                                                    $
                                                    (8,595,059
                                                    )Foreign
                                                    
                                                    
                                                    (3,345,780
                                                    )
                                                    
                                                    
                                                    (750,784
                                                    )$
                                                    (9,498,287
                                                    )
                                                    
                                                    $
                                                    (9,345,843
                                                    )




A
reconciliation of the expected income tax benefit computed using the federal
statutory income tax rate of 34% to the Company’s effective income tax rate is
as follows:




2008
                                
                                
                                2009Income
      tax benefit based on federal statutory rate
                                
                                $
                                (3,229,000
                                )
                                
                                $
                                (3,178,000
                                )State
      income tax benefit, net of federal income tax
                                
                                
                                (300,000
                                )
                                
                                
                                (532,000
                                )Change
      in deferred tax valuation allowance
                                
                                
                                3,350,000
                                
                                
                                
                                3,706,000Foreign
      income taxed at varying rates
                                
                                
                                134,000
                                
                                
                                
                                30,000Other,
      net
                                
                                
                                32,251
                                
                                
                                
                                (30,788
                                )Income
      tax benefit
                                
                                $
                                (12,749
                                )
                                
                                $
                                (4,788
                                )




The tax
effects of temporary differences that give rise to significant portions of the
Company’s deferred tax assets and deferred tax liabilities at December 31, 2008
and 2009 are presented below:




2008
                                              
                                              
                                              2009Deferred
      tax assets:Domestic
      net operating loss carryforwards
                                              
                                              $
                                              3,741,000
                                              
                                              
                                              $
                                              7,166,000Foreign
      net operating loss carryforwards
                                              
                                              
                                              1,184,000
                                              
                                              
                                              
                                              1,677,000Deferred
      revenue
                                              
                                              
                                              1,951,000
                                              
                                              
                                              
                                              1,589,000Federal
      and state tax credit
                                              
                                              
                                              206,000
                                              
                                              
                                              
                                              245,000Stock-based
      compensation
                                              
                                              
                                              1,461,000
                                              
                                              
                                              
                                              1,853,000Capitalized
      costs
                                              
                                              
                                              1,235,000
                                              
                                              
                                              
                                              1,235,000Other,
      net
                                              
                                              
                                              362,000
                                              
                                              
                                              
                                              194,000Total
      gross deferred tax assets
                                              
                                              
                                              10,140,000
                                              
                                              
                                              
                                              13,959,000Less
      valuation allowance on deferred tax assets
                                              
                                              
                                              (10,013,000
                                              )
                                              
                                              
                                              (13,719,000
                                              )Net
      deferred tax assets
                                              
                                              
                                              127,000
                                              
                                              
                                              
                                              240,000Deferred
      tax liabilities:Plant
      and equipment, principally accelerated depreciation
                                              
                                              
                                              (127,000
                                              )
                                              
                                              
                                              (240,000
                                              )Total
      deferred tax liabilities
                                              
                                              
                                              (127,000
                                              )
                                              
                                              
                                              (240,000
                                              )Net
      deferred taxes
                                              
                                              $
                                              —
                                              
                                              
                                              $
                                              —


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RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





10.
Income Taxes – ( continued)





Deferred
income taxes result from temporary differences between income tax and financial
reporting computed at the effective income tax rate. The Company has established
a valuation allowance against its net deferred tax assets due to the uncertainty
surrounding the realization of such assets. Management periodically evaluates
the recoverability of the deferred tax assets. At such time it is determined
that it is more likely than not that deferred tax assets are realizable, the
valuation allowance will be reduced.





We file
U.S. federal, U.S. state, and foreign tax returns. Our major tax jurisdictions
are U.S. federal and the State of California and are subject to tax examinations
for the open years from 2001 through 2009.




As of
December 31, 2009, the Company had net operating loss carryforwards for federal
and state income tax purposes of approximately $18.6 million and $14.3 million,
respectively. If not utilized, the federal net operating loss and tax credit
carryforwards will expire beginning in 2020. If not utilized, the state net
operating loss carryforward will expire beginning in 2012.





As of
December 31, 2009, the Compnay had U.K. net operating loss carryforwards
totaling approximately $5.6 million that may be carried forward indefinitely. A
full valuation allowance has been provided against this
asset.





11.
Related Party Transactions




While
employed at USC, Kathleen Danenberg, president, chief executive officer and
director, developed and patented (United States Patent 6,248,535; Danenberg , et al., Method
For Isolation of RNA From Formalin-Fixed Paraffin-Embedded Tissue Specimens) an
extraction method that allowed reliable and consistent isolation of RNA from
FFPE suitable for RT-PCR. USC retains ownership of this patent but has
exclusively licensed this technology to the Company. In consideration for this
license, the Company is obligated to pay royalties to USC, as a percentage of
net sales of products or services using the technology, and to meet a certain
minimum in royalty payments. Pursuant to USC policy, the inventors of technology
owned by the University and then licensed for commercialization are paid a
portion of royalties received by the University from the licensed technology.
USC therefore pays a portion of royalties received from the Company to Ms.
Danenberg in recognition of her invention. Amounts paid to Ms. Danenberg
amounted to $29,993 and $5,465 for the years ended December 31, 2008 and 2009,
respectively.




12.
Segment Information




The
Company operates in a single reporting segment, with operating facilities in the
United States.




The
following enterprise wide disclosure was prepared on a basis consistent with the
preparation of the financial statements. The following tables contain certain
financial information by geographic area:




Year Ended December 31,Revenue:
                              
                              2008
                              
                              
                              2009United
      States
                              
                              $
                              1,631,619
                              
                              
                              $
                              3,862,985Europe
                              
                              
                              3,648,427
                              
                              
                              
                              3,420,748Japan
                              
                              
                              1,844,725
                              
                              
                              
                              1,782,950$
                              7,124,771
                              
                              
                              $
                              9,066,683




December 31,Long-lived assets:
                        2008
                        
                        2009United
      States
                        
                        $
                        1,414,842
                        
                        
                        $
                        1,253,714$
                        1,414,842
                        
                        
                        $
                        1,253,714


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-




RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





13. Net
ResponseDX Revenue




Net
ResponseDX revenue for the years ended December 31, 2008 and 2009 was comprised
of the following:




Year Ended December 31,2008
                        
                        
                        2009Gross
      patient service revenue
                        
                        $
                        909,462
                        
                        
                        $
                        9,685,149Contractual
      allowances
                        
                        
                        (673,100
                        )
                        
                        
                        (6,406,322)Net
      ResponseDX revenue
                        
                        $
                        236,362
                        
                        
                        $
                        3,278,827





We
recognize a portion of product revenue from our ResponseDX tests invoiced to
Medicare on an accrual basis and to third-party payors, including private
payors on a cash basis. ResponseDX revenues related to Medicare billings is
recorded at established billing rates net of an estimated billing adjustment,
based on reporting models utilizing historical cash collection percentages and
updated for current effective reimbursement factors.We recognize revenue from
third party and private payors currently on a cash basis until a collection
history can be determined. Until we are reasonably assured about a pattern of
collections we will continue to record revenues from third party payors of
ResponseDX on a cash basis.





The
Company began recording revenues for ResponseDX during the quarter ended
September 30, 2008.




Cost-Containment
Measures




Both
government and private pay sources have instituted cost-containment measures
designed to limit payments made to providers of health care services, and there
can be no assurance that future measures designed to limit payments made to
providers will not adversely affect the Company.




Regulatory
Matters




Laws and
regulations governing Medicare programs are complex and subject to
interpretation. Compliance with such laws and regulations can be subject to
future governmental review and interpretation, as well as significant regulatory
action including fines, penalties and exclusions from certain governmental
programs. The Company believes that it is in compliance with all applicable laws
and regulations and is not aware of any pending or threatened investigations
involving allegations of potential wrongdoing.





A portion
of the Company’s revenues are derived from Medicare for which reimbursement
rates are subject to regulatory changes and government funding restrictions.
Although the Company is not aware of any significant future rate changes,
significant changes to the reimbursement rates could have a material effect on
the Company’s operations.





14. 
U.K. Operations




In
December, 2008, the Company made the decision to increase the
operational efficiency of the Company by consolidating its U.K. operations
with its US operations.  The Company implemented a reduction
of workforce as part of a strategic plan to increase operational efficiency in
conjunction with the consolidation of its services at its Los
Angeles facilities and it will not affect our genetic testing services or
current partnership agreements. As such, management concluded that the
closure of the U.K. operations did not constitute a discontinued
operation.  As a result of the  reduction of
workforce, management performed a recoverability test of the long-lived
assets located at the United Kingdom testing facility. Based on the
recoverability analysis performed, during the year ended December 31, 2008, the
Company recorded a non-cash charge for the impairment of long-lived assets of
$893,826 to write down the carrying value of the long-lived assets to their
estimated fair value of $0 as of December 31, 2008, which is included in the
U.K. expenses of $3,371,513.


On
February 9, 2009, management implemented the reduction of workforce
pursuant to which the Company closed its UK testing facility to consolidate
services at its CLIA-certified laboratory facilities in Los Angeles.  
The lease for the UK testing facility expired on April 1, 2009. The
lease was extended, pursuant to its terms, for an additional month, in order to
facilitate the winding down of the operations in the UK.  The
reduction of workforce was substantially completed on March 31, 2009. The
operating costs related to the U.K. laboratory were $752,901 for the year ended
December 31, 2009 which includes redundancy costs of $295,799 incurred in
connection with the reduction of workforce.


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RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





15.
Private Placements




On
February 27, 2009, the Company entered into a Purchase Agreement with certain
affiliates of Special Situations Funds for the private placement of 2,000,000
newly-issued shares of the Company's common stock at a per share price of $1.00.
The closing of the sale of the Shares occurred on March 2, 2009.  The
aggregate offering price of the shares was $2 million and the Company received
the funds on March 2, 2009.





In
connection with the Special Situations Funds Private Placement, we also entered
into a Registration Rights Agreement, dated February 27, 2009, with the
Purchasers (the "Registration Rights Agreement") pursuant to which the Company
filed a registration statement with the Securities and Exchange Commission
("SEC") to register the 2,000,000 shares for resale, which registration
statement became effective on June 30, 2009.





On July
22, 2009, the Company entered into a Purchase Agreement with certain funds
managed by Lansdowne Partners Limited Partnership for the private placement
of 3,057,907 newly-issued shares of the Company's common stock at a per share
price of $1.30. The closing of the sale of the shares occurred on July 22,
2009.  The aggregate offering price of the shares was approximately $4
million and the Company received the funds on July 23, 2009.  In
connection with the acquisition of the shares, the Purchasers were granted
certain preemptive rights permitting them to maintain their percentage ownership
interests in connection with future issuances of the Company’s capital stock,
subject to various exceptions and limitations.




Pursuant
to the Lansdowne Registration Rights Agreement which is dated July 22, 2009, the
Company filed a registration statement with the SEC to register the 3,057,907
shares sold to Lansdowne for resale, which became effective on November 3, 2009
and which registration statement is currently effective.


Under the
Lansdowne Registration Rights Agreement, the Company was required to have the
registration statement declared effective within 120 days after the private
placement closed.  In addition, the Company is obligated to use
commercially reasonable efforts (i) to cause the registration statement
described above to remain continuously effective and (ii) to maintain the
listing of the Company’s common stock on Nasdaq or other exchanges, as defined,
for a period that will terminate on the earlier of July 22, 2012 or the date on
which Lansdowne has sold all of its shares of common stock.  The
Company is also required to file with the SEC in a timely manner all reports and
other documents required of the Company under the 1934 Act. In the event the
Company fails to satisfy its obligations under the Lansdowne Registration Rights
Agreement, the Company would be in breach of said agreement, in which event
Lansdowne would be entitled to pursue all rights and remedies at law or equity
including an injunction or other equitable relief.  The Lansdowne
Registration Rights Agreement does not provide an explicitly stated or defined
penalty due upon a breach.  Because (i) the potential penalty for any
breach of the Lansdowne Registration Rights Agreement is not explicitly stated
or defined, which prohibits the Company from applying the guidance of ASC
825-20-15, Registration
Payment Arrangements and (ii) complying will all filing requirements
under the 1934 Act as described above is not solely within the Company’s
control, the Company is required to present Lansdowne’s investment of $3,975,279
in the Company’s common stock as common stock outside of stockholders’ equity in
the accompanying consolidated balance sheet under ASC 480-10-S99-3, Classification and Measurement of
Redeemable Securities.




On March
5, 2010, the Company entered into a Purchase Agreement with certain affiliates
of and funds managed by Lansdowne Partners Limited Partnership, Greenway Capital
Partners and Paragon Associates for the private placement of 3,005,349
newly-issued shares of our common stock at a per share price of $1.31 (see Note
17).





16.
Fair Value Measurements





On January
1, 2009, the Company adopted ASC 820 (formerly SFAS No. 157) which
defines fair value, establishes a framework for measuring fair value in
generally accepted accounting principles, and expands disclosures about fair
value measurements. ASC 820 does not require any new fair value measurements,
but provides guidance on how to measure fair value by providing a fair value
hierarchy used to classify the source of the information.  ASC 820
establishes a three-level valuation hierarchy of valuation techniques that is
based on observable and unobservable inputs. Classification within the hierarchy
is determined based on the lowest level of input that is significant to the fair
value measurement. The first two inputs are considered observable and the last
unobservable, that may be used to measure fair value and include the
following:




Level 1
- Quoted prices in active markets for identical assets or
liabilities.




Level 2
- Inputs other than Level 1 that are observable, either directly or
indirectly, such as quoted prices for similar assets or liabilities; quoted
prices in markets that are not active; or other inputs that are observable or
can be corroborated by observable market data for substantially the full term of
the assets or liabilities.




Level 3
- Unobservable inputs that are supported by little or no market activity and
that are significant to the fair value of the assets or
liabilities.


- 67
-





As
of December 31, 2009, the Company held certain assets that are required to
be measured at fair value on a recurring basis, including its cash and cash
equivalents. The fair value of these assets and liabilities was determined using
the following inputs in accordance with ASC 820 at December 31,
2009:




Fair Value Measurement as of December 31, 2009Total
                              
                              Level 1
                              
                              
                              Level 2
                              
                              
                              Level 3Description
                              
                              $
                              
                              $
                              
                              
                              $
                              
                              
                              $Money
      market accounts (1)
                              
                              6,240,403
                              
                              
                              6,240,403
                              
                              
                              
                              —
                              
                              
                              
                              —




(1)           Included
in cash and cash equivalents on the accompanying consolidated balance
sheet.


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RESPONSE
GENETICS, INC.




NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





17. Subsequent
events




On March
5, 2010, the Company entered into a Purchase Agreement with certain affiliates
of and funds managed by Lansdowne Partners Limited Partnership, Greenway Capital
Partners and Paragon Associates for the private placement of 3,005,349
newly-issued shares of our common stock at a per share price of
$1.31.  The closing of the sale of the shares occurred on Friday,
March 5, 2010.  In connection with the acquisition of the shares, the
Purchasers were granted certain preemptive rights permitting them to maintain
their percentage ownership interests in connection with future issuances
of the Company’s capital
stock, subject to various exceptions and limitations.  Lansdowne
participated in the Private Placement by electing to exercise the preemptive
rights granted to it pursuant to the Purchase Agreement by and between the
Company and Lansdowne, dated July 22, 2009.  Net proceeds received
from this financing were approximately $4,000,000.




In
connection with the Private Placement, the Company also entered into a
Registration Rights Agreement, dated March 5, 2010, with the Purchasers (the
“Registration Rights Agreement”) pursuant to which it has agreed to file, within
45 days of the closing of the Private Placement, a registration statement with
the SEC to register the shares for resale, which registration statement is
required to become effective within 120 days following the
closing.  The Company also granted certain "piggyback" registration
rights to the Purchasers which are triggered if the Company proposes to file a
registration statement for its own account or the account of one or more
shareholders until the earlier of the sale of all of the shares or the shares
become eligible for sale under Rule 144(b)(1) without restriction.




Under the
Registration Rights Agreements with the Purchasers, the Company is obligated to
use commercially reasonable efforts to (i) cause the registration statements
described above to remain continuously effective and (ii) to maintain the
listing of Company’s common stock on Nasdaq or other exchanges, as defined, for
a period that will terminate on the earlier of March 5, 2013 or the date on
which the Purchasers have sold all shares of common stock.  The
Company is also required to file with the SEC in a timely manner all reports and
other documents required of the Company required of the Company under the 1934
Act.  In the event the Company fails to satisfy its obligations under
the registration rights agreements, the Company would be in breach of said
agreements, in which event, the Purchases would be entitled to pursue all rights
and remedies at law or equity including an injunction or other equitable relief.
These registration rights agreements do not provide an explicitly stated or
defined penalty due upon a breach.  Because (i) the potential penalty
for any breach of these Registration Rights Agreement is not explicitly stated
or defined, which prohibits the Company from applying the guidance of ASC
825-20-15, Registration
Payment Arrangements and (ii) complying with all filing requirements
under the 1934 Act as described above is not solely within the Company’s
control, the Company will be required to present the investment of approximately
$4,000,000 in the Company’s common stock as common stock outside of
stockholders’ equity in its future filings.


- 69
-




Part
IV.





Item
14.  Exhibit, Financial Statement Schedules.




3.1*
                                      
                                      Amended
      and Restated Certificate of Incorporation, as amended.3.2*
                                      
                                      Restated
      Bylaws of the Company.4.1*
                                      
                                      Warrant
      to purchase common stock issued to Maxim Group LLC and its
      designees.4.2*
                                      
                                      Form
      of Common Stock Certificate.10.1†^
                                      
                                      Amended
      and Restated Master Agreement for the supply of Laboratory Test Services
      by and between SmithKline Beccham Corporation (a.b.a. GlaxoSmithKline) and
      the Company dated as of December 22, 200810.2†!
                                      
                                      Amended
      and Restated Master Agreement for the Supply of Laboratory Services by and
      between GlaxoSmithKline Biologicals and the Company, dated as of September
      7, 2009.10.4*†
                                      
                                      License
      Agreement by and between Roche Molecular Systems, Inc. and the Company,
      dated as of November 23, 2004.10.5*†
                                      
                                      Patent
      License Agreement by and between Roche Molecular Systems Inc. and the
      Company, dated as of November 16, 2004.10.6*†
                                      
                                      Service
      Provider Agreement by and between Affymetrix, Inc. and the Company, dated
      as of September 29, 2006.10.7*†
                                      
                                      Option
      and License Agreement by and between the University of Southern California
      and the Company, as amended, dated as of April 19,
2000.10.10*#
                                      
                                      Employment
      Agreement by and between Thomas Stankovich and the Company, dated as
      of
                                        October
      25, 2006, as amended on May 29, 2007.10.11*#
                                      
                                      Employment
      Agreement by and between Kathleen Danenberg and the Company, dated as of
      October 26, 2006, as amended on December 14, 2006, and on
      May 29, 2007.10.12*#
                                      
                                      Employment
      Agreement by and between Denise McNairn and the Company, dated as of
      February 20, 2007, as amended on May 29,
2007.10.13*#
                                      
                                      Response
      Genetics, Inc. 2006 Employee, Director and Consultant Stock
      Plan.10.14
                                      
                                      Office
      Lease by and between Health Research Association and the Company, dated
      effective as of January 25, 2005, as amended on January 28,
      2010.10.15*†
                                      
                                      Collaboration
      Agreement by and between the Company and Shanghai Biochip Company, Ltd.,
      dated as of March 5, 200710.16*
                                      
                                      Lease
      Agreement by and between the Company and the University Court of the
      University of Edinburgh, dated as of March 15,
  2007.10.17*#
                                      
                                      Executive
      Officer Form of Incentive Stock Option Agreement.10.18*#
                                      
                                      Executive
      Officer Form of Non-Qualified Stock Option Agreement.10.19@†
                                      
                                      Commission
      Agreement by and between Hitachi Chemical Co., LTD. and the Company, dated
      as of July 26, 2007.14*
                                      
                                      Code
      of Ethics.21*
                                      
                                      Subsidiaries
      of the Small Business Issuer.23.1
                                      
                                      Consent
      of SingerLewak LLP.23.2
                                      
                                      Consent
      of BDO Seidman, LLP.31.1
                                      
                                      Certification
      of Chief Executive Officer pursuant to Section 302 of the Sarbanes Oxley
      Act of 2002.31.2
                                      
                                      Certification
      of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley
      Act of 2002.32
                                      
                                      Certification
      of Chief Executive Officer and Chief Financial Officer pursuant to Section
      906





*
Incorporated by reference to the Company’s Registration Statement on Form SB-2
(File No. 333-139534).


@
Incorporated by reference to the Company’s Quarterly Report on Form 10-QSB for
the quarter ended September 30, 2007.


#
Identifies a management contract or compensatory plan or agreement in which an
executive officer or director of the Company participates.


†
Confidential treatment requested as to certain portions, which portions have
been filed separately with the Securities and Exchange Commission.


^ Incorporated
by reference to the Company’s Annual Report on Form 10K for the fiscal year
ended December 31, 2008.
 !
Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the
quarter ended September 30, 2009.


- 70
-




SIGNATURES




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




RESPONSE
GENETICS, INC.





April
      13, 2010
                  /s/
      Kathleen DanenbergDate
                  Kathleen
      DanenbergPresident
      and Chief ExecutiveOfficer




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




Signatures
                
                Title
                
                DateBy:
                
                /s/
      Kathleen DanenbergKathleen
      Danenberg
                
                President
      and Chief Executive Officer (principal executive officer) and
      Director
                
                April
      13, 2010By:
                
                /s/
      Eric
      AlcornEric
      Alcorn
                
                Vice
      President Finance and Administration (principal financial and accounting
      officer)
                
                April
      13, 2010By:Tom
      DeMeester, M.D.
                
                Chairman
      of the Board
                
                April
      13, 2010By:
                
                /s/
      Gary
      D. NusbaumGary
      D. Nusbaum
                
                Director
                
                April
      13, 2010By:
                
                /s/
      John
      C. FerraraJohn
      C. Ferrara
                
                Director
                
                April
      13, 2010By:
                
                /s/
      Michael
      SerruyaMichael
      Serruya
                
                Director
                
                April
      13, 2010By:
                
                /s/
      David
      M. SmithDavid
      M. Smith
                
                Director
                
                April
      13, 2010By:
                
                /s/
      Kirk
      CalhounKirk
      Calhoun
                
                Director
                
                April
      13, 2010By:Edith
      P. Mitchell
                
                Director
                
                April
      13, 2010


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-